Capitala Group
Annual Report 2014

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UNITED STATESSECURITIES AND EXCHANGE COMMISSIONWashington, D.C. 20549 FORM 10-K xx Annual Report Pursuant to Section 13 or 15(d)of the Securities Exchange Act of 1934For the Fiscal Year Ended December 31, 2014 oo Transition Report Pursuant to Section 13 or 15(d)of the Securities Exchange Act of 1934 CommissionFile Number Exact name of registrants as specified in their charters, addresses of principal executiveoffices, telephone numbers and states or other jurisdictions of incorporation or organization I.R.S. EmployerIdentification Number814-01022 Capitala Finance Corp.4201 Congress St., Suite 360Charlotte, North CarolinaTelephone: (704) 376-5502State of Incorporation: Maryland 90-0945675 Securities registered pursuant to Section 12(b) of the Act: Title of Each Class Name of Each Exchange on Which RegisteredCommon Stock, par value $0.01 per share7.125% Notes due 2021 The NASDAQ Global Select MarketThe New York Stock ExchangeSecurities registered pursuant to Section 12(g) of the Act: None Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act of 1933. Capitala Finance Corp. Yes o No xIndicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Securities Exchange Act of1934. Capitala Finance Corp. Yes o No xIndicate 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 of1934 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 suchfiling requirements for the past 90 days. Yes x No oIndicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data Filerequired to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that theregistrant was required to submit and post such files). Yes o No oIndicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained,to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or anyamendment to this Form 10-K. o Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reportingcompany. See the 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 xNon-accelerated filer o Smaller reporting company oIndicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No xThe aggregate market value of the registrant’s common stock held by non-affiliates of the registrant was $222.7 million based on the number ofshares held by non-affiliates of the registrant as of June 30, 2014, which was the last business day of the registrant’s most recently completed second fiscal quarter. For the purposes of calculating this amount only, all directors and executive officers of the registrant have been treated as affiliates.The number of shares of Capitala Finance Corp.’s common stock, $0.01 par value, outstanding as of March 3, 2015 was 12,974,420.Documents Incorporated by ReferencePortions of the registrant’s definitive proxy statement to be filed with the Securities and Exchange Commission pursuant to Regulation 14A relatingto the registrant’s 2015 Annual Meeting of Stockholders, to be filed with the Securities and Exchange Commission within 120 days following the endof the Company’s fiscal year, are incorporated by reference in Part III of this Annual Report on Form 10-K as indicated herein. TABLE OF CONTENTSTABLE OF CONTENTS PAGEPART I Item 1.Business 1 Item 1A.Risk Factors 30 Item 1B.Unresolved Staff Comments 60 Item 2.Properties 60 Item 3.Legal Proceedings 60 Item 4.Mine Safety Disclosures 60 PART II Item 5.Market for Registrant’s Common Equity, Related Stockholder Matters and IssuerPurchases of Equity Securities 61 Item 6.Selected Financial Data 64 Item 7.Management’s Discussion and Analysis of Financial Condition and Results ofOperations 65 Item 7A.Quantitative and Qualitative Disclosures about Market Risk 81 Item 8.Financial Statements and Supplementary Data 83 Item 9.Changes in and Disagreements with Accountants on Accounting and FinancialDisclosure 84 Item 9A.Controls and Procedures 84 Item 9B.Other Information 84 PART III Item 10.Directors, Executive Officers and Corporate Governance 85 Item 11.Executive Compensation 85 Item 12.Security Ownership of Certain Beneficial Owners and Management and RelatedStockholder Matters 85 Item 13.Certain Relationships and Related Transactions, and Director Independence 85 Item 14.Principal Accountant Fees and Services 85 PART IV Item 15.Exhibits and Financial Statement Schedules 86 Signatures 89 i TABLE OF CONTENTSPART IIn this annual report on Form 10-K, except as otherwise indicated, the terms:•“we,” “us,” “our,” “Capitala Finance” and the “Company” refer to Capitala Finance Corp., together with itsconsolidated subsidiaries;•The “Investment Advisor” and “Capitala Investment Advisors” refers to Capitala Investment Advisors, LLC, ourinvestment adviser; and•The “Administrator” refers to Capitala Advisors Corp., our administrator.ITEM 1. BUSINESS FORMATION OF OUR COMPANYWe are an externally managed non-diversified closed-end management investment company incorporated in Maryland thathas elected to be regulated as a business development company (“BDC”) under the Investment Company Act of 1940, as amended(the “1940 Act”). We commenced operations on May 24, 2013 and completed our initial public offering (“IPO”) on September 30,2013. The Company is managed by the Investment Advisor, an investment adviser that is registered as an investment adviserunder the Investment Advisers Act of 1940, as amended (the “Advisers Act”), and the Administrator provides the administrativeservices necessary for us to operate. For U.S. federal income tax purposes, the Company has elected to be treated, and intends tocomply with the requirements to continue to qualify annually, as a regulated investment company (“RIC”) under Subchapter M ofthe Internal Revenue Code of 1986, as amended (the “Code”). We are an “emerging growth company” within the meaning of theJumpstart Our Business Startups Act of 2012 (the “JOBS Act”), and as such are subject to reduced public company reportingrequirements.The Company was formed for the purpose of (i) acquiring, through a series of transactions, an investment portfolio from thefollowing entities: CapitalSouth Partners Fund I Limited Partnership (“Fund I”); CapitalSouth Partners Fund II Limited Partnership(“Fund II”); CapitalSouth Partners Fund III, L.P. (“Fund III Parent”); CapitalSouth Partners SBIC Fund III, L.P. (“Fund III”) andCapitalSouth Partners Florida Sidecar Fund I, L.P. (“Florida Sidecar” and, collectively with Fund I, Fund II, Fund III and Fund IIIParent, the “Legacy Funds”); (ii) raising capital in the IPO and (iii) continuing and expanding the business of the Legacy Funds bymaking additional debt and equity investments in smaller and lower middle market companies.The Company’s investment objective is to generate both current income and capital appreciation through debt and equityinvestments. Both directly and through our subsidiaries that are licensed by the U.S. Small Business Administration (“SBA”)under the Small Business Investment Company (“SBIC”) Act, we offer customized financing to business owners, managementteams and financial sponsors for change of ownership transactions, recapitalizations, strategic acquisitions, business expansionand other growth initiatives. We invest primarily in traditional mezzanine, senior subordinated and unitranche debt, as well assenior and second-lien loans and, to a lesser extent, equity securities issued by smaller and lower middle-market companies.On September 24, 2013, the Company acquired 100% of the limited partnership interests in Fund II, Fund III and FloridaSidecar and each of their respective general partners, as well as certain assets from Fund I and Fund III Parent, in exchange for anaggregate of 8,974,420 shares of the Company’s common stock (the “Formation Transactions”). Fund II, Fund III and FloridaSidecar became the Company’s wholly-owned subsidiaries. Fund II and Fund III retained their SBIC licenses, continue to holdtheir existing investments and continue to make new investments. The IPO consisted of the sale of 4,000,000 shares of theCompany’s common stock at a price of $20.00 per share resulting in net proceeds to the Company of $74.25 million, afterdeducting underwriting fees, commissions, and other offering expenses totaling $5.75 million.1 TABLE OF CONTENTSOUR INVESTMENT STRATEGYOur investment objective is to generate both current income and capital appreciation through debt and equity investments. Weexpect the companies in which we invest will generally have between $5 million and $30 million in trailing twelve monthearnings before interest, tax, depreciation and amortization (“EBITDA”). We believe our focus on mezzanine and seniorsubordinated loans enables us to receive higher interest rates and more substantial equity participation. We may also invest infirst-lien, senior secured positions in “stretch” senior secured loans, also referred to as “unitranche” loans, which combinecharacteristics of traditional first-lien senior secured loans and subordinated loans, providing us with greater influence andsecurity in the primary collateral of a borrower and potentially mitigating loss of principal should a borrower default. In additionto debt securities, we may acquire equity or detachable equity-related interests (including warrants) from a borrower. Typically,the debt in which we invest is not initially rated by any rating agency; however, we believe that if such investments were rated,they would be rated below investment grade. Below investment grade securities, which are often referred to as “high yield” or“junk,” have predominantly speculative characteristics with respect to the issuer’s capacity to pay interest and repay principal. Weintend to target investments that mature in four to six years from our investment.We typically will not limit our loan commitments to a percentage of a traditional borrowing base, although we attempt toprotect against risk of loss on our debt investments by structuring, underwriting and pricing loans based on anticipated cash flowsof our borrowers. As of December 31, 2014, our Investment Advisor underwrote investments in 96 lower middle-market andtraditional middle-market companies totaling more than $725 million of invested capital since 2000, and we believe that acontinuation of this strategy allows us to make structured investments with more attractive pricing and greater opportunities formeaningful equity participation than traditional asset-based, senior secured loans. Further, we believe that we benefit from ourInvestment Advisor’s long-standing relationships with many private equity fund sponsors, whose participation in portfoliocompanies, we believe, makes repayment from refinancing, asset sales and/or sales of the borrowers themselves more likely than astrategy whereby we consider investments only in founder-owned or non-sponsored borrowers.OUR INVESTMENT ADVISORWe are managed by the Investment Advisor, whose investment team members have significant and diverse experiencefinancing, advising, operating and investing in smaller and lower middle-market companies. Moreover, our Investment Advisor’sinvestment team has refined its investment strategy by sourcing, reviewing, acquiring and monitoring 96 portfolio companiestotaling more than $725 million of invested capital from 2000 through December 31, 2014. The Investment Advisor’s investmentteam also manages CapitalSouth Partners SBIC Fund IV, L.P. (“Fund IV”), a private investment limited partnership providingfinancing solutions to companies that generate between $5 million and $50 million in annual revenues and have between $1million and $5 million in annual EBITDA. Fund IV had its first closing in March 2013 and obtained SBA approval for its SBIClicense in April 2013. In addition to Fund IV, affiliates of the Investment Advisor manage several affiliated funds. We will not co-invest in transactions with other entities affiliated with the Investment Advisor unless we obtain an exemptive order from the SECor do so in accordance with existing regulatory guidance. We do not expect to make co-investments, or otherwise compete forinvestment opportunities, with Fund IV because its focus and investment strategy differ from our own.Our Investment Advisor is led by Joseph B. Alala, III, our chief executive officer, president, chairman of our Board of Directors,(the “Board”), and the managing partner and chief investment officer of our Investment Advisor, Hunt Broyhill, a partner of ourInvestment Advisor, Stephen A. Arnall, our chief financial officer, and John F. McGlinn, our chief operating officer, secretary andtreasurer, and a director of our Investment Advisor. Messrs. Alala, Broyhill and McGlinn serve as our Investment Advisor’sinvestment committee. They are assisted by Christopher B. Norton, who serves as the chief risk officer and a director of ourInvestment Advisor, Michael S. Marr, Chuck Cox and Richard Wheelahan who each serve as directors of our Investment Advisor,as well as eighteen other investment professionals.2 TABLE OF CONTENTSOur Investment Advisor’s investment committee, as well as certain key investment team members that are involved inscreening and underwriting portfolio transactions, have worked together for more than ten years. These investment professionalshave an average of over 20 years of experience in various finance-related fields, including operations, corporate finance,investment banking, business law and merchant banking, and have collectively developed a broad network of contacts that canoffer us investment opportunities. Much of our Investment Advisor’s investment team has worked together screeningopportunities, underwriting new investments and managing a portfolio of investments in smaller and lower middle-marketcompanies through two recessions, a credit crunch, the dot-com boom and bust and a historic, leverage-fueled asset valuationbubble.INVESTMENTSWe will engage in various investment strategies from time to time in order to achieve our overall lending and investmentobjectives. Our strategies will generally require current cash yields and sensible leverage and fixed charge coverage ratios andeither a first- or second-lien position (subject to limited instances in which we will not obtain security) in the collateral of theportfolio company. The strategy we select will depend upon, among other things, market opportunities, the skills and experienceof our Investment Advisor’s investment team, the result of our financial, operational and strategic evaluation of the opportunity,and our overall portfolio composition. Most of our existing debt investments offer, and we expect most of our future debtinvestments will offer, the opportunity to participate in a borrower’s equity performance through warrant participation, directequity ownership or otherwise, and many notes that we purchase will require the borrower to pay an early termination fee.Collectively, these attributes have been, and are expected to be, important contributors to the returns generated by our InvestmentAdvisor’s investment team.The Investment Advisor’s investment team uses a disciplined investment, portfolio monitoring and risk management processthat emphasizes strict underwriting standards and guidelines, strong due diligence investigation, regular portfolio review, analysisand performance-guided responses, and proper investment diversification. We allocate capital among different industries,geographies and private equity sponsors on the basis of relative risk/reward profiles as a function of their associated downside risk,volatility, perceived fundamental risk and our ability to obtain favorable investment protection terms.Types of InvestmentsWe will target debt investments that yield meaningful current income and, in many cases, provide the opportunity for capitalappreciation through equity securities. In each case, the following criteria and guidelines are applied to the review of a potentialinvestment; however, not all criteria are met in every single investment in our portfolio, nor do we guarantee that all criteria willbe met in the investments we will make in the future.•Established Companies With Positive Cash Flow. We seek to invest in established companies with a history ofgenerating revenues and positive cash flows. We intend to focus on companies with a history of profitability and minimumtrailing twelve-month EBITDA of $5 million. We do not intend to invest in start-up companies, distressed or “turn-around”situations or companies with business plans that we do not understand.•Experienced Management Teams with Meaningful Investment. We seek to invest in companies in which senior or keymanagers have significant company- or industry-level experience and have significant equity ownership. It has been ourexperience that these management teams are more committed to the company’s success and more likely to manage thecompany in a manner that protects our debt and equity investments.•Significant Invested Capital. We believe that the existence of an appropriate amount of equity beneath our debt capitalprovides valuable support for our investment. In addition, the degree to which the particular investment is a meaningfulone for the portfolio company’s financial sponsor, and the financial sponsor’s ability and willingness to invest additionalequity capital as and to the extent necessary, are also important considerations.3 TABLE OF CONTENTS•Appropriate Capital Structures. We seek to invest in companies that are appropriately capitalized. First, we examine theamount of equity that is being invested by the company’s private equity sponsor to determine whether there is a sufficientcapital cushion beneath our invested capital. We also analyze the amount of leverage, and the characteristics of senior debtwith lien priority over our investment.•Strong Competitive Position. We intend to invest in companies that have developed strong, defensible product or serviceofferings within their respective market segments. These companies should be well positioned to capitalize on organic andstrategic growth opportunities, and should compete in industries with strong fundamentals and meaningful barriers toentry. We further analyze prospective portfolio investments in order to identify competitive advantages within theirindustry, which may result in superior operating margins or industry-leading growth.•Customer and Supplier Diversification. We expect to invest in companies with sufficiently diverse customer and supplierbases. We believe these companies will be better able to endure industry consolidation, economic contraction andincreased competition than those that are not sufficiently diversified. However, we also recognize that from time to time,an attractive investment opportunity with some concentration among its customer base or supply chain will present itself.We believe that concentration issues can be evaluated and, in some instances (whether due to supplier or customer productor platform diversification, the existence and quality of long-term agreements with such customers or suppliers or otherselect factors), mitigated, thus presenting a superior risk-adjusted pricing scenario.Debt InvestmentsThe Investment Advisor’s investment team tailors the terms of each debt investment to the facts and circumstances of thetransaction, the needs of the prospective portfolio company and, as applicable, its financial sponsor, negotiating a structure thatseeks to protect our rights and manage our risk while creating incentives for the portfolio company to achieve its business plan. Asof December 31, 2014, 36.7% of our debt investments were secured by a first lien on the assets of the portfolio company, 62.0% ofour debt investments were secured by a second lien on the assets of the portfolio company and 1.3% of our debt investments wereunsecured. We expect our primary source of return to be the monthly cash interest we will collect on our debt investments. We alsotypically seek the Board observation rights with each portfolio company and we offer (and have historically provided) managerialand strategic assistance to these companies. We seek to further protect invested principal by negotiating appropriate affirmative,negative and financial covenants in our debt documents that are conservative enough to represent a prudent cushion at closing orto budgeted projections, but that are flexible enough to afford our portfolio companies and their financial sponsors sufficientlatitude to allow them to grow their businesses. Typical covenants include default triggers and remedies (including penalties), lienprotection, leverage and fixed charge coverage ratios, change of control provisions and put rights. Most of our loans feature callprotection to enhance our total return on debt investments that are repaid prior to maturity.Most of our debt investments are structured as senior subordinated notes. On a fair market value basis, 60.3% of our debtinvestments consist of senior subordinated notes as of December 31, 2014. Senior subordinated notes are subordinate to seniordebt provided by financial institutions (primarily, asset-based revolving credit facilities and, in some cases, term loans) but seniorto other subordinated notes, including junior subordinated notes and seller notes. Our senior subordinated notes are typicallyissued with five-year terms. Some senior subordinated notes have payment-in-kind (“PIK”) interest, which is a form of interest thatis not paid currently in cash, but is accrued and added to the loan balance until paid at the end of the term. While we generallyseek to minimize the percentage of our fixed return that is in the form of PIK interest, we sometimes receive PIK due to prevailingmarket conditions that do not support the overall blended interest yield on our debt investments being paid in all-cash interest. Asof December 31, 2014, our weighted average PIK yield in our debt investments is 0.6%. In addition to yield in the form of currentcash and PIK interest, most of our debt investments include an equity component, such as a warrant to purchase a common equityinterest in the borrower for a nominal price. As of December 31, 2014, the weighted average annualized yield on all of ouroutstanding debt investments was 12.5%, the weighted average annualized yield, excluding PIK interest, was 11.9% and 40.0% ofour debt investments came with detachable warrants.4 TABLE OF CONTENTSWe also opportunistically structure certain debt investments as senior secured or unitranche notes and as of December 31,2014, 16.4% of the fair value of our debt investments consisted of such investments. Senior secured loans will typically providefor a fixed interest rate and may contain some minimum amount of principal amortization, excess cash flow sweep feature,prepayment penalties, or any combination of the foregoing. Senior secured loans are secured by a first priority lien in all existingand future assets of the borrower and may take the form of term loans or delayed draw facilities. As of December 31, 2014, 23.3%of the fair value of our portfolio’s debt investments consisted of senior secured term loans with liens that are subordinated only toa senior secured revolving credit facility provider. Unitranche debt financing typically involves issuing one debt security thatblends the risk and return profiles of both senior secured and subordinated debt in one debt security. We believe that unitranchedebt can be attractive for many smaller and lower middle-market businesses, given the reduced structural complexity, singlelender interface and elimination of intercreditor or potential agency conflicts among lenders.Equity InvestmentsWhen we make a debt investment, we may be granted equity participation in the form of detachable warrants to purchasecommon equity in the company in the same class of security that the owners or equity sponsors receive upon funding. In addition,we may make non-control equity co-investments in conjunction with a loan transaction with a borrower. The Investment Advisor’sinvestment team generally seeks to structure our equity investments, such as direct equity co-investments, to provide us withminority rights provisions and, as and to the extent available, event-driven put rights. They also seek to obtain limited registrationrights in connection with these investments, which may include “piggyback” registration rights. In addition to warrants andequity co-investments, our debt investments in the future may contain a synthetic equity position.INVESTMENT PROCESSOur Investment Advisor’s investment team is led by its investment committee and is responsible for all aspects of ourinvestment process. The current members of the investment committee are Joseph B. Alala, III, our chief executive officer,president, chairman of our Board and the managing partner and chief investment officer of our Investment Advisor, Hunt Broyhill,a partner of our Investment Advisor, and John F. McGlinn, our chief operating officer, secretary and treasurer, and a director of ourInvestment Advisor. Christopher B. Norton serves as chief risk officer and a director of our Investment Advisor. RichardWheelahan, our chief compliance officer, Michael S. Marr, Kenneth S. Berryman, Randall Fontes, Chuck Cox, Adam Richeson andMario Shaffer, serve as directors of our Investment Advisor, and Davis Hutchens, Casey Swercheck, Eric Althofer, Michael Grahamand Christian MacCarron each serve as vice presidents of our Investment Advisor. While the investment strategy involves a teamapproach, whereby potential transactions are screened by various members of the investment team, Mr. Alala and one othermember of the investment committee of the Investment Advisor must approve investments in order for them to proceed. Messrs.Alala and McGlinn meet weekly and, together with Mr. Broyhill, on an as needed basis, depending on the nature and volume ofinvestment opportunities. The Investment Advisor’s investment committee has worked together for over ten years. The stages ofour investment selection process are as follows:Deal Generation/OriginationDeal generation and origination is maximized through long-standing and extensive relationships with industry contacts,brokers, commercial and investment bankers, entrepreneurs, service providers (such as lawyers and accountants), as well as currentand former clients, portfolio companies and investors. Our Investment Advisor’s investment team supplements these leadgenerators by also utilizing broader marketing efforts, such as attendance at prospective borrower industry conventions, an activecalling effort to investment banking boutiques, private equity firms and independent sponsors that are also investing in highquality smaller and lower middle-market companies, and, most importantly, based on our Investment Advisor’s track record as aresponsive, flexible, value-add lender and co-investor, as demonstrated by 96 investments in lower middle-market and traditionalmiddle-market businesses and equity co-investments with reputed private equity firms. We have developed a reputation as aknowledgeable and reliable source of capital, providing value-added industry advice and financing assistance to borrowers’businesses and in executing financial sponsors’ growth strategies. Furthermore, with offices throughout the United States, we havethe ability to5 TABLE OF CONTENTScover a large geographical area and to market to unique groups from each office. Specifically, our Charlotte, Louisville, Raleigh,Fort Lauderdale, Atlanta, Washington D.C., and Los Angeles offices cover significant territory that is traditionally underserved,allowing us to source a high volume of direct deal flow.ScreeningAll potential investments that are received are screened for suitability and consistency with our investment criteria (see“— Due Diligence and Underwriting,” below). In screening potential investments, our Investment Advisor’s investment teamutilizes the same value-oriented investment philosophy they employed in their work with the Legacy Funds and commitsresources to managing downside exposure. If a potential investment meets our basic investment criteria, a deal team is assigned toperform preliminary due diligence. In doing so, we consider some or all of the following factors:•A comprehensive financial model that we prepare based on quantitative analysis of historical financial performance,financial projections made by management or the financial sponsor, as the case may be, and pro forma financial ratiosassuming an investment consistent with possible structures. In analyzing our model, we test various investment structures,pricing options, downside scenarios and other sensitivities in order to better understand potential risks and possiblefinancial covenant ratios.•The competitive landscape and industry dynamics impacting the potential portfolio company;•Strengths and weaknesses of the potential investment’s business strategy and industry outlook; and•Results of a broad qualitative analysis of the company’s products or services, market position and outlook, customers,suppliers and quality of management.If the results of this preliminary due diligence are satisfactory, the deal team prepares an executive summary that is presentedto certain members our Investment Advisor’s investment committee in a meeting that includes all members of the portfolio andinvestment teams. This executive summary includes the following areas:•Company history and summary of product(s) and/or service(s);•An overview of investors, anticipated capital sources and transaction timing;•Investment structure and expected returns, including initial projected financial ratios;•Analysis of historical financial results and key assumptions;•Analysis of company’s business strategy;•Analysis of financial sponsor’s relevant experience or expected strategy;•Investment strengths, weaknesses and priority issues to be addressed in due diligence; and•Pro forma capitalization and ownership.If our investment committee recommends moving forward, we issue a non-binding term sheet or indication of interest to thepotential portfolio company and, when applicable, its financial sponsor. If a term sheet is successfully negotiated, we begin moreformal due diligence and underwriting as we progress towards ultimate investment approval and closing.Due Diligence and UnderwritingThe completion of due diligence deliverables is led by at least two investment professionals; however, all investment andportfolio team members are regularly updated with due diligence progress, especially any issues that emerge. The two investmentprofessionals leading the due diligence efforts are typically assigned to the original deal team that worked on the executivesummary; however, post-term sheet deal teams sometimes contain one or more additional investment professionals and mayinclude other professionals from business development, portfolio or other areas if a particular skill or experience set would beespecially valuable in the due diligence process. The members of the underwriting team complete due diligence and analyze the6 TABLE OF CONTENTSrelationships among the prospective portfolio company’s business plan, operations and expected financial performance. Duediligence touches upon some or all of the following:•On-site visits with management and relevant key employees;•In-depth review of historical and projected financial statements, including covenant calculation work sheets;•Interviews with customers and suppliers;•Management background checks;•Review of reports by third-party accountants, outside counsel and other industry, operational or financial experts, whetherretained by us, or the financial sponsor;•Review of material contracts; and•Review of financial sponsor’s due diligence package and internal executive summaries.Typically, we utilize outside experts to analyze the legal affairs, accounting systems and financial results and, whereappropriate, we engage specialists to investigate certain issues. During the underwriting process, significant, ongoing attention isdevoted to sensitivity analyses regarding whether a company might bear a significant “downside” case and remain profitable andin compliance with assumed financial covenants. These “downside” scenarios typically involve assumptions regarding the loss ofkey customers and/or suppliers, an economic downturn, adverse regulatory changes and other relevant stressors that we attempt tosimulate in our quantitative and qualitative analyses. Further, we continually examine the effect of these scenarios on financialratios and other metrics.During the underwriting process, the executive summary that was completed for the initial investment committee presentationis updated and changes are presented at subsequent, weekly meetings of the investment committee for continued discussion and,to the extent applicable, the investment committee issues new instructions to the underwriting team from the investmentcommittee.Approval, Documentation and ClosingThe underwriting team for the proposed investment presents the updated executive summary and key findings from duediligence to the investment committee on an ongoing, weekly basis. Prior to the commencement of documentation, approval fromthe investment committee is sought and, if approved, the underwriting professionals heretofore involved proceed todocumentation.At all times during the documentation process, the underwriting professionals who conducted the due diligence remaininvolved; likewise, all extensively negotiated documentation decisions are made by the lead underwriting team member, inaccordance with input from at least one investment committee member and guidance from outside counsel. As and to the extentnecessary, key documentation challenges are brought before the investment committee for prompt discussion and resolution.Upon the completion of satisfactory documentation and the satisfaction of closing conditions, final approval is sought from theinvestment committee before closing and funding.ONGOING RELATIONSHIPS WITH PORTFOLIO COMPANIESMonitoringOur Investment Advisor will monitor our portfolio companies on an ongoing basis. It will monitor the financial trends of eachportfolio company to determine if it is meeting its business plan and to assess the appropriate course of action for each company.We generally require our portfolio companies to provide annual audited financial statements, quarterly unaudited financialstatements, in each case, with management discussion and analysis and covenant compliance certificates, and monthly unauditedfinancial statements. Using the monthly financial statements, we calculate and evaluate all financial covenants and additionalfinancial coverage ratios that might not be part of our covenant package in the loan documents. For purposes of analyzing aportfolio company’s financial performance, we may adjust their financial statements to reflect pro forma results in the event of arecent change of control, sale, acquisition or anticipated cost savings.7 TABLE OF CONTENTSOur Investment Advisor has several methods of evaluating and monitoring the performance and fair value of our investments,including the following:•Assessment of success in adhering to each portfolio company’s business plan and compliance with covenants;•Periodic and regular contact with portfolio company management and, if appropriate, the financial or strategic sponsor, todiscuss financial position, requirements and accomplishments;•Comparisons to our other portfolio companies in the industry, if any;•Attendance at and participation in the board meetings; and•Review of monthly and quarterly financial statements and financial projections for portfolio companies.In addition to various risk management and monitoring tools, our Investment Advisor also uses an investment rating system tocharacterize and monitor our expected level of return on each investment in our portfolio.As part of our valuation procedures, we risk rate all of our investments. In general, our investment rating system uses a scale of1 to 5, with 1 being the lowest probability of default and principal loss. Our internal rating is not an exact system, but is usedinternally to estimate the probability of: (i) default on our debt securities and (ii) loss of our debt principal, in the event of adefault. In general, our internal rating system may also assist our valuation team in its determination of the estimated fair value ofequity securities or equity-like securities. Our internal risk rating system generally encompasses both qualitative and quantitativeaspects of our portfolio companies.Our internal investment rating system incorporates the following five categories: InvestmentRating Summary Description1 In general, the investment may be performing above our internal expectations. Fullreturn of principal and interest is expected. Capital gain is expected.2 In general, the investment may be performing within our internal expectations, andpotential risks to the applicable investment are considered to be neutral or favorablecompared to any potential risks at the time of the original investment. All newinvestments are initially given this rating.3 In general, the investment may be performing below our internal expectations andtherefore, investments in this category may require closer internal monitoring;however, the valuation team believes that no loss of investment return (interest and/ordividends) or principal is expected. The investment also may be out of compliancewith certain senior or senior subordinated debt financial covenants.4 In general, the investment may be performing below internal expectations andquantitative or qualitative risks may have increased materially since the date of theinvestment. Some loss of investment return and/or principal is expected.5 In general, the investment may be performing substantially below our internalexpectations and a number of quantitative or qualitative risks may have increasedsubstantially since the original investment. Loss of some or all principal is expected.Our Investment Advisor will monitor and, when appropriate, change the investment ratings assigned to each investment in ourportfolio. In connection with our valuation process, our Investment Advisor will review these investment ratings on a quarterlybasis, and our Board will affirm such ratings. The investment rating of a particular investment should not, however, be deemed tobe a guarantee of the investment’s future performance.8 TABLE OF CONTENTSThe following table shows the distribution of our investments on the 1 to 5 investment performance rating scale at fair value asof December 31, 2014 (dollars in thousands): Investment Performance Rating Investmentsat FairValue Percentageof TotalInvestments1 $146,471 30.5% 2 271,864 56.6 3 55,325 11.5 4 6,677 1.4 5 — — Total $480,337 100.0% The following table shows the distribution of our investments on the 1 to 5 investment performance rating scale at fair value asof December 31, 2013 (dollars in thousands): Investment Performance Rating Investmentsat FairValue Percentageof TotalInvestments1 $183,194 50.2% 2 129,721 35.5 3 44,680 12.3 4 7,124 2.0 5 — — Total $364,719 100.0% Valuation ProceduresWe will conduct the valuation of our assets, pursuant to which our net asset value shall be determined, at all times consistentwith GAAP, the 1940 Act and SBA valuation guidelines. Our valuation procedures are set forth in more detail below:Securities for which market quotations are readily available on an exchange shall be valued at such price as of the closingprice on the day of valuation. We may also obtain quotes with respect to certain of our investments from pricing services orbrokers or dealers in order to value assets. When doing so, we will determine whether the quote obtained is sufficient according toGAAP to determine the fair value of the security. If determined adequate, we will use the quote obtained.Securities for which reliable market quotations are not readily available or for which the pricing source does not provide avaluation or methodology or provides a valuation or methodology that, in the judgment of our Investment Advisor or the Board,does not represent fair value, shall each be valued as follows: (i) each portfolio company or investment is initially valued by theinvestment professionals responsible for the portfolio investment; (ii) preliminary valuation conclusions are documented anddiscussed with our senior management; (iii) independent third-party valuation firms engaged by, or on behalf of, the Board willconduct independent appraisals, review management’s preliminary valuations and prepare separate preliminary valuationconclusions on a selected basis such that each portfolio investment shall be independently reviewed at least annually(investments will not be selected for such review, however, if they (a) have a value as of the previous quarter of less than 2.0% ofour gross assets as of the previous quarter, or (b) have a value as of the current quarter of less than 2.0% of our gross assets as of theprevious quarter, after taking into account any repayment of principal during the current quarter); and (iv) the Board will discussvaluations and determine the fair value of each investment in our portfolio in good faith based on the input of the investmentadviser and, where appropriate, the respective third-party valuation firms.Determination of the fair value involves subjective judgments and estimates not susceptible to substantiation by auditingprocedures. Accordingly, under current auditing standards, the notes to our financial statements will refer to the uncertainty withrespect to the possible effect of such valuations, and any change in such valuations, on our financial statements. In addition, theSBA has established certain valuation guidelines for SBICs to follow when valuing portfolio investments.9 TABLE OF CONTENTSIn making the good faith determination of the value of these securities, we start with the cost basis of the security, whichincludes the amortized original issue discount and paid-in-kind interest or dividends, if any. We prepare the valuations of ourinvestments in portfolio companies using the most recent portfolio company financial statements and forecasts. We also consultupdates that we receive from senior management members at portfolio companies, whether solicited for valuation purposes, orreceived in the ordinary course of our portfolio monitoring or due diligence process. These updates include information such asindustry trends, new product development or service offerings and other operational or strategic issues.For debt securities that are not publicly traded or for which there is no market, we begin with our investment rating of thesecurity as described above. Using this investment rating, we seek to determine the value of the security as if we intended to sellthe security in a current sale. The factors that may be taken into account in arriving at fair value include the following, asapplicable: the portfolio company’s ability to service its interest and principal payment obligations, its estimated earnings andprojected discounted cash flows, the nature and realizable value of any collateral, the financial environment in which the portfoliocompany operates, comparisons to securities of similar publicly traded companies, statistical ratios compared to lending standardsand to other similarly situated securities and other relevant factors.As part of the fair valuation process, the audit committee reviews the preliminary evaluations prepared by the independentvaluation firm engaged by the Board, as well as management’s valuation recommendations. Management and the independentvaluation firm respond to the preliminary evaluation to reflect comments provided by the audit committee. The audit committeereviews the final valuation report and management’s valuation recommendations and makes a recommendation to the Board basedon its analysis of the methodologies employed and the various weights that should be accorded to each portion of the valuation aswell as factors that the independent valuation firm and management may not have considered in their evaluation process. TheBoard then evaluates the audit committee recommendations and undertakes a similar analysis to determine the fair value of eachinvestment in the portfolio in good faith.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 ready market existed forsuch investments, and the differences could be material. Additionally, changes in the market environment and other events thatmay occur over the life of the investments may cause the gains or losses ultimately realized on these investments to differ from thevaluations assigned at any time. For a discussion of the risks inherent in determining the fair value of securities for which readilyavailable market values do not exist, see “Risk Factors.”SBIC LICENSESFund II and Fund III, which are our wholly-owned subsidiaries, are licensed to act as SBICs and are regulated by the SBA. As ofDecember 31, 2014, investments in Fund II and Fund III accounted for approximately 15.5% and 50.6%, respectively, of our totalportfolio. As of December 31, 2014 Fund II and Fund III had $42.2 million and $150 million, respectively, of SBA-guaranteeddebentures outstanding under the SBIC program. Fund II and Fund III are fully drawn and may not make borrowings in excess oftheir aggregate $192.2 million of SBA-guaranteed debentures outstanding as of December 31, 2014The SBIC licenses allow our SBIC subsidiaries to borrow funds by issuing SBA-guaranteed debentures, subject to the issuanceof a capital commitment by the SBA and other customary procedures. The SBA regulations require, among other things, that alicensed SBIC be examined periodically and audited by an independent auditor to determine the SBIC’s compliance with therelevant SBA regulations.Under current SBA regulations, a licensed SBIC may provide capital to those entities that have a tangible net worth notexceeding $19.5 million and an average annual net income after U.S. federal income taxes not exceeding $6.5 million for the twomost recent fiscal years. In addition, a licensed SBIC must devote 25.0% of its investment activity to those entities that have atangible net worth not exceeding $6.0 million and an average annual net income after U.S. federal income taxes not exceeding$2.0 million for the two most recent fiscal years. The SBA regulations also provide alternative size standard criteria to determineeligibility, which depend on the industry in which the business is engaged and are based on factors such as the number ofemployees and gross sales. The SBA regulations permit licensed SBICs to make long-term loans to small businesses, invest in theequity securities of such businesses and provide them with consulting and advisory10 TABLE OF CONTENTSservices. The SBA also places certain limitations on the financing terms of investments by SBICs in portfolio companies andprohibits SBICs from providing funds for certain purposes or to businesses in a few prohibited industries. Compliance with SBArequirements may cause Fund II and Fund III to forego attractive investment opportunities that are not permitted under SBAregulations.Further, the SBA regulations require that a licensed SBIC be periodically examined and audited by the SBA to determine itscompliance with the relevant SBA regulations. The SBA prohibits, without prior SBA approval, a “change of control” of an SBICor transfers that would result in any person (or a group of persons acting in concert) owning 10.0% or more of a class of capitalstock of a licensed SBIC. If either Fund II or Fund III fails to comply with applicable SBA regulations, the SBA could, dependingon the severity of the violation, limit or prohibit Fund II’s and Fund III’s use of debentures, declare outstanding debenturesimmediately due and payable, and/or limit Fund II and Fund III from making new investments. Such actions by the SBA would, inturn, negatively affect us because Fund II and Fund III are our wholly-owned subsidiaries. Fund II and Fund III were in compliancewith the terms of the SBA’s leverage as of December 31, 2014 as a result of having sufficient capital as defined under the SBAregulations.AGREEMENTSInvestment Advisory AgreementOur Investment Advisor is registered as an investment adviser under the Advisers Act. Subject to the overall supervision of ourBoard, our Investment Advisor manages our day-to-day operations, and provides Investment Advisory and management servicesto us. Under the terms of our Investment Advisory Agreement, the Investment Advisor.•determines the composition of our portfolio, the nature and timing of the changes to our portfolio and the manner ofimplementing such changes;•identifies, evaluates and negotiates the structure of the investments we make (including performing due diligence on ourprospective portfolio companies);•closes and monitors the investments we make; and•provides us with other investment advisory, research and related services as we may from time to time require.The Investment Advisor’s services under the Investment Advisory Agreement are not exclusive, and it is free to furnish similarservices to other entities so long as its services to us are not impaired.Management FeePursuant to the Investment Advisory Agreement, we have agreed to pay the Investment Advisor a fee for investment advisoryand management services consisting of two components — a base management fee and an incentive fee.The base management fee is calculated at an annual rate of 1.75% of our gross assets, which is our total assets as reflected onour balance sheet and includes any borrowings for investment purposes. Although we do not anticipate making significantinvestments in derivative financial instruments, the fair value of any such investments, which will not necessarily equal theirnotional value, will be included in our calculation of gross assets. For services rendered under the Investment AdvisoryAgreement, the base management fee is payable quarterly in arrears. The base management fee was initially calculated based onthe value of our gross assets at the end of the first calendar quarter subsequent to consummation of our IPO, and thereafter iscalculated based on the average value of our gross assets at the end of the two most recently completed calendar quarters, andappropriately adjusted for any share issuances or repurchases during the current calendar quarter. For the first twelve monthsfollowing our IPO, the Investment Advisor waived the portion of the base management fee payable on cash and cash equivalentsheld at the Capitala Finance level, excluding cash and cash equivalents held by the Legacy Funds that was acquired by CapitalaFinance in connection with the Formation Transactions.11 TABLE OF CONTENTSThe incentive fee has two parts. The first part of the incentive fee is calculated and payable quarterly in arrears based on ourpre-incentive fee net investment income for the immediately preceding calendar quarter. For this purpose, pre-incentive fee netinvestment income means interest income, dividend income and any other income (including any other fees (other than fees forproviding managerial assistance), such as commitment, origination, structuring, diligence and consulting fees or other fees that wereceive from portfolio companies) accrued during the calendar quarter, minus our operating expenses for the quarter (including thebase management fee, expenses payable under the Administration Agreement to our administrator, and any interest expense anddividends paid on any issued and outstanding preferred stock, but excluding the incentive fee). Pre-incentive fee net investmentincome includes, in the case of investments with a deferred interest feature (such as original issue discount, debt instruments withPIK interest and zero coupon securities), accrued income that we have not yet received in cash. Pre-incentive fee net investmentincome does not include any realized capital gains, computed net of all realized capital losses or unrealized capital appreciationor depreciation. Pre-incentive fee net investment income, expressed as a rate of return on the value of our net assets at the end ofthe immediately preceding calendar quarter, is compared to a hurdle of 2.0% per quarter (8.0% annualized). Our net investmentincome used to calculate this part of the incentive fee is also included in the amount of our gross assets used to calculate the1.75% base management fee. We pay the Investment Advisor an incentive fee with respect to our pre-incentive fee net investmentincome in each calendar quarter as follows:•no incentive fee in any calendar quarter in which our pre-incentive fee net investment income does not exceed the hurdleof 2.0%;•100% of our pre-incentive fee net investment income with respect to that portion of such pre-incentive fee net investmentincome, if any, that exceeds the hurdle but is less than 2.5% in any calendar quarter (10.0% annualized). We refer to thisportion of our pre-incentive fee net investment income (which exceeds the hurdle but is less than 2.5%) as the “catch-up.”The “catch-up” is meant to provide our Investment Advisor with 20% of our pre-incentive fee net investment income as ifa hurdle did not apply if this net investment income exceeds 2.5% in any calendar quarter; and•20% of the amount of our pre-incentive fee net investment income, if any, that exceeds 2.5% in any calendar quarter(10.0% annualized) is payable to Capitala Investment Advisors (once the hurdle is reached and the catch-up is achieved,20% of all pre-incentive fee investment income thereafter is allocated to Capitala Investment Advisors).The following is a graphical representation of the calculation of the income-related portion of the incentive fee:Quarterly Incentive Fee Based on Net Investment IncomePre-incentive fee net investment income(expressed as a percentage of the value of net assets)Percentage of pre-incentive fee net investment income allocated to the Capitala Investment AdvisorsThese calculations are appropriately pro-rated for any period of less than three months and adjusted for any share issuances orrepurchases during the relevant quarter. You should be aware that a rise in the general level of interest rates can be expected tolead to higher interest rates applicable to our debt investments. Accordingly, an increase in interest rates would make it easier forus to meet or exceed the incentive fee hurdle rate and may result in a substantial increase of the amount of incentive fees payableto our Investment Advisor with respect to pre-incentive fee net investment income.The second part of the incentive fee is determined and payable in arrears as of the end of each calendar year (or upontermination of the Investment Advisory Agreement, as of the termination date), and will equal 20% of our realized capital gains, ifany, on a cumulative basis from inception through the end of each calendar year, computed net of all realized capital losses andunrealized capital depreciation on a cumulative12 TABLE OF CONTENTSbasis, less the aggregate amount of any previously paid capital gain incentive fees with respect to each of the investments in ourportfolio, provided that, the incentive fee determined as of December 31, 2013 was calculated for a period of shorter than twelvecalendar months to take into account any realized capital gains computed net of all realized capital losses and unrealized capitaldepreciation from the inception of Capitala Finance.We will defer cash payment of the portion of any incentive fee otherwise earned by our Investment Advisor that would, whentaken together with all other incentive fees paid to our Investment Advisor during the most recent 12 full calendar month periodending on or prior to the date such payment is to be made, exceed 20% of the sum of (a) our pre-incentive fee net investmentincome during such period, (b) our net unrealized appreciation or depreciation during such period and (c) our net realized capitalgains or losses during such period. Any deferred incentive fees will be carried over for payment in subsequent calculation periodsto the extent such payment is payable under the Investment Advisory Agreement. Such deferred amounts will be calculated usinga period of shorter than 12 full calendar months until 12 full calendar months have passed since completion of our initial publicoffering.Examples of Quarterly Incentive Fee CalculationExample 1: Income Related Portion of Incentive Fee*Alternative 1:AssumptionsInvestment income (including interest, dividends, fees, etc.) = 1.25%Hurdle rate(1) = 2.0%Management fee(2) = 0.50%Other expenses (legal, accounting, custodian, transfer agent, etc.)(3) = 0.20%Pre-incentive fee net investment income(investment income – (management fee + other expenses)) = 0.55%Pre-incentive net investment income does not exceed hurdle rate, therefore there is no incentive fee.Alternative 2:AssumptionsInvestment income (including interest, dividends, fees, etc.) = 2.9%Hurdle rate(1) = 2.0%Management fee(2) = 0.50%Other expenses (legal, accounting, custodian, transfer agent, etc.)(3) = 0.20%Pre-incentive fee net investment income(investment income – (management fee + other expenses)) = 2.2%Incentive fee = 100% × pre-incentive fee net investment income, subject to the “catch-up”(4) = 100% × (2.2% – 2.0%) = 0.20%Pre-incentive fee net investment income exceeds the hurdle rate, but does not fully satisfy the “catch-up” provision, thereforethe income related portion of the incentive fee is 0.20%.*The hypothetical amount of pre-incentive fee net investment income shown is based on a percentage of total net assets.(1)Represents 8.0% annualized hurdle rate.(2)Represents 2.00% annualized management fee.(3)Excludes organizational and offering expenses.(4)The “catch-up” provision is intended to provide the Adviser with an incentive fee of 20% on all of Capitala Finance’s pre-incentive fee net investment income as if a hurdle rate did not apply when its net investment income exceeds 2.5% in anycalendar quarter.13 TABLE OF CONTENTSAlternative 3:AssumptionsInvestment income (including interest, dividends, fees, etc.) = 3.50%Hurdle rate(1) = 2.0%Management fee(2) = 0.50%Other expenses (legal, accounting, custodian, transfer agent, etc.)(3) = 0.20%Pre-incentive fee net investment income(investment income – (management fee + other expenses)) = 2.80%Incentive fee = 20% × pre-incentive fee net investment income, subject to “catch-up”(4)Incentive fee = 100%דcatch-up” + (20%×(pre-incentive fee net investment income – 2.5%))Catch-up = 2.5% – 2.0% = 0.5%Incentive fee = (100% × 0.5%) + (20% × (2.80% – 2.5%)) = 0.5% + (20%×0.3%) = 0.5% + 0.06% = 0.56%Pre-incentive fee net investment income exceeds the hurdle rate, and fully satisfies the “catch-up” provision, therefore theincome related portion of the incentive fee is 0.56%.Example 2: Capital Gains Portion of Incentive FeeAlternative 1:Assumptions•Year 1: $20 million investment made in Company A (“Investment A”), and $30 million investment made in Company B(“Investment B”)•Year 2: Investment A sold for $50 million and fair market value (“FMV”) of Investment B determined to be $32 million•Year 3: FMV of Investment B determined to be $25 million•Year 4: Investment B sold for $31 millionThe capital gains portion of the incentive fee would be:•Year 1: None•Year 2: Capital gains incentive fee of $6 million ($30 million realized capital gains on sale of Investment A multiplied by20%)•Year 3: None$5 million (20% multiplied by ($30 million cumulative capital gains less $5 million cumulative capital depreciation)) less $6million (previous capital gains fee paid in Year 2).•Year 4: Capital gains incentive fee of $200,000$6.2 million ($31 million cumulative realized capital gains multiplied by 20%) less $6 million (capital gains fee taken in Year2).(1)Represents 8.0% annualized hurdle rate.(2)Represents 2.00% annualized management fee.(3)Excludes organizational and offering expenses.(4)The “catch-up” provision is intended to provide the Adviser with an incentive fee of 20% on all of Capitala Finance’s pre-incentive fee net investment income as if a hurdle rate did not apply when its net investment income exceeds 2.5% in anycalendar quarter.14 TABLE OF CONTENTSAlternative 2:Assumptions•Year 1: $20 million investment made in Company A (“Investment A”), $30 million investment made in Company B(“Investment B”) and $25 million investment made in Company C (“Investment C”)•Year 2: Investment A sold for $50 million, FMV of Investment B determined to be $25 million and FMV of Investment Cdetermined to be $25 million•Year 3: FMV of Investment B determined to be $27 million and Investment C sold for $30 million•Year 4: FMV of Investment B determined to be $24 million•Year 5: Investment B sold for $20 millionThe capital gains incentive fee, if any, would be:•Year 1: None•Year 2: $5 million capital gains incentive fee20% multiplied by $25 million ($30 million realized capital gains on Investment A less unrealized capital depreciation onInvestment B).•Year 3: $1.4 million capital gains incentive fee(1)$6.4 million (20% multiplied by $32 million ($35 million cumulative realized capital gains less $3 million unrealized capitaldepreciation)) less $5 million capital gains fee received in Year 2.•Year 4: None•Year 5: None$5 million (20% multiplied by $25 million (cumulative realized capital gains of $35 million less realized capital losses of $10million)) less $6.4 million cumulative capital gains fee paid in Year 2 and Year 3.Example 3: Application of the Incentive Fee Deferral MechanismAssumptions•In each of Years 1 through 4 in this example pre-incentive fee net investment income equals $40.0 million per year, whichwe recognized evenly in each quarter of each year and paid quarterly. This amount exceeds the hurdle rate and therequirement of the “catch-up” provision in each quarter of such year. As a result, the annual income related portion of theincentive fee, before the application of the deferral mechanism in any year is $8.0 million ($40.0 million multiplied by20%). All income-related incentive fees were paid quarterly in arrears.•In each year preceding Year 1, we did not generate realized or unrealized capital gains or losses, no capital gain-relatedincentive fee was paid and there was no deferral of incentive fees.•Year 1: We did not generate realized or unrealized capital gains or losses.•Year 2: We realized a $30.0 million capital gain and did not otherwise generate realized or unrealized capital gains orlosses.