** **

**UNITED STATES** SECURITIES AND EXCHANGE COMMISSION

**WASHINGTON,DC 20549**

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**FORM 10-K**

**(Mark One)**

**x**                              ANNUALREPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF1934

**                                               **for the fiscal year ended March 31, 2007

**OR**

** **

**o**                                 TRANSITIONREPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF1934

**                                               **for the transition period from               to               

** **

**Commission file number**814-00704

** **

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** **

**GLADSTONE INVESTMENT CORPORATION**

(Exact name of registrant as specified in its charter)

 

| **Delaware**                                                     |   | **83-0423116**                        |
|------------------------------------------------------------------|--------|---------------------------------------|
| (State or other  jurisdiction of  incorporation or organization) |   | (I.R.S. Employer  Identification No.) |
|                                                             |   |                                  |
| **1521  Westbranch Drive, Suite 200  McLean, Virginia**          |   | **22102**                             |
| (Address of  principal executive offices)                        |   | (Zip Code)                            |

 

**(703) 287-5800**(Registrant’s telephone number, including area code)

 

Securities registered pursuant toSection 12(b) of the Act:

| **Common Stock, $0.001 par value per share** |   | **NASDAQ  Global Market**               |
|----------------------------------------------|--------|-----------------------------------------|
| (Title of each  class)                       |   | (Name of  exchange on which registered) |

 

Securities registered pursuant to Section 12(g)of the Act: **None**

Indicate by check mark if the registrant is awell-known seasoned issuer, as defined in Rule 405 of the Securities ActYES  o  NO  x

Indicate by check if the registrant is not requiredto file reports pursuant to Section 13 or Section 15 (d) of the Act. YES o  NO  x

Indicate by check mark whether the registrant(1) has filed all reports required to be filed by Section 13 or 15(d)of the Securities Exchange Act of 1934 during the preceding 12 months (orfor such shorter period that the registrant was required to file such reports),and (2) has been subject to such filing requirements for the past90 days.   YES  x  NO  o

Indicate by check mark if disclosure of delinquentfilers pursuant to Item 405 of Regulation S-K is not contained herein, andwill not be contained, to the best of registrant’s knowledge, in definitiveproxy or information statements incorporated by reference in Part III ofthis 10-K or any amendment to this Form 10-K. x

Indicate by check mark whether the registrant is alarge accelerated filer, an accelerated filer, or a non-accelerated filer (asdefined in Rule 12b-2 of the Exchange Act).

Large Accelerated Filer o            AcceleratedFiler x            Non-AcceleratedFiler o.

Indicate bycheck mark whether the registrant is a shell company (as defined in Rule 12 b-2of the Exchange Act). YES  o  NO  x.

The aggregate market value of the voting stock heldby non-affiliates of the Registrant on September 29, 2006, based on the closingprice on that date of $14.60 on the NASDAQ Global Market, was $239,791,663. Forthe purposes of calculating this amount only, all directors and executiveofficers of the Registrant have been treated as affiliates.

There were 16,560,100 shares of the Registrant’sCommon Stock, $0.001 par value, outstanding as of May 30, 2007.

**Documents Incorporated byReference.** Portions ofthe Registrant’s Proxy Statement relating to the Registrant’s 2007 AnnualMeeting of Stockholders are incorporated by reference into Part III ofthis Report.

 

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**GLADSTONE INVESTMENT CORPORATIONFORM 10-K FOR THE FISCAL YEAR ENDEDMARCH 31, 2007**

**TABLE OFCONTENTS**
| PART I     |   | Item 1   |   | Business                                                                                                                |   |   |
|------------|--------|----------|--------|-------------------------------------------------------------------------------------------------------------------------|--------|--------|
|       |   | Item 1A  |   | Risk Factors                                                                                                            |   |   |
|       |   | Item 1B  |   | Unresolved Staff Comments                                                                                               |   |   |
|       |   | Item 2   |   | Properties                                                                                                              |   |   |
|       |   | Item  3  |   | Legal  Proceedings                                                                                                      |   |   |
|       |   | Item 4   |   | Submission of Matters to a Vote of Security Holders                                                                     |   |   |
| PART II    |   | Item 5   |   | Market for Registrant’s Common Equity, Related Stockholder  Matters and Issuer Purchases of Equity Securities |   |   |
|       |   | Item 6   |   | Selected Financial Data                                                                                                 |   |   |
|       |   | Item 7   |   | Management’s Discussion and Analysis of Financial  Condition and Results of Operations                   |   |   |
|       |   | Item 7A  |   | Quantitative and Qualitative Disclosures about Market  Risk                                                             |   |   |
|       |   | Item 8   |   | Financial Statements and Supplementary Data                                                                             |   |   |
|       |   | Item 9   |   | Changes in and Disagreements with Accountants on  Accounting and Financial Disclosure                              |   |   |
|       |   | Item 9A  |   | Controls and Procedures                                                                                                 |   |   |
|       |   | Item  9B |   | Other  Information                                                                                                      |   |   |
| PART III   |   | Item 10  |   | Directors, Executive Officers and Corporate Governance                                                                  |   |   |
|       |   | Item 11  |   | Executive Compensation                                                                                                  |   |   |
|       |   | Item 12  |   | Security Ownership of Certain Beneficial Owners and  Management and Related Stockholder Matters                    |   |   |
|       |   | Item 13  |   | Certain Relationships and Related Transactions and  Director Independence                                               |   |   |
|       |   | Item 14  |   | Principal Accountant Fees and Services                                                                                  |   |   |
| PART IV    |   | Item 15  |   | Exhibits and Financial Statement Schedules                                                                              |   |   |
| SIGNATURES |   |     |   |                                                                                                                    |   |   |

 

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**FORWARD-LOOKING STATEMENTS**

*All statements contained herein, other than historical facts, mayconstitute “forward-lookingstatements” within the meaning of Section 27A of the Securities Act of 1933, as amended, andSection 21E of the Securities Exchange Act of 1934, as amended. These statements may relate to, among otherthings, future events or our future performance or financial condition. In somecases, you can identify forward-looking statements by terminology such as “may,”“might,” “believe,” “will,” “provided,” “anticipate,” “future,” “could,” “growth,”“plan,” “intend,” “expect,” “should,” “would,” “if,” “seek,” “possible,” “potential,”“likely” or the negative of such terms or comparable terminology. Theseforward-looking statements involve known and unknown risks, uncertainties andother factors that may cause our actual results, levels of activity,performance or achievements to be materially different from any future results,levels of activity, performance or achievements expressed or implied by suchforward-looking statements. Such factors include, among others:(1) adverse changes in interest rates; (2) our failure or inabilityto establish or maintain referral arrangements with leveraged buyout funds andventure capital funds to generate loan opportunities; (3) the loss of oneor more of our executive officers, in particular David Gladstone, Terry LeeBrubaker, or George Stelljes III; (4) our inability to extend, refinance,or maintain our credit facilities on terms reasonably acceptable to us, if atall, in future equity capital resources; (5) our inability to successfullysecuritize our loan portfolio on terms reasonably acceptable to us, if at all;(6) the decision of our competitors to aggressively seek to make seniorand subordinated loans to small and medium-sized businesses on terms morefavorable than we intend to provide; and (7) those factors listed underthe caption “Risk Factors” section of this Form 10-K. We caution readers not toplace undue reliance on any such forward-looking statements, which are madepursuant to the Private Securities Litigation Reform Act of 1995 and, as such,speak only as of the date made. We undertake no obligation to publicly update or revise any forward-lookingstatements, whether as a result of new information, future events or otherwise, after the date of this Form 10-K.*

**PART I**

**Item 1. Business**

**Overview**

We were incorporatedunder the General Corporation Laws of the State of Delaware on February 18,2005. On June 22, 2005 we completed an initial public offering and commencedoperations.  We were primarilyestablished for the purpose of investing in subordinated loans, mezzanine debt,preferred stock and warrants to purchase common stock of small and medium-sizedcompanies in connection with buyouts and other recapitalizations. We alsoinvest in senior secured loans and common stock and, from time to time, we mayalso invest in senior and subordinated syndicated loans. Our investmentobjective is to generate both current income and capital gains through these debtand equity instruments. We operate as a closed-end, non-diversified managementinvestment company and have elected to be treated as a business developmentcompany (“BDC”) under the Investment Company Act of 1940 as amended, which werefer to in this annual report as the 1940 Act.

**Our Investment Strategy**

We seekto achieve returns from current income from senior, subordinated and mezzaninedebt, and capital gains from preferred stock and warrants to purchase commonstock that we purchase in connection with buyouts and recapitalizations ofsmall and mid-sized companies with established management teams.  Ourinvestments generally range between $5 million and $30 million each,although this investment size may vary proportionately as the size of ourcapital base changes. We invest either by ourselves or jointly with otherbuyout funds and/or management of the portfolio company, depending on theopportunity. If we are participating in an investment with one or moreco-investors, then our investment is likely to be smaller than if we were to beinvesting alone.

Weexpect that our target portfolio over time will include mostly subordinatedloans, mezzanine debt, preferred stock, and warrants to buy common stock.Structurally, subordinated loans and mezzanine loans usually rank lower inpriority of payment to senior debt, such as senior bank debt, and may beunsecured. However, subordinated debt and mezzanine loans rank senior to commonand preferred equity in a borrower’s capital structure. Typically, subordinateddebt and mezzanine loans have elements of both debt and equity instruments,offering returns in the form of interest payments associated with senior debt,while providing lenders an opportunity to participate in the capitalappreciation of a borrower, if any, through an equity position. Due to itshigher risk profile and often less restrictive covenants as compared to seniordebt, mezzanine debt generally earns a higher return than senior secured debt.Any warrants associated with mezzanine loans are typically detachable, whichallows lenders to receive repayment of their principal on an agreedamortization schedule while retaining their equity interest in the borrower.Mezzanine debt also may include a “put” feature, which permits the holder tosell its equity interest back to the borrower at a price determined through apre-determined formula.

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**Our Investments**

*Non-Control/Non-Affiliate Investments*

Followingthe completion of our initial public offering in June 2005, we began investingsuch proceeds in senior secured syndicated loans because these investmentstypically may be originated more quickly than investments in small businessesthat are undergoing a buyout or recapitalization. We employed this strategy inorder to more quickly invest our initial capital to generate current income.Senior secured syndicated loans typically involve a number of banks or otherfinancial institutions and are generally more marketable than loans that arenot syndicated. In order to invest in certain senior secured syndicated loans,we may purchase these investments at a premium or discount. We amortizepremiums and discounts over the contractual life of the investment. In theevent that an investment is sold prior to its contractual maturity date, werecognize a loss on any unamortized premium or a gain on any unamortizeddiscount.

While we expectthat, over time, our investment portfolio will consist primarily ofsubordinated debt, mezzanine debt and preferred and common stock that wereceive when making investments in connection with buyouts andrecapitalizations, our Board of Directors has recommended that we continue ourcurrent strategy of investing in senior syndicated loans, primarily in order tobuild a portfolio that may be securitized in the future to obtain financing topay down borrowings and invest in additional buyout and recapitalizationinvestments.  At March 31, 2007, we hadinvestments in 41 such syndicated loans. There can be no guarantee that we will be able to successfullysecuritize any loans in our portfolio.

At March 31, 2007 and 2006, we held investments inNon-Control/Non-Affiliates of approximately $138.6 million and $97.4 million,at cost, respectively.  These investmentsall represent syndicated loan participations of senior notes of both public andprivate companies representing approximately 62% and 42% of our net assets atMarch 31, 2007 and 2006, respectively.  Weexpect to continue purchasing such syndicated loans using borrowings from ourcredit facility.

*Control and Affiliate Investments*

At March31, 2007, we had investments of approximately $107.5 million, at cost, inrevolving credit facilities, senior debt and subordinated debt of six portfoliocompanies.  In addition, at March 31, 2007, we had invested approximately$28.6 million in preferred and common equity of those companies. Theseinvestments are the result of buyout and recapitalization transactions andrepresent our primary investment focus. A summary of the investments madeduring the year ended March 31, 2007 is as follows:

·                  $22.6million in Acme Cryogenics Inc., including senior subordinated debt of $14.5million, $7.0 million in preferred equity and $1.1 million in common equity.

·                  $19.8 millionin Noble Logistics, Inc., including senior debt of $14.0 million, seniorsubordinated debt of $0.5 million, a revolving credit facility of $2.0 million,which was fully drawn at March 31, 2007, $1.8 million in preferred equity and$1.5 million in common equity.

·                  $36.0 millionin A. Stucki Holding Corp., including senior debt of $26.0 million, seniorsubordinated debt of $5.5 million, $4.4 million in preferred equity and $0.1million in common equity.

