UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(Mark One)
x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2014

OR

o	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

COMMISSION FILE NUMBER: 1-35730

 

STELLUS CAPITAL INVESTMENT CORPORATION

(Exact Name of Registrant as Specified in Its Charter)

 

Maryland	46-0937320
(State or other Jurisdiction of Incorporation or Organization)	(I.R.S. Employer Identification No.)

4400 Post Oak Parkway, Suite 2200
Houston, Texas 77027

(Address of Principal Executive Offices) (Zip Code)

(713) 292-5400

(Registrant’s Telephone Number, Including Area Code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer o	Accelerated filer x
Non-accelerated filer o	Smaller reporting company o
(do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x

The number of shares of the issuer’s Common Stock, $.001 par value, outstanding as of November 3, 2014 was 12,476,830.

 

STELLUS CAPITAL INVESTMENT CORPORATION

TABLE OF CONTENTS

PART I. FINANCIAL INFORMATION
Item 1. Financial Statements		1
Consolidated Statements of Assets and Liabilities as of September 30, 2014 (unaudited) and December 31, 2013		1
Consolidated Statements of Operations for the three and nine month periods ended September 30, 2014 and 2013 (unaudited)		2
Consolidated Statements of Changes in Net Assets for the nine month periods ended September 30, 2014 and 2013 (unaudited)		3
Consolidated Statements of Cash Flows for the nine month periods ended September 30, 2014 and 2013 (unaudited)		4
Consolidated Schedules of Investments as of September 30, 2014 (unaudited) and December 31, 2013		5
Notes to Unaudited Consolidated Financial Statements		12
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations		35
Item 3. Quantitative and Qualitative Disclosures About Market Risk		49
Item 4. Controls and Procedures		49
PART II. OTHER INFORMATION
Item 1. Legal Proceedings		50
Item 1A. Risk Factors		50
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds		52
Item 3. Defaults Upon Senior Securities		52
Item 4. Mine Safety Disclosures		52
Item 5. Other Information		52
Item 6. Exhibits		52
SIGNATURES		53

i

PART I — FINANCIAL INFORMATION

STELLUS CAPITAL INVESTMENT CORPORATION
 
CONSOLIDATED STATEMENTS OF ASSETS AND LIABILITIES

	September 30, 2014 (Unaudited)			December 31, 2013
ASSETS
Non-controlled, non-affiliated investments, at fair value (amortized cost of $287,408,278 and $277,004,466, respectively)	$	284,105,102		$	277,504,510
Cash and cash equivalents		4,164,063			13,663,542
Receivable for sales and repayments of investments		38,021			—
Interest receivable		5,357,554			4,713,912
Deferred offering costs		261,760			205,165
Deferred financing costs		844,606			—
Accounts receivable		31,013			—
Receivable for affiliated transaction		—			43,450
Prepaid loan structure fees		1,212,098			1,586,405
Prepaid expenses		381,799			411,321
Total Assets	$	296,396,016		$	298,128,305
Notes Payable		25,000,000			—
Credit facility payable		90,000,000			110,000,000
Short-term loan		—			9,000,000
Dividends payable		1,413,224			—
Base management fees payable		1,281,231			1,176,730
Incentive fees payable		215,887			1,056,942
Accrued offering costs		4,752			—
Interest payable		336,275			234,051
Directors’ fees payable		86,000			96,000
Unearned revenue		129,548			146,965
Administrative services payable		551,383			263,226
Deferred Tax Liability		185,888			—
Other accrued expenses and liabilities		96,567			262,877
Total Liabilities		119,300,755			122,236,791
Commitments and contingencies (Note 7)
Net Assets	$	177,095,261		$	175,891,514
Common Stock, par value $0.001 per share (100,000,000 shares authorized, 12,473,293 and 12,099,022 shares issued and outstanding, as of September 30, 2014 and December 31, 2013, respectively)	$	12,473		$	12,099
Paid-in capital		180,909,398			175,614,738
Accumulated undistributed net realized gain		682,320			1,027,392
Distributions in excess of net investment income		(1,019,866	)		(1,262,659	)
Net Unrealized appreciation (depreciation) on investments and cash equivalents, net of provision for taxes of $185,888 and $0, as of September 30, 2014 and December 31, 2013, respectively		(3,489,064	)		499,944
Net Assets	$	177,095,261		$	175,891,514
Total Liabilities and Net Assets	$	296,396,016		$	298,128,305
Net Asset Value Per Share	$	14.20		$	14.54

 
 
See Notes to Unaudited Consolidated Financial Statements.

1

STELLUS CAPITAL INVESTMENT CORPORATION
 
CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited)

	Three Months Ended September 30						Nine Months Ended September 30
	2014			2013			2014			2013
INVESTMENT INCOME
Interest income	$	7,766,986		$	7,604,636		$	23,126,699		$	20,640,265
Other income		55,511			312,995			557,753			1,065,033
Total Investment Income		7,822,497			7,917,631			23,684,452			21,705,298
OPERATING EXPENSES
Management fees	$	1,281,231		$	1,140,675		$	3,842,971		$	3,065,877
Valuation fees		128,815			154,785			344,952			358,495
Administrative services expenses		312,870			220,249			856,804			619,825
Incentive fees		410,134			914,412			2,173,966			2,969,855
Professional fees		115,463			254,533			399,490			477,995
Directors’ fees		86,000			76,000			290,000			254,000
Insurance expense		121,730			119,695			361,220			354,933
Interest expense and other fees		1,409,565			968,674			3,841,487			2,253,433
Other general and administrative expenses		105,418			102,388			256,385			229,832
Total Operating Expenses	$	3,971,226		$	3,951,411		$	12,367,275		$	10,584,245
Waiver of Incentive Fees		(1,399,226	)		(167,775	)		(1,399,226	)		(672,982	)
Total operating expenses, net of fees waivers		2,572,000			3,783,636			10,968,049			9,911,263
Net Investment Income	$	5,250,497		$	4,133,995		$	12,716,403		$	11,794,035
Net Realized Gain on Investments and Cash Equivalents	$	3,907		$	5,061		$	441,364		$	1,007,978
Net Change in Unrealized Appreciation (Depreciation) on Investments and Cash Equivalents	$	(2,955,085	)	$	(313,635	)	$	(3,803,120	)	$	1,033,121
Benefit/(Provision) for taxes on unrealized gain on investments	$	(185,888	)	$	0		$	(185,888	)	$	0
Net Increase in Net Assets Resulting from Operations	$	2,113,431		$	3,825,421		$	9,168,759		$	13,835,134
Net Investment Income Per Share	$	0.42		$	0.34		$	1.04		$	0.98
Net Increase in Net Assets Resulting from Operations Per Share	$	0.17		$	0.32		$	0.75		$	1.15
Weighted Average Shares of Common Stock Outstanding		12,404,485			12,066,548			12,214,875			12,051,013
Distributions Per Share	$	0.34		$	0.34		$	1.09		$	1.02

 
 
See Notes to Unaudited Consolidated Financial Statements.

2

STELLUS CAPITAL INVESTMENT CORPORATION
 
CONSOLIDATED STATEMENTS OF CHANGES IN NET ASSETS (unaudited)

	For the nine months ended September 30, 2014			For the nine months ended September 30, 2013
Increase in Net Assets Resulting from Operations
Net investment income	$	12,716,403		$	11,794,035
Net realized gain on investments and cash equivalents		441,364			1,007,978
Net change in unrealized appreciation (depreciation) on investments and cash equivalents		(3,803,120	)		1,033,121
Provision for taxes on unrealized appreciation on investments		(185,888	)		—
Net Increase in Net Assets Resulting from Operations		9,168,759			13,835,134
Stockholder distributions		(13,260,046	)		(12,291,447	)
Capital share transactions
Issuance of common stock		5,087,335			—
Reinvestments of stockholder distributions		313,113			669,803
Sales load		(75,510	)		—
Offering costs		(29,904	)		—
Net increase in net assets resulting from capital share transactions		5,295,034			669,803
Total increase in net assets		1,203,747			2,213,490
Net assets at beginning of period		175,891,514			173,845,955
Net assets at end of period (includes $1,019,866 and $1,372,398 of distributions in excess of net investment income)	$	177,095,261		$	176,059,445

 
 
See Notes to Unaudited Consolidated Financial Statements.

3

STELLUS CAPITAL INVESTMENT CORPORATION
 
CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)

	For the nine months ended September 30, 2014			For the nine months ended September 30, 2013
Cash flows from operating activities
Net increase in net assets resulting from operations	$	9,168,759		$	13,835,134
Adjustments to reconcile net increase in net assets resulting from operations to net cash provided by (used in) operating activities:
Purchases of investments		(58,454,022	)		(129,073,679	)
Proceeds from sales and repayments of investments		49,485,710			84,105,057
Net change in unrealized (appreciation) depreciation on investments		3,803,220			(1,031,604	)
Increase in investments due to PIK		(538,457	)		(854,644	)
Net amortization of premium and accretion of discount		(488,829	)		(308,299	)
Amortization of loan structure fees		452,054			419,927
Amortization of deferred financing costs		74,964			—
Net realized gain on investments		(446,239	)		(1,010,884	)
Changes in other assets and liabilities
Increase in interest receivable		(643,642	)		(1,576,787	)
Decrease in receivable for affiliated transaction		43,450			—
Increase in accounts receivable		(31,013	)		—
Decrease in prepaid expenses and fees		29,522			384,904
Increase (decrease) in payable for investments purchased		—			(4,750,000	)
Increase in management fees payable		104,501			613,642
Increase (decrease) in directors’ fees payable		(10,000	)		46,548
Increase (decrease) in incentive fees payable		(841,055	)		1,262,914
Increase in administrative services payable		288,157			—
Increase in interest payable		102,224			225,682
Decrease in unearned revenue		(17,417	)		—
Increase in deferred tax liability		185,888			—
Increase (decrease) in other accrued expenses and liabilities		(161,558	)		91,632
Net cash provided by (used in) operating activities		2,106,217			(37,620,457	)
Cash flows from financing activities
Proceeds from notes issued		25,000,000			—
Financing costs paid for credit facility and notes issued		(997,317	)		(156,672	)
Proceeds from the issuance of common stock		5,116,989			—
Sales load for common stock issued		(75,510	)		—
Offering costs paid for common stock issued		(116,149	)		(147,123	)
Stockholder distributions paid		(11,533,709	)		(11,621,644	)
Borrowings under credit facility		78,000,000			105,000,000
Repayments of credit facility		(98,000,000	)		(58,000,000	)
Repayments of short-term loan		(9,000,000	)		(76,000,643	)
Borrowings on short-term loan		—			39,999,633
Net cash used in financing activities		(11,605,696	)		(926,449	)
Net decrease in cash and cash equivalents		(9,499,479	)		(38,545,906	)
Cash and cash equivalents balance at beginning of period		13,663,542			62,131,686
Cash and cash equivalents balance at end of period	$	4,164,063		$	23,585,780
Supplemental and non-cash financing activities
Accrued deferred offering costs		4,752			—
Value of shares issued pursuant to Dividend Reinvestment Plan		313,113			669,803
Interest expense paid		3,206,081			1,559,812

 
 
See Notes to Unaudited Consolidated Financial Statements.