•Year 3: We recognized $5.0 million of unrealized capital depreciation and did not otherwise generate realized orunrealized capital gains or losses.•Year 4: We realized a $6.0 million capital gain and did not otherwise generate realized or unrealized capital gains orlosses.(1)As illustrated in Year 3 of Alternative 1 above, if the Company were to be wound up on a date other than December 31 of anyyear, the Company may have paid aggregate capital gain incentive fees that are more than the amount of such fees that wouldbe payable if the Company had been wound up on December 31 of such year.15 TABLE OF CONTENTS Income Related IncentiveFee AccruedBefore Applicationof DeferralMechanism Capital Gains RelatedIncentive FeeAccrued BeforeApplication of DeferralMechanism Incentive FeeCalculations Incentive Fees PaidandDeferredYear 1 $8.0 million($40.0 millionmultiplied by 20%) None $8.0 million Incentive fees of$8.0 million paid; noincentive fees deferredYear 2 $8.0 million($40.0 millionmultiplied by 20%) $6.0 million (20% of$30.0 million) $14.0 million Incentive fees of$14.0 million paid; noincentive fees deferredYear 3 $8.0 million($40.0 millionmultiplied by 20%) None (20% ofcumulative net capitalgains of $25.0 million($30.0 million incumulative realizedgains less $5.0 millionin cumulativeunrealized capitaldepreciation) less$6.0 million of capitalgains fee paid inYear 2) $7.0 million (20% ofthe sum of (a) ourpre-incentive fee netinvestment income,(b) our net unrealizedappreciation ordepreciation duringsuch period and(c) our net realizedcapital gains or lossesduring Year 3) Incentive fees of$7.0 million paid;$8.0 million ofincentive fees accruedbut payment restrictedto $7.0 million;$1.0 million ofincentive fees deferredYear 4 $8.0 million($40.0 millionmultiplied by 20%) $0.2 million (20% ofcumulative net capitalgains of $31.0 million($36.0 millioncumulative realizedcapital gains less$5.0 millioncumulative unrealizedcapital depreciation)less $6.0 million ofcapital gains fee paidin Year 2) $8.2 million Incentive fees of$9.2 million paid($8.2 million ofincentive fees accruedin Year 4 plus$1.0 million of deferredincentive fees); noincentive fees deferredPayment of Our ExpensesThe investment team of our Investment Advisor and their respective staffs, when and to the extent engaged in providinginvestment advisory and management services, and the compensation and routine overhead expenses of such personnel allocableto such services, are provided and paid for by the Investment Advisor. We bear all other costs and expenses of our operations andtransactions, including (without limitation):•the cost of our organization;•the cost of calculating our net asset value, including the cost of any third-party valuation services;•the cost of effecting sales and repurchases of our shares and other securities;•interest payable on debt, if any, to finance our investments;•fees payable to third parties relating to, or associated with, making investments (such as legal, accounting and travelexpenses incurred in connection with making investments), including fees and expenses associated with performing duediligence reviews of prospective investments and advisory fees;•transfer agent and custodial fees;16 TABLE OF CONTENTS•fees and expenses associated with marketing efforts;•costs associated with our reporting and compliance obligations under the 1940 Act, the Exchange Act and otherapplicable federal and state securities laws, and ongoing stock exchange fees;•federal, state and local taxes;•independent directors’ fees and expenses;•brokerage commissions;•costs of proxy statements, stockholders’ reports and other communications with stockholders;•fidelity bond, directors’ and officers’ liability insurance, errors and omissions liability insurance and other insurancepremiums;•direct costs and expenses of administration, including printing, mailing, telephone and staff;•fees and expenses associated with independent audits and outside legal costs; and•all other expenses incurred by either our administrator or us in connection with administering our business, includingpayments under the Administration Agreement that will be based upon our allocable portion of overhead and otherexpenses incurred by our administrator in performing its obligations under the Administration Agreement, including rent,the fees and expenses associated with performing compliance functions, and our allocable portion of any costs ofcompensation and related expenses of our chief compliance officer and our chief financial officer and any administrativesupport staff.Duration and TerminationThe Investment Advisory Agreement was initially approved by the Board on June 10, 2013 and signed on September 24,2013. Unless earlier terminated as described below, the Investment Advisory Agreement will remain in effect for a period of twoyears from the date it was signed and will remain in effect from year to year thereafter if approved annually by our Board or by theaffirmative vote of the holders of a majority of our outstanding voting securities, including, in either case, approval by a majorityof our directors who are not parties to such agreement or who are not “interested persons” of any such party, as such term is definedin Section 2(a)(19) of the 1940 Act. The Investment Advisory Agreement will automatically terminate in the event of itsassignment. The Investment Advisory Agreement may also be terminated by either party without penalty upon not less than 60days’ written notice to the other party. See “Risk Factors — Risks Relating to Our Business and Structure — Our InvestmentAdvisor will have the right to resign on 60 days’ notice.”IndemnificationThe Investment Advisory Agreement provides that, absent willful misfeasance, bad faith or gross negligence in theperformance of its duties or by reason of the reckless disregard of its duties and obligations, the Investment Advisor and itsofficers, managers, partners, agents, employees, controlling persons, members and any other person or entity affiliated with it areentitled to indemnification from Capitala Finance for any damages, liabilities, costs and expenses (including reasonable attorneys’fees and amounts reasonably paid in settlement) arising from the rendering of the Investment Advisor’s services under theInvestment Advisory Agreement or otherwise as an investment adviser of Capitala Finance.Organization of the Investment AdvisorThe Investment Advisor is a Delaware limited liability company. The principal executive offices of the Investment Advisor islocated at 4201 Congress Street, Suite 360, Charlotte, North Carolina 28209.Administration AgreementCapitala Advisors Corp., a North Carolina corporation, serves as our administrator. The principal executive offices of ouradministrator are located at 4201 Congress Street, Suite 360, Charlotte, North Carolina 28209. Capitala Advisors Corp., pursuantto a sub-administration agreement, has engaged U.S. Bancorp Fund Services, LLC to act on behalf of the Administrator in itsperformance of certain administrative17 TABLE OF CONTENTSservices for us. The principal office of U.S. Bancorp Fund Services, LLC is 777 East Wisconsin Avenue, Milwaukee, WI 53202.Pursuant to the Administration Agreement, our administrator furnishes us with office facilities, equipment and clerical,bookkeeping and record keeping services at such facilities. Under the Administration Agreement, our administrator also performs,or oversees the performance of, our required administrative services, which include, among other things, being responsible for thefinancial records that we are required to maintain and preparing reports to our stockholders. In addition, our administrator assistsus in determining and publishing our net asset value, oversees the preparation and filing of our tax returns and the printing anddissemination of reports to our stockholders, and generally oversees the payment of our expenses and the performance ofadministrative and professional services rendered to us by others. Payments under the Administration Agreement are equal to anamount based upon our allocable portion of our administrator’s overhead in performing its obligations under the AdministrationAgreement, including rent, the fees and expenses associated with performing compliance functions and our allocable portion ofthe compensation of our chief financial officer, chief compliance officer and our allocable portion of the compensation of anyadministrative support staff. Under the Administration Agreement, our administrator will also provide on our behalf managerialassistance to those portfolio companies that request such assistance. The Administration Agreement has an initial term of twoyears and may be renewed with the approval of our Board. The Administration Agreement may be terminated by either partywithout penalty upon 60 days’ written notice to the other party. To the extent that our administrator outsources any of itsfunctions, we will pay the fees associated with such functions on a direct basis without any incremental profit to our administrator.Stockholder approval is not required to amend the Administration Agreement.Our administrator also provides administrative services to our Investment Advisor. As a result, the Investment Advisor will alsoreimburse our administrator for its allocable portion of our administrator’s overhead, including rent, the fees and expensesassociated with performing compliance functions for the Investment Advisor, and its allocable portion of the compensation of anyadministrative support staff.The Administration Agreement provides that, absent willful misfeasance, bad faith or negligence in the performance of itsduties or by reason of the reckless disregard of its duties and obligations, our administrator and its officers, managers, partners,agents, employees, controlling persons, members and any other person or entity affiliated with it are entitled to indemnificationfrom Capitala Finance for any damages, liabilities, costs and expenses (including reasonable attorneys’ fees and amountsreasonably paid in settlement) arising from the rendering of our administrator’s services under the Administration Agreement orotherwise as administrator for Capitala Finance.License AgreementWe have entered into a license agreement with the Investment Advisor pursuant to which the Investment Advisor has agreed togrant us a non-exclusive, royalty-free license to use the name “Capitala.” Under this agreement, we have a right to use the Capitalaname for so long as the Investment Advisory Agreement with the Investment Advisor is in effect. Other than with respect to thislimited license, we will have no legal right to the “Capitala” name.StaffingCapitala Finance has no employees. Mr. Alala, through his financial interests in the Investment Advisor, will be entitled to aportion of any investment advisory fees paid by Capitala Finance to the Investment Advisor. Our other executive officers areemployees of our administrator and perform their functions under the terms of our Administration Agreement.Our day-to-day investment operations are managed by the Investment Advisor. The Investment Advisor’s investment teamcurrently consists of the members of its investment committee, Messrs. Alala, McGlinn and Broyhill, and a team of twenty-twoadditional investment professionals. The Investment Advisor may hire additional investment professionals, based upon its needs,in the future. See “Investment Advisory Agreement.”In addition, we reimburse our administrator for our allocable portion of overhead and other expenses incurred by it inperforming its obligations under the Administration Agreement, including rent, the fees and expenses associated with performingcompliance functions, and the compensation of our chief financial officer, chief compliance officer, and any administrativesupport staff. See “Administration Agreement.”18 TABLE OF CONTENTSVALUATION PROCESS AND DETERMINATION OF NET ASSET VALUEWe determine the net asset value of our investment portfolio each quarter by subtracting our total liabilities from the fair valueof our gross assets.We conduct the valuation of our assets, pursuant to which our net asset value shall be determined, at all times consistent withGAAP and the 1940 Act. Our valuation procedures are set forth in more detail below:Securities for which market quotations are readily available on an exchange shall be valued at such price as of the closingprice on the day of valuation. We may also obtain quotes with respect to certain of our investments from pricing services orbrokers or dealers in order to value assets. When doing so, we determine whether the quote obtained is sufficient according toGAAP to determine the fair value of the security. If determined adequate, we use the quote obtained.Securities for which reliable market quotations are not readily available or for which the pricing source does not provide avaluation or methodology or provides a valuation or methodology that, in the judgment of our Investment Advisor or the Board,does not represent fair value, which we expect will represent a substantial majority of the investments in our portfolio, shall bevalued as follows: (i) each portfolio company or investment is initially valued by the investment professionals responsible for theportfolio investment; (ii) preliminary valuation conclusions are documented and discussed with our senior management; (iii)independent third-party valuation firms engaged by, or on behalf of, the Board will conduct independent appraisals, reviewmanagement’s preliminary valuations and prepare separate preliminary valuation conclusions on a selected basis such that eachportfolio investment shall be independently reviewed at least annually (investments will not be selected for such review, however,if they (a) have a value as of the previous quarter of less than 2.0% of our gross assets as of the previous quarter, or (b) have a valueas of the current quarter of less than 2.0% of our gross assets as of the previous quarter, after taking into account any repayment ofprincipal during the current quarter); and (iv) the Board will discuss valuations and determine the fair value of each investment inour portfolio in good faith based on the input of the investment adviser and, where appropriate, the respective third-partyvaluation firms.The recommendation of fair value will generally be based on the following factors, as relevant:•the nature and realizable value of any collateral;•the portfolio company’s ability to make payments;•the portfolio company’s earnings and discounted cash flow;•the markets in which the issuer does business; and•comparisons to publicly traded securities.Securities for which market quotations are not readily available or for which a pricing source is not sufficient may include, butare not limited to, the following:•private placements and restricted securities that do not have an active trading market;•securities whose trading has been suspended or for which market quotes are no longer available;•debt securities that have recently gone into default and for which there is no current market;•securities whose prices are stale;•securities affected by significant events; and•securities that the investment adviser believes were priced incorrectly.Determination of fair value involves subjective judgments and estimates. Accordingly, the notes to our financial statementswill express the uncertainty with respect to the possible effect of such valuations, and any change in such valuations, on ourfinancial statements.19 TABLE OF CONTENTSDeterminations in Connection with OfferingsIn connection with certain future offerings of shares of our common stock, our Board or an authorized committee thereof willbe required to make the determination that we are not selling shares of our common stock at a price below the then current netasset value of our common stock at the time at which the sale is made. Our Board or an authorized committee thereof will considerthe following factors, among others, in making such a determination:•the net asset value of our common stock disclosed in the most recent periodic report that we filed with the SEC;•our management’s assessment of whether any material change in the net asset value of our common stock has occurred(including through the realization of gains on the sale of our portfolio securities) during the period beginning on the dateof the most recently disclosed net asset value of our common stock and ending as of a time within 48 hours (excludingSundays and holidays) of the sale of our common stock; and•the magnitude of the difference between (i) a value that our Board or an authorized committee thereof has determinedreflects the current (as of a time within 48 hours, excluding Sundays and holidays) net asset value of our common stock,which is based upon the net asset value of our common stock disclosed in the most recent periodic report that we filed withthe SEC, as adjusted to reflect our management’s assessment of any material change in the net asset value of our commonstock since the date of the most recently disclosed net asset value of our common stock, and (ii) the offering price of theshares of our common stock in the proposed offering.Moreover, to the extent that there is even a remote possibility that we may (i) issue shares of our common stock at a price pershare below the then current net asset value per share of our common stock at the time at which the sale is made or (ii) trigger theundertaking (which we provide in certain registration statements we file with the SEC) to suspend the offering of shares of ourcommon stock if the net asset value per share of our common stock fluctuates by certain amounts in certain circumstances until theprospectus is amended, our Board will elect, in the case of clause (i) above, either to postpone the offering until such time thatthere is no longer the possibility of the occurrence of such event or to undertake to determine the net asset value per share of ourcommon stock within two days prior to any such sale to ensure that such sale will not be below our then current net asset value pershare and, in the case of clause (ii) above, to comply with such undertaking or to undertake to determine the net asset value pershare of our common stock to ensure that such undertaking has not been triggered.These processes and procedures are part of our compliance policies and procedures. Records will be made contemporaneouslywith all determinations described in this section and these records will be maintained with other records that we are required tomaintain under the 1940 Act.COMPETITIONWe compete for investments with other BDCs and investment funds (including private equity funds, mezzanine funds andother SBICs), as well as traditional financial services companies such as commercial banks and other sources of funding.Additionally, competition for investment opportunities has emerged among alternative investment vehicles, such as CLOs andother BDCs, some of which are sponsored by other alternative asset investors, as these entities have begun to focus on makinginvestments in smaller and lower middle-market companies. As a result of these new entrants, competition for our investmentopportunities may intensify. Many of these entities have greater financial and managerial resources than we do. We believe wewill be able to compete with these entities primarily on the basis of our experience and reputation, our willingness to make smallerinvestments than other specialty finance companies, the contacts and relationships of our Investment Advisor, our responsive andefficient investment analysis and decision-making processes, and the investment terms we offer.We believe that certain of our competitors may make first and second lien loans with interest rates and returns that will becomparable to or lower than the rates and returns that we will target. Therefore, we will not seek to compete solely on the interestrates and returns that we offer to potential portfolio companies. For additional information concerning the competitive risks weface, see “Risk Factors — Risk Relating to Our20 TABLE OF CONTENTSBusiness and Structure — We operate in a highly competitive market for investment opportunities, which could reduce returnsand result in losses.”ELECTION TO BE TAXED AS A RICAs a BDC, the Company has elected to be treated, and intends to comply with the requirements to continue to qualifyannually, as a regulated investment company under Subchapter M of the Internal Revenue Code of 1986, as amended. As a RIC,we generally will not have to pay corporate-level U.S. federal income taxes on any income that we distribute to our stockholdersas dividends. To qualify as a RIC, we must, among other things, meet certain source-of-income and asset diversificationrequirements (as described below). In addition, to qualify for RIC tax treatment we must distribute to our stockholders, for eachtaxable year, at least 90% of our “investment company taxable income,” which generally is our ordinary income plus the excess ofour realized net short-term capital gains over our realized net long-term capital losses (the “Annual Distribution Requirement”).TAXATION AS A RICFor any taxable year in which we:•qualify as a RIC; and•satisfy the Annual Distribution Requirement,we generally will not be subject to U.S. federal income tax on the portion of our income we distribute (or are deemed to distribute)to stockholders. We will be subject to U.S. federal income tax at the regular corporate rates on any income or capital gains notdistributed (or deemed distributed) to our stockholders.We will be subject to a 4% nondeductible U.S. federal excise tax on certain undistributed income unless we distribute in atimely manner an amount at least equal to the sum of (1) 98% of our net ordinary income for each calendar year, (2) 98.2% of ourcapital gain net income for the one-year period ending October 31 in that calendar year and (3) any income recognized, but notdistributed, in preceding years and on which we paid no corporate-level U.S. federal income tax (the “Excise Tax DistributionRequirement”).In order to qualify as a RIC for U.S. federal income tax purposes, we must, among other things:•continue to qualify as a BDC under the 1940 Act at all times during each taxable year;•derive in each taxable year at least 90% of our gross income from dividends, interest, payments with respect to loans ofcertain securities, gains from the sale of stock or other securities, net income from certain “qualified publicly tradedpartnerships,” or other income derived with respect to our business of investing in such stock or securities (the “90%Income Test”); and•diversify our holdings so that at the end of each quarter of the taxable year:•at least 50% of the value of our assets consists of cash, cash equivalents, U.S. Government securities, securities of otherRICs, and other securities if such other securities of any one issuer do not represent more than 5% of the value of ourassets or more than 10% of the outstanding voting securities of the issuer; and•no more than 25% of the value of our assets is invested in the securities, other than U.S. government securities orsecurities of other RICs, of one issuer, of two or more issuers that are controlled, as determined under applicable Coderules, by us and that are engaged in the same or similar or related trades or businesses or of certain “qualified publiclytraded partnerships” (the “Diversification Tests”).Qualified earnings may exclude such income as management fees received in connection with our SBIC subsidiaries or otherpotential outside managed funds and certain other fees.In accordance with certain applicable Treasury regulations and private letter rulings issued by the IRS, a RIC may treat adistribution of its own stock as fulfilling its RIC distribution requirements if each stockholder may elect to receive his or her entiredistribution in either cash or stock of the RIC, subject to a limitation that the aggregate amount of cash to be distributed to allstockholders must be at least 20% of the aggregate21 TABLE OF CONTENTSdeclared distribution. If too many stockholders elect to receive cash, each stockholder electing to receive cash must receive a prorata amount of cash (with the balance of the distribution paid in stock). In no event will any stockholder, electing to receive cash,receive less than 20% of his or her entire distribution in cash. If these and certain other requirements are met, for U.S. federalincome tax purposes, the amount of the dividend paid in stock will be equal to the amount of cash that could have been receivedinstead of stock. We have no current intention of paying dividends in shares of our stock in accordance with these Treasuryregulations or private letter rulings.We may be required to recognize taxable income in circumstances in which we do not receive cash. For example, if we holddebt obligations that are treated under applicable tax rules as having original issue discount (such as debt instruments with PIKinterest or, in certain cases, increasing interest rates or issued with warrants), we must include in income each year a portion of theoriginal issue discount that accrues over the life of the obligation, regardless of whether cash representing such income is receivedby us in the same taxable year. We may also have to include in income other amounts that we have not yet received in cash, suchas PIK interest, deferred loan origination fees that are paid after origination of the loan or are paid in non-cash compensation suchas warrants or stock, or certain income with respect to equity investments in foreign corporations. Because any original issuediscount or other amounts accrued will be included in our investment company taxable income for the year of accrual, we may berequired to make a distribution to our stockholders in order to satisfy the Annual Distribution Requirement, even though we willnot have received any corresponding cash amount.Gain or loss realized by us from the sale or exchange of warrants acquired by us as well as any loss attributable to the lapse ofsuch warrants generally will be treated as capital gain or loss. Such gain or loss generally will be long-term or short-term,depending on how long we held a particular warrant.Although we do not presently expect to do so, we are authorized to borrow funds and to sell assets in order to satisfydistribution requirements. However, under the 1940 Act, we are not permitted to make distributions to our stockholders while ourdebt obligations and other senior securities are outstanding unless certain “asset coverage” tests are met. Moreover, our ability todispose of assets to meet our distribution requirements may be limited by (1) the illiquid nature of our portfolio and/or (2) otherrequirements relating to our status as a RIC, including the Diversification Tests. If we dispose of assets in order to meet the AnnualDistribution Requirement or the Excise Tax Distribution Requirement, we may make such dispositions at times that, from aninvestment standpoint, are not advantageous. If we are prohibited from making distributions or are unable to obtain cash fromother sources to make the distributions, we may fail to qualify as a RIC, which would result in us becoming subject to corporate-level U.S. federal income tax.In addition, we will be partially dependent on our SBIC subsidiaries for cash distributions to enable us to meet the RICdistribution requirements. Our SBIC subsidiaries may be limited by the Small Business Investment Act of 1958, and SBAregulations governing SBICs, from making certain distributions to us that may be necessary to maintain our status as a RIC. Wemay have to request a waiver of the SBA’s restrictions for our SBIC subsidiaries to make certain distributions to maintain our RICstatus. We cannot assure you that the SBA will grant such waiver. If our SBIC subsidiaries are unable to obtain a waiver,compliance with the SBA regulations may cause us to fail to qualify as a RIC, which would result in us becoming subject tocorporate-level U.S. federal income tax.The remainder of this discussion assumes that we will qualify as a RIC and have satisfied the Annual DistributionRequirement.Any transactions in options, futures contracts, constructive sales, hedging, straddle, conversion or similar transactions, andforward contracts will be subject to special tax rules, the effect of which may be to accelerate income to us, defer losses, causeadjustments to the holding periods of our investments, convert long-term capital gains into short-term capital gains, convert short-term capital losses into long-term capital losses or have other tax consequences. These rules could affect the amount, timing andcharacter of distributions to stockholders. We do not currently intend to engage in these types of transactions.A RIC is limited in its ability to deduct expenses in excess of its “investment company taxable income” (which is, generally,ordinary income plus net realized short-term capital gains in excess of net realized22 TABLE OF CONTENTSlong-term capital losses). If our expenses in a given year exceed gross taxable income (e.g., as the result of large amounts ofequity-based compensation), we would experience a net operating loss for that year. However, a RIC is not permitted to carryforward net operating losses to subsequent years. In addition, expenses can be used only to offset investment company taxableincome, not net capital gain. Due to these limits on the deductibility of expenses, we may for tax purposes have aggregate taxableincome for several years that we are required to distribute and that is taxable to our stockholders even if such income is greaterthan the aggregate net income we actually earned during those years. Such required distributions may be made from our cashassets or by liquidation of investments, if necessary. We may realize gains or losses from such liquidations. In the event we realizenet capital gains from such transactions, you may receive a larger capital gain distribution than you would have received in theabsence of such transactions.Investment income received from sources within foreign countries, or capital gains earned by investing in securities of foreignissuers, may be subject to foreign income taxes withheld at the source. In this regard, withholding tax rates in countries with whichthe United States does not have a tax treaty are often as high as 35% or more. The United States has entered into tax treaties withmany foreign countries that may entitle us to a reduced rate of tax or exemption from tax on this related income and gains. Theeffective rate of foreign tax cannot be determined at this time since the amount of our assets to be invested within variouscountries is not now known. We do not anticipate being eligible for the special election that allows a RIC to treat foreign incometaxes paid by such RIC as paid by its stockholders.If we acquire stock in certain foreign corporations that receive at least 75% of their annual gross income from passive sources(such as interest, dividends, rents, royalties or capital gain) or hold at least 50% of their total assets in investments producing suchpassive income (“passive foreign investment companies”), we could be subject to U.S. federal income tax and additional interestcharges on “excess distributions” received from such companies or gain from the sale of stock in such companies, even if allincome or gain actually received by us is timely distributed to our stockholders. We would not be able to pass through to ourstockholders any credit or deduction for such a tax. Certain elections may, if available, ameliorate these adverse tax consequences,but any such election requires us to recognize taxable income or gain without the concurrent receipt of cash. We intend to limitand/or manage our holdings in passive foreign investment companies to minimize our tax liability.Foreign exchange gains and losses realized by us in connection with certain transactions involving non-dollar debt securities,certain foreign currency futures contracts, foreign currency option contracts, foreign currency forward contracts, foreign currencies,or payables or receivables denominated in a foreign currency are subject to Code provisions that generally treat such gains andlosses as ordinary income and losses and may affect the amount, timing and character of distributions to our stockholders. Anysuch transactions that are not directly related to our investment in securities (possibly including speculative currency positions orcurrency derivatives not used for hedging purposes) could, under future Treasury regulations, produce income not among thetypes of “qualifying income” from which a RIC must derive at least 90% of its annual gross income.ACQUISITION OF PORTFOLIO ASSETS OF THE LEGACY FUNDSWe believe that our acquisition of the Legacy Funds’ portfolio assets in exchange for shares of our common stock generallywas tax free to us and the Legacy Funds. As a result, our initial adjusted basis in the Legacy Funds’ portfolio assets was equal tothe Legacy Funds’ adjusted basis in such assets immediately prior to our acquisition of such assets increased by any gainrecognized by the Legacy Funds as a result of such transaction. Such adjusted basis will be used in determining the amount of ourtaxable gain or loss upon a sale or other disposition of such assets. To the extent that such assets had built-in gain (i.e., assetswhose fair market value exceeds our tax basis at the time we acquired them) on the date of acquisition, when such gain isrecognized by us upon a sale or other disposition such assets, we will be required to distribute such gain to our shareholders inorder to eliminate our liability for corporate-level U.S. federal income tax on such gain and possibly to maintain our qualificationas a RIC under the Code. Investors will be subject to tax on the distribution even though such gain accrued prior to ouracquisition of such assets and even though the distribution effectively represents a return of their investment.23 TABLE OF CONTENTSIn addition, to the extent that any beneficial owner of interests in the Legacy Funds on the date of our acquisition of theLegacy Funds’ portfolio assets was a C corporation (a “corporate partner”), we will be required to pay a corporate-level U.S. federalincome tax on the net amount of any such built-in gains attributable to the corporate partners that we recognize during the ten-year period (or shorter applicable period) beginning on the date of acquisition. Alternatively, we may make a special election tocause the gain to be recognized at the time of the acquisition. In that event, the Legacy Funds would be required to recognize suchbuilt-in gain as if a proportionate share of such Funds’ assets were sold at the time of the acquisition. We do not anticipate makingthis election at this time. Any corporate-level built-in gain tax is payable at the time the built-in gains are recognized (whichgenerally will be the years in which the built-in gain assets are sold in a taxable transaction). The amount of this tax will varydepending on the assets that are actually sold by us in this 10-year period (or shorter applicable period), the actual amount of netbuilt-in gain or loss present in those assets as of the acquisition date and effective tax rates. The payment of any such corporate-level U.S. federal income tax on built-in gains will be a company expense that will be borne by all shareholders (not just anyformer corporate partners) and will reduce the amount available for distribution to shareholders.FAILURE TO QUALIFY AS A RICIf we fail to satisfy the 90% Income Test or the Diversification Tests for any taxable year, we may nevertheless continue toqualify as a RIC for such year if certain relief provisions are applicable (which may, among other things, require us to pay certaincorporate-level U.S. federal income taxes or to dispose of certain assets).If we were unable to qualify for treatment as a RIC and the foregoing relief provisions are not applicable, we would be subjectto tax on all of our taxable income at regular corporate rates, regardless of whether we make any distributions to our stockholders.Distributions would not be required, and any distributions would be taxable to our stockholders as ordinary dividend income tothe extent of our current and accumulated earnings and profits and, subject to certain limitations, may be eligible for the 20%maximum rate for noncorporate taxpayers provided certain holding period and other requirements were met. Subject to certainlimitations under the Code, corporate distributees would be eligible for the dividends-received deduction. Distributions in excessof our current and accumulated earnings and profits would be treated first as a return of capital to the extent of the stockholder’stax basis, and any remaining distributions would be treated as a capital gain. To requalify as a RIC in a subsequent taxable year,we would be required to satisfy the RIC qualification requirements for that year and dispose of any earnings and profits from anyyear in which we failed to qualify as a RIC. Subject to a limited exception applicable to RICs that qualified as such under theCode for at least one year prior to disqualification and that requalify as a RIC no later than the second year following thenonqualifying year, we could be subject to tax on any unrealized net built-in gains in the assets held by us during the period inwhich we failed to qualify as a RIC that are recognized within the subsequent 10 years (or shorter applicable period), unless wemade a special election to pay corporate-level U.S. federal income tax on such built-in gain at the time of our requalification as aRIC.REGULATIONA BDC is regulated by the 1940 Act. A BDC must be organized in the United States for the purpose of investing in or lendingto primarily private companies and making significant managerial assistance available to them. A BDC may use capital providedby public stockholders and from other sources to make long-term, private investments in businesses. A BDC provides stockholdersthe ability to retain the liquidity of a publicly traded stock while sharing in the possible benefits, if any, of investing in primarilyprivately owned companies.We may not change the nature of our business so as to cease to be, or withdraw our election as, a BDC unless authorized byvote of a majority of the outstanding voting securities, as required by the 1940 Act. A majority of the outstanding votingsecurities of a company is defined under the 1940 Act as the lesser of: (a) 67% or more of such company’s voting securities presentat a meeting if more than 50% of the outstanding voting securities of such company are present or represented by proxy, or (b)more than 50% of the outstanding voting securities of such company. We do not anticipate any substantial change in the nature ofour business.24 TABLE OF CONTENTSAs with other companies regulated by the 1940 Act, a BDC must adhere to certain substantive regulatory requirements. Amajority of our directors must be persons who are not interested persons, as that term is defined in the 1940 Act. Additionally, wewill be required to provide and maintain a bond issued by a reputable fidelity insurance company to protect the BDC.Furthermore, as a BDC, we will be prohibited from protecting any director or officer against any liability to us or our stockholdersarising from willful misfeasance, bad faith, gross negligence or reckless disregard of the duties involved in the conduct of suchperson’s office.As a BDC, we are generally required to meet an asset coverage ratio, defined under the 1940 Act as the ratio of our gross assets(less all liabilities and indebtedness not represented by senior securities) to our outstanding senior securities, of at least 200% aftereach issuance of senior securities. We may also be prohibited under the 1940 Act from knowingly participating in certaintransactions with our affiliates without the prior approval of our directors who are not interested persons and, in some cases, priorapproval by the SEC.We are generally not able to issue and sell our common stock at a price below net asset value per share. See “RiskFactors — Risks Relating to Our Business and Structure — Regulations governing our operation as a BDC affect our ability toraise additional capital and the way in which we do so.” We may, however, sell our common stock, or warrants, options or rights toacquire our common stock, at a price below the then-current net asset value of our common stock if our Board determines that suchsale is in our best interests and the best interests of our stockholders, and our stockholders approve our policy and practice ofmaking such sales. In any such case, under such circumstances, the price at which our common stock to be issued and sold may notbe less than a price which, in the determination of our Board, closely approximates the market value of such common stock. Inaddition, we may generally issue new shares of our common stock at a price below net asset value in rights offerings to existingstockholders, in payment of dividends and in certain other limited circumstances.As a BDC, we are generally limited in our ability to invest in any portfolio company in which our Investment Advisor or anyof its affiliates currently has an investment or to make any co-investments with our Investment Advisor or its affiliates without anexemptive order from the SEC, subject to certain exceptions.We will be periodically examined by the SEC for compliance with the 1940 Act.As a BDC, we are subject to certain risks and uncertainties. See “Risk Factors — Risks Relating to Our Business andStructure.”QUALIFYING ASSETSUnder the 1940 Act, a BDC may not acquire any asset other than assets of the type listed in Section 55(a) of the 1940 Act,which are referred to as qualifying assets, unless, at the time the acquisition is made, qualifying assets represent at least 70% of theBDC’s gross assets (the “70% Test”). The principal categories of qualifying assets relevant to our proposed business are thefollowing:•Securities purchased in transactions not involving any public offering, the issuer of which is an eligible portfoliocompany;•Securities received in exchange for or distributed with respect to securities described in the bullet above or pursuant to theexercise of options, warrants or rights relating to such securities; and•Cash, cash items, government securities or high quality debt securities (within the meaning of the 1940 Act), maturing inone year or less from the time of investment.An eligible portfolio company is generally a domestic company that is not an investment company (other than a smallbusiness investment company wholly owned by a BDC) and that:•does not have a class of securities with respect to which a broker may extend margin credit at the time the acquisition ismade;•is controlled by the BDC and has an affiliate of the BDC on its Board;•does not have any class of securities listed on a national securities exchange;25 TABLE OF CONTENTS•is a public company that lists its securities on a national securities exchange with a market capitalization of less than $250million; or•meets such other criteria as may be established by the SEC.Control, as defined by the 1940 Act, is presumed to exist where a BDC beneficially owns more than 25% of the outstandingvoting securities of the portfolio company.In addition, a BDC must have been organized and have its principal place of business in the United States and must beoperated for the purpose of making investments in eligible portfolio companies, or in other securities that are consistent with itspurpose as a BDC.MANAGERIAL ASSISTANCE TO PORTFOLIO COMPANIESBusiness development companies generally must offer to make available to the issuer of the securities significant managerialassistance, except in circumstances where either (i) the business development company controls such issuer of securities or (ii) thebusiness development company purchases such securities in conjunction with one or more other persons acting together and oneof the other persons in the group makes available such managerial assistance. Making available managerial assistance means,among other things, any arrangement whereby the BDC, through its directors, officers or employees, offers to provide, and, ifaccepted, does so provide, significant guidance and counsel concerning the management, operations or business objectives andpolicies of a portfolio company.TEMPORARY INVESTMENTSPending investment in other types of “qualifying assets,” as described above, our investments may consist of cash, cashequivalents, U.S. government securities or high-quality debt securities maturing in one year or less from the time of investment,which we refer to, collectively, as temporary investments, so that 70% of our assets are qualifying assets. Typically, we will investin U.S. Treasury bills or in repurchase agreements, provided that such agreements are fully collateralized by cash or securitiesissued by the U.S. government or its agencies. A repurchase agreement involves the purchase by an investor, such as us, of aspecified security and the simultaneous agreement by the seller to repurchase it at an agreed-upon future date and at a price whichis greater than the purchase price by an amount that reflects an agreed-upon interest rate. There is no percentage restriction on theproportion of our assets that may be invested in such repurchase agreements. However, if more than 25% of our gross assetsconstitute repurchase agreements from a single counterparty, we would not meet the diversification tests in order to qualify as aRIC under the Code. Thus, we do not intend to enter into repurchase agreements with a single counterparty in excess of this limit.Our Investment Advisor will monitor the creditworthiness of the counterparties with which we enter into repurchase agreementtransactions.SENIOR SECURITIESWe are permitted, under specified conditions, to issue multiple classes of indebtedness and one class of stock senior to ourcommon stock if our asset coverage, as defined in the 1940 Act, is at least equal to 200% immediately after each such issuance. OnJune 10, 2014, we received an exemptive order from the SEC granting relief from the asset coverage requirements for certainindebtedness issued by Fund II and Fund III as SBICs. In addition, while any senior securities remain outstanding, we must makeprovisions to prohibit any distribution to our stockholders or the repurchase of such securities or shares unless we meet theapplicable asset coverage ratios at the time of the distribution or repurchase. We may also borrow amounts up to 5% of the valueof our gross assets for temporary or emergency purposes without regard to asset coverage. For a discussion of the risks associatedwith leverage, see “Risk Factors — Risks Relating to Our Business and Structure.”CODE OF ETHICSWe and our Investment Advisor have adopted a code of ethics pursuant to Rule 17j-1 under the 1940 Act and Rule 204A-1under the Advisers Act that establishes procedures for personal investments and restricts certain transactions by our personnel. Ourcode of ethics generally does not permit investments by our employees in securities that may be purchased or held by us. You mayread and copy our code of ethics at26 TABLE OF CONTENTSthe SEC’s Public Reference Room in Washington, D.C. You may obtain information on the operation of the Public ReferenceRoom by calling the SEC at 1-800-SEC-0330. You may also obtain copies of the code of ethics, after paying a duplicating fee, byelectronic request at the following email address: publicinfo@sec.gov, or by writing the SEC’s Public Reference Section, 100 FStreet, N.E., Washington, D.C. 20549. Our code of ethics is also available on our website at http://www.capitalagroup.com.COMPLIANCE POLICIES AND PROCEDURESWe and our Investment Advisor have adopted and implemented written policies and procedures reasonably designed to detectand prevent violation of the federal securities laws and are required to review these compliance policies and procedures annuallyfor their adequacy and the effectiveness of their implementation and designate a chief compliance officer to be responsible foradministering the policies and procedures. Richard G. Wheelahan, III currently serves as our chief compliance officer.SARBANES-OXLEY ACT OF 2002The Sarbanes-Oxley Act of 2002 imposes a wide variety of regulatory requirements on publicly-held companies and theirinsiders. Many of these requirements affect us. For example:•pursuant to Rule 13a-14 of the Exchange Act, our chief executive officer and chief financial officer must certify theaccuracy of the financial statements contained in our periodic reports;•pursuant to Item 307 of Regulation S-K, our periodic reports must disclose our conclusions about the effectiveness of ourdisclosure controls and procedures;•pursuant to Rule 13a-15 of the Exchange Act, our management is required to prepare an annual report regarding itsassessment of our internal control over financial reporting. When we are no longer an emerging growth company under theJOBS Act, our independent registered public accounting firm will be required to audit our internal controls over financialreporting; and•pursuant to Item 308 of Regulation S-K and Rule 13a-15 of the 1934 Act, our periodic reports must disclose whether therewere significant changes in our internal controls over financial reporting or in other factors that could significantly affectthese controls subsequent to the date of their evaluation, including any corrective actions with regard to significantdeficiencies and material weaknesses.The Sarbanes-Oxley Act requires us to review our current policies and procedures to determine whether we comply with theSarbanes-Oxley Act and the regulations promulgated thereunder. We will continue to monitor our compliance with all regulationsthat are adopted under the Sarbanes-Oxley Act and will take actions necessary to ensure that we are in compliance therewith.PROXY VOTING POLICIES AND PROCEDURESWe have delegated our proxy voting responsibility to the Investment Advisor. The proxy voting policies and procedures ofthe Investment Advisor are set forth below. The guidelines will be reviewed periodically by the Investment Advisor and our non-interested directors, and, accordingly, are subject to change. For purposes of the proxy voting policies and procedures describedbelow, “we,” “our” and “us” refers to the Investment Advisor.IntroductionAn investment adviser registered under the Advisers Act has a fiduciary duty to act solely in the best interests of its clients. Aspart of this duty, we recognize that we must vote client securities in a timely manner free of conflicts of interest and in the bestinterests of our clients.These policies and procedures for voting proxies for our Investment Advisory clients are intended to comply with Section 206of, and Rule 206(4)-6 under, the Advisers Act.Proxy PoliciesWe will vote proxies relating to our portfolio securities in what we perceive to be the best interest of our clients’ stockholders.We will review on a case-by-case basis each proposal submitted to a stockholder vote to determine its impact on the portfoliosecurities held by our clients. Although we will generally vote against27 TABLE OF CONTENTSproposals that may have a negative impact on our clients’ portfolio securities, we may vote for such a proposal if there existcompelling long-term reasons to do so.Our proxy voting decisions will be made by the senior officers who are responsible for monitoring each of our clients’investments. To ensure that our vote is not the product of a conflict of interest, we will require that: (1) anyone involved in thedecision making process disclose to our managing member any potential conflict that he or she is aware of and any contact that heor she has had with any interested party regarding a proxy vote; and (2) employees involved in the decision making process orvote administration are prohibited from revealing how we intend to vote on a proposal in order to reduce any attempted influencefrom interested parties.Proxy Voting RecordsYou may obtain information about how we voted proxies by making a written request for proxy voting information to: TheInvestment Advisor, LLC, 4201 Congress Street, Suite 360, Charlotte, North Carolina 28209.PRIVACY PRINCIPLESWe are committed to maintaining the privacy of our stockholders and to safeguarding their non-public personal information.The following information is provided to help you understand what personal information we collect, how we protect thatinformation and why, in certain cases, we may share information with select other parties.Generally, we do not receive any non-public personal information relating to our stockholders, although certain non-publicpersonal information of our stockholders may become available to us. We do not disclose any non-public personal informationabout our stockholders or former stockholders to anyone, except as permitted by law or as is necessary in order to servicestockholder accounts (for example, to a transfer agent or third-party administrator).We restrict access to non-public personal information about our stockholders to employees of our Investment Advisor and itsaffiliates with a legitimate business need for the information. We will maintain physical, electronic and procedural safeguardsdesigned to protect the non-public personal information of our stockholders.SMALL BUSINESS INVESTMENT COMPANY REGULATIONSOur wholly-owned subsidiaries’ SBIC licenses allow them to borrow funds by issuing SBA-guaranteed debentures, subject tothe 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 rateof SBA-guaranteed debentures is fixed at the time of issuance at a market-driven spread over U.S. Treasury Notes with 10-yearmaturities.SBICs are designed to stimulate the flow of private equity capital to eligible small businesses. Under SBA regulations, SBICsmay make loans to eligible small businesses and invest in the equity securities of small businesses. Under present SBAregulations, eligible small businesses include businesses that have a tangible net worth not exceeding $19.5 million and haveaverage annual fully taxed net income not exceeding $6.5 million for the two most recent fiscal years. In addition, an SBIC mustdevote 25% of its investment activity to “smaller” concerns as defined by the SBA. A smaller concern is one that has a tangiblenet worth not exceeding $6 million and has average annual fully taxed net income not exceeding $2 million for the two mostrecent fiscal years. SBA regulations also provide alternative size standard criteria to determine eligibility, which depend on theindustry in which the business is engaged and are based on such factors as the number of employees and gross sales. According toSBA regulations, SBICs may make long-term loans to small businesses, invest in the equity securities of such businesses andprovide them with consulting and advisory services.SBA regulations currently limit the amount that an SBIC subsidiary may borrow to a maximum of $150 million when it has atleast $75 million in regulatory capital. Affiliated SBICs are permitted to issue up28 TABLE OF CONTENTSto a combined maximum amount of $225 million when they have at least $112.5 million in regulatory capital. As of December 31,2014, Fund II had $26.2 million in regulatory capital and $42.2 million in SBA-guaranteed debentures outstanding and Fund IIIhad $75 million in regulatory capital and $150 million in SBA-guaranteed debentures outstanding.On June 10, 2014, we received exemptive relief from the SEC to permit us to exclude the debt of our SBIC subsidiariesguaranteed by the SBA from the definition of senior securities in the 200% asset coverage test under the 1940 Act. This providesus with increased flexibility under the 200% asset coverage test by permitting us to borrow up to $192.2 million more than wewould otherwise be able to absent the receipt of this exemptive relief.The SBA restricts the ability of SBICs to repurchase their capital stock. SBA regulations also include restrictions on a “changeof control” or transfer of an SBIC and require that SBICs invest idle funds in accordance with SBA regulations. In addition, ourSBIC subsidiaries may also be limited in their ability to make distributions to us if they do not have sufficient capital, inaccordance with SBA regulations.Our SBIC subsidiaries are subject to regulation and oversight by the SBA, including requirements with respect to maintainingcertain minimum financial ratios and other covenants. Receipt of SBIC licenses does not assure that our SBIC subsidiaries willreceive SBA-guaranteed debenture funding, which is dependent upon our SBIC subsidiaries continuing to be in compliance withSBA regulations and policies. The SBA, as a creditor, will have a superior claim to our SBIC subsidiaries’ assets over ourstockholders in the event we liquidate our SBIC subsidiaries or the SBA exercises its remedies under the SBA-guaranteeddebentures issued by our SBIC subsidiaries upon an event of default.NASDAQ GLOBAL SELECT MARKET REQUIREMENTSWe have adopted certain policies and procedures intended to comply with the NASDAQ Global Select Market’s corporategovernance rules. We will continue to monitor our compliance with all future listing standards that are approved by the SEC andwill take actions necessary to ensure that we are in compliance therewith.29 TABLE OF CONTENTSITEM 1A. RISK FACTORSBefore you invest in our common stock, you should be aware of various risks, including those described below. The risks setout below are not the only risks we face. If any of the following events occur, our business, financial condition and results ofoperations could be materially adversely affected. In such case, our net asset value could decline, and you may lose all or part ofyour investment.Risks Relating to Our Business and StructureWe have limited operating history as a BDC.Capitala Finance was formed in February 2013 and has only operated as a BDC since September 2013. As a result, we aresubject to many of the business risks and uncertainties associated with recently formed businesses, including the risk that we willnot achieve our investment objective and that the value of your investment could decline substantially. As a BDC, we are subjectto the regulatory requirements of the SEC, in addition to the specific regulatory requirements applicable to BDCs under the 1940Act and RICs under the Code. Our management and that of the Investment Advisor, did not have any prior experience operatingunder this regulatory framework, and we may still incur substantial additional costs, and expend significant time or otherresources, to do so. From time to time, the Investment Advisor may pursue investment opportunities, like equity investments, inwhich it has more limited experience. We may also be unable to replicate the historical performance of prior investment fundsmanaged by our management team. In addition, we may be unable to generate sufficient revenue from our operations to make orsustain distributions to our stockholders.Our investment portfolio is recorded at fair value, with our Board of Directors having final responsibility for overseeing,reviewing and approving, in good faith, its estimate of fair value and, as a result, there may be uncertainty as to the value of ourportfolio investments.Under the 1940 Act, we are required to carry our portfolio investments at market value or, if there is no readily availablemarket value, at fair value as determined by us, with our Board having final responsibility for overseeing, reviewing andapproving, in good faith, our estimate of fair value. Typically, there will not be a public market for the securities of the privatelyheld companies in which invest. As a result, we value these securities quarterly at fair value based on input from management, athird-party independent valuation firm and our audit committee, and with the oversight, review and approval of our Board.The determination of fair value and consequently, the amount of unrealized gains and losses in our portfolio, are to a certaindegree, subjective and dependent on a valuation process approved by our Board. Certain factors that may be considered indetermining the fair value of our investments include external events, such as private mergers, sales and acquisitions involvingcomparable companies. Because such valuations, and particularly valuations of private securities and private companies, areinherently uncertain, they may fluctuate over short periods of time and may be based on estimates. Our determinations of fairvalue may differ materially from the values that would have been used if a ready market for these securities existed. Due to thisuncertainty, our fair value determinations may cause our net asset value on a given date to materially understate or overstate thevalue that we may ultimately realize on one or more of our investments. As a result, investors purchasing our common stock basedon an overstated net asset value would pay a higher price than the value of our investments might warrant. Conversely, investorsselling shares during a period in which the net asset value understates the value of our investments would receive a lower price fortheir shares than the value of our investments might warrant. In addition, we may not be able to realize the values on ourinvestments needed to pay interest on our borrowings.Our financial condition and results of operations depend on our ability to effectively manage and deploy capital.Our ability to achieve our investment objective depends on our ability to effectively manage and deploy capital, whichdepends, in turn, on our Investment Advisor’s ability to identify, evaluate and monitor, and our ability to finance and invest in,companies that meet our investment criteria.Accomplishing our investment objective on a cost-effective basis is largely a function of our Investment Advisor’s handling ofthe investment process, its ability to provide competent, attentive and efficient services30 TABLE OF CONTENTSand our access to investments offering acceptable terms. In addition to monitoring the performance of our existing investments,our Investment Advisor’s investment team may also be called upon, from time to time, to