Approximately76% of the aggregate  value of ourinvestment portfolio at March 31, 2007 was comprised of senior debt,approximately 9% was senior subordinated debt, approximately 5% wassubordinated debt and approximately 10% was preferred and common equitysecurities.  At March 31, 2007, we hadapproximately $275 million invested in 47 portfolio companies.  The following table outlines our investmentsby type at March 31, 2007 and 2006:
| ** **                                | ** ** | **March 31, 2007** | ** **  | **March 31, 2006** | ** ** |
|-------------------------------------------|------------|------------------------------|-------------|------------------------------|------------|
| ** **                                | ** ** | **Cost**                     | ** **  | **Fair Value**          | ** ** | **Cost** | ** ** | **Fair Value** | ** ** |
| Senior Term Debt                          |       | $                            | 207,367,741 |                         | $          | 206,981,112 |   | $ | 122,323,004 |   | $ | 122,485,972 |   |
| Senior  Subordinated Term Debt            |       | 24,485,760                   |        | 24,467,635                   |       | 4,000,000 |   | 3,950,000 |   |
| Subordinated  Term Debt                   |       | 14,167,810                   |        | 14,167,810                   |       | 14,167,810 |   | 14,167,810 |   |
| Preferred &  Common Equity Securities |       | 28,598,802                   |        | 25,331,046                   |       | 12,778,508 |   | 12,778,508 |   |
| Total  Investments                        |       | $                            | 274,620,113 |                         | $          | 270,947,603 |   | $ | 153,269,322 |   | $ | 153,382,290 |   |

 

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Investmentsat fair value consisted of the following industry classifications at March 31,2007 and 2006:
| ** **                                    | ** ** | **March 31, 2007** | ** **  | **March 31, 2006** | ** ** |
|-----------------------------------------------|------------|------------------------------|-------------|------------------------------|------------|
| ** **                                    | ** ** | ** **                   | ** **  | **Percentage of**       | ** ** | ** ** | ** ** | **Percentage of** | ** ** |
| ** **                                    | ** ** | **Fair  Value**              | ** **  | **Total  Investments**       | ** ** | **Net  Assets** | ** ** | **Fair  Value** | ** ** | **Total  Investments** | ** ** | **Net  Assets** | ** ** |
|                                          |       |                         |        |                         |       |   |   |   |   |   |   |   |   |
| Automobile                                    |       | $                            | 8,504,666   |                         | 3.1        | % | 3.8 | % | $ | 6,450,000 |   | 4.2 | % | 2.8 | % |
| Beverage, Food  & Tobacco                 |       | 3,413,874                    |        | 1.3                          | %          | 1.5 | % | 5,074,713 |   | 3.3 | % | 2.2 | % |
| Buildings &  Real Estate                  |       | 3,003,750                    |        | 1.1                          | %          | 1.3 | % | — |   | — |   | — |   |
| Cargo Transport                               |       | 21,844,463                   |        | 8.1                          | %          | 9.8 | % | 5,513,337 |   | 3.6 | % | 2.4 | % |
| Chemicals,  Plastics & Rubber             |       | 22,535,527                   |        | 8.3                          | %          | 10.1 | % | — |   | — |   | — |   |
| Containers,  Packaging and Glass              |       | 999,975                      |        | 0.4                          | %          | 0.4 | % | 10,061,087 |   | 6.6 | % | 4.4 | % |
| Diversified/Conglomerate  Manufacturing       |       | 32,563,400                   |        | 12.0                         | %          | 14.6 | % | 42,055,734 |   | 27.4 | % | 18.3 | % |
| Diversified/Conglomerate  Service             |       | 27,374,081                   |        | 10.1                         | %          | 12.3 | % | 12,917,129 |   | 8.4 | % | 5.6 | % |
| Electronics                                   |       | 6,758,294                    |        | 2.5                          | %          | 3.0 | % | 10,049,063 |   | 6.6 | % | 4.4 | % |
| Healthcare,  Education and Childcare          |       | 31,296,111                   |        | 11.6                         | %          | 14.0 | % | 12,417,214 |   | 8.1 | % | 5.4 | % |
| Home & Office  Furnishings                |       | 17,105,808                   |        | 6.3                          | %          | 7.7 | % | 15,256,318 |   | 9.9 | % | 6.6 | % |
| Machinery                                     |       | 41,480,716                   |        | 15.3                         | %          | 18.6 | % | — |   | — |   | — |   |
| Oil & Gas                                 |       | 3,851,943                    |        | 1.4                          | %          | 1.7 | % | 2,999,981 |   | 2.0 | % | 1.3 | % |
| Personal,  Non-durable Consumer Products      |       | 1,492,472                    |        | 0.6                          | %          | 0.7 | % | — |   | — |   | — |   |
| Personal  Transportation                      |       | —                       |        | —                       |       | — |   | 876,560 |   | 0.6 | % | 0.4 | % |
| Personal, Food,  & Miscellaneous Services |       | 16,905,483                   |        | 6.2                          | %          | 7.6 | % | 9,984,478 |   | 6.5 | % | 4.3 | % |
| Printing,  Publishing, Broadcasting           |       | 18,590,084                   |        | 6.9                          | %          | 8.3 | % | 10,774,827 |   | 7.0 | % | 4.7 | % |
| Retail Stores                                 |       | 1,407,018                    |        | 0.5                          | %          | 0.6 | % | — |   | — |   | — |   |
| Telecommunications                            |       | 9,246,854                    |        | 3.4                          | %          | 4.1 | % | 5,829,062 |   | 3.8 | % | 2.5 | % |
| Textiles &  Leather                       |       | 2,573,084                    |        | 0.9                          | %          | 1.2 | % | 3,122,787 |   | 2.0 | % | 1.4 | % |
| Total Investments                             |       | $                            | 270,947,603 |                         | 100        | % |   |   | $ | 153,382,290 |   | 100 | % |   |   |

 

Theinvestments at fair value consisted of the following geographic regions of theUnited States at March 31, 2007 and 2006:
| ** **        | ** ** | **March 31, 2007** | ** **  | **March 31, 2006** | ** ** |
|-------------------|------------|------------------------------|-------------|------------------------------|------------|
| ** **        | ** ** | ** **                   | ** **  | **Percentage of**       | ** ** | ** ** | ** ** | **Percentage of** | ** ** |
| ** **        | ** ** | **Fair  Value**              | ** **  | **Total  Investments**       | ** ** | **Net  Assets** | ** ** | **Fair  Value** | ** ** | **Total  Investments** | ** ** | **Net  Assets** | ** ** |
| Mid-Atlantic      |       | $                            | 94,257,169  |                         | 34.8       | % | 42.3 | % | $ | 55,442,199 |   | 36.1 | % | 24.1 | % |
| Midwest           |       | 88,508,725                   |        | 32.7                         | %          | 39.7 | % | 51,107,864 |   | 33.3 | % | 22.2 | % |
| Northeast         |       | 14,879,654                   |        | 5.5                          | %          | 6.7 | % | 4,359,125 |   | 2.8 | % | 1.9 | % |
| Southeast         |       | 36,357,555                   |        | 13.4                         | %          | 16.3 | % | 30,966,852 |   | 20.2 | % | 13.5 | % |
| West              |       | 36,944,500                   |        | 13.6                         | %          | 16.6 | % | 11,506,250 |   | 7.5 | % | 5.0 | % |
| Total Investments |       | $                            | 270,947,603 |                         | $          | 100.0 | % |   |   | $ | 153,382,290 |   | 100.0 | % |   |   |
|                   |            |                              |             |                              |            |  |  |  |  |  |  |  |  |  |  |  |

 

Thegeographic region depicts the location of the headquarters for the Company’sportfolio companies.  A portfolio companymay have a number of other business locations in other geographic regions.

**Our Investment Adviser and Administrator**

GladstoneManagement Corporation (the “Adviser”) is led by a management team which hasextensive experience in our lines of business. All of our executive officersare officers or directors, or both, of our Adviser. Our Adviser also has awholly-owned subsidiary, Gladstone Administration, LLC (the “Administrator”),which employs our chief financial officer, chief compliance officer,controller, treasurer and their respective staffs.

OurAdviser and Administrator also provide investment advisory and administrativeservices, respectively, to our affiliates Gladstone Commercial Corporation, apublicly traded real estate investment trust; Gladstone Capital Corporation, apublicly traded business development company; and Gladstone Land Corporation,an agricultural real estate company owned by Mr. Gladstone. All of ourdirectors and executive officers serve as either directors or executiveofficers, or both, of Gladstone Commercial Corporation and Gladstone CapitalCorporation. In the future, our Adviser may provide investment advisory andadministrative services to other funds, both public and private, of which it isthe sponsor.

We havebeen externally managed by our Adviser pursuant to an investment advisory andmanagement agreement since our inception. Our Adviser was organized as acorporation under the laws of the State of Delaware on July 2, 2002, andis a registered investment adviser under the Investment Advisers Act of 1940,as amended. Our Adviser and our Administrator are headquartered in McLean,Virginia, a suburb of Washington D.C., and our Adviser has offices in thestates of New York, New Jersey, Pennsylvania, Illinois, Texas, Kentucky and Washington.

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**Investment Process**

***Overview of Investment and Approval Process***

Tooriginate investments, our Adviser’s investment professionals use an extensivereferral network comprised primarily of venture capitalists, leveraged buyoutfunds, investment bankers, attorneys, accountants, commercial bankers andbusiness brokers.  Our Adviser’sinvestment professionals review information received from these and othersources in search of potential financing opportunities.  If a potential opportunity matches our investmentobjectives, the investment professionals will seek an initial screening of theopportunity from our Adviser’s investment committee, which is composed ofMessrs. Gladstone, Brubaker and Stelljes. If the prospective portfolio company passes this initial screening, theinvestment professionals conduct a due diligence investigation and create adetailed profile summarizing the prospective portfolio company’s historicalfinancial statements, industry and management team and analyzing its conformityto our general investment criteria. The investment professionals then presentthis profile to our Adviser’s investment committee, which must approve eachinvestment.  Further, each financing isreviewed and approved by the members of our Board of Directors, a majority ofwhom are not “interested persons” as defined in Section 2(a)(19) of the 1940Act.

***Prospective portfolio company characteristics***

Wehave identified certain characteristics that we believe are important inidentifying and investing in prospective portfolio companies. The criterialisted below provide general guidelines for our investment decisions, althoughnot all of these criteria may be met by each portfolio company.

·                  *Value-and-IncomeOrientation and Positive Cash Flow.* Our investment philosophy places a premium on fundamental analysis froman investor’s perspective and has a distinct value-and-income orientation. Inseeking value, we focus on companies in which we can invest at relatively lowmultiples of earnings before interest, taxes, depreciation and amortization, (“EBITDA”),and that have positive operating cash flow at the time of investment. Inseeking income, we seek to invest in companies that generate relatively highand stable cash flow to provide some assurance that they will be able toservice their debt and pay any required dividends on preferred stock.Typically, we do not expect to invest in start-up companies or companies withspeculative business plans.

·                  *Experienced Management*.  We generally require that our portfolio companieshave experienced management teams. We also require the portfolio companies tohave in place proper incentives to induce management to succeed and to act inconcert with our interests as investors, including having significant equity orother interests in the financial performance of their companies.

·                  *Strong Competitive Positionin an Industry.* We seek toinvest in target companies that have developed strong market positions withintheir respective markets and that we believe are well-positioned to capitalizeon growth opportunities. We seek companies that demonstrate significantcompetitive advantages versus their competitors, which we believe will help toprotect their market positions and profitability.

·                  *Exit Strategy.* We seek to invest in companies that we believe will provide a stable stream ofcash flow that is sufficient to repay the loans we make to them and to reinvestin their respective businesses. We expect that such internally generated cashflow, which will allow our portfolio companies to pay interest on, and repaythe principal of, our investments, will be a key means by which we exit fromour investments over time. In addition, we will also seek to invest incompanies whose business models and expected future cash flows offer attractivepossibilities for capital appreciation on any equity interests we may obtain orretain. These capital appreciation possibilities include strategic acquisitionsby other industry participants or financial buyers, initial public offerings ofcommon stock, or other capital market transactions.

·                  *Liquidation Value of Assets*. The prospective liquidation value of the assets, if any, collateralizing loansin which we invest is an important factor in our investment analysis. Weemphasize both tangible assets, such as accounts receivable, inventory,equipment, and real estate and intangible assets, such as intellectualproperty, customer lists, networks, and databases, although the relative weightwe place on these asset classes will vary by company and industry.

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***Extensive Due Diligence***

OurAdviser conducts what we believe are extensive due diligence investigations ofour prospective portfolio companies and investment opportunities.  Our due diligence investigation of aprospective portfolio company may begin with a review of publicly availableinformation, and generally includes some or all of the following:

·                  areview of the prospective portfolio company’s historical and projectedfinancial information;

·                  visitsto the prospective portfolio company’s business site(s);

·                  interviewswith the prospective portfolio company’s management, employees, customers andvendors;

·                  reviewof all loan documents;

·                  backgroundchecks on the prospective portfolio company’s management team; and

·                  researchon the prospective portfolio company’s products, services or particularindustry.

Upon completion of a duediligence investigation and a decision to proceed with an investment in abuyout or other recapitalization, our Adviser’s investment professionals whohave primary responsibility for the investment present the investmentopportunity to our Adviser’s investment committee, which consists ofMessrs. Gladstone, Brubaker and Stelljes. The investment committeedetermines whether to pursue the potential investment. Additional due diligenceof a potential investment may be conducted on our behalf by attorneys andindependent accountants prior to the closing of the investment, as well asother outside advisers, as appropriate.

Wealso rely on the long-term relationships that our Adviser’s investmentprofessionals have with venture capitalists, leveraged buyout funds, investmentbankers, commercial bankers and business brokers, and on the extensive directexperiences of our executive officers and managing directors in providing debtand equity capital to small and medium-sized private businesses.

***Investment Structure***

Once we have determinedthat a prospective acquisition, buyout or recapitalization meets our standardsand investment criteria, we work with the management of that company and othercapital providers to structure the transaction in a way that provides us thegreatest opportunity to maximize our return on the investment, while providingappropriate incentives to management of the company.

*Subordinated Debt and Mezzanine Debt. *Weanticipate that over time, the majority of the capital that we invest will bein the form of subordinated or mezzanine debt. Most of our mezzanine loans areunsecured loans while most of the subordinated loans are collateralized by asubordinated lien on some or all of the assets of the borrower. We structuremost of our mezzanine and subordinated loans with variable interest rates;however some of such of our loans are fixed rate loans. In either event, westructure the loans at relatively high rates of interest that provide us withsignificant current interest income. Our subordinated and mezzanine loanstypically have maturities of five to ten years and provide for interest-onlypayments in the early years, with amortization of principal deferred to the lateryears of the mezzanine loans. In some cases, we may enter into loans that, bytheir terms, convert into equity or additional debt securities or deferpayments of interest for the first few years after our investment, however,none of our loans to date are convertible into such debt or equity securities.

We generally target acurrent return of 10% to 14% for our subordinated and mezzanine loaninvestments before giving effect to any warrants that we may receive inconnection with these loans. We cannot give any assurance that our returns willapproximate these estimates.

Our subordinated andmezzanine debt investments may include equity features, such as warrants oroptions to buy a significant common stock ownership interest in the portfoliocompany or success fees if the business is sold. If a portfolio companyappreciates in value, we may achieve additional investment returns from anyequity interests we hold. If we are a minority interest holder, we maystructure the warrants to provide provisions protecting our rights as aminority-interest holder such as the right to sell the warrants back to thecompany upon the occurrence of specified events. In many cases, we also obtainregistration rights in connection with these equity interests, which may includedemand and co- registration rights.

*Senior Secured Debt.*We also providesenior secured acquisition financing for some portfolio companies. We typicallystructure these senior secured loans to have terms of three to ten years, andthey may provide for deferred interest payments in the first few years of theterm of the loan. We generally obtain security interests in the assets of ourportfolio companies that will serve as collateral in support of the repaymentof these senior loans. This collateral usually takes the form of first priorityliens on the assets of the portfolio company. The interest rates on our seniorsecured loans are generally variable rates ranging between 2% and 5% over theLondon Interbank Offer Rate (“LIBOR”).

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*Common and Preferred Stock.*We alsoacquire common or preferred stock in connection with a buyout orrecapitalization. With respect to preferred or common stock investments, wetarget an investment return substantially higher than our investments in senioror subordinated loans. However, we can offer no assurance that we can achievesuch a return with respect to any investment or our portfolio as a whole. Thefeatures of the preferred stock we receive vary by transaction, but may includepriority dividend rights, superior voting rights, redemption rights,liquidation preferences and other provisions intended to protect our interests.Generally speaking, common stock does not have any current income and its valueis realized, if at all, upon the sale of the business or following the company’sinitial public offering.