4

Stellus Capital Investment Corporation
 
Consolidated Schedule of Investments (unaudited)
September 30, 2014

Investments	Footnotes		Headquarters/Industry		Principal Amount/Shares		Amortized Cost		Fair Value(1)		% of Net Assets
Non-controlled, non-affiliated investments		(2)
Abrasive Products & Equipment Term Loan-Second Lien, L+10.5%, LIBOR floor 1.00%, due 3/5/20		(3)		Deer Park, TX Chemicals, Plastics, & Rubber	$	4,507,500	$	4,418,495	$	4,418,495		2.49	%
APE Holdings, LLC Common Shares, Class A		(4)(6)				375,000 shares		375,000		375,000		0.21	%
Total								4,793,495		4,793,495		2.70	%
Atkins Nutritionals Holdings II, Inc. Term Loan-Second Lien, L+8.50%, LIBOR floor 1.25%, due 4/3/2019		(3)		Denver, CO Beverage, Food, & Tobacco	$	13,000,000		12,787,920		13,000,000		7.34	%
ATX Networks Term Loan-Unsecured, 12.00% cash, 2.00% PIK due 5/12/2016		(5)(6)		West Ajax, Ontario High Tech Industries	$	21,526,219		21,526,219		21,526,219		12.16	%
Binder and Binder Term Loan-Unsecured, 13.00% cash, 2.00% PIK, 2.00% Default Rate, due 2/27/2016		(4)(5)(7)		Hauppauge, NY High Tech Industries	$	13,200,354		13,200,354		8,716,919		4.92	%
Blackhawk Mining, LLC Term Loan-First Lien, 12.5%, due 10/9/2016				Lexington, KY Metals & Mining	$	4,565,698	$	4,294,404	$	4,333,676		2.45	%
Common Shares, Class B		(4)				36 shares		214,286		585,834		0.33	%
Total								4,508,690		4,919,510		2.78	%
Calero Software, LLC Term Loan-Second Lien, L+9.50%, LIBOR floor 1.00%, due 6/5/2019		(3)		Rochester, NY Telecommunications	$	10,000,000	$	9,823,047	$	9,716,886		5.49	%
Managed Mobility Holdings, LLC Partnership Units		(4)				8,507 units		500,000		437,790		0.25	%
Total								10,323,047		10,154,676		5.74	%
Colford Capital Holdings, LLC Term Loan-Unsecured, 12.25%, due 5/31/2018		(6)		New York, NY Finance	$	12,500,000	$	12,276,214	$	12,231,325		6.91	%
Term Loan-Unsecured, 12.25%, due 5/31/2018		(6)(8)			$	1,000,000		978,594		978,506		0.55	%
Total								13,254,808		13,209,831		7.46	%
Digital Payment Technologies Corp. Term Loan-First Lien, L+8.50%, LIBOR floor 1.00%, due 1/31/2019		(3)(6)(9)		Burnaby, British Columbia Transportation & Logistics	$	2,965,625		2,926,099		2,907,386		1.64	%
Eating Recovery Center, LLC Mezzanine Term Loan-Unsecured, 12.00% cash, 1.00% PIK, due 6/28/2018		(5)		Denver, CO Healthcare & Pharmaceuticals	$	18,400,000	$	18,111,464	$	18,154,376		10.25	%
ERC Group Holdings LLC Common Shares, Class A		(4)(6)				17,820 shares		1,674,648		2,130,645		1.20	%
Total								19,786,112		20,285,021		11.45	%
Empirix Inc. Term Loan-Second Lien, L+9.50%, LIBOR floor 1.00%, due 5/1/2020		(3)(10)		Billerica, MA Software	$	21,407,850		21,025,501		20,935,751		11.82	%
Empirix Holdings I, Inc. Common Shares, Class A		(4)				1,304 shares		1,304,232		2,187,361		1.24	%
Empirix Holdings I, Inc. Common Shares, Class B		(4)				1,317,406 shares		13,174		22,094		0.01	%
Total								22,342,907		23,145,206		13.07
Glori Energy Production Inc. Term Loan-First Lien, L+10.00%, LIBOR floor 1.00%, due 3/14/2017		(3)(6)		Houston, TX Energy: Oil & Gas	$	2,955,583	$	2,906,991	$	2,854,262		1.61	%

 
 
See Notes to Unaudited Consolidated Financial Statements.

5

Stellus Capital Investment Corporation
 
Consolidated Schedule of Investments (unaudited) – (continued)
September 30, 2014

Investments	Footnotes		Headquarters/Industry		Principal Amount/Shares		Amortized Cost		Fair Value(1)		% of Net Assets
Grupo HIMA San Pablo, Inc. Term Loan-First Lien, L+7.00%, LIBOR floor 1.50%, due 1/31/2018		(3)		San Juan, PR Healthcare & Pharmaceuticals	$	4,925,000	$	4,853,585	$	4,761,242		2.69	%
Term Loan-Second Lien, 13.75%, due 7/31/2018					$	4,000,000		3,842,903		3,751,869		2.12	%
Total								8,696,488		8,513,111		4.81	%
Help/Systems, LLC Term Loan-Second Lien, L+8.50%, LIBOR floor 1.00%, due 6/28/2020		(3)		Eden Prairie, MN Software	$	15,000,000	$	14,803,172	$	14,999,935		8.47	%
Hostway Corp. Term Loan-Second Lien, L+8.75%, LIBOR floor 1.25% due 12/13/2010		(3)		Chicago, IL High Tech Industries	$	6,750,000	$	6,625,479	$	6,626,045		3.74	%
Livingston International, Inc. Term Loan-Second Lien, L+7.75%, LIBOR floor 1.25% due 4/18/2020		(3)(6)		Toronto, Ontario Transportation: Cargo	$	6,841,739	$	6,725,695	$	6,833,187		3.86	%
Momentum Telecom Inc.
Term Loan-First Lien, L+8.50%, LIBOR floor 1.00%, due 3/10/2019		(3)		Birmingham, AL Media: Broadcasting & Subscription	$	16,261,546	$	15,955,411	$	15,768,862		8.90	%
MBS Holdings, Inc. Series E Preferred Stock		(4)				2,774,695 shares		1,000,000		1,000,000		0.57	%
Total								16,955,411		16,768,862		9.47	%
OG Systems, LLC Term Loan-Unsecured, L+10.00% cash, 1.00% PIK, LIBOR floor 1.00%, due 1/22/2020		(3)(5)		Chantilly, Virginia Services: Government	$	4,007,778	$	3,932,277	$	3,868,488		2.18	%
OGS Holdings, Inc. Series A Convertible Preferred Shares		(4)				11,521 shares		50,000		65,275		0.04	%
Total								3,982,277		3,933,763		2.22	%
Refac Optical Group Revolver-First Lien, L+8.50%, due 9/30/2018		(11)(12)(14)		Blackwood, NJ Retail	$	400,000		400,000		385,883		0.22	%
Term A Loan-First Lien, L+8.50% cash, 1.00% PIK, due 9/30/2018		(5)(11)(14)			$	2,692,243		2,692,243		2,597,227		1.47	%
Term B Loan-First Lien, L+8.50% cash, 2.75% PIK, due 9/30/2018		(5)(11)(15)			$	6,223,382		6,223,382		5,945,182		3.36	%
Total								9,315,625		8,928,292		5.05
Securus Technologies Holdings
Term Loan-Second Lien, L+7.75%, LIBOR floor 1.25%, due 4/30/2021		(3)		Dallas, TX Telecommunications	$	8,500,000	$	8,439,047	$	8,468,125		4.78	%
Skopos Financial, LLC Term Loan-Unsecured, 12.00%, due 1/31/2019		(5)(6)		Irving, TX Finance	$	12,500,000	$	12,269,009	$	12,183,500		6.88	%
Common Shares, Class A		(4)(6)(13)				970,159 shares		887,638		962,751		0.54	%
Total								13,156,647		13,146,251		7.42	%
Snowman Holdings, LLC Term Loan-Unsecured, 12.50%, due 2/15/2019				Lebanon, IN Transportation: Cargo	$	11,169,118	$	11,169,118	$	11,163,533		6.30	%
SPM Capital, LLC Term Loan-First Lien, L+5.50%, LIBOR floor 1.50%, due 10/31/2017		(3)		Bloomington, MN Healthcare & Pharmaceuticals	$	7,350,000	$	7,249,439	$	7,350,000		4.15%

 
 
See Notes to Unaudited Consolidated Financial Statements.