provide managerial assistance to some ofour portfolio companies as well as other funds that they manage. These demands on their time may distract them or slow our rate ofinvestment. See also “— There are significant potential conflicts of interest that could negatively affect our investment returns.”Even if we are able to grow and build upon our investment operations, any failure to manage our growth effectively couldhave a material adverse effect on our business, financial condition, results of operations and prospects. The results of ouroperations depend on many factors, including the availability of opportunities for investment, readily accessible short and long-term funding alternatives in the financial markets and economic conditions. Furthermore, if we cannot successfully operate ourbusiness or implement our investment policies and strategies as described in this prospectus, it could negatively impact our abilityto make distributions.We depend upon Capitala Investment Advisors’ key personnel for our future success.We depend on the diligence, skill and network of business contacts of Joseph B. Alala, III, Hunt Broyhill and John F. McGlinn,who serve as the members of the investment committee of the Investment Advisor and lead the Investment Advisor’s investmentteam. Our success depends on the continued service of these individuals and the other senior investment professionals available tothe Investment Advisor. We cannot assure you that unforeseen business, medical, personal or other circumstances would not leadMessrs. Alala, Broyhill or McGlinn or any other such individual to terminate his relationship with us. Such a termination couldhave a material adverse effect on our ability to achieve our investment objective as well as on our financial condition and resultsof operations. In addition, we can offer no assurance that the Investment Advisor will continue indefinitely as our investmentadviser.The members of the Investment Advisor’s investment team are and may in the future become affiliated with entities engaged inbusiness activities similar to those intended to be conducted by us, and may have conflicts of interest in allocating their time. Mr.Alala dedicates a significant portion of his time to the activities of Capitala Finance; however, he may become engaged in otherbusiness activities that could divert his time and attention in the future.We operate in a highly competitive market for investment opportunities, which could reduce returns and result in losses.We compete for investments with other BDCs with similar investment strategies, private equity funds with similar investmentstrategies, venture lending funds, finance companies with venture lending units and banks focused on venture lending. Many ofour competitors are substantially larger and have considerably greater financial, technical and marketing resources than we have.For example, some competitors may have a lower cost of capital and access to funding sources that are not available to us. Inaddition, some of our competitors have higher risk tolerances or different risk assessments than we have. These characteristicsmight allow our competitors to consider a wider variety of investments, establish more relationships or offer better pricing andmore flexible structuring than we are able to offer. We may lose investment opportunities if we do not match our competitors’pricing, terms or structure. If we are forced to match our competitors’ pricing, terms or structure, we may not be able to achieveacceptable returns on our investments or may bear substantial risk of capital loss. We believe a significant part of our competitiveadvantage stems from the fact that the market for investments in smaller and lower middle-market companies is underserved bytraditional commercial banks and other financing sources. A significant increase in the number and/or the size of our competitorsin this target market could force us to accept less attractive investment terms. Furthermore, many of our competitors have greaterexperience operating under, or will not be subject to, the regulatory restrictions that the 1940 Act impose on us as a BDC.31 TABLE OF CONTENTSAny inability of our Investment Advisor to maintain or develop strong referral relationships, or the failure of these relationshipsto generate investment opportunities, could adversely affect our business.We depend upon our Investment Advisor to maintain its relationships with venture capital and private equity firms, placementagents, investment banks, management groups and other financial institutions, and we expect to rely to a significant extent uponthese relationships to provide us with potential investment opportunities. If our Investment Advisor fails to maintain suchrelationships, or to develop new relationships with other sources of investment opportunities, we will not be able to grow ourinvestment portfolio. In addition, individuals with whom our Investment Advisor has relationships are not obligated to provide uswith investment opportunities, and we can offer no assurance that these relationships will generate investment opportunities for usin the future.Our success depends on the ability of Capitala Investment Advisors to attract and retain qualified personnel in a competitiveenvironment.Our growth requires that the Investment Advisor retain and attract new investment and administrative personnel in acompetitive market. Its ability to attract and retain personnel with the requisite credentials, experience and skills depends onseveral factors including, but not limited to, its ability to offer competitive wages, benefits and professional growth opportunities.Many of the entities with which it competes for experienced personnel, including investment funds (such as private equity fundsand mezzanine funds) and traditional financial services companies, have greater resources than it will have.There are significant potential conflicts of interest that could negatively affect our investment returns.The members of the Investment Advisor’s investment team also monitor and service other affiliated investment funds. Inaddition, our executive officers and directors, as well as the current and future members of our Investment Advisor’s investmentteam may serve as officers, directors or principals of other entities that operate in the same or a related line of business as we do.Accordingly, they may have obligations to investors in those entities, the fulfillment of which obligations may not be in the bestinterests of us or our stockholders. However, the Investment Advisor’s investment team does not intend to sponsor or manageanother BDC with an investment strategy that is substantially similar to our investment strategy.In the course of our investing activities, we pay management and incentive fees to the Investment Advisor and reimburse theInvestment Advisor for certain expenses it incurs. As a result, investors in our common stock invest on a “gross” basis and receivedistributions on a “net” basis after expenses, resulting in a lower rate of return than an investor might achieve through directinvestments. Accordingly, there may be times when the management team of the Investment Advisor will have interests that differfrom those of our stockholders, giving rise to a conflict. The Investment Advisor will not be reimbursed for any performance-related compensation for its employees. We have entered into a royalty-free license agreement with our Investment Advisor,pursuant to which the Investment Advisor grants us a non-exclusive royalty-free license to use the name “Capitala.” Under thelicense agreement, we have the right to use the “Capitala” name for so long as the Investment Advisor or one of its affiliatesremains our Investment Advisor. In addition, we pay our administrator our allocable portion of overhead and other expensesincurred by our administrator in performing its obligations under the Administration Agreement, including rent, the fees andexpenses associated with performing compliance functions, and our allocable portion of the compensation of our chief financialofficer and any administrative support staff. These arrangements create conflicts of interest that our Board must monitor.If our Investment Advisor forms other affiliates in the future, we may co-invest on a concurrent basis with such other affiliates,subject to compliance with applicable regulations and regulatory guidance and our allocation procedures or an exemptive orderfrom the SEC.In the ordinary course of business, we may enter into transactions with portfolio companies that may be considered relatedparty transactions. In order to ensure that we do not engage in any prohibited transactions with any persons affiliated with us, wehave implemented certain written policies and procedures whereby our executive officers screen each of our transactions for anypossible affiliations between the proposed portfolio investment and us, companies controlled by us or our executive officers anddirectors. We will not enter into any agreements unless and until we are satisfied that doing so will not raise concerns under the1940 Act or,32 TABLE OF CONTENTSif such concerns exist, we have taken appropriate actions to seek review and approval by our Board or exemptive relief for suchtransaction. Our Board will review these procedures on an annual basis. We have also entered into a license agreement with theInvestment Advisor, pursuant to which the Investment Advisor has agreed to grant us a non-exclusive, royalty-free license to usethe name “Capitala”.The investment committee and other investment professionals of Capitala Investment Advisors may, from time to time, possessmaterial non-public information about or related to our portfolio companies, limiting our investment discretion.Members of our Investment Advisor’s investment committee and other investment professionals of the Investment Advisormay serve as directors of, or in a similar capacity with, portfolio companies in which we invest. In the event that materialnonpublic information is obtained with respect to such companies, or we become subject to trading restrictions under the internaltrading policies of those companies or as a result of applicable law or regulations, we could be prohibited for a period of time frompurchasing or selling the securities of such companies, and this prohibition may have an adverse effect on us.The involvement of our interested directors in the valuation process may create conflicts of interest.We make many of our portfolio investments in the form of loans and securities that are not publicly traded and for which nomarket-based price quotation is available. As a result, our Board determines the fair value of these loans and securities in goodfaith as described above in the section titled “Valuation of Investments” in Note 2 to the Consolidated Financial Statements. Inconnection with that determination, investment professionals from the Investment Advisor may provide our Board with valuationsbased upon the most recent portfolio company financial statements available and projected financial results of each portfoliocompany. While the valuation for certain portfolio investments is reviewed by an independent valuation firm quarterly, theultimate determination of fair value is made by our Board, including our interested directors, and not by such third-party valuationfirm. In addition, Messrs. Alala and Broyhill, interested members of our Board, have pecuniary interests in the Investment Advisor.The participation of the Investment Advisor’s investment professionals in our valuation process, and the pecuniary interests in theInvestment Advisor by Messrs. Alala and Broyhill, could result in conflicts of interest as the Investment Advisor’s management feeis based, in part, on the value of our gross assets, and our incentive fees will be based, in part, on realized gains and realized andunrealized losses.Because the Formation Transactions were consummated prior to the filing of our election to be regulated as a BDC under the1940 Act, the protections and rights afforded to investors under the 1940 Act may not apply with respect to such transactions.We completed the Formation Transactions prior to the filing of our election to be regulated as a BDC under the 1940 Act. As aresult, the protections and rights afforded to investors under the 1940 Act may not apply with respect to such transactions. Inparticular, we are generally prohibited from purchasing securities or other assets from an affiliate absent exemptive relief. As aresult, the Formation Transactions and the parties from which we acquired our portfolio would likely differ substantially to theextent we were subject to the requirements and restrictions of the 1940 Act at the time we completed the Formation Transactions.The Investment Advisory Agreement with Capitala Investment Advisors and the Administration Agreement with ouradministrator were not negotiated on an arm’s length basis and may not be as favorable to us as if they had been negotiatedwith an unaffiliated third-party.The Investment Advisory Agreement and the Administration Agreement were negotiated between related parties.Consequently, their terms, including fees payable to the Investment Advisor and the Administrator, may not be as favorable to usas if they had been negotiated with an unaffiliated third-party.Our incentive fee structure may induce Capitala Investment Advisors to pursue speculative investments, and to use leveragewhen it may be unwise to do so.The incentive fee payable by us to the Investment Advisor may create an incentive for the Investment Advisor to pursueinvestments on our behalf that are riskier or more speculative than would be the case in the absence of such compensationarrangement. The incentive fee payable to our Investment Advisor is calculated33 TABLE OF CONTENTSbased on a percentage of our return on invested capital. This may encourage our Investment Advisor to use leverage to increasethe return on our investments. Under certain circumstances, the use of leverage may increase the likelihood of default, whichwould impair the value of our common stock. In addition, our Investment Advisor receives the incentive fee based, in part, uponnet capital gains realized on our investments. Unlike that portion of the incentive fee based on income, there is no hurdle rateapplicable to the portion of the incentive fee based on net capital gains. As a result, the investment adviser may have a tendencyto invest more capital in investments that are likely to result in capital gains as compared to income-producing securities. Such apractice could result in our investing in more speculative securities than would otherwise be the case, which could result in higherinvestment losses, particularly during economic downturns.Although we do not anticipate doing so during at least our first 12 months of operations, we may invest, to the extentpermitted by law, in the securities and instruments of other investment companies, including private funds, and, to the extent weso invest, will bear our ratable share of any such investment company’s expenses, including management and performance fees.We also remain obligated to pay management and incentive fees to our Investment Advisor with respect to the assets invested inthe securities and instruments of other investment companies. With respect to each of these investments, each of our stockholderswill bear his or her share of the management and our Investment Advisor’s incentive fee as well as indirectly bearing themanagement and performance fees and other expenses of any investment companies in which we invest.Capitala Investment Advisors’ liability is limited under the Investment Advisory Agreement, and we have agreed to indemnifyCapitala Investment Advisors against certain liabilities, which may lead Capitala Investment Advisors to act in a riskiermanner on our behalf than it would when acting for its own account.Under the Investment Advisory Agreement, the Investment Advisor has not assumed any responsibility to us other than torender the services called for under that agreement. It is not responsible for any action of our Board in following or declining tofollow the Investment Advisor’s advice or recommendations. Under the Investment Advisory Agreement, the Investment Advisor,its officers, members and personnel, and any person controlling or controlled by the Investment Advisor is not liable to us, anysubsidiary of ours, our directors, our stockholders or any subsidiary’s stockholders or partners for acts or omissions performed inaccordance with and pursuant to the Investment Advisory Agreement, except those resulting from acts constituting grossnegligence, willful misfeasance, bad faith or reckless disregard of the duties that the Investment Advisor owes to us under theInvestment Advisory Agreement. In addition, as part of the Investment Advisory Agreement, we have agreed to indemnify theInvestment Advisor and each of its officers, directors, members, managers and employees from and against any claims or liabilities,including reasonable legal fees and other expenses reasonably incurred, arising out of or in connection with our business andoperations or any action taken or omitted on our behalf pursuant to authority granted by the Investment Advisory Agreement,except where attributable to gross negligence, willful misfeasance, bad faith or reckless disregard of such person’s duties under theInvestment Advisory Agreement. These protections may lead the Investment Advisor to act in a riskier manner when acting on ourbehalf than it would when acting for its own account.A general increase in interest rates will likely have the effect of making it easier for our Investment Advisor to receive incentivefees, without necessarily resulting in an increase in our net earnings.Under the structure of our Investment Advisory Agreement with our Investment Advisor, any general increase in interest rateswill likely have the effect of making it easier for our Investment Advisor to meet the quarterly hurdle rate for payment of incomeincentive fees under the Investment Advisory Agreement without any additional increase in relative performance on the part ofour Investment Advisor. In addition, in view of the catch-up provision applicable to income incentive fees under the InvestmentAdvisory Agreement, our Investment Advisor could potentially receive a significant portion of the increase in our investmentincome attributable to such a general increase in interest rates. If that were to occur, our increase in net earnings, if any, wouldlikely be significantly smaller than the relative increase in our Investment Advisor’s income incentive fee resulting from such ageneral increase in interest rates.34 TABLE OF CONTENTSPIK interest payments we receive will increase our assets under management and, as a result, will increase the amount of basemanagement fees and incentive fees payable by us to Capitala Investment Advisors.Certain of our debt investments contain provisions providing for the payment of contractual PIK interest. Because PIK interestresults in an increase in the size of the loan balance of the underlying loan, the receipt by us of PIK interest will have the effect ofincreasing our assets under management. As a result, because the base management fee that we pay to the Investment Advisor isbased on the value of our gross assets, the receipt by us of PIK interest will result in an increase in the amount of the basemanagement fee payable by us. In addition, any such increase in a loan balance due to the receipt of PIK interest will cause suchloan to accrue interest on the higher loan balance, which will result in an increase in our pre-incentive fee net investment incomeand, as a result, an increase in incentive fees that are payable by us to the Investment Advisor.Our Investment Advisor has the right to resign on 60 days’ notice, and we may not be able to find a suitable replacement withinsuch time, resulting in a disruption in our operations that could adversely affect our financial condition, business and results ofoperations.Our Investment Advisor has the right, under the Investment Advisory Agreement, to resign at any time on 60 days’ writtennotice, whether we have found a replacement or not. If our Investment Advisor resigns, we may not be able to find a newinvestment adviser or hire internal management with similar expertise and ability to provide the same or equivalent services onacceptable terms within 60 days, or at all. If we are unable to do so quickly, our operations are likely to experience a disruption,our financial condition, business and results of operations as well as our ability to pay distributions are likely to be adverselyaffected and the market price of our shares may decline. In addition, the coordination of our internal management and investmentactivities is likely to suffer if we are unable to identify and reach an agreement with a single institution or group of executiveshaving the expertise possessed by our Investment Advisor and its affiliates. Even if we are able to retain comparable management,whether internal or external, the integration of such management and their lack of familiarity with our investment objective mayresult in additional costs and time delays that may adversely affect our financial condition, business and results of operations.Our Investment Advisor may not be able to achieve the same or similar returns as those achieved by our Investment Advisor’sinvestment team while they were employed at prior positions.Although in the past Mr. Alala and other members of our Investment Advisor’s investment team have held senior positions at anumber of investment firms, including the Legacy Funds, their track record and achievements are not necessarily indicative offuture results that will be achieved by our Investment Advisor. We cannot assure you that we will be able to achieve the resultsrealized by prior vehicles managed by our Investment Advisor’s investment team, including the Legacy Funds.Any failure on our part to maintain our status as a BDC would reduce our operating flexibility.We have elected to be regulated as a BDC under the 1940 Act. The 1940 Act imposes numerous constraints on the operationsof BDCs. For example, BDCs are required to invest at least 70% of their gross assets in specified types of securities, primarily inprivate companies or thinly traded U.S. public companies, cash, cash equivalents, U.S. government securities and other highquality debt investments that mature in one year or less. Furthermore, any failure to comply with the requirements imposed onBDCs by the 1940 Act could cause the SEC to bring an enforcement action against us and/or expose us to claims of privatelitigants. In addition, upon approval of a majority of our stockholders, we may elect to withdraw our status as a BDC. If we decideto withdraw our election, or if we otherwise fail to qualify, or maintain our qualification, as a BDC, we may be subject to thesubstantially greater regulation under the 1940 Act as a closed-end investment company. Compliance with such regulationswould significantly decrease our operating flexibility and could significantly increase our costs of doing business.Regulations governing our operation as a BDC affect our ability to raise additional capital and the way in which we do so. As aBDC, the necessity of raising additional capital may expose us to risks, including the typical risks associated with leverage.We may issue debt securities or preferred stock and/or borrow money from banks or other financial institutions, which we referto collectively as “senior securities,” up to the maximum amount permitted by the35 TABLE OF CONTENTS1940 Act. Under the provisions of the 1940 Act, we are permitted, as a BDC, to issue senior securities in amounts such that ourasset coverage ratio, as defined in the 1940 Act, equals at least 200% of gross assets less all liabilities and indebtedness notrepresented by senior securities, after each issuance of senior securities. If the value of our assets declines, we may be unable tosatisfy this test. If that happens, we may be required to sell a portion of our investments and, depending on the nature of ourleverage, repay a portion of our indebtedness at a time when such sales may be disadvantageous. Also, any amounts that we use toservice our indebtedness would not be available for distributions to our common stockholders. Furthermore, as a result of issuingsenior securities, we would also be exposed to typical risks associated with leverage, including an increased risk of loss. As ofDecember 31, 2014, we have approximately $192.2 million of outstanding debentures guaranteed by the SBA. If we issuepreferred stock, the preferred stock would rank “senior” to common stock in our capital structure, preferred stockholders wouldhave separate voting rights on certain matters and might have other rights, preferences, or privileges more favorable than those ofour common stockholders, and the issuance of preferred stock could have the effect of delaying, deferring or preventing atransaction or a change of control that might involve a premium price for holders of our common stock or otherwise be in yourbest interest.We generally may not issue and sell our common stock at a price below net asset value per share. We may, however, sell ourcommon stock, or warrants, options or rights to acquire our common stock, at a price below the then-current net asset value pershare of our common stock if our Board determines that such sale is in our best interests and in the best interests of ourstockholders, and our stockholders approve such sale. In any such case, the price at which our securities are to be issued and soldmay not be less than a price that, in the determination of our Board, closely approximates the market value of such securities (lessany commission or discount). If we raise additional funds by issuing more common stock or senior securities convertible into, orexchangeable for, our common stock, then the percentage ownership of our stockholders at that time will decrease, and you mayexperience dilution.We borrow money, which magnifies the potential for gain or loss on amounts invested and may increase the risk of investing inus, and the calculation of our base management fee, which is based upon our gross assets, may have the effect of encouragingour Investment Advisor to utilize leverage when it may not be advisable to do so.The use of leverage magnifies the potential for gain or loss on amounts invested and, therefore, increases the risks associatedwith investing in our securities. In addition to the existing SBA-guaranteed debentures, we may borrow from and issue senior debtsecurities to banks, insurance companies and other lenders in the future. Holders of these senior securities will have fixed dollarclaims on our assets that are superior to the claims of our common stockholders, and we would expect such lenders to seekrecovery against our assets in the event of a default. If the value of our assets decreases, leverage would cause net asset value todecline more sharply than it otherwise would have had we not been leveraged. Similarly, any decrease in our income would causenet income to decline more sharply than it would have had we not borrowed. Such a decline could also negatively affect ourability to make distributions on our common stock. Leverage is generally considered a speculative investment technique. Ourability to service any debt that we incur will depend largely on our financial performance and will be subject to prevailingeconomic conditions and competitive pressures. Moreover, as the management fee payable to our Investment Advisor will bepayable based on our gross assets, including those assets acquired through the use of leverage, our Investment Advisor will have afinancial incentive to incur leverage that may not be consistent with our stockholders’ interests. In addition, our commonstockholders will bear the burden of any increase in our expenses as a result of leverage, including any increase in themanagement fee payable to our Investment Advisor.The Credit Facility, and any other credit facility into which we may enter, imposes financial and operating covenants thatrestrict our business activities, including limitations that could hinder our ability to finance additional loans and investments or tomake the distributions required to maintain our status as a RIC under the Code.36 TABLE OF CONTENTSIllustration. The following table illustrates the effect of leverage on returns from an investment in our common stockassuming various annual returns, net of expenses. The calculations in the table below are hypothetical and actual returns may behigher or lower than those appearing below.Assumed Return on Our Portfolio(1)(net of expenses) (10.0)% (5.0)% 0.0% 5.0% 10.0% Corresponding net return to common stockholder (33.5)% (20.5)% (7.5)% 5.4% 18.4% (1)Assumes $624.9 million in total assets, $380.6 million in debt outstanding and $240.8 million in net assets as of December 31,2014, adjusted to reflect borrowings of $75.0 million under the Credit Facility. Assumes an average cost of funds of 4.76%which includes the stated interest rate and the SBA annual charge. Actual interest payments may be different.To the extent we borrow money to finance our investments, changes in interest rates will affect our cost of capital and netinvestment income.To the extent we borrow money to finance our investments, our net investment income will depend, in part, upon thedifference between the rate at which we borrow funds and the rate at which we invest those funds. As a result, we can offer noassurance that a significant change in market interest rates will not have a material adverse effect on our net investment income inthe event we borrow money to finance our investments. In periods of rising interest rates, our cost of funds would increase, whichcould reduce our net investment income. We expect that our long-term fixed-rate investments will be financed primarily withequity and long-term debt. We may use interest rate risk management techniques in an effort to limit our exposure to interest ratefluctuations. Such techniques may include various interest rate hedging activities to the extent permitted by the 1940 Act. OurInvestment Advisor does not have significant experience with utilizing these techniques and did not implement these techniquesto any significant extent with our portfolio. If we do not implement these techniques properly, we could experience losses on ourhedging positions, which could be material.A disruption in the capital markets and the credit markets could impair our ability to raise capital and negatively affect ourbusiness.As a BDC, we have to maintain our ability to raise additional capital for investment purposes. Without sufficient access to thecapital markets or credit markets, we may be forced to curtail our business operations or we may not be able to pursue newbusiness opportunities.Since the middle of 2007, the capital markets and the credit markets have experienced periods of extreme volatility anddisruption and, accordingly, there has been and may continue to be uncertainty in the financial markets in general. ContinuingU.S. debt ceiling and budget deficit concerns, including automatic spending cuts stemming from sequestration, together withdeteriorating sovereign debt conditions in Europe, have increased the possibility of additional credit-rating downgrades andeconomic slowdowns, or a recession in the United States. The impact of this or any further downgrades to the U.S. government’ssovereign credit rating or its perceived creditworthiness could adversely affect the U.S. and global financial markets and economicconditions. These developments, along with the European sovereign debt crisis, could cause interest rates and borrowing costs torise, which may negatively impact our ability to access the debt markets on favorable terms. Continued adverse economicconditions could have a material adverse effect on our business, financial condition and results of operations. Any furtherdisruptive conditions in the financial industry and the impact of new legislation in response to those conditions could restrict ourbusiness operations and could adversely impact our results of operations and financial condition.If the fair value of our assets declines substantially, we may fail to maintain the asset coverage ratios imposed upon us by the1940 Act. Any such failure would affect our ability to issue senior securities, including borrowings, and pay dividends, whichcould materially impair our business operations. Our liquidity could be impaired further by an inability to access the capitalmarkets or to consummate new borrowing facilities to provide capital for normal operations, including new originations. In recentyears, reflecting37 TABLE OF CONTENTSconcern about the stability of the financial markets, many lenders and institutional investors have reduced or ceased providingfunding to borrowers.We have fully drawn on our SBA-guaranteed debentures and, absent changes to legislation or regulation, may not makeborrowings in excess of their aggregate $192.2 million of SBA-guaranteed debentures outstanding as of December 31, 2014. If weare unable to secure additional debt financing on commercially reasonable terms, our liquidity could be reduced significantly. Ifwe are unable to repay amounts outstanding under any debt facilities we may obtain and are declared in default or are unable torenew or refinance these facilities, we may not be able to operate our business in the normal course. These situations may arise dueto circumstances that we may be unable to control, such as lack of access to the credit markets, a severe decline in the value of theU.S. dollar, another economic downturn or an operational problem that affects third parties or us, and could materially damage ourbusiness.You should also be aware that a rise in the general level of interest rates can be expected to lead to higher interest ratesapplicable to our debt investments. Accordingly, an increase in interest rates would make it easier for us to meet or exceed theincentive fee hurdle rate and may result in a substantial increase of the amount of incentive fees payable to our InvestmentAdvisor with respect to our pre-incentive fee net investment income.We may experience fluctuations in our quarterly and annual results.We may experience fluctuations in our quarterly and annual operating results due to a number of factors, including our abilityor inability to make investments in companies that meet our investment criteria, any sales, dispositions or liquidity events of ourportfolio companies, the interest rate payable on the debt securities we acquire, the level of portfolio dividend and fee income, thelevel of our expenses, variations in and the timing of the recognition of realized and unrealized gains or losses, the degree towhich we encounter competition in our markets and general economic conditions. Given that the portfolio is concentrated,distributions, dispositions or liquidity events affecting a portfolio company in which we own a significant position may adverselyaffect our net asset value and results of operations. As a result of these factors, results for any period should not be relied upon asbeing indicative of performance in future periods.Our Board of Directors may change our investment objective, operating policies and strategies without prior notice orstockholder approval, the effects of which may be adverse.Our Board has the authority to modify or waive our investment objective, operating policies, investment criteria and strategieswithout prior notice and without stockholder approval. We cannot predict the effect any changes to our current operating policies,investment criteria and strategies would have on our business, net asset value, operating results and value of our stock. However,the effects might be adverse, which could negatively impact our ability to make distributions and cause you to lose all or part ofyour investment.We will be subject to corporate-level U.S. federal income tax if we are unable to qualify or maintain our qualification as a RICunder the Code.Although we have elected to be treated as a RIC beginning with our taxable year ended August 31, 2014, no assurance can begiven that we will be able to qualify for and maintain our qualification as a RIC under the Code. To obtain and maintain ourqualification as a RIC under the Code, we must meet the following source-of-asset diversification, and distribution requirements.The income source requirement will be satisfied if we obtain at least 90% of our income for each year from dividends, interest,gains from the sale of stock or securities or similar sources. The asset diversification requirement will be satisfied if we meet certainasset diversification requirements at the end of each quarter of our taxable year. Failure to meet those requirements may result inour having to dispose of certain investments quickly in order to prevent the loss of our qualification as a RIC under the Code.Because most of our investments will be in private companies, and therefore will be relatively illiquid, any such dispositionscould be made at disadvantageous prices and could result in substantial losses.The annual distribution requirement for a RIC will be satisfied if we distribute to our stockholders on an annual basis at least90% of our net ordinary income and net short-term capital gains in excess of our net38 TABLE OF CONTENTSlong-term capital losses, if any. Because we may use debt financing, we are subject to certain asset coverage ratio requirementsunder the 1940 Act, as well as future financial covenants under loan and credit agreements that could, under certain circumstances,restrict us from making distributions necessary to satisfy the distribution requirement. If we are unable to obtain cash from othersources, we could fail to qualify as a RIC under the Code.If we fail to qualify as a RIC under the Code for any reason and remain or become subject to corporate-level U.S. federalincome tax on all of our income, the resulting corporate taxes could substantially reduce our net assets, the amount of incomeavailable for distribution or reinvestment and the amount of our distributions.We may not be able to pay our stockholders distributions, our distributions may not grow over time and a portion of ourdistributions may be a return of capital.We intend to pay distributions to our stockholders out of assets legally available for distribution. We cannot assure you thatwe will achieve investment results that will allow us to make a specified level of cash distributions or year-to-year increases incash distributions. Our ability to pay distributions might be adversely affected by, among other things, the impact of one or moreof the risk factors described herein. In addition, the inability to satisfy the asset coverage test applicable to us as a BDC can limitour ability to pay distributions. All distributions will be paid at the discretion of our Board of Directors and will depend on ourearnings, our financial condition, maintenance of our RIC status, compliance with applicable BDC regulations and such otherfactors as our Board of Directors may deem relevant from time to time. We cannot assure you that we will pay distributions to ourstockholders in the future. In the event we liquidate or dispose of a significant equity position in our portfolio, we may distribute aspecial dividend relating to the realized capital gains from such investment in order to minimize to the greatest extent possible ourU.S. federal income or excise tax liability.When we make distributions, we will be required to determine the extent to which such distributions are paid out of current oraccumulated earnings and profits. Distributions in excess of current and accumulated earnings and profits will be treated as a non-taxable return of capital, which is a return of a portion of a shareholder’s original investment in our common stock, to the extent ofan investor’s basis in our stock and, assuming that an investor holds our stock as a capital asset, thereafter as a capital gain.Generally, a non-taxable return of capital will reduce an investor’s basis in our stock for U.S. federal income tax purposes, whichwill result in higher tax liability when the stock is sold.We may have difficulty paying our required distributions if we recognize income before or without receiving cash representingsuch income.For U.S. federal income tax purposes, we include in our taxable income certain amounts that we have not yet received in cash,such as PIK interest or original issue discount, which may arise if we receive warrants in connection with the origination of a loanor possibly in other circumstances. Such original issue discount or increases in loan balances as a result of contractual PIKarrangements are included in our taxable income before we receive any corresponding cash payments. We also may be required toinclude in our taxable income certain other amounts that we will not receive in cash.Since, in certain cases, we may recognize taxable income before or without receiving corresponding cash payments, we mayhave difficulty meeting the annual distribution requirement necessary to maintain our qualification as a RIC. Accordingly, tosatisfy our RIC distribution requirements, we may have to sell some of our investments at times and/or at prices we would notconsider advantageous, raise additional debt or equity capital or forgo new investment opportunities. If we are not able to obtaincash from other sources, we may fail to qualify as a RIC and thus become subject to corporate-level U.S. federal income tax.Our Investment Advisor is not obligated to reimburse us for any part of the incentive fee it receives that is based on accruedincome that we never receive.Part of the incentive fee payable by us to our Investment Advisor that relates to our net investment income is computed andpaid on income that may include interest that has been accrued but not yet received in cash, such as market discount, debtinstruments with PIK interest, preferred stock with PIK dividends and39 TABLE OF CONTENTSzero coupon securities. If a portfolio company defaults on a loan that is structured to provide accrued interest, it is possible thataccrued interest previously used in the calculation of the incentive fee will become uncollectible. Our Investment Advisor will notbe under any obligation to reimburse us for any part of the incentive fee it received that was based on accrued income that wenever receive as a result of a default by an entity on the obligation that resulted in the accrual of such income.We may in the future choose to pay dividends in our own stock, in which case you may be required to pay tax in excess of thecash you receive.We may distribute taxable dividends that are payable in part in our stock. In accordance with certain applicable Treasuryregulations and private letter rulings issued by the Internal Revenue Service (“IRS”), a RIC may treat a distribution of its ownstock as fulfilling the RIC distribution requirements if each stockholder may elect to receive his or her entire distribution in eithercash or stock of the RIC, subject to a limitation that the aggregate amount of cash to be distributed to all stockholders must be atleast 20% of the aggregate declared distribution. If too many stockholders elect to receive cash, each stockholder electing toreceive cash must receive a pro rata amount of cash (with the balance of the distribution paid in stock). In no event will anystockholder, electing to receive cash, receive less than 20% of his or her entire distribution in cash. If these and certain otherrequirements are met, for U.S. federal income tax purposes, the amount of the dividend paid in stock will be equal to the amount ofcash that could have been received instead of stock. Taxable stockholders receiving such dividends will be required to include thefull amount of the dividend as ordinary income (or as long-term capital gain to the extent such distribution is properly reported asa capital gain dividend) to the extent of our current and accumulated earnings and profits for U.S. federal income tax purposes. Asa result, a U.S. stockholder may be required to pay tax with respect to such dividends in excess of any cash received. If a U.S.stockholder sells the stock it receives as a dividend in order to pay this tax, the sales proceeds may be less than the amountincluded in income with respect to the dividend, depending on the market price of our stock at the time of the sale. Furthermore,with respect to non-U.S. stockholders, we may be required to withhold U.S. tax with respect to such dividends, including in respectof all or a portion of such dividend that is payable in stock. In addition, if a significant number of our stockholders determine tosell shares of our stock in order to pay taxes owed on dividends, it may put downward pressure on the trading price of our stock.If we fail to maintain an effective system of internal control over financial reporting, we may not be able to accurately reportour financial results or prevent fraud. As a result, stockholders and noteholders could lose confidence in our financial and otherpublic reporting, which would harm our business.Effective internal controls over financial reporting are necessary for us to provide reliable financial reports and, together withadequate disclosure controls and procedures, are designed to prevent fraud. Any failure to implement required new or improvedcontrols, or difficulties encountered in their implementation could cause us to fail to meet our reporting obligations. In addition,any testing by us conducted in connection with Section 404 of the Sarbanes-Oxley Act of 2002 (the “Sarbanes-Oxley Act”), or thesubsequent testing by our independent registered public accounting firm (when undertaken, as noted below), may revealdeficiencies in our internal controls over financial reporting that are deemed to be material weaknesses or that may requireprospective or retroactive changes to our consolidated financial statements or identify other areas for further attention orimprovement. Inferior internal controls could also cause investors to lose confidence in our reported financial information, whichcould have a negative effect on our business.We are required to disclose changes made in our internal control and procedures on a quarterly basis and our management isrequired to assess the effectiveness of these controls annually. However, for as long as we are an “emerging growth company”under the JOBS Act, our independent registered public accounting firm will not be required to attest to the effectiveness of ourinternal control over financial reporting pursuant to Section 404 of the Sarbanes-Oxley Act. We could be an “emerging growthcompany” for up to five years.An independent assessment of the effectiveness of our internal controls could detect problems that our management’sassessment might not. Undetected material weaknesses in our internal controls could lead to financial statement restatements andrequire us to incur the expense of remediation. As a public company, may incur significant additional expenses in the near term,which may negatively impact our financial performance and our ability to make distributions to our stockholders. This processalso will result in a diversion of40 TABLE OF CONTENTSmanagement’s time and attention. We cannot be certain as to the timing of completion of any evaluation, testing and remediationactions or the impact of the same on our operations, and we may not be able to ensure that the process is effective or that ourinternal controls over financial reporting are or will be effective in a timely manner. In the event that we are unable to maintain orachieve compliance with Section 404 of the Sarbanes-Oxley Act and related rules, the market price of our common stock may beadversely affected.Our status as an “emerging growth company” under the JOBS Act may make it more difficult to raise capital as and when weneed it.Because of the exemptions from various reporting requirements provided to us as an “emerging growth company” under theJOBS Act and because we will have an extended transition period for complying with new or revised financial accountingstandards, we may be less attractive to investors and it may be difficult for us to raise additional capital as and when we need it.Investors may be unable to compare our business with other companies in our industry if they believe that our financialaccounting is not as transparent as other companies in our industry. If we are unable to raise additional capital as and when weneed it, our financial condition and results of operations may be materially and adversely affected.Pending legislation may allow us to incur additional leverage.Under the 1940 Act, a BDC generally will not be permitted to incur indebtedness unless immediately after such borrowing theBDC has an asset coverage for total borrowings of at least 200% (i.e., the amount of debt may not exceed 50% of the value of totalassets). Legislation introduced in the U.S. House of Representatives in 2012, if passed, would modify this section of the 1940 Actand increase the amount of debt that BDCs may incur by modifying the percentage from 200% to 150%. In addition, recentlegislation introduced in the U.S. Senate would modify SBA regulations in a manner that may permit us to incur additional SBAguaranteed-indebtness. As a result, we may be able to incur additional indebtedness in the future, and therefore your risk of aninvestment in us may increase.Changes in laws or regulations governing our operations may adversely affect our business or cause us to alter our businessstrategy.We and our portfolio companies will be subject to applicable local, state and federal laws and regulations. New legislationmay be enacted or new interpretations, rulings or regulations could be adopted, including those governing the types ofinvestments we are permitted to make, any of which could harm us and our stockholders, potentially with retroactive effect.Additionally, any changes to the laws and regulations governing our operations relating to permitted investments may cause us toalter our investment strategy in order to avail ourselves of new or different opportunities. Such changes could result in materialdifferences to the strategies and plans set forth herein and may result in our investment focus shifting from the areas of expertise ofour Investment Advisor’s investment team to other types of investments in which the investment team may have less expertise orlittle or no experience. Thus, any such changes, if they occur, could have a material adverse effect on our results of operations andthe value of your investment. In addition, any change to the SBA’s current Debenture SBIC program could have a significantimpact on our ability to obtain lower-cost financing and, therefore, our competitive advantage over other finance companies.Over the last several years, there has been an increase in regulatory attention to the extension of credit outside of thetraditional banking sector, raising the possibility that some portion of the non-bank financial sector will be subject to newregulation. While it cannot be known at this time whether these regulations will be implemented or what form they will take,increased regulation of non-bank credit extension could negatively impact our operations, cash flows or financial condition,impose additional costs on us, intensify the regulatory supervision of us or otherwise adversely affect our business.41 TABLE OF CONTENTSTwo of our wholly owned subsidiaries are licensed by the U.S. Small Business Administration, and as a result, we are subject toSBA regulations.Fund II and Fund III, which became our wholly owned subsidiaries after the completion of the Formation Transactions, arelicensed to act as SBICs and are regulated by the SBA. As of December 31, 2014, Fund II and Fund III portfolio companiesaccounted for most of our aggregate portfolio. The SBIC licenses allow our SBIC subsidiaries to borrow funds by issuing SBA-guaranteed debentures, subject to the issuance of a capital commitment by the SBA and other customary procedures. The SBAregulations require, among other things, that a licensed SBIC be examined periodically and audited by an independent auditor todetermine the SBIC’s compliance with the relevant SBA regulations.Under current SBA regulations, a licensed SBIC may provide capital to those entities that have a tangible net worth notexceeding $18.0 million and an average annual net income after U.S. federal income taxes not exceeding $6.0 million for the twomost recent fiscal years. In addition, a licensed SBIC must devote 25.0% of its investment activity to those entities that have atangible net worth not exceeding $6.0 million and an average annual net income after U.S. federal income taxes not exceeding$2.0 million for the two most recent fiscal years. The SBA regulations also provide alternative size standard criteria to determineeligibility, which depend on the industry in which the business is engaged and are based on factors such as the number ofemployees and gross sales. The SBA regulations permit licensed SBICs to make long term loans to small businesses, invest in theequity securities of such businesses and provide them with consulting and advisory services. The SBA also places certainlimitations on the financing terms of investments by SBICs in portfolio companies and prohibits SBICs from providing funds forcertain purposes or to businesses in a few prohibited industries. Compliance with SBA requirements may cause a Legacy Fund toforego attractive investment opportunities that are not permitted under SBA regulations.The SBA also prohibits, without prior SBA approval, a “change of control” of an SBIC or transfers that would result in anyperson (or a group of persons acting in concert) owning 10.0% or more of a class of capital stock of a licensed SBIC. If Fund II orFund III fails to comply with applicable SBA regulations, the SBA could, depending on the severity of the violation, limit orprohibit such Fund’s use of debentures, declare outstanding debentures immediately due and payable, and/or limit such Fund frommaking new investments. Such actions by the SBA would, in turn, negatively affect us because Fund II and Fund III are our whollyowned subsidiaries. Each of Fund II and Fund III was in compliance with the terms of the SBA’s leverage requirements as ofDecember 31, 2014 as a result of having sufficient capital as defined under the SBA regulations.Our wholly owned SBIC subsidiaries may be unable to make distributions to us that will enable us to meet or maintain RICstatus, which could result in the imposition of a corporate-level U.S. federal income tax.In order for us to continue to qualify for RIC tax treatment and to minimize corporate-level U.S. federal income taxes, we willbe required to distribute substantially all of our net ordinary income and net capital gain income, including income from certain ofour subsidiaries, which includes the income from our SBIC subsidiaries. We will be partially dependent on our SBIC subsidiariesfor cash distributions to enable us to meet the RIC distribution requirements. Our SBIC subsidiaries may be limited by the SBAand SBA regulations from making certain distributions to us that may be necessary to maintain our status as a RIC. We may haveto request a waiver of the SBA’s restrictions for our SBIC subsidiaries to make certain distributions to maintain our RIC status. Wecannot assure you that the SBA will grant such waiver and if our SBIC subsidiaries are unable to obtain a waiver, compliance withthe SBA regulations may result in loss of RIC tax treatment and a consequent imposition of a corporate-level U.S. federal incometax on us.Our business is subject to increasingly complex corporate governance, public disclosure and accounting requirements that arecostly and could adversely affect our business and financial results.As a publicly traded company, we incur legal, accounting and other expenses, including costs associated with the periodicreporting requirements applicable to a company whose securities are registered under the Securities Exchange Act of 1934, asamended, or the Exchange Act, as well as additional corporate governance requirements, including requirements under theSarbanes-Oxley Act, and other rules implemented by the SEC. Also, we are subject to changing rules and regulations of federaland state government as well as42 TABLE OF CONTENTSthe stock exchange on which our common stock is listed. These entities, including the Public Company Accounting OversightBoard, the SEC and the NASDAQ Global Select Market, have issued a significant number of new and increasingly complexrequirements and regulations over the last several years and continue to develop additional regulations and requirements inresponse to laws enacted by Congress. For example, on July 21, 2010, the Dodd-Frank Wall Street Reform and Protection Act, orthe Dodd-Frank Act, was enacted. There are significant corporate governance and executive compensation-related provisions inthe Dodd-Frank Act that require the SEC to adopt additional rules and regulations in these areas such as “say on pay” and proxyaccess. Our efforts to comply with these requirements may result in an increase in expenses and a diversion of management’s timefrom other business activities.Although passage of the Dodd-Frank Act has resulted in extensive rulemaking and regulatory changes that affect us and thefinancial industry as a whole, many of its provisions remain subject to extended implementation periods and delayed effectivedates and will require extensive rulemaking by regulatory authorities. While the full impact of the Dodd-Frank Act on us and ourportfolio companies may not be known for an extended period of time, the Dodd-Frank Act, including future rules implementingits provisions and the interpretation of those rules, along with other legislative and regulatory proposals directed at the financialservices industry or affecting taxation that are proposed or pending in the U.S. Congress, may negatively impact the operations,cash flows or financial condition of us or our portfolio companies, impose additional costs on us or our portfolio companies,intensify the regulatory supervision of us or our portfolio companies or otherwise adversely affect our business or the business ofour portfolio companies.We received an exemptive order from the SEC exempting us from certain provisions of the 1940 Act and the Exchange Act.On June 10, 2014, we received an exemptive order from the SEC exempting us, Fund II and Fund III from certain provisions ofthe 1940 Act (including an exemptive order granting relief from the asset coverage requirements for certain indebtedness issuedby Fund II and Fund III as SBICs) and from certain reporting requirements mandated by the Exchange Act with respect to Fund IIand Fund III. We intend to comply with the conditions of the order. As a result, we will generally be permitted to incur a greateramount of leverage relative to our total assets and net asset value.We are highly dependent on information systems and systems failures could significantly disrupt our business, which may, inturn, negatively affect the market price of our common stock and our ability to make distributions to our stockholders.Our business is highly dependent on the communications and information systems of the Investment Advisor. Certain of thesesystems are provided to the Investment Advisor by third-party service providers. Any failure or interruption of such systems,including as a result of the termination of an agreement with any such third-party service provider, could cause delays or otherproblems in our activities. This, in turn, could have a material adverse effect on our operating results and negatively affect themarket price of our common stock and our ability to make distributions to our stockholders.Terrorist attacks, acts of war or natural disasters may affect the market for our common stock, impact the businesses in whichwe invest and harm our business, operating results and financial condition.Terrorist acts, acts of war or natural disasters may disrupt our operations, as well as the operations of the businesses in which weinvest. Such acts have created, and continue to create, economic and political uncertainties and have contributed to globaleconomic instability. Future terrorist activities, military or security operations, or natural disasters could further weaken thedomestic/global economies and create additional uncertainties, which may negatively impact the businesses in which we investdirectly or indirectly and, in turn, could have a material adverse impact on our business, operating results and financial condition.Losses from terrorist attacks and natural disasters are generally uninsurable.To the extent original issue discount and PIK interest constitute a portion of our income, we will be exposed to typical risksassociated with such income being required to be included in taxable and accounting income prior to receipt of cashrepresenting such income.Our investments may include original issue discount, or original issue discount (“OID”), instruments and contractual PIK,interest, which represents contractual interest added to a loan balance and due at the end of43 TABLE OF CONTENTSsuch loan’s term. To the extent OID or PIK interest constitute a portion of our income, we are exposed to typical risks associatedwith such income being required to be included in taxable and accounting income prior to receipt of cash, including thefollowing:•OID instruments may have higher yields, which reflect the payment deferral and credit risk associated with theseinstruments;•OID accruals may create uncertainty about the source of our distributions to stockholders;•OID and PIK instruments may have unreliable valuations because their continuing accruals require continuing judgmentsabout the collectability of the deferred payments and the value of the collateral; and•OID and PIK instruments may represent a higher credit risk than coupon loans.If we cannot obtain additional capital because of either regulatory or market price