*Risk Management.*****Weseek to limit the downside risk of our investments by:

·                  makinginvestments with an expected total return on our investments (including bothinterest and potential equity appreciation) that we believe compensates us forthe credit risk of the investment;

·                  seekingcollateral or superior positions in the portfolio company’s capital structurewhere possible;

·                  incorporatingput rights and call protection into the investment structure where possible; and

·                  negotiatingcovenants in connection with our investments that afford our portfoliocompanies as much flexibility as possible in managing their businesses,consistent with the preservation of our capital.

We expect to hold most ofour investments in subordinated debt and mezzanine debt until maturity orrepayment, but will sell our investments earlier if a liquidity event takesplace, such as the sale or recapitalization of a portfolio company or, in thecase of an equity investment in a company, its initial public offering.Occasionally, we may sell some or all of our subordinated debt, mezzanine debtor equity interests in a portfolio company to a third party, such as anexisting investor in the portfolio company, through a privately negotiatedtransaction.

As described above, wemay also provide senior debt in addition to subordinated debt and equity inconnection with an acquisition. Finally, we may attempt to securitize some ofthe debt securities in our portfolio and if we do so, these loans would betransferred to a securitization vehicle and generally would be held by thesecuritization vehicle until maturity.

***Temporary Investments***

Pendinginvestment in the debt of private companies, we invest our otherwise uninvestedcash primarily in cash, cash items, government securities or high-quality debtsecurities maturing in one year or less from the time of investment, to whichwe refer collectively as temporary investments, so that at least 70% of ourassets are “qualifying assets,” for purposes of the business developmentcompany provisions of the 1940 Act. For information regarding regulations towhich we are subject and the definition of “qualifying assets,” see “Regulation.”

**Competitive Advantages**

We believe that we havethe following competitive advantages over other companies that provide capitalto small and mid-sized companies in connection with buyout and recapitalizationtransactions:

***Management Expertise***

David Gladstone, ourchairman and chief executive officer, is also the chairman and chief executiveofficer of our Adviser and its affiliated companies (the “Gladstone Companies”),and has been involved in all aspects of the Gladstone Companies’ investmentactivities, including serving as a member of our Adviser’s investmentcommittee. Terry Lee Brubaker is our vice chairman and has substantialexperience in acquisitions and operations of companies. GeorgeStelljes III is our president and has extensive experience in leveragedfinance. Messrs. Gladstone, Brubaker and Stelljes have principal managementresponsibility for our Adviser as its senior executive officers. Theseindividuals dedicate a significant portion of their time to managing ourinvestment portfolio. Our senior management has extensive experience providingcapital to small and mid-sized companies and has worked together for more than10 years. In addition, we have access to the resources and expertise ofour Adviser’s investment professionals and supporting staff who possess a broadrange of transactional, financial, managerial, and investment skills. We expectthat our Adviser will continue to hire additional investment professionals inthe future.

As a result of theextensive investment experience of our Adviser, its executive officers andother investment professionals, our Adviser and its executive officers havedeveloped a positive reputation in the capital markets. We believe that thisreputation and experience, together with the experience of the executiveofficers of our Adviser in investing in debt and equity securities, and managinginvestments in companies, affords us a competitive advantage in identifyingopportunities to invest in small and mid-sized companies.

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***Increased access to investment opportunities developedthrough proprietary research capability and extensive network of contacts***

Our Adviser seeks toidentify potential investments both through active origination and duediligence and through its dialogue with numerous management teams, members ofthe financial community and potential corporate partners with whom our Adviser’sinvestment professionals have long-term relationships. We believe that ourAdviser’s investment professionals have developed a broad network of contactswithin the investment, commercial banking, private equity and investmentmanagement communities, and that their reputation in investment managementenables us to identify well-positioned prospective portfolio companies whichprovide attractive investment opportunities. Additionally, our Adviser expectsto generate information from its professionals’ network of accountants,consultants, lawyers and management teams of portfolio companies and othercompanies.

***Disciplined, value-and-income-oriented investment philosophywith a focus on preservation of capital***

In making its investmentdecisions, our Adviser focuses on the risk and reward profile of eachprospective portfolio company, seeking to minimize the risk of capital losswithout foregoing the potential for capital appreciation. We expect our Adviserto use the same value-and-income-oriented investment philosophy that itsprofessionals use in the management of the other Gladstone Companies and tocommit resources to management of downside exposure. Our Adviser’s approachseeks to reduce risk in investments by using some or all of the following:

·                  focusingon companies with good market positions, established management teams and goodcash flow;

·                  investingin businesses with experienced management teams;

·                  engagingin extensive due diligence from the perspective of a long-term investor;

·                  investingat low price-to-cash flow multiples; or

·                  adoptingflexible transaction structures by drawing on the experience of the investmentprofessionals of our Adviser and its affiliates.

***Flexible transaction structuring***

We believe our managementteam’s broad expertise and its ability to draw upon many years of combinedexperience enables our Adviser to identify, assess, and structure investmentssuccessfully across all levels of a company’s capital structure and managepotential risk and return at all stages of the economic cycle. We are notsubject to many of the regulatory limitations that govern traditional lendinginstitutions such as banks. As a result, we are flexible in selecting andstructuring investments, adjusting investment criteria and transaction structures,and, in some cases, the types of securities in which we invest. We believe thatthis approach enables our Adviser to identify attractive investmentopportunities that will continue to generate current income and capital gainpotential throughout the economic cycle, including during turbulent periods inthe capital markets. One example of our flexibility is our ability to exchangeour publicly-traded stock for the stock of an acquisition target in a tax-freereorganization under the Internal Revenue Code of 1986 (the “Code”). Aftercompleting an acquisition in such an exchange, we can restructure the capitalof the small company to include senior and subordinated debt.

***Longer investment horizon with attractive publicly tradedmodel***

Unlike private equity andventure capital funds that are typically organized as finite-life partnerships,we are not subject to standard periodic capital return requirements. Thepartnership agreements of most private equity and venture capital fundstypically provide that these funds may only invest investors’ capital once andmust return all capital and realized gains to investors within a finite timeperiod, often seven to ten years. These provisions often force private equityand venture capital funds to seek returns on their investments by causing theirportfolio companies to pursue mergers, public equity offerings, or otherliquidity events more quickly than might otherwise be optimal or desirable,potentially resulting in both a lower overall return to investors and an adverseimpact on their portfolio companies. We believe that our flexibility to makeinvestments with a long-term view and without the capital return requirementsof traditional private investment vehicles provides us with the opportunity toachieve greater long-term returns on invested capital.

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***Securitization***

Wehave a wholly-owned subsidiary, Gladstone Business Investment, LLC  (“Business Investment”), which acquires andholds loans that we anticipate will be securitized in the future. ThroughBusiness Investment we have a $200 million credit facility which we access tomake additional investments and increase the size of our investmentportfolio.  We currently intend tosecuritize all of the investments held by Business Investment and, if we areable to securitize these investments, we will use the proceeds from thesecuritization to pay down any amounts outstanding under the revolving creditfacility.

**Ongoing Relationships with and Monitoring ofPortfolio Companies**

***Monitoring***

OurAdviser’s investment professionals monitor the financial trends of eachportfolio company on an ongoing basis to determine if each is meeting itsrespective business plans and to assess the appropriate course of action foreach company.  We monitor the status andperformance of each portfolio company and use it to evaluate the overallperformance of our portfolio.

OurAdviser employs various methods of evaluating and monitoring the performance ofour investments, which include some or all of the following:

·                  Assessmentof success in the portfolio company’s overall adherence to its business planand compliance with covenants;

·                  Attendanceat and participation in meetings of the portfolio company’s board of directors;

·                  Periodiccontact, including formal update interviews with portfolio company management,and, if appropriate, the financial or strategic sponsor;

·                  Comparisonwith other companies in the portfolio company’s industry; and

·                  Reviewof monthly and quarterly financial statements and financial projections forportfolio companies.

***Managerial Assistance**and Services***

Asa business development company, we make available significant managerialassistance to our portfolio companies and provide other services to suchportfolio companies. Neither we nor our Adviser currently receives fees inconnection with managerial assistance. Our Adviser provides other services toour portfolio companies and receives fees for these other services, certain ofwhich are credited by 50% agains the the investment advisory fees that we payour Adviser.

***Valuation Process***

Thefollowing is a general description of the steps we take each quarter todetermine the value of our investment portfolio. All of our portfolioinvestments are recorded at fair value as determined in good faith by ourAdviser and our management using procedures established by, and under thedirection of our Board of Directors. As a result, there is uncertainty as tothe value of our portfolio investments, and our estimates of fair value maydiffer significantly from the values that could obtained if a ready market forthe securities existed. Investments for which market quotations are readilyavailable are recorded in our financial statements at such market quotations.With respect to any investments for which market quotations are not readilyavailable, we perform the following valuation process each quarter:
|        | · | Our quarterly valuation  process begins with each portfolio company or investment being initially  assessed by our Adviser’s investment professionals responsible for the  investment, using valuation policies and procedures previously established by  our Board of Directors. |
|--------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |   |                                                                                                                                                                                                                                                                                   |
|   | · | For all debt securities  other than those that we value using the latest bid and ask price, we will  seek an independent opinion of value of such debt securities from  Standard & Poor’s Loan Evaluation Service, Inc. (“SPSE”).                              |
|   |   |                                                                                                                                                                                                                                                                                   |
|   | · | Preliminary valuation  conclusions are then discussed with our management, and documented, along  with any SPSE opinions of value, for review by our Board of Directors.                                                                                                               |
|   |   |                                                                                                                                                                                                                                                                                   |
|   | · | Our Board of Directors  reviews this documentation and discusses the input of our Adviser,  management, and the opinions of value of SPSE to arrive at a determination  for the aggregate fair value of our portfolio of investments.                                                  |

 

Ourvaluation policies, procedures and processes are more fully described under “Management’sDiscussion and Analysis of Financial Condition and Results ofOperations — Critical Accounting Policies — Investment Valuation.”

 

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**InvestmentAdvisory and Management Agreement**

We have entered into aninvestment advisory and management agreement (the “Advisory Agreement”) withour Adviser, which is controlled by our chairman and chief executive officer.In accordance with the Advisory Agreement, we pay our Adviser fees, ascompensation for its services, consisting of a base management fee and anincentive fee.

Priorto January 1, 2007, the base management fee was assessed at an annual rate of2.0% computed on the basis of the average value of our gross invested assets atthe end of the two most recently completed quarters, which was total assetsless the cash proceeds and cash and cash equivalent investments from theproceeds of our initial public offering that were not invested in debt andequity securities of portfolio companies, and was computed and payablequarterly.  Beginning in periodssubsequent to December 31, 2006, the base management fee was assessed at anannual rate of 2.0% computed on the basis of the average value of our grossassets at the end of the two most recently completed quarters, which are totalassets, including investments made with proceeds of borrowings, less anyuninvested cash or cash equivalents resulting from borrowings.  This newcalculation was originally scheduled to begin in periods after March 31, 2006;however, on April 11, 2006, July 11, 2006 and October 10, 2006, our Board ofDirectors accepted voluntary waivers from our Adviser that allowed theformer  calculation of the basemanagement fee to be effective through June 30, 2006, September 30, 2006 andDecember 31, 2006, respectively.

 On January 9, 2007, our Board of Directorsaccepted a voluntary waiver from the Adviser to reduce the annual 2.0% basemanagement fee on senior syndicated loan participations to 0.5% to the extentthat proceeds resulting from borrowings under our credit facility were used topurchase such syndicated loan participations for the three months ended March31, 2007

Whenour Adviser receives fees from our portfolio companies, such as investmentbanking fees, structuring fees or executive recruiting services fees,50% of certain of these fees will be credited against the base managementfee that we would otherwise be required to pay to our Adviser.

Inaddition, our Adviser services the loans held by Business Investment, in returnfor which the Adviser receives a 2.0% annual fee based on the monthly aggregatebalance of loans held by Business Investment.  Since we own these loans,all loan servicing fees paid to our Adviser are treated as reductions againstthe 2.0% base management fee.  Overall, the base management fee due to ourAdviser cannot exceed 2.0% of total assets (as reduced by cash and cashequivalents pledged to creditors) during any given fiscal year.

Theincentive fee consists of two parts: an income-based incentive fee and acapital gains incentive fee. The income-based incentive fee rewards our Adviserif our quarterly net investment income (before giving effect to any incentivefee) exceeds 1.75% of our net assets (the “hurdle rate”). We pay our Adviser anincome incentive fee with respect to our pre-incentive fee net investmentincome in each calendar quarter as follows:

·             no incentive fee inany calendar quarter in which our pre-incentive fee net investment income doesnot exceed the hurdle rate (7% annualized);

·             100% of ourpre-incentive fee net investment income with respect to that portion of suchpre-incentive fee net investment income, if any, that exceeds the hurdle ratebut is less than 2.1875% in any calendar quarter (8.75% annualized); and

·             20% of the amount ofour pre-incentive fee net investment income, if any, that exceeds 2.1875% inany calendar quarter (8.75% annualized).

Thesecond part of the incentive fee is a capital gains incentive fee that is determinedand payable in arrears as of the end of each fiscal year (or upon terminationof the Advisory Agreement, as of the termination date), and equals 20% of ourrealized capital gains as of the end of the fiscal year. In determining thecapital gains incentive fee payable to our Adviser, we calculate the cumulativeaggregate realized capital gains and cumulative aggregate realized capitallosses since our inception, and the aggregate unrealized capital depreciationas of the date of the calculation, as applicable, with respect to each of theinvestments in our portfolio.

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**Administration Agreement**

Wehave entered into an administration agreement with our Administrator (the “AdministrationAgreement”) under which the Administration Agreement, we pay our Administratorseparately for administrative services. The Administration Agreement providesfor payments equal to our allocable portion of our Administrator’s overheadexpenses in performing its obligations under the Administration Agreementincluding, but not limited to, rent for employees of our Administrator, and ourallocable portion of the salaries and benefits expenses of our chief financialofficer, controller, chief compliance officer, treasurer and their respectivestaffs.

**LicenseAgreement**

We have entered into alicense agreement with our Adviser, pursuant to which our Adviser has grantedus a non-exclusive license to use the name “Gladstone” and the Diamond Gtrademark. This license agreement requires us to pay the Adviser a royalty feeof $1 per quarter. The amount of the fee is negotiable on an annual basis byour compensation committee and approved by a majority of our independentdirectors.  The license arrangement willterminate in the event that Gladstone Management Corporation is no longer ourAdviser.

