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In assessing new investment
opportunities, we follow an institutionalized process
which includes a due diligence process and a centralized
credit and investment approval process requiring committee
review, all of which are described below.
The typical private finance
transaction requires just 3 days of Due Dilligence and
structuring before funding occurs. The key steps in our
private finance investment process are as follows:
- Initial
investment screening
- Presentation
of investment to investment professionals at daily
meeting
- Initial
approval of the investment by the partners
- Due
diligence completed and investment structured
- Independent
internal peer review of the investment completed
- Final
approval of the investment by the investment committee
- Approval
of the investment by the executive committee of the
board of directors (for all investments greater than
$10 million)
- Investment
is funded
In a typical private
financing, we thoroughly review, analyze and substantiate,
through due diligence, the business plan and operations of
the potential portfolio investment. We perform financial due
diligence, often with assistance of an accounting firm;
perform operational due diligence, often with the
assistance of an industry consultant; study the industry
and competitive landscape; and conduct numerous reference
checks with current and former employees, customers,
suppliers and competitors.
Private finance
transactions are approved by an investment committee
consisting of our most senior officers and chaired by our
Chairman and Chief Executive Officer, Corey Schwartz. The
private finance approval process benefits from the
experience of the investment committee members and from
the experience of our other investment professionals who
have significant professional experience. For every
transaction of $10 million or greater, we also require
approval from the executive committee of the board of
directors in addition to the investment committee
approval. Even after all such approvals are received, due
diligence must be successfully completed with final
investment committee approval before funds are disbursed
to a portfolio company.
We use a grading system in
order to help us monitor the credit quality of our
portfolio and the potential for capital gains.
Valuation Methodology
We determine the fair value
of each investment as the fair value as determined
in good faith by the board of directors. Since there is
typically no ready market for the investments in our
portfolio, we value substantially all of our investments
at fair value as determined in good faith by the board of
directors pursuant to a valuation policy and a
consistently applied valuation process.
As a business development
company, we invest primarily in illiquid securities
including debt and equity securities of private companies
and non-investment grade CMBS. The structure of each debt
and equity security is specifically negotiated to enable
us to protect our investment and maximize our returns. We
include many terms governing interest rate, repayment
terms, prepayment penalties, financial covenants,
operating covenants, ownership parameters, dilution
parameters, liquidation preferences, voting rights, and
put or call rights. Our investments are generally subject
to restrictions on resale and generally have no
established trading market. Because of the type of
investments that we make and the nature of our business,
our valuation process requires an analysis of various
factors. Our fair value methodology includes the
examination of, among other things, the underlying
investment performance, financial condition and market
changing events that impact valuation.
Our process for determining
the fair value of a private finance investment begins with
determining the enterprise value of the portfolio company.
The fair value of our investment is based upon the
enterprise value at which the portfolio company could be
sold in an orderly disposition over a reasonable period of
time between willing parties other than in a forced or
liquidation sale. The liquidity event whereby we exit a
private finance investment is generally the sale,
recapitalization or, in some cases, the initial public
offering of the portfolio company.
There is no one methodology
to determine enterprise value and, in fact, for any one
portfolio company, enterprise value is best expressed as a
range of fair values, from which we derive a single
estimate of enterprise value. To determine the enterprise
value of a portfolio company, we analyze its historical
and projected financial results of the portfolio company.
We generally require portfolio companies to provide annual
audited and monthly unaudited financial statements, as
well as annual projections for the upcoming fiscal year.
Typically in the private equity business, companies are
bought and sold based upon multiples of EBITDA, cash flow,
net income, revenues or in limited instances book value.
When using EBITDA to determine enterprise value, we may
adjust EBITDA for non-recurring items. Such adjustments
are intended to normalize EBITDA to reflect the portfolio
company's earnings power. Adjustments to EBITDA may
include compensation to previous owners, or acquisition,
recapitalization or restructuring related items.
In determining a multiple
to use for valuation purposes, we look to private merger
and acquisition statistics, discounted public trading
multiples or industry practices. In estimating a
reasonable multiple, we consider not only the fact that
our portfolio company may be private relative to a peer
group, but the size and scope of our portfolio company and
its specific strengths and weaknesses. In some cases, the
best valuation methodology may be a discounted cash flow
analysis based upon future projections. If a portfolio
company is distressed, a liquidation analysis may provide
the best indication of enterprise value.
If there is adequate
enterprise value to support the repayment of our debt, the
fair value of our loan or debt security normally
corresponds to cost unless the borrower's condition or
other factors lead to a determination of fair value at a
different amount. The fair value of equity interests in
portfolio companies are determined based upon various
factors, including the enterprise value remaining for
equity holders after the repayment of the portfolio
company's debt and other pertinent factors such as recent
offers to purchase a portfolio company's equity interest
or other liquidity events. The determined equity values
are generally discounted when we have a minority position,
restrictions on resale, specific concerns about the
receptivity of the capital markets to a specific company
at a certain time, or other factors.
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