constraints, we could be forced to curtail orcease our new lending and investment activities, our net asset value could decrease and our level of distributions and liquiditycould be affected adversely.Our ability to secure additional financing and satisfy our financial obligations under indebtedness outstanding from time totime will depend upon our future operating performance, which is subject to the prevailing general economic and credit marketconditions, including interest rate levels and the availability of credit generally, and financial, business and other factors, many ofwhich are beyond our control. The prolonged continuation or worsening of current economic and capital market conditions couldhave a material adverse effect on our ability to secure financing on favorable terms, if at all.If we are unable to obtain additional debt capital, then our equity investors will not benefit from the potential for increasedreturns on equity resulting from leverage to the extent that our investment strategy is successful and we may be limited in ourability to make new commitments or fundings to our portfolio companies.Uncertainty about the financial stability of the United States and of several countries in the European Union (EU) could have asignificant adverse effect on our business, results of operations and financial condition.Due to federal budget deficit concerns, S&P downgraded the federal government’s credit rating from AAA to AA+ for the firsttime in history on August 5, 2011. Further, Moody’s and Fitch have warned that they may downgrade the federal government’scredit rating. Further downgrades or warnings by S&P or other rating agencies, and the government’s credit and deficit concerns ingeneral, could cause interest rates and borrowing costs to rise, which may negatively impact both the perception of credit riskassociated with our debt portfolio and our ability to access the debt markets on favorable terms. In addition, a decreased creditrating could create broader financial turmoil and uncertainty, which may weigh heavily on our financial performance and thevalue of our common stock.In 2010, a financial crisis emerged in Europe, triggered by high budget deficits and rising direct and contingent sovereign debtin Greece, Ireland, Italy, Portugal and Spain, which created concerns about the ability of these nations to continue to service theirsovereign debt obligations. Risks and ongoing concerns resulting from the debt crisis in Europe could have a detrimental impacton the global economic recovery, sovereign and non-sovereign debt in these countries and the financial condition of Europeanfinancial institutions. Market and economic disruptions have affected, and may continue to affect, consumer confidence levelsand spending, personal bankruptcy rates, levels of incurrence and default on consumer debt and home prices, among other factors.We cannot assure you that the market disruptions in Europe, including the increased cost of funding for certain governments andfinancial institutions, will not spread, and we cannot assure you that future assistance packages will be available, or if available,sufficient to stabilize the affected countries and markets in Europe or elsewhere. To the extent uncertainty regarding any economicrecovery in Europe continues to negatively impact consumer confidence and consumer credit factors, our business and results ofoperations could be significantly and adversely affected.44 TABLE OF CONTENTSIn October 2014, the U.S. Federal Reserve announced that it has terminated its bond-buying program, or quantitative easing,which was designed to stimulate the economy and expand the Federal Reserve’s holdings of long-term securities until keyeconomic indicators, such as the unemployment rate, showed signs of improvement. It is unclear what effect, if any, the FederalReserve’s termination of quantitative easing will have on the value of our investments. However, it is possible that withoutquantitative easing by the Federal Reserve, these developments, along with the European sovereign debt crisis, could causeinterest rates and borrowing costs to rise, which may negatively impact our ability to access the debt markets on favorable terms.A failure or the perceived risk of a failure to raise the statutory debt limit of the United States could have a material adverseeffect on our business, financial condition and results of operations.In the future, the United States federal government may not be able to meet its debt payments unless the federal debt ceiling israised. If legislation increasing the debt ceiling is not enacted, as needed, and the debt ceiling is reached, the federal governmentmay stop or delay making payments on its obligations. A failure by Congress to raise the debt limit would increase the risk ofdefault by the United States on its obligations, as well as the risk of other economic dislocations.If the U.S. government fails to complete its budget process or to provide for a continuing resolution before the expiration ofthe current continuing resolution, a federal government shutdown may result. Such a failure or the perceived risk of such a failure,consequently, could have a material adverse effect on the financial markets and economic conditions in the United States andthroughout the world. It could also limit our ability and the ability of our portfolio companies to obtain financing, and it couldhave a material adverse effect on the valuation of our portfolio companies. Consequently, the continued uncertainty in the generaleconomic environment, including the recent government shutdown and potential debt ceiling implications, as well in specificeconomies of several individual geographic markets in which our portfolio companies operate, could adversely affect ourbusiness, financial condition and results of operations.We are an “emerging growth company” under the JOBS Act, and we cannot be certain if the reduced disclosure requirementsapplicable to emerging growth companies will make our securities less attractive to investors.We are and we will remain an “emerging growth company” as defined in the JOBS Act until the earlier of (a) the last day of thefiscal year (i) following the fifth anniversary of the completion of this offering, (ii) in which we have total annual gross revenue ofat least $1.0 billion, or (iii) in which we are deemed to be a large accelerated filer, which means the market value of our commonstock that is held by non-affiliates exceeds $700 million as of the end of the previous second fiscal quarter, and (b) the date onwhich we have issued more than $1.0 billion in non-convertible debt during the prior three-year period. For so long as we remainan “emerging growth company” we have chosen to take advantage of certain exemptions from various reporting requirements thatare applicable to other public companies that are not “emerging growth companies” including, but not limited to, not beingrequired to comply with the auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act. We cannot predict ifinvestors will find our securities less attractive because we will rely on some or all of these exemptions. If some investors find oursecurities less attractive as a result, there may be a less active and more volatile trading market for our securities.In addition, Section 107 of the JOBS Act also provides that an “emerging growth company” may take advantage of theextended transition period provided in Section 7(a)(2)(B) of the Securities Act for complying with new or revised accountingstandards. In other words, an “emerging growth company” can delay the adoption of certain accounting standards until thosestandards would otherwise apply to private companies. We have chosen to take advantage of the extended transition period forcomplying with new or revised accounting standards, which may make it more difficult for investors and securities analysts toevaluate us since our financial statements may not be comparable to companies that comply with public company effective datesand may result in less investor confidence.45 TABLE OF CONTENTSOur Board of Directors is authorized to reclassify any unissued shares of common stock into one or more classes of preferredstock, which could convey special rights and privileges to its owners.Under Maryland General Corporation Law and our charter, our Board of Directors is authorized to classify and reclassify anyauthorized but unissued shares of stock into one or more classes of stock, including preferred stock. Prior to issuance of shares ofeach class or series, our Board of Directors will be required by Maryland law and our charter to set the terms, preferences,conversion or other rights, voting powers, restrictions, limitations as to dividends or other distributions, qualifications and termsor conditions of redemption for each class or series. Thus, our Board of Directors could authorize the issuance of shares of preferredstock with terms and conditions that could have the effect of delaying, deferring or preventing a transaction or a change in controlthat might involve a premium price for holders of our common stock or otherwise be in their best interest. The cost of any suchreclassification would be borne by our common stockholders. Certain matters under the 1940 Act require the separate vote of theholders of any issued and outstanding preferred stock. For example, holders of preferred stock would vote separately from theholders of common stock on a proposal to cease operations as a BDC. In addition, the 1940 Act provides that holders of preferredstock are entitled to vote separately from holders of common stock to elect two preferred stock directors. We currently have noplans to issue preferred stock. The issuance of preferred shares convertible into shares of common stock may also reduce the netincome and net asset value per share of our common stock upon conversion, provided, that we will only be permitted to issue suchconvertible preferred stock to the extent we comply with the requirements of Section 61 of the 1940 Act, including obtainingcommon stockholder approval. These effects, among others, could have an adverse effect on your investment in our commonstock.Provisions of the Maryland General Corporation Law and of our charter and bylaws could deter takeover attempts and have anadverse impact on the price of our common stock.The Maryland General Corporation Law and our charter and bylaws contain provisions that may discourage, delay or makemore difficult a change in control of Capitala Finance or the removal of our directors. We are subject to the Maryland BusinessCombination Act, subject to any applicable requirements of the 1940 Act. Our Board of Directors has adopted a resolutionexempting from the Business Combination Act any business combination between us and any other person, subject to priorapproval of such business combination by our board, including approval by a majority of our independent directors. If theresolution exempting business combinations is repealed or our board does not approve a business combination, the BusinessCombination Act may discourage third parties from trying to acquire control of us and increase the difficulty of consummatingsuch an offer. Our bylaws exempt from the Maryland Control Share Acquisition Act acquisitions of our stock by any person. If weamend our bylaws to repeal the exemption from the Control Share Acquisition Act, the Control Share Acquisition Act also maymake it more difficult for a third-party to obtain control of us and increase the difficulty of consummating such a transaction. It isthe position of the staff of the SEC’s Division of Investment Management that if a BDC fails to opt-out of the Maryland ControlShare Acquisition Act, it acts in a manner inconsistent with Section 18(i) of the 1940 Act.We have also adopted measures that may make it difficult for a third-party to obtain control of us, including provisions of ourcharter classifying our Board of Directors in three classes serving staggered three-year terms, and authorizing our Board ofDirectors to classify or reclassify shares of our stock in one or more classes or series, to cause the issuance of additional shares ofour stock, to amend our charter without stockholder approval and to increase or decrease the number of shares of stock that wehave authority to issue. These provisions, as well as other provisions of our charter and bylaws, may delay, defer or prevent atransaction or a change in control that might otherwise be in the best interests of our stockholders.The foregoing provisions are expected to discourage certain coercive takeover practices and inadequate takeover bids and toencourage persons seeking to acquire control of us to negotiate first with our Board of Directors. However, these provisions maydeprive a shareholder of the opportunity to sell such shareholder’s shares at a premium to a potential acquirer. We believe that thebenefits of these provisions outweigh the potential disadvantages of discouraging any such acquisition proposals because, amongother things, the negotiation of such proposals may improve their terms. Our Board of Directors has considered both the positiveand negative effects of the foregoing provisions and determined that they are in the best interest of46 TABLE OF CONTENTSour shareholders. See “Description of Our Capital Stock — Certain Provisions of the Maryland General Corporation Law and OurCharter and Bylaws.”The failure in cyber security systems, as well as the occurrence of events unanticipated in the Company’s disaster recoverysystems and management continuity planning could impair the Company’s ability to conduct business effectively.The occurrence of a disaster such as a cyber attack, a natural catastrophe, an industrial accident, a terrorist attack or war, eventsunanticipated in the Company’s disaster recovery systems, or a support failure from external providers, could have an adverseeffect on the Company’s ability to conduct business and on the Company’s results of operations and financial condition,particularly if those events affect the Company’s computer-based data processing, transmission, storage, and retrieval systems ordestroy data. If a significant number of the Company’s managers were unavailable in the event of a disaster, the Company’s abilityto effectively conduct its business could be severely compromised.We depend heavily upon computer systems to perform necessary business functions. Despite the Company’s implementationof a variety of security measures, its computer systems could be subject to cyber attacks and unauthorized access, such as physicaland electronic break-ins or unauthorized tampering. Like other companies, the Company may experience threats to its data andsystems, including malware and computer virus attacks, unauthorized access, system failures and disruptions. If one or more ofthese events occurs, it could potentially jeopardize the confidential, proprietary and other information processed and stored in,and transmitted through, the Company’s computer systems and networks, or otherwise cause interruptions or malfunctions in itsoperations, which could result in damage to the Company’s reputation, financial losses, litigation, increased costs, regulatorypenalties and/or customer dissatisfaction or loss.Risks Related to Our InvestmentsOur investments are very risky and highly speculative.We invest primarily in senior secured term loans, mezzanine debt and select equity investments issued by leveragedcompanies.Senior Secured Loans. There is a risk that the collateral securing our loans may decrease in value over time, may be difficultto sell in a timely manner, may be difficult to appraise and may fluctuate in value based upon the success of the business andmarket conditions, including as a result of the inability of the portfolio company to raise additional capital, and, in somecircumstances, our lien could be subordinated to claims of other creditors. In addition, deterioration in a portfolio company’sfinancial condition and prospects, including its inability to raise additional capital, may be accompanied by deterioration in thevalue of the collateral for the loan. Consequently, the fact that a loan is secured does not guarantee that we will receive principaland interest payments according to the loan’s terms, or at all, or that we will be able to collect on the loan should we be forced toenforce our remedies.Mezzanine Loans. Our mezzanine debt investments are generally subordinated to senior loans and may be unsecured. As such,other creditors may rank senior to us in the event of an insolvency, which could likely in many cases result in a substantial orcomplete loss on such investment in the case of such insolvency. This may result in an above average amount of risk and loss ofprincipal.Equity Investments. When we invest in senior secured loans or mezzanine loans, we may acquire equity securities as well. Inaddition, we may invest directly in the equity securities of portfolio companies. The equity interests we receive may notappreciate in value and, in fact, may decline in value. Accordingly, we may not be able to realize gains from our equity interests,and any gains that we do realize on the disposition of any equity interests may not be sufficient to offset any other losses weexperience. The portfolio currently has several significant equity positions. Distributions, dispositions, or liquidity events of theseinvestments may affect our results of operations and cause us to have to pay a special dividend relating to the realized gains fromsuch investment in order to minimize to the greatest extent possible our U.S. federal income or excise tax liability.47 TABLE OF CONTENTSIn addition, investing in smaller and lower middle-market companies involves a number of significant risks, including:•these companies may have limited financial resources and may be unable to meet their obligations under their debtsecurities that we hold, which may be accompanied by a deterioration in the value of any collateral and a reduction in thelikelihood of us realizing any guarantees we may have obtained in connection with our investment;•they typically have shorter operating histories, narrower product lines and smaller market shares than larger businesses,which tend to render them more vulnerable to competitors’ actions and market conditions, as well as general economicdownturns;•they are more likely to depend on the management talents and efforts of a small group of persons; therefore, the death,disability, resignation or termination of one or more of these persons could have a material adverse impact on our portfoliocompany and, in turn, on us;•they generally have less predictable operating results, may from time to time be parties to litigation, may be engaged inrapidly changing businesses with products subject to a substantial risk of obsolescence, and may require substantialadditional capital to support their operations, finance expansion or maintain their competitive position;•they may have difficulty accessing the capital markets to meet future capital needs, which may limit their ability to growor to repay their outstanding indebtedness upon maturity; and•our executive officers, directors and our Investment Advisor may, in the ordinary course of business, be named asdefendants in litigation arising from our investments in the portfolio companies.An investment strategy focused primarily on smaller privately held companies involves a high degree of risk and presentscertain challenges, including the lack of available information about these companies, a dependence on the talents and effortsof only a few key portfolio company personnel and a greater vulnerability to economic downturns.Our portfolio consists primarily of debt and equity investments in smaller privately owned venture capital-backed companies.Investing in venture capital-backed companies involves a number of significant risks. Typically, the debt in which we will investis not initially rated by any rating agency; however, we believe that if such investments were rated, they would be rated belowinvestment grade. Below investment grade securities, which are often referred to as “high yield” or “junk,” have predominantlyspeculative characteristics with respect to the issuer’s capacity to pay interest and repay principal. Compared to larger publiclyowned companies, these venture capital-backed companies may be in a weaker financial position and experience wider variationsin their operating results, which may make them more vulnerable to economic downturns. Typically, these companies need morecapital to compete; however, their access to capital is limited and their cost of capital is often higher than that of their competitors.Our portfolio companies often face intense competition from larger companies with greater financial, technical and marketingresources and their success typically depends on the managerial talents and efforts of an individual or a small group of persons.Therefore, any loss of its key employees could affect a portfolio company’s ability to compete effectively and harm its financialcondition. Further, some of these companies conduct business in regulated industries that are susceptible to regulatory changes.These factors could impair the cash flow of our portfolio companies and result in other events, such as bankruptcy. These eventscould limit a portfolio company’s ability to repay its obligations to us, which may have an adverse effect on the return on, or therecovery of, our investment in these businesses. Deterioration in a borrower’s financial condition and prospects may beaccompanied by deterioration in the value of the loan’s collateral.Generally, little public information exists about these companies, and we are required to rely on the ability of our InvestmentAdvisor’s investment team to obtain adequate information to evaluate the potential returns from investing in these companies. Ifwe are unable to uncover all material information about these companies, we may not make a fully informed investment decision,and we may lose money on our investments. Also, privately held companies frequently have less diverse product lines and smallermarket presence than larger competitors. These factors could adversely affect our investment returns as compared to companiesinvesting primarily in the securities of public companies.48 TABLE OF CONTENTSMany of our loans are not fully amortizing and if a borrower cannot repay or refinance such loans at maturity, our results willsuffer.Most of the loans in which we invest are not structured to fully amortize during their lifetime. Accordingly, a significantportion of the principal amount of such a loan may be due at maturity. As of December 31, 2014, all debt instruments in ourportfolio, on a fair value basis, will not fully amortize prior to maturity. In order to create liquidity to pay the final principalpayment, borrowers typically must raise additional capital. If they are unable to raise sufficient funds to repay us or we have notelected to enter into a new loan agreement providing for an extended maturity, the loan will go into default, which will require usto foreclose on the borrower’s assets, even if the loan was otherwise performing prior to maturity. This will deprive CapitalaFinance from immediately obtaining full recovery on the loan and prevent or delay the reinvestment of the loan proceeds in other,more profitable investments.Our investments in leveraged portfolio companies may be risky, and you could lose all or part of your investment.Investment in leveraged companies involves a number of significant risks. Leveraged companies in which we invest may havelimited financial resources and may be unable to meet their obligations under their loans and debt securities that we hold. Suchdevelopments may be accompanied by a deterioration in the value of any collateral and a reduction in the likelihood of ourrealizing any guarantees that we may have obtained in connection with our investment. Smaller leveraged companies also mayhave less predictable operating results and may require substantial additional capital to support their operations, finance theirexpansion or maintain their competitive position.Our portfolio companies may incur debt that ranks equally with, or senior to, our investments in such companies.Our portfolio companies may have, or may be permitted to incur, other debt that ranks equally with, or in some cases senior to,the debt in which we invest. By their terms, such debt instruments may entitle the holders to receive payment of interest orprincipal on or before the dates on which we are entitled to receive payments with respect to the debt instruments in which weinvest. Also, in the event of insolvency, liquidation, dissolution, reorganization or bankruptcy of a portfolio company, holders ofdebt instruments ranking senior to our investment in that portfolio company would typically be entitled to receive payment in fullbefore we receive any distribution. After repaying such senior creditors, such portfolio company may not have sufficientremaining assets to repay its obligation to us. In the case of debt ranking equally with debt instruments in which we invest, wewould have to share on an equal basis any distributions with other creditors holding such debt in the event of an insolvency,liquidation, dissolution, reorganization or bankruptcy of the relevant portfolio company.Second priority liens on collateral securing loans that we make to our portfolio companies may be subject to control by seniorcreditors with first priority liens. If there is a default, the value of the collateral may not be sufficient to repay in full both thefirst priority creditors and us.Certain loans that we make are secured by a second priority security interest in the same collateral pledged by a portfoliocompany to secure senior debt owed by the portfolio company to commercial banks or other traditional lenders. Often the seniorlender has procured covenants from the portfolio company prohibiting the incurrence of additional secured debt without thesenior lender’s consent. Prior to and as a condition of permitting the portfolio company to borrow money from us secured by thesame collateral pledged to the senior lender, the senior lender may require assurances that it will control the disposition of anycollateral in the event of bankruptcy or other default. In many such cases, the senior lender requires us to enter into an“intercreditor agreement” prior to permitting the portfolio company to borrow from us. Typically the intercreditor agreements weare requested to execute expressly subordinate our debt instruments to those held by the senior lender and further provide that thesenior lender shall control: (i) the commencement of foreclosure or other proceedings to liquidate and collect on the collateral; (ii)the nature, timing and conduct of foreclosure or other collection proceedings; (iii) the amendment of any collateral document; (iv)the release of the security interests in respect of any collateral; and (v) the waiver of defaults under any security agreement.Because of the control we may cede to senior lenders under intercreditor agreements we may enter, we may be unable to realize theproceeds of any collateral securing some of our loans.49 TABLE OF CONTENTSIf we make subordinated investments, the obligors or the portfolio companies may not generate sufficient cash flow to servicetheir debt obligations to us.We have made, and may make, subordinated investments that rank below other obligations of the obligor in right of payment.Subordinated investments are subject to greater risk of default than senior obligations as a result of adverse changes in thefinancial condition of the obligor or economic conditions in general. If we make a subordinated investment in a portfoliocompany, the portfolio company may be highly leveraged, and its relatively high debt-to-equity ratio may create increased risksthat its operations might not generate sufficient cash flow to service all of its debt obligations.The disposition of our investments may result in contingent liabilities.Substantially all of our investments involve loans and private securities. In connection with the disposition of an investmentin loans and private securities, we may be required to make representations about the business and financial affairs of the portfoliocompany typical of those made in connection with the sale of a business. We may also be required to indemnify the purchasers ofsuch investment to the extent that any such representations turn out to be inaccurate or with respect to potential liabilities. Thesearrangements may result in contingent liabilities that ultimately result in funding obligations that we must satisfy through ourreturn of distributions previously made to us.There may be circumstances where our debt investments could be subordinated to claims of other creditors or we could besubject to lender liability claims.Even though we may have structured most of our investments as secured loans, if one of our portfolio companies were to gobankrupt, depending on the facts and circumstances, and based upon principles of equitable subordination as defined by existingcase law, a bankruptcy court could subordinate all or a portion of our claim to that of other creditors and transfer any lien securingsuch subordinated claim to the bankruptcy estate. The principles of equitable subordination defined by case law have generallyindicated that a claim may be subordinated only if its holder is guilty of misconduct or where the senior loan is re-characterized asan equity investment and the senior lender has actually provided significant managerial assistance to the bankrupt debtor. Wemay also be subject to lender liability claims for actions taken by us with respect to a borrower’s business or instances where weexercise control over the borrower. It is possible that we could become subject to a lender’s liability claim, including as a result ofactions taken in rendering significant managerial assistance or actions to compel and collect payments from the borrower outsidethe ordinary course of business. Such risk of equitable subordination may be potentially heightened with respect to variousportfolio investments that we may be deemed to control. If we were deemed to have the ability to control or otherwise exerciseinfluence over the business and affairs of one or more of our portfolio companies resulting in economic hardship to other creditorsof that company, this control or influence may constitute grounds for equitable subordination and a court may treat one or more ofour loans as if it were unsecured or common equity in the portfolio company. In that case, if the portfolio company were toliquidate, we would be entitled to repayment of our loan on a pro-rata basis with other unsecured debt or, if the effect ofsubordination was to place us at the level of common equity, then on an equal basis with other holders of the portfolio company’scommon equity only after all of its obligations relating to its debt and preferred securities had been satisfied. See also “— Becausewe expect that we will not hold controlling equity interests in most of our portfolio companies, we may not be in a position toexercise control over our portfolio companies or to prevent decisions by management of our portfolio companies that coulddecrease the value of our investments.”Economic recessions could impair our portfolio companies and harm our operating results.Certain of our portfolio companies may be susceptible to an economic downturn and may be unable to repay our loans duringthis period. Therefore, assets may become non-performing and the value of our portfolio may decrease during this period. Theadverse economic conditions also may decrease the value of collateral securing some of our loans and the value of our equityinvestments. A recession could lead to financial losses in our portfolio and a decrease in our revenues, net income and the value ofour assets.50 TABLE OF CONTENTSAdverse economic conditions also may decrease the value of collateral securing some of our loans and the value of our equityinvestments at fair value. Unfavorable economic conditions also could increase our funding costs, limit our access to the capitalmarkets or result in a decision by lenders not to extend credit to us. These events could prevent us from increasing investmentsand harm our operating results.A portfolio company’s failure to satisfy financial or operating covenants imposed by us or other lenders could lead to defaultsand, potentially, acceleration of the time when the loans are due and foreclosure on its secured assets, which could trigger cross-defaults under other agreements and jeopardize the portfolio company’s ability to meet its obligations under the debt that wehold. We may incur additional expenses to the extent necessary to seek recovery upon default or to negotiate new terms with adefaulting portfolio company. In addition, if one of our portfolio companies were to go bankrupt, depending on the facts andcircumstances, including the extent to which we actually provided significant managerial assistance to that portfolio company, abankruptcy court might re-characterize our debt holdings and subordinate all or a portion of our claim to that of other creditors.These portfolio companies may face intense competition, including competition from companies with greater financialresources, more extensive research and development, manufacturing, marketing and service capabilities and greater number ofqualified and experienced managerial and technical personnel. They may need additional financing which they are unable tosecure and which we are unable or unwilling to provide, or they may be subject to adverse developments unrelated to thetechnologies they acquire.The lack of liquidity in our investments may adversely affect our business.We generally invest in companies whose securities are not publicly traded, and whose securities will be subject to legal andother restrictions on resale or will otherwise be less liquid than publicly traded securities. There is no established trading marketfor the securities in which we invest. The illiquidity of these investments may make it difficult for us to sell these investmentswhen desired. In addition, if we are required to liquidate all or a portion of our portfolio quickly, we may realize significantly lessthan the value at which we had previously recorded these investments. As a result, we do not expect to achieve liquidity in ourinvestments in the near-term. Further, we may face other restrictions on our ability to liquidate an investment in a portfoliocompany to the extent that we have material non-public information regarding such portfolio company.Our failure to make follow-on investments in our portfolio companies could impair the value of our portfolio.Following an initial investment in a portfolio company, we may make additional investments in that portfolio company as“follow-on” investments, in order to: (i) increase or maintain in whole or in part our equity ownership percentage; (ii) exercisewarrants, options or convertible securities that were acquired in the original or a subsequent financing; or (iii) attempt to preserveor enhance the value of our investment. We may elect not to make follow-on investments or otherwise lack sufficient funds tomake those investments. We will have the discretion to make any follow-on investments, subject to the availability of capitalresources. The failure to make follow-on investments may, in some circumstances, jeopardize the continued viability of a portfoliocompany and our initial investment, or may result in a missed opportunity for us to increase our participation in a successfuloperation. Even if we have sufficient capital to make a desired follow-on investment, we may elect not to make a follow-oninvestment because we do not want to increase our concentration of risk, we prefer other opportunities, we are subject to BDCrequirements that would prevent such follow-on investments, or the follow-on investment would affect our qualification as a RIC.For example, we may be prohibited under the 1940 Act from making follow-on investments in our portfolio companies that wemay be deemed to “control” or in which affiliates of our Investment Advisor are also invested.Our ability to enter into new transactions with our affiliates, and to restructure or exit our investments in portfolio companiesthat we are deemed to “control” under the 1940 Act, will be restricted by the 1940 Act, which may limit the scope of investmentopportunities available to us.We are prohibited under the 1940 Act from participating in certain transactions with our affiliates without the prior approval ofour independent directors and, in some cases, the SEC. Any person that owns, directly or indirectly, 5% or more of our outstandingvoting securities will be our affiliate for purposes of the 1940 Act51 TABLE OF CONTENTSand we are generally prohibited from buying or selling any security from or to such affiliate without the prior approval of ourindependent directors. The 1940 Act also prohibits certain “joint” transactions with certain of our affiliates, which could includeconcurrent investments in the same company, without prior approval of our independent directors and, in some cases, the SEC. Weare prohibited from buying or selling any security from or to any person that controls us or who owns more than 25% of our votingsecurities or certain of that person’s affiliates, or entering into prohibited joint transactions with such persons, absent the priorapproval of the SEC. As a result of these restrictions, we may be prohibited from buying or selling any security (other than anysecurity of which we are the issuer) from or to any company that is advised or managed by our Investment Advisor or its affiliateswithout the prior approval of the SEC, which may limit the scope of investment opportunities that would otherwise be available tous.In the future, we may co-invest with investment funds, accounts and vehicles managed by our Investment Advisor or itsaffiliates when doing so is consistent with our investment strategy as well as applicable law and SEC staff interpretations. Wegenerally will only be permitted to co-invest with such investment funds, accounts and vehicles where the only term that isnegotiated is price. However, we and our Investment Advisor intend to file an exemptive application with the SEC to permitgreater flexibility to negotiate the terms of co-investments with investment funds, accounts and investment vehicles managed byour Investment Advisor or its affiliates in a manner consistent with our investment objective, positions, policies, strategies andrestrictions as well as regulatory requirements and other pertinent factors. If we file this exemptive application, there can be noassurance that we will receive exemptive relief from the SEC to permit us to co-invest with investment funds, accounts andinvestment vehicles managed by our Investment Advisor or its affiliates where terms other than price are negotiated.In addition, within our portfolio there are investments that may be deemed to be “controlled” investment under the 1940 Act.To the extent that our investments in such portfolio companies need to be restructured or that we choose to exit these investmentsin the future, our ability to do so may be limited if such restructuring or exit also involves the affiliates of our Investment Advisorbecause such a transaction could be considered a joint transaction prohibited by the 1940 Act in the absence of our receipt ofrelief from the SEC in connection with such transaction. For example, if an affiliate of our Investment Advisor were required toapprove a restructuring of an investment in the portfolio and the affiliate of our Investment Advisor was deemed to be our affiliate,such a restructuring transaction may constitute a prohibited joint transaction under the 1940 Act.Our portfolio may lack diversification among portfolio companies, which may subject us to a risk of significant loss if one ormore of these companies defaults on its obligations under any of its debt instruments.Our portfolio may be concentrated in a limited number of portfolio companies. Beyond the asset diversification requirementsassociated with our qualification as a RIC under the Code, we do not have fixed guidelines for diversification, and ourinvestments may be concentrated in relatively few companies. As our portfolio is less diversified than the portfolios of some largerfunds, we are more susceptible to failure if a single loan fails. The disposition or liquidity of a significant investment may alsoadversely impact our net asset value and our results of operations. Similarly, the aggregate returns we realize may be significantlyadversely affected if a small number of investments perform poorly or if we need to write down the value of any one investment.We are a non-diversified investment company within the meaning of the 1940 Act, and therefore we are not limited with respectto the proportion of our assets that may be invested in securities of a single issuer.We are classified as a non-diversified investment company within the meaning of the 1940 Act, which means that we are notlimited by the 1940 Act with respect to the proportion of our assets that we may invest in securities of a single issuer. Beyond theasset diversification requirements associated with our qualification as a RIC under the Code, we do not have fixed guidelines fordiversification. To the extent that we assume large positions in the securities of a small number of issuers or our investments areconcentrated in relatively few industries, our net asset value may fluctuate to a greater extent than that of a diversified investmentcompany as a result of changes in the financial condition or the market’s assessment of the issuer. We may also be moresusceptible to any single economic or regulatory occurrence than a diversified investment company.52 TABLE OF CONTENTSOur portfolio may be concentrated in a limited number of industries, which may subject us to a risk of significant loss if there isa downturn in a particular industry in which a number of our investments are concentrated.Our portfolio may be concentrated in a limited number of industries. A downturn in any particular industry in which we areinvested could significantly impact the aggregate returns we realize. If an industry in which we have significant investmentssuffers from adverse business or economic conditions, as these industries have to varying degrees, a material portion of ourinvestment portfolio could be affected adversely, which, in turn, could adversely affect our financial position and results ofoperations.Because we will not hold controlling equity interests in most of our portfolio companies, we may not be in a position to exercisecontrol over our portfolio companies or to prevent decisions by management of our portfolio companies that could decrease thevalue of our investments.We currently hold controlling equity positions in seven portfolio companies. Although we may do so in the future, we expectthat we will not hold controlling equity positions in most of our portfolio companies. If we do not hold a controlling equityposition in a portfolio company, we are subject to the risk that the portfolio company may make business decisions with which wedisagree, and that the management and/or stockholders of the portfolio company may take risks or otherwise act in ways that areadverse to our interests. Due to the lack of liquidity of the debt and equity investments that we typically hold in our portfoliocompanies, we may not be able to dispose of our investments in the event we disagree with the actions of a portfolio company andmay therefore suffer a decrease in the value of our investments.Defaults by our portfolio companies will harm our operating results.A portfolio company’s failure to satisfy financial or operating covenants imposed by us or other lenders could lead to defaultsand, potentially, termination of its loans and foreclosure on its secured assets, which could trigger cross-defaults under otheragreements and jeopardize our portfolio company’s ability to meet its obligations under the debt securities that we hold. We mayincur expenses to the extent necessary to seek recovery upon default or to negotiate new terms with a defaulting portfoliocompany. Any extension or restructuring of our loans could adversely affect our cash flows. In addition, if one of our portfoliocompanies were to go bankrupt, even though we may have structured our interest as senior debt, depending on the facts andcircumstances, including the extent to which we actually provided managerial assistance to that portfolio company, a bankruptcycourt might recharacterize our debt holding and subordinate all or a portion of our claim to that of other creditors. If any of theseoccur, it could materially and adversely affect our operating results and cash flows.If our portfolio companies are unable to protect their proprietary, technological and other intellectual property rights, ourbusiness and prospects could be harmed, and if portfolio companies are required to devote significant resources to protectingtheir intellectual property rights, the value of our investment could be reduced.Our future success and competitive position will depend in part upon the ability of our portfolio companies to obtain,maintain and protect proprietary technology used in their products and services. The intellectual property held by our portfoliocompanies often represents a substantial portion of the collateral securing our investments and/or constitutes a significant portionof the portfolio companies’ value that may be available in a downside scenario to repay our loans. Our portfolio companies willrely, in part, on patent, trade secret and trademark law to protect that technology, but competitors may misappropriate theirintellectual property, and disputes as to ownership of intellectual property may arise. Portfolio companies may, from time to time,be required to institute litigation to enforce their patents, copyrights or other intellectual property rights, protect their tradesecrets, determine the validity and scope of the proprietary rights of others or defend against claims of infringement. Suchlitigation could result in substantial costs and diversion of resources. Similarly, if a portfolio company is found to infringe ormisappropriate a third-party’s patent or other proprietary rights, it could be required to pay damages to the third-party, alter itsproducts or processes, obtain a license from the third-party and/or cease activities utilizing the proprietary rights, includingmaking or selling products utilizing the proprietary rights. Any of the foregoing events could negatively affect both the portfoliocompany’s ability to service our debt investment and the value of any related debt and equity securities that we own, as well asany collateral securing our investment.53 TABLE OF CONTENTSAny unrealized losses we experience on our loan portfolio may be an indication of future realized losses, which could reduce ourincome available for distribution.As a BDC, we are required to carry our investments at market value or, if no market value is ascertainable, at the fair value asdetermined in good faith by our Board. Decreases in the market values or fair values of our investments will be recorded asunrealized depreciation. Any unrealized losses in our loan portfolio could be an indication of a portfolio company’s inability tomeet its repayment obligations to us with respect to the affected loans. This could result in realized losses in the future andultimately in reductions of our income available for distribution in future periods.Prepayments of our debt investments by our portfolio companies could adversely impact our results of operations and reduceour return on equity.We are subject to the risk that the investments we make in our portfolio companies may be repaid prior to maturity. When thisoccurs, we will generally reinvest these proceeds in temporary investments or repay any revolving credit facility, depending onexpected future investment in new portfolio companies. Temporary investments will typically have substantially lower yieldsthan the debt being prepaid and we could experience significant delays in reinvesting these amounts. Any future investment in anew portfolio company may also be at lower yields than the debt that was repaid. As a result, our results of operations could bematerially adversely affected if one or more of our portfolio companies elect to prepay amounts owed to us. Additionally,prepayments could negatively impact our return on equity, which could result in a decline in the market price of our commonstock.We may not realize gains from our equity investments.Certain investments that we may make include warrants or other equity securities. Investments in equity securities involve anumber of significant risks, including the risk of further dilution as a result of additional issuances, inability to access additionalcapital and failure to pay current distributions. Investments in preferred securities involve special risks, such as the risk of deferreddistributions, credit risk, illiquidity and limited voting rights. In addition, we may from time to time make non-control, equityinvestments in portfolio companies. Our goal is ultimately to realize gains upon our disposition of such equity interests. However,the equity interests we receive may not appreciate in value and, in fact, may decline in value. Accordingly, we may not be able torealize gains from our equity interests, and any gains that we do realize on the disposition of any equity interests may not besufficient to offset any other losses we experience. We also may be unable to realize any value if a portfolio company does nothave a liquidity event, such as a sale of the business, recapitalization or public offering, which would allow us to sell theunderlying equity interests. We will often seek puts or similar rights to give us the right to sell our equity securities back to theportfolio company issuer. We may be unable to exercise these put rights for the consideration provided in our investmentdocuments if the issuer is in financial distress.We may expose ourselves to risks if we engage in hedging transactions.If we engage in hedging transactions, we may expose ourselves to risks associated with such transactions. We may utilizeinstruments such as forward contracts, currency options and interest rate swaps, caps, collars and floors to seek to hedge againstfluctuations in the relative values of our portfolio positions from changes in currency exchange rates and market interest rates.Hedging against a decline in the values of our portfolio positions does not eliminate the possibility of fluctuations in the values ofsuch positions or prevent losses if the values of such positions decline. However, such hedging can establish other positionsdesigned to gain from those same developments, thereby offsetting the decline in the value of such portfolio positions. Suchhedging transactions may also limit the opportunity for gain if the values of the underlying portfolio positions increase. It may notbe possible to hedge against an exchange rate or interest rate fluctuation that is so generally anticipated that we are not able toenter into a hedging transaction at an acceptable price. Moreover, for a variety of reasons, we may not seek to establish a perfectcorrelation between such hedging instruments and the portfolio holdings being hedged. Any such imperfect correlation mayprevent us from achieving the intended hedge and expose us to risk of loss. In addition, it may not be possible to hedge fully orperfectly against currency fluctuations affecting the value of securities denominated in non-U.S. currencies because the value ofthose securities is likely to fluctuate as a result of factors not related to currency fluctuations. To the54 TABLE OF CONTENTSextent we engage in hedging transactions, we also face the risk that counterparties to the derivatives instruments we hold maydefault, which may expose us to unexpected losses from positions where we believed that our risk had been appropriately hedged.The health and performance of our portfolio companies could be adversely affected by political and economic conditions in thecountries in which they conduct business.Some of the products of our portfolio companies are developed, manufactured, assembled, tested or marketed outside theUnited States. Any conflict or uncertainty in these countries, including due to natural disasters, public health concerns, politicalunrest or safety concerns, could harm their business, financial condition and results of operations. In addition, if the government ofany country in which their products are developed, manufactured or sold sets technical or regulatory standards for productsdeveloped or manufactured in or imported into their country that are not widely shared, it may lead some of their customers tosuspend imports of their products into that country, require manufacturers or developers in that country to manufacture or developproducts with different technical or regulatory standards and disrupt cross-border manufacturing, marketing or businessrelationships which, in each case, could harm their businesses.Continuation of the current decline in oil and natural gas prices for a prolonged period of time could have a material adverseeffect on us.Approximately 12.3% of our portfolio at fair value is invested in energy-related businesses. A decline in oil and natural gasprices would adversely affect the credit quality of these investments. A decrease in credit quality would, in turn, negatively affectthe fair value of these investments, which would consequently negatively affect our net asset value. Should the current decline inoil and natural gas prices persist, it is likely that our energy-related portfolio companies’ abilities to satisfy financial or operatingcovenants imposed by us or other lenders will be adversely affected, thereby negatively impacting our financial condition andtheir ability to satisfy their debt service and other obligations to us.Our equity ownership in a portfolio company may represent a control investment. Our ability to exit a control investment in atimely manner could result in a realized loss on the investment.If we obtain a control investment in a portfolio company our ability to divest ourselves from a debt or equity investment couldbe restricted due to illiquidity in a private stock, limited trading volume on a public company’s stock, inside information on acompany’s performance, insider blackout periods, or other factors that could prohibit us from disposing of the investment as wewould if it were not a control investment. Additionally, we may choose not to take certain actions to protect a debt investment in acontrol investment portfolio company. As a result, we could experience a decrease in the value of our portfolio company holdingsand potentially incur a realized loss on the investment.If the assets securing the loans that we make decrease in value, then we may lack sufficient collateral to cover losses.To attempt to mitigate credit risks, we will typically take a security interest in the available assets of our portfolio companies.There is no assurance that we will obtain or properly perfect our liens.There is a risk that the collateral securing our loans may decrease in value over time, may be difficult to sell in a timelymanner, may be difficult to appraise and may fluctuate in value based upon the success of the business and market conditions,including as a result of the inability of a portfolio company to raise additional capital. In some circumstances, our lien could besubordinated to claims of other creditors. Consequently, the fact that a loan is secured does not guarantee that we will receiveprincipal and interest payments according to the loan’s terms, or that we will be able to collect on the loan should we be forced toenforce our remedies.In addition, because we may invest in technology-related companies, a substantial portion of the assets securing ourinvestment may be in the form of intellectual property, if any, inventory and equipment and, to a lesser extent, cash and accountsreceivable. Intellectual property, if any, that is securing our loan could lose value if, among other things, the company’s rights tothe intellectual property are challenged or if the company’s license to the intellectual property is revoked or expires, thetechnology fails to achieve its intended results or a new technology makes the intellectual property functionally obsolete.Inventory may not55 TABLE OF CONTENTSbe adequate to secure our loan if our valuation of the inventory at the time that we made the loan was not accurate or if there is areduction in the demand for the inventory.Similarly, any equipment securing our loan may not provide us with the anticipated security if there are changes in technologyor advances in new equipment that render the particular equipment obsolete or of limited value, or if the company fails toadequately maintain or repair the equipment. Any one or more of the preceding factors could materially impair our ability torecover principal in a foreclosure.The effect of global climate change may impact the operations of our portfolio companies.There may be evidence of global climate change. Climate change creates physical and financial risk and some of our portfoliocompanies may be adversely affected by climate change. For example, the needs of customers of energy companies vary withweather conditions, primarily temperature and humidity. To the extent weather conditions are affected by climate change, energyuse could increase or decrease depending on the duration and magnitude of any changes. Increases in the cost of energy couldadversely affect the cost of operations of our portfolio companies if the use of energy products or services is material to theirbusiness. A decrease in energy use due to weather changes may affect some of our portfolio companies’ financial condition,through decreased revenues. Extreme weather conditions in general require more system backup, adding to costs, and cancontribute to increased system stresses, including service interruptions. Energy companies could also be affected by the potentialfor lawsuits against or taxes or other regulatory costs imposed on greenhouse gas emitters, based on links drawn betweengreenhouse gas emissions and climate change.We may choose to waive or defer enforcement of covenants in the debt securities held in our portfolio, which may cause us tolose all or part of our investment in these companies.We structure the debt investments in our portfolio companies to include business and financial covenants placing affirmativeand negative obligations on the operation of the company’s business and its financial condition. However, from time to time wemay elect to waive breaches of these covenants, including our right to payment, or waive or defer enforcement of remedies, such asacceleration of obligations or foreclosure on collateral, depending upon the financial condition and prospects of the particularportfolio company. These actions may reduce the likelihood of our receiving the full amount of future payments of interest orprincipal and be accompanied by a deterioration in the value of the underlying collateral as many of these companies may havelimited financial resources, may be unable to meet future obligations and may go bankrupt. This could negatively impact ourability to pay dividends, could adversely affect our results of operation and financial condition and cause the loss of all or part ofyour investment.Our investments in securities rated below investment grade are speculative in nature and are subject to additional risk factorssuch as increased possibility of default, illiquidity of the security, and changes in value based on changes in interest rates.The securities that we invest in are typically rated below investment grade. Securities rated below investment grade are oftenreferred to as “leveraged loans,” “high yield” or “junk” securities, and may be considered “high risk” compared to debtinstruments that are rated investment grade. High yield securities are regarded as having predominantly speculative characteristicswith respect to the issuer’s capacity to pay interest and repay principal in accordance with the terms of the obligations and involvemajor risk exposure to adverse conditions. In addition, high yield securities generally offer a higher current yield than thatavailable from higher grade issues, but typically involve greater risk. These securities are especially sensitive to adverse changesin general economic conditions, to changes in the financial condition of their issuers and to price fluctuation in response tochanges in interest rates. During periods of economic downturn or rising interest rates, issuers of below investment gradeinstruments may experience financial stress that could adversely affect their ability to make payments of principal and interest andincrease the possibility of default.56 TABLE OF CONTENTSOur investments may be in portfolio companies which may have limited operating histories and financial resources.We expect that our portfolio will continue to consist of investments that may have relatively limited operating histories. Thesecompanies may be particularly vulnerable to U.S. and foreign economic downturns such as the current recession and Europeanfinancial crisis may have more limited access to capital and higher funding costs, may have a weaker financial position and mayneed more capital to expand or compete. These businesses also may experience substantial variations in operating results. Theymay face intense competition, including from companies with greater financial, technical and marketing resources. Furthermore,some of these companies do business in regulated industries and could be affected by changes in government regulation.Accordingly, these factors could impair their cash flow or result in other events, such as bankruptcy, which could limit their abilityto repay their obligations to us, and may adversely affect the return on, or the recovery of, our investment