**Material U.S. Federal Income Tax Considerations**

***Regulated Investment Company Status***

Inorder to maintain the qualification for treatment as a regulated investmentcompany (“RIC”) under Subchapter M of the Code, we must distribute to ourstockholders, for each taxable year, at least 90% of our investment companytaxable income, which is generally our ordinary income plus short-term capitalgains. We refer to this as the annual distribution requirement. We must alsomeet several additional requirements, including:

·       *Income source requirements.*At least 90% of our gross incomefor each taxable year must be from dividends, interest, payments with respectto securities loans, gains from sales or other dispositions of securities orother income derived with respect to our business of investing insecurities, and net income derived from an interest in a qualifiedpublicly traded partnership, and

·       *Asset diversification requirements.*As of the close of eachquarter of our taxable year: (1) at least 50% of the value of our assetsmust consist of cash, cash items, U.S. government securities, thesecurities of other regulated investment companies and other securities to theextent that (a) we do not hold more than 10% of the outstanding votingsecurities of an issuer of such other securities and (b) such othersecurities of any one issuer do not represent more than 5% of our total assets,and (2) no more than 25% of the value of our total assets may be investedin the securities of one issuer (other than U.S. government securities orthe securities of other regulated investment companies), or of two or moreissuers that are controlled by us and are engaged in the same or similar orrelated trades or businesses or in the securities of one or more qualifiedpublicly traded partnerships.

*Failure to Qualify as a RIC.**  *If we are unableto qualify for treatment as a RIC, we will be subject to tax on all of ourtaxable income at regular corporate rates. We would not be able to deductdistributions to stockholders, nor would we be required to make suchdistributions. Distributions would be taxable to our stockholders as dividendincome to the extent of our current and accumulated earnings and profits.Subject to certain limitations under the Code, corporate distributees would beeligible for the dividends received deduction. Distributions in excess of ourcurrent and accumulated earnings and profits would be treated first as a returnof capital to the extent of the stockholder’s tax basis, and then as a gainrealized from the sale or exchange of property. If we fail to meet the RICrequirements for more than two consecutive years and then seek to requalify asa RIC, we would be required to recognize a gain to the extent of any unrealizedappreciation on our assets unless we make a special election to paycorporate-level tax on any such unrealized appreciation recognized during thesucceeding 10-year period. Absent such special election, any gain werecognized would be deemed distributed to our stockholders as a taxabledistribution.

*Qualification as a RIC.**  *If we qualify asa RIC and distribute to stockholders each year in a timely manner at least 90%of our investment company taxable income, we will not be subject to federalincome tax on the portion of our taxable income and gains we distribute tostockholders. We would, however, be subject to a 4% nondeductible federalexcise tax if we do not distribute, actually or on a deemed basis, 98% of ourincome, including both ordinary income and capital gains. The excise tax wouldapply only to the amount by which 98% of our income exceeds the amount ofincome we distribute, actually or on a deemed basis, to stockholders. We willbe subject to regular corporate income tax, currently at rates up to 35%, onany undistributed income, including both ordinary income and capital gains. Weintend to retain some or all of our capital gains, but to designate theretained amount as a deemed distribution. In that case, among otherconsequences, we will pay tax on the retained amount, each stockholder will berequired to include its share of the deemed distribution in income as if it hadbeen 

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actuallydistributed to the stockholder and the stockholder will be entitled to claim acredit or refund equal to its allocable share of the tax we pay on the retainedcapital gain. The amount of the deemed distribution net of such tax will beadded to the stockholder’s cost basis for its common stock. Since we expect topay tax on any retained capital gains at our regular corporate capital gain taxrate, and since that rate is in excess of the maximum rate currently payable byindividuals on long-term capital gains, the amount of tax that individualstockholders will be treated as having paid will exceed the tax they owe on thecapital gain dividend and such excess may be claimed as a credit or refundagainst the stockholder’s other tax obligations. A stockholder that is notsubject to U.S. federal income tax or tax on long-term capital gains wouldbe required to file a U.S. federal income tax return on the appropriateform in order to claim a refund for the taxes we paid. In order to utilize thedeemed distribution approach, we must provide written notice to thestockholders prior to the expiration of 60 days after the close of therelevant tax year. We will also be subject to alternative minimum tax, but anytax preference items would be apportioned between us and our stockholders inthe same proportion that dividends, other than capital gain dividends, paid toeach stockholder bear to our taxable income determined without regard to the dividendspaid deduction.

Ifwe acquire debt obligations that were originally issued at a discount, whichwould generally include loans we make that are accompanied by warrants, thatbear interest at rates that are not either fixed rates or certain qualified variablerates or that are not unconditionally payable at least annually over the lifeof the obligation, we will be required to include in taxable income each year aportion of the original issue discount (“OID”) that accrues over the life ofthe obligation. Such OID will be included in our investment company taxableincome even though we receive no cash corresponding to such discount amount. Asa result, we may be required to make additional distributions corresponding tosuch OID amounts in order to satisfy the annual distribution requirement and tocontinue to qualify as a RIC or to avoid the 4% excise tax. In this event, wemay be required to sell temporary investments or other assets to meet the RICdistribution requirements. Through March 31, 2007, we incurred no OIDincome.

***Taxation of Our U.S. Stockholders***

*Distributions.**  *For any periodduring which we qualify for treatment as a RIC for federal income tax purposes,distributions to our stockholders attributable to our investment companytaxable income generally will be taxable as ordinary income to stockholders tothe extent of our current or accumulated earnings and profits. Anydistributions in excess of our earnings and profits will first be treated as areturn of capital to the extent of the stockholder’s adjusted basis in his orher shares of common stock and thereafter as gain from the sale of shares ofour common stock. Distributions of our long-term capital gains, designated byus as such, will be taxable to stockholders as long-term capital gainsregardless of the stockholder’s holding period for its common stock and whetherthe distributions are paid in cash or invested in additional common stock.Corporate stockholders are generally eligible for the 70% dividends receiveddeduction with respect to ordinary income, but not with respect to capital gaindividends to the extent such amount designated by us does not exceed thedividends received by us from domestic corporations. Any dividend declared byus in October, November or December of any calendar year, payable tostockholders of record on a specified date in such a month and actually paidduring January of the following year, will be treated as if it were paidby us and received by the stockholders on December 31 of the previousyear. In addition, we may elect to relate a dividend back to the prior taxableyear if we (1) declare such dividend prior to the due date for filing ourreturn for that taxable year, (2) make the election in that return, and(3) distribute the amount in the 12-month period following the closeof the taxable year but not later than the first regular dividend paymentfollowing the declaration. Any such election will not alter the generalrule that a stockholder will be treated as receiving a dividend in thetaxable year in which the distribution is made, subject to the October,November, December rule described above.

Ingeneral, the tax rates applicable to our dividends other than dividendsdesignated as capital gain dividends will be the standard ordinary income taxrates, and not the lower federal income tax rate applicable to “qualified dividendincome.” If we distribute dividends that are attributable to actual dividendincome received by us that is eligible to be, and is, designated by us asqualified dividend income, such dividends would be eligible for such lowerfederal income tax rate. For this purpose, “qualified dividend income” meansdividends received by us from United States corporations and qualifying foreigncorporations, provided that both we and the stockholder recipient of ourdividend satisfy certain holding period and other requirements in respect ofour shares (in the case of our stockholder) and the stock of such corporations(in our case). However, we do not anticipate receiving or distributing asignificant amount of qualified dividend income.

Ifa stockholder participates in our dividend reinvestment plan, any distributionsreinvested under the plan will be taxable to the stockholder to the sameextent, and with the same character, as if the stockholder had received thedistribution in cash. The stockholder will have an adjusted basis in theadditional common shares purchased through the plan equal to the amount of thereinvested distribution. The additional shares will have a new holding periodcommencing on the day following the day on which the shares are credited to thestockholder’s account.

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**Regulation as a Business Development Company**

Weare a closed-end, non-diversified management investment company that haselected to be regulated as a business development company under Section 54of the 1940 Act. As such, we are subject to regulation under the 1940 Act. The1940 Act contains prohibitions and restrictions relating to transactionsbetween business development companies and their affiliates, principalunderwriters and affiliates of those affiliates or underwriters and requiresthat a majority of the directors be persons other than “interested persons,” asdefined in the 1940 Act. In addition, the 1940 Act provides that we may notchange the nature of our business so as to cease to be, or to withdraw ourelection as, a business development company unless approved by a majority ofour outstanding voting securities.

Weintend to conduct our business so as to retain our status as a businessdevelopment company. A business development company may use capital provided by public stockholders and from othersources to invest in long-term private investments in businesses.  A business development company providesstockholders the ability to retain the liquidity of a publicly traded stock whilesharing in the possible benefits, if any, of investing in primarily privatelyowned companies.  In general, a businessdevelopment company must have been organized and have its principal place ofbusiness in the United States and must be operated for the purpose of makinginvestments in the types of securities described in (1) or (2) below.

***Qualifying Assets***

Under the 1940 Act, abusiness development company may not acquire any asset other than assets of thetype listed in Section 55(a) of the 1940 Act, which are referred to asqualifying assets, unless, at the time the acquisition is made, qualifyingassets represent at least 70% of the company’s total assets. The types ofqualifying assets in which we may invest under the 1940 Act include, but arenot limited to the following:

(1)           Securities purchased in transactionsnot involving any public offering from the issuer of such securities, whichissuer is an eligible portfolio company. An eligible portfolio company is generally defined in the 1940 Act as anyissuer which:

(a)  is organized under the laws of, and has itsprincipal place of business in, any State or States in the United States;

(b)  is not an investment company (other than asmall business investment company wholly owned by the business developmentcompany); and

(c)  satisfies one of the following:

(i)  it does not have any class of securities withrespect to which a broker or dealer may extend margin credit;

(ii)  it is controlled by the business developmentcompany and for which an affiliate of the business development company servesas a director; or

(iii)  it has total assets of not more than $4million and capital and surplus of not less than $2 million.

(2)           Securities received in exchange foror distributed on or with respect to securities described in (1) above, orpursuant to the exercise of options, warrants or rights relating to suchsecurities.

(3)           Cash, cash items, governmentsecurities or high quality debt securities maturing in one year or less fromthe time of investment.

***Asset Coverage***

Weare permitted, under specified conditions, to issue multiple classes ofindebtedness and one class of stock senior to our common stock if our assetcoverage, as defined in the 1940 Act, is at least 200% immediately after eachsuch issuance. In addition, while senior securities are outstanding, we mustmake provisions to prohibit any distribution to our stockholders or therepurchase of such securities or shares unless we meet the applicable assetcoverage ratios at the time of the distribution or repurchase. We may alsoborrow amounts up to 5% of the value of our total assets for temporarypurposes. The 1940 Act requires, among other things, that (1) immediatelyafter issuance and before any dividend or distribution is made with respect toour common stock or before any purchase of common stock is made, the preferredstock, together with all other senior securities, must not exceed an amountequal to 50% of our total assets after deducting the amount of such dividend,distribution or purchase price, as the case may be, and (2) the holders ofshares of preferred stock, if any are issued, must be entitled as a class toelect two directors at all times and to elect a majority of the directors ifdividends on the preferred stock are in arrears by two years or more.

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***Significant Managerial Assistance***

Forportfolio securities to be qualifying assets for the 70% test described above,the business development company must either exercise a controlling influenceover the issuer of the securities or must make available to the issuer of thesecurities significant managerial assistance. However, with respect to certain,but not all such securities, where the business development company purchasessuch securities in conjunction with one or more other persons acting together,one of the other persons in the group may make available such managerialassistance, or the business development company may exercise such controljointly. Making available significant managerial assistance means, among otherthings, any arrangement whereby the business development company, through itsdirectors, officers or employees, offers to provide, and, if accepted, does soprovide, significant guidance and counsel concerning the management, operationsor business objectives and policies of a portfolio company.

***Fundamental Investment Policies***

Weseek to achieve a high level of current income and capital gains throughinvestments in debt securities and preferred and common stock that we acquirein connection with buyout and other recapitalizations.  The following restrictions, along with theseinvestment objectives, are our only fundamental policies, which are policiesthat may not be changed without the approval of the holders of the majority ofour outstanding voting securities, as defined in the 1940 Act. For a fullerexplanation of the regulatory framework in which we operate, see “Business-Regulationas a Business Development Company.” The percentage restrictions set forthbelow, other than the restriction pertaining to the issuance of seniorsecurities, as well as those contained elsewhere in this Form 10-K, applyat the time we effect a transaction, and a subsequent change in a percentageresulting from market fluctuations or any cause other than an action by us willnot require us to dispose of portfolio securities or to take other action tosatisfy the percentage restriction. We will at all times conduct our businessso as to retain our status as a business development company. In order toretain that status, we may not acquire any assets (other than non-investmentassets necessary and appropriate to our operations as a business developmentcompany) if, after giving effect to such acquisition, the value of our “qualifyingassets” is less than 70% of the value of our total assets. We anticipate thatthe securities we seek to acquire (provided that we control or, through ourofficers or other participants in the financing transaction, make significantmanagerial assistance available to the issuers of these securities), as well astemporary investments, will generally be qualifying assets.

We may invest upto 100% of our assets in securities acquired directly from issuers in privatelynegotiated transactions. With respect to such securities, we may, for thepurpose of public resale, be deemed an “underwriter” as that term is defined inthe Securities Act of 1933 (the “Securities Act”). We may invest up to 20% ofour assets in securities of a particular issuer. We may exceed this limitationin connection with bridge financings, although these bridge investments willnever exceed 25% of our total assets at any time. We do not intend toconcentrate our investments in any particular industry or group of industries.However, it is possible that, as the values of our portfolio companies change,one industry or a group of industries may comprise in excess of 25% of thevalue of our total assets.

Wewill at all times endeavor to conduct our business so as to retain our statusas a RIC under Subchapter M of the Code. In order to do so, we must meet incomesource, asset diversification and annual distribution requirements. We mayissue senior securities, such as debt or preferred stock, to the extentpermitted by the 1940 Act for the purpose of making investments, to fund sharerepurchases, or for temporary emergency or other purposes. For a discussion ofthe risks associated with the resulting leverage, “Risk Factors—Our businessplan is dependent upon external financing which may expose us to risksassociated with leverage.”