6

Stellus Capital Investment Corporation
 
Consolidated Schedule of Investments (unaudited) – (continued)
September 30, 2014

Investments	Footnotes		Headquarters/Industry		Principal Amount/Shares		Amortized Cost		Fair Value(1)			% of Net Assets
SQAD, LLC
Term Loan-Unsecured, 11.00% cash, 1.25% PIK, due 4/30/2019		(5)		Tarrytown, NY Media: Broadcasting & Subscription	$	7,043,353	$	6,932,642	$	6,868,370			3.88	%
SQAD Holdco, Inc. Common Shares		(4)				5,800 shares		62,485		64,447			0.04	%
SQAD Holdco, Inc. Preferred Shares, Series A		(4)				5,624 shares		562,368		580,025			0.33	%
Total								7,557,495		7,512,842			4.25
Studer Group, LLC (The) Term Loan-Unsecured, 12.00%, due 1/31/2019				Gulf Breeze, FL Services: Business	$	16,910,423	$	16,910,423	$	16,859,692			9.52	%
T2 Systems, Inc. Term Loan-First Lien, L+8.50%, LIBOR floor 1.00%, due 1/31/2019		(3)		Indianapolis, IN Transportation & Logistics	$	2,965,625	$	2,926,099	$	2,907,386			1.64	%
Telecommunications Management, LLC Term Loan-Second Lien, L+8.00%, LIBOR floor 1.00%, due 10/30/2020		(3)		Sikeston, MO Media: Broadcasting & Subscription	$	5,000,000	$	4,957,165	$	5,000,000			2.82	%
Telular Corp. Term Loan-Second Lien, Euro+8.00%, Euro floor 1.25%, due 6/24/2020		(3)		Chicago, IL High Tech Industries	$	7,500,000	$	7,402,765	$	7,500,000			4.24	%
Vandelay Industries Term Loan-Second Lien, 10.75% cash, 1.00% PIK, due 11/12/2019		(5)		La Vergne, TN Construction & Building	$	2,500,000	$	2,477,226	$	2,444,553			1.38	%
Woodstream Corp. Senior Subordinated Note-Unsecured, 11.50%, due 2/28/2017				Lititz, PA Consumer Goods: Non-Durable	$	9,137,721	$	8,847,446	$	8,806,022			4.97	%
Woodstream Group, Inc. Senior Subordinated Note-Unsecured, 11.50%, due 2/28/2017				Lititz, PA Consumer Goods: Non-Durable	$	862,279	$	854,619	$	830,978			0.47	%
Total Non-controlled, non-affiliated investments								287,408,278		284,105,102			160.43	%
Net Investments								287,408,278		284,105,102			160.43	%
LIABILITIES IN EXCESS OF OTHER ASSETS										(107,009,841	)		(60.43	)%
NET ASSETS									$	177,095,261			100.00	%

(1) See Note 1 of the Notes to Financial Statements for a discussion of the methodologies used to value securities in the portfolio.

(2) The Company’s obligations to the lenders of the Credit Facility are secured by a first priority security interest in all non-controlled, non-affiliated investments and cash, but exclude $1,276,542 of cash and cash equivalents, $7,043,353 (at par) of the term loan of SQAD, LLC, 5,800 common and 5,624 preferred shares of SQAD Holdco, Inc., $9,750,000 (at par) of the term loan of Empirix, Inc., $9,609,095 (at par) of the term loan of Momentum Telecom, Inc., and $4,507,500 (at par) of the term loan of Abrasive Products & Equipment.

(3) These loans have LIBOR or Euro Floors which are higher than the current applicable LIBOR or Euro rates; therefore, the floors are in effect.

(4) Security is non-income producing.

(5) Represents a payment-in-kind security. At the option of the issuer, interest can be paid in cash or cash and PIK. The percentage of PIK shown is the maximum PIK that can be elected by the company.

(6) The investment is not a qualifying asset under the Investment Company Act of 1940, as amended.

(7) Investment was on non-accrual status as of January 1, 2014.

 
 
See Notes to Unaudited Consolidated Financial Statements.

7

Stellus Capital Investment Corporation
 
Consolidated Schedule of Investments (unaudited) – (continued)
September 30, 2014

(8) Excluded from the investment above is an unfunded term loan commitment in an amount not to exceed $4,000,000, an interest rate of 12.25% and a maturity of May 31, 2018. This investment is accruing a commitment fee of 0.50% on the undrawn balance.

(9) Digital Payment Technologies Corp. is the Canadian co-borrower of the term loan of T2 Systems, Inc.

(10) Excluded from the investment above is a delayed draw term loan commitment in an amount not to exceed $7,542,150, an interest rate of LIBOR plus 9.50%, LIBOR floor 1.00%, and a maturity of May 1, 2020. This investment is accruing an unused commitment fee of 0.50% per annum.

(11) On September 30, 2014, the interest rate on these loans was one month LIBOR of 0.15%, plus the applicable spread.

(12) Excluded from this investment is an undrawn commitment in an amount not to exceed $1,600,000, an interest rate of LIBOR plus 8.50% and a maturity of September 30, 2018. This investment is accruing an unused commitment fee of 0.50% per annum.

(13) This investment also includes an unfunded equity commitment in an amount not to exceed $112,362.

(14) This investment amended its coupon on August 21, 2014 from L+7.50% cash to L+8.50% cash. The PIK component and maturity are unchanged.

(15) This investment amended the PIK component of the coupon from 1.75% to 2.75% on August 21, 2014. The cash component and maturity are unchanged.

Abbreviation Legend

Euro — Euro Dollar
L — LIBOR
PIK — Payment-In-Kind

 
 
See Notes to Unaudited Consolidated Financial Statements.

8

Stellus Capital Investment Corporation
 
Consolidated Schedule of Investments
December 31, 2013

Investments	Footnotes		Headquarters/Industry		Principal Amount/Shares		Amortized Cost		Fair Value(1)		% of Net Assets
Non-controlled, non-affiliated investments		(2)
Aderant North America Inc. Term Loan-Second Lien, L + 8.75%, LIBOR floor 1.25%, due 6/20/2019				Atlanta, GA Software	$	1,500,000	$	1,480,112	$	1,500,000		0.85	%
Ascend Learning, LLC Term Loan-Second Lien, Euro + 10.00%, Euro floor 1.50%, due 12/6/2017				Burlington, MA Software	$	10,000,000		10,000,000		10,000,000		5.69	%
Atkins Nutritionals Holdings II, Inc. Term Loan-Second Lien, L + 8.50%, LIBOR floor 1.25%, due 4/3/2019				Denver, CO Beverage, Food, & Tobacco	$	17,000,000		16,689,794		17,000,000		9.67	%
ATX Networks Term Loan-Unsecured, 12.00% cash, 2.00% PIK, due 5/12/2016		(3)(4)		West Ajax, Ontario High Tech Industries	$	21,203,012		21,203,012		21,203,012		12.05	%
Binder and Binder Term Loan-Unsecured, 13.00% cash, 2.00% PIK, due 2/27/2016		(3)		Hauppauge, NY Services: Consumer	$	13,133,228		13,133,228		11,395,293		6.48	%
Blackhawk Mining, LLC Term Loan-First Lien, 12.50%, due 10/9/2016				Lexington, KY Metals & Mining	$	4,806,071		4,445,365		4,547,024		2.59	%
Common Shares, Class B		(5)				36 shares		214,286		341,349		0.19	%
Total								4,659,651		4,888,373		2.78	%
Calero Software, LLC Term Loan-Second Lien, L + 9.50%, LIBOR floor 1.00%, due 6/5/2019				Rochester, NY Telecommunications	$	10,000,000		9,802,547		9,802,547		5.57	%
Managed Mobility Holdings, LLC Ltd. Partnership		(5)				8,507 shares		500,000		500,000		0.28	%
Total								10,302,547		10,302,547		5.85	%
Colford Capital Holdings, LLC Term Loan-Unsecured 12.25%, due 5/31/2018		(4)(6)		New York, NY Finance	$	12,500,000		12,242,889		12,491,250		7.1	%
ConvergeOne Holdings Corp. Term Loan-First Lien, L + 8.00%, LIBOR floor 1.25%, due 5/8/2019				Eagan, MN Telecommunications	$	12,185,952		12,017,679		12,104,672		6.88	%
Eating Recovery Center, LLC Mezzanine Term Loan-Unsecured, 12.00% cash, 1.00% PIK, due 6/28/2018(3)		(3)		Denver, CO Health & Pharmaceuticals	$	18,400,000		18,075,428		18,400,000		10.46	%
Common Shares, Class A(4)(5)		(4)(5)				17,528 shares		1,647,135		1,708,667		0.97	%
Total								19,722,563		20,108,667		11.43	%
Empirix Inc. Term Loan-Second Lien, L + 9.50%, LIBOR floor 1.00%, due 5/1/2020		(7)		Billerica, MA Software	$	21,407,850		20,988,492		20,988,492		11.93	%
Common Shares, Class A(5)		(5)				1,304 shares		1,304,232		1,304,232		0.74	%
Common Shares, Class B(5)		(5)				1,317,406 shares		13,174		13,174		0.01	%
Total								22,305,898		22,305,898		12.68	%
Grupo HIMA San Pablo, Inc. Term Loan-First Lien, L + 7.00%, LIBOR floor 1.50%, due 1/31/2018				San Juan, PR	$	4,962,500		4,877,838		4,811,144		2.74	%
Term Loan-Second Lien, 13.75%, due 7/31/2018				Health & Pharmaceuticals	$	4,000,000		3,822,486		3,548,400		2.02	%
Total								8,700,324		8,359,544		4.76	%
Help Systems, LLC Term Loan-Second Lien, L + 8.50%, LIBOR floor 1.00%, due 6/28/2020				Eden Prairie, MN Software	$	15,000,000		14,784,682		15,000,000		8.53	%
Hostway Corp. Term Loan-Second Lien, L + 8.75%, LIBOR floor 1.25%, due 12/13/2020				Chicago, Il High Tech Industries	$	6,750,000		6,615,231		6,615,231		3.76	%
Livingston International, Inc. Term Loan-Second Lien, L + 7.75%, LIBOR floor 1.25%, due 4/18/2020		(4)		Toronto, Ontario Transportation: Cargo	$	6,841,739		6,714,636		7,012,783		3.99	%

 
 
See Notes to Unaudited Consolidated Financial Statements.