in these companies. Wecannot assure you that any of our investments in our portfolio companies will be successful. Our portfolio companies competewith larger, more established companies with greater access to, and resources for, further development in these new technologies.We may lose our entire investment in any or all of our portfolio companies.Risks Relating to our SecuritiesThe market price of our common stock may fluctuate significantly.The market price and liquidity of the expected market for shares of our common stock may be significantly affected bynumerous factors, some of which are beyond our control and may not be directly related to our operating performance. Thesefactors include:•price and volume fluctuations in the overall stock market from time to time;•investor demand for our shares;•significant volatility in the market price and trading volume of securities of business development companies or othercompanies in our sector, which are not necessarily related to the operating performance of these companies;•changes in regulatory policies or tax guidelines with respect to RICs, BDCs or SBICs;•failure to qualify as a RIC, or the loss of RIC status;•any shortfall in revenue or net income or any increase in losses from levels expected by investors or securities analysts;•changes, or perceived changes, in the value of our portfolio investments;•departures of the Investment Advisor’s key personnel;•operating performance of companies comparable to us; or•general economic conditions and trends and other external factors.In the past, following periods of volatility in the market price of a company’s securities, securities class action litigation hasoften been brought against that company. Due to the potential volatility of our stock price, we may become the target of securitieslitigation in the future. Securities litigation could result in substantial costs and divert management’s attention and resources fromour business.Shares of closed-end investment companies, including BDCs, may trade at a discount to their NAV.Shares of closed-end investment companies, including BDCs, may trade at a discount to their NAV. This characteristic ofclosed-end investment companies and BDCs is separate and distinct from the risk that our NAV per share may decline. We cannotpredict whether our common stock will trade at, above or below NAV.57 TABLE OF CONTENTSInvesting in our common stock may involve an above average degree of risk.The investments we make in accordance with our investment objective may result in a higher amount of risk than alternativeinvestment options and a higher risk of volatility or loss of principal. Our investments in portfolio companies involve higherlevels of risk, and therefore, an investment in our shares may not be suitable for someone with lower risk tolerance.Our shares of common stock have a limited trading history and we cannot assure you that the market price of shares of ourcommon stock will not decline.Our shares of common stock have a limited trading history and we cannot assure you that a public trading market will besustained for such shares. We cannot predict the prices at which our common stock will trade. We cannot assure you that themarket price of shares of our common stock will not decline at any time. In addition, our common stock has traded below its netasset value since our inception and if our common stock continues to trade below its net asset value, we will generally not be ableto sell additional shares of our common stock to the public at its market price without first obtaining the approval of ourstockholders (including our unaffiliated stockholders) and our independent directors for such issuance.Our common stockholders will bear the expenses associated with our borrowings, and the holders of our debt securities willhave certain rights senior to our common stockholders.If in the future we issue debt securities, all of the costs of offering and servicing such debt, including interest thereon, will beborne by our common stockholders. The interests of the holders of any debt we may issue will not necessarily be aligned with theinterests of our common stockholders. In particular, the rights of holders of our debt to receive interest or principal repayment willbe senior to those of our common stockholders. In addition, we may grant a lender a security interest in a significant portion or allof our assets, even if the total amount we may borrow from such lender is less than the amount of such lender’s security interest inour assets.Sales of substantial amounts of our common stock in the public market may have an adverse effect on the market price of ourcommon stock.Sales of substantial amounts of our common stock, or the availability of such common stock for sale, could adversely affect theprevailing market prices for our common stock. If this occurs and continues for a sustained period of time, it could impair ourability to raise additional capital through the sale of securities should we desire to do so.Provisions of the Maryland General Corporation Law and of our charter and bylaws could deter takeover attempts and have anadverse impact on the price of our common stock.The Maryland General Corporation Law and our charter and bylaws contain provisions that may discourage, delay or makemore difficult a change in control of Capitala Finance or the removal of our directors. We are subject to the Maryland BusinessCombination Act, subject to any applicable requirements of the 1940 Act. Our Board of Directors has adopted a resolutionexempting from the Business Combination Act any business combination between us and any other person, subject to priorapproval of such business combination by our board, including approval by a majority of our independent directors. If theresolution exempting business combinations is repealed or our board does not approve a business combination, the BusinessCombination Act may discourage third parties from trying to acquire control of us and increase the difficulty of consummatingsuch an offer. Our bylaws exempt from the Maryland Control Share Acquisition Act acquisitions of our stock by any person. If weamend our bylaws to repeal the exemption from the Control Share Acquisition Act, the Control Share Acquisition Act also maymake it more difficult for a third-party to obtain control of us and increase the difficulty of consummating such a transaction.We have also adopted measures that may make it difficult for a third-party to obtain control of us, including provisions of ourcharter classifying our Board of Directors in three classes serving staggered three-year terms, and authorizing our Board ofDirectors to classify or reclassify shares of our stock in one or more classes or series, to cause the issuance of additional shares ofour stock, to amend our charter without stockholder approval and to increase or decrease the number of shares of stock that wehave authority to58 TABLE OF CONTENTSissue. These provisions, as well as other provisions of our charter and bylaws, may delay, defer or prevent a transaction or a changein control that might otherwise be in the best interests of our stockholders.The foregoing provisions are expected to discourage certain coercive takeover practices and inadequate takeover bids and toencourage persons seeking to acquire control of us to negotiate first with our Board of Directors. However, these provisions maydeprive a shareholder of the opportunity to sell such shareholder’s shares at a premium to a potential acquirer. We believe that thebenefits of these provisions outweigh the potential disadvantages of discouraging any such acquisition proposals because, amongother things, the negotiation of such proposals may improve their terms. Our Board of Directors has considered both the positiveand negative effects of the foregoing provisions and determined that they are in the best interest of our shareholders. See“Description of Our Capital Stock — Certain Provisions of the Maryland General Corporation Law and Our Charter and Bylaws.”Shares of our common stock have traded at a discount from net asset value and may do so in the future.Shares of closed-end investment companies have frequently traded at a market price that is less than the net asset value that isattributable to those shares. In part as a result of adverse economic conditions and increasing pressure within the financial sector ofwhich we are a part, our common stock has at times traded below its net asset value per share since our IPO on September 30, 2013.Our shares could continue trade at a discount to net asset value. The possibility that our shares of common stock may trade at adiscount from net asset value over the long term is separate and distinct from the risk that our net asset value will decrease. Wecannot predict whether shares of our common stock will trade above, at or below its net asset value. If our common stock tradesbelow its net asset value, we will generally not be able to issue additional shares of our common stock at its market price withoutfirst obtaining the approval for such issuance from our stockholders and our independent directors. If additional funds are notavailable to us, we could be forced to curtail or cease our new lending and investment activities, and our net asset value coulddecrease and our level of distributions could be impacted.You may not receive dividends or our dividends may decline or may not grow over time.We cannot assure you that we will achieve investment results or maintain a tax status that will allow or require any specifiedlevel of cash distributions or year-to-year increases in cash distributions. In particular, our future dividends are dependent uponthe investment income we receive on our portfolio investments. To the extent such investment income declines, our ability to payfuture dividends may be harmed.Our stockholders will experience dilution in their ownership percentage if they opt out of our dividend reinvestment plan.All dividends declared in cash payable to stockholders that are participants in our dividend reinvestment plan areautomatically reinvested in shares of our common stock. As a result, our stockholders that opt out of our dividend reinvestmentplan will experience dilution in their ownership percentage of our common stock over time.59 TABLE OF CONTENTSITEM 1B. UNRESOLVED STAFF COMMENTSNone.ITEM 2. PROPERTIESOur executive offices are located at 4201 Congress Street, Suite 360, Charlotte, North Carolina 28209, and are provided by ouradministrator in accordance with the terms of the Administration Agreement. We believe that our office facilities are suitable andadequate for our business as it is contemplated to be conducted.ITEM 3. LEGAL PROCEEDINGSNone of us, our Investment Advisor or Administrator or any of the Legacy Funds, is currently subject to any material legalproceedings, nor, to our knowledge, is any material legal proceeding threatened against us, or against our Investment Advisor orAdministrator. From time to time, we, our Investment Advisor or Administrator, or any of the Legacy Funds may be a party tocertain legal proceedings in the ordinary course of business, including proceedings relating to the enforcement of our rights undercontracts with our portfolio companies. While the outcome of these legal proceedings cannot be predicted with certainty, we donot expect that these proceedings will have a material effect upon our financial condition or results of operations.ITEM 4. MINE SAFETY DISCLOSURESNot applicable.60 TABLE OF CONTENTSPART IIITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUERPURCHASES OF EQUITY SECURITIESPRICE RANGE OF COMMON STOCKOur common stock is traded on the NASDAQ Global Select Market under the symbol “CPTA.” The following table sets forth,for each fiscal quarter since our initial public offering on September 25, 2013, the range of high and low intraday sales prices ofour common stock as reported on the NASDAQ Global Select Market, the premium (discount) of sales price to our net asset value(NAV) and the distributions declared by us for each fiscal quarter. Fiscal 2015 NAV(1) High Low Premium or(Discount) ofHigh SalesPrice to NAV(3) Premium or(Discount) ofLow SalesPrice to NAV(3) DeclaredDividends(4)First Quarter (through March 2,2015) $ * $19.03 $17.97 * * $0.47 Fiscal 2014 NAV(1) High Low Premium or(Discount) ofHigh SalesPrice to NAV(3) Premium or(Discount) ofLow SalesPrice to NAV(3) DeclaredDividends(4)Fourth Quarter $18.56 $19.30 $17.60 4.0% (5.2)% $0.47 Third Quarter $19.89 $19.49 $17.60 (2.0)% (11.5)% $0.47 Second Quarter $20.34 $19.87 $17.65 (2.3)% (13.2)% $0.47 First Quarter $20.33 $20.25 $19.00 (0.4)% (6.5)% $0.47 Fiscal 2013 NAV(1) High Low Premium or(Discount) ofHigh SalesPrice to NAV(3) Premium or(Discount) ofLow SalesPrice to NAV(3) DeclaredDividends(4)Fourth Quarter $20.71 $20.20 $17.91 (2.5)% (13.5)% $0.47 Third Quarter(2) $20.79 $19.32 $18.41 (7.1)% (11.4)% — (1)Net asset value per share is determined as of the last day in the relevant quarter and therefore may not reflect the net asset valueper share on the date of the high and low sales prices. The net asset values shown are based on outstanding shares at the end ofeach period.(2)From September 25, 2013 to September 30, 2013.(3)Calculated as of the respective high or low intraday sales price divided by the quarter end NAV and subtracting 1.(4)Represents the dividend paid or to be paid in the specified quarter. *Not determinable at the time of filingHOLDERSThe last reported price for our common stock on March 2, 2015 was $18.75 per share. As of March 2, 2015, there were 59holders of record of our common stock.DIVIDENDSIn order to qualify as a RIC and to avoid corporate-level U.S. federal income tax on the income we distribute to ourstockholders, we are required to distribute at least 90% of our net ordinary income and our net short-term capital gains in excess ofnet long-term capital losses, if any, to our stockholders on an annual basis. Additionally, we must distribute an amount at leastequal to the sum of 98% of our net ordinary income (during the calendar year) plus 98.2% of our net capital gain income (duringeach 12-month period ending on October 31) plus any net ordinary income and capital gain net income for preceding years thatwere not distributed during such years and on which we paid no U.S. federal income tax to avoid a U.S. federal excise tax. To theextent that we have income available, we intend to make monthly distributions to our stockholders. Our monthly stockholderdistributions, if any, will be determined by our Board on a quarterly basis. Any distribution to our stockholders will be declaredout of assets legally available for distribution.61 TABLE OF CONTENTSWe may not be able to achieve operating results that will allow us to make distributions at a specific level or to increase theamount of our distributions from time to time. In addition, we may be limited in our ability to make distributions due to the assetcoverage requirements applicable to us as a BDC under the 1940 Act. If we do not distribute a certain percentage of our incomeannually, we will suffer adverse tax consequences, including the possible loss of our qualification as a RIC. We cannot assurestockholders that they will receive any distributions.To the extent our taxable earnings fall below the total amount of our distributions for that fiscal year, a portion of thosedistributions may be deemed a return of capital to our stockholders for U.S. federal income tax purposes. Thus, the source of adistribution to our stockholders may be the original capital invested by the stockholder rather than our income or gains.Stockholders should read any written disclosure accompanying any stockholder distribution carefully and should not assume thatthe source of any distribution is our ordinary income or capital gains.We have adopted an “opt out” dividend reinvestment plan for our common stockholders. As a result, if we declare adistribution, then stockholders’ cash distributions will be automatically reinvested in additional shares of our common stockunless a stockholder specifically “opts out” of our dividend reinvestment plan. If a stockholder opts out, that stockholder willreceive cash distributions. Although distributions paid in the form of additional shares of our common stock will generally besubject to U.S. federal, state and local taxes in the same manner as cash distributions, stockholders participating in our dividendreinvestment plan will not receive any corresponding cash distributions with which to pay any such applicable taxes.The following table summarizes our distributions declared during fiscal years ended 2015, 2014 and 2013: Date Declared Record Date Payment Date AmountPer ShareJanuary 2, 2015 March 23, 2015 March 30, 2015 $0.1567 January 2, 2015 February 20, 2015 February 26, 2015 $0.1567 January 2, 2015 January 22, 2015 January 29, 2015 $0.1567 Total Distributions Declared for Fiscal2015 $0.47 Date Declared Record Date Payment Date AmountPer ShareOctober 2, 2014 December 19, 2014 December 30, 2014 $0.1567 October 2, 2014 November 21, 2014 November 28, 2014 $0.1567 October 2, 2014 October 22, 2014 October 30, 2014 $0.1567 August 7, 2014 September 12, 2014 September 26, 2014 $0.47 May 8, 2014 June 9, 2014 June 26, 2014 $0.47 February 27, 2014 March 14, 2014 March 26, 2014 $0.47 Total Distributions Declared for Fiscal2014 $1.88 Date Declared Record Date Payment Date AmountPer ShareNovember 11, 2013 December 10, 2013 December 30, 2013 $0.47 Total Distributions Declared for Fiscal2013 $0.47 62 TABLE OF CONTENTSPERFORMANCE GRAPHThe following graph compares the return on our common stock with that of the Standard & Poor’s 500 Stock Index and theNASDAQ Financial 100 index, as we do not believe there is an appropriate index of companies with an investment strategy similarto our own with which to compare the return on our common stock, for the period from September 25, 2013, the date our commonstock began trading, through December 31, 2014. The graph assumes that on September 25, 2013, a person invested $100 in eachof our common stock, the Standard & Poor’s 500 Stock Index and the NASDAQ Financial 100 index. The graph measures totalshareholder return, which takes into account both changes in stock price and dividends. The graph also assumes the reinvestmentof all dividends prior to any tax effect.The graph and other information furnished under this Part II Item 5 of this annual report on Form 10-K shall not be deemed tobe “soliciting material” or to be “filed” with the SEC or subject to Regulation 14A or 14C under, or to the liabilities of Section 18of, the Exchange Act. The stock price performance included in the below graph is not necessarily indicative of future stock priceperformance.SALES OF UNREGISTERED SECURITIESDuring the year ended December 31, 2014, we did not engage in the sales of unregistered securities.ISSUER PURCHASES OF EQUITY SECURITIESDuring the year ended December 31, 2014, we issued 55,562 shares of common stock under our dividend reinvestment plan.These issuances were not subject to the registration requirements under the Securities Act. The cash paid for shares of commonstock issued under our dividend reinvestment plan during the fiscal year 2014 was approximately $1.1 million.Other than shares issued under our dividend reinvestment plan during the year ended December 31, 2014, we did not sell anyunregistered equity securities and we did not repurchase any of our equity securities.63 TABLE OF CONTENTSITEM 6. SELECTED FINANCIAL DATAThe following selected financial data of the Company as of and for the years ended December 31, 2014 and 2013 are derivedfrom our financial statements that have been audited by Ernst & Young LLP, our independent registered public accounting firm.This financial data should be read in conjunction with our financial statements and related notes thereto included elsewhere inthis Form 10-K and with Management’s Discussion and Analysis of Financial Condition and Results of Operations which follows(dollars in thousands except share and per share data): For theyear endedDecember 31,2014 For theyear endedDecember 31,2013Statement of operations data: Total investment income $49,528 $35,433 Total expenses net of management fee waiver 29,562 15,949 Net investment income 19,966 19,484 Net realized gain from investments 832 2,187 Net unrealized appreciation/(depreciation) on investments (24,238) 7,187 Net increase/(decrease) in net assets resulting from operations $(3,440) $28,858 Per share data: Net investment income $1.54 $1.50 Net increase/(decrease) in net assets resulting from operations $(0.27) $2.22 Distributions declared $1.88 $0.47 Net asset value per share $18.56 $20.71 Balance sheet data: Total assets $549,866 $476,428 Total net assets $240,837 $268,670 Other data: Total Return(2)(3) (0.85)% 1.88% Number of portfolio company investments at period end 52 41 Total portfolio investments for the period $216,276 $110,929 Investment repayments for the period $80,197 $52,755 (1)For historical periods prior to December 31, 2013, the Company had no operations and therefore earnings per share, dividendsdeclared per common share and weighted average shares outstanding information for the periods that include financial resultsprior to December 31, 2013 are not provided.(2)Total investment return is calculated assuming a purchase of common shares at the current market value on the first day and asale at the current market value on the last day of the period reported. Dividends and distributions, if any, are assumed forpurposes of this calculation to be reinvested at prices obtained under the Company’s dividend reinvestment plan. Totalinvestment return does not reflect brokerage commissions. Total investment returns covering less than a full period are notannualized.(3)Total investment return is calculated assuming a purchase of common shares at the IPO offering price per share at September25, 2013 of $20.00 and a sale at the current market value on the last day of the period reported. Dividends and distributions, ifany, are assumed for purposes of this calculation to be reinvested at prices obtained under the Company’s dividendreinvestment plan. Total investment return does not reflect brokerage commissions. Total investment returns covering less thana full period are not annualized.64 TABLE OF CONTENTSItem 7. Management’s Discussion and Analysis of Financial Condition and Results of OperationsThe following discussion and analysis should be read in conjunction with our financial statements and related notes and otherfinancial information appearing elsewhere in this annual report on Form 10-K.Forward-Looking StatementsThis annual report, including Management’s Discussion and Analysis of Financial Condition and Results of Operations,contains forward-looking statements that involve substantial risks and uncertainties. These forward-looking statements are nothistorical facts, but rather are based on current expectations, estimates and projections about the Company, our current andprospective portfolio investments, our industry, our beliefs, and our assumptions. Words such as “anticipates,” “expects,”“intends,” “plans,” “will,” “may,” “continue,” “believes,” “seeks,” “estimates,” “would,” “could,” “should,” “targets,” “projects,”and variations of these words and similar expressions are intended to identify forward-looking statements.Some of the statements in this annual report on Form 10-K constitute forward-looking statements, which relate to future eventsor our performance or financial condition. The forward-looking statements contained in this annual report on Form 10-K involverisks and uncertainties, including statements as to:•our future operating results;•our business prospects and the prospects of our portfolio companies;•the impact of investments that we expect to make;•our contractual arrangements and relationships with third parties;•the dependence of our future success on the general economy and its impact on the industries in which we invest;•the ability of our portfolio companies to achieve their objectives;•our expected financings and investments;•the adequacy of our cash resources and working capital; and•the timing of cash flows, if any, from the operations of our portfolio companies.These statements are not guarantees of future performance and are subject to risks, uncertainties, and other factors, some ofwhich are beyond our control and difficult to predict and could cause actual results to differ materially from those expressed orforecasted in the forward-looking statements, including without limitation:•an economic downturn could impair our portfolio companies’ ability to continue to operate or repay their borrowings,which could lead to the loss of some or all of our investments in such portfolio companies;•a contraction of available credit and/or an inability to access the equity markets could impair our lending and investmentactivities;•interest rate volatility could adversely affect our results, particularly if we use leverage as part of our investment strategy;and•the risks, uncertainties and other factors we identify in “Risk Factors” and elsewhere in this Annual Report on Form 10-K.Although we believe that the assumptions on which these forward-looking statements are based are reasonable, any of thoseassumptions could prove to be inaccurate, and as a result, the forward-looking statements based on those assumptions also couldbe inaccurate. Important assumptions include our ability to originate new loans and investments, certain margins and levels ofprofitability and the availability of additional capital. In light of these and other uncertainties, the inclusion of a projection orforward-looking statement in this Annual Report on Form 10-K should not be regarded as a representation by us that our plans andobjectives will be achieved. These risks and uncertainties include those described or identified in “Risk Factors” and elsewhere inthis Annual Report on Form 10-K. You should not place undue reliance on these65 TABLE OF CONTENTSforward-looking statements, which apply only as of the date of this Annual Report on Form 10-K. We undertake no obligation torevise or update any forward-looking statements, whether as a result of new information, future events or otherwise, unless requiredby law or Securities and Exchange Commission (“SEC”) rule or regulation.OverviewWe are a Maryland corporation that has elected to be regulated as a business development company (“BDC”) under theInvestment Company Act of 1940 as amended (the “1940 Act”). We are an “emerging growth company” within the meaning of theJumpstart Our Business Startups Act of 2012 (the “JOBS Act”), and as such, are subject to reduced public company reportingrequirements. Our investment objective is to generate both current income and capital appreciation through debt and equityinvestments. We are managed by Capitala Investment Advisors, LLC (the “Investment Advisor”), and Capitala Advisors Corp. (the“Administrator”) provides the administrative services necessary for us to operate.We provide capital to lower and traditional middle-market companies in the United States, with a non-exclusive emphasis onthe Southeast, Southwest and Mid-Atlantic regions. We invest primarily in companies with a history of earnings growth andpositive cash flow, proven management teams, product or service with competitive advantages and industry-appropriate margins.We primarily invest in companies with between $5 million and $30 million in trailing twelve month earnings before interest, tax,depreciation, and amortization (“EBITDA”).We invest in mezzanine and senior subordinated debt investments that are secured by subordinated liens on all of ourborrowers’ assets and, to a lesser extent, in senior, cash flow-based “unitranche” securities. Most of our debt investments arecoupled with equity interests, whether in the form of detachable “penny” warrants or equity co-investments made pari passu withour borrowers’ financial sponsors.As a BDC, we are required to comply with certain regulatory requirements. For instance, we generally have to invest at least70% of our total assets in “qualifying assets,” including securities of private or thinly traded public U.S. companies, cash, cashequivalents, U.S. government securities and high-quality debt investments that mature in one year or less. In addition, we are onlyallowed to borrow money such that our asset coverage, as defined in the 1940 Act, equals at least 200% after such borrowing, withcertain limited exceptions. To maintain our regulated investment company (“RIC”) status, we must meet specified source-of-income and asset diversification requirements. To maintain our RIC tax treatment under subchapter M of the Internal RevenueCode of 1986, as amended (the “Code”) for U.S. federal income tax purposes, we must distribute at least 90% of our net ordinaryincome and realized net short-term capital gains in excess of realized net long-term capital losses, if any, for the taxable year.Corporate HistoryWe commenced operations on May 24, 2013 and completed our initial public offering (“IPO”) on September 30, 2013. TheCompany was formed for the purpose of (i) acquiring, through a series of transactions, an investment portfolio from the followingentities: CapitalSouth Partners Fund I Limited Partnership (“Fund I”); CapitalSouth Partners Fund II Limited Partnership (“FundII”); CapitalSouth Partners Fund III, L.P. (“Fund III Parent”); CapitalSouth Partners SBIC Fund III, L.P. (“Fund III”) andCapitalSouth Partners Florida Sidecar Fund I, L.P. (“Florida Sidecar” and, collectively with Fund I, Fund II, Fund III and Fund IIIParent, the “Legacy Funds”); (ii) raising capital in the IPO and (iii) continuing and expanding the business of the Legacy Funds bymaking additional debt and equity investments in lower middle market and middle market companies.On September 24, 2013, the Company acquired 100% of the limited partnership interests in Fund II, Fund III and FloridaSidecar and each of their respective general partners, as well as certain assets from Fund I and Fund III Parent, in exchange for anaggregate of 8,974,420 shares of the Company’s common stock (the “Formation Transactions”). Fund II, Fund III and FloridaSidecar became the Fund’s wholly-owned subsidiaries. Fund II and Fund III retained their SBIC licenses, continue to hold theirexisting investments and continue to make new investments. The IPO consisted of the sale of 4,000,000 shares of the Company’scommon stock at a price of $20.00 per share resulting in net proceeds to the Company of $74.25 million, after deductingunderwriting fees and commissions totaling $4.0 million and offering expenses66 TABLE OF CONTENTStotaling $1.75 million. The other costs of the IPO were borne by the limited partners of the Legacy Funds. As of December 31,2014, the Company had 12,974,420 shares of common stock outstanding.At the time of the Formation Transactions, our portfolio consisted of: (1) approximately $326.3 million in investments; (2) anaggregate of approximately $67.1 million in cash, interest receivable and other assets; and (3) liabilities of approximately $202.2million of SBA-guaranteed debt payable. We have two SBIC-licensed subsidiaries that have elected to be treated as BDCs underthe 1940 Act.Basis of PresentationThe accompanying consolidated financial statements have been prepared on the accrual basis of accounting in conformitywith U.S. generally accepted accounting principles (“U.S. GAAP”). The consolidated financial statements of the Company includethe accounts of the Company and its wholly-owned subsidiaries as described in the Formation Transactions above. Thetransactions related to Fund II, Fund III, and Florida Sidecar constituted an exchange of shares between entities under commoncontrol and have been accounted for in accordance with ASC 805, Business Combinations. As such, the Company’s results ofoperations and cash flows for the year ended December 31, 2013 are presented as if the aforementioned transactions had occurredas of January 1, 2013. In addition, the results of the Company’s operations and cash flows for the year ended December 31, 2012have been presented on a combined basis in order to provide comparative information with respect to prior periods.The Company’s financial position as of December 31, 2014 is presented on a consolidated basis. The effects of allintercompany transactions between the Company and its subsidiaries (Fund II, Fund III, and Florida Sidecar) have been eliminatedin consolidation. All financial data and information included in these financial statements have been presented on the basisdescribed above. In the opinion of management, the financial statements reflect all adjustments that are necessary for the fairpresentation of financial results as of and for the periods presented.RevenuesWe generate revenue primarily from the periodic cash interest we collect on our debt investments. In addition, most of our debtinvestments offer the opportunity to participate in a borrower’s equity performance through warrant participation, direct equityownership or otherwise, which we expect to result in revenue in the form of dividends and/or capital gain. Further, we maygenerate revenue in the form of commitment, origination, structuring or diligence fees, monitoring fees, fees for providingmanagerial assistance and possibly consulting fees and performance-based fees. These fees will be recognized as they are earned.ExpensesOur primary operating expenses include the payment of investment advisory fees to our Investment Advisor, our allocableportion of overhead and other expenses incurred by our Administrator in performing its obligations under the AdministrationAgreement and other operating expenses as detailed below. Our investment advisory fee will compensate our Investment Advisorfor its work in identifying, evaluating, negotiating, closing, monitoring and servicing our investments. We will bear all otherexpenses of our operations and transactions, including (without limitation):•the cost of our organization;•the cost of calculating our net asset value, including the cost of any third-party valuation services;•the cost of effecting sales and repurchases of our shares and other securities;•interest payable on debt, if any, to finance our investments;•fees payable to third parties relating to, or associated with, making investments, including fees and expenses associatedwith performing due diligence reviews of prospective investments and advisory fees;•transfer agent and custodial fees;•fees and expenses associated with marketing efforts;67 TABLE OF CONTENTS•costs associated with our reporting and compliance obligations under the 1940 Act, the Securities Exchange Act of 1934,as amended, other applicable federal and state securities laws and ongoing stock exchange listing fees;•federal, state and local taxes;•independent directors’ fees and expenses;•brokerage commissions;•costs of proxy statements, stockholders’ reports and other communications with stockholders;•fidelity bond, directors’ and officers’ liability insurance, errors and omissions liability insurance and other insurancepremiums;•direct costs and expenses of administration, including printing, mailing, telephone and staff;•fees and expenses associated with independent audits and outside legal costs; and•all other expenses incurred by either our Administrator or us in connection with administering our business, includingpayments under the Administration Agreement that will be based upon our allocable portion of overhead and otherexpenses incurred by our Administrator in performing its obligations under the Administration Agreement, including rent,the fees and expenses associated with performing compliance functions, and our allocable portion of any costs ofcompensation and related expenses of our chief compliance officer and our chief financial officer and any administrativesupport staff.Critical Accounting Policies and Use of EstimatesIn the preparation of our financial statements and related disclosures, we have adopted various accounting policies that governthe application of U.S. GAAP. Our significant accounting policies are described in Note 2 to the Consolidated FinancialStatements. While all of these policies are important to understanding our financial statements, certain accounting policies andestimates are considered critical due to their impact on the reported amounts of assets and liabilities at the date of the financialstatements and the reported amounts of revenues and expenses for the periods covered by such financial statements. We haveidentified investment valuation, revenue recognition, and income taxes as our most critical accounting estimates. Wecontinuously evaluate our estimates, including those related to the matters described below. Because of the nature of the judgmentand assumptions we make, actual results could materially differ from those estimates under different assumptions or conditions. Adiscussion of our critical accounting policies follows.Valuation of InvestmentsThe Company applies fair value accounting to all of its financial instruments in accordance with the 1940 Act and ASC Topic820 — Fair Value Measurements and Disclosures. ASC 820 defines fair value, establishes a framework used to measure fair valueand requires disclosures for fair value measurements. In accordance with ASC 820, the Company has categorized its financialinstruments carried at fair value, based on the priority of the valuation technique, into a three-level fair value hierarchy asdiscussed in Note 4 to our Consolidated Financial Statements.In determining fair value, our Board of Directors (“the Board”) uses various valuation approaches, and engages a third-partyindependent valuation firm, which provides positive assurance on the investments it reviews. In accordance with U.S. GAAP, a fairvalue hierarchy for inputs is used in measuring fair value that maximizes the use of observable inputs and minimizes the use ofunobservable inputs by requiring that the most observable inputs be used when available.68 TABLE OF CONTENTSObservable inputs are those that market participants would use in pricing the asset or liability based on market data obtainedfrom sources independent of the Board. Unobservable inputs reflect the Boards’ assumptions about the inputs market participantswould use in pricing the asset or liability developed based upon the best information available in the circumstances. The fairvalue hierarchy is categorized into three levels based on the inputs as follows:Level 1 — Valuations based on unadjusted quoted prices in active markets for identical assets or liabilities that the Companyhas the ability to access. Valuation adjustments and block discounts are not applied to Level 1 securities. Since valuations arebased on quoted prices that are readily and regularly available in an active market, valuation of these securities does not entaila significant degree of judgment.Level 2 — Valuations based on quoted prices in markets that are not active or for which all significant inputs are observable,either directly or indirectly.Level 3 — Valuations based on inputs that are unobservable and significant to the overall fair value measurement.The availability of valuation techniques and observable inputs can vary from security to security and is affected by a widevariety of factors including, the type of security, whether the security is new and not yet established in the marketplace, and othercharacteristics particular to the transaction. To the extent that valuation is based on models or inputs that are less observable orunobservable in the market, the determination of fair value requires more judgment. Those estimated values do not necessarilyrepresent the amounts that may be ultimately realized due to the occurrence of future circumstances that cannot be reasonablydetermined. Because of the inherent uncertainty of valuation, those estimated values may be materially higher or lower than thevalues that would have been used had a market for the securities existed. Accordingly, the degree of judgment exercised by theCompany in determining fair value is greatest for securities categorized in Level 3. In certain cases, the inputs used to measure fairvalue may fall into different levels of the fair value hierarchy. In such cases, for disclosure purposes, the level in the fair valuehierarchy within which the fair value measurement in its entirety falls, is determined based on the lowest level input that issignificant to the fair value measurement.Fair value is a market-based measure considered from the perspective of a market participant rather than an entity-specificmeasure. Therefore, even when market assumptions are not readily available, the Company’s own assumptions are set to reflectthose that market participants would use in pricing the asset or liability at the measurement date. We use prices and inputs that arecurrent as of the measurement date, including periods of market dislocation. In periods of market dislocation, the observability ofprices and inputs may be reduced for many securities. This condition could cause a security to be reclassified to a lower levelwithin the fair value hierarchy.Valuation TechniquesEnterprise Value Waterfall ApproachThe enterprise value waterfall approach determines an enterprise value based on EBITDA multiples of publicly tradedcompanies that are considered similar to the subject portfolio company. The Company considers a variety of items in determininga reasonable pricing multiple, including, but not limited to, operating results, budgeted projections, growth, size, risk,profitability, leverage, management depth, diversification, market position, supplier or customer dependence, asset utilization,liquidity metrics, and access to capital markets. EBITDA of the portfolio company is adjusted for non-recurring items in order toreflect a normalized level of earnings that is representative of future earnings. In certain instances, the Company may also utilizerevenue multiples to determine enterprise value. When available, the Company may assign a pricing multiple or value its equityinvestments based on the value of recent investment transactions in the subject portfolio company or offers to purchase theportfolio company. The enterprise value is adjusted for financial instruments with seniority to the Company’s ownership and forthe effect of any instrument which may dilute the Company’s investment in the portfolio company. The adjusted enterprise valueis then apportioned based on the seniority and privileges of the Company’s investments within the portfolio company.69 TABLE OF CONTENTSThe enterprise value waterfall approach is primarily utilized to value the Company’s equity securities, including warrants.However, the Company may utilize the enterprise value waterfall approach to value certain debt securities.Income ApproachThe income approach utilizes a discounted cash flow methodology in which the Company estimates fair value based on thepresent value of a stream of expected cash flows discounted at a market rate of interest. The determination of a discount rate, orrequired rate of return, takes into account the portfolio company’s fundamentals and perceived credit risk. Because the majority ofthe Company’s portfolio companies do not have a public credit rating, determining a discount rate often involves assigning animplied credit rating based on the portfolio company’s operating metrics compared to average metrics of similar publicly rateddebt. Operating metrics include, but are not limited to, EBITDA, interest coverage, leverage ratio, return on capital, and debt toequity ratios. The implied credit rating is used to assign a base discount rate range based on publicly available yields on similarlyrated debt securities. The Company may apply a premium to the discount rate utilized in determining fair value when performancemetrics and other qualitative information indicate that there is an additional level of uncertainty about collectability of cashflows.Asset ApproachThe asset approach values an investment based on the greater of the enterprise value or the underlying collateral securing theinvestment. See discussion of determining enterprise value above. This approach is used when the debt is not performing inaccordance with its contractual terms or when the Company has reason to believe that it will not collect all principal and interestin accordance with the contractual terms of the debt agreement.Revenue RecognitionThe Company’s revenue recognition policies are as follows:Interest income and paid-in-kind interest: Interest income is recorded on the accrual basis to the extent that such amounts areexpected to be collected. The company has loans in the portfolio that contain a payment-in-kind (“PIK”) provision. The PIKinterest, which represents contractually deferred interest added to the loan balance that is generally due at maturity, is recorded onthe accrual basis to the extent that such amounts are expected to be collected. PIK interest is not accrued if the Company does notexpect the issuer to be able to pay all principal and interest when due.Non-accrual income: Generally, when interest and/or principal payments on a loan become 90 days or more past due, or if theCompany otherwise does not expect the borrower to be able to service its debt and other obligations, the Company will place theloan on non-accrual status, and will generally cease recognizing interest income and PIK on that loan for financial reportingpurposes. Interest payments received on non-accrual loans may be recognized as income or applied to principal depending uponmanagement’s judgment. The Company writes off any previously accrued and uncollected cash interest when it is determined thatinterest is no longer considered collectible. The company may elect to cease accruing PIK and continue accruing interest incomein cases where a loan is currently paying its interest income but, in management’s judgment, there is a reasonable likelihood ofprincipal loss on the loan. Non-accrual loans are returned to accrual status when the borrower’s financial condition improves suchthat management believes current interest and principal payments are expected to be collected.Gains and losses on investment sales and paydowns: Realized gains and losses on investments are recognized using thespecific identification method.Dividend income and paid-in-kind dividends: Dividend income is recognized on the date dividends are declared. Dividendincome may be reversed in the event that a previously declared dividend is no longer expected to be paid by the portfoliocompany. The Company holds preferred equity investments in the portfolio that contain a payment-in-kind dividend (“PIKdividends”) provision. PIK dividends, which represent contractually deferred dividends added to the equity balance, are recordedon the accrual basis to the extent that such amounts are expected to be collected. The Company will typically cease accrual of PIKdividends when the fair value of the equity investment is less than the cost basis of the investment or when it70 TABLE OF CONTENTSis otherwise determined by management that collection of PIK dividends are unlikely to be collected. If management determinesthat a decline in fair value is temporary in nature and the PIK dividends are more likely than not to be collected, management mayelect to continue accruing PIK dividends.Original issue discount/premiums: Discounts/premiums received to par on loans purchased are capitalized and accreted oramortized into income over the life of the loan. Any remaining discount/premium is accreted or amortized into income uponprepayment of the loan.Other income: Origination, amendment, consent, closing and/or commitment fees associated with investments in portfoliocompanies are recognized as income when the investment transaction closes. Prepayment penalties received by the Company fordebt instruments repaid prior to maturity date are recorded as income upon receipt.Income TaxesPrior to the Formation Transactions, the Legacy Funds were treated as partnerships for U.S. federal, state and local income taxpurposes and, therefore, no provision has been made in the accompanying consolidated financial statements for federal, state orlocal income taxes. In accordance with the partnership tax law requirements, each partner would include their respectivecomponents of the Legacy Funds’ taxable profits or losses, as shown on their Schedule K-1 in their respective tax or informationreturns. The Legacy Funds are disregarded entities for tax purposes prior to and post the Formation Transactions.The Company has elected to be treated for U.S. federal income tax purposes, and intends to comply with the requirement toqualify annually thereafter, as a RIC under Subchapter M of the Code and, among other things, intends to make the requisitedistributions to its stockholders which will relieve the Company from U.S. federal income taxes. Therefore, no provision has beenrecorded for U.S. federal income taxes.In order to qualify as a RIC, among other requirements, the Company is required to timely distribute to its stockholders at least90.0% of its investment company taxable income, as defined by the Code, for each fiscal tax year. The Company will be subject toa nondeductible U.S. federal excise tax of 4.0% on undistributed income if it does not distribute at least 98.0% of its ordinaryincome in any calendar year and 98.2% of its capital gain net income for each one-year period ending on October 31.Depending on the level of taxable income earned in an excise tax year, the Company may choose to carry forward taxableincome in excess of current year dividend distributions into the next excise tax year and pay a 4.0% excise tax on such income, asrequired. To the extent that the Company determines that its estimated current year annual taxable income will be in excess ofestimated current year dividend distributions for excise tax purposes, the Company accrues excise tax, if any, on estimated excesstaxable income as taxable income is earned.In accordance with certain applicable treasury regulations and private letter rulings issued by the Internal Revenue Service, aRIC may treat a distribution of its own stock as fulfilling its RIC distribution requirements if each stockholder may elect to receivehis or her entire distribution in either cash or stock of the RIC subject to a limitation on the aggregate amount of cash to bedistributed to all stockholders, which limitation must be at least 20.0% of the aggregate declared distribution. If too manystockholders elect to receive cash, each stockholder electing to receive cash will receive a pro rata amount of cash (with thebalance of the distribution paid in stock). In no event will any stockholder, electing to receive cash, receive less than 20.0% of hisor her entire distribution in cash. If these and certain other requirements are met, for U.S federal income tax purposes, the amountof the dividend paid in stock will be equal to the amount of cash that could have been received instead of stock.ASC 740, Income Taxes (“ASC 740”), provides guidance for how uncertain tax positions should be recognized, measured,presented and disclosed in the financial statements. ASC 740 requires the evaluation of tax positions taken or expected to betaken in the course of preparing the Company’s tax returns to determine whether the tax positions are “more-likely-than-not” ofbeing sustained by the applicable tax authority. Tax positions deemed to meet a “more-likely-than-not” threshold would berecorded as a tax benefit or expense in the current period. The Company recognizes interest and penalties, if any, related tounrecognized tax benefits as income tax expense in the consolidated statements of operations. As of December 31, 2014 andDecember 31, 2013, there were no uncertain tax positions.71 TABLE OF CONTENTSThe Company is required to determine whether a tax position of the Company is more likely-than-not to be sustained uponexamination by the applicable taxing authority, including resolution of any related appeals or litigation processes, based on thetechnical merits of the position. The tax benefit to be recognized is measured as the largest amount of benefit that is greater thanfifty percent likely of being realized upon ultimate settlement. De-recognition of a tax benefit previously recognized could resultin the Company recording a tax liability that could have negatively impact the Company’s net assets.U.S. GAAP provides guidance on thresholds, measurement, de-recognition, classification, interest and penalties, accounting ininterim periods, disclosure, and transition that is intended to provide better financial statement comparability among differententities.The Company has concluded that it was not necessary to record a liability for any such tax positions as of December 31, 2014or 2013. However, the Company’s conclusions regarding this policy may be subject to review and adjustment at a later date basedon factors including, but not limited to, ongoing analyses of, and changes to, tax laws, regulations and interpretations thereof.The Company’s activities from commencement of operations remain subject to examination by U.S. federal, state, and localtax authorities. No interest expense or penalties have been assessed as of December 31, 2014 and 2013. If the Company wererequired to recognize interest and penalties, if any, related to unrecognized tax benefits this would be recognized as income taxexpense in the consolidated statement of operations.Portfolio and Investment ActivityAs of December 31, 2014, our portfolio consisted of investments in 52 portfolio companies with a fair value of approximately$480.3 million.During the year ended December 31, 2014, the Company made approximately $216.3 million of investments in new orexisting portfolio companies and had approximately $80.2 million in exits and repayments resulting in net investments ofapproximately $136.1 million for the period. During the year ended December 31, 2013, the Company made approximately$110.9 million of investments in new or existing portfolio companies and had approximately $52.7 million in exits andrepayments resulting in net investments of approximately $58.2 million for the year.During the year ended December 31, 2014, the Company continued to execute its strategy of reallocating its mix of debt andequity within the portfolio. The fair value of our equity portfolio declined from 35.3% of the investment portfolio at December 31,2013 to only 23.2% of the investment portfolio at December 31, 2014. During the year ended December 31, 2014, the Companyexited 4 of its outstanding equity investment (Chef’N Corporation, Naples Lumber & Supply Co, Impresa Aerospace Holdings,LLC, and Take 5 Oil Change, Inc.) and recognized a net gain on equity investments of $5.2 million. Of the $216.3 million in newinvestments originated during the year ended December 31, 2014, 97.4% related to debt investments.As of December 31, 2014, our average portfolio company investment and our largest portfolio company investment atamortized cost and fair value was approximately $8.5 million and $9.2 million, and $25.7 million and $24.2 million, respectively.As of December 31, 2014, the Company had approximately $55.1 million of cash and cash equivalents. As of December 31, 2013,our average portfolio company investment and our largest portfolio company investment at amortized cost and fair value wasapproximately $7.3 million and $8.9 million, and $25.3 million and $25.3 million, respectively. As of December 31, 2013, theCompany had $101.6 million of cash and cash equivalents.As of December 31, 2014, our income-bearing investment portfolio, which represented 76.7% of our total portfolio, had aweighted average yield of approximately 12.5%. As of December 31, 2014, 79.0% of our income-bearing portfolio was bearing afixed rate of interest. As of December 31, 2013, our income-bearing investment portfolio, which represented 64.6% of our totalportfolio, had a weighted average yield of approximately 13.7% all bearing a fixed rate of interest.72 TABLE OF CONTENTSThe following table summarizes the amortized cost and the fair value of investments and cash and cash equivalents as ofDecember 31, 2014 (dollars in thousands): Investments atAmortized Cost Amortized CostPercentageof Total Investments atFair Value Fair ValuePercentageof TotalSenior Secured Debt $146,399 29.5% $146,314 27.3% Subordinated Debt 231,901 46.7 222,300 41.5 Equity and Warrants 62,855 12.7 111,723 20.9 Cash and Cash Equivalents 55,107 11.1 55,107 10.3 Total $496,262 100.0% $535,444 100.0% The following table summarizes the amortized cost and the fair value of investments and cash and cash equivalents as ofDecember 31, 2013 (dollars in thousands): Investments atAmortized Cost Amortized CostPercentageof Total Investments atFair Value Fair ValuePercentageof TotalSenior Secured Debt $103,457 25.7% $102,071 21.9% Subordinated Debt 136,638 33.9 133,710 28.7 Equity and Warrants 61,204 15.2 128,938 27.6 Cash and Cash Equivalents 101,622 25.2 101,622 21.8 Total $402,921 100.0% $466,341 100.0% The following table shows the portfolio composition by industry grouping at fair value (dollars in thousands): December 31, 2014 December 31, 2013 Investments atFair Value Percentage ofTotalPortfolio Investments atFair Value Percentage ofTotal PortfolioOil & Gas Services $34,088 7.1% $30,506 8.4% Transportation 27,094 5.6 6,000 1.6 Sales & Marketing Services 23,632 4.9 22,753 6.3 IT Government Contracting 20,000 4.2 — — Food Product Manufacturer 19,126 4.0 — — Printing Services 18,324 3.8 16,448 4.5 QSR Franchisee 17,465 3.6 24,787 6.8 Bakery Supplies Distributor 16,297 3.4 — — Personal Product Manufacturer 16,241 3.4 14,073 3.9 Automobile Part Manufacturer 15,846 3.3 — — Footwear Retail 15,687 3.3 14,807 4.1 Home Décor Manufacturer 14,611 3.0 — — Oil & Gas Engineering and ConsultingServices 14,547 3.0 15,000 4.1 Medical Device Distributor 14,349 3.0 11,121 3.0 Industrial Equipment Rental 13,212 2.8 22,500 6.2 Retail Display & Security Services 12,958 2.7 10,823 3.0 Construction Services 12,500 2.6 — — Healthcare Management 12,420 2.6 — — Wireless Communication Retailer 12,000 2.5 — — Computer Supply Retail 11,984 2.5 6,673 1.8 Western Wear Retail 10,920 2.3 4,774 1.3 Textile Equipment Manufacturer 10,577 2.2 9,031 2.5 Energy Services 10,573 2.2 8,783 2.4 73 TABLE OF CONTENTS December 31, 2014 December 31, 2013 Investments atFair Value Percentage ofTotalPortfolio Investments atFair Value Percentage ofTotal PortfolioRestaurant Chain $9,738 2.0% $— —% Financial Services 8,300 1.7 — — Data Processing & Digital Marketing 8,005 1.7 5,061 1.4 Dental Practice Management 7,826 1.6 9,273 2.6 Conglomerate 7,179 1.5 7,630 2.1 Specialty Clothing 5,723 1.2 12,724 3.5 Produce Distribution 5,711 1.2 6,631 1.8 Scrap Metal Recycler 4,927 1.0 3,950 1.1 Building Products 4,895 1.0 — — Replacement Window Manufacturer 4,857 1.0 6,284 1.7 Online Merchandise Retailer 4,804 1.0 — — Fuel Transportation Services 4,783 1.0 10,274 2.8 Advertising & Marketing Services 4,219 0.9 4,911 1.3 Automotive Chemicals & Lubricants 3,891 0.8 3,886 1.1 Petroleum Equipment Supplier 3,850 0.8 3,624 1.0 Industrial Manufacturing 3,510 0.7 3,440 0.9 Education Services 3,000 0.6 — — Professional Employer Organization 2,700 0.6 22,677 6.2 QSR Franchisor 2,506 0.5 14,622 4.0 Specialty Defense Contractor 1,850 0.4 2,799 0.8 Online Travel Sales & Marketing 1,750 0.4 1,638 0.4 Home Product Manufacturer 758 0.2 — — In-Home Healthcare Services 624 0.1 748 0.2 IT Hosting Services 480 0.1 453 0.1 Culinary Products — — 10,302 2.8 Aerospace Parts Manufacturer — — 10,064 2.8 Building Supplies — — 2,509 0.7 Quick Lube Services — — 1,604 0.4 Industrial Boiler Manufacturer — — 1,536 0.4 Total $480,337 100.0% $364,719 100.0% Recent declines in oil prices has had an impact on the energy industry and has contributed towards the volatility in theleverage loan market during the fourth quarter of 2014. The events have had an impact on our investments in the energy sector.As of December 31, 2014, we had five investments within the energy sector, representing approximately 12.3% of the totalinvestment portfolio, based on fair values. The December 31, 2014 fair values were approximately 89.5% of cost, compared to99.5% at December 31, 2013.At December 31, 2014, all energy related investments were current on interest payments. Management continues to closelymonitor each of these investments, maintaining frequent dialogue with company management and, where appropriate, sponsors.74 TABLE OF CONTENTSWith the exception of an $8.3 million investment in an internationally headquartered company, all investments made by theCompany as of December 31, 2014 and December 31, 2013 were made in portfolio companies located in the United States. Thegeographic composition is determined by the location of the corporate headquarters of the portfolio company, which may not beindicative of the primary source of the portfolio company’s business. The following table shows the portfolio composition bygeographic region at fair value as of December 31, 2014 and December 31, 2013 (dollars in thousands): At December 31, 2014 At December 31, 2013 Investments atFair Value Percentage ofTotalPortfolio Investments atFair Value Percentage ofTotal PortfolioSouth $272,457 56.7% $254,143 69.7% Northeast 86,411 18.0 23,436 6.4 West 75,066 15.7 66,637 18.3 Midwest 38,103 7.9 20,503 5.6 International 8,300 1.7 — — Total $480,337 100.0% $364,719 100.0% In addition to various risk management tools, our Investment Advisor also uses an investment rating system to characterizeand monitor our expected level of return on each investment in our portfolio.As part of our valuation procedures, we risk rate all of our investments. In general, our investment rating system uses a scale of1 to 5, with 1 being the lowest probability of default and principal loss. Our internal rating is not an exact system, but it is usedinternally to estimate the probability of: (i) default on our debt securities and (ii) loss of our debt principal, in the event of adefault. In general, our internal rating system may also assist our valuation team in its determination of the estimated fair value ofequity securities or equity-like securities. Our internal risk