Wewill not (1) act as an underwriter of securities of other issuers (exceptto the extent that we may be deemed an “underwriter” of securities we purchasethat must be registered under the Securities Act before they may be offered orsold to the public); (2) purchase or sell real estate or interests in realestate or real estate investment trusts (except that we may (a) purchaseand sell real estate or interests in real estate in connection with the orderlyliquidation of investments, (b) own the securities of companies orparticipate in a partnership or partnerships that are in the business ofbuying, selling or developing real estate, or (c) finance the purchase ofreal estate by our portfolio companies); (3) sell securities short (exceptwith regard to managing the risks associated with publicly-traded securitiesissued by our portfolio companies); (4) purchase securities on margin(except to the extent that we may purchase securities with borrowed money);(5) write or buy put or call options (except (i) to the extent ofwarrants or conversion privileges in connection with our acquisition financingor other investments and rights to require the issuers of such investments ortheir affiliates to repurchase them under certain circumstances, (ii) withregard to managing risks associated with publicly-traded securities issued byour portfolio companies, or (iii) with regard to managing the risksassociated with interest rate fluctuations); (6) engage in the purchase orsale of commodities or commodity contracts, including futures contracts (exceptwhere necessary in working out distressed loan or investment situations or inmanaging the risks associated with interest rate fluctuations); or(7) acquire more than 3% of the voting stock of, or invest more than 5% ofour total assets in, any securities issued by any other investment company 

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(exceptas they may be acquired as part of a merger, consolidation or acquisition ofassets). That portion of our investments that is in securities issued by otherinvestment companies may subject our stockholders to additional expenses.

InApril 2007, our Board of Directors approved the repeal of our fundamentalinvestment policies in order to conform to prevailing practice among businessdevelopment companies.  In reaching thisconclusion, our Board of Directors considered, among other things, thepotential competitive disadvantage that having such policies places on us incomparison to competitors that do not have such restrictions.  In accordance with the 1940 Act, we willsubmit this repeal of our fundamental investment policies to our stockholdersfor their approval at our upcoming 2007 Annual Meeting of Stockholders.  The reasons for seeking to repeal ourfundamental investment policies will be described in greater detail in theproxy statement to be delivered to stockholders in advance of the 2007 AnnualMeeting of Stockholders.

***Code of Ethics***

Weand our Adviser have each adopted a code of ethics and business conductapplicable to our officers, directors and all employees of our Adviser thatcomply with the guidelines set forth in Item 406 of Regulation S-K of theSecurities Act.  As required by the 1940Act, this code establishes procedures for personal investments, restrictscertain transactions by our personnel and requires the reporting of certain transactionsand holdings by our personnel.  A copy ofthis code is available for review, free of charge, at our website atwww.gladstoneinvestment.com.  We intendto provide disclosure of any amendments to or waivers of the provisions of thiscode by posting information regarding any such amendment or waiver to ourwebsite within four days of its effectiveness.

***Compliance Policies and Procedures***

Weand our Adviser have adopted and implemented written policies and proceduresreasonably designed to prevent violation of the federal securities laws, andour Board of Directors is required to review these compliance policies andprocedures annually to assess their adequacy and the effectiveness of theirimplementation.  We have designated achief compliance officer, Allyson Williams, who also serves as chief complianceofficer for our Adviser.

**Staffing**

Wedo not currently have any employees and do not expect to have any employees inthe foreseeable future.  Currently,services necessary for our business are provided by individuals who areemployees of our Adviser and our Administrator pursuant to the terms of theAdvisory Agreement and Administration Agreement, respectively.  Each of our executive officers is an employeeand executive officer of our Adviser or our Administrator.  No employee of our Adviser or ourAdministrator will dedicate all of his or her time to us.  However, we expect that 25-30 full timeemployees of our Adviser will spend substantial time on our matters during theremainder of calendar year 2007 and all of calendar year 2008.  We anticipate that the number of employees ofour Adviser and our Administrator who devote time to our matters will increaseas we acquire more investments.

Asof April 30, 2007, our Adviser and our Administrator collectively had 52full-time employees.  A break-down ofthese employees by functional area is summarized in the table below:
| **Number of  Individuals** | ** ** | **Functional Area**                                             |
|----------------------------|------------|-----------------------------------------------------------------|
| ** **                 | ** ** | ** **                                                      |
| 6                          |       | Executive Management                                            |
| 37                         |       | Investment Management, Portfolio Management, and Due  Diligence |
| 9                          |       | Administration, Accounting, Compliance and Human  Resources     |

 

**Available Information:**

Copiesof our annual report on Form 10-K, quarterly reports on Form 10-Q, currentreports on Form 8-K, and amendments, if any, to those reports filed pursuant toSection 13(a) or 15(d) of the Securities Exchange Act of 1934 (the “ExchangeAct”) are available free of charge through our website atwww.gladstoneinvestment.com.  A requestfor any of these reports may also be submitted to us by sending a writtenrequest addressed to Investor Relations Manager, Gladstone InvestmentCorporation, 1521 Westbranch Drive, Suite 200, McLean, VA 22102, or by callingour toll-free investor relations line at 1-866-366-5745.  The public may read and copy materials thatwe file with the SEC at the SEC’s Public Reference Room at 100 F Street, NE,Washington, DC 20549.  Information on theoperation of the Public Reference Room may be obtained by calling the SEC at1-800-SEC-0330.  The SEC also maintains awebsite that contains reports, proxy and information statements, and otherinformation regarding issuers that file electronically with the SEC athttp://www.sec.gov.

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**Item 1A. Risk Factors**

*An investment in our securities involves a number ofsignificant risks and other factors relating to our structure and investmentobjectives. As a result, we cannot assure you that we will achieve ourinvestment objectives. You should consider carefully the following informationbefore making an investment in our securities.*

**We are a relatively newcompany with limited operating history.**

Wewere incorporated in Delaware on February 18, 2005. We are subject to allof the business risks and uncertainties associated with any new business,including the risk that we will not achieve our investment objectives and thatthe value of your investment could decline substantially.

**We are dependent upon our key management personnel and thekey management personnel of our Adviser, particularly David Gladstone, GeorgeStelljes III and Terry Lee Brubaker, and on the continued operations ofour Adviser, for our future success.**

We haveno employees. Our chief executive officer, chief operating officer, chiefinvestment officer and chief financial officer, and the employees of ourAdviser, do not spend all of their time managing our activities and ourinvestment portfolio. We are particularly dependent upon David Gladstone,George Stelljes III and Terry Lee Brubaker in this regard. Our executiveofficers and the employees of our Adviser allocate some, and in some cases amaterial portion, of their time to businesses and activities that are notrelated to our business. We have no separate facilities and are completelyreliant on our Adviser, which has significant discretion as to theimplementation and execution of our business strategies and risk managementpractices. We are subject to the risk of discontinuation of our Adviser’soperations or termination of the investment advisory agreement and the riskthat, upon such event, no suitable replacement will be found. We believe thatour success depends to a significant extent upon our Adviser and thatdiscontinuation of its operations could have a material adverse effect on ourability to achieve our investment objectives.

**We may be obligated to pay our Adviser incentive compensationeven if we incur a loss.**

TheAdvisory Agreement entitles our Adviser to incentive compensation for eachfiscal quarter in an amount equal to a percentage of the excess of ourinvestment income for that quarter (before deducting incentive compensation,net operating losses and certain other items) above a threshold return for thatquarter. Our pre-incentive fee net investment income for incentive compensationpurposes excludes realized and unrealized capital losses that we may incur inthe fiscal quarter, even if such capital losses result in a net loss on ourstatement of operations for that quarter. Thus, we may be required to pay ourAdviser incentive compensation for a fiscal quarter even if there is a declinein the value of our portfolio or we incur a net loss for that quarter. Foradditional information on incentive compensation under the Advisory Agreementwith our Adviser, see “Business — Investment Advisory and Management Agreement.”

**Our Adviser’s failure to identify and invest insecurities that meet our investment criteria or perform its responsibilitiesunder the investment advisory agreement may adversely affect our ability forfuture growth.**

Ourability to achieve our investment objectives will depend on our ability togrow, which in turn will depend on our Adviser’s ability to identify and investin securities that meet our investment criteria.  Accomplishing this result on a cost-effectivebasis will be largely a function of our Adviser’s structuring of the investmentprocess, its ability to provide competent and efficient services to us, and ouraccess to financing on acceptable terms. The senior management team of our Adviser has substantialresponsibilities under the investment advisory agreement.  In order to grow, our Adviser will need tohire, train supervise and manage new employees successfully.  Any failure to manage our future growtheffectively could have a material adverse effect on our business, financialcondition and results of operations.

**We operate in a highly competitive market forinvestment opportunities.**

A number of entitiescompete with us for investments in small and mid-sized companies. We will competewith public and private buyout funds, commercial and investment banks,commercial financing companies, and, to the extent they provide an alternativeform of financing, hedge funds. Many of our competitors are substantiallylarger and have considerably greater financial, technical, and marketingresources than we do. For example, some competitors may have a lower cost offunds and access to funding sources that are not available to us. In addition,some of our competitors may have higher risk tolerances or different riskassessments, which would allow them to consider a wider variety of investmentsand establish more relationships than us. Furthermore, many of our competitorsare not subject to the regulatory restrictions that the 1940 Act 

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imposes on us as abusiness development company. The competitive pressures we face could have amaterial adverse effect on our business, financial condition, and results ofoperations. Also, as a result of this competition, we may not be able to takeadvantage of attractive investment opportunities from time to time, and we canoffer no assurance that we will be able to identify and make investments thatare consistent with our investment objective. We do not seek to compete primarily based on the interest rates we offer,and we believe that some of our competitors may make loans with interest ratesthat will be comparable to or lower than the rates we offer.  We may lose investment opportunities if we donot match our competitors’ pricing, terms, and structure. However, if we matchour competitors’ pricing, terms, and structure, we may experience decreased netinterest income and increased risk of credit loss.

**Our investments in small and medium-sized portfolio companiesare extremely risky and you could lose all or a part of your investment.**

Investmentsin small and medium-sized portfolio companies are subject to a number ofsignificant risks including the following:

·                                          **Small and medium-sized businesses may have limitedfinancial resources and may not be able to repay the loans we make to them.**Our strategy includes providing financing to portfolio companies that typicallyis not readily available to them. While we believe that this provides anattractive opportunity for us to generate profits, this may make it difficultfor the portfolio companies to repay their loans to us upon maturity. Aborrower’s ability to repay its loan may be adversely affected by numerousfactors, including the failure to meet its business plan, a downturn in itsindustry or negative economic conditions. A deterioration in a borrower’sfinancial condition and prospects usually will be accompanied by deteriorationin the value of any collateral and a reduction in the likelihood of usrealizing on any guarantees we may have obtained from the borrower’smanagement. Although we will sometimes seek to be the senior, secured lender toa borrower, in most of our loans we expect to be subordinated to a seniorlender, and our interest in any collateral would, accordingly, likely besubordinate to another lender’s security interest.

·                                          **Small and medium-sized businesses typically havenarrower product lines and smaller market shares than large businesses.**Because our target portfolio companies are smaller businesses, they will tendto be more vulnerable to competitors’ actions and market conditions, as well asgeneral economic downturns. In addition, our portfolio companies may faceintense competition, including competition from companies with greaterfinancial resources, more extensive development, manufacturing, marketing andother capabilities and a larger number of qualified managerial and technicalpersonnel.

·                                          **There is generally little or no publicly availableinformation about these businesses.** Because we seek to invest inprivately owned businesses, there is generally little or no publicly availableoperating and financial information about our potential portfolio companies. Asa result, we rely on our officers, our Adviser and its employees andconsultants to perform due diligence investigations of these portfoliocompanies, their operations and their prospects. We may not learn all of thematerial information we need to know regarding these businesses through ourinvestigations.

·                                          **Small and medium-sized businesses generally have lesspredictable operating results.** We expect that our portfoliocompanies may have significant variations in their operating results, may fromtime to time be parties to litigation, may be engaged in rapidly changingbusinesses with products subject to a substantial risk of obsolescence, mayrequire substantial additional capital to support their operations, to financeexpansion or to maintain their competitive position, may otherwise have a weakfinancial position or may be adversely affected by changes in the businesscycle. Our portfolio companies may not meet net income, cash flow and othercoverage tests typically imposed by their senior lenders. A borrower’s failureto satisfy financial or operating covenants imposed by senior lenders couldlead to defaults and, potentially, foreclosure on its senior credit facility,which could additionally trigger cross-defaults in other agreements. If thiswere to occur, it is possible that the borrower’s ability to repay our loanwould be jeopardized.

·                                          **Small and medium-sized businesses are more likely tobe dependent on one or two persons.** Typically, the success of asmall or medium-sized business also depends on the management talents andefforts of one or two persons or a small group of persons. The death,disability or resignation of one or more of these persons could have a materialadverse impact on our borrower and, in turn, on us.

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·                                          **Small and medium-sized businesses are likely to havegreater exposure to economic downturns than larger businesses.** Weexpect that our portfolio companies will have fewer resources than largerbusinesses and an economic downturn is more likely to have a material adverseeffect on them. If one of our portfolio companies is adversely impacted by aneconomic downturn, its ability to repay our loan would be diminished.

·                                          **Small and medium-sized businesses may have limitedoperating histories.** While we intend to target stable companies withproven track records, we may make loans to new companies that meet our otherinvestment criteria. Portfolio companies with limited operating histories willbe exposed to all of the operating risks that new businesses face and may beparticularly susceptible to, among other risks, market downturns, competitivepressures and the departure of key executive officers.

**We may not realize gains from our equityinvestments.**

Whenwe invest in mezzanine or senior secured loans, we may acquire warrants orother equity securities as well. In addition we may invest in preferred andcommon stock. Our goal is ultimately to dispose of such equity interests andrealize gains upon our disposition of such interests. However, the equityinterests we receive may not appreciate in value and, in fact, may decline invalue. Accordingly, we may not be able to realize gains from our equityinterests, and any gains that we do realize on the disposition of any equityinterests may not be sufficient to offset any other losses we experience.

**Because the loans we make and equity securities we receiveare not publicly traded, there will be uncertainty regarding the value of ourprivately held securities that could adversely affect our determination of ournet asset value.**

A largepercentage of our portfolio investments are, and will continue to be, in theform of securities that are not publicly traded. The fair value of securitiesand other investments that are not publicly traded may not be readilydeterminable. Our Board of Directors has established a valuation policy andconsistently applied valuation procedures used to determine the fair value ofthese securities quarterly. These procedures for the determination of value ofmany of our debt securities rely on the opinions of value submitted to us bySPSE. SPSE will only evaluate the debt portion of our investments for which wespecifically request evaluation, and SPSE may decline to make requestedevaluations for any reason in its sole discretion. However, to date, SPSE hasaccepted each of our requests for evaluation.