9

Stellus Capital Investment Corporation
 
Consolidated Schedule of Investments – (continued)
December 31, 2013

Investments	Footnotes		Headquarters/Industry		Principal Amount/Shares		Amortized Cost		Fair Value(1)		% of Net Assets
Refac Optical Group Term A Loan-First Lien, L + 7.50%, due 9/30/2018				Blackwood, NJ Retail	$	2,924,824	$	2,924,824	$	2,924,824		1.66	%
Term B Loan-First Lien, L + 8.50% cash, 1.75% PIK, due 9/30/2018		(3)			$	6,151,853		6,151,853		6,151,853		3.5	%
Revolver-First Lien, L + 7.50%, due 9/30/2018		(8)			$	1,100,000		1,100,000		1,100,000		0.63	%
Total								10,176,677		10,176,677		5.79	%
Securus Technologies Holdings Term Loan-Second Lien, L + 7.75%, LIBOR floor 1.25%, due 4/30/2021				Dallas, TX Telecommunications	$	8,500,000		8,434,305		8,500,000		4.83	%
Snowman Holdings, LLC Term Loan-Unsecured, 12.50%, due 2/15/2019		(9)		Lebanon, IN Transportation: Cargo	$	11,169,118		11,169,118		11,169,118		6.35	%
SPM Capital, LLC Term Loan-First Lien, L + 5.50%, LIBOR floor 1.50%, due 10/31/2017				Bloomington, MN Healthcare & Pharmaceuticals	$	7,406,250		7,284,824		7,406,250		4.21	%
SQAD, LLC Term Loan-Unsecured, 11.00% cash, 1.25% PIK, due 4/30/2019		(3)		Tarrytown, NY Media: Broadcasting & Subscription	$	5000000		4,914,724		4,912,500		2.79	%
Common Shares, Series A		(5)				5,000 shares		50,000		50,000		0.03	%
Preferred Shares, Series A		(5)				4,500 shares		450,000		450,000		0.26	%
Total								5,414,724		5,412,500		3.08	%
Studer Group, LLC (The) Term Loan-Unsecured, 12.00%, due 1/31/2019		(10)		Gulf Breeze, FL Services: Business	$	16,910,423		16,910,423		16,910,423		9.61	%
Telecommunications Management, LLC Term Loan-Second Lien, L + 8.00%, LIBOR floor 1.00%, due 10/30/2020				Sikeston, MO Media: Broadcasting & Subscription	$	8,000,000		7,925,241		8,120,000		4.62	%
Telular Corp. Term Loan-Second Lien, Euro + 8.00%, Euro floor 1.25%, due 6/24/2020				Chicago, IL High Tech Industries	$	7,500,000		7,393,551		7,500,000		4.26	%
Transaction Network Services, Inc. Term Loan-Second Lien, L + 8.00%, LIBOR floor 1.00%, due 8/14/2020				Reston, VA Telecommunications	$	2,550,000		2,514,924		2,584,272		1.47	%
Varel International Energy Funding Corp. Term Loan-First Lien, L + 7.75%, LIBOR floor 1.50%, due 7/17/2017				Carrollton, TX Energy: Oil & Gas	$	9,700,000		9,538,738		9,700,000		5.51	%
Woodstream Corp. Senior Subordinated Note-Unsecured, 11.50%, due 2/28/2017		(11)		Lititz, PA Consumer Goods: Non-Durable	$	9,137,721		8,825,566		8,898,313		5.06	%
Woodstream Group, Inc. Senior Subordinated Debt-Unsecured, 11.50%, due 2/28/2017		(11)		Lititz, PA Consumer Goods: Non-Durable	$	862,279		844,129		839,687		0.48	%
Total Non-controlled, non-affiliated investments							$	277,004,466	$	277,504,510		157.8	%
Cash Equivalents United States Treasury Bills 0%, due 01/30/2014		(2)			$	10,000,000		10,000,000		9,999,900		5.69	%
Total Short-Term Investments							$	10,000,000	$	9,999,900		5.69	%
LIABILITIES IN EXCESS OF OTHER ASSETS										(111,612,896)		(63.46)%
NET ASSETS									$	175,891,514		100%

(1) See Note 1 of the Notes to Financial Statements for a discussion of the methodologies used to value securities in the portfolio.

(2) The Company’s obligations to the lenders of the Credit Facility are secured by a first priority security interest in all non-controlled non-affiliated investments and cash, but exclude Cash Equivalents.

 
 
See Notes to Unaudited Consolidated Financial Statements.

10

Stellus Capital Investment Corporation
 
Consolidated Schedule of Investments – (continued)
December 31, 2013

(3) Represents a payment-in-kind security. At the option of the issuer, interest can be paid in cash or cash and PIK. The percentage of PIK shown is the maximum PIK that can be elected by the company.

(4) The investment is not a qualifying asset under the Investment Company Act of 1940, as amended.

(5) Security is non-income producing.

(6) Excluded from the investment above is an unfunded term loan commitment in an amount not to exceed $12,500,000, an interest rate of 12.25% and a maturity of May 31, 2018. This investment is accruing an unused commitment fee of 0.50% per annum.

(7) Excluded from the investment above is a delayed draw term loan commitment in an amount not to exceed $7,542,150, an interest rate of LIBOR plus 9.50%, LIBOR floor 1.00%, and a maturity of May 1, 2020. This investment is accruing an unused commitment fee of 0.50% per annum.

(8) Excluded from the investment above is an undrawn revolving loan commitment in an amount not to exceed $900,000. This investment is accruing an unused commitment fee of 0.50% per annum. This investment amended its maturity to 9/30/18 on 9/30/13.

(9) This investment amended its maturity to 2/15/19 on 8/15/13. The interest rate was amended from 11% cash pay plus 2% PIK to 12.5% cash pay.

(10) This investment amended its maturity to 1/31/19 on 7/23/13. The interest rate was amended from 12% cash pay plus 2% PIK to 12% cash pay.

(11) Amended maturity to 2/18/17 on 3/4/13. Amended rate to 11.5% fixed on 12/6/13.

Abbreviation Legend
PIK — Payment-In-Kind
L — LIBOR
Euro — Euro Dollar

 
 
See Notes to Unaudited Consolidated Financial Statements.

11

STELLUS CAPITAL INVESTMENT CORPORATION
 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2014
(Unaudited)

NOTE 1 — NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES

Nature of Operations

Stellus Capital Investment Corporation (“we”, “us”, “our” and the “Company”) was formed as a Maryland corporation on May 18, 2012 (“Inception”) and is an externally managed, closed-end, non-diversified investment management company and is applying the guidance of Accounting Standards Codification (“ASC”) Topic 946, Financial Services Investment Companies. The Company has elected to be treated as a business development company under the Investment Company Act of 1940, as amended (the “1940 Act”) and as a regulated investment company (“RIC”) for U.S. federal income tax purposes. The Company’s investment activities are managed by Stellus Capital Management, LLC (“Stellus Capital” or the “Advisor”).

On November 7, 2012, the Company priced its initial public offering (the “Offering”), at a price of $15.00 per share. Through its initial public offering the Company sold 9,200,000 shares (including 1,200,000 shares through the underwriters’ exercise of the overallotment option) for gross proceeds of $138,000,000. Including the Offering, the Company has raised $180,409,145 including (i) $500,010 of seed capital contributed by Stellus Capital, (ii) $12,749,990 in a private placement to certain purchasers, including persons and entities associated with Stellus Capital, and (iii) $29,159,145 in connection with the acquisition of the Company’s initial portfolio. The Company’s shares are currently listed on the New York Stock Exchange under the symbol “SCM”.

Immediately prior to the pricing of the Offering the Company acquired its initial portfolio of assets for $165,235,169 in cash and $29,159,145 in shares of the Company’s common stock, or $194,394,314 in total. The cash portion of the acquisition of the initial portfolio was financed by (i) borrowing $152,485,179 under a credit facility (“Bridge Facility”) with Sun Trust and (ii) using the $12,749,990 of proceeds received in connection with the private placement. The Bridge Facility had a maturity date of not more than 7 days after the pricing date of the Offering. Borrowings under the Bridge Facility bore interest at the highest of (i) a prime rate, (ii) the Federal Funds Rate plus 0.50% and (iii) Libor plus 1.00%. The Company used the net proceeds from the Offering together with borrowings under the Company’s Credit Facility (see Note 9) to repay in full the outstanding indebtedness under the Bridge Facility, at which point the Bridge Facility terminated.

The Company has established wholly owned subsidiaries: SCIC — ERC Blocker 1, Inc., SCIC — SKP Blocker 1, Inc. and SCIC — APE Blocker 1, Inc., which are structured as Delaware entities, to hold equity or equity-like investments in portfolio companies organized as limited liability companies, or LLCs (or other forms of pass-through entities) (“Taxable Subsidiaries”). The Taxable Subsidiaries are consolidated for U.S. GAAP reporting purposes, and the portfolio investments held by them are included in the consolidated financial statements.

On June 14, 2013, we formed Stellus Capital SBIC LP or the “SBIC subsidiary”, and its general partner, Stellus Capital SBIC GP, LLC., as wholly owned subsidiaries of the Company, in Delaware. On June 20, 2014, the SBIC subsidiary received a license from the Small Business Administration, or “SBA” to operate as a Small Business Investment Company (“SBIC”) under Section 301(c) of the Small Business Investment Company Act of 1958. The SBIC subsidiary is consolidated for U.S. GAAP reporting purposes, and the portfolio investments held by it are included in the consolidated financial statements.

The SBIC license allows the SBIC subsidiary to obtain leverage by issuing SBA-guaranteed debentures, subject to the issuance of a capital commitment by the SBA and other customary procedures. SBA-guaranteed debentures are non-recourse, interest only debentures with interest payable semi-annually and have a ten year maturity. The principal amount of SBA-guaranteed debentures is not required to be paid prior to maturity but may be prepaid at any time without penalty. The interest rate of SBA-guaranteed debentures is fixed on a semi-annual basis at a market-driven spread over U.S. Treasury Notes with 10-year maturities. The SBA, as a

12

STELLUS CAPITAL INVESTMENT CORPORATION
 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2014
(Unaudited)

NOTE 1 — NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES  – (continued)

creditor, will have a superior claim to the SBIC’s assets over the Company’s stockholders in the event the Company liquidates the SBIC subsidiary or the SBA exercises its remedies under the SBA-guaranteed debentures issued by the SBIC subsidiary upon an event of default. On August 6, 2014, the SBIC subsidiary received a commitment letter from the SBA for SBA-guaranteed debentures totaling $32.5 million. As of September 30, 2014, the SBIC subsidiary had not yet issued any SBA-guaranteed debentures. SBA regulations currently limit the amount that an SBIC may borrow to a maximum of $150 million when it has at least $75 million in regulatory capital, receives a capital commitment from the SBA and has been through an examination by the SBA subsequent to licensing. As of September 30, 2014, the SBIC subsidiary had $32.5 million of regulatory capital, which implies a maximum borrowing of $65 million, subject to the criteria discussed above.

The Company’s investment objective is to maximize the total return to its stockholders in the form of current income and capital appreciation through debt and related equity investments in middle-market companies. The Company seeks to achieve its investment objective by originating and investing primarily in private U.S. middle-market companies (typically those with $5.0 million to $50.0 million of EBITDA (earnings before interest, taxes, depreciation and amortization)) through first lien, second lien, unitranche and mezzanine debt financing, with corresponding equity co-investments. It sources investments primarily through the extensive network of relationships that the principals of Stellus Capital have developed with financial sponsor firms, financial institutions, middle-market companies, management teams and other professional intermediaries.