rating system generally encompasses both qualitative and quantitativeaspects of our portfolio companies.Our internal investment rating system incorporates the following five categories: InvestmentRating Definition1 In general, the investment may be performing above our internal expectations. Full return ofprincipal and interest is expected. Capital gain is expected.2 In general, the investment may be performing within our internal expectations, and potentialrisks to the applicable investment are considered to be neutral or favorable compared to anypotential risks at the time of the original investment. All new investments are initially given thisrating.3 In general, the investment may be performing below our expectations and therefore, investmentsin this category may require closer internal monitoring; however, the valuation team believesthat no loss of investment return (interest and/or dividends) or principal is expected. Theinvestment also may be out of compliance with certain senior or senior subordinated debtfinancial covenants.4 In general, the investment may be performing below internal expectations and quantitative risksmay have increased substantially since the original investment. Loss of some of principal isexpected.5 In general, the investment may be performing substantially below our internal expectations and anumber of quantitative or qualitative risks may have increased substantially since the originalinvestment. Loss of some or all principal is expected.Our Investment Advisor will monitor and, when appropriate, change the investment ratings assigned to each investment in ourportfolio. In connection with our valuation process, our Investment Advisor will review these investment ratings on a quarterlybasis, and our Board will affirm such ratings. The investment rating of a particular investment should not, however, be deemed tobe a guarantee of the investment’s future performance.75 TABLE OF CONTENTSThe following table shows the distribution of our investments on the 1 to 5 investment performance rating scale at fair value asof December 31, 2014 and 2013 (dollars in thousands): As of December 31, 2014 As of December 31, 2013Investment Performance Rating Investments atFair Value Percentage ofTotalInvestments Investments atFair Value Percentage ofTotalInvestments1 $146,471 30.5% $183,194 50.2% 2 271,864 56.6 129,721 35.5 3 55,325 11.5 44,680 12.3 4 6,677 1.4 7,124 2.0 5 — — — — Total $480,337 100.0% $364,719 100.0% As of December 31, 2014, the Company had debt investments in one portfolio company on non-accrual status with a totalprincipal amount of $3.5 million, amortized cost of $3.4 million and a fair value of $0.0 million, which represented 0.8%, 0.8%,and 0.0% of the investment portfolio, respectively. As of December 31, 2013, the Company had debt investments in four portfoliocompanies on non-accrual status with a total principal amount of $12.1 million, amortized cost of $10.3 million and a fair value of$6.5 million representing 3.3%, 2.8% and 1.8% of the investment portfolio, respectively.As of December 31, 2014, the Company had debt investments in one portfolio company on PIK non-accrual status with a totalprincipal of $13.1 million, amortized cost of $13.1 million, and a fair value of $10.6 million, representing 3.2%, 3.0%, and 2.2%of the investment portfolio, respectively. As of December 31, 2013, the Company had no investments on PIK non-accrual status.Results of OperationsOperating results for the years ended December 31, 2014, 2013, and 2012 are as follows (dollars in thousands): For the Year Ended December 31 2014 2013 2012Total investment income $49,528 $35,433 $24,939 Total expenses, net 29,562 15,949 12,015 Net investment income 19,966 19,484 12,924 Net realized gains from investments 832 2,187 1,590 Net increase/(decrease) in unrealized appreciation (24,238) 7,187 35,056 Net increase/(decrease) in net assets resulting fromoperations $(3,440) $28,858 $49,570 Investment incomeThe composition of our investment income for the years ended December 31, 2014, 2013 and 2012 was as follows (dollars inthousands): For the Year Ended December 31 2014 2013 2012Interest and fee income $39,118 $25,777 $21,763 Payment-in-kind interest and dividend income 2,833 1,571 1,789 Dividend income 7,557 6,432 1,052 Interest from cash and cash equivalents 20 149 141 Other income — 1,504 194 Total investment income $49,528 $35,433 $24,939 76 TABLE OF CONTENTSFor the year ended December 31, 2014, total investment income increased $14.1 million, or 39.8% compared to the fiscal yearended December 31, 2013. The Company had net deployments of debt securities of $140.3 million during the year endedDecember 31, 2014, which increased interest, fee, PIK, and overall investment income growth year over year.For the year ended December 31, 2013, total investment income increased $10.5 million, or 42.1% compared to the fiscal yearended December 31, 2012. The increase from the prior year relates to higher loan and fee income resulting from an increasinginvestment portfolio.Operating expensesThe composition of our expenses for the years ended December 31, 2014, 2013 and 2012 was as follows (dollars in thousands): For the Year Ended December 31 2014 2013 2012Interest and financing expenses $13,375 $8,384 $7,853 Management fees, net of management fee waiver 9,051 4,731 4,043 Incentive fees 2,838 1,525 — Administrative expenses 953 226 — Other operating expenses 3,345 1,083 119 Total expenses, net of management fee waiver $29,562 $15,949 $12,015 For the year ended December 31, 2014, operating expenses increased $13.6 million, or 85.4%, compared to the year endedDecember 31, 2013. Interest expense increased year over year primarily due to our June 2014 $113.4 million offering of 7.125%fixed rate notes due 2021 (“the Notes”). Management and incentive fees increased for the year ended December 31, 2014 primarilybecause 2014 was a full year under terms of the Investment Advisory Agreement that we entered into with the Investment Advisoron September 24, 2013. Administrative expenses increased year over year primarily due to a full year under terms of theAdministration Agreement. Other operating expenses increased year over year due to a full year of regulatory and reporting costssubsequent to our IPO on September 30, 2013.For the year ended December 31, 2013, operating expenses increased $3.9 million, or 32.7% compared to the year endedDecember 31, 2012. The increase is attributable to an incentive fee of $1.5 million under the new Investment Advisory Agreement,and $0.9 million of administrative expenses and other operating expenses following the IPO on September 30, 2013.Net realized gains/losses on sales of investmentsDuring the years ended December 31, 2014, 2013 and 2012, we recognized $0.8 million, $2.2 million and $1.6 million of netrealized gains on our portfolio investments, respectively.Net unrealized appreciation on investmentsNet change in unrealized appreciation on investments reflects the net change in the fair value of our investment portfolio. Forthe years ended December 31, 2014, 2013 and 2012, we had $(24.2) million, $7.2 million and $35.1 million of unrealizedappreciation (depreciation), respectively, on portfolio investments. During the year ended December 31, 2014, depreciation withinthe portfolio was driven by monetization of equity value through $7.6 million in dividends received from portfolio companies,$6.4 million in depreciation related to investments in the energy sector, and $10.4 million of depreciation driven primarily bynegative earnings trends in the remaining investment portfolio.Changes in net assets resulting from operationsFor the fiscal years ended December 31, 2014, 2013 and 2012 we recorded a net increase (decrease) in net assets resulting fromoperations of $(3.4) million, $28.9 million, and $49.6 million, respectively. Based on the weighted average shares of commonstock outstanding for the years ended December 31, 2014 and 2013, our per share net increase (decrease) in net assets resultingfrom operations was $(0.27) and $2.22, respectively.77 TABLE OF CONTENTSFinancial Condition, Liquidity and Capital ResourcesThe Company uses and intends to use existing cash primarily to originate investments in new and existing portfoliocompanies, pay dividends to our shareholders, and repay indebtedness.On September 30, 2013, the Company issued 4,000,000 shares at $20.00 per share in its IPO, yielding net proceeds of $74.25million.Including the net proceeds from the Company’s IPO on September 30, 2013, the Company has raised approximately $231.5million in net proceeds and credit availability in debt and equity offerings through December 31, 2014.The Company issued $113.4 million in aggregate principal amount of 7.125% fixed-rate notes in June of 2014, yielding netproceeds of $109.1 million after underwriting costs. The Notes will mature on June 16, 2021, and may be redeemed in whole or inpart at any time or from time to time at the Company’s option on or after June 17, 2017 at a redemption price equal to 100% of theoutstanding principal, plus accrued and unpaid interest. The notes bear interest at a rate of 7.125% per year payable quarterly onMarch 16, June 16, September 16, and December 16 of each year, beginning September 16, 2014. The Notes are listed on the NewYork Stock Exchange under the trading symbol “CLA” with a par value $25.00 per share.On October 17, 2014, the Company entered into a senior secured revolving credit agreement (the “Credit Facility”) with INGCapital, LLC, as administrative agent, arranger, and bookrunner, and the lenders party thereto. The Credit Facility initiallyprovides for borrowings up to $50,000,000 and may be increased up to $150,000,000 pursuant to its “accordion” feature. TheCredit Facility matures on October 17, 2018. Underwriting costs for the Credit Facility were $1.8 million and will be amortizedover the term of the Facility. As of December 31, 2014, the Company had not utilized the Credit Facility.Borrowings under the Credit Facility bear interest, at the Company’s election, at a rate per annum equal to (i) the one, two,three or six month LIBOR as applicable, plus 3.00% or (ii) 2.00% plus the highest of (A) a prime rate, (B) the Federal Funds rateplus 0.5% and (C) three month LIBOR plus 1.0%. The Company’s ability to elect LIBOR indices with various tenors (e.g., one,two, three or six month LIBOR) on which the interest rates for borrowings under the Credit Facility are based provides thecompany with increased flexibility to manage interest rate risks as compared to a borrowing arrangement that does not provide forsuch optionality. Once a particular LIBOR rate has been selected, the interest rate on the applicable amount borrowed will resetafter the applicable tenor period and be based on the then applicable selected LIBOR rate (e.g., borrowings for which theCompany has elected the one month LIBOR rate will reset on the one month anniversary of the period based on the then selectedLIBOR rate). For any given borrowing under the Credit Facility, the Company intends to elect what it believes to be anappropriate LIBOR rate taking into account the Company’s needs at the time as well as the Company’s view of future interest ratemovements. The Company will also pay an unused commitment fee at a rate of 2.50% per annum on the amount (if positive) bywhich 40% of the aggregate commitments under the Credit Facility exceeds the outstanding amount of loans under the CreditFacility and 0.50% per annum on any remaining unused portion of the Credit Facility.As of December 31, 2014, Fund II had $26.2 million in regulatory capital and $42.2 million in SBA- guaranteed debenturesoutstanding and Fund III had $75 million in regulatory capital and $150 million in SBA-guaranteed debentures outstanding. Inaddition to our existing SBA-guaranteed debentures, we may, if permitted by regulation, seek to issue additional SBA-guaranteeddebentures as well as other forms of leverage and borrow funds to make investments. On June 10, 2014, we received an exemptiveorder from the SEC exempting us, Fund II and Fund III from certain provisions of the 1940 Act (including an exemptive ordergranting relief from the asset coverage requirements for certain indebtedness issued by Fund II and Fund III as SBICs) and fromcertain reporting requirements mandated by the Securities Exchange Act of 1934, as amended, with respect to Fund II and Fund III.We intend to comply with the conditions of the order.As of December 31, 2014, we had $55.1 million in cash and cash equivalents, and our net assets totaled $240.8 million.78 TABLE OF CONTENTSContractual obligationsWe have entered into two contracts under which we have material future commitments, the Investment Advisory Agreement,pursuant to which the Investment Advisor serves as our investment adviser, and the Administration Agreement, pursuant to whichour Administrator agrees to furnish us with certain administrative services necessary to conduct our day-to-day operations.Payments under the Investment Advisory Agreement in future periods will be equal to: (1) a percentage of the value of our grossassets; and (2) an incentive fee based on our performance. Payments under the Administration Agreement will occur on anongoing basis as expenses are incurred on our behalf by our Administrator.The Investment Advisory Agreement and the Administration Agreement are each terminable by either party without penaltyupon 60 days’ written notice to the other. If either of these agreements is terminated, the costs we incur under new agreements mayincrease. In addition, we will likely incur significant time and expense in locating alternative parties to provide the services weexpect to receive under both our Investment Advisory Agreement and our Administration Agreement. Any new InvestmentAdvisory Agreement would also be subject to approval by our stockholders.A summary of the Company’s significant contractual payment obligations as of December 31, 2014 is as follows (dollars inthousands): Contractual Obligations Payments Due by Period Less Than1 Year 1 – 3Years 3 – 5Years More Than5 Years TotalSBA Debentures $8,000 $13,500 $5,000 $165,700 $192,200 Notes — — — 113,438 113,438 Total Contractual Obligations $8,000 $13,500 $5,000 $279,138 $305,638 DistributionsIn order to qualify as a RIC and to avoid corporate-level U.S. federal income tax on the income we distribute to ourstockholders, we are required to distribute at least 90% of our net ordinary income and our net short-term capital gains in excess ofnet long-term capital losses, if any, to our stockholders on an annual basis. Additionally, we must distribute an amount at leastequal to the sum of 98% of our net ordinary income (during the calendar year) plus 98.2% of our net capital gain income (duringeach 12-month period ending on October 31) plus any net ordinary income and capital gain net income for preceding years thatwere not distributed during such years and on which we paid no U.S. federal income tax to avoid a U.S. federal excise tax. To theextent that we have income available, we intend to make quarterly distributions to our stockholders for the first four full quarterssubsequent to our IPO and then make monthly distributions thereafter. Our monthly stockholder distributions, if any, will bedetermined by our Board on a quarterly basis. Any distribution to our stockholders will be declared out of assets legally availablefor distribution.We may not be able to achieve operating results that will allow us to make distributions at a specific level or to increase theamount of our distributions from time to time. In addition, we may be limited in our ability to make distributions due to the assetcoverage requirements applicable to us as a BDC under the 1940 Act. If we do not distribute a certain percentage of our incomeannually, we will suffer adverse tax consequences, including the possible loss of our qualification as a RIC. We cannot assurestockholders that they will receive any distributions.To the extent our taxable earnings fall below the total amount of our distributions for that fiscal year, a portion of thosedistributions may be deemed a return of capital to our stockholders for U.S. federal income tax purposes. Thus, the source of adistribution to our stockholders may be the original capital invested by the stockholder rather than our income or gains.Stockholders should read any written disclosure accompanying any stockholder distribution carefully and should not assume thatthe source of any distribution is our ordinary income or capital gains.We have adopted an “opt out” dividend reinvestment plan for our common stockholders. As a result, if we declare adistribution, then stockholders’ cash distributions will be automatically reinvested in additional shares of our common stockunless a stockholder specifically “opts out” of our dividend reinvestment plan. If a stockholder opts out, that stockholder willreceive cash distributions. Although distributions paid in the form79 TABLE OF CONTENTSof additional shares of our common stock will generally be subject to U.S. federal, state and local taxes in the same manner as cashdistributions, stockholders participating in our dividend reinvestment plan will not receive any corresponding cash distributionswith which to pay any such applicable taxes.Related PartiesWe have entered into the Investment Advisory Agreement with the Investment Advisor. Mr. Alala, our chief executive officer,president and chairman of our Board, is the managing partner and chief investment officer of the Investment Advisor, and Mr.Broyhill, a member of our Board, has an indirect controlling interest in the Investment Advisor.In addition, the Investment Advisor’s investment team also manages CapitalSouth Partners SBIC Fund IV, L.P. (“Fund IV”); aprivate investment limited partnership providing financing solutions to smaller and lower middle-market companies that had itsfirst closing in March 2013 and obtained SBA approval for its SBIC license in April 2013. In addition to Fund IV, affiliates of theInvestment Advisor may manage several affiliated funds whereby institutional limited partners in Fund IV, have had theopportunity to co-invest with Fund IV in portfolio investments. The Investment Advisor and its affiliates may also manage otherfunds in the future that may have investment mandates that are similar, in whole and in part, with ours. The Investment Advisorand its affiliates may determine that an investment is appropriate for us and for one or more of those other funds. In such event,depending on the availability of such investment and other appropriate factors, the Investment Advisor or its affiliates maydetermine that we should invest side-by-side with one or more other funds. Any such investments will be made only to the extentpermitted by applicable law and interpretive positions of the SEC and its staff, and consistent with the Investment Advisor’sallocation procedures. We do not expect to make co-investments, or otherwise compete for investment opportunities, with Fund IVbecause its focus and investment strategy differ from our own.We have entered into a license agreement with the Investment Advisor, pursuant to which the Investment Advisor has agreedto grant us a non-exclusive, royalty-free license to use the name “Capitala.”We have entered into the Administration Agreement with our Administrator. Pursuant to the terms of the AdministrationAgreement, our Administrator provides us with the office facilities and administrative services necessary to conduct our day-to-day operations. Mr. Alala, our chief executive officer, president and chairman of our Board, is the chief executive officer, presidentand a director of our Administrator, and Mr. Broyhill, a member of our Board, has an indirect controlling interest in the InvestmentAdvisor.Off-balance sheet arrangementsWe have no off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financialcondition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capitalresources.Recent DevelopmentsDistributionsOn January 2, 2015, our Board of Directors declared the following distributions: Date Declared Record Date Payment Date Amount PerShareJanuary 2, 2015 March 23, 2015 March 30, 2015 $0.1567 January 2, 2015 February 20, 2015 February 26, 2015 $0.1567 January 2, 2015 January 22, 2015 January 29, 2015 $0.1567 Total Dividends Declared for Fiscal2015 $0.47 Credit FacilityOn January 6, 2015, the Company entered into an Incremental Assumption Agreement (the “Incremental AssumptionAgreement”) relating to the Credit Facility. The Incremental Assumption Agreement increased the amount of borrowings availableunder the Credit Facility from $50.0 million to $80.0 million. The80 TABLE OF CONTENTS$30.0 million increase in total commitments under the Credit Facility was executed under the “accordion” feature of the CreditFacility, which allows for an increase in total commitments under the Credit Facility up to $150.0 million.Portfolio ActivityOn January 23, 2015, the Company invested $20.0 million in subordinated debt of Tender Greens Holdings, LLC, earning14.0% cash interest, plus warrant participation.On February 13, 2015, the Company invested $1.5 million in senior secured term debt and subordinated debt of Sun & SkinCare Research, LLC, an existing portfolio investment, earning 7.0% cash interest.On February 20, 2015, the Company invested $1.1 million in subordinated debt of On-Site Fuel Services, Inc., an existingportfolio investment, earning 14.0% cash interest and 4.0% PIK.On February 26, 2015, the Company invested $15.0 million in subordinated debt of Portrait Innovations, Inc., earning 12.0%cash interest.On March 2, 2015, the Company received $12.0 million from A Wireless Holding Company, representing full repayment ofthe Company’s subordinated debt investment, yielding 12.0% cash interest, due September 9, 2019.On March 2, 2015, the Company received $4.0 million from the sale of 179,748 shares of Boot Barn, Inc. (NYSE:BOOT),resulting in a realized gain of $3.3 million. The Company still holds 420,252 shares of BOOT, subject to a lockup agreement thatexpires during the second quarter of 2015.Special DistributionOn February 26, 2015, the Company’s board of directors declared a special distribution in the aggregate amount ofapproximately $6.5 million, or $0.50 per share of the Company’s common stock, to be paid monthly over the remainder of 2015.This represents approximately a 32% increase over normal monthly distributions, as previously announced.Share Repurchase ProgramOn February 26, 2015, the Company’s board of directors authorized a program for the purpose of repurchasing up to $12million worth of its common stock. Under the repurchase program, the Company may, but is not obligated to, repurchase itsoutstanding common stock in the open market from time to time provided that the Company complies with the prohibitions underits Insider Trading Policies and Procedures and the guidelines specified in Rule 10b-18 of the Securities Exchange Act of 1934, asamended, including certain price, market volume and timing constraints. Unless extended by the Company’s board of directors,the Company expects the repurchase program to be in place until the earlier of March 31, 2016 or until $12 million of theCompany’s outstanding shares of common stock have been repurchased.Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKWe are subject to financial market risks, including changes in interest rates. Changes in interest rates may affect both our costof funding and our interest income from portfolio investments and cash and cash equivalents. Our investment income willgenerally not be affected by changes in various interest rates, including LIBOR, as assets and liabilities are fixed as of December31, 2014. We may hedge against interest rate fluctuations by using standard hedging instruments such as futures, options andforward contracts subject to the requirements of the 1940 Act. For the year ended December 31, 2014, we did not engage inhedging activities.As of December 31, 2014, the Company held 9 securities at a cost of $77.9 million, bearing a variable rate of interest. TheCompany’s variable rate investments represent approximately 21.0% of the fair market value of total interest earning investments.All variable rate securities are London Interbank Offered Rate (“LIBOR”) based and are subject to interest rate floors. As ofDecember 31, 2014, all variable rate securities were yielding interest at a rate equal to the established interest rate floor. As ofDecember 31, 2014, all of our interest paying liabilities, consisting of $192.2 million in SBA-guaranteed debentures and $113.4million in notes payable, were bearing interest at a fixed rate. While our credit facility bears a variable rate of interest based onLIBOR, no amount was outstanding during the year ended December 31, 2014.81 TABLE OF CONTENTSInterest rate sensitivity refers to the change in earnings that may result from changes in the level of interest rates. Because wefund a portion of our investments with borrowings, our net investment income is affected by the difference between the rate atwhich we invest and the rate at which we borrow. As a result, there can be no assurance that a significant change in market interestrates will not have a material adverse effect on our net investment income.Based on our December 31, 2014 balance sheet, the following table shows the annual impact on net income (excluding thepotential related incentive fee impact) of base rate changes in interest rates (considering interest rate floors for variable ratesecurities) assuming no changes in our investment and borrowing structure (dollars in thousands): Basis Point Change InterestIncome InterestExpense NetIncomeUp 300 basis points $1,770 $ — $1,770 Up 200 basis points $962 $— $962 Up 100 basis points $154 $— $154 Down 100 basis points $— $— $— Down 200 basis points $— $— $— Down 300 basis points $— $— $— 82 TABLE OF CONTENTSItem 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATAINDEX TO FINANCIAL STATEMENTS PageReports of Independent Registered Public Accounting Firms F-1 Audited Financial Statements: Consolidated Statements of Assets and Liabilities as of December 31, 2014 and December 31, 2013 F-3 Consolidated Statements of Operations for the years ended December 31, 2014, December 31, 2013and December 31, 2012 F-4 Consolidated Statements of Changes in Net Assets for the years ended December 31, 2014, December31, 2013 and December 31, 2012 F-5 Consolidated Statements of Cash Flows for the years ended December 31, 2014, December 31, 2013and December 31, 2012 F-6 Consolidated Schedules of Investments as of December 31, 2014 and December 31, 2013 F-7 Notes to Consolidated Financial Statements F-20 83 TABLE OF CONTENTSReport of Independent Registered Public Accounting FirmTo the Board of Directors and StockholdersCapitala Finance Corp.We have audited the accompanying consolidated statement of assets and liabilities of Capitala Finance Corp. (the Company),including the consolidated schedule of investments, as of December 31, 2014 and 2013, and the related consolidated statementsof operations, changes in net assets, and cash flows and the financial highlights for each of the two years in the period endedDecember 31, 2014. These financial statements and financial highlights are the responsibility of the Company’s management. Ourresponsibility is to express an opinion on these financial statements and financial highlights based on our audits.We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (UnitedStates). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financialstatements and financial highlights are free of material misstatement. We were not engaged to perform an audit of the Company’sinternal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis fordesigning audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on theeffectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An auditincludes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements and financialhighlights. An audit also includes assessing the accounting principles used and significant estimates made by management, aswell as evaluating the overall financial statement presentation. Our procedures included confirmation of securities owned as ofDecember 31, 2014 and 2013 by correspondence with the custodian and directly with management or designees of the portfoliocompanies, as applicable. We believe that our audits provide a reasonable basis for our opinion.In our opinion, the financial statements and financial highlights referred to above present fairly, in all material respects, theconsolidated financial position of Capitala Finance Corp. at December 31, 2014 and 2013, and the consolidated results of itsoperations, changes in its net assets, cash flows, and its financial highlights for each of the two years in the period ended December31, 2014, in conformity with U.S. generally accepted accounting principles./s/ Ernst & Young LLPCharlotte, North CarolinaMarch 4, 2015F-1 TABLE OF CONTENTS REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRMTo the Stockholders and Board of DirectorsCapitala Finance Corp.We have audited the accompanying combined statements of operations, changes in net assets, and cash flows of CapitalaFinance Corp. (the “Company”) for the year ended December 31, 2012. These combined financial statements are the responsibilityof the Company's management. Our responsibility is to express an opinion on these combined financial statements based on ouraudit.We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States).Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statementsare free of material misstatement. The Company was not required to have, nor were we engaged to perform, an audit of its internalcontrol over financial reporting. Our audit included consideration of internal control over financial reporting as a basis fordesigning audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on theeffectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit alsoincludes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing theaccounting principles used and significant estimates made by management, as well as evaluating the overall financial statementpresentation. We believe that our audit provides a reasonable basis for our opinion.In our opinion, the combined financial statements referred to above present fairly, in all material respects, the results ofoperations and cash flows of the Company for the year ended December 31, 2012 in conformity with U.S. generally acceptedaccounting principles./s/ Dixon Hughes Goodman LLPHigh Point, North CarolinaMarch 28, 2014, except for Note 11, as to which the date is March 4, 2015F-2 TABLE OF CONTENTSCapitala Finance Corp. Consolidated Statements of Assets and Liabilities(in thousands, except share and per share data) As of December31,2014 December 31,2013ASSETS Investments at fair value Non-control/non-affiliate investments (amortized cost of $219,163 and $84,138,respectively) $236,804 $99,140 Affiliate investments (amortized cost of $154,552 and $159,104,respectively) 171,471 189,098 Control investments (amortized cost of $67,440 and $58,057, respectively) 72,062 76,481 Total investments at fair value (amortized cost of $441,155 and $301,299,respectively) 480,337 364,719 Cash and cash equivalents 55,107 101,622 Interest and dividend receivable 3,113 2,917 Due from related parties 518 1,645 Deferred financing fees (net of accumulated amortization of $3,288 and $2,216,respectively) 10,002 4,871 Prepaid expenses 515 654 Other assets 274 — Total assets $549,866 $476,428 LIABILITIES SBA debentures $192,200 $202,200 Notes 113,438 — Due to related parties 8 521 Management and incentive fee payable 159 2,157 Interest payable 2,902 2,723 Accounts payable and accrued expenses 322 157 Total liabilities $309,029 $207,758 Commitments and contingencies (Note 2) NET ASSETS Common stock, par value $.01, 100,000,000 common shares authorized,12,974,420 common shares issued and outstanding, respectively $130 $130 Additional paid in capital 188,408 188,408 Accumulated undistributed net investment income 12,314 16,760 Accumulated undistributed net realized gain (loss) from investments 803 (48) Net unrealized appreciation on investments 39,182 63,420 Total net assets 240,837 268,670 Total liabilities and net assets $549,866 $476,428 Net asset value per share $18.56 $20.71 See accompanying notes to consolidated financial statements.F-3 TABLE OF CONTENTSCapitala Finance Corp. Consolidated Statements of Operations(in thousands, except share and per share data) For the year ended December 31 2014 2013 2012 (combined)INVESTMENT INCOME Interest and fee income: Non-control/Non-affiliate investments $16,209 $8,355 $6,742 Affiliate investments 17,105 12,688 11,683 Control investments 5,804 4,734 3,338 Total interest and fee income 39,118 25,777 21,763 Payment-in-kind interest and dividend income: Non-control/Non-affiliate investments 937 175 185 Affiliate investments 1,169 471 532 Control investments 727 925 1,072 Total payment-in-kind interest and dividend income 2,833 1,571 1,789 Dividend income: Non-control/Non-affiliate investments 1,818 35 — Affiliate investments 774 314 431 Control investments 4,965 6,083 621 Total dividend income 7,557 6,432 1,052 Other income — 1,504 194 Interest income from cash and cash equivalents 20 149 141 Total investment income 49,528 35,433 24,939 EXPENSES Interest and financing expenses 13,375 8,384 7,853 Base management fee 9,289 5,064 4,193 Incentive fees 2,838 1,525 — Administrative expenses 953 226 — Other operating expenses 3,345 1,083 119 Expenses before management fee waiver 29,800 16,282 12,165 Management fee waiver (See Note 5) (238) (333) (150) Total expenses, net of management fee waiver 29,562 15,949 12,015 NET INVESTMENT INCOME 19,966 19,484 12,924 REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS: Net realized gain (loss) from investments: Non-control/Non-affiliate investments 2,564 6,011 180 Affiliate investments (1,843) (4,099) 1,410 Control investments 111 275 — Total realized gain from investments 832 2,187 1,590 Net unrealized appreciation (depreciation) on investments (24,238) 7,187 35,056 Net gain (loss) on investments (23,406) 9,374 36,646 NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROMOPERATIONS $(3,440) $28,858 $49,570 NET INCREASE (DECREASE) IN NET ASSETS PER SHARERESULTING FROM OPERATIONS – BASIC AND DILUTED $(0.27) $2.22 N/A WEIGHTED AVERAGE COMMON STOCK OUTSTANDING – BASIC AND DILUTED 12,974,420 12,974,420 N/A DISTRIBUTIONS DECLARED AND PAID PER SHARE $1.88 $0.47 — N/A — Not Applicable See accompanying notes to consolidated financial statements.F-4 TABLE OF CONTENTSCapitala Finance Corp. Consolidated Statements of Changes in Net Assets(in thousands, except share data) GeneralPartner LimitedPartners Common Stock AdditionalPaid inCapital AccumulatedUndistributedNet InvestmentIncome AccumulatedUndistributedNet RealizedGains(Losses) Net UnrealizedAppreciation/(Depreciation)on Investments Total Number ofShares ParValueBALANCE, December 31, 2011 $209 $70,366 — $— $— $7,783 $— $21,177 $99,535 Partners' capital contributions 73 6,992 — — — — — — 7,065 Distribution to partners — — — — — (12,147) (1,590) — (13,737) Net investment income — — — — — 12,924 — — 12,924 Net realized gain frominvestments — — — — — — 1,590 — 1,590 Net change in unrealizedappreciation/(depreciation) onportfolio investments — — — — — — — 35,056 35,056 BALANCE, December 31, 2012 282 77,358 — — — 8,560 — 56,233 142,433 Partners' capital contributions — 24,852 — — — — — — 24,852 Distribution to partners — — — — — (5,186) (2,235) — (7,421) Formation transactions (282) (102,210) 8,974,420 90 114,198 — — — 11,796 Public offering of commonstock — — 4,000,000 40 74,210 — — — 74,250 Net investment income — — — — — 19,484 — — 19,484 Net realized gain frominvestments — — — — — — 2,187 — 2,187 Net change in unrealizedappreciation/(depreciation) onportfolio investments — — — — — — — 7,187 7,187 Distributions — — — — — (6,098) — — (6,098) BALANCE, December 31, 2013 — — 12,974,420 130 188,408 16,760 (48) 63,420 268,670 Net investment income — — — — — 19,966 — — 19,966 Net realized gain frominvestments — — — — — — 832 — 832 Net change in unrealizedappreciation/ (depreciation) onportfolio investments — — — — — — — (24,238) (24,238) Distributions — — — — — (24,393) — — (24,393) Tax reclassification ofstockholders' equity inaccordance with generallyaccepted accountingprinciples — — — — — (19) 19 — — BALANCE, December 31, 2014 $— $— 12,974,420 $130 $188,408 $12,314 $803 $39,182 $240,837 See accompanying notes to consolidated financial statements.F-5 TABLE OF CONTENTSCapitala Finance Corp. Consolidated Statements of Cash Flows(in thousands) For the year ended December 31 2014 2013 2012 (combined)CASH FLOWS FROM OPERATING ACTIVITIES Net increase (decrease) in net assets resulting from operations $(3,440) $28,858 $49,570 Adjustments to reconcile net increase (decrease) in net assets resultingfrom operations to net cash used in operating activities: Purchase of portfolio investments (216,276) (110,929) (56,473) Repayments of portfolio investments 80,197 52,755 23,716 Net realized gain on portfolio investments (832) (2,187) (1,590) Net unrealized appreciation/(depreciation) on portfolioinvestments 24,238 (7,187) (35,056) Payment-in-kind interest and dividends (2,833) (1,408) (1,473) Accretion of original issue discount on portfolio investments (111) (36) (316) Amortization of deferred financing fees 1,072 318 634 Changes in assets and liabilities: Interest and dividend receivable (196) (1,000) (558) Due from related parties 1,127 (151) 142 Prepaid expenses 139 (654) — Other assets (274) — — Due to related parties (513) 324 (224) Management and incentive fee payable (1,998) 2,157 — Interest payable 179 238 647 Accounts payable and accrued expenses 165 80 (357) NET CASH USED IN OPERATING ACTIVITIES (119,356) (38,822) (21,338) CASH FLOWS FROM FINANCING ACTIVITIES Proceeds from issuance of SBA-guaranteed debentures — 25,000 35,000 Partners’ capital contributions — 24,852 7,252 Proceeds from IPO, net of underwriting expense — 74,250 — Repayment of SBA debentures (10,000) — — Issuance of notes 113,438 Distributions paid to general and limited partners — (7,421) (13,779) Distributions paid (24,393) (6,098) — Deferred financing fees paid (6,204) (606) (849) NET CASH PROVIDED BY FINANCING ACTIVITIES 72,841 109,977 27,624 NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (46,515) 71,155 6,286 CASH AND CASH EQUIVALENTS, beginning of year 101,622 30,467 24,181 CASH AND CASH EQUIVALENTS, end of year $55,107 $101,622 $30,467 SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION Cash paid for interest $12,120 $7,828 $6,573 SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING ANDFINANCING TRANSACTIONS In-kind contribution of assets $— $11,796 $— Distribtion payable $— $— $(16) Conversion of debt securities to equity securities $— $— $2,365 Release of restricted cash for partners’ capital contribution $— $— $56 Capital contribution in exchange for waived management fee $— $— $5 See accompanying notes to consolidated financial statements.F-6 TABLE OF CONTENTSCapitala Finance Corp. Consolidated Schedule of Investments(in thousands, except for units)December 31, 2014 Company(4),(5) Industry Type of Investment PrincipalAmount Cost FairValue % ofNetAssetsNon-control/Non-affiliated investments – 98.3% AAE Acquisition, LLC(1) Industrial Equipment Rental Senior Secured Term Debt(12% Cash, Due 3/31/18) $11,000 $10,998 $11,000 4.6% AAE Acquisition, LLC Industrial Equipment Rental Membership Units(14% fully diluted) 17 2,212 0.9% 11,015 13,212 5.5% A Wireless Holding Company Wireless Communication Retailer Subordinated Debt(12% Cash, Due 9/9/19) 12,000 12,000 12,000 5.0% 12,000 12,000 5.0% American Exteriors, LLC(1),(11) Replacement Window Manufacturer Senior Secured Debt(14.0% Cash, Due 6/30/15) 4,357 3,157 4,357 1.8% American Exteriors, LLC(1) Replacement Window Manufacturer Jr. Convertible Note(10.0% Cash, Due 6/30/16) 500 415 500 0.2% American Exteriors, LLC(7) Replacement Window Manufacturer Common Stock Warrants(15% fully diluted) — — 0.0% 3,572 4,857 2.0% Bluestem Brands, Inc. Online Merchandise Retailer Senior Secured Debt (L+7.5%,1% Floor, Due 11/7/20) 5,000 4,804 4,804 2.0% 4,804 4,804 2.0% Boot Barn Holdings, Inc(8) Western Wear Retail Common Stock (600,000 shares) 2,400 10,920 4.5% 2,400 10,920 4.5% Caregiver Services, Inc. In-Home Healthcare Services Common Stock (293,186 shares) 258 193 0.1% Caregiver Services, Inc.(7) In-Home Healthcare Services Common Stock Warrants(655,908 units) 264 431 0.2% 522 624 0.3% Construction Partners, Inc. Construction Services Subordinated Debt (11.5% Cash,Due 6/12/20) 12,500 12,500 12,500 5.2% 12,500 12,500 5.2% Crowley Holdings, Inc.(6) Transportation Series A Income PreferredShares (6,000 shares, 10% Cash,2% PIK dividend) 6,145 6,145 2.6% 6,145 6,145 2.6% CSM Bakery Solutions, LLC Bakery Supplies Distributor Subordinated Debt (L+7.75%,1% Floor, Due 8/7/22) 17,000 16,640 16,297 6.8% 16,640 16,297 6.8% Flavors Holdings, Inc. Food Product Manufacturer Senior Secured Term Debt(L+5.75%, 1% Floor,Due 4/3/20) 7,900 7,594 7,594 3.2% Flavors Holdings, Inc. Food Product Manufacturer Subordinated Debt (L+10.00%,1% Floor, Due 10/3/21) 12,000 11,532 11,532 4.7% 19,126 19,126 7.9% Immersive Media Tactical Solutions,LLC Specialty Defense Contractor Senior Secured Term Debt(13% Cash, Due 10/6/16) 2,000 2,000 1,850 0.8% Immersive Media Tactical Solutions,LLC Specialty Defense Contractor Common Unit Warrants(12% fully diluted) — — 0.0% 2,000 1,850 0.8% Kelle’s Transport Service, LLC Transportation Senior Secured Debt(14% Cash, Due 3/31/19) 15,366 15,351 15,366 6.3% Kelle’s Transport Service, LLC(6) Transportation Preferred Units (1,000 units,10% PIK Dividend) 2,802 2,802 1.2% Kelle’s Transport Service, LLC Transportation Common Stock Warrants(15% fully diluted) 23 2,781 1.2% 18,176 20,949 8.7% See accompanying notes to consolidated financial statements.F-7 TABLE OF CONTENTSCapitala Finance Corp. Consolidated Schedule of Investments – (continued)(in thousands, except for units)December 31, 2014 Company(4),(5) Industry Type of Investment PrincipalAmount Cost FairValue % ofNetAssetsMedical Depot, Inc.(1) Medical Device Distributor Subordinated Debt (14%Cash,Due 9/27/20) $4,667 $4,667 $4,667 1.9% Medical Depot, Inc. Medical Device Distributor Series C Convertible PreferredStock (740 shares) 1,333 5,283 2.2% 6,000 9,950 4.1% Meritas Schools Holdings, LLC Education Services Subordinated Debt (L+9.00%,1% Floor, Due 1/23/21) 3,000 2,986 3,000 1.2% 2,986 3,000 1.2% Merlin International, Inc. IT Government Contracting Subordinated Debt (12.5%Cash,Due 12/16/19) 20,000 20,000 20,000 8.3% 20,000 20,000 8.3% Nielsen & Bainbridge, LLC Home Décor Manufacturer Subordinated Debt (L+9.25%,1% Floor, Due 8/15/21) 15,000 14,785 14,611 6.1% 14,785 14,611 6.1% Precision Manufacturing, LLC(2) Industrial Boiler Manufacturer Subordinated Debt (14%Cash,Due 2/13/15) 200 200 — 0.0% Precision Manufacturing, LLC(2) Industrial Boiler Manufacturer Subordinated Debt (14%Cash,Due 2/28/15) 300 300 — 0.0% Precision Manufacturing, LLC(2) Industrial Boiler Manufacturer Subordinated Debt (13%Cash,Due 2/10/17) 2,850 2,850 — 0.0% Precision Manufacturing, LLC Industrial Boiler Manufacturer Membership Unit Warrants(6.65% fully diluted) — — 0.0% 3,350 — 0.0% Sequoia Healthcare Management, LLC Healthcare Management Senior Secured Term Debt(12% cash, 4% PIK,due 7/17/19) 12,420 12,195 12,420 5.2% 12,195 12,420 5.2% Sierra Hamilton, LLC Oil & Gas Engineering andConsulting Services Senior Secured Debt(12.25% Cash, Due 12/15/18) 15,000 15,000 14,547 6.0% 15,000 14,547 6.0% Southern Pump & Tank Company,LLC(1) Petroleum Equipment Supplier Senior Secured Term Debt(13% Cash, 6% PIK,Due 1/15/15) 4,316 3,495 3,850 1.6% Southern Pump & Tank Company, LLC Petroleum Equipment Supplier Common Stock Warrants(10% fully diluted) — — 0.0% 3,495 3,850 1.6% Stoddard Hill Media Holdings, LLC IT Hosting Services Class D Preferred Units(132,159 shares) 300 480 0.2% 300 480 0.2% Taylor Precision Products, Inc. Household Product Manufacturer Series C Preferred Stock(379 shares) 758 758 0.3% 758 758 0.3% Tenere, Inc.(9) Industrial Manufacturing Senior Secured Term Debt(11% Cash, 2% PIK,Due 12/15/17) 3,510 3,510 3,510 1.5% 3,510 3,510 1.5% TGI Friday’s, Inc. Restaurant Chain Subordinated Debt (L+8.25%,1% Floor, Due 7/15/21) 10,000 9,962 9,738 4.0% 9,962 9,738 4.0% US LBM Holdings, LLC Building Products Senior Secured Debt(L+7.0%,1% Floor, Due 5/2/20) 4,992 4,895 4,895 2.0% 4,895 4,895 2.0% U.S. Well Services, LLC(10) Oil & Gas Services Senior Secured Debt(L+11.50%,0.5% floor, Due 5/2/19) 4,822 4,727 4,761 2.0% 4,727 4,761 2.0% See accompanying notes to consolidated financial statements. F-8 TABLE OF CONTENTSCapitala Finance Corp. Consolidated Schedule of Investments – (continued)(in thousands, except for units)December 31, 2014 Company(4),(5) Industry Type of Investment PrincipalAmount Cost FairValue % ofNetAssetsVelum Global Credit Management,LLC(8) Financial Services Senior Secured Debt(15% Cash, Due 12/31/15) $8,300 $8,300 $8,300 3.4% 8,300 8,300 3.4% Worklife America, Inc. Professional Employer Organization Common Stock Warrants(3.84% ownership) — 2,311 0.9% Worklife America, Inc. Professional Employer Organization Preferred Stock Warrants(3.84% ownership) — 389 0.2% — 2,700 1.1% Sub Total Non-control/Non-affiliated investments $219,163 $236,804 98.3% Affiliate investments – 71.1% Burgaflex Holdings, LLC Automobile Part Manufacturer Senior Subordinated Debt(14% cash, due 8/14/19) $5,000 $5,000 $5,000 2.1% Burgaflex Holdings, LLC Automobile Part Manufacturer Junior Subordinated Debt(12% cash, due 8/14/19) 7,200 7,200 7,200 3.0% Burgaflex Holdings, LLC Automobile Part Manufacturer Common Stock(1,253,198 shares) 1,504 3,646 1.5% 13,704 15,846 6.6% City Gear, LLC Footwear Retail Subordinated Debt(13% Cash, Due 9/28/16) 8,231 8,231 8,213 3.4% City Gear, LLC(6) Footwear Retail Preferred Membership Units(9% cash dividend) 1,269 1,269 0.5% City Gear, LLC Footwear Retail Membership Unit Warrants(14.15% fully diluted) — 6,205 2.6% 9,500 15,687 6.5% Corporate Visions, Inc. Sales & Marketing Services Subordinated Debt (14%Cash,2% PIK, Due 3/22/18) 11,402 11,402 11,402 4.7% Corporate Visions, Inc. Sales & Marketing Services Common Stock(2,216,463 shares) 2,576 10,348 4.3% Corporate Visions, Inc. Sales & Marketing Services Common Stock Warrant(403,257 shares) — 1,882 0.8% 13,978 23,632 9.8% GA Communications, Inc.(6) Advertising & Marketing Services Series A-1 Preferred Stock(1,998 shares, 8% PIKdividend) 2,197 2,559 1.1% GA Communications, Inc. Advertising & Marketing Services Series B-1 Common Stock(200,000 shares) 2 1,660 0.7% 2,199 4,219 1.8% J&J Produce Holdings, Inc. Produce Distribution Subordinated Debt(13% Cash, Due 7/16/18) 5,182 5,182 5,182 2.2% J&J Produce Holdings, Inc. Produce Distribution Common Stock (8,182shares) 818 341 0.1% J&J Produce Holdings, Inc. Produce Distribution Common Stock Warrants(4,506 shares) — 188 0.1% 6,000 5,711 2.4% LJS Partners, LLC QSR Franchisor Common Stock(1,500,000 shares) 1,500 2,506 1.0% 1,500 2,506 1.0% MJC Holdings, LLC Specialty Clothing Series A Preferred Units(2,000,000 units) 2,000 5,723 2.4% 2,000 5,723 2.4% See accompanying notes to consolidated financial statements.F-9 TABLE OF CONTENTSCapitala Finance Corp. Consolidated Schedule of Investments – (continued)(in thousands, except for units)December 31, 2014 Company(4),(5) Industry Type of Investment PrincipalAmount Cost FairValue % ofNetAssetsMMI Holdings, LLC(1) Medical Device Distributor Senior Secured Debt(12% Cash, Due 1/31/17) $2,600 $2,600 $2,600 1.0% MMI Holdings, LLC(1) Medical Device Distributor Subordinated Debt(6% Cash, Due 1/31/17) 400 388 400 0.2% MMI Holdings, LLC(6) Medical Device Distributor Preferred Units (1,000 units,6% PIK dividend) 1,136 1,273 0.5% MMI Holdings, LLC Medical Device Distributor Common Membership Units(45 units) — 126 0.1% 4,124 4,399 1.8% MTI Holdings, LLC Retail Display & Security Services Subordinated Debt(12% Cash, Due 11/1/18) 8,000 8,000 8,000 3.3% MTI Holdings, LLC Retail Display & Security Services Membership Units(2,000,000 units) 2,000 4,958 2.1% 10,000 12,958 5.4% Source Capital ABUTEC, LLC Oil & Gas Services Senior Secured Term Debt(12% Cash, 3% PIK,Due 12/28/17) 5,283 5,283 5,166 2.1% Source Capital ABUTEC, LLC Oil & Gas Services Preferred Membership Units(10.8% fully diluted) 1,240 — 0.0% 6,523 5,166 2.1% Source Capital Penray, LLC Automotive Chemicals & Lubricants Subordinated Debt(13% Cash, Due 2/17/17) 2,500 2,500 2,500 1.1% Source Capital Penray, LLC Automotive Chemicals & Lubricants Common Stock Warrants(6.65% ownership) — 578 0.2% Source Capital Penray, LLC Automotive Chemicals & Lubricants Membership Units(11.3% ownership) 750 813 0.3% 3,250 3,891 1.6% Source Capital SSCR, LLC Personal Product Manufacturer Senior Secured Term Debt(7% Cash, Due 6/12/17) 5,000 5,000 4,751 2.0% Source Capital SSCR, LLC Personal Product Manufacturer Subordinated Debt(7% Cash, Due 9/15/17) 17,125 17,125 11,490 4.7% Source Capital SSCR, LLC Personal Product Manufacturer Preferred Membership Units(15.8% ownership) 1,878 — 0.0% Source Capital SSCR, LLC Personal Product Manufacturer Membership Unit Warrant(0.31% ownership) 10 — 0.0% 24,013 16,241 6.7% Source Recycling, LLC Scrap Metal Recycler Subordinated Debt(13% Cash, Due 9/2/16) 5,000 5,000 4,927 2.0% Source Recycling, LLC Scrap Metal Recycler Membership Units (68,656units) 1,590 — 0.0% Source Recycling, LLC Scrap Metal Recycler Membership Unit Warrants(1% fully diluted) — — 0.0% 6,590 4,927 2.0% Sparus Holdings, Inc.(3) Energy Services Senior Secured Term Debt(12% Cash, 2% PIK,Due 3/21/16) 5,034 5,012 4,050 1.7% Sparus Holdings, Inc.(3) Energy Services Subordinated Debt (9% Cash,5% PIK, Due 3/21/16) 8,108 8,066 6,523 2.7% Sparus Holdings, Inc. Energy Services Series B Preferred Stock(5,703 shares) 1,173 — 0.0% Sparus Holdings, Inc. Energy Services Common Stock Warrants(3,491 shares) — — 0.0% 14,251 10,573 4.4% See accompanying notes to consolidated financial statements.F-10 TABLE OF CONTENTSCapitala Finance Corp. Consolidated Schedule of Investments – (continued)(in thousands, except for units)December 31, 2014 Company(4),(5) Industry Type of Investment PrincipalAmount Cost FairValue % ofNetAssetsSTX Healthcare ManagementServices, Inc.(1) Dental Practice Management Subordinated Debt(12.5% Cash, Due 7/31/18) $6,425 $6,425 $6,425 2.6% STX Healthcare ManagementServices, Inc. Dental Practice Management Common Stock(1,200,000 shares) 1,200 714 0.3% STX Healthcare ManagementServices, Inc. Dental Practice Management Common Stock Warrants(1,154,254 shares) 218 687 0.3% 7,843 7,826 3.2% TCE Holdings, Inc. Oil & Gas Services Subordinated Debt (12%Cash,2% PIK, Due 11/22/18) 12,294 12,294 11,995 5.0% TCE Holdings, Inc. Oil & Gas Services Subordinated Debt (12%Cash,2% PIK, Due 11/22/18) 9,796 9,796 9,516 4.0% TCE Holdings, Inc. Oil & Gas Services Class A Common Stock(3,600 shares) 3,600 2,650 1.1% 25,690 24,161 10.1% V12 Holdings, Inc. Data Processing & DigitalMarketing Senior Secured Term Debt(15% PIK, Due 11/26/16) 406 406 406 0.2% V12 Holdings, Inc.(1) Data Processing & DigitalMarketing Bridge Note (0% Cash,Due 6/30/15) 663 361 663 0.3% V12 Holdings, Inc.(1) Data Processing & DigitalMarketing Tier 2 Note (0% Cash,Due 6/30/15) 81 44 81 0.0% V12 Holdings, Inc.(1) Data Processing & DigitalMarketing Senior Subordinated Note(0% Cash, Due 6/30/15) 3,563 2,369 3,563 1.5% V12 Holdings, Inc.(1) Data Processing & DigitalMarketing Tier 3 Note (0% Cash,Due 6/30/15) 299 207 299 0.1% V12 Holdings, Inc.(1) Data Processing & DigitalMarketing Jr. Subordinated Note(0% Cash, Due 6/30/15) 2,750 — 2,750 1.1% V12 Holdings, Inc.(1) Data Processing & DigitalMarketing Tier 4 Note (0% Cash,Due 6/30/15) 243 — 243 0.1% V12 Holdings, Inc. Data Processing & DigitalMarketing Series A-1 Preferred Stock(255,102 shares) — — 0.0% V12 Holdings, Inc. Data Processing & DigitalMarketing Series A-3 Preferred Stock(88,194 shares) — — 0.0% V12 Holdings, Inc. Data Processing & DigitalMarketing Series A-5 Preferred Stock(20,530 shares) — — 0.0% V12 Holdings, Inc. Data Processing & DigitalMarketing Common Stock Warrants(2,063,629 warrants) — — 0.0% 3,387 8,005 3.3% Sub Total Affiliate investments $154,552 $171,471 71.1% Control investments – 30.0% CableOrganizer Acquisition, LLC Computer Supply Retail Senior Secured Term Debt(12% Cash, 4% PIK,Due 5/24/18) $10,587 $10,587 $10,587 4.4% CableOrganizer Acquisition, LLC Computer Supply Retail Common Stock(1,125,000 shares) 1,125 927 0.4% CableOrganizer Acquisition, LLC Computer Supply Retail Common Stock Warrants(570,000 shares) — 470 0.2% 11,712 11,984 5.0% KBP Investments, LLC(6) QSR Franchisee Class A Preferred Stock(8,270 shares, 10% CashDividend) 8,269 8,269 3.4% KBP Investments, LLC QSR Franchisee Class A Common Stock(380,413 shares) — 9,196 3.9% 8,269 17,465 7.3% See accompanying notes to consolidated financial statements.F-11 TABLE OF CONTENTSCapitala Finance Corp. Consolidated Schedule of Investments – (continued)(in thousands, except for units)December 31, 2014 Company(4),(5) Industry Type of Investment PrincipalAmount Cost FairValue % ofNetAssetsMarket E’s, LLC(1) Online Travel Sales & Marketing Senior Secured Debt(0% Cash, Due 12/31/16) $985 $985 $1,000 0.4% Market E’s, LLC(1) Online Travel Sales & Marketing Subordinated Debt (0% Cash,Due 12/31/16) 2,875 2,875 750 0.3% Market E’s, LLC Online Travel Sales & Marketing Class A Preferred Stock(600 shares) 240 — 0.0% Market E’s, LLC Online Travel Sales & Marketing Class B Preferred Stock(2,411 shares) 965 — 0.0% Market E’s, LLC Online Travel Sales & Marketing Class A Common Stock(600 shares) — — 0.0% 5,065 1,750 0.7% Micro Precision, LLC Conglomerate Subordinated Debt(10% Cash, Due 9/16/16) 1,862 1,862 1,862 0.8% Micro Precision, LLC Conglomerate Subordinated Debt (14% Cash,4% PIK, Due 9/16/16) 3,688 3,688 3,688 1.5% Micro Precision, LLC Conglomerate Series A Preferred Units(47 units) 1,629 1,629 0.7% 7,179 7,179 3.0% Navis Holdings, Inc. Textile Equipment Manufacturer Senior Secured Term Debt(17%, 3% PIK at Company’soption, Due 2/1/16) 6,500 6,500 6,500 2.7% Navis Holdings, Inc.(6) Textile Equipment Manufacturer Class A Preferred Stock(1,000 shares, 10% CashDividend) 1,000 1,000 0.4% Navis Holdings, Inc. Textile Equipment Manufacturer Common Stock (300,000 shares) 1 3,077 1.3% 7,501 10,577 4.4% On-Site Fuel Services, Inc. Fuel Transportation Services Subordinated Debt (14% Cash,4% PIK, Due 12/19/16) 5,048 5,048 4,783 2.0% On-Site Fuel Services, Inc. Fuel Transportation Services Series A Preferred Stock(32,782 shares) 3,278 — 0.0% On-Site Fuel Services, Inc. Fuel Transportation Services Series B Preferred Stock(23,648 shares) 2,365 — 0.0% On-Site Fuel Services, Inc. Fuel Transportation Services Common Stock (33,107 shares) 33 — 0.0% 10,724 4,783 2.0% Print Direction, Inc. Printing Services Senior Secured Term Debt(15% Cash, Due 2/24/19) 14,000 14,000 14,000 5.8% Print Direction, Inc. Printing Services Common Stock (19,363 shares) 2,990 4,141 1.7% Print Direction, Inc. Printing Services Common Stock Warrants(3% fully diluted) — 183 0.1% 16,990 18,324 7.6% Sub Total Control investments $67,440 $72,062 30.0% TOTAL INVESTMENTS – 199.4% $441,155 $480,337 199.4% (1)The maturity date of the original investment has been extended.(2)Non-Accrual Investment.(3)PIK Non-Accrual Investment.(4)All debt investments are income producing according to rate disclosed. Equity and warrant investments are non-incomeproducing, unless otherwise noted.(5)Percentages are based on net assets of $240,837 as of December 31, 2014.(6)The equity investment is income producing, based on rate disclosed.(7)The equity investment has an exercisable put option. See accompanying notes to consolidated financial statements.F-12 TABLE OF CONTENTSCapitala Finance Corp. Consolidated Schedule of Investments – (continued)(in thousands, except for units)December 31, 2014(8)Indicates assets that the Company believes do not represent “qualifying assets” under Section 55(a) of the InvestmentCompany Act of 1940, as amended. Qualifying assets must represent at least 70% of the Company’s total assets at the time ofacquisition of any additional non-qualifying assets.(9)The investment has a $0.6 million unfunded commitment.(10)The investment has a $10.0 million unfunded commitment.(11)The Company is currently paying 17% cash rate due to covenant non-compliance. See accompanying notes to consolidated financial statements.F-13 TABLE OF CONTENTSCapitala Finance Corp. Consolidated Schedule of Investments(in thousands, except for units)December 31, 2013 Company(4),(5) Industry Investment InterestRate/Maturity PrincipalAmount Cost FairValue % ofNetAssetsNon-control/Non-affiliated investments – 36.9% AAE Acquisition, LLC Industrial Equipment Rental Senior Secured Term Debt(12% Cash, Due 5/6/15) $19,000 $18,992 $19,000 7.1% AAE Acquisition, LLC Industrial Equipment Rental Membership Units(21% fully diluted) — 25 3,500 1.3% 19,017 22,500 8.4% American Exteriors, LLC(1) Replacement WindowManufacturer Senior Secured Debt(14.0% Cash, Due 6/30/14) 4,565 3,365 4,565 1.7% American Exteriors, LLC(1) Replacement WindowManufacturer Jr. Convertible Note(10.0% Cash, Due 6/30/15) 500 416 612 0.2% American Exteriors, LLC(8) Replacement WindowManufacturer Common Stock Warrants(15% fully diluted) — — 1,106 0.4% 3,781 6,283 2.3% Boot Barn Holding Corporation Western Wear Retail Common Stock (2,400 shares) — 2,400 4,774 1.8% 2,400 4,774 1.8% Caregiver Services, Inc. In-Home Healthcare Services Common Stock (293,186 shares) — 258 231 0.1% Caregiver Services, Inc.(8) In-Home Healthcare Services Common Stock Warrants(655,908 units) — 264 517 0.2% 522 748 0.3% Crowley Holdings, Inc.(6) Transportation Series A Income PreferredShares(6,000 shares, 10% cash, 2%PIKdividend) — 6,000 6,000 2.2% 6,000 6,000 2.2% Immersive Media Tactical Solutions,LLC Specialty Defense Contractor Senior Secured Term Debt(13% Cash, Due 10/6/16) 2,000 2,000 2,000 0.7% Immersive Media Tactical Solutions,LLC Specialty Defense Contractor Common Unit Warrants(12% fully diluted) — — 800 0.3% 2,000 2,800 1.0% Medical Depot, Inc. Medical Device Distributor Subordinated Debt (14% Cash,Due 10/11/16) 4,667 4,667 4,667 1.7% Medical Depot, Inc. Medical Device Distributor Series C Convertible PreferredStock (740 shares) — 1,333 2,129 0.8% 6,000 6,796 2.5% Naples Lumber & Supply Co(1) Building Supplies Subordinated Debt (6% cash,Due 2/15/14) 2,109 1,309 2,109 0.8% Naples Lumber & Supply Co Building Supplies Common Stock Warrants(10% fully diluted) — — 400 0.1% 1,309 2,509 0.9% Pickaway Plains Ambulance Services,Inc.(1),(2) Medical Transportation Services Senior Secured Term Debt(13% Cash, Due 12/31/15) 1,548 — — 0.0% Pickaway Plains Ambulance Services,Inc. Medical Transportation Services Common Stock Warrants(5% fully diluted) — — — 0.0% — — 0.0% Precision Manufacturing, LLC(2) Industrial Boiler Manufacturer Subordinated Debt (13% Cash,Due 2/10/17) 2,500 2,500 1,536 0.6% Precision Manufacturing, LLC Industrial Boiler Manufacturer Membership Unit Warrants(6.65% ownership) — — — 0.0% 2,500 1,536 0.6% Sierra Hamilton, LLC Oil & Gas Engineering andConsulting Services Senior Secured Debt(12.25% Cash, 12/15/18) 15,000 15,000 15,000 5.6% 15,000 15,000 5.6% See accompanying notes to consolidated financial statements.F-14 TABLE OF CONTENTSCapitala Finance Corp. Consolidated Schedule of Investments – (continued)(in thousands, except for units)December 31, 2013 Company(4),(5) Industry Investment InterestRate/Maturity PrincipalAmount Cost FairValue % ofNetAssetsSouthern Pump & Tank Company,LLC(1) Petroleum Equipment Supplier Senior Secured Term Debt(13% Cash, 6% PIK,Due 6/15/14) $3,633 $3,213 $3,624 1.3% Southern Pump & Tank Company, LLC Petroleum Equipment Supplier Common Stock Warrants(10% fully diluted) — — — 0.0% 3,213 3,624 1.3% Stoddard Hill Media Holdings, LLC IT Hosting Services Class D Preferred Units(132,159 shares) — 300 453 0.2% 300 453 0.2% Tenere, Inc.