Ourprocedures also include provisions whereby our Adviser will establish the fairvalue of any equity securities we may hold where SPSE is unable to provideevaluations. The types of factors that may be considered in determining thefair value of our debt and equity investments include some or all of thefollowing: the nature and realizable value of any collateral, the portfoliocompany’s earnings and cash flows and its ability to make payments on itsobligations, the markets in which the portfolio company does business,comparison to publicly traded companies, discounted cash flow, and other relevantfactors. Because such valuations, particularly valuations of private securitiesand private companies, are inherently uncertain, may fluctuate over shortperiods of time, and may be based on estimates, our determinations of fairvalue may differ materially from the values that might have resulted from areadily available market for these securities.

A smallportion of our assets are, and will continue to be, comprised of equitysecurities that are valued based on internal assessment, using our own, Boardof Directors’ approved valuation methods, without the input of SPSE or anyother third-party evaluator. We believe that our equity valuation methodsreflect those regularly used as standards by other professionals in ourindustry who value equity securities. However, determination of fair value forsecurities that are not publicly traded, whether or not we use therecommendations of an independent third party evaluator, necessarily involvesthe exercise of subjective judgment. Our net asset value could be adverselyaffected if our determinations regarding the fair value of our investments werematerially higher than the values that we ultimately realize upon the disposalof such securities.

**The lack of liquidity of our privately heldinvestments may adversely affect our business.**

We will generally makeinvestments in private companies whose securities are not traded in any publicmarket. Substantially all of these securities will be subject to legal andother restrictions on resale and will otherwise be less liquid than publiclytraded securities. The illiquidity of our investments may make it difficult forus to sell such investments if the need arises. In addition, if we are requiredto liquidate all or a portion of our portfolio quickly, we may realizesubstantial book losses upon liquidation. In addition, we may face otherrestrictions on our ability to liquidate an investment in a portfolio companyto the extent that we, our Adviser, or our respective officers, employees oraffiliates have material non-public information regarding such portfoliocompany.

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**Our business plan is dependent upon external financing, whichmay expose us to risks associated with leverage.**

Ourbusiness requires a substantial amount of cash to operate and grow. We mayacquire such additional capital from the following sources:

·       **Senior Securities.**   We intend toissue debt securities, other evidences of indebtedness (including borrowingsunder our line of credit) and possibly preferred stock, up to the maximumamount permitted by the 1940 Act. The 1940 Act currently permits us, as abusiness development company, to issue debt securities and preferred stock, towhich we refer collectively as senior securities, in amounts such that ourasset coverage, as defined in the 1940 Act, is at least 200% after eachissuance of senior securities. As a result of issuing senior securities, wewill be exposed to the risks associated with leverage. Although borrowing moneyfor investments increases the potential for gain, it also increases the risk ofa loss. A decrease in the value of our investments will have a greater impacton the value of our common stock to the extent that we have borrowed money tomake investments. There is a possibility that the costs of borrowing couldexceed the income we receive on the investments we make with such borrowedfunds. In addition, our ability to pay dividends or incur additionalindebtedness would be restricted if asset coverage is not at least twice ourindebtedness. If the value of our assets declines, we might be unable tosatisfy that test. If this happens, we may be required to liquidate a portionof our loan portfolio and repay a portion of our indebtedness at a time when asale may be disadvantageous. Furthermore, any amounts that we use to service ourindebtedness will not be available for distributions to our stockholders.

·       **Common Stock.**   Because we areconstrained in our ability to issue debt for the reasons given above, we aredependent on the issuance of equity as a financing source. If we raise additionalfunds by issuing more common stock or debt securities convertible into orexchangeable for our common stock, the percentage ownership of our stockholdersat the time of the issuance would decrease and they may experience dilution. Inaddition, any convertible or exchangeable securities that we issue in thefuture may have rights, preferences and privileges more favorable than those ofour common stock.

·       **Securitization.**   In addition toissuing securities to raise capital as described above, we anticipate that inthe future we will securitize our loans to generate cash for funding newinvestments. An inability to successfully securitize our loan portfolio couldlimit our ability to grow our business, fully execute our business strategy andimpact our profitability. Moreover, successful securitization of our loanportfolio might expose us to losses as the loans in which we do not plan tosell interests will be those that are riskier and more apt to generate losses.

**Regulationsgoverning our operation as a business development company will affect ourability to and the way in which we raise additional capital.**

We may issue debtsecurities or preferred stock and/or borrow money from banks or other financialinstitutions, which we refer to collectively as “senior securities,” up to themaximum amount permitted by the 1940 Act. Senior securities are defined by the1940 Act to include bonds, debentures, notes or similar obligations orinstruments that are securities and evidence indebtedness and stock of a classhaving priority over any other class as to distribution of assets or payment ofdividends. Under the provisions of the 1940 Act, we will be permitted, as abusiness development company, to issue senior securities only in amounts suchthat our asset coverage, as defined in the 1940 Act, equals at least 200% aftereach issuance of senior securities. If the value of our assets declines, we maybe unable to satisfy this test. If that happens, we may be required to sell aportion of our investments and, depending on the nature of our leverage, repaya portion of our indebtedness at a time when such sales may be disadvantageous.

We are not generally ableto issue and sell our common stock at a price below net asset value per share.We may, however, sell our common stock or warrants, options, or rights toacquire our common stock at a price below the current net asset value of thecommon stock if our Board of Directors determines that such sale is in our bestinterests and the best interests of our stockholders, and our stockholdersapprove such sale. In any such case, the price at which our securities are tobe issued and sold may not be less than a price which, in the determination ofour Board of Directors, closely approximates the market value of such securities(less any distributing commission or discount).

In addition to issuingsecurities to raise capital as described above, we may in the future seek tosecuritize certain of our assets to generate cash for funding new investments.Securitization involves our creating a wholly-owned subsidiary and contributinga pool of loans to the subsidiary, which then would deposit the loans to asingle purpose trust. The trust would then typically sell a class of investmentgrade interests to the public, and we would retain a residual portion of theequity in the securitized pool of loans. The declaration of trust for thesecuritization entity would typically provide for preferential distributions ofinterest, principal and liquidation proceeds to the holders other than theholder of the residual equity. Accordingly, in a securitization transaction,the residual equity that we would retain would typically bear greater risk thanif we held all the loans comprising the securitized pool in their entirety. Aninability to successfully securitize our loan portfolio could limit our abilityto grow our business, fully execute our business strategy, and decrease ourearnings, if any. Moreover, the successful securitization of our loan portfoliomight expose us to losses as the residual loans in which we do not sellinterests will tend to be those that are riskier and more apt to generatelosses.

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**If we issue senior securities,including debt, we will be exposed to additional risks, including the typicalrisks associated with leverage.**

We will be exposed toincreased risk of loss if we incur debt to make investments. If we do incurdebt, a decrease in the value of our investments would have a greater negativeimpact on the value of our common stock than if we did not use debt.  Our ability to pay dividends would berestricted if our asset coverage ratio was not at least 200%, and any amountsthat we would use to service our indebtedness would not be available fordividends to our common stockholders.  Itis likely that any senior debt securities we issue will be governed by anindenture or other instrument containing covenants restricting our operatingflexibility.  We, and indirectly ourstockholders, will bear the cost of issuing and servicing such securities. Anyconvertible or exchangeable securities that we issue in the future may haverights, preferences and privileges more favorable than those of our commonstock.

**We are exposed to risks associatedwith changes in interest rates.**

General interest ratefluctuations may have a substantial negative impact on our investments andinvestment opportunities and, accordingly, may have a material adverse effecton investment objectives and our rate of return on invested capital. Inaddition, an increase in interest rates would make it more expensive to usedebt to finance our investments.

**Our credit facility imposescertain limitations on us.**

Theadministrative agent and lenders under our credit facility have fixed dollarclaims on our assets that are senior to the claims of our stockholders and,thus, have a preference over our stockholders with respect to our assets. Ourcredit facility also contains customary default provisions and financialcovenants for loans of this nature, such as a minimum portfolio yield, maximumcharge-off ratios and default ratios with respect to the loans purchased fromus, a restriction on changing our business and loan quality standards. An eventof default under our credit facility would likely result, among other things,in termination of further funds available under that facility and anaccelerated maturity date for all amounts outstanding under the facility. Thiswould likely disrupt the portfolio companies whose loans we financed throughthe facility, could reduce our revenues and, by delaying any cash paymentallowed to us under our facility until the lenders have been paid in full,could reduce our liquidity and cash flow.

**We may experience fluctuations inour quarterly results.**

Wecould experience fluctuations in our quarterly operating results due to a numberof factors, including the interest rates payable on the debt securities weacquire, the default rates on such securities, the level of our expenses,variations in and the timing of the recognition of realized and unrealizedgains or losses, the degree to which we encounter competition in our markets,and general economic conditions. As a result of these factors, results for anyperiod should not be relied upon as being indicative of performance in futureperiods.  For additional informationconcerning the fluctuations in our operating results, see “Management’sDiscussion and Analysis of Financial Condition and Results of Operations.”

**Our investments are typically long term and will requireseveral years to realize liquidation events.**

Sincewe generally intend to make five to seven year term loans and hold our loansand related warrants or other equity positions until the loans mature, youshould not expect realization events, if any, to occur over the near term. Inaddition, we expect that any warrants or other equity positions that we receivewhen we make loans may require several years to appreciate in value and wecannot give any assurance that such appreciation will occur.

**Prepayments by our portfolio companies could adversely impactour results of operations and reduce our return on equity.**

Inaddition to risks associated with delays in investing our capital, we are alsosubject to the risk that investments that we make in our portfolio companiesmay be repaid prior to maturity. We will first use any proceeds fromprepayments to repay any borrowings outstanding on our credit facility. Inthe event that funds remain after repayment of our outstanding borrowings, thenwe will generally reinvest these proceeds in government securities, pending theirfuture investment in new debt and/or equity securities. These governmentsecurities will typically have substantially lower yields than the debtsecurities being prepaid and we could experience significant delays inreinvesting these amounts. As a result, our results of operations could bematerially adversely affected if one or more of our portfolio companies electsto prepay amounts owed to us. Additionally, prepayments could negatively impactour return on equity, which could result in a decline in the market price ofour common stock.

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**We will be subject to corporate level tax if weare unable to satisfy Internal Revenue Code requirements for RIC qualification.**

Tomaintain our qualification as a RIC, we must meet income source, assetdiversification and annual distribution requirements. The annual distributionrequirement is satisfied if we distribute at least 90% of our ordinary incomeand short-term capital gains to our stockholders on an annual basis. Because weuse leverage, we are subject to certain asset coverage ratio requirements underthe 1940 Act and could, under certain circumstances, be restricted from makingdistributions necessary to qualify as a RIC. Warrants we receive with respectto debt investments will create “original issue discount,” which we mustrecognize as ordinary income, increasing the amounts we are required todistribute to maintain RIC status. Because such warrants will not producedistributable cash for us at the same time as we are required to makedistributions in respect of the related original issue discount, we will needto use cash from other sources to satisfy such distribution requirements. Theasset diversification requirements must be met at the end of each calendarquarter. If we fail to meet these tests, we may need to quickly dispose ofcertain investments to prevent the loss of RIC status. Since most of ourinvestments will be illiquid, such dispositions, if even possible, may not bemade at prices advantageous to us and, in fact, may result in substantiallosses. If we fail to qualify as a RIC for any reason and become fully subjectto corporate income tax, the resulting corporate taxes could substantiallyreduce our net assets, the amount of income available for distribution, and theactual amount distributed. Such a failure would have a material adverse effecton us and our shares. For additional information regarding asset coverage ratioand RIC requirements, see “Business—Material U.S. Federal TaxConsiderations—Regulated Investment Company Status.”

**There are significant potential conflicts of interest whichcould impact our investment returns.**

Ourexecutive officers and directors, and the officers and directors of our Adviserand our Administrator serve or may serve as officers, directors or principalsof entities that operate in the same or a related line of business as we do orof investment funds managed by our affiliates. Accordingly, they may haveobligations to investors in those entities, the fulfillment of which might notbe in the best interests of us or our stockholders. In addition, all of ourdirectors and executive officers serve as either directors or executiveofficers, or both, of Gladstone Commercial and Gladstone Capital and ourAdviser and Administrator also provide investment advisory and administrativeservices to these affiliates as well as Gladstone Land. In the future, theAdviser and the Administrator may provide investment advisory andadministrative services, as applicable, to other funds, both public andprivate, of which it is the sponsor. Moreover, the Adviser may establish orsponsor other investment vehicles which from time to time may have potentiallyoverlapping investment objectives with those of ours and accordingly may investin, whether principally or secondarily, asset classes similar to those wetargeted. While the Adviser generally has broad authority to make investmentson behalf of the investment vehicles that it advises, the Adviser has adoptedinvestment allocation procedures to address these potential conflicts and intendsto direct investment opportunities to the Gladstone affiliate with theinvestment strategy that most closely fits the investment opportunity to ensurethe fair and equitable treatment of all the funds it manages. Nevertheless, themanagement of the Adviser may face conflicts in the allocation of investmentopportunities to other entities managed by the Adviser. As a result, it ispossible that we may not be given the opportunity to participate in certaininvestments made by other members of the Gladstone Companies or investmentfunds managed by investment managers affiliated with the Adviser.

Incertain circumstances, we may make investments in a portfolio company in whichone of our affiliates has or will have an investment, subject to satisfactionof any regulatory restrictions and, where required, to the prior approval ofour board of directors. As of March 31, 2007, our Board of Directors hasapproved the following types of co-investment transactions:

·       Ouraffiliate, Gladstone Commercial, may lease property to portfolio companies thatwe do not control under certain circumstances. We may pursue such transactionsonly if (i) the portfolio company is not controlled by us or any of ouraffiliates, (ii) the portfolio company satisfies the tenant underwritingcriteria of Gladstone Commercial, and (iii) the transaction is approved bya majority of our independent directors and a majority of the independentdirectors of Gladstone Commercial. We expect that any such negotiations betweenGladstone Commercial and our portfolio companies would result in lease termsconsistent with the terms that the portfolio companies would be likely toreceive were they not portfolio companies of ours.

·       Wemay invest simultaneously with our affiliate Gladstone Capital in senior syndicatedloans whereby neither we nor any affiliate has the ability to dictate the termsof the loans.

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Certainof our officers, who are also officers of our Adviser, may from time to timeserve as directors of certain of our portfolio companies. If an officer servesin such capacity with one of our portfolio companies, such officer will owefiduciary duties to all stockholders of the portfolio company, which duties mayfrom time to time conflict with the interests of our stockholders.