Summary of Significant Accounting Policies

Basis of Presentation

The accompanying unaudited consolidated financial statements have been prepared on the accrual basis of accounting in conformity with GAAP for interim financial information and pursuant to the requirements for reporting on Form 10-Q and Article 10 of Regulation S-X. Accordingly, certain disclosures accompanying annual financial statements prepared in accordance with U.S. GAAP are omitted. The unaudited consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries.

In the opinion of management, the unaudited consolidated financial results included herein contain all adjustments, consisting solely of normal recurring accruals, considered necessary for the fair presentation of financial statements for the interim periods included herein. The results of operations for the nine months ended September 30, 2014 and 2013 are not necessarily indicative of the operating results to be expected for the full year. Also, the unaudited consolidated financial statements and notes should be read in conjunction with the audited consolidated financial statements and notes thereto for the year ended December 31, 2013. Certain reclassifications have been made to certain prior period balances to conform with current presentation.

In accordance with Regulation S-X under the Securities Act of 1933, as amended and Securities Exchange Act of 1934, as amended (the “Exchange Act”), the Company does not consolidate portfolio company investments.

The accounting records of the Company are maintained in U.S. dollars.

Portfolio Investment Classification

The Company classifies its portfolio investments with the requirements of the 1940 Act, (a) “Control Investments” are defined as investments in which the Company owns more than 25% of the voting securities or has rights to maintain greater than 50% of the board representation, (b) “Affiliate Investments” are defined as investments in which the Company owns between 5% and 25% of the voting securities and does not have rights to maintain greater than 50% of the board representation, and (c) “Non-controlled, non-affiliate investments” are defined as investments that are neither Control Investments or Affiliate Investments.

13

STELLUS CAPITAL INVESTMENT CORPORATION
 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2014
(Unaudited)

NOTE 1 — NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES  – (continued)

Cash and Cash Equivalents

At September 30, 2014, cash balances totaling $3,914,063 exceeded FDIC insurance protection levels, subjecting the Company to risk related to the uninsured balance. All of the Company’s cash deposits are held at large established high credit quality financial institutions and management believes that risk of loss associated with any uninsured balances is remote.

Cash consists of bank demand deposits. We deem certain U.S. Treasury Bills and other high-quality, short-term debt securities as cash equivalents. At the end of each fiscal quarter, we may take proactive steps to ensure we are in compliance with the RIC diversification requirements under Subchapter M of the Internal Revenue Code (the “Code”), which are dependent upon the composition of our total assets at quarter end. We may accomplish this in several ways, including purchasing U.S. Treasury Bills and closing out positions after quarter-end or temporarily drawing down on the Credit Facility (see Note 9).

On September 30, 2014, we held no U.S. Treasury Bills. On December 31, 2013, we held approximately $10 million of U.S. Treasury Bills with a 25 day maturity purchased using $1 million in margin cash and the proceeds from a $9 million short term loan from Raymond James. The loan had an effective annual interest rate of approximately 6.25%. On January 2, 2014, we sold the Treasury Bills, repaid the remainder of the loan from Raymond James and received back the $1 million margin payment (net of fees and expenses of $1,875).

Use of Estimates

The preparation of the consolidated statements of assets and liabilities in conformity with GAAP requires management to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements. Changes in the economic environment, financial markets and any other parameters used in determining these estimates could cause actual results to differ materially.

Deferred Financing Costs

Deferred financing costs consist of fees and expenses paid in connection with the closing of credit facilities and are capitalized at the time of payment. Deferred financing costs are amortized using the straight line method over the term of the credit facility.

Deferred Offering Costs

Deferred offering costs consist of fees and expenses incurred in connection with the offer and sale of the Company’s common stock and bonds, including legal, accounting, printing fees and other related expenses, as well as costs incurred in connection with the filing of a shelf registration statement. These costs are capitalized when incurred and recognized as a reduction of offering proceeds when the offering becomes effective.

Investments

As a business development company, the Company will generally invest in illiquid loans and securities including debt and equity securities of middle-market companies. Under procedures established by the board of directors, the Company intends to value investments for which market quotations are readily available at such market quotations. The Company will obtain these market values from an independent pricing service or at the median between the bid and ask prices obtained from at least two brokers or dealers (if available, otherwise by a principal market maker or a primary market dealer). Debt and equity securities that are not publicly traded or whose market prices are not readily available will be valued at fair value as determined in good faith by our board of directors. Such determination of fair values may involve subjective judgments and estimates. The Company will also engage independent valuation providers to review the valuation of each portfolio investment that does not have a readily available market quotation at least twice annually.

14

STELLUS CAPITAL INVESTMENT CORPORATION
 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2014
(Unaudited)

NOTE 1 — NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES  – (continued)

Investments purchased within 60 days of maturity will be valued at cost plus accreted discount, or minus amortized premium, which approximate fair value. With respect to unquoted securities, our board of directors, together with our independent valuation providers, will value each investment considering, among other measures, discounted cash flow models, comparisons of financial ratios of peer companies that are public and other factors. When an external event such as a purchase transaction, public offering or subsequent equity sale occurs, the board will use the pricing indicated by the external event to corroborate and/or assist us in our valuation. Because the Company expects that there will not be a readily available market for many of the investments in our portfolio, the Company expects to value most of our portfolio investments at fair value as determined in good faith by the board of directors using a documented valuation policy and a consistently applied valuation process. Due to the inherent uncertainty of determining the fair value of investments that do not have a readily available market value, the fair value of our investments may differ significantly from the values that would have been used had a readily available market value existed for such investments, and the differences could be material.

In following these approaches, the types of factors that will be taken into account in fair value pricing investments will include, as relevant, but not be limited to:

• available current market data, including relevant and applicable market trading and transaction comparables;

• applicable market yields and multiples;

• security covenants;

• call protection provisions;

• information rights;

• the nature and realizable value of any collateral;

• the portfolio company’s ability to make payments, its earnings and discounted cash flows and the markets in which it does business;

• comparisons of financial ratios of peer companies that are public;

• comparable merger and acquisition transactions; and

• the principal market and enterprise values.

Revenue Recognition

We record interest income on an accrual basis to the extent such interest is deemed collectible. For loans and debt securities with contractual payment-in-kind (“PIK”) interest, which represents contractual interest accrued and added to the loan balance that generally becomes due at maturity, we do not accrue PIK interest if the portfolio company valuation indicates that such PIK interest is not collectible. We will not accrue interest on loans and debt securities if we have reason to doubt our ability to collect such interest. Loan origination fees, original issue discount and market discount or premium are capitalized, and we then accrete or amortize such amounts using the effective interest method as interest income. Upon the prepayment of a loan or debt security, any unamortized loan origination fee is recorded as interest income. We record prepayment premiums on loans and debt securities as other income. Dividend income, if any, will be recognized on the ex-dividend date.

15

STELLUS CAPITAL INVESTMENT CORPORATION
 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2014
(Unaudited)

NOTE 1 — NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES  – (continued)

Net Realized Gains or Losses and Net Change in Unrealized Appreciation or Depreciation

We measure realized gains or losses by the difference between the net proceeds from the repayment or sale and the amortized cost basis of the investment, without regard to unrealized appreciation or depreciation previously recognized. Net change in unrealized appreciation or depreciation reflects the change in portfolio investment values during the reporting period, including any reversal of previously recorded unrealized appreciation or depreciation, when gains or losses are realized.

Payment-in-Kind Interest

We have investments in our portfolio that contain a PIK interest provision. Any PIK interest is added to the principal balance of such investments and is recorded as income, if the portfolio company valuation indicates that such PIK interest is collectible. In order to maintain our status as a RIC, substantially all of this income must be paid out to stockholders in the form of dividends, even if we have not collected any cash.

Investment Transaction Costs

Costs that are material associated with an investment transaction, including legal expenses, are included in the cost basis of purchases and deducted from the proceeds of sales unless such costs are reimbursed by the borrower.

Receivables and Payables for Unsettled Securities Transaction

The Company records all investments on a trade date basis.

U.S. Federal Income Taxes

The Company has elected to be treated as a RIC under Subchapter M of the Code, and to operate in a manner so as to qualify for the tax treatment applicable to RICs. In order to qualify as a RIC, among other things, the Company is required to timely distribute to its stockholders at least 90% of investment company taxable income, as defined by the Code, for each year. So long as the Company maintains its status as a RIC, it generally will not pay corporate-level U.S. federal income taxes on any ordinary income or capital gains that it distributes at least annually to its stockholders as dividends. Rather, any tax liability related to income earned by the Company represents obligations of the Company’s investors and will not be reflected in the consolidated financial statements of the Company.

To avoid a 4% federal excise tax on undistributed earnings, the Company is required to distribute each calendar year the sum of (i) 98% of its ordinary income for such calendar year (ii) 98.2% of its net capital gains for the one-year period ending October 31 of that calendar year (iii) any income recognized, but not distributed, in preceding years and on which the Company paid no federal income tax. The Company, at its discretion, may choose not to distribute all of its taxable income for the calendar year and pay a non-deductible 4% excise tax on this income. If the Company chooses to do so, all other things being equal, this would increase expenses and reduce the amount available to be distributed to stockholders. To the extent that the Company determines that its estimated current year annual taxable income will be in excess of estimated current year dividend distributions from such taxable income, the Company accrues excise taxes on estimated excess taxable income as taxable income is earned. The Company incurred no excise tax expense for the three and nine months ended September 30, 2014 and the three and nine months ended September 30, 2013.

The Company evaluates tax positions taken or expected to be taken in the course of preparing its tax returns to determine whether the tax positions are “more-likely-than-not” of being sustained by the applicable tax authority. Tax positions deemed to meet a “more-likely-than-not” threshold would be recorded as a tax benefit or expense in the applicable period. Although the Company files federal and state tax returns, its major tax jurisdiction is federal. The 2012 and 2013 federal tax years for the Company remain subject to examination by the Internal Revenue Service.