(9) Industrial Manufacturing Senior Secured Term Debt(11% Cash, 2% PIK,Due 12/17/17) 3,440 3,440 3,440 1.3% 3,440 3,440 1.3% Worklife America, Inc. Professional EmployerOrganization Senior Secured Debt (12%Cash,Due 12/28/16) 18,656 18,656 18,656 7.0% Worklife America, Inc. Professional EmployerOrganization Common Unit Warrants(3.84% ownership) — — 3,441 1.3% Worklife America, Inc. Professional EmployerOrganization Preferred Unit Warrants(3.84% ownership) — — 580 0.2% 18,656 22,677 8.5% Sub Total Non-control/Non-affiliated investments $84,138 $99,140 36.9% Affiliate investments – 70.4% Chef’N Corporation Culinary Products Subordinated Debt (15%,3% PIK at company’soption,Due 5/16/18) $6,300 $6,300 $6,300 2.3% Chef’N Corporation Culinary Products Series A Preferred Stock(1,000,000 shares) — 1,000 4,002 1.5% 7,300 10,302 3.8% City Gear, LLC Footwear Retail Subordinated Debt (13%Cash,Due 9/28/16) 8,231 8,231 8,231 3.1% City Gear, LLC(6) Footwear Retail Preferred Membership Units(2.78% fully diluted, 9%dividend) — 1,269 1,269 0.5% City Gear, LLC Footwear Retail Membership Unit Warrants(11.37% fully diluted) — — 5,307 2.0% 9,500 14,807 5.6% Corporate Visions, Inc. Sales & Marketing Services Subordinated Debt (14%Cash,2% PIK, Due 3/22/18) 11,174 11,174 11,174 4.2% Corporate Visions, Inc. Sales & Marketing Services Common Stock(2,216,463 shares) — 2,576 9,797 3.6% Corporate Visions, Inc. Sales & Marketing Services Common Stock Warrant(403,257 shares) — — 1,782 0.7% 13,750 22,753 8.5% GA Communications, Inc. Advertising & MarketingServices Series A-1 Preferred Stock(1,998 shares) — 1,998 2,370 0.9% GA Communications, Inc. Advertising & MarketingServices Series B-1 Common Stock(200,000 shares) — 2 2,541 0.9% 2,000 4,911 1.8% Impresa Aerospace Holdings, LLC(3) Aerospace Parts Manufacturer Subordinated Debt (4.1%Cash,Due 4/28/16) 13,274 12,258 10,064 3.7% Impresa Aerospace Holdings, LLC Aerospace Parts Manufacturer Class A Membership Units(1,006,621 units) — 900 — 0.0% See accompanying notes to consolidated financial statements.F-15 TABLE OF CONTENTSCapitala Finance Corp. Consolidated Schedule of Investments – (continued)(in thousands, except for units)December 31, 2013 Company(4),(5) Industry Investment InterestRate/Maturity PrincipalAmount Cost FairValue % ofNetAssetsImpresa Aerospace Holdings, LLC Aerospace Parts Manufacturer Class C Membership Units(362,416 units) $— $362 $— 0.0% Impresa Aerospace Holdings, LLC Aerospace Parts Manufacturer Class F Membership Units(604,504 units) — 604 — 0.0% 14,124 10,064 3.7% J&J Produce Holdings, Inc. Produce Distribution Subordinated Debt (13%Cash,Due 7/16/18) 5,182 5,182 5,182 2.0% J&J Produce Holdings, Inc. Produce Distribution Common Stock (8,182Shares) — 818 934 0.3% J&J Produce Holdings, Inc. Produce Distribution Common Stock Warrants(4,506 shares) — — 515 0.2% 6,000 6,631 2.5% LJS Partners, LLC QSR Franchisor Common Stock(1,500,000 shares) — 1,500 14,622 5.4% 1,500 14,622 5.4% MJC Holdings, LLC Specialty Clothing Subordinated Debt (14%,2% PIK at company’s option,Due 1/16/18) 7,500 7,500 7,500 2.8% MJC Holdings, LLC Specialty Clothing Series A Preferred Units(2,000,000 units) — 2,000 5,224 1.9% 9,500 12,724 4.7% MMI Holdings, LLC Medical Device Distributor Senior Secured Debt (12%Cash,Due 10/17/14) 2,600 2,600 2,600 1.1% MMI Holdings, LLC Medical Device Distributor Subordinated Debt (6% Cash,Due 8/15/15) 400 388 400 0.1% MMI Holdings, LLC Medical Device Distributor Preferred Units (1,000 units) — 1,052 1,200 0.4% MMI Holdings, LLC Medical Device Distributor Common Units (45 units) — — 125 0.0% 4,040 4,325 1.6% MTI Holdings, LLC Retail Display & SecurityServices Subordinated Debt (12%Cash,Due 11/1/18) 8,000 8,000 8,000 3.0% MTI Holdings, LLC Retail Display & SecurityServices Capital Units (2,000,000units) — 2,000 2,823 1.1% 10,000 10,823 4.1% Source Capital ABUTEC, LLC Oil & Gas Services Senior Secured Debt (12%Cash, 3% PIK, Due12/28/17) 5,125 5,125 5,125 1.9% Source Capital ABUTEC, LLC Oil & Gas Services Preferred Membership Units(15.5% fully diluted) — 1,240 60 0.0% 6,365 5,185 1.9% Source Capital Penray, LLC Automotive Chemicals &Lubricants Subordinated Debt (13%Cash,Due 2/17/17) 2,500 2,500 2,500 0.9% Source Capital Penray, LLC Automotive Chemicals &Lubricants Membership Units(11.3% fully diluted) — 750 810 0.3% Source Capital Penray, LLC Automotive Chemicals &Lubricants Common Stock Warrants(6.65% fully diluted) — — 576 0.2% 3,250 3,886 1.4% Source Capital SSCR, LLC Personal Product Manufacturer Senior Secured Term Debt(14% Cash, Due 7/6/17) 15,000 15,000 12,115 4.5% Source Capital SSCR, LLC Personal Product Manufacturer Senior Secured Term Debt(14% Cash, 5% PIK,Due 3/28/14) 2,079 2,079 1,958 0.7% Source Capital SSCR, LLC Personal Product Manufacturer Preferred Membership Units(14,718 units) — 1,720 — 0.0% See accompanying notes to consolidated financial statements.F-16 TABLE OF CONTENTSCapitala Finance Corp. Consolidated Schedule of Investments – (continued)(in thousands, except for units)December 31, 2013 Company(4),(5) Industry Investment InterestRate/Maturity PrincipalAmount Cost FairValue % ofNetAssetsSource Capital SSCR, LLC Personal Product Manufacturer Membership Unit Warrants(0.987% fully diluted) $— $— $— 0.0% 18,799 14,073 5.2% Source Recycling, LLC(2) Scrap Metal Recycler Subordinated Debt (13%Cash,Due 9/2/16) 5,000 5,000 3,950 1.5% Source Recycling, LLC Scrap Metal Recycler Membership Units (68,658units) — 1,590 — 0.0% Source Recycling, LLC Scrap Metal Recycler Membership Unit Warrants(1% fully diluted) — — — 0.0% 6,590 3,950 1.5% Sparus Holdings, Inc.(1) Energy Services Subordinated Debt (12%Cash,Due 3/21/16) 7,000 7,000 7,000 2.6% Sparus Holdings, Inc. Energy Services Series B Preferred Stock(5,703 shares) — 1,173 1,479 0.6% Sparus Holdings, Inc. Energy Services Common Stock Warrants(3,491 shares) — — 304 0.1% 8,173 8,783 3.3% STX Healthcare ManagementServices, Inc.(1) Dental Practice Management Subordinated Debt (14%Cash,Due 7/31/15) 7,425 7,425 7,425 2.8% STX Healthcare Management Services,Inc. Dental Practice Management Common Stock(1,200,000 shares) — 1,200 942 0.4% STX Healthcare Management Services,Inc. Dental Practice Management Common Stock Warrants(1,154,254 shares) — 218 906 0.3% 8,843 9,273 3.5% Take 5 Oil Change, Inc. Quick Lube Services Common Stock (10,692shares) — 1,069 1,604 0.6% 1,069 1,604 0.6% TCE Holdings, Inc. Oil & Gas Services Subordinated Debt (12%Cash,2% PIK, Due 11/22/18) 12,088 12,088 12,088 4.5% TCE Holdings, Inc. Oil & Gas Services Subordinated Debt (12%Cash,2% PIK, Due 11/22/18) 9,633 9,633 9,633 3.6% TCE Holdings, Inc. Oil & Gas Services Class A Common Stock(3,600 shares) — 3,600 3,600 1.3% 25,321 25,321 9.4% V12 Holdings(1) Data Processing & DigitalMarketing Bridge Note (0% Cash,Due 12/31/14) 663 361 663 0.3% V12 Holdings(1) Data Processing & DigitalMarketing Tier 2 Note (0% Cash,Due 12/31/14) 81 44 81 0.0% V12 Holdings(1) Data Processing & DigitalMarketing Senior Subordinated Note(0% Cash, Due 12/31/14) 3,563 2,369 3,598 1.3% V12 Holdings(1) Data Processing & DigitalMarketing Tier 3 Note (0% Cash,Due 12/31/14) 299 206 314 0.1% V12 Holdings(1) Data Processing & DigitalMarketing Jr. Subordinated Note (0%Cash,Due 12/31/14) 2,750 — 405 0.2% V12 Holdings(1) Data Processing & DigitalMarketing Tier 4 Note (0% Cash,Due 12/31/14) 243 — — 0.0% V12 Holdings Data Processing & DigitalMarketing Series A-1 Preferred Stock(255,102 shares) — — — 0.0% V12 Holdings Data Processing & DigitalMarketing Series A-3 Preferred Stock(88,194 shares) — — — 0.0% V12 Holdings Data Processing & DigitalMarketing Series A-5 Preferred Stock(20,530 shares) — — — 0.0% V12 Holdings Data Processing & DigitalMarketing Common Stock Warrants(2,063,629 warrants) — — — 0.0% 2,980 5,061 1.9% Sub Total Affiliate investments $159,104 $189,098 70.4% See accompanying notes to consolidated financial statements. F-17 TABLE OF CONTENTSCapitala Finance Corp. Consolidated Schedule of Investments – (continued)(in thousands, except for units)December 31, 2013 Company(4),(5) Industry Investment InterestRate/Maturity PrincipalAmount Cost FairValue % ofNetAssetsControl investments – 28.4% CableOrganizer Acquisition, LLC Computer Supply Retail Senior Secured Debt (12%Cash,4% PIK, Due 5/24/18) $6,585 $6,585 $6,585 2.5% CableOrganizer Acquisition, LLC Computer Supply Retail Common Stock(1,125,000 shares) — 1,125 88 0.0% 7,710 6,673 2.5% KBP Investments, LLC(6),(7) QSR Franchisee Class A Preferred Stock(8,270 shares, 10%Dividend) — 8,269 8,269 3.1% KBP Investments, LLC QSR Franchisee Class A Common Stock(380,413 shares) — — 16,518 6.1% 8,269 24,787 9.2% Market E’s, LLC Online Travel Sales & Marketing Senior Secured Debt (10%Cash,Due 12/31/14) 650 650 650 0.2% Market E’s, LLC(1),(2) Online Travel Sales & Marketing Senior Subordinated Debt(14% Cash, 3% PIK,Due 12/31/14) 3,014 2,832 988 0.4% Market E’s, LLC Online Travel Sales & Marketing Class A Preferred Stock(600 shares) — 240 — 0.0% Market E’s, LLC Online Travel Sales & Marketing Class B Preferred Stock(2,411 shares) — 965 — 0.0% Market E’s, LLC Online Travel Sales & Marketing Class A Common Stock(600 shares) — — — 0.0% 4,687 1,638 0.6% Micro Precision, LLC Conglomerate Subordinated Debt (10%Cash,Due 9/16/16) 1,862 1,862 1,862 0.7% Micro Precision, LLC Conglomerate Subordinated Debt (14%Cash,4% PIK, Due 9/16/16) 3,557 3,557 3,557 1.3% Micro Precision, LLC Conglomerate Common Stock (47 units) — 1,629 2,210 0.8% 7,048 7,629 2.8% Navis Holdings, Inc. Textile Equipment Manufacturer Senior Secured Term Debt(17%, 3% PIK at company’soption, Due 2/1/16) 6,753 6,753 6,753 2.5% Navis Holdings, Inc. Textile Equipment Manufacturer Class A Preferred Stock(1,000 shares) — 1,000 1,200 0.5% Navis Holdings, Inc. Textile Equipment Manufacturer Common Stock (300,000shares) — 1 1,079 0.4% 7,754 9,032 3.4% On-Site Fuel Services, Inc. Fuel Transportation Services Subordinated Debt (14%Cash,4% PIK, Due 12/19/16) 4,848 4,848 4,848 1.8% On-Site Fuel Services, Inc. Fuel Transportation Services Series A Preferred Stock(32,782 shares) — 3,278 2,719 1.0% On-Site Fuel Services, Inc.(6) Fuel Transportation Services Series B Preferred Stock(23,648 shares) — 2,451 2,707 1.0% On-Site Fuel Services, Inc. Fuel Transportation Services Common Stock (33,107shares) — 33 — 0.0% 10,610 10,274 3.8% Print Direction, Inc.(1) Printing Services Subordinated Debt (12%Cash,6% PIK, Due 7/25/2018) 4,424 4,389 4,424 1.6% Print Direction, Inc.(1) Printing Services Subordinated Debt (14%Cash,Due 7/31/18) 4,600 4,600 4,600 1.7% Print Direction, Inc. Printing Services Common Stock (19,363shares) — 2,990 7,110 2.7% Print Direction, Inc. Printing Services Common Stock Warrants(3% fully diluted) — — 314 0.1% 11,979 16,448 6.1% Sub Total Control investments $58,057 $76,481 28.4% TOTAL INVESTMENTS – 135.7% $301,299 $364,719 135.7% See accompanying notes to consolidated financial statements.F-18 TABLE OF CONTENTSCapitala Finance Corp. Consolidated Schedule of Investments – (continued)(in thousands, except for units)December 31, 2013(1)The maturity date of the original investment has been extended.(2)Due to deterioration in credit quality, this investment is on non-accrual status.(3)The debt investment is accruing interest based on the terms of the forebearance agreement.(4)All debt investments are income producing. Equity and warrant investments are non-income producing, unless otherwisenoted.(5)Percentages are based on net assets of $268,670 as of December 31, 2013.(6)The equity investment is income producing, based on cash rate disclosed.(7)During the fourth quarter of 2013, the Company accepted a consent fee that waives its right to dividends through September30, 2014.(8)The equity investment has an exercisable put option.(9)The investment has a $0.6 million unfunded commitment. See accompanying notes to consolidated financial statements.F-19 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 1. OrganizationCapitala Finance Corp. (the “Company”, “we”, “us”, and “our”) is an externally managed non-diversified closed-endmanagement investment company incorporated in Maryland that has elected to be regulated as a business development company(“BDC”) under the Investment Company Act of 1940, as amended (the “1940 Act”). We are an “emerging growth company”within the meaning of the Jumpstart Our Business Startups Act of 2012 (the “JOBS Act”), and as such, are subject to reducedpublic company reporting requirements. We commenced operations on May 24, 2013 and completed our initial public offering(“IPO”) on September 30, 2013. The Company is managed by Capitala Investment Advisors, LLC (the “Investment Advisor”), aninvestment adviser that is registered as an investment adviser under the Investment Advisers Act of 1940, as amended (the“Advisers Act”), and Capitala Advisors Corp. (the “Administrator”) provides the administrative services necessary for us tooperate. For U.S. federal income tax purposes, the Company has elected to be treated, and intends to comply with the requirementsto continue to qualify annually, as a regulated investment company (“RIC”) under Subchapter M of the Internal Revenue Code of1986, as amended (the “Code”).The Company was formed for the purpose of (i) acquiring, through a series of transactions, an investment portfolio from thefollowing entities: CapitalSouth Partners Fund I Limited Partnership (“Fund I”); CapitalSouth Partners Fund II Limited Partnership(“Fund II”); CapitalSouth Partners Fund III, L.P. (“Fund III Parent”); CapitalSouth Partners SBIC Fund III, L.P. (“Fund III”) andCapitalSouth Partners Florida Sidecar Fund I, L.P. (“Florida Sidecar” and, collectively with Fund I, Fund II, Fund III and Fund IIIParent, the “Legacy Funds”); (ii) raising capital in the IPO and (iii) continuing and expanding the business of the Legacy Funds bymaking additional debt and equity investments in lower middle market and middle market companies.The Company’s investment objective is to generate both current income and capital appreciation through debt and equityinvestments. Both directly and through our subsidiaries that are licensed by the U.S. Small Business Administration (“SBA”)under the Small Business Investment Company (“SBIC”) Act, we offer customized financing to business owners, managementteams and financial sponsors for change of ownership transactions, recapitalizations, strategic acquisitions, business expansionand other growth initiatives. We invest primarily in traditional mezzanine, senior subordinated and unitranche debt, as well assenior and second-lien loans and, to a lesser extent, equity securities issued by lower middle market and middle market companies.On September 24, 2013, the Company acquired 100% of the limited partnership interests in Fund II, Fund III and FloridaSidecar and each of their respective general partners, as well as certain assets from Fund I and Fund III Parent, in exchange for anaggregate of 8,974,420 shares of the Company’s common stock (the “Formation Transactions”). Fund II, Fund III and FloridaSidecar became the Company’s wholly-owned subsidiaries. Fund II and Fund III retained their SBIC licenses, continue to holdtheir existing investments and continue to make new investments. The IPO consisted of the sale of 4,000,000 shares of theCompany’s common stock at a price of $20.00 per share resulting in net proceeds to the Company of $74.25 million, afterdeducting underwriting fees and commissions totaling $4.00 million and offering expenses totaling $1.75 million. The other costsof the IPO were borne by the limited partners of the Legacy Funds. As of December 31, 2014, the Company had 12,974,420 sharesof common stock outstanding.Note 2. Summary of Significant Accounting PoliciesBasis of PresentationThe accompanying financial statements have been prepared in conformity with U.S. generally accepted accounting principles(“U.S. GAAP”) and pursuant to the requirements for reporting on Form 10-K and Article 6 of Regulation S-X. The consolidatedfinancial statements of the Company include the accounts of the Company and its wholly-owned subsidiaries as described in theFormation Transactions presented in Note 1. The transactions related to Fund II, Fund III, and Florida Sidecar constitute anexchange of shares between entities under common control and will be accounted for in accordance with Topic 805, BusinessF-20 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 2. Summary of Significant Accounting Policies – (continued)Combinations (“ASC 805”). As such, the Company’s results of operations and cash flows for the year ended December 31, 2013are presented as if the aforementioned transactions had occurred as of January 1, 2013. In addition, the results of the Company’soperations and cash flows for the year ended December 31, 2012 have been presented on a combined basis in order to providecomparative information with respect to prior periods. The Formation Transactions also included an asset acquisition of certainassets in Fund I and Fund III Parent. In accordance with ASC 805, the assets acquired were recorded at fair value at the date ofacquisition, September 24, 2013.The Company’s financial position as of December 31, 2014 is presented on a consolidated basis. The effects of allintercompany transactions between the Company and its subsidiaries (Fund II, Fund III, and the Florida Sidecar) have beeneliminated in consolidation. All financial data and information included in these financial statements have been presented on thebasis described above. In the opinion of management, the financial statements reflect all adjustments that are necessary for the fairpresentation of financial results as of and for the periods presented.The Company is considered an investment company as defined in ASC Topic 946 — Financial Services — InvestmentCompanies. Accordingly, the required disclosures as outlined in the Accounting Standards Update are included in the Company’sfinancial statements.Use of Estimates in the Preparation of Financial StatementsThe preparation of the financial statements in conformity with U.S. GAAP requires management to make estimates andassumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ fromthose estimates under different assumptions and conditions. The most significant estimates in the preparation of the financialstatements are investment valuation, revenue recognition, and income taxes.ConsolidationAs provided under Regulation S-X and ASC Topic 946 — Financial Services — Investment Companies, the Company willgenerally not consolidate its investment in a company other than an investment company subsidiary or a controlled operatingcompany whose business consists of providing services to the Company. Accordingly, the Company consolidated the results ofthe Company’s wholly owned subsidiaries in its consolidated financial statements.SegmentsIn accordance with ASC Topic 280 — (Segment Reporting), the Company has determined that it has a single reportingsegment and operating unit structure.Cash and Cash EquivalentsThe Company considers cash equivalents to be highly liquid investments with original maturities of three months or less at thedate of purchase. The Company deposits its cash in financial institutions and, at times, such balances may be in excess of theFederal Deposit Insurance Corporation (“FDIC”) insurance limits.Investment ClassificationIn accordance with the provisions of the 1940 Act, the Company classifies its investments by level of control. As defined inthe 1940 Act, “Control Investments” are investments in those companies that the Company is deemed to “Control.” “AffiliateInvestments” are investments in those companies that are “Affiliated Companies” of the Company, as defined in the 1940 Act,other than Control Investments. “Non-Control/Non-Affiliate Investments” are those investments that are neither ControlInvestments norF-21 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 2. Summary of Significant Accounting Policies – (continued)Affiliate Investments. Generally under the 1940 Act, the Company is deemed to control a company in which it has invested if theCompany owns more than 25% of the voting securities of such company and/or has greater than 50% representation on its boardor has the power to exercise control over management or policies of such portfolio company. The Company is deemed to be anaffiliate of a company in which the Company has invested if it owns between 5% and 25% of the voting securities of suchcompany.Valuation of InvestmentsThe Company applies fair value accounting to all of its financial instruments in accordance with the 1940 Act and ASC Topic820 — Fair Value Measurements and Disclosures (“ASC 820”). ASC 820 defines fair value, establishes a framework used tomeasure fair value and requires disclosures for fair value measurements. In accordance with ASC 820, the Company hascategorized its financial instruments carried at fair value, based on the priority of the valuation technique, into a three-level fairvalue hierarchy as discussed in Note 4.In determining fair value, our Board of Directors (the “Board”) uses various valuation approaches, and engages a third-partyvaluation firm, which provides an independent valuation of certain investments. In accordance with U.S. GAAP, a fair valuehierarchy for inputs is used in measuring fair value that maximizes the use of observable inputs and minimizes the use ofunobservable inputs by requiring that the most observable inputs be used when available.Observable inputs are those that market participants would use in pricing the asset or liability based on market data obtainedfrom sources independent of the Board. Unobservable inputs reflect the Board’s assumptions about the inputs market participantswould use in pricing the asset or liability developed based upon the best information available in the circumstances.The availability of valuation techniques and observable inputs can vary from security to security and is affected by a widevariety of factors including, the type of security, whether the security is new and not yet established in the marketplace, and othercharacteristics particular to the transaction. To the extent that valuation is based on models or inputs that are less observable orunobservable in the market, the determination of fair value requires more judgment. Those estimated values do not necessarilyrepresent the amounts that may be ultimately realized due to the occurrence of future circumstances that cannot be reasonablydetermined. Because of the inherent uncertainty of valuation, those estimated values may be materially higher or lower than thevalues that would have been used had a market for the securities existed. Accordingly, the degree of judgment exercised by theBoard in determining fair value is greatest for securities categorized in Level 3. In certain cases, the inputs used to measure fairvalue may fall into different levels of the fair value hierarchy. In such cases, for disclosure purposes, the level in the fair valuehierarchy within which the fair value measurement in its entirety falls, is determined based on the lowest level input that issignificant to the fair value measurement.Fair value is a market-based measure considered from the perspective of a market participant rather than an entity-specificmeasure. Therefore, even when market assumptions are not readily available, the Company’s own assumptions are set to reflectthose that market participants would use in pricing the asset or liability at the measurement date. We use prices and inputs that arecurrent as of the measurement date, including periods of market dislocation. In periods of market dislocation, the observability ofprices and inputs may be reduced for many securities. This condition could cause a security to be reclassified to a lower levelwithin the fair value hierarchy.F-22 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 2. Summary of Significant Accounting Policies – (continued)In estimating fair value of portfolio investments, the Company starts with the cost basis of the investment, which includesamortized original issue discount and payment-in-kind income, if any. The transaction price is typically the best estimate of fairvalue at inception. When evidence supports a subsequent change to the carrying value from the original transaction price,adjustments are made to reflect the expected fair values.The following valuation methodologies are utilized by the Company in estimating fair value and are summarized as follows:Enterprise Value Waterfall ApproachThe enterprise value waterfall approach determines an enterprise value based on earnings before interest, tax, depreciation andamortization (“EBITDA”) multiples of publicly traded companies that are considered similar to the subject portfolio company.The Company considers a variety of items in determining a reasonable pricing multiple, including, but not limited to, operatingresults, budgeted projections, growth, size, risk, profitability, leverage, management depth, diversification, market position,supplier or customer dependence, asset utilization, liquidity metrics, and access to capital markets. EBITDA of the portfoliocompany is adjusted for non-recurring items in order to reflect a normalized level of earnings that is representative of futureearnings. In certain instances, the Company may also utilize revenue multiples to determine enterprise value. When available, theCompany may assign a pricing multiple or value its equity investments based on the value of recent investment transactions in thesubject portfolio company or offers to purchase the portfolio company. The enterprise value is adjusted for financial instrumentswith seniority to the Company’s ownership and for the effect of any instrument which may dilute the Company’s investment in theportfolio company. The adjusted enterprise value is then apportioned based on the seniority and privileges of the Company’sinvestments within the portfolio company.The enterprise value waterfall approach is primarily utilized to value the Company’s equity securities, including warrants.However, the Company may utilize the enterprise value waterfall approach to value certain debt securities in cases where theCompany does not expect full repayment of the outstanding principal.Income ApproachThe income approach utilizes a discounted cash flow methodology in which the Company estimates fair value based on thepresent value of a stream of expected cash flows discounted at a market rate of interest. The determination of a discount rate, orrequired rate of return, takes into account the portfolio company’s fundamentals and perceived credit risk. Because the majority ofthe Company’s portfolio companies do not have a public credit rating, determining a discount rate often involves assigning animplied credit rating based on the portfolio company’s operating metrics compared to average metrics of similar publicly rateddebt. Operating metrics include, but are not limited to, EBITDA, interest coverage, leverage ratio, return on capital, and debt toequity ratios. The implied credit rating is used to assign a base discount rate range based on publicly available yields on similarlyrated debt securities. The Company may apply a premium to the discount rate utilized in determining fair value when performancemetrics and other qualitative information indicate that there is an additional level of uncertainty about collectability of cashflows.Asset ApproachThe asset approach values an investment based on the greater of the enterprise value or the underlying collateral securing theinvestment. See discussion of determining enterprise value above. This approach is used when the debt is not performing inaccordance with its contractual terms or when the Company has reason to believe that it will not collect all principal and interestin accordance with the contractual terms of the debt agreement.F-23 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 2. Summary of Significant Accounting Policies – (continued)Revenue RecognitionThe Company’s revenue recognition policies are as follows:Interest income and paid-in-kind interest: Interest income is recorded on the accrual basis to the extent that such amounts areexpected to be collected. The Company has loans in the portfolio that contain a payment-in-kind (“PIK”) provision. The PIKinterest, which represents contractually deferred interest added to the loan balance that is generally due at maturity, is recorded onthe accrual basis to the extent that such amounts are expected to be collected. PIK interest is not accrued if the Company does notexpect the issuer to be able to pay all principal and interest when due.Non-accrual income: Generally, when interest and/or principal payments on a loan become 90 days or more past due, or if theCompany otherwise does not expect the borrower to be able to service its debt and other obligations, the Company will place theloan on non-accrual status, and will generally cease recognizing interest income and PIK on that loan for financial reportingpurposes. Interest payments received on non-accrual loans may be recognized as income or applied to principal depending uponmanagement’s judgment. The Company writes off any previously accrued and uncollected cash interest when it is determined thatinterest is no longer considered collectible. The company may elect to cease accruing PIK and continue accruing interest incomein cases where a loan is currently paying its interest income but, in management’s judgment, there is a reasonable likelihood ofprincipal loss on the loan. Non-accrual loans are returned to accrual status when the borrower’s financial condition improves suchthat management believes current interest and principal payments are expected to be collected.Gains and losses on investment sales and paydowns: Realized gains and losses on investments are recognized using thespecific identification method.Dividend income and paid-in-kind dividends: Dividend income is recognized on the date dividends are declared. Dividendincome may be reversed in the event that a previously declared dividend is no longer expected to be paid by the portfoliocompany. The Company holds preferred equity investments in the portfolio that contain a payment-in-kind dividend (“PIKdividends”) provision. PIK dividends, which represent contractually deferred dividends added to the equity balance, are recordedon the accrual basis to the extent that such amounts are expected to be collected. The Company will typically cease accrual of PIKdividends when the fair value of the equity investment is less than the cost basis of the investment or when it is otherwisedetermined by management that collection of PIK dividends are unlikely to be collected. If management determines that a declinein fair value is temporary in nature and the PIK dividends are more likely than not to be collected, management may elect tocontinue accruing PIK dividends.Original issue discount/premiums: Discounts/premiums received to par on loans purchased are capitalized and accreted oramortized into income over the life of the loan. Any remaining discount/premium is accreted or amortized into income uponprepayment of the loan.Other income: Origination, amendment, consent, closing and/or commitment fees associated with investments in portfoliocompanies are recognized as income when the investment transaction closes. Prepayment penalties received by the Company fordebt instruments repaid prior to maturity date are recorded as income upon receipt.General and Administrative ExpensesGeneral and administrative expenses are accrued as incurred. The Company’s administrative expenses include personnel andoverhead expenses allocable to the Company under the Administration Agreement and are disclosed in the statement ofoperations under the header “administrative expenses”. Other operating expenses such as legal and audit fees, director fees,director and officer insurance, and other expenses are disclosed in the statement of operations under the header “other operatingexpenses.”F-24 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 2. Summary of Significant Accounting Policies – (continued)Deferred Financing FeesCosts incurred to issue the Company’s debt obligations are capitalized and are amortized over the term of the debt agreementsunder the effective interest method.Commitments and ContingenciesAs of December 31, 2014 and December 31, 2013, the Company had outstanding unfunded commitments of $10.6 million and$0.6 million, respectively. The Company’s unfunded commitments are all related to debt agreements with existing portfoliocompanies.In the ordinary course of its business, the Company may enter into contracts or agreements that contain indemnifications orwarranties. Future events could occur that lead to the execution of these provisions against the Company. Based on its history andexperience, management believes that the likelihood of such an event is remote.In the ordinary course of business, the Company may directly or indirectly be a defendant or plaintiff in legal actions withrespect to bankruptcy, insolvency or other types of proceedings. Such lawsuits may involve claims that could adversely affect thevalue of certain financial instruments owned by the Company. As of December 31, 2014, resolution of any outstanding claims isnot expected to materially affect the Company’s business, financial position, results of operation, or liquidity.Income TaxesThe Company has elected to be treated for U.S. federal income tax purposes, and intends to comply with the requirement toqualify annually thereafter, as a RIC under Subchapter M of the Code and, among other things, intends to make the requisitedistributions to its stockholders which will relieve the Company from U.S. federal income taxes. Therefore, no provision has beenrecorded for U.S. federal income taxes.In order to qualify as a RIC, among other requirements, the Company is required to timely distribute to its stockholders at least90.0% of its investment company taxable income, as defined by the Code, for each fiscal tax year. The Company will be subject toa nondeductible U.S. federal excise tax of 4.0% on undistributed income if it does not distribute at least 98.0% of its ordinaryincome in any calendar year and 98.2% of its capital gain net income for each one-year period ending on October 31. For the one-year period ended on October 31, 2014, the Company did not generate a net capital gain.Depending on the level of taxable income earned in an excise tax year, the Company may choose to carry forward taxableincome in excess of current year dividend distributions into the next excise tax year and pay a 4.0% excise tax on such income, asrequired. To the extent that the Company determines that its estimated current year annual taxable income will be in excess ofestimated current year dividend distributions for excise tax purposes, the Company accrues excise tax, if any, on estimated excesstaxable income as taxable income is earned.In accordance with certain applicable Treasury regulations and private letter rulings issued by the Internal Revenue Service, aRIC may treat a distribution of its own stock as fulfilling its RIC distribution requirements if each stockholder may elect to receivehis or her entire distribution in either cash or stock of the RIC subject to a limitation on the aggregate amount of cash to bedistributed to all stockholders, which limitation must be at least 20.0% of the aggregate declared distribution. If too manystockholders elect to receive cash, each stockholder electing to receive cash will receive a pro rata amount of cash (with thebalance of the distribution paid in stock). In no event will any stockholder, electing to receive cash, receive less than 20.0% of hisor her entire distribution in cash. If these and certain other requirements are met, for U.S federal income tax purposes, the amountof the dividend paid in stock will be equal to the amount of cash that could have been received instead of stock.F-25 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 2. Summary of Significant Accounting Policies – (continued)For income tax purposes, the Company has paid distributions on its common stock from ordinary income in the amount of$18.3 million during the tax year ended August 31, 2014.ASC 740 — Income Taxes, (“ASC 740”), provides guidance for how uncertain tax positions should be recognized, measured,presented and disclosed in the financial statements. ASC 740 requires the evaluation of tax positions taken or expected to betaken in the course of preparing the Company’s tax returns to determine whether the tax positions are “more-likely-than-not” ofbeing sustained by the applicable tax authority. Tax positions deemed to meet a “more-likely-than-not” threshold would berecorded as a tax benefit or expense in the current period. The Company recognizes interest and penalties, if any, related tounrecognized tax benefits as income tax expense in the consolidated statements of operations. As of December 31, 2014 andDecember 31, 2013, there were no uncertain tax positions.The Company is required to determine whether a tax position of the Company is more likely-than-not to be sustained uponexamination by the applicable taxing authority, including resolution of any related appeals or litigation processes, based on thetechnical merits of the position. The tax benefit to be recognized is measured as the largest amount of benefit that is greater thanfifty percent likely of being realized upon ultimate settlement. De-recognition of a tax benefit previously recognized could resultin the Company recording a tax liability that could have negatively impact the Company’s net assets.U.S. GAAP provides guidance on thresholds, measurement, de-recognition, classification, interest and penalties, accounting ininterim periods, disclosure, and transition that is intended to provide better financial statement comparability among differententities.The Company’s activities since commencement of operations remain subject to examination by U.S. federal, state, and localtax authorities. No interest expense or penalties have been assessed as of December 31, 2014 and 2013. If the Company wererequired to recognize interest and penalties, if any, related to unrecognized tax benefits this would be recognized as income taxexpense in the consolidated statement of operations.DividendsDividends to common stockholders are recorded on the ex-dividend date. The amount to be paid out as a dividend isdetermined by the Board. Net capital gains, if any, are generally distributed at least annually, although we may decide to retainsuch capital gains for reinvestment.We have adopted an “opt out” dividend reinvestment plan for our common stockholders. As a result, if we declare a cashdividend or other distribution, each stockholder that has not “opted out” of our dividend reinvestment plan will have itsdividends automatically reinvested in additional shares of our common stock rather than receiving cash dividends. Stockholderswho receive distributions in the form of shares of common stock will be subject to the same federal, state and local taxconsequences as if they received cash distributions.Company Investment Risk, Concentration of Credit Risk, and Liquidity RiskThe Investment Advisor has broad discretion in making investments for the Company. Investments will generally consist ofdebt and equity instruments that may be affected by business, financial market or legal uncertainties. Prices of investments may bevolatile, and a variety of factors that are inherently difficult to predict, such as domestic or international economic and politicaldevelopments, may significantly affect the results of the Company’s activities and the value of its investments. In addition, thevalue of the Company’s portfolio may fluctuate as the general level of interest rates fluctuate.The value of the Company’s investments in loans may be detrimentally affected to the extent, among other things, that aborrower defaults on its obligations, there is insufficient collateral and/or there are extensive legal and other costs incurred incollecting on a defaulted loan, observable secondary or primaryF-26 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 2. Summary of Significant Accounting Policies – (continued)market yields for similar instruments issued by comparable companies increase materially or risk premiums required in the marketbetween smaller companies, such as our borrowers, and those for which market yields are observable increase materially.The Investment Advisor may attempt to minimize this risk by maintaining low loan-to-liquidation values with each loan andthe collateral underlying the loan.The Company’s assets may, at any time, include securities and other financial instruments or obligations that are illiquid orthinly traded, making purchase or sale of such securities and financial instruments at desired prices or in desired quantitiesdifficult. Furthermore, the sale of any such investments may be possible only at substantial discounts, and it may be extremelydifficult to value any such investments accurately.Note 3. Recent Accounting PronouncementsIn June 2013, the FASB issued ASU No. 2013-08, “Financial Services — Investment Companies (Topic 946), Amendments tothe Scope, Measurement, and Disclosure Requirements.” The amendments in this accounting standards update affect the scope,measurement, and disclosure requirements for investment companies under U.S. GAAP, and clarify the characteristics of aninvestment company, provide comprehensive guidance for assessing whether an entity is an investment company, require that aninvestment company measure non-controlling ownership interests in other investment companies at fair value rather than usingthe equity method of accounting, and require additional disclosures. This standard is effective for interim and annual reportingperiods in fiscal years that begin after December 15, 2013. The Company has adopted this standard and the required disclosuresare presented in the consolidated financial statements.Note 4. Investments and Fair Value MeasurementsThe Company’s investment objective is to generate both current income and capital appreciation through debt and equityinvestments. Both directly and through our subsidiaries that are licensed by the SBA under the SBIC Act, we offer customizedfinancing to business owners, management teams and financial sponsors for change of ownership transactions, recapitalizations,strategic acquisitions, business expansion and other growth initiatives. We invest primarily in traditional mezzanine, seniorsubordinated and unitranche debt, as well as senior and second-lien loans and, to a lesser extent, equity securities issued by lowermiddle market and middle market companies. As of December 31, 2014, our portfolio consisted of investments in 52 portfoliocompanies with a fair value of approximately $480.3 million.During the year ended December 31, 2014, the Company made approximately $216.3 million of investments in new orexisting portfolio companies and had approximately $80.2 million in exits and repayments resulting in net investments ofapproximately $136.1 million for the year. During the year ended December 31, 2013, the Company made approximately $110.9million of investments in new or existing portfolio companies and had approximately $52.7 million in exits and repaymentsresulting in net investments of approximately $58.2 million for the year.During the year ended December 31, 2014, all new investments were made to portfolio companies in which the Company wasnot previously contractually obligated to provide financial support. In addition to investing directly in portfolio companies, theCompany may assist portfolio companies in securing financing from other sources by introducing portfolio companies to sponsorsor by leading a syndicate of investors to provide the portfolio companies with financing. During the year ended December 31,2014, the Company did not lead any syndicates. During the year ended December 31, 2014, the Company helped Print Direction,Inc. obtain a $3.5 million senior revolving credit facility.F-27 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 4. Investments and Fair Value Measurements – (continued)The composition of our investments as of December 31, 2014, at amortized cost and fair value were as follows (dollars inthousands): Investments atAmortized Cost Amortized CostPercentage of TotalPortfolio Investmentsat FairValue Fair ValuePercentage ofTotal PortfolioSenior Secured Debt $146,399 33.2% $146,314 30.5% Subordinated Debt 231,901 52.6 222,300 46.3 Equity and Warrants 62,855 14.2 111,723 23.2 Total $441,155 100.0% $480,337 100.0% The composition of our investments as of December 31, 2013, at amortized cost and fair value were as follows (dollars inthousands): Investments atAmortized Cost Amortized CostPercentage of TotalPortfolio Investmentsat FairValue Fair ValuePercentage ofTotal PortfolioSenior Secured Debt $103,457 34.3% $102,071 28.0% Subordinated Debt 136,638 45.4 133,710 36.7 Equity and Warrants 61,204 20.3 128,938 35.3 Total $301,299 100.0% $364,719 100.0% As noted above, the Company values all investments in accordance with ASC 820. ASC 820 requires enhanced disclosuresabout assets and liabilities that are measured and reported at fair value. As defined in ASC 820, fair value is the price that would bereceived to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurementdate.ASC 820 establishes a hierarchal disclosure framework which prioritizes and ranks the level of market price observability ofinputs used in measuring investments at fair value. Market price observability is affected by a number of factors, including thetype of investment and the characteristics specific to the investment. Investments with readily available active quoted prices or forwhich fair value can be measured from actively quoted prices generally will have a higher degree of market price observabilityand a lesser degree of judgment used in measuring fair value.Based on the observability of the inputs used in the valuation techniques, the Company is required to provide disclosures onfair value measurements according to the fair value hierarchy. The fair value hierarchy ranks the observability of the inputs used todetermine fair values. Investments carried at fair value are classified and disclosed in one of the following three categories:•Level 1 — Valuations based on quoted prices in active markets for identical assets or liabilities that the Company has theability to access.•Level 2 — Valuations based on inputs other than quoted prices in active markets, which are either directly or indirectlyobservable.•Level 3 — Valuations based on inputs that are unobservable and significant to the overall fair value measurement.In addition to using the above inputs in investment valuations, the Company continues to employ the valuation policyapproved by the Board that is consistent with ASC 820 (See Note 2). Consistent with our Company’s valuation policy, weevaluate the source of inputs, including any markets in which our investments are trading, in determining fair value.F-28 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 4. Investments and Fair Value Measurements – (continued)In estimating fair value of portfolio investments, the Company starts with the cost basis of the investment, which includesamortized original issue discount and payment-in-kind income, if any. The transaction price is typically the best estimate of fairvalue at inception. When evidence supports a subsequent change to the carrying value from the original transaction price,adjustments are made to reflect the expected fair values.The following table presents fair value measurements of investments, by major class, as of December 31, 2014 (dollars inthousands), according to the fair value hierarchy: Fair Value Measurements Level 1 Level 2 Level 3 TotalSenior Secured Debt $— $— $146,314 $146,314 Subordinated Debt — — 222,300 222,300 Equity and Warrants 10,920 — 100,803 111,723 Total $10,920 $— $469,417 $480,337 The following table presents fair value measurements of investments, by major class, as of December 31, 2013 (dollars inthousands), according to the fair value hierarchy: Fair Value Measurements Level 1 Level 2 Level 3 TotalSenior Secured Debt $— $— $102,071 $102,071 Subordinated Debt — — 133,710 133,710 Equity and Warrants — — 128,938 128,938 Total $— $— $364,719 $364,719 The following table provides a reconciliation of the beginning and ending balances for investments that use Level 3 inputs forthe year ended December 31, 2014 (dollars in thousands): SeniorSecuredDebt SubordinatedDebt Equityand Warrants TotalBalance as of January 1, 2014 $102,071 $133,710 $128,938 $364,719 Change in classification due to restructure (14,073) 14,073 — — Repayments (37,301) (33,018) (9,878) (80,197) Purchases 96,145 114,483 5,648 216,276 Payment in-kind interest and dividends accrued 1,107 1,093 633 2,833 Accretion of original issue discount 70 41 — 111 Gain/(loss) on sale — (4,415) 5,247 832 Transfers out of level 3 — — (4,774) (4,774) Net unrealized depreciation (1,705) (3,667) (25,012) (30,384) Balance as of December 31, 2014 $146,314 $222,300 $100,803 $469,417 Boot Barn Holdings, Inc. completed its initial public offering on October 30, 2014. In exchange for our original equityinvestment, we received 600,000 shares of Boot Barn Holdings, Inc. publicly-traded common stock, subject to a 180 day lock-upperiod. Because our investment is now traded in an active market, the Company has reclassified our investment in Boot BarnHoldings, Inc. from Level 3 to Level 1 of the fair value hierarchy. Transfers between levels, if any, are recognized at the beginningof the period in which transfers occur. The increase in unrealized appreciation for Boot Barn Holdings, Inc. for the year endedDecember 31, 2014 was $6.1 million.F-29 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 4. Investments and Fair Value Measurements – (continued)The following table provides a reconciliation of the beginning and ending balances for investments that use Level 3 inputs forthe year ended December 31, 2013 (dollars in thousands): SeniorSecuredDebt SubordinatedDebt Equityand Warrants TotalBalance as of January 1, 2013 $73,861 $101,659 $108,411 $283,931 Change in classification due to restructure (1,239) 1,196 43 — Repayments (13,325) (32,097) (7,333) (52,755) Purchases 42,485 54,059 14,385 110,929 Purchases related to asset acquisition 2,328 6,041 3,427 11,796 Payment in-kind interest and dividends accrued 473 935 — 1,408 Accretion of original issue discount 5 31 — 36 Gain/(loss) on sale — (2,555) 4,742 2,187 Net unrealized appreciation (depreciation) (2,517) 4,441 5,263 7,187 Balance as of December 31, 2013 $102,071 $133,710 $128,938 $364,719 The net change in unrealized appreciation/(depreciation) on investments held as of December 31, 2014 and 2013, was $(23.5)million and $8.8 million, respectively, and is included in net unrealized appreciation on investments in the consolidatedstatements of operations.The valuation techniques and significant unobservable inputs used in recurring Level 3 fair value measurements of assets as ofDecember 31, 2014 were as follows: Fair Value Valuation Approach Level 3 Input Range of Inputs WeightedAverageSubordinated debt and secondlien notes $195.0 million Income Required Rate of ReturnLeverage RatioAdjusted EBITDA 10.0% – 20.0%0.8x – 8.0x$2.1 million – $204.1 million 12.9%3.8x$44.6 million Subordinated debt and secondlien notes $27.3 million Enterprise ValueWaterfall andAsset(1) Adjusted EBITDAMultipleAdjusted EBITDARevenue MultipleRevenue 3.3x – 5.5x $1.6 million – $2.0 million0.4x – 2.5x$17.2 million – $39.7 million 4.3x $1.8 million1.5x$27.6 million Senior debt and first lien notes $127.8 million Income Required Rate of ReturnLeverage RatioAdjusted EBITDA 6.8% – 33.3%1.1x – 6.2x$1.0 million – $95.4 million 14.3%3.7x$22.0 million Senior debt and first lien notes $18.5 million Enterprise ValueWaterfall andAsset(1) Revenue MultipleRevenue 0.4x – 2.5x$17.2 million – $39.7 million 0.5x$37.7 million Equity shares and warrants $100.8 million Enterprise ValueWaterfall Adjusted EBITDAMultipleAdjusted EBITDA 5.0x – 10.5x $1.6 million – $215.3 million 7.0x $26.3 million Transaction Price n/a n/a (1)$12.2 million in subordinated notes and $14.1 million in senior notes were valued using the asset approach.F-30 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 4. Investments and Fair Value Measurements – (continued)The valuation techniques and significant unobservable inputs used in recurring level 3 fair value measurement of assets as ofDecember 31, 2013 were as follows: Fair Value Valuation Approach Level 3 Input Range of Inputs WeightedAverageSubordinated debt and secondlien notes $111.7 million Income Required Rate of ReturnLeverage RatioAdjusted EBITDA 7.0% – 18.0%1.2x – 4.6x$2.3 million – $25.8 million 14.1%3.1x$11.2 million Subordinated debt and secondlien notes $22.0 million Enterprise ValueWaterfall andAsset(1) Adjusted EBITDAMultipleAdjusted EBITDA 4.3x – 11.5x $1.3 million – $2.2 million 9.5x $2.0 million Senior debt and first lien notes $102.1 million Income and Asset(1) Required Rate of ReturnLeverage RatioAdjusted EBITDA 10.0% – 24.5%1.2x – 9.9x$0.6 million – $29.7 million 15.2%3.8x$11.2 million Equity shares and warrants $128.9 million Enterprise ValueWaterfall Adjusted EBITDAMultipleAdjusted EBITDA 1.6x – 9.5x $1.4 million – $229.0 million 7.1x $23.8 million Transaction Price n/a n/a (1)$15.0 million in subordinated notes and $3.6 million in senior notes were valued using the asset approach.The significant unobservable inputs used in the valuation of the Company’s debt and equity investments are required rate ofreturn, adjusted EBITDA, EBITDA multiples, revenue, revenue multiples, leverage ratio, and transaction prices. Changes in any ofthese unobservable inputs could have a significant impact on the Company’s estimate of fair value. An increase (decrease) inrequired rate of return or leverage will result in a lower (higher) estimate of fair value while an increase (decrease) in adjustedEBITDA, EBITDA multiples, revenue, revenue multiples, or transaction prices will result in a higher (lower) estimate of fair value.Financial Instruments Disclosed, But Not Carried, At Fair ValueThe following table presents the carrying value and fair value of the Company’s financial liabilities disclosed, but not carried,at fair value as of December 31, 2014, and the level of each financial liability within the fair value hierarchy: CarryingValue Fair Value Level 1 Level 2 Level 3SBA debentures $192,200 $191,947 $— $— $191,947 Notes 113,438 115,479 115,479 — — Total $305,638 $307,426 $115,479 $— $191,947 The following table presents the carrying value and fair value of the Company’s financial liabilities disclosed, but not carried,at fair value as of December 31, 2013, and the level of each financial liability within the fair value hierarchy: CarryingValue Fair Value Level 1 Level 2 Level 3SBA debentures $202,200 $200,668 $— $— $200,668 Total $202,200 $200,668 $— $— $200,668 The estimated fair value of the Company’s SBA debentures was based on future contractual cash payments discounted atmarket interest rates to borrow from the SBA as of the measurement date.F-31 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 4. Investments and Fair Value Measurements – (continued)In June 2014, the Company issued $113.4 million in aggregate principal amount of 7.125% fixed-rate notes due 2021 (the“Notes”). The estimated fair value of the Notes was based on the December 31, 2014 closing price as the Notes are traded on theNew York Stock Exchange under the ticker “CLA.”Transactions With Affiliated CompaniesDuring the year ended December 31, 2014, the Company had investments in portfolio companies designated as affiliates underthe 1940 Act. Transactions with affiliates were as follows: PortfolioCompany(4) Type of Investment Amount ofInterest, Feesor DividendsCredited toIncome(1) December 31,2013 Value GrossAdditions(2) GrossReductions(3) RealizedGain/(Loss) December 31,2014 ValueControl investments: Best In Class Class A Preferred Units (89 units) $— $— $— $(55) $55 $— — — — (55) 55 — CableOrganizerAcquisition,LLC Senior Secured Term Debt (12% Cash,4% PIK) 1,206 6,585 4,238 (236) — 10,587 CableOrganizerAcquisition,LLC Common Stock (1,125,000 shares) — 88 839 — — 927 CableOrganizerAcquisition,LLC Common Stock Warrants (570,000shares) — — 470 — — 470 1,206 6,673 5,547 (236) — 11,984 KBP Investments,LLC(5) Class A Preferred Stock (8,270 shares,10% Cash Dividend) 207 8,269 — — — 8,269 KBP Investments,LLC Class A Common Stock (380,413shares) — 16,518 — (7,322) — 9,196 207 24,787 — (7,322) — 17,465 Market E, Inc. Senior Secured Debt (0% Cash) (8) 650 350 — — 1,000 Market E, Inc. Subordinated Debt (0% Cash) — 988 — (238) — 750 Market E, Inc. Class A Preferred Stock (600 shares) — — — — — — Market E, Inc. Class B Preferred Stock (2,411 shares) — — — — — — Market E, Inc. Class A Common Stock (600 shares) — — — — — — (8) 1,638 350 (238) — 1,750 Micro Precision,LLC Subordinated Debt (10% Cash) 186 1,862 — — — 1,862 Micro Precision,LLC Subordinated Debt (14% Cash, 4% PIK) 456 3,557 131 — — 3,688 Micro Precision,LLC Series A Preferred Units (47 units) — 2,210 — (581) — 1,629 642 7,629 131 (581) — 7,179 Navis Holdings,Inc. Senior Secured Term Debt (17%,3% PIK at Company’s option) 1,151 6,753 — (253) — 6,500 Navis Holdings,Inc.(5) Class A Preferred Stock (1,000 shares,10% Cash Dividend) 1,275 1,200 — (200) — 1,000 Navis Holdings,Inc. Common Stock (300,000 shares) — 1,079 1,998 — — 3,077 2,426 9,032 1,998 (453) — 10,577 On-Site FuelServices, Inc. Subordinated Debt (14% Cash, 4% PIK) 701 4,848 200 (265) — 4,783 On-Site FuelServices, Inc. Series A Preferred Stock (32,782 shares) — 2,719 — (2,719) — — On-Site FuelServices, Inc. Series B Preferred Stock (23,648 shares) (86) 2,707 — (2,707) — — On-Site FuelServices, Inc. Common Stock (33,107 shares) — — — — — 615 10,274 200 (5,691) — 4,783 F-32 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 4. Investments and Fair Value Measurements – (continued) PortfolioCompany(4) Type of Investment Amount ofInterest, Feesor DividendsCredited toIncome(1) December 31,2013 Value GrossAdditions(2) GrossReductions(3) RealizedGain/(Loss) December 31,2014 ValuePrint Direction, Inc. Subordinated Debt (12% Cash, 6% PIK) 107 4,424 51 (4,475) — — Print Direction, Inc. Subordinated Debt (14% Cash) 90 4,600 — (4,600) — — Print Direction, Inc. Senior Secured Term Debt (15% Cash) 1,914 — 14,000 — — 14,000 Print Direction, Inc. Common Stock (19,363 shares) 3,570 7,110 — (2,969) — 4,141 Print Direction, Inc. Common Stock Warrants (3% fullydiluted) — 314 — (131) — 183 5,681 16,448 14,051 (12,175) — 18,324 Southern Parts andEngineering Equity — — — (56) 56 — — — — (56) 56 — Total Control investments $10,769 $76,481 $22,277 $(26,807) $111 $72,062 Affiliate investments: Burgaflex Holdings,LLC Common Stock (1,253,198 shares) $349 $— $4,246 $(621) $21 $3,646 Burgaflex Holdings,LLC Junior Subordinated Debt (12% cash) 589 — 7,225 (25) — 7,200 Burgaflex Holdings,LLC Senior Subordinated Debt (14% cash) 456 — 5,000 5,000 1,394 — 16,471 (646) 21 15,846 Chef’N Corporation Subordinated Debt (15%, 3% PIKat company’s option) 858 6,300 — (6,300) — — Chef’N Corporation Series A Preferred Stock (1,000,000shares) 533 4,002 (6,709) 2,707 — 1,391 10,302 — (13,009) 2,707 — City Gear, LLC Subordinated Debt (13% Cash) 1,085 8,231 — (18) — 8,213 City Gear, LLC Preferred Membership Units(9% Cash Dividend) 115 1,269 — — — 1,269 City Gear, LLC Membership Unit Warrants(14.15% fully diluted) — 5,307 898 — — 6,205 1,200 14,807 898 (18) — 15,687 Corporate Visions,Inc. Subordinated Debt (14% Cash, 2% PIK) 1,601 11,174 228 — — 11,402 Corporate Visions,Inc. Common Stock (2,216,463 shares) — 9,797 551 — — 10,348 Corporate Visions,Inc. Common Stock Warrant (403,257shares) — 1,782 100 — — 1,882 1,601 22,753 879 — — 23,632 Furminator Equity — — — (351) 351 — — — — (351) 351 — GACommunications,Inc.(5) Series A-1 Preferred Stock (1,998shares,8% PIK Dividend) — 2,370 199 (10) — 2,559 GACommunications,Inc. Series B-1 Common Stock (200,000shares) — 2,541 — (881) — 1,660 — 4,911 199 (891) — 4,219 F-33 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 4. Investments and Fair Value Measurements – (continued) PortfolioCompany(4) Type of Investment Amount ofInterest, Feesor DividendsCredited toIncome(1) December 31,2013 Value GrossAdditions(2) GrossReductions(3) RealizedGain/(Loss) December 31,2014 ValueImpresa AerospaceHoldings, LLC Subordinated Debt (4.1% Cash) 270 10,064 2,194 (7,137) (5,121) — Impresa AerospaceHoldings, LLC Senior Secured Debt (0% Cash) — — 8,733 (8,733) — — Impresa AerospaceHoldings, LLC Class A Membership Units (1,006,621units) — — 900 — (900) — Impresa AerospaceHoldings, LLC Class C Membership Units (362,416units) — — 362 — (362) — Impresa AerospaceHoldings, LLC Class F Membership Units (604,504units) — — 605 — (605) — 270 10,064 12,794 (15,870) (6,988) — J&J ProduceHoldings, Inc. Subordinated Debt (13% Cash) 683 5,182 — — — 5,182 J&J ProduceHoldings, Inc. Common Stock (8,182 shares) — 934 — (593) — 341 J&J ProduceHoldings, Inc. Common Stock Warrants (4,506 shares) — 515 — (327) — 188 683 6,631 — (920) — 5,711 LJS Partners, LLC Common Stock (1,500,000 shares) — 14,622 — (12,116) — 2,506 — 14,622 — (12,116) — 2,506 MJC Holdings,LLC Subordinated Debt (14%, 2% PIKat company’s option) 653 7,500 — (7,500) — — MJC Holdings,LLC Series A Preferred Units (2,000,000units) — 5,224 499 — — 5,723 653 12,724 499 (7,500) — 5,723 MMI Holdings,LLC Senior Secured Debt (12% Cash) 316 2,600 — — — 2,600 MMI Holdings,LLC Subordinated Debt (6% Cash) 25 400 — — — 400 MMI Holdings,LLC(5) Preferred Units (1,000 units, 6% PIKDividend) — 1,200 84 (11) — 1,273 MMI Holdings,LLC Common Membership Units (45 units) — 125 1 — — 126 341 4,325 85 (11) — 4,399 MTI Holdings,LLC Subordinated Debt (12% Cash) 973 8,000 — — — 8,000 MTI Holdings,LLC Membership Units (2,000,000 units) — 2,823 2,135 — — 4,958 973 10,823 2,135 — — 12,958 Source CapitalABUTEC, LLC Senior Secured Debt (12% Cash, 3%PIK) 632 5,125 158 (117) — 5,166 Source CapitalABUTEC, LLC Preferred Membership Units(10.8% fully diluted) — 60 — (60) — — 632 5,185 158 (177) — 5,166 Source CapitalPenray, LLC Subordinated Debt (13% Cash) 330 2,500 — — — 2,500 Source CapitalPenray, LLC Membership Units (11.3% ownership) 125 810 3 — — 813 Source CapitalPenray, LLC Common Stock Warrants (6.65%ownership) — 576 2 — — 578 455 3,886 5 — — 3,891 F-34 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 4. Investments and Fair Value Measurements – (continued) PortfolioCompany(4) Type of Investment Amount ofInterest, Feesor DividendsCredited toIncome(1) December 31,2013 Value GrossAdditions(2) GrossReductions(3) RealizedGain/(Loss) December 31,2014 ValueSource CapitalSSCR, LLC Senior Secured Term Debt (7% Cash) 222 — 5,000 (249) — 4,751 Source CapitalSSCR, LLC Subordinated Debt (7% Cash) 2,119 14,073 47 (2,630) — 11,490 Source CapitalSSCR, LLC Preferred Membership Units(15.8% ownership) — — 158 (158) — — Source CapitalSSCR, LLC Membership Unit Warrant(0.31% ownership) — — 10 (10) — — 2,341 14,073 5,215 (3,047) — 16,241 Source Recycling,LLC Subordinated Debt (13% Cash) 707 3,950 977 — — 4,927 Source Recycling,LLC Membership Units (68,656 units) — — — — — — Source Recycling,LLC Membership Unit Warrants(1% fully diluted) — — — — — — 707 3,950 977 — — 4,927 Sparus Holdings Senior Secured Term Debt (12% Cash,2% PIK) 294 — 5,012 (962) — 4,050 Sparus Holdings Subordinated Debt (9% Cash, 5% PIK) 955 7,000 1,066 (1,543) — 6,523 Sparus Holdings Series B Preferred Stock (5,703 shares) — 1,479 — (1,479) — — Sparus Holdings Common Stock Warrants (3,491 shares) — 304 — (304) — — 1,249 8,783 6,078 (4,288) — 10,573 STX HealthcareManagementServices, Inc. Subordinated Debt (12.5% Cash) 1,247 7,425 — (1,000) — 6,425 STX HealthcareManagementServices, Inc. Common Stock (1,200,000 shares) — 942 — (228) — 714 STX HealthcareManagementServices, Inc. Common Stock Warrants (1,154,254shares) — 906 — (219) — 687 1,247 9,273 — (1,447) — 7,826 Take 5 Oil Change,Inc. Common Stock (10,692 shares) — 1,604 — (3,670) 2,066 — — 1,604 — (3,670) 2,066 — TCE Holdings, Inc. Subordinated Debt (12% Cash, 2% PIK) 1,526 12,088 206 (299) — 11,995 TCE Holdings, Inc. Subordinated Debt (12% Cash, 2% PIK) 1,216 9,633 164 (281) — 9,516 TCE Holdings, Inc. Class A Common Stock (3,600 shares) — 3,600 — (950) — 2,650 2,742 25,321 370 (1,530) — 24,161 V12 Holdings Senior Secured Term Debt (15% PIK) — — 406 — — 406 V12 Holdings Bridge Note (0% Cash) — 663 — — — 663 V12 Holdings Tier 2 Note (0% Cash) — 81 — — — 81 V12 Holdings Senior Subordinated Note (0% Cash) — 3,598 — (35) — 3,563 V12 Holdings Tier 3 Note (0% Cash) — 314 — (15) — 299 V12 Holdings Jr. Subordinated Note (0% Cash) — 405 2,345 — — 2,750 V12 Holdings Tier 4 Note (0% Cash) — — 243 — — 243 F-35 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 4. Investments and Fair Value Measurements – (continued) PortfolioCompany(4) Type of Investment Amount ofInterest, Feesor DividendsCredited toIncome(1) December 31,2013 Value GrossAdditions(2) GrossReductions(3) RealizedGain/(Loss) December 31,2014 ValueV12 Holdings Series A-1 Preferred Stock (255,102shares) — — — — — — V12 Holdings Series A-3 Preferred Stock (88,194shares) — — — — — — V12 Holdings Series A-5 Preferred Stock (20,530shares) — — — — — — V12 Holdings Common Stock Warrants(2,063,629 warrants) — — — — — — — 5,061 2,994 (50) — 8,005 Total Affiliate Investments $17,879 $189,098 $49,757 $(65,541) $(1,843) $171,471 (1)Represents the total amount of interest, fees or dividends credited to income for the portion of the year an investment wasincluded in Control or Affiliate categories, respectively.