In thecourse of our investing activities, we will pay management and incentive feesto the Adviser and will reimburse the Administrator for certain expenses itincurs. As a result, investors in our common stock will invest on a “gross”basis and receive distributions on a “net” basis after expenses, resulting in,among other things, a lower rate of return than one might achieve through ourinvestors themselves making direct investments. As a result of thisarrangement, there may be times when the management team of the Adviser or theAdministrator has interests that differ from those of our stockholders, givingrise to a conflict.

**We typically invest intransactions involving acquisitions, buyouts and recapitalizations ofcompanies, which will subject us to the risks associated with change in controltransactions.**

Ourstrategy includes making debt and equity investments in companies in connectionwith acquisitions, buyouts and recapitalizations, which subjects us to therisks associated with change in control transactions. Change in controltransactions often present a number of uncertainties. Companies undergoingchange in control transactions often face challenges retaining key employees,maintaining relationships with customers and suppliers. While we hope to avoidmany of these difficulties by participating in transactions where themanagement team is retained and by conducting thorough due diligence in advanceof our decision to invest, if our portfolio companies experience one or more ofthese problems, we may not realize the value that we expect in connection withour investments which would likely harm our operating results and financialcondition

**Our portfolio companies are likely to have debtthat ranks equally with, or senior to, our investments in such companies.**

We invest primarily insubordinated debt, mezzanine debt and preferred and common equity securitiesissued by our portfolio companies in connection with buyouts orrecapitalizations of these companies. Portfolio companies undergoing thesetypes of transactions usually will have other debt that ranks equally with, orsenior to, the debt securities in which we invest. By their terms, such debtinstruments may provide that the holders are entitled to receive payment ofinterest or principal on or before the dates on which we are entitled toreceive payments in respect of the debt securities in which we invest. Also, inthe event of insolvency, liquidation, dissolution, reorganization, orbankruptcy of a portfolio company, holders of debt instruments ranking senior toour investment in that portfolio company would typically be entitled to receivepayment in full before we receive any distribution with respect to ourinvestment. After repaying its senior creditors, our portfolio company may nothave any remaining assets to use for repaying its obligation to us. In the caseof debt ranking equally with debt securities in which we invest, we would haveto share on an equal basis any distributions with other creditors holding suchdebt in the event of an insolvency, liquidation, dissolution, reorganization,or bankruptcy of the relevant portfolio company. In addition, we may not be ina position to control any portfolio company by investing in its debtsecurities. Therefore, we are subject to the risk that a portfolio company inwhich we invest may make business decisions with which we disagree, and themanagement of such company, as representatives of the holders of their equitysecurities, may take risks or otherwise act in ways that do not serve ourinterests as debt investors.

**Hedging activities may not fully protect us fromadverse changes in exchange rates or interest rates.**

While we are notcurrently engaged in any hedging transactions, if we were to engage in hedgingtransactions in the future, we may expose ourselves to risks associated withsuch transactions. We may utilize instruments such as forward contracts,currency options and interest rate swaps, caps, collars and floors to seek tohedge against fluctuations in the relative values of our portfolio positions fromchanges in currency exchange rates and market interest rates. Hedging against adecline in the values of our portfolio positions does not eliminate thepossibility of fluctuations in the values of such positions or prevent lossesif the values of such positions decline. However, such hedging can establishother positions designed to gain from those same developments, therebyoffsetting the decline in the value of such portfolio positions. Such hedgingtransactions may also limit the opportunity for gain if the values of theportfolio positions should increase. Moreover, it may not be possible to hedgeagainst a situation of an exchange rate or interest rate fluctuation that is sogenerally anticipated that we are not able to enter into a hedging transactionat an acceptable price.

Thesuccess of our hedging transactions will depend on our ability to correctlypredict movements in currency exchange and interest rates. Therefore, while wemay enter into such transactions to seek to reduce currency exchange rate andinterest rate risks, unanticipated changes in currency exchange rates orinterest rates may result in poorer overall investment performance than if wehad not engaged in any such hedging transactions. In addition, the degree ofcorrelation between price movements of the instruments used in a hedgingstrategy and price movements in the portfolio positions being hedged may vary.Moreover, for a variety of reasons, we may not seek to establish a perfectcorrelation between such hedging instruments and 

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theportfolio holdings being hedged. Any such imperfect correlation may prevent usfrom achieving the intended hedge and expose us to risk of loss. In addition,it may not be possible to hedge fully or perfectly against currencyfluctuations affecting the value of securities denominated in non- U.S.currencies because the value of those securities is likely to fluctuate as aresult of factors not related to currency fluctuations.

**There is a risk that you may not receive dividendsor that our dividends may not grow over time.**

Ourcurrent intention is to distribute at least 90% of our ordinary income andshort-term capital gains to our stockholders on a quarterly basis. We expect toretain net realized long-term capital gains to supplement our equity capital andsupport the growth of our portfolio, although our Board of Directors maydetermine in certain cases to distribute these gains. We cannot assure you thatwe will achieve investment results or maintain a tax status that will allow orrequire any specified level of cash distributions or year-to-year increases incash distributions.

**The market price of our shares may fluctuatesignificantly.**

Themarket price and marketability of our shares may from time to time besignificantly affected by numerous factors, including many over which we haveno control and that may not be directly related to us. These factors includethe following:

·                                          priceand volume fluctuations in the stock market from time to time, which are oftenunrelated to the operating performance of particular companies;

·                                          significantvolatility in the market price and trading volume of shares of RICs, businessdevelopment companies or other companies in our sector, which is notnecessarily related to the operating performance of these companies;

·                                          changesin regulatory policies or tax guidelines, particularly with respect to RICs orbusiness development companies;

·                                          lossof BDC status;

·                                          lossof RIC status;

·                                          changesin our earnings or variations in our operating results;

·                                          changesin the value of our portfolio of investments;

·                                          anyshortfall in our revenue or net income or any increase in losses from levelsexpected by securities analysts;

·                                          departureof key personnel;

·                                          operatingperformance of companies comparable to us;

·                                          short-sellingpressure with respect to our shares or business development companiesgenerally;

·                                          generaleconomic trends and other external factors; and

·                                          lossof a major funding source.

Fluctuations in thetrading prices of our shares may adversely affect the liquidity of the tradingmarket for our shares and, if we seek to raise capital through future equityfinancings, our ability to raise such equity capital.

**Shares of closed-end investment companiesfrequently trade at a discount from net asset value.**

Sharesof closed-end investment companies frequently trade at a discount from netasset value. This characteristic of shares of closed-end investment companiesis separate and distinct from the risk that our net asset value per share willdecline. Although shares of our common stock have historically traded at apremium to net asset value, there can be no guarantee that they will continueto do so.

**Provisions of the Delaware General Corporation Lawand of our certificate of incorporation and bylaws could restrict a change incontrol and have an adverse impact on the price of our common stock.**

We are subject toprovisions of the Delaware corporation law that, in general, prohibit anybusiness combination with a beneficial owner of 15% or more of our common stockfor three years unless the holder’s acquisition of our stock was eitherapproved in advance by our board of directors or ratified by the board ofdirectors and stockholders owning two-thirds of our outstanding stock not ownedby the acquiring holder. Although we believe these provisions collectivelyprovide for an opportunity to receive higher bids by requiring potentialacquirers to negotiate with our board of directors, they would apply even ifthe offer may be considered beneficial by some stockholders.

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Wehave also adopted other measures that may make it difficult for a third partyto obtain control of us, including provisions of our certificate ofincorporation classifying our board of directors in three classes servingstaggered three-year terms, and provisions of our certificate of incorporationauthorizing our board of directors to induce the issuance of additional sharesof our stock. These provisions, as well as other provisions of our certificateof incorporation and bylaws, may delay, defer, or prevent a transaction or achange in control that might otherwise be in the best interests of ourstockholders.

**We could face losses and potential liability if intrusion,viruses or similar disruptions to our technology jeopardize our confidentialinformation or that of users of our technology.**

Althoughwe have implemented, and will continue to implement, security measures, ourtechnology platform is and will continue to be vulnerable to intrusion,computer viruses or similar disruptive problems caused by transmission fromunauthorized users. The misappropriation of proprietary information couldexpose us to a risk of loss or litigation.

**Item 1B. Unresolved Staff Comments**

None.

**Item 2. Properties**

Wedo not own any real estate or other physical properties materially important toour operation.  Our Adviser is thecurrent leaseholder of all properties in which we operate.  We occupy these premises pursuant to theAdvisory and Administrative Agreements with our Adviser and Administrator,respectively.  Our headquarters arelocated in McLean, Virginia and we also have operations in the states of NewYork, New Jersey, Illinois, Pennsylvania, Kentucky, Texas and Washington.

**Item 3. Legal Proceedings**

Weare not currently subject to any material legal proceedings, nor, to ourknowledge, is any material legal proceeding threatened against us.

**Item 4. Submission of Matters to a Vote ofSecurity Holders**

Nomatters were submitted to a vote of security holders during the fourth quarterof the fiscal year ended March 31, 2007.

**PART II**

**Item 5. Market for Registrant’s Common Equity,Related Stockholder Matters and Issuer Purchases of Equity Securities**

Ourcommon stock is traded on the NASDAQ Global Market under the symbol “GAIN.” Thefollowing table reflects, by quarter, the high and low closing prices per shareof our common stock on the NASDAQ Global Market (The Nasdaq National Market forperiods prior to July 1, 2006) for each fiscal quarter during the currentand prior fiscal years.

|            | ** ** | **Quarter  Ended** | ** ** | **High**   | ** ** | **Low**    | ** ** |
|------------|------------|--------------------|------------|------------|------------|------------|------------|
| ** ** | ** ** | ** **         | ** ** | ** ** | ** ** | ** ** | ** ** |
| FY 2007    |       | 3/31/07            |       | $          | 16.00      |       | $          | 14.41 |   |
|       |       | 12/31/06           |       | 15.31      |       | 14.17      |       |
|       |       | 9/30/06            |       | 14.82      |       | 13.50      |       |
|       |       | 6/30/06            |       | 15.01      |       | 13.56      |       |
|       |       |               |       |       |       |       |       |
| FY 2006    |       | 3/31/06            |       | $          | 15.25      |       | $          | 13.84 |   |
|       |       | 12/31/05           |       | 14.96      |       | 13.43      |       |
|       |       | 9/30/05            |       | 16.10      |       | 14.68      |       |
|       |       | 6/30/05            |       | 15.09      |       | 15.00      |       |

 

Asof May 18, 2007 there were approximately 35 stockholders of record of ourCommon Stock.

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**Dividends**

Wecurrently intend to distribute in the form of cash dividends a minimum of 90%of our ordinary income and short-term capital gains, if any, on a quarterlybasis to our stockholders in the form of monthly dividends. Amounts presentedfor each fiscal quarter of 2007 and 2006 represent the cumulative amount of thedividends declared for the months composing such quarter. The following tablereflects, by quarter, the dividends per share that we have declared on ourcommon stock during fiscal years 2007 and 2006:

|         | ** ** | **Quarter  Ended** | ** ** | **Cash Dividend  Per Share** | ** ** |
|---------|------------|--------------------|------------|----------------------------------------|------------|
|    |       |               |       |                                   |       |
| FY 2007 |       | 3/31/07            |       | $                                      | 0.225      |   |
|    |       | 12/31/06           |       | 0.21                                   |       |
|    |       | 9/30/06            |       | 0.21                                   |       |
|    |       | 6/30/06            |       | 0.21                                   |       |
|    |       |               |       |                                   |       |
| FY 2006 |       | 3/31/06            |       | $                                      | 0.21       |   |
|    |       | 12/31/05           |       | 0.12                                   |       |
|    |       | 9/30/05            |       | 0.06                                   |       |
|    |       | 6/30/05            |       | 0.00                                   |       |

 

**Recent Sales of Unregistered Securities**

There were no unregistered sales of our securitiesduring the fiscal year ended March 31, 2007.

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**Item 6. Selected Financial Data**

Thefollowing selected financial data for the fiscal year ended March 31, 2007 andthe period June 22, 2005 (commencement of operations) through March 31, 2006are derived from our audited consolidated financial statements. The data shouldbe read in conjunction with our consolidated financial statements and notesthereto and “Management’s Discussion and Analysis of Financial Condition andResults of Operations” included elsewhere in this report.

**GLADSTONEINVESTMENT CORPORATIONSELECTED FINANCIAL DATA**
| ** **                                             | ** ** | **Year Ended   March 31, 2007** | ** **  | **Period June 22,  2005   (commencement of  operations)   Through March 31,  2006** | ** ** |
|--------------------------------------------------------|------------|-----------------------------------------------------|-------------|------------------------------------------------------------------------------------------------------------------------|------------|
|                                                   |       |                                                |        |                                                                                                                   |       |
| Total Investment Income                                |       | $                                                   | 17,261,636  |                                                                                                                   | $          | 7,370,856 |   |
| Total Expenses                                         |       | 6,113,904                                           |        | 1,486,958                                                                                                              |       |
| Net Investment Income                                  |       | 11,147,732                                          |        | 5,883,898                                                                                                              |       |
| Net (Loss) Gain on  Investments                        |       | (3,879,328                                          | )           | 170,399                                                                                                                |       |
| Net Increase in Net  Assets Resulting from Operations  |       | $                                                   | 7,268,404   |                                                                                                                   | $          | 6,054,297 |   |
|                                                   |       |                                                |        |                                                                                                                   |       |
| Per Share Data:                                        |       |                                                |        |                                                                                                                   |       |
| Net Increase in  Net Assets Resulting from Operations: |       |                                                |        |                                                                                                                   |       |
| Basic &  Diluted                                   |       | $                                                   | 0.44        |                                                                                                                   | $          | 0.37 |   |
| Cash  Distributions Declared per Share                 |       | 0.855                                               |        | 0.39                                                                                                                   |       |
|                                                   |       |                                                |        |                                                                                                                   |       |
| Statement of Assets and  Liabilities Data:             |       |                                                |        |                                                                                                                   |       |
| Total Assets                                           |       | $                                                   | 323,590,215 |                                                                                                                   | $          | 230,323,807 |   |
| Net Assets                                             |       | 222,818,509                                         |        | 229,841,697                                                                                                            |       |
|                                                   |       |                                                |        |                                                                                                                   |       |
| Other Data:                                            |       |                                                |        |                                                                                                                   |       |
| Number of Portfolio  Companies at Period End           |       | 47                                                  |        | 22                                                                                                                     |       |
| New Investments                                        |       | $                                                   | 182,953,071 |                                                                                                                   | $          | 160,646,470 |   |
| Proceeds from  Loan Repayments and Investments Sold    |       | 61,166,782                                          |        | 7,381,468                                                                                                              |       |
| Total Return (1)                                       |       | 4.36                                                | %           | 3.39                                                                                                                   | %          |
|                                                   |       |                                                |        |                                                                                                                   |       |
| Weighted Average Yield on Investments (2)              |       | 8.72                                                | %           | 7.02                                                                                                                   | %          |

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(1)             Totalreturn equals the increase of the ending market value over the beginning marketvalue plus monthly dividends divided by the monthly beginning market value.