16

STELLUS CAPITAL INVESTMENT CORPORATION
 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2014
(Unaudited)

NOTE 1 — NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES  – (continued)

As of September 30, 2014 and December 31, 2013, the Company had not recorded a liability for any unrecognized tax positions. Management’s evaluation of uncertain tax positions may be subject to review and adjustment at a later date based upon factors including, but not limited to, an on-going analysis of tax laws, regulations and interpretations thereof. The Company’s policy is to include interest and penalties related to income taxes, if applicable, in general and administrative expenses. There were no such expenses for the three and nine months ended September 30, 2014 and 2013, respectively.

The Company has direct wholly owned subsidiaries that have elected to be taxable entities. The Taxable Subsidiaries permit the Company to hold equity investments in portfolio companies which are “pass through” entities for tax purposes and continue to comply with the “source income” requirements contained in RIC tax provisions of the Code. The Taxable Subsidiaries are not consolidated with the Company for income tax purposes and may generate income tax expense, benefit, and the related tax assets and liabilities, as a result of their ownership of certain portfolio investments. The income tax expense, or benefit, if any, and related tax assets and liabilities are reflected in the Company’s consolidated financial statements.

The Taxable Subsidiaries use the liability method in accounting for income taxes. Deferred tax assets and liabilities are recorded for temporary differences between the tax basis of assets and liabilities and their reported amounts in the financial statements, using statutory tax rates in effect for the year in which the temporary differences are expected to reverse. A valuation allowance is provided against deferred tax assets when it is more likely than not that some portion or all of the deferred tax asset will not be realized.

Taxable income generally differs from net income for financial reporting purposes due to temporary and permanent differences in the recognition of income and expenses. Taxable income generally excludes net unrealized appreciation or depreciation, as investment gains or losses are not included in taxable income until they are realized.

For the three and nine months ended September 30, 2014 and September 30, 2013, the Company recorded deferred income tax expense of $185,888 and $0, respectively, related to the Taxable Subsidiaries. In addition, as of September 30, 2014 and September 30, 2013, the Company had a deferred tax liability of $185,888 and $0, respectively.

Earnings per Share

Basic per share calculations are computed utilizing the weighted average number of shares of common stock outstanding for the period. The Company has no common stock equivalents. As a result, there is no difference between diluted earnings per share and basic per share amounts.

Paid In Capital

The Company records the proceeds from the sale of its common stock on a net basis to (i) capital stock and (ii) paid in capital in excess of par value, excluding all commissions and marketing support fees.

Recently Issued Accounting Standards

From time to time, new accounting pronouncements are issued by the Financial Accounting Standards Board (“FASB”) or other standards setting bodies that are adopted by the Company as of the specified effective date. ASU No. 2013-08 Financial Services — Investment Companies (Topic 946): Amendments to the Scope, Measurement and Disclosure Requirements was effective for an entity’s interim and annual reporting periods in the fiscal years beginning after December 15, 2013. Accordingly, the Company has adopted the updated guidance and believes that the impact is limited to our disclosure requirements. In August 2014, the FASB issued ASU No. 2014-15 - Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern. In connection with the preparation of interim and annual reports, Management will evaluate whether conditions or events exist that raise substantial doubt about the entity’s ability to continue as a going concern

17

STELLUS CAPITAL INVESTMENT CORPORATION
 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2014
(Unaudited)

NOTE 1 — NATURE OF OPERATIONS AND SIGNIFICANT ACCOUNTING POLICIES  – (continued)

within one year after the date that the financial statements are issued (or within one year after the date the financial statements are available to be issued, when applicable), and, if so, disclose that fact. Additionally, Management must evaluate and disclose whether its plans will alleviate that doubt. The guidance is effective for the Company beginning January 1, 2016. The Company believes that the impact of this and other recently issued standards that are not effective will not have a material impact on its consolidated financial statements upon adoption.

NOTE 2 — RELATED PARTY ARRANGEMENTS

Investment Advisory Agreement

The Company entered into an investment advisory agreement with Stellus Capital. Pursuant to this agreement, the Company has agreed to pay to Stellus Capital a base annual fee of 1.75% of gross assets, including assets purchased with borrowed funds or other forms of leverage and excluding cash and cash equivalents, and an annual incentive fee.

For the three and nine months ended September 30, 2014, the Company recorded an expense for base management fees of $1,281,231 and $3,842,971, respectively. For the three and nine months ended September 30, 2013, the Company recorded an expense for base management fees of $1,140,675 and $3,065,877, respectively. As of September 30, 2014 and December 31, 2013, respectively, $1,281,231 and $1,176,730, were payable to Stellus Capital.

The incentive fee has two components, investment income and capital gains, as follows:

Investment Income Incentive Fee

The investment income component (“Investment Income Incentive Fee”) is calculated, and payable, quarterly in arrears based on the Company’s pre-incentive fee net investment income for the immediately preceding calendar quarter, subject to a cumulative total return requirement and to deferral of non-cash amounts. The pre-incentive fee net investment income, which is expressed as a rate of return on the value of the Company’s net assets attributable to the Company’s common stock, for the immediately preceding calendar quarter, will have a 2.0% (which is 8.0% annualized) hurdle rate (also referred to as the “Hurdle”). Pre-incentive fee net investment income means interest income, dividend income and any other income accrued during the calendar quarter, minus the Company’s operating expenses for the quarter excluding the incentive fee. Pre-incentive fee net investment income includes, in the case of investments with a deferred interest feature (such as original issue discount, debt instruments with PIK interest and zero coupon securities), accrued income that the Company has not yet received in cash. The Advisor receives no incentive fee for any calendar quarter in which the Company’s pre-incentive fee net investment income does not exceed the Hurdle. Subject to the cumulative total return requirement described below, the Advisor receives 100% of the Company’s pre-incentive fee net investment income for any calendar quarter with respect to that portion of the pre-incentive net investment income for such quarter, if any, that exceeds the Hurdle but is less than 2.5% (which is 10.0% annualized) of net assets (also referred to as the “Catch-up”) and 20.0% of the Company’s pre-incentive fee net investment income for such calendar quarter, if any, greater than 2.5% (10.0% annualized) of net assets.

The foregoing incentive fee is subject to a total return requirement, which provides that no incentive fee in respect of the Company’s pre-incentive fee net investment income is payable except to the extent 20.0% of the cumulative net increase in net assets resulting from operations over the then current and 11 preceding calendar quarters exceeds the cumulative incentive fees accrued and/or paid for the 11 preceding quarters. In other words, any Investment Income Incentive Fee that is payable in a calendar quarter is limited to the lesser of (i) 20% of the amount by which the Company’s pre-incentive fee net investment income for such calendar quarter exceeds the 2.0% hurdle, subject to the Catch-up, and (ii) (x) 20% of the cumulative net increase in

18

STELLUS CAPITAL INVESTMENT CORPORATION
 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2014
(Unaudited)

NOTE 2 — RELATED PARTY ARRANGEMENTS  – (continued)

net assets resulting from operations for the then current and 11 preceding quarters minus (y) the cumulative incentive fees accrued and/or paid for the 11 preceding calendar quarters. For the foregoing purpose, the “cumulative net increase in net assets resulting from operations” is the amount, if positive, of the sum of pre-incentive fee net investment income, realized gains and losses and unrealized appreciation and depreciation of the Company for the then current and 11 preceding calendar quarters. In addition, the Advisor is not paid the portion of such incentive fee that is attributable to deferred interest until the Company actually receives such interest in cash.

For the three and nine months ended September 30, 2014, the Company incurred $633,485 and $2,479,433, respectively, of Investment Income Incentive Fees. For the three and nine months ended September 30, 2013, the Company incurred $976,126 and $2,562,821, respectively, of Investment Income Incentive Fees. As of September 30, 2014 and December 31, 2013, $215,887 and $751,475, respectively, of such incentive fees are payable to the Advisor, of which $43,255 and $641,516, respectively, are currently payable (as explained below). As of September 30, 2014 and December 31, 2013, $172,632 and $109,959, respectively, of incentive fees incurred but not paid by the Company were generated from deferred interest (i.e. PIK, certain discount accretion and deferred interest) and are not payable until such amounts are received in cash.

Capital Gains Incentive Fee

GAAP requires that the incentive fee accrual considers the cumulative aggregate realized gains and losses and unrealized capital appreciation or depreciation of investments or other financial instruments in the calculation, as an incentive fee would be payable if such realized gains and losses and unrealized capital appreciation or depreciation were realized, even though such realized gains and losses and unrealized capital appreciation or depreciation is not permitted to be considered in calculating the fee actually payable under the investment management agreement (the “Capital Gains Incentive Fee”). There can be no assurance that unrealized appreciation or depreciation will be realized in the future. Accordingly, such fee, as calculated and accrued, would not necessarily be payable under the investment management agreement, and may never be paid based upon the computation of incentive fees in subsequent periods. For the three and nine months ended September 30, 2014, the Company incurred ($223,351) and ($305,467) respectively, of incentive fees related to the Capital Gains Incentive Fee. For the three and nine months ended September 30, 2013, the Company incurred ($61,714) and $407,034, of incentive fees related to the Capital Gains Incentive Fee. As of September 30, 2014 and December 31, 2013, $0 and $305,467 of Capital Gains Incentive Fees were payable to the Advisor, subject to the limitations set forth below.

A portion of the Capital Gains Incentive Fee may be payable to the Advisor on an annual basis. This portion of the fee is determined and payable in arrears as of the end of each calendar year (or upon termination of the investment management agreement, as of the termination date). This component is equal to 20.0% of the Company’s cumulative aggregate realized capital gains from inception through the end of that calendar year, computed net of the cumulative aggregate realized capital losses and cumulative aggregate unrealized capital depreciation through the end of such year. The aggregate amount of any previously paid capital gains incentive fees is subtracted from such capital gains incentive fee calculated. As of September 30, 2014 and December 31, 2013, no Capital Gains Incentive Fee was currently payable to the Advisor.

For the years ending December 31, 2012 and December 31, 2013, the Advisor agreed to waive its incentive fee to the extent required to support an annualized dividend yield of 9.0% (to be paid on a quarterly basis) based on the price per share of our common stock in connection with the Offering. The Advisor has entered into no such agreement with the Company for periods after December 31, 2013. As of September 30, 2014, the Advisor concluded that it was not likely to generate sufficient net investment income during the remainder of the year to support distributions for the nine months ended September 30, 2014. While under no

19

STELLUS CAPITAL INVESTMENT CORPORATION
 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2014
(Unaudited)

NOTE 2 — RELATED PARTY ARRANGEMENTS  – (continued)

obligation to do so, the Advisor waived incentive fees of $1,399,226 for the three and nine months ended September 30, 2014. Such waiver in no way implies that the Advisor will waive incentive fees in any future period. For the three and nine months ended September 30, 2013, the Advisor waived Investment Income Incentive Fees of $167,775 and $672,982, respectively.