(2)Gross additions include increase in the cost basis of investments resulting from new portfolio investment, follow-oninvestments and accrued PIK interest. Gross Additions also include net increases in unrealized appreciation.(3)Gross reductions include decreases in the total cost basis of investments resulting from principal or PIK repayments, sales andnet unrealized depreciation.(4)All debt investments are income producing in accordance with rate disclosed. Equity and warrant investments are non-incomeproducing, unless otherwise noted.(5)The equity investment is income producing, based on rate disclosed.Note 5. AgreementsOn September 24, 2013, the Company entered into an investment advisory agreement (the “Investment Advisory Agreement”)with our Investment Advisor, which was approved by the Board of the Company on June 10, 2013. The initial term of theInvestment Advisory Agreement is two years, with automatic, one-year renewals at the end of each year subject to certainapprovals by our Board and/or our stockholders. Subject to the overall supervision of our Board, our Investment Advisor managesour day-to-day operations, and provides investment advisory and management services to us. Under the terms of our InvestmentAdvisory Agreement, the Investment Advisor:•determines the composition of our portfolio, the nature and timing of the changes to our portfolio and the manner ofimplementing such changes;•identifies, evaluates and negotiates the structure of the investments we make (including performing due diligence on ourprospective portfolio companies);•closes and monitors the investments we make; and•provides us with other investment advisory, research and related services as we may from time to time require.The Investment Advisor’s services under the Investment Advisory Agreement are not exclusive, and it is free to furnish similarservices to other entities so long as its services to us are not impaired.The Investment Advisory Agreement provides that, absent willful misfeasance, bad faith or negligence in the performance ofits duties or by reason of the reckless disregard of its duties and obligations, our Investment Advisor and its officers, managers,partners, agents, employees, controlling persons, members and any other person or entity affiliated with it are entitled toindemnification from the Company, for any damages, liabilities, costs and expenses (including reasonable attorneys’ fees andamounts reasonably paid inF-36 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 5. Agreements – (continued)settlement) arising from the rendering of our Investment Advisor’s services under the Investment Advisory Agreement or otherwiseas Investment Advisor for the Company.Pursuant to the Investment Advisory Agreement, we have agreed to pay the Investment Advisor a fee for investment advisoryand management services consisting of two components — a base management fee and an incentive fee.The base management fee is calculated at an annual rate of 1.75% of our gross assets, which is our total assets as reflected onour Consolidated Statements of Assets and Liabilities and includes any borrowings for investment purposes. Although we do notanticipate making significant investments in derivative financial instruments, the fair value of any such investments, which willnot necessarily equal their notional value, will be included in our calculation of gross assets. For services rendered under theInvestment Advisory Agreement, the base management fee is payable quarterly in arrears. The base management fee was initiallycalculated based on the value of our gross assets at the end of the first calendar quarter subsequent to our IPO, and thereafter basedon the average value of our gross assets at the end of the two most recently completed calendar quarters, and appropriatelyadjusted for any share issuances or repurchases during the current calendar quarter. For the first twelve months following our IPO,the Investment Advisor waived the portion of the base management fee payable on cash and cash equivalents held at theCompany level, excluding cash and cash equivalents held by the Legacy Funds that were acquired by the Company in connectionwith the Formation Transactions.Prior to the Formation Transactions, the management fee charged by each Legacy Fund for each fiscal quarter was the lesser of(a) an amount equal to an annual rate of .625% of the sum of (i) the Legacy Fund’s regulatory capital and (ii) the amount of anassumed two tiers of outstanding leverage based on such regulatory capital, or (b) an amount negotiated between the GeneralPartner of the Legacy Funds and the Management Company of the Legacy Funds. The management fee was reduced by certainfees ultimately received by the Management Company of the Legacy Funds from the portfolio companies. Payments of themanagement fee were made quarterly in advance. Certain direct expenses such as legal, audit, tax, and limited partner expensewere the responsibility of the Legacy Funds.The incentive fee consists of the following two parts:The first part of the incentive fee is calculated and payable quarterly in arrears based on our pre-incentive fee net investmentincome for the immediately preceding calendar quarter. For this purpose, pre-incentive fee net investment income means interestincome, dividend income and any other income (including any other fees (other than fees for providing managerial assistance),such as commitment, origination, structuring, diligence and consulting fees or other fees that we receive from portfolio companies)accrued during the calendar quarter, minus our operating expenses for the quarter (including the base management fee, expensespayable under the Administration Agreement to our Administrator, and any interest expense and dividends paid on any issued andoutstanding preferred stock, but excluding the incentive fee). Pre-incentive fee net investment income includes, in the case ofinvestments with a deferred interest feature (such as original issue discount, debt instruments with PIK interest and zero couponsecurities), accrued income that we have not yet received in cash. Pre-incentive fee net investment income does not include anyrealized capital gains, computed net of all realized capital losses or unrealized capital appreciation or depreciation. Pre-incentivefee net investment income, expressed as a rate of return on the value of our net assets at the end of the immediately precedingcalendar quarter, is compared to a hurdle of 2.0% per quarter (8.0% annualized). Our net investment income used to calculate thispart of the incentive fee is also included in the amount of our gross assets used to calculate the 1.75% base management fee. Wepay the Investment Advisor an incentive fee with respect to our pre-incentive fee net investment income in each calendar quarteras follows:•no incentive fee in any calendar quarter in which our pre-incentive fee net investment income does not exceed the hurdleof 2.0%;F-37 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 5. Agreements – (continued)•100% of our pre-incentive fee net investment income with respect to that portion of such pre-incentive fee net investmentincome, if any, that exceeds the hurdle but is less than 2.5% in any calendar quarter (10.0% annualized). We refer to thisportion of our pre-incentive fee net investment income (which exceeds the hurdle but is less than 2.5%) as the “catch-up.”The “catch-up” is meant to provide the Investment Advisor with 20% of our pre-incentive fee net investment income as if ahurdle did not apply if this net investment income exceeds 2.5% in any calendar quarter; and•20% of the amount of our pre-incentive fee net investment income, if any, that exceeds 2.5% in any calendar quarter(10.0% annualized) is payable to the Investment Advisor (once the hurdle is reached and the catch-up is achieved, 20% ofall preincentive fee investment income thereafter is allocated to the Investment Advisor).The second part of the incentive fee is determined and payable in arrears as of the end of each calendar year (or upontermination of the Investment Advisory Agreement, as of the termination date), commencing with the 2013 calendar year, and willequal 20% of our realized capital gains, if any, on a cumulative basis from inception through the end of each calendar year,computed net of all realized capital losses and unrealized capital depreciation on a cumulative basis, less the aggregate amount ofany previously paid capital gain incentive fees with respect to each of the investments in our portfolio.We will defer cash payment of the portion of any incentive fee otherwise earned by our Investment Advisor that would, whentaken together with all other incentive fees paid to our Investment Advisor during the most recent 12 full calendar month periodending on or prior to the date such payment is to be made, exceed 20% of the sum of (a) our pre-incentive fee net investmentincome during such period, (b) our net unrealized appreciation or depreciation during such period and (c) our net realized capitalgains or losses during such period. Any deferred incentive fees will be carried over for payment in subsequent calculation periodsto the extent such payment is payable under the Investment Advisory Agreement. Such deferred amounts will be calculated usinga period of shorter than 12 full calendar months until 12 full calendar months have passed since completion of our IPO.For the years ended December 31, 2014, 2013 and 2012 we incurred $9.3 million, $5.1 million and $4.2 million in basemanagement fees, respectively. For the years ended December 31, 2014, 2013 and 2012, our Investment Advisor waived fees of$0.2 million, $0.3 million and $0.2, respectively. We incurred $2.8 million, $1.5 million, and $0 in incentive fees related to pre-incentive fee net investment income for the years ended December 31, 2014, 2013, and 2012, respectively.On September 24, 2013, the Company entered into an administration agreement (the “Administration Agreement”) withCapitala Advisors Corp., our Administrator, pursuant to which our Administrator has agreed to furnish us with office facilities,equipment and clerical, bookkeeping and record keeping services at such facilities. Our Administrator also performs, or overseesthe performance of, our required administrative services, which include, among other things, being responsible for the financialrecords that we are required to maintain and preparing reports to our stockholders. In addition, our Administrator assists us indetermining and publishing our net asset value, oversees the preparation and filing of our tax returns and the printing anddissemination of reports to our stockholders, and generally oversees the payment of our expenses and the performance ofadministrative and professional services rendered to us by others.Payments under the Administration Agreement are equal to an amount based upon our allocable portion of our Administrator’soverhead in performing its obligations under the Administration Agreement, including rent, the fees and expenses associated withperforming compliance functions and our allocable portion of the compensation of our chief financial officer, chief complianceofficer and our allocable portion of the compensation of any administrative support staff. Under the Administration Agreement,our Administrator will also provide on our behalf managerial assistance to those portfolio companies that request such assistance.The Administration Agreement will have an initial term of two years and may be renewed with the approvalF-38 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 5. Agreements – (continued)of our Board. The Administration Agreement may be terminated by either party without penalty upon 60 days’ written notice tothe other party. To the extent that our Administrator outsources any of its functions, we will pay the fees associated with suchfunctions on a direct basis without any incremental profit to our Administrator. Stockholder approval is not required to amend theAdministration Agreement.For the years ended December 31, 2014, 2013, and 2012, we paid our administrator $1.0 million, $0.2 million, and $0 millionfor our allocable portion of the Administrator’s overhead.The Administration Agreement provides that, absent willful misfeasance, bad faith or negligence in the performance of itsduties or by reason of the reckless disregard of its duties and obligations, our Administrator and its officers, managers, partners,agents, employees, controlling persons, members and any other person or entity affiliated with it are entitled to indemnificationfrom the Company. for any damages, liabilities, costs and expenses (including reasonable attorneys’ fees and amounts reasonablypaid in settlement) arising from the rendering of our Administrator’s services under the Administration Agreement or otherwise asAdministrator for the Company.Note 6. Related Party TransactionsAt December 31, 2014 and December 31, 2013, the Company had the following receivables from (payables to) related partiesrelating to certain capital contributions, management fees, incentive fees and reimbursable expenses (dollars in thousands): December 31,2014 December 31,2013CapitalSouth Corporation $252 $252 Shareholders/Limited Partners 205 267 CapitalSouth Partners Fund III, L.P. — 1,118 Capitala Investment Advisors, LLC (106) (2,670) Total $351 $(1,033) These amounts are reflected in the accompanying statements of financial position under the captions, “Due from relatedparties”, “Management and incentive fee payable” and “Due to related parties.”At times, the Company maintains deposit accounts and certificates of deposit with financial institutions that are shareholdersof the Company or were limited partners of a Legacy Fund prior to the Formation Transactions. Total deposits with these financialinstitutions were approximately $31 thousand and $2.8 million at December 31, 2014 and December 31, 2013, respectively.Note 7. BorrowingsSBA DebenturesThe Company, through its two wholly-owned subsidiaries, uses debenture leverage provided through the SBA to fund aportion of its investment portfolio. As of December 31, 2014, the Company has $192.2 million of SBA-guaranteed debenturesoutstanding. The Company has issued all SBA-guaranteed debentures that were permitted under each of the Legacy Funds’respective SBIC licenses (as applicable), and there are no unused SBA debenture commitments remaining. SBA-guaranteeddebentures are secured by a lien on all assets of Fund II and Fund III. As of December 31, 2014, Fund II and Fund III had totalassets of approximately $369.2 million. On June 10, 2014, the Company received an exemptive order from the SEC exempting theCompany, Fund II, and Fund III from certain provisions of the 1940 Act (including an exemptive order granting relief from theasset coverage requirements for certain indebtedness issued by Fund II and Fund IIIF-39 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 7. Borrowings – (continued)as SBICs) and from certain reporting requirements mandated by the Securities Exchange Act of 1934, as amended, with respect toFund II and Fund III. The Company intends to comply with the conditions of the order.For the years ended December 31, 2014, 2013 and 2012 we recorded $8.5 million, $8.4 million and $7.9 million, respectively,of interest, annual charges, and financing expenses related to the SBA guaranteed debentures, of which $7.8 million, $8.1 millionand $7.3 million, respectively, was attributable to interest expense and $0.7 million, $0.3 million and $0.6 million, respectively,of amortization of commitment and upfront fees. The weighted average interest rate for all SBA-guaranteed debentures as ofDecember 31, 2014 and December 31, 2013 was 3.51% and 3.57%, respectively. In addition to the stated interest rate, the SBAalso charges an annual fee on all SBA-guaranteed debentures issued, which is included in the Company’s interest expense. Theweighted average annual fee for all SBA-guaranteed debentures as of December 31, 2014 and December 31, 2013 was 0.48% and0.50%, respectively.As of December 31, 2014 and December 31, 2013, the Company’s issued and outstanding SBA-guaranteed debentures matureas follows (dollars in thousands): Maturity Date InterestRate SBA AnnualCharge December 31,2014 December 31,2013March 1, 2014 4.120% 0.855% $— $2,000 September 1, 2014 4.684% 0.855% — 8,000 September 1, 2015 4.941% 0.871% 8,000 8,000 March 1, 2016 5.524% 0.871% 2,000 2,000 September 1, 2016 5.535% 0.941% 11,500 11,500 March 1, 2019 4.620% 0.941% 5,000 5,000 September 1, 2020 3.215% 0.285% 19,000 19,000 March 1, 2021 4.084% 0.515% 15,700 15,700 March 1, 2021 4.084% 0.285% 46,000 46,000 March 1, 2022 2.766% 0.285% 10,000 10,000 March 1, 2022 2.766% 0.515% 50,000 50,000 March 1, 2023 2.351% 0.515% 25,000 25,000 $192,200 $202,200 NotesIn June 2014, the Company issued $113.4 million in aggregate principal amount of 7.125% fixed-rate notes due 2021 (the“Notes”). The Notes will mature on June 16, 2021, and may be redeemed in whole or in part at any time or from time to time at theCompany’s option on or after June 16, 2017 at a redemption price equal to 100% of the outstanding principal, plus accrued andunpaid interest. Interest will be payable quarterly beginning September 16, 2014.For the year ended December 31, 2014, the Company has recorded $4.4 million of interest expense and $0.3 million ofamortization of deferred financing costs related to the Notes.Credit FacilityOn October 17, 2014, the Company entered into a senior secured revolving credit agreement (the “Credit Facility”) with INGCapital, LLC, as administrative agent, arranger, and bookrunner, and the lenders party thereto. The Credit Facility initiallyprovides for borrowings up to $50,000,000 and may be increased up to $150,000,000 pursuant to its “accordion” feature. TheCredit Facility matures on October 17, 2018.Borrowings under the Credit Facility bear interest, at the Company’s election, at a rate per annum equal to (i) the one, two,three or six month LIBOR as applicable, plus 3.00% or (ii) 2.00% plus the highest ofF-40 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 7. Borrowings – (continued)(A) a prime rate, (B) the Federal Funds rate plus 0.5% and (C) three month LIBOR plus 1.0%. The Company’s ability to electLIBOR indices with various tenors (e.g., one, two, three or six month LIBOR) on which the interest rates for borrowings under theCredit Facility are based provides the company with increased flexibility to manage interest rate risks as compared to a borrowingarrangement that does not provide for such optionality. Once a particular LIBOR rate has been selected, the interest rate on theapplicable amount borrowed will reset after the applicable tenor period and be based on the then applicable selected LIBOR rate(e.g., borrowings for which the Company has elected the one month LIBOR rate will reset on the one month anniversary of theperiod based on the then selected LIBOR rate). For any given borrowing under the Credit Facility, the Company intends to electwhat it believes to be an appropriate LIBOR rate taking into account the Company’s needs at the time as well as the Company’sview of future interest rate movements. The Company will also pay an unused commitment fee at a rate of 2.50% per annum on theamount (if positive) by which 40% of the aggregate commitments under the Credit Facility exceeds the outstanding amount ofloans under the Credit Facility and 0.50% per annum on any remaining unused portion of the Credit Facility.As of and for the year ending December 31, 2014, the Company had no outstanding balance on the Credit Facility. For theyear ended December 31, 2014 the Company recorded $0 of interest expense, $0.1 million of amortization of deferred financingcosts, and $0.1 million of unused commitment fees related to the Credit Facility.The Credit Facility is secured by investments and cash held by Capitala Finance Corp., exclusive of assets held at our twoSBIC subsidiaries. Assets pledged to secure the Credit Facility were $173.4 million at December 31, 2014. As part of the terms ofthe Credit Facility, the Company may not make cash distributions with respect to any taxable year that exceed 110% (125% if theCompany is not in default and our covered debt does not exceed 85% of the borrowing base) of the amounts required to bedistributed to maintain eligibility as a RIC and to reduce our tax liability to zero for taxes imposed on our investment companytaxable income and net capital gains.Note 8. Income TaxesThe Company has elected to be treated as a RIC under Subchapter M of the Code. As a RIC, the Company is not taxed on anyinvestment company taxable income or capital gains which it distributes to shareholders. The Company intends to make therequisite distributions to its stockholders which will relieve the Company from U.S. federal income taxes. Accordingly, noprovision for U.S. federal income tax has been made in the consolidated financial statements.Dividends from net investment income and distributions from net realized capital gains are determined in accordance with U.S.federal tax regulations, which may differ from amounts in accordance with U.S. GAAP and those differences could be material.The following permanent differences due to an adjustment of the realized gains/losses upon disposition of partnership interestwere reclassified for tax purposes for the tax year ended August 31, 2014 (dollars in thousands): Tax yearendedAugust 31,2014Decrease in accumulated net investment income $(19) Increase in accumulated net realized gains on investments 19 Decrease in capital in excess of par value $— F-41 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 8. Income Taxes – (continued)As of August 31, 2014, the tax basis components of distributable earnings were as follows (dollars in thousands): Tax yearendedAugust 31,2014Undistributed ordinary income $683 Accumulated capital losses (7,566) Unrealized appreciation/depreciation 62,726 Other temporary differences (1,568) Total $54,275 Taxable income generally differs from net increase (decrease) in net assets resulting from operations for financial reportingpurposes due to temporary and permanent differences in the recognition of income and expenses and generally excludesunrealized appreciation (depreciation) on investments as investment gains and losses are not included in taxable income untilthey are realized.Capital losses in excess of capital gains earned in a tax year may generally be carried forward and used to offset capital gains,subject to certain limitations. Under the recently enacted Regulated Investment Company Modernization Act of 2010, capitallosses incurred after December 22, 2010 will not be subject to expiration and will retain their character. As of August 31, 2014, theCompany has a long-term capital loss carry forward of $7.6 million.The following table reconciles net increase in net assets resulting from operations to taxable income for the tax year endedAugust 31, 2014 (dollars in thousands): Tax yearendedAugust 31,2014Net increase in net assets resulting from operations $9,894 Net change in unrealized (appreciation) depreciation on investments and securedborrowings 2,658 Other deductions for book in excess of deductions for tax 6,425 Total taxable income $18,977 For income tax purposes, distributions paid to shareholders are reported as ordinary income, return of capital, long term capitalgains or a combination thereof. The tax character of distributions paid for the tax year ended August 31, 2014 (dollars inthousands): Tax yearendedAugust 31,2014Ordinary income $18,294 Long-term capital gains — Return of capital — Total $18,294 For U.S federal income tax purposes, as of August 31, 2014, the aggregate net unrealized appreciation for all securities is $62.7million. The aggregate cost of securities for U.S. federal income tax purposes is $342.5 million.F-42 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 9. Directors FeesOur independent directors receive an annual fee of $50,000. They also receive $5,000 plus reimbursement of reasonable out-of-pocket expenses incurred in connection with attending each board meeting, and also receive $5,000 plus reimbursement ofreasonable out-of-pocket expenses incurred in connection with attending each committee meeting. In addition, the chairman ofthe audit committee receives an annual fee of $10,000 and each chairman of any other committee receives an annual fee of $5,000for their additional services, if any, in these capacities. For the years ended December 31, 2014, 2013 and 2012, the Companyrecognized director fee expense of $367 thousand, $195 thousand and $0, respectively. No compensation is expected to be paid todirectors who are “interested persons” of the Company, as such term is defined in Section 2(a)(19) of the 1940 Act.Note 10. Stockholders’ EquityOn September 24, 2013, we issued 8,974,420 shares of common stock to the limited partners of the Legacy Funds, in exchangefor 100% of their membership interests or certain investment assets of such Legacy Funds, as the case may be. On September 30,2013, we issued 4,000,000 shares of common stock in connection with the closing of our IPO. The shares issued in the IPO werepriced at $20.00 per share. We received proceeds of $74.25 million in the IPO, net of underwriters’ discounts and commissions of$5.75 million. As of December 31, 2014, the Company had 12,974,420 shares of common stock outstanding.Note 11. Summarized Financial Information of Our Unconsolidated SubsidiariesThe Company holds a control interest, as defined by the 1940 Act, in four majority owned portfolio companies that are notconsolidated in the Company’s consolidated financial statements. Below is a brief description of each portfolio company, alongwith summarized financial information as of December 31, 2014 and December 31, 2013 and for the three years in the period thenended.Print Direction, Inc.Print Direction, Inc., incorporated in Georgia on May 11, 2006, is a professional printing services firm serving customers,particularly fast food, retail, and other similar chains, throughout the United States. Print Direction, Inc. also provides warehousingand distribution services for these customers. The income the Company generated from Print Direction, Inc., which includes allinterest, dividends, PIK interest and dividends, fees, and unrealized appreciation/depreciation, was $2.6 million, $4.4 million, and$2.7 million for the years ended December 31, 2014, December 31, 2013 and December 31, 2012, respectively.Navis Holdings, Inc.Navis Holdings, Inc., incorporated in Delaware on December 21, 2010, designs and manufactures leading machinery for theglobal knit and woven finishing textile industries. The income (loss) the Company generated from Navis Holdings, Inc., whichincludes all interest, dividends, PIK interest and dividends, fees, and unrealized appreciation/depreciation, was $4.2 million, $1.6million and $(1.5) million for the years ended December 31, 2014, December 31, 2013 and December 31, 2012, respectively.On-Site Fuel Service, Inc.On-Site Fuel Service, Inc. is a 100% owned subsidiary of On-Site Fuel Holdings, Inc., which was incorporated in Delaware onDecember 19, 2011. On-Site Fuel Service, Inc. provides fueling services for commercial and government vehicle fleets throughoutthe southeast United States. The income (loss) the Company generated from On-Site Fuel Service, Inc., which includes all interest,dividends, PIK interest and dividends, fees, and unrealized appreciation/depreciation, was $(4.8) million, $2.0 million, and $0.2million for the years ended December 31, 2014, December 31, 2013, and December 31, 2012, respectively.F-43 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 11. Summarized Financial Information of Our Unconsolidated Subsidiaries – (continued)CableOrganizer Holdings, LLCCableOrganizer Holdings, LLC, a Delaware limited liability company that began operations on April 23, 2013, is a leadingonline provider of cable and wire management products. The income (loss) the Company generated from CableOrganizerHoldings, LLC, which includes all interest, dividends, PIK interest and dividends, fees, and unrealized appreciation/depreciation,was $2.9 million and $(0.4) million for the years ended December 31, 2014 and December 31, 2013, respectively.The summarized financial information of our unconsolidated subsidiaries was as follows (dollars in thousands): As ofBalance Sheet – Print Direction, Inc. December 31,2014 December 31,2013Current assets $5,055 $6,059 Noncurrent assets 5,346 5,588 Total assets $10,401 $11,647 Current liabilities $3,193 $3,492 Noncurrent liabilities 14,510 10,520 Total liabilities $17,703 $14,012 Total equity $(7,302) $(2,365) For the year endedStatements of Operations – Print Direction, Inc. December 31,2014 December 31,2013 December 31,2012Net sales $22,553 $25,360 $23,916 Cost of goods sold 9,045 10,724 10,555 Gross profit $13,508 $14,636 $13,361 Other expenses $13,399 $12,878 $12,288 Income before income taxes 109 1,758 1,073 Income tax provision 46 610 417 Net Income $63 $1,148 $656 As ofBalance Sheet – Navis Holdings, Inc. December 31,2014 December 31,2013Current assets $4,818 $4,599 Noncurrent assets 5,002 6,360 Total assets $9,820 $10,959 Current liabilities $3,179 $2,228 Noncurrent liabilities 6,921 7,047 Total liabilities $10,100 $9,275 Total equity $(280) $1,684 F-44 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 11. Summarized Financial Information of Our Unconsolidated Subsidiaries – (continued) For the year endedStatements of Operations – Navis Holdings, Inc. December 31,2014 December 31,2013 December 31,2012Net sales $16,114 $14,177 $13,268 Cost of goods sold 10,444 9,833 9,092 Gross profit $5,670 $4,344 $4,176 Other expenses $5,070 $4,736 $4,977 Income (loss) before income taxes 600 (392) (801) Income tax provision (benefit) 264 (129) (246) Net Income (loss) $336 $(263) $(555) As ofBalance Sheet – On-Site Fuel Service, Inc. December 31,2014 December 31,2013Current assets $13,021 $16,000 Noncurrent assets 18,464 17,702 Total assets $31,485 $33,702 Current liabilities $12,439 $12,666 Noncurrent liabilities 12,174 11,442 Total liabilities $24,613 $24,108 Total equity $6,872 $9,594 For the year endedStatements of Operations – On-Site Fuel Service, Inc. December 31,2014 December 31,2013 December 31,2012Net sales $197,053 $237,997 $228,233 Cost of goods sold 186,880 225,223 216,738 Gross profit $10,173 $12,774 $11,495 Other expenses $12,895 $13,406 $12,892 Income (loss) before income taxes (2,722) (632) (1,397) Income tax provision (benefit) — (115) (368) Net Income (loss) $(2,722) $(517) $(1,029) As ofBalance Sheet – CableOrganizer Holdings, LLC December 31,2014 December 31,2013Current assets $3,470 $2,436 Noncurrent assets 12,383 8,474 Total assets $15,853 $10,910 Current liabilities $2,025 $1,299 Noncurrent liabilities 10,757 6,585 Total liabilities $12,782 $7,884 Total equity $3,071 $3,026 F-45 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 11. Summarized Financial Information of Our Unconsolidated Subsidiaries – (continued) Statements of Operations – CableOrganizer Holdings, LLC For theyear endedDecember 31,2014 For the periodfrom Inception(May 23, 2013)to December 31,2013Net sales $23,723 $8,489 Cost of goods sold 15,064 5,736 Gross profit $8,659 $2,753 Other expenses $8,446 $3,902 Income (loss) before income taxes 213 (1,149) Income tax provision (benefit) — — Net Income (loss) $213 $(1,149) Note 12. Earnings Per ShareIn accordance with the provisions of ASC 260, Earnings per Share (“ASC 260”), basic earnings per share is computed bydividing earnings available to common shareholders by the weighted average number of shares outstanding during the period.Other potentially dilutive common shares, and the related impact to earnings, are considered when calculating earnings per shareon a diluted basis. As of December 31, 2014, there were no dilutive shares.The following information sets forth the computation of the weighted average basic and diluted net increase in net assets pershare from operations for the years ended December 31, 2014, 2013 and 2012 (dollars in thousands except share and per sharedata): For the year endedBasic and diluted December 31,2014 December 31,2013 December 31,2012Net increase/(decrease) in net assets from operations $(3,440) $28,858 $ 49,570 Weighted average common shares outstanding 12,974,420 12,974,420 N/A Net increase/(decrease) in net assets per share from operations-basic and diluted $(0.27) $2.22 N/A Note 13. DividendThe Company’s dividends and distributions are recorded on the record date. Shareholders have the option to receive paymentof the dividend in cash, shares of common stock, or a combination of cash and common stock.The following table summarizes the Company’s dividend declarations and distributions during the years ended December 31,2014 and 2013: Date Declared Record Date Payment Date AmountPer ShareOctober 2, 2014 December 19, 2014 December 30, 2014 $0.1567 October 2, 2014 November 21, 2014 November 28, 2014 $0.1567 October 2, 2014 October 22, 2014 October 30, 2014 $0.1567 August 7, 2014 September 12, 2014 September 26, 2014 $0.47 May 8, 2014 June 9, 2014 June 26, 2014 $0.47 February 27, 2014 March 14, 2014 March 26, 2014 $0.47 Total Distributions Declared for Fiscal 2014 $1.88 F-46 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 13. Dividend – (continued) Date Declared Record Date Payment Date AmountPer ShareNovember 11, 2013 December 10, 2013 December 30, 2013 $0.47 Total Dividends Declared for Fiscal 2013 $0.47 Note 14. Financial HighlightsThe following is a schedule of financial highlights for the years ended December 31, 2014 and 2013 (dollars in thousands,except share and per share data): Year EndedDecember 31,2014 Year EndedDecember 31,2013Per share data: Net asset value at beginning of period(1) $20.71 $17.61 Net investment income(2) 1.54 1.50 Net realized gain on investments 0.06 0.17 Net unrealized appreciation (depreciation) on investments (1.87) 0.55 Net increase (decrease) in net assets from operations (0.27) 2.22 Distributions declared from net investment income (1.88) (0.47) Partners’ capital contribution — 1.92 Distribution to partners — (0.57) Net asset value at end of period $18.56 $20.71 Net assets at end of period $240,837 $268,670 Shares outstanding at end of period 12,974,420 12,974,420 Per share market value at end of period $17.87 $19.90 Total return based on market value(3) (0.85)% 1.88% Ratio/Supplemental data: Ratio of net investment income to average net assets(1) 7.78% 7.68% Ratio of incentive fee to average net assets(1) 1.11% 0.60% Ratio of debt related expenses to average net assets(1) 5.21% 3.30% Ratio of other operating expenses net of management fee waiver to averagenet assets(1) 5.20% 2.38% Ratio of total expenses to average net assets(1)(7) 11.52% 6.28% Portfolio turnover rate(4) 18.62% 16.77% Average debt outstanding(5) $255,268 $198,159 Average debt outstanding per common share $19.67 $15.27 Asset coverage ratio per unit(6) $1,788 $2,376 (1)Net asset value as of January 1, 2013 and average net assets for year ended December 31, 2013 are presented as if the IPO andFormation Transactions had occurred on January 1, 2013. See Note 2 for a further description of the basis of presentation of theCompany’s financial statements.(2)Net investment income per share is calculated using the weighted average shares outstanding during the period.F-47 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 14. Financial Highlights – (continued)(3)Total investment return is calculated assuming a purchase of common shares at the current market value on the first day and asale at the current market value on the last day of the period reported. Dividends and distributions, if any, are assumed forpurposes of this calculation to be reinvested at prices obtained under the Company’s dividend reinvestment plan. Totalinvestment return does not reflect brokerage commissions. Total investment returns covering less than a full period are notannualized.(4)Portfolio turnover rate is calculated using the lesser of year-to-date sales or year-to-date purchases over the average of theinvested assets at fair value. Portfolio turnover rates that cover less than a full period are not annualized.(5)Based on daily weighted average balance of debt outstanding during the period.(6)Asset coverage per unit is the ratio of the carrying value of our total consolidated assets, less all liabilities and indebtness notrepresented by senior securities, to the aggregate amount of senior securities representing indebtness. Asset coverage per unit isexpressed in terms of dollar amounts per $1,000 of indebtness.(7)The ratio of waived management fees to average net assets was 0.09% for the year ended December 31, 2014. The ratio ofwaived management fees to average net assets was 0.13% for the year ended December 31, 2013.Note 15. Selected Quarterly Financial Data (Unaudited) For the quarter ended(Dollars in thousands, except per share data) December 31,2014 September30,2014 June 30,2014 March 31,2014Total investment income $13,461 $11,167 $12,526 $12,374 Net investment income $5,067 $3,544 $5,634 $5,721 Net increase/(decrease) in net assets from operations $(11,181) $311 $6,212 $1,218 Net investment income per share $0.39 $0.27 $0.43 $0.44 Net increase/(decrease) in net assets from operations pershare $(0.86) $0.02 $0.48 $0.09 Net asset value per share at end of period $18.56 $19.89 $20.34 $20.33 For the quarter ended(Dollars in thousands, except per share data) December 31,2013 September30,2013 June 30,2013 March 31,2013Total investment income $12,145 $8,801 $8,216 $6,271 Net investment income $6,100 $5,437 $4,658 $3,289 Net increase in net assets from operations $6,797 $7,909 $11,583 $2,569 Net investment income per share(1) $0.47 $0.42 $0.36 $0.25 Net increase in net assets from operations per share(1) $0.52 $0.61 $0.89 $0.20 Net asset value per share at end of period(1) $20.71 $20.79 $20.58 $19.74 (1)Per share amounts are presented as if the Formation Transactions had occurred on January 1, 2013.F-48 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 16. Subsequent EventsManagement has evaluated subsequent events through the date of issuance of the consolidated financial statements includedherein. There have been no subsequent events that occurred during such period that would be required to be recognized in theconsolidated financial statements as of and for the year ended December 31, 2014.DistributionsOn January 5, 2015, the Company announced that its Board of Directors has declared distributions for the months of January,February, and March of 2015. Date Declared Record Date Payment Date AmountPer ShareJanuary 2, 2015 March 23, 2015 March 30, 2015 $0.1567 January 2, 2015 February 20, 2015 February 26, 2015 $0.1567 January 2, 2015 January 22, 2015 January 29, 2015 $0.1567 Total Dividends Declared for Fiscal 2015 $0.47 Credit FacilityOn January 6, 2015, the Company entered into an Incremental Assumption Agreement, (the “Incremental AssumptionAgreement”), relating to the Credit Facility. The Incremental Assumption Agreement increased the amount of borrowingsavailable under the Credit Facility from $50.0 million to $80.0 million. The $30.0 million increase in total commitments underthe Credit Facility was executed under the “accordion” feature of the Credit Facility, which allows for an increase in totalcommitments under the Credit Facility up to $150.0 million.Portfolio ActivityOn January 23, 2015, the Company invested $20.0 million in subordinated debt of Tender Greens Holdings, LLC, earning14.0% cash interest, plus warrant participation.On February 13, 2015, the Company invested $1.5 million in senior secured term debt and subordinated debt of Sun & SkinCare Research, LLC, an existing portfolio investment, earning 7.0% cash interest.On February 20, 2015, the Company invested $1.1 million in subordinated debt of On-Site Fuel Services, Inc., an existingportfolio investment, earning 14.0% cash interest and 4.0% PIK.On February 26, 2015, the Company invested $15.0 million in subordinated debt of Portrait Innovations, Inc., earning 12.0%cash interest.On March 2, 2015, the Company received $12.0 million from A Wireless Holding Company, representing full repayment ofthe Company’s subordinated debt investment, yielding 12.0% cash interest, due September 9, 2019.On March 2, 2015, the Company received $4.0 million from the sale of 179,748 shares of Boot Barn, Inc. (NYSE:BOOT),resulting in a realized gain of $3.3 million. The Company still holds 420,252 shares of BOOT, subject to a lockup agreement thatexpires during the second quarter of 2015.Special DistributionOn February 26, 2015, the Company’s board of directors declared a special distribution in the aggregate amount ofapproximately $6.5 million, or $0.50 per share of the Company’s common stock, to be paid monthly over the remainder of 2015.This represents approximately a 32% increase over normal monthly distributions, as previously announced.F-49 TABLE OF CONTENTSCAPITALA FINANCE CORP. NOTES TO CONSOLIDATED FINANCIAL STATEMENTSDecember 31, 2014Note 16. Subsequent Events – (continued)Share Repurchase ProgramOn February 26, 2015, the Company’s board of directors authorized a program for the purpose of repurchasing up to $12million worth of its common stock. Under the repurchase program, the Company may, but is not obligated to, repurchase itsoutstanding common stock in the open market from time to time provided that the Company complies with the prohibitions underits Insider Trading Policies and Procedures and the guidelines specified in Rule 10b-18 of the Securities Exchange Act of 1934, asamended, including certain price, market volume and timing constraints. Unless extended by the Company’s board of directors,the Company expects the repurchase program to be in place until the earlier of March 31, 2016 or until $12 million of theCompany’s outstanding shares of common stock have been repurchased.F-50 TABLE OF CONTENTSItem 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIALDISCLOSURENone.Item 9A. CONTROLS AND PROCEDURES(a)Evaluation of Disclosure Controls and ProceduresAs of December 31, 2014 (the end of the period covered by this report), we, including our Chief Executive Officer and ChiefFinancial Officer, evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined inRule 13a-15(e) of the Securities Exchange Act of 1934, as amended). Based on that evaluation, our management, including theChief Executive Officer and Chief Financial Officer, concluded that our disclosure controls and procedures were effective andprovided reasonable assurance that information required to be disclosed in our periodic SEC filings is recorded, processed,summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulatedand communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allowtimely decisions regarding required disclosure. However, in evaluating the disclosure controls and procedures, managementrecognized that any controls and procedures, no matter how well designed and operated can provide only reasonable assurance ofachieving the desired control objectives, and management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of such possible controls and procedures.(b)Report of Management on Internal Control Over Financial ReportingManagement is responsible for establishing and maintaining adequate internal control over financial reporting, and forperforming an assessment of the effectiveness of internal control over financial reporting. Internal control over financial reportingis a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation offinancial statements for external purposes in accordance with generally accepted accounting principles. The Company’s internalcontrol over financial reporting includes those policies and procedures that (i) pertain to assets of the Company; (ii) providereasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance withgenerally accepted accounting principles, and that receipts and expenditures of the Company are being made only in accordancewith authorizations of management and directors of the Company; and (iii) provide reasonable assurance regarding prevention ortimely detection of unauthorized acquisition, use, or disposition of the Company’s assets that could have a material effect on thefinancial statements.Management performed an assessment of the effectiveness of the Company’s internal control over financial reporting as ofDecember 31, 2014 based upon the criteria in the 2013 Internal Control — Integrated Framework issued by the Committee ofSponsoring Organizations of the Treadway Commission. Based on management’s assessment, management determined that theCompany’s internal control over financial reporting was effective as of December 31, 2014.Due to the Company’s status as an “emerging growth company” under the Jumpstart Our Business Startups Act of 2012, theCompany was not required to obtain an attestation report from the Company’s independent registered public accounting firm onthe Company’s internal control over financial reporting as of December 31, 2014.(c)Changes in Internal Controls Over Financial ReportingManagement has not identified any change in the Company’s internal control over financing reporting that occurred duringthe fourth quarter of 2014 that has materially affected, or is reasonably likely to materially affect, the Company’s internal controlover financial reporting.Item 9B. OTHER INFORMATIONNone.84 TABLE OF CONTENTSPART IIIWe will file a definitive Proxy Statement for our 2015 Annual Meeting of Stockholders with the Securities and ExchangeCommission (the “SEC”), pursuant to Regulation 14A, not later than 120 days after the end of our fiscal year. Accordingly, certaininformation required by Part III has been omitted under General Instruction G(3) to Form 10-K. Only those sections of ourdefinitive Proxy Statement that specifically address the items set forth herein are incorporated by reference.ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCEThe information required by Item 10 is hereby incorporated by reference from our definitive Proxy Statement relating to our2015 Annual Meeting of Stockholders, to be filed with the SEC within 120 days following the end of our fiscal year.ITEM 11. EXECUTIVE COMPENSATIONThe information required by Item 11 is hereby incorporated by reference from our definitive Proxy Statement relating to our2015 Annual Meeting of Stockholders, to be filed with the SEC within 120 days following the end of our fiscal year.ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATEDSTOCKHOLDER MATTERSThe information required by Item 12 is hereby incorporated by reference from our definitive Proxy Statement relating to our2015 Annual Meeting of Stockholders, to be filed with the SEC within 120 days following the end of our fiscal year.ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCEThe information required by Item 13 is hereby incorporated by reference from our definitive Proxy Statement relating to our2015 Annual Meeting of Stockholders, to be filed with the SEC within 120 days following the end of our fiscal year.ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICESThe information required by Item 14 is hereby incorporated by reference from our definitive Proxy Statement relating to our2015 Annual Meeting of Stockholders, to be filed with the SEC within 120 days following the end of our fiscal year.85 TABLE OF CONTENTSPART IVITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULESa. The following documents are filed as part of this Annual Report:The following financial statements are set forth in Item 8:INDEX TO FINANCIAL STATEMENTS PageReports of Independent Registered Public Accounting Firms F-1 Audited Financial Statements: Consolidated Statements of Assets and Liabilities as of December 31, 2014 and December 31, 2013 F-3 Consolidated Statements of Operations for the years ended December 31, 2014, December 31, 2013and December 31, 2012 F-4 Consolidated Statements of Changes in Net Assets for the years ended December 31, 2014,December 31, 2013 and December 31, 2012 F-5 Consolidated Statements of Cash Flows for the years ended December 31, 2014, December 31, 2013and December 31, 2012 F-6 Consolidated Schedules of Investments as of December 31, 2014 and December 31, 2013 F-7 Notes to Consolidated Financial Statements F-20 86 TABLE OF CONTENTSb. Exhibits Exhibit Number Description of Document3.1 Articles of Amendment and Restatement(1)3.2 Certificate of Limited Partnership of CapitalSouth Partners Fund II Limited Partnership(2)3.3 Certificate of Limited Partnership of CapitalSouth Partners SBIC Fund III, L.P.(2)3.4 Bylaws(1)3.5 Form of Amended and Restated Limited Partnership Agreement of CapitalSouth Partners Fund IILimited Partnership(3)3.6 Form of Amended and Restated Agreement of Limited Partnership of CapitalSouth Partners SBICFund III, L.P.(3)4.1 Form of Common Stock Certificate(1)4.2 Form of Base Indenture(4)4.3 Form of First Supplemental Indenture(4)4.4 Form of Global Note (included as Exhibit A to the Form of First Supplemental Indenture)(4)10.1 Form of Dividend Reinvestment Plan(1)10.2 Form of Investment Advisory Agreement by and between Registrant and Capitala InvestmentAdvisors, LLC(1)10.3 Form of Custodian Agreement(1)10.4 Form of Administration Agreement by and between Registrant and Capitala Advisors Corp.(1)10.5 Form of Indemnification Agreement by and between Registrant and each of its directors(1)10.6 Form of Trademark License Agreement by and between Registrant and Capitala Investment Advisors,LLC(1)10.7 Form of Senior Secured Revolving Credit Agreement dated October 17, 2014, among CapitalaFinance Corp., as Borrower, the lenders party thereto, and ING Capital LLC, as Administrative Agent,Arranger and Bookrunner(5)10.8 Form of Guarantee, Pledge and Security Agreement dated October 17, 2014, among Capitala FinanceCorp., as Borrower, the subsidiary guarantors party thereto, ING Capital LLC, as RevolvingAdministrative Agent for the Revolving Lenders and as Collateral Agent, and each Financing Agentand Designated Indebtedness Holder party thereto(5)10.9 Form of Incremental Assumption Agreement, dated January 6, 2015, relating to the Senior SecuredRevolving Credit Agreement, dated as of October 17, 2014, among Capitala Finance Corp., asborrower, the lenders from time to time party thereto, and ING Capital LLC, as administrative agent,arranger and bookrunner(6)11.1 Computation of Per Share Earnings (included in the notes to the consolidated financial statementscontained in this report)14.1 Code of Business Conduct(1)14.2 Code of Ethics(2)21.1 List of Subsidiaries (filed herewith)31.1 Certification of Chief Executive Officer pursuant to Rule 13a-14 of the Securities ExchangeAct of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (filed herewith)31.2 Certification of Chief Financial Officer pursuant to Rule 13a-14 of the Securities Exchange Act of1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (filed herewith)87 TABLE OF CONTENTS Exhibit Number Description of Document32.1 Certification of Chief Executive Officer 18 U.S.C. Section 1350, as adopted pursuant to section 906 ofthe Sarbanes-Oxley Act of 2002 (filed herewith)32.2 Certification of Chief Financial Officer 18 U.S.C. Section 1350, as adopted pursuant to section 906 ofthe Sarbanes-Oxley Act of 2002 (filed herewith)(1)Previously filed in connection with the Pre-Effective Amendment No. 1 to Capitala Finance Corp.’s registration statement onForm N-2 (File No. 333-188956) filed on September 9, 2013.(2)Previously filed in connection with Pre-Effective Amendment No. 2 to Capitala Finance Corp.’s registration statement on FormN-2 (File No. 333-188956) filed on September 16, 2013.(3)Previously filed in connection with Pre-Effective Amendment No. 5 to Capitala Finance Corp.’s registration statement on FormN-2 (File No. 333-188956) filed on September 24, 2013.(4)Previously filed in connection with Pre-Effective Amendment No. 2 to Capitala Finance Corp.’s registration statement on FormN-2 (File No. 333-193374) filed on May 21, 2014.(5)Previously filed in connection with Capitala Finance Corp.’s report on Form 8-K filed on October 21, 2014.(6)Previously filed in connection with Capitala Finance Corp.’s report on Form 8-K filed on January 8, 2015.c. Consolidated Financial Statement SchedulesNo consolidated financial statement schedules are filed herewith because (1) such schedules are not required or (2) theinformation has been presented in the aforementioned financial statements.88 TABLE OF CONTENTSSIGNATURESPursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused thisAnnual Report on Form 10-K to be signed on its behalf by the undersigned, thereunto duly authorized. Capitala Finance Corp. Date: March 4, 2015 By/s/ Joseph B. Alala IIIJoseph B. Alala IIIChief Executive Officer(Principal Executive Officer)Capitala Finance Corp.Date: March 4, 2015 By/s/ Stephen A. ArnallStephen A. ArnallChief Financial Officer(Principal Financial and Accounting Officer)Capitala Finance Corp.Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the followingpersons on behalf of the registrant and in the capacities and on the dates indicated. Signature Title Date/s/ Joseph B. Alala IIIJoseph B. Alala III Chief Executive Officer, President and Chairman of theBoard of Directors(Principal Executive Officer) March 4, 2015/s/ Stephen A. ArnallStephen A. Arnall Chief Financial Officer(Principal Financial and Accounting Officer) March 4, 2015/s/ M. Hunt BroyhillM. Hunt Broyhill Director March 4, 2015/s/ R. Charles MoyerR. Charles Moyer Director March 4, 2015/s/ Larry W. CarrollLarry W. Carroll Director March 4, 2015/s/ H. Paul ChapmanH. Paul Chapman Director March 4, 201589 Exhibit 21.1List of SubsidiariesCapitalSouth Partners Florida Sidecar Fund I, L.P. (Delaware)CSP-Florida Mezzanine Fund I, LLC (North Carolina)CapitalSouth Partners Fund II Limited Partnership (North Carolina)CapitalSouth Partners F-II, LLC (North Carolina)CapitalSouth Partners SBIC Fund III, L.P. (Delaware)CapitalSouth Partners SBIC F-III, LLC (North Carolina) Exhibit 31.1CERTIFICATION OF CHIEF EXECUTIVE OFFICERPURSUANT TO RULE 13a-14 OF THE SECURITIES EXCHANGE ACT OF 1934AS ADOPTED PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002I, Joseph B. Alala III, certify that:1.I have reviewed this Annual Report on Form 10-K of Capitala Finance Corp.;2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material factnecessary to make the statements made, in light of the circumstances under which such statements were made, notmisleading with respect to the period covered by this report;3.Based on my knowledge, the consolidated financial statements, and other financial information included in this report,fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, andfor, the periods presented in this report;4.The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls andprocedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (asdefined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:(a)Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designedunder our supervision, to ensure that material information relating to the registrant, is made known to us by otherswithin those entities, particularly during the period in which this report is being prepared;(b)Designed such internal control over financial reporting, or caused such internal control over financial reporting to bedesigned under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and thepreparation of financial statements for external purposes in accordance with generally accepted accounting principles;(c)Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report ourconclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered bythis report based on such evaluation;(d)Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during theregistrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that hasmaterially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting;and5.The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control overfinancial reporting, to the registrant’s auditors and the audit committee of the registrant’s Board of Directors (or personsperforming the equivalent functions):(a)All significant deficiencies and material weaknesses in the design or operation of internal control over financialreporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and reportfinancial information; and(b)Any fraud, whether or not material, that involves management or other employees who have a significant role in theregistrant’s internal control over financial reporting.Date: March 4, 2015/s/ Joseph B. Alala IIIJoseph B. Alala IIIChief Executive Officer(Principal Executive Officer)Capitala Finance Corp. Exhibit 31.2CERTIFICATION OF CHIEF FINANCIAL OFFICERPURSUANT TO RULE 13a-14 OF THE SECURITIES EXCHANGE ACT OF 1934AS ADOPTED PURSUANT TO SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002I, Stephen A. Arnall, certify that:1.I have reviewed this Annual Report on Form 10-K of Capitala Finance Corp.;2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material factnecessary to make the statements made, in light of the circumstances under which such statements were made, notmisleading with respect to the period covered by this report;3.Based on my knowledge, the consolidated financial statements, and other financial information included in this report,fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, andfor, the periods presented in this report;4.The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls andprocedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (asdefined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:(a)Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designedunder our supervision, to ensure that material information relating to the registrant, is made known to us by otherswithin those entities, particularly during the period in which this report is being prepared;(b)Designed such internal control over financial reporting, or caused such internal control over financial reporting to bedesigned under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and thepreparation of financial statements for external purposes in accordance with generally accepted accounting principles;(c)Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report ourconclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered bythis report based on such evaluation;(d)Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during theregistrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that hasmaterially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting;and5.The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control overfinancial reporting, to the registrant’s auditors and the audit committee of the registrant’s Board of Directors (or personsperforming the equivalent functions):(a)All significant deficiencies and material weaknesses in the design or operation of internal control over financialreporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and reportfinancial information; and(b)Any fraud, whether or not material, that involves management or other employees who have a significant role in theregistrant’s internal control over financial reporting.Date: March 4, 2015/s/ Stephen A. ArnallStephen A. ArnallChief Financial Officer(Principal Financial and Accounting Officer)Capitala Finance Corp. Exhibit 32.1CERTIFICATION OF CHIEF EXECUTIVE OFFICER18 U.S.C. SECTION 1350,AS ADOPTED PURSUANT TOSECTION 906 OF THE SARBANES-OXLEY ACT OF 2002In connection with the Annual Report on Form 10-K of Capitala Finance Corp. (the “Company”) for the annual period endedDecember 31, 2014, as filed with the Securities Exchange Commission on the date hereof (the “Report”), I, Joseph B. Alala III,Chief Executive Officer of the Company, certify, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:1.The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, asamended; and2.The information contained in the Report fairly presents, in all material respects, the financial condition and results ofoperations of the Company.Date: March 4, 2015/s/ Joseph B. Alala IIIJoseph B. Alala IIIChief Executive Officer(Principal Executive Officer)Capitala Finance Corp. Exhibit 32.2CERTIFICATION OF CHIEF FINANCIAL OFFICER18 U.S.C. SECTION 1350,AS ADOPTED PURSUANT TOSECTION 906 OF THE SARBANES-OXLEY ACT OF 2002In connection with the Annual Report on Form 10-K of Capitala Finance Corp. (the “Company”) for the annual period endedDecember 31, 2014, as filed with the Securities Exchange Commission on the date hereof (the “Report”), I, Stephen A. Arnall,Chief Financial Officer of the Company, certify, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:1.The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934, asamended; and2.The information contained in the Report fairly presents, in all material respects, the financial condition and results ofoperations of the Company.Date: March 4, 2015/s/ Stephen A. ArnallStephen A. ArnallChief Financial Officer(Principal Financial and Accounting Officer)Capitala Finance Corp.

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