(2)             Weightedaverage yield on investments equals interest income on investments divided bythe annualized weighted average investment balance throughout the year.

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**Item 7.Management’s Discussion and Analysis of Financial Condition and Results ofOperations**

*The following analysis of our financial conditionand results of operations should be read in conjunction with our financialstatements and the notes thereto contained elsewhere in this Form 10-K.*

**OVERVIEW**

We were incorporatedunder the General Corporation Laws of the State of Delaware on February 18,2005. We were primarily established for the purpose of investing insubordinated loans, mezzanine debt, preferred stock and warrants to purchasecommon stock of small and medium-sized companies in connection with buyouts andother recapitalizations. We also invest in common stock and in senior andsubordinated syndicated loans. Our investment objective is to generate bothcurrent income and capital gains through these debt and equity instruments. Weoperate as a closed-end, non-diversified management investment company, andhave elected to be treated as a business development company under theInvestment Company Act of 1940 (the “1940 Act”).

Our primary investmentfocuses are situations involving buyouts and recapitalizations of small andmid-sized companies with established management teams. We expect that ourinvestments will generally range between $10 million and $30 million each,although this investment size may vary proportionately as the size of ourcapital base changes. We intend to invest either by ourselves or jointly withother buyout funds and/or management of the portfolio company, depending on theopportunity. If we are participating in an investment with one or moreco-investors, then our investment is likely to be smaller than if we were to beinvesting alone.

We have invested some ofthe proceeds of our initial public offering in senior secured syndicated loans,since these investments typically may be made more quickly than investments incompanies undergoing a buyout or recapitalization. We employed this strategy inorder to more quickly invest our initial capital to generate current income,and have continued this strategy in order to build a portfolio of investmentsthat may be securitized. Senior secured syndicated loans typically involve anumber of banks or other financial institutions and are generally moremarketable than loans that are not syndicated.

Certain loan investmentsmay have a form of interest that is not paid currently but is accrued and addedto the loan balance and paid at the end of the term. This interest is called “paidin kind” interest or “PIK.” We generally seek investments that do not generatePIK interest as we have to pay out this accrued interest as dividends to ourstockholders and we may have to borrow money or raise additional capital in orderto meet the tax test for regulated investment companies (“RICs”) by having topay out at least 90% of our income.  Asof March 31, 2007, none of our investments bore PIK interest.

Originalissue discounts (“OID”) arise when we extend a loan and receive an equityinterest in the borrower at the same time.  To the extent that the pricepaid for the equity is not at market value, we must allocate part of the pricepaid for the loan to the value of the equity.  Then the amount allocatedto the equity, the OID, must be amortized over the life of the loan.  Aswith PIK interest, the amortization of OID also produces income that must berecognized for purposes of satisfying the distribution requirements for a RICunder Subchapter M of the Internal Revenue Code of 1986 (the “Code”), whereasthe cash is received, if at all, when the equity instrument is sold.  Weseek to avoid OID with all potential investments under review and to date donot hold any investments with OID.

Inaddition, as a business development company under the 1940 Act, we are requiredto make available significant managerial assistance to our portfolio companies.We provide these services through Gladstone Management Corporation (our “Adviser”),who provides these services on our behalf through its officers who are also ourofficers. Currently, neither we nor our Adviser charges a fee for managerialassistance.

OurAdviser receives fees for other services it provides to portfolio companies.These other fees are typically non-recurring, are recognized as revenue whenearned and are generally paid directly to our Adviser by the borrower orpotential borrower upon closing of the investment. The services our Adviserprovides to portfolio companies vary by investment, but generally include abroad array of services, such as investment banking services, arranging bankand equity financing, structuring financing from multiple lenders andinvestors, reviewing existing credit facilities, restructuring existing loans,raising equity and debt capital, turnaround management, merger and acquisitionservices and recruiting new management personnel. When our Adviser receivesfees for these services, 50% of those fees are credited to the base managementfees we pay to the Adviser. Any services of this nature subsequent to theclosing would typically generate a separate fee at the time of completion.

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OurAdviser also receives fees for monitoring and reviewing portfolio companyinvestments. These fees are recurring and are generally paid annually orquarterly in advance to our Adviser throughout the life of the investment. Feesof this nature are recorded as revenue by our Adviser when earned and are notcredited against the base management fees. While our Adviser receives all feesin connection with our investments, such fees received by our Adviser, with theexception of monitoring and review fees, are partially credited to us as areduction of the advisory fee payable under the advisory agreement between us.

Inthe event that we expend significant effort in considering and negotiating apotential investment that ultimately is not consummated, we generally will seekreimbursement from the proposed borrower for our reasonable expenses incurredin connection with the transaction, including legal fees. Any amounts collectedfor expenses incurred by the Adviser in connection with unconsummatedinvestments will be reimbursed to our Adviser. Amounts collected for theseexpenses incurred by us will be reimbursed to us and will be recognized in theperiod in which such reimbursement is received, however, there can be noguarantee that we will be successful in collecting any such reimbursements.

**Our Adviser and Administrator**

OurAdviser is led by a management team which has extensive experience in our linesof business.  Our Adviser also has awholly-owned subsidiary, Gladstone Administration, LLC (the “Administrator”),which employs our chief financial officer, chief compliance officer,controller, treasurer and their respective staffs.  All of our executive officers are officers ordirectors, or both, of our Adviser.

OurAdviser also provides investment advisory and administrative services to ouraffiliates Gladstone Commercial Corporation, a publicly traded real estateinvestment trust; Gladstone Capital Corporation, a publicly traded registeredinvestment company; and Gladstone Land Corporation, an agricultural real estatecompany owned by Mr. Gladstone.  All ofour directors and executive officers serve as either directors or executive officers,or both, of Gladstone Commercial Corporation and Gladstone CapitalCorporation.  In the future, our Advisermay provide investment advisory and administrative services to other funds,both public and private, of which it is the sponsor.

Wehave been externally managed by our Adviser pursuant to an investment advisoryand administrative agreement since our inception.  Our Adviser was organized as a corporationunder the laws of the State of Delaware on July 2, 2002, and is a registeredinvestment adviser under the 1940 Act. Our Adviser is headquartered in McLean, Virginia, a suburb ofWashington, D.C., and has offices in the states of New York, Illinois,Pennsylvania, New Jersey, Kentucky, Texas and Washington.

**InvestmentAdvisory and Management Agreement**

Pursuantto the investment advisory and management agreement (the “Advisory Agreement”)with our Adviser we pay our Adviser fees, as compensation for its services,consisting of a base management fee and an incentive fee.

Thebase management fee is assessed at an annual rate of 2.0% computed on the basisof the average value of our gross invested assets at the end of the two mostrecently completed quarters, which are total assets less the cash proceeds andcash and cash equivalent investments from the proceeds of our initial publicoffering that are not invested in debt and equity securities of portfoliocompanies.  Through December 31, 2006, the base management fee wascomputed and payable quarterly.  Beginning in periods subsequent toDecember 31, 2006, the base management fee is computed and payable quarterlyand is assessed at an annual rate of 2.0% computed on the basis of the averagevalue of our gross assets at the end of the two most recently completedquarters, which are total assets, including investments made with proceeds of borrowings,less any uninvested cash or cash equivalents resulting from borrowings. This new calculation was originally scheduled to begin in periods after March31, 2006; however, on April 11, 2006, July 11, 2006 and October 10, 2006, ourBoard of Directors accepted voluntary waivers from our Adviser that allowed thecurrent calculation of the base management fee to be effective through June 30,2006, September 30, 2006 and December 31, 2006, respectively.

OnJanuary 9, 2007, our Board of Directors accepted a voluntary waiver from theAdviser to reduce the annual 2.0% base management fee on senior syndicated loanparticipations to 0.5% to the extent that proceeds resulting from borrowingswere used to purchase such syndicated loan participations for the three monthsended March 31, 2007

Whenour Adviser receives fees from our portfolio companies, such as investmentbanking fees, structuring fees or executive recruiting services fees,50% of certain of these fees will be credited against the base managementfee that we would otherwise be required to pay to our Adviser.

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Inaddition, our Adviser services the loans held by Gladstone Business Investment,LLC (“Business Investment”), in return for which the Adviser receives a 2.0%annual fee based on the monthly aggregate balance of loans held by BusinessInvestment.  Since we own these loans, all loan servicing fees paid to ourAdviser are treated as reductions against the 2.0% base management fee. Overall, the base management fee due to our Adviser cannot exceed 2.0% of totalassets (as reduced by cash and cash equivalents pledged to creditors) duringany given fiscal year.

Theincentive fee consists of two parts: an income-based incentive fee and acapital gains incentive fee. The income-based incentive fee rewards our Adviserif our quarterly net investment income (before giving effect to any incentivefee) exceeds 1.75% of our net assets (the “hurdle rate”). We pay our Adviser anincome incentive fee with respect to our pre-incentive fee net investmentincome in each calendar quarter as follows:

·             no incentive fee inany calendar quarter in which our pre-incentive fee net investment income doesnot exceed the hurdle rate (7% annualized);

·             100% of ourpre-incentive fee net investment income with respect to that portion of suchpre-incentive fee net investment income, if any, that exceeds the hurdle ratebut is less than 2.1875% in any calendar quarter (8.75% annualized); and

·             20% of the amount ofour pre-incentive fee net investment income, if any, that exceeds 2.1875% inany calendar quarter (8.75% annualized).

Thesecond part of the incentive fee is a capital gains incentive fee that isdetermined and payable in arrears as of the end of each fiscal year (or upontermination of the Advisory Agreement, as of the termination date), and equals20% of our realized capital gains as of the end of the fiscal year. Indetermining the capital gains incentive fee payable to our Adviser, wecalculate the cumulative aggregate realized capital gains and cumulativeaggregate realized capital losses since our inception, and the aggregateunrealized capital depreciation as of the date of the calculation, asapplicable, with respect to each of the investments in our portfolio.

**Administration Agreement**

Wehave entered into an administration agreement with our Administrator (the “AdministrationAgreement”) whereby under the Administration Agreement, we pay separately foradministrative services. The Administration Agreement provides for paymentsequal to our allocable portion of our Administrator’s overhead expenses inperforming its obligations under the Administration Agreement including, butnot limited to, rent for employees of our Administrator, and our allocableportion of the salaries and benefits expenses of our chief financial officer,controller, chief compliance officer, treasurer and their respective staffs.

**Critical Accounting Policies**

Thepreparation of financial statements and related disclosures in conformity withaccounting principles generally accepted in the United States (“GAAP”) requiresmanagement to make estimates and assumptions that affect the reported amountsof assets and liabilities, and disclosure of contingent assets and liabilitiesat the date of the financial statements, and revenues and expenses during theperiod reported. Actual results could differ materially from those estimates.Our accounting policies are more fully described in the “Notes to ConsolidatedFinancial Statements” contained elsewhere in this report. We have identifiedour investment valuation process as our most critical accounting policy.

**Investment Valuation**

The most significantestimate inherent in the preparation of our consolidated financial statementsis the valuation of investments and the related amounts of unrealizedappreciation and depreciation of investments recorded.

*General Valuation Policy:*Using procedures established by our Board of Directors, we value our investmentportfolio each quarter. We carry our investments at fair value, as determinedin good faith by or under the direction of our Board of Directors. Securitiesthat are publicly traded, if any, are valued at the closing price of theexchange or securities market on which they are listed on the valuation date.Securities that are not traded on a public exchange or securities market, butfor which a limited market exists and that have been rated by a nationallyrecognized statistical rating organizations (“NRSRO”), (such as certainparticipations in syndicated loans) are valued at the indicative bid priceoffered by the syndication agent on the valuation date.

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Debt and equitysecurities that are not publicly traded, for which a limited market does notexist, or for which a limited market exists but that have not been rated by aNRSRO (or for which we have various degrees of trading restrictions) are valuedat fair value as determined in good faith by or under the direction of ourBoard of Directors.  In making the goodfaith determination of the value of these securities, we start with the costbasis of the security, which includes the amortized OID and PIK interest, ifany.  We then apply the methods set outbelow in “Valuation Methods.”  Members ofour Adviser’s portfolio management team prepare the valuations of ourinvestments in portfolio companies using the most recent portfolio companyfinancial statements and forecasts. These individuals also consult with portfolio company senior managementand ownership to obtain further updates on the portfolio company’s performance,including information such as industry trends, new product development, andother operational issues.  Due to theuncertainty inherent in the valuation process, such estimates of fair value maydiffer significantly from the values that would have been obtained had a readymarket for the securities existed, and the differences could be material.  Additionally, changes in the marketenvironment and other events that may occur over the life of the investmentsmay cause the gains or losses ultimately realized on these investments to bedifferent than the valuations currently assigned.  There is no single standard for determiningfair value in good faith, as fair value depends upon circumstances of eachindividual case.  In general, fair valueis the amount that we might reasonably expect to receive upon the current saleof the security.

At March 31, 2007, weengaged Standard and Poor’s Securities Evaluations, Inc. (“SPSE”) to submitopinions of value for 13 of our loan securities.  We request that SPSE also evaluate and assignvalues to success fees (conditional interest included in some loan securities)when we determine that the probability of receiving a success fee on a givenloan is above 6-8%, a threshold of significance.  Upon completing our collection of data withrespect to the investments (including the information described under “CreditInformation,” the risk ratings of the loans described under “Loan Grading andRisk Rating” and the factors described under “Valuation Methods”), thisvaluation data is forwarded to SPSE for review and analysis.  SPSE makes its independent assessment of thedata that we have assembled and assesses its independent data to form anopinion as to what they consider to be the market values for thesecurities.  With regard to its work,SPSE has issued the following paragraph:

SPSE provides evaluatedprice opinions which are reflective of what SPSE believes the bid side of themarket would be for each loan after careful review and analysis of descriptive,market and credit information. Each price reflects SPSE’s best judgment basedupon careful examination of a variety of market factors. Because of fluctuationin the market and in other factors beyond its control, SPSE cannot guaranteethese evaluations. The evaluations reflect the market prices, or estimatesthereof, on the date