The following tables summarize the components of the incentive fees discussed above:

	Three Months Ended September 30						Nine Months Ended September 30
	2014			2013			2014			2013
Investment Income Incentive Fees Incurred	$	633,485		$	976,126		$	2,479,433		$	2,562,821
Capital Gains Incentive Fee Incurred		(223,351	)		(61,714	)		(305,467	)		407,034
Incentive Fees Incurred (before waiver)	$	410,134		$	914,412		$	2,173,966		$	2,969,855
Investment Income Incentive Fees Waived		(1,399,226	)		(167,775	)		(1,399,226	)		(672,982	)
Net Incentive Fee Expense	$	(989,092	)	$	746,637		$	774,740		$	2,296,873

	September 30, 2014		December 31, 2013
Investment Income Incentive Fee Currently Payable	$	43,255	$	641,516
Investment Income Incentive Fee Deferred		172,632		109,959
Capital Gains Incentive Fee Payable		—		305,467
Incentive Fee Payable	$	215,887	$	1,056,942

As of September 30, 2014 and December 31, 2013, the Company was due $0 and $43,450, respectively, from a related party of Stellus Capital for reimbursement of expenses paid for by the Company that were the responsibility of Stellus Capital. The amount due to the Company is included in the Consolidated Statements of Assets and Liabilities.

For the three months and nine months ended September 30, 2014, the Company recorded an expense relating to director fees of $86,000 and $290,000, respectively. For the three months and nine months ended September 30, 2013 the Company recorded an expense relating to director fees of $76,000 and $254,000, respectively. As of September 30, 2014 and December 31, 2013 $86,000 and $96,000, respectively, were payable relating to director fees.

We received exemptive relief from the SEC to co-invest with investment funds managed by Stellus Capital (other than the D. E. Shaw group funds, as defined below) where doing so is consistent with our investment strategy as well as applicable law (including the terms and conditions of the exemptive order issued by the SEC). Under the terms of the relief permitting us to co-invest with other funds managed by Stellus Capital, a “required majority” (as defined in Section 57(o) of the 1940 Act) of our independent directors must make certain conclusions in connection with a co-investment transaction, including (1) the terms of the proposed transaction, including the consideration to be paid, are reasonable and fair to us and our stockholders and do not involve overreaching of us or our stockholders on the part of any person concerned and (2) the transaction is consistent with the interests of our stockholders and is consistent with our investment objectives and strategies. We intend to co-invest, subject to the conditions included in the exemptive order we received from the SEC, with a private credit fund managed by Stellus Capital that has an investment strategy that is identical to our investment strategy. We believe that such co-investments may afford us additional investment opportunities and an ability to achieve greater diversification.

20

STELLUS CAPITAL INVESTMENT CORPORATION
 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2014
(Unaudited)

NOTE 2 — RELATED PARTY ARRANGEMENTS  – (continued)

License Agreement

We have entered into a license agreement with Stellus Capital under which Stellus Capital has agreed to grant us a non-exclusive, royalty-free license to use the name “Stellus Capital.” Under this agreement, we have a right to use the “Stellus Capital” name for so long as Stellus Capital or one of its affiliates remains our investment advisor. Other than with respect to this limited license, we have no legal right to the “Stellus Capital” name. This license agreement will remain in effect for so long as the investment advisory agreement with Stellus Capital is in effect.

Administration Agreement

We have entered into an administration agreement with Stellus Capital pursuant to which Stellus Capital will furnish us with office facilities and equipment and will provide us with the clerical, bookkeeping, recordkeeping and other administrative services necessary to conduct day-to-day operations. Under this administration agreement, Stellus Capital will perform, or oversee the performance of, our required administrative services, which includes, among other things, being responsible for the financial records which we are required to maintain and preparing reports to our stockholders and reports filed with the SEC.

For the three months and nine months ended September 30, 2014, the Company recorded expenses of $149,913 and $438,786, respectively, relating to the administration agreement. For the three months and nine months ended September 30, 2013, the Company recorded expenses of $109,663 and $298,462, respectively. As of September 30, 2014 and December 31, 2013, $298,401 and $135,170, respectively, remained payable to Stellus Capital relating to the administration agreement.

Indemnifications

The investment advisory agreement provides that, absent willful misfeasance, bad faith or gross negligence in the performance of its duties or by reason of the reckless disregard of its duties and obligations under the investment advisory agreement, Stellus Capital and its officers, managers, partners, agents, employees, controlling persons and members, and any other person or entity affiliated with it, are entitled to indemnification from the Company for any damages, liabilities, costs and expenses (including reasonable attorneys’ fees and amounts reasonably paid in settlement) arising from the rendering of Stellus Capital’s services under the investment advisory agreement or otherwise as our investment adviser.

NOTE 3 — DISTRIBUTIONS

Distributions are generally declared by the Company’s board of directors each calendar quarter and recognized as distribution liabilities on the ex-dividend date. The distribution frequency was changed from quarterly to monthly as of January 20, 2014. The Company intends to distribute net realized gains (i.e. , net capital gains in excess of net capital losses), if any, at least annually. The stockholder distributions, if any, will be determined by the board of directors. Any distribution to stockholders will be declared out of assets legally available for distribution.

21

STELLUS CAPITAL INVESTMENT CORPORATION
 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2014
(Unaudited)

NOTE 3 — DISTRIBUTIONS  – (continued)

The following table reflects the Company’s dividends declared and paid or to be paid on its common stock:

Date Declared	Record Date		Payment Date		Amount Per Share
December 7, 2012(1)		December 21, 2012		December 27, 2012	$	0.1800
March 7, 2013		March 21, 2013		March 28, 2013	$	0.3400
June 7, 2013		June 21, 2013		June 28, 2013	$	0.3400
August 21, 2013		September 5, 2013		September 27, 2013	$	0.3400
November 22, 2013		December 9, 2013		December 23, 2013	$	0.3400
December 27, 2013		January 15, 2014		January 24, 2014	$	0.0650
January 20, 2014		January 31, 2014		February 14, 2014	$	0.1133
January 20, 2014		February 28, 2014		March 14, 2014	$	0.1133
January 20, 2014		March 31, 2014		April 15, 2014	$	0.1133
April 17, 2014		April 30, 2014		May 15, 2014	$	0.1133
April 17, 2014		May 30, 2014		June 16, 2014	$	0.1133
April 17, 2014		June 30, 2014		July 15, 2014	$	0.1133
July 7, 2014		July 31, 2014		August 15, 2014	$	0.1133
July 7, 2014		August 29, 2014		September 15, 2014	$	0.1133
July 7, 2014		September 30, 2014		October 15, 2014	$	0.1133

(1) The amount of the initial distribution was equal to an annualized dividend yield of 9.0% based on the price per share of our common stock in connection with the Offering and is proportionately reduced to reflect the number of days remaining in the quarter after completion of the Offering.

Unless the stockholder elects to receive its distributions in cash, the Company intends to make such distributions in additional shares of the Company’s common stock under the Company’s dividend reinvestment plan. Although distributions paid in the form of additional shares of the Company’s common stock will generally be subject to U.S. federal, state and local taxes in the same manner as cash distributions, investors participating in the Company’s dividend reinvestment plan will not receive any corresponding cash distributions with which to pay any such applicable taxes. If a stockholder holds shares of the Company’s common stock in the name of a broker or financial intermediary, the stockholder should contact such broker or financial intermediary regarding their election to receive distributions in cash in lieu of shares of the Company’s common stock. Any distributions reinvested through the issuance of shares through the Company’s dividend reinvestment plan will increase the Company’s gross assets on which the base management fee and the incentive fee are determined and paid to Stellus Capital. Of the total distributions of $13,260,046 made to stockholders through September 30, 2014, $11,533,709 was made in cash, $313,113 in 22,906 shares and the remainder of $1,413,224 is accrued as of September 30, 2014.

NOTE 4 — PORTFOLIO INVESTMENTS AND FAIR VALUE

In accordance with the authoritative guidance on fair value measurements and disclosures under GAAP, the Company discloses the fair value of its investments in a hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The guidance establishes three levels of the fair value hierarchy as follows:

Level 1 — Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities;

22

STELLUS CAPITAL INVESTMENT CORPORATION
 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2014
(Unaudited)

NOTE 4 — PORTFOLIO INVESTMENTS AND FAIR VALUE  – (continued)

Level 2 — Quoted prices in markets that are not considered to be active or financial instruments for which significant inputs are observable, either directly or indirectly;

Level 3 — Prices or valuations that require inputs that are both significant to the fair value measurement and unobservable.

The level of an asset or liability within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement. However, the determination of what constitutes “observable” requires significant judgment by management.

The Company considers whether the volume and level of activity for the asset or liability have significantly decreased and identifies transactions that are not orderly in determining fair value. Accordingly, if the Company determines that either the volume and/or level of activity for an asset or liability has significantly decreased (from normal conditions for that asset or liability) or price quotations or observable inputs are not associated with orderly transactions, increased analysis and management judgment will be required to estimate fair value. Valuation techniques such as an income approach might be appropriate to supplement or replace a market approach in those circumstances.

At September 30, 2014, the Company had investments in 28 portfolio companies. The total cost and fair value of the investments were $287,408,278 and $284,105,102, respectively. The composition of our investments as of September 30, 2014 is as follows:

	Cost		Fair Value
Senior Secured – First Lien	$	50,427,653	$	49,811,106
Senior Secured – Second Lien		103,328,415		103,694,846
Unsecured Debt		127,008,379		122,187,928
Equity		6,643,831		8,411,222
Total Investments	$	287,408,278	$	284,105,102

At December 31, 2013, the Company had investments in 26 portfolio companies. The total cost and fair value of the investments were $277,004,466 and $277,504,510, respectively. The composition of our investments as of December 31, 2013 was as follows:

	Cost		Fair Value
Senior Secured – First Lien	$	48,341,121	$	48,745,767
Senior Secured – Second Lien		117,166,001		118,171,725
Unsecured Debt		107,318,517		106,219,596
Equity		4,178,827		4,367,422
Total Investments	$	277,004,466	$	277,504,510

The Company’s investment portfolio may contain loans that are in the form of lines of credit or revolving credit facilities, which require the Company to provide funding when requested by portfolio companies in accordance with the terms of the underlying loan agreements. As of September 30, 2014 and December 31, 2013, the Company had four and three such investments with aggregate unfunded commitments of $13,254,512 and $20,942,150, respectively. The Company maintains sufficient liquidity to fund such unfunded loan commitments should the need arise.

23

STELLUS CAPITAL INVESTMENT CORPORATION
 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2014
(Unaudited)

NOTE 4 — PORTFOLIO INVESTMENTS AND FAIR VALUE  – (continued)

The fair values of our investments disaggregated into the three levels of the fair value hierarchy based upon the lowest level of significant input used in the valuation as of September 30, 2014 are as follows:

	Quoted Prices in Active Markets for Identical Securities (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Total
Senior Secured – First Lien	$	—	$	—	$	49,811,106	$	49,811,106
Senior Secured – Second Lien		—		15,301,312		88,393,534		103,694,846
Unsecured Debt		—		—		122,187,928		122,187,928
Equity		—		—		8,411,222		8,411,222
Total Investments	$	—	$	15,301,312	$	268,803,790	$	284,105,102

The fair values of our investments disaggregated into the three levels of the fair value hierarchy based upon the lowest level of significant input used in the valuation as of December 31, 2013 are as follows:

	Quoted Prices in Active Markets for Identical Securities (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Total
Senior Secured – First Lien	$	—	$	12,104,672	$	36,641,095	$	48,745,767
Senior Secured – Second Lien		—		21,084,272		97,087,453		118,171,725
Unsecured Debt		—		—		106,219,596		106,219,596
Equity		—		—		4,367,422		4,367,422
Total Investments	$	—	$	33,188,944	$	244,315,566	$	277,504,510

The aggregate values of Level 3 portfolio investments changed during the nine months ended September 30, 2014 are as follows:

	Senior Secured Loans-First Lien			Senior Secured Loans-Second Lien			Unsecured Debt			Equity		Total
Fair value at beginning of period	$	36,641,095		$	97,087,453		$	106,219,596		$	4,367,422	$	244,315,566
Purchases of investments		29,984,167			6,892,350			19,112,500			2,465,005		58,454,022
Payment-in-kind interest		96,994			—			441,463			—		538,457
Sales and Redemptions		(28,513,075	)		(8,587,500	)		—			—		(37,100,575	)
Realized Gains		333,430			204,857			—			—		538,287
Change in unrealized depreciation included in earnings		(1,021,194	)		(342,673	)		(3,721,527	)		1,578,795		(3,506,599	)
Amortization of premium and accretion of discount, net		185,017			151,830			135,896			—		472,743
Transfer from Level 2		12,104,672									—		12,104,672
Transfer to Level 2		—			(7,012,783	)					—		(7,012,783	)
Fair value at end of period	$	49,811,106		$	88,393,534		$	122,187,928		$	8,411,222	$	268,803,790
Change in unrealized depreciation on Level 3 investments still held as of September 30, 2014	$	(767,437	)	$	(176,761	)	$	(3,721,527	)	$	1,578,797	$	(3,086,928	)

During the nine months ended September 30, 2014, there was one transfer from Level 2 to Level 3 due to the decrease in the availability of observable inputs in determining the fair value of this investment.

During the nine months ended September 30, 2014, there was one transfer from Level 3 to Level 2 due to the increase in the availability of observable inputs in determining the fair value of this investment.

24

STELLUS CAPITAL INVESTMENT CORPORATION
 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2014
(Unaudited)

NOTE 4 — PORTFOLIO INVESTMENTS AND FAIR VALUE  – (continued)

Transfers are reflected at the value of the securities at the beginning of the period.

The aggregate values of Level 3 portfolio investments changed during the nine months ended September 30, 2013 are as follows:

	Senior Secured Loans-First Lien			Senior Secured Loans-Second Lien			Unsecured Debt			Equity		Total
Fair value at beginning of period	$	44,014,214		$	26,477,622		$	111,125,134		$	1,714,286	$	183,331,256
Purchases of investments		37,536,081			63,547,500			15,054,742			—		116,138,323
Sales and Redemptions		(21,401,931	)		(25,703,125	)		(25,000,000	)		—		(72,105,056	)
Realized Gains		11,545			209,677			903,322			—		1,124,544
Change in unrealized appreciation (depreciation) included in earnings		284,255			564,712			(260,830	)		194,835		782,972
Accretion of discount		161,933			49,736			92,582			—		304,251
Transfer from Level 2		—			—			—			—		—
Fair value at end of period	$	60,606,097		$	52,569,551		$	101,914,950		$	1,909,121	$	216,999,719
Change in unrealized appreciation (depreciation) on Level 3 Investments still held as of September 30, 2013	$	284,255		$	501,232		$	(260,830	)	$	194,835	$	719,492

During the nine months ended September 30, 2013, there were no transfers from Level 2 to Level 3.

During the nine months ended September 30, 2013, there were two transfers from Level 3 to Level 2 due to quoted prices available for the financial instruments.

Transfers are reflected at the value of the securities at the beginning of the period.

The following is a summary of geographical concentration of our investment portfolio as of September 30, 2014:

	Cost		Fair Value		% of Total Investments
New York	$	44,335,704	$	39,594,268		13.94	%
Colorado		32,574,032		33,285,021		11.72	%
Canada		31,178,013		31,266,792		11.01	%
Texas		29,296,180		29,262,133		10.30	%
Massachusetts		22,342,907		23,145,206		8.15	%
Minnesota		22,052,611		22,349,935		7.87	%
Florida		16,910,423		16,859,692		5.93	%
Alabama		16,955,411		16,768,862		5.90	%
Illinois		14,028,244		14,126,045		4.97	%
Indiana		14,095,217		14,070,919		4.95	%
Pennsylvania		9,702,065		9,637,000		3.39	%
New Jersey		9,315,625		8,928,292		3.14	%
Puerto Rico		8,696,488		8,513,111		3.00	%
Missouri		4,957,165		5,000,000		1.76	%
Kentucky		4,508,690		4,919,510		1.73	%
Virginia		3,982,277		3,933,763		1.38	%
Tennessee		2,477,226		2,444,553		0.86	%
	$	287,408,278	$	284,105,102		100.00	%

25

STELLUS CAPITAL INVESTMENT CORPORATION
 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2014
(Unaudited)

NOTE 4 — PORTFOLIO INVESTMENTS AND FAIR VALUE  – (continued)

The following is a summary of geographical concentration of our investment portfolio as of December 31, 2013:

	Cost		Fair Value		% of Total Investments
New York	$	41,093,388	$	39,601,590		14.27	%
Colorado		36,412,357		37,108,667		13.37	%
Minnesota		34,087,185		34,510,922		12.44	%
Massachusetts		32,305,898		32,305,898		11.64	%
Canada		27,917,648		28,215,795		10.17	%
Texas		17,973,043		18,200,000		6.56	%
Florida		16,910,423		16,910,423		6.09	%
Illinois		14,008,782		14,115,231		5.09	%
Indiana		11,169,118		11,169,118		4.02	%
New Jersey		10,176,677		10,176,677		3.67	%
Pennsylvania		9,669,695		9,738,000		3.51	%
Puerto Rico		8,700,324		8,359,544		3.01	%
Missouri		7,925,241		8,120,000		2.93	%
Kentucky		4,659,651		4,888,373		1.76	%
Virginia		2,514,924		2,584,272		0.93	%
Georgia		1,480,112		1,500,000		0.54	%
	$	277,004,466	$	277,504,510		100.00	%

The following is a summary of industry concentration of our investment portfolio as of September 30, 2014:

	Cost		Fair Value		% of Total Investments
Software	$	37,146,079	$	38,145,141		13.43	%
Healthcare & Pharmaceuticals		35,732,039		36,148,132		12.73	%
High Tech Industries		35,554,463		35,652,264		12.55	%
Media: Broadcasting & Subscription		29,470,071		29,281,704		10.31	%
Finance		26,411,455		26,356,082		9.28	%
Telecommunications		18,762,094		18,622,801		6.55	%
Transportation: Cargo		17,894,813		17,996,720		6.33	%
Services: Business		16,910,423		16,859,692		5.93	%
Beverage, Food, & Tobacco		12,787,920		13,000,000		4.58	%
Consumer Goods: Non-Durable		9,702,065		9,637,000		3.39	%
Retail		9,315,625		8,928,292		3.14	%
Services: Consumer		13,200,354		8,716,919		3.07	%
Transportation & Logistics		5,852,198		5,814,772		2.05	%
Metals & Mining		4,508,690		4,919,510		1.73	%
Chemicals, Plastics, and Rubber		4,793,495		4,793,495		1.69	%
Services: Government		3,982,277		3,933,763		1.38	%
Energy: Oil & Gas		2,906,991		2,854,262		1.00	%
Construction & Building		2,477,226		2,444,553		0.86	%
	$	287,408,278	$	284,105,102		100.00	%

26

STELLUS CAPITAL INVESTMENT CORPORATION
 
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2014
(Unaudited)

NOTE 4 — PORTFOLIO INVESTMENTS AND FAIR VALUE  – (continued)

The following is a summary of industry concentration of our investment portfolio as of December 31, 2013:

	Cost		Fair Value		% of Total Investments
Software	$	48,570,692	$	48,805,898		17.59	%
Healthcare & Pharmaceuticals		35,707,711		35,874,461		12.93	%
High Tech Industries		35,211,794		35,318,243		12.73	%
Telecommunications		33,269,455		33,491,491		12.07	%
Transportation: Cargo		17,883,754		18,181,901		6.55	%
Beverage, Food, & Tobacco		16,689,794		17,000,000		6.13	%
Services: Business		16,910,423		16,910,423		6.09	%
Media: Broadcasting & Subscription		13,339,965		13,532,500		4.88	%
Finance		12,242,889		12,491,250		4.50	%
Services: Consumer		13,133,228		11,395,293		4.10	%
Retail		10,176,677		10,176,677		3.67	%
Consumer Goods: Non-Durable		9,669,695		9,738,000		3.51	%
Energy: Oil & Gas		9,538,738		9,700,000		3.49	%
Metals & Mining		4,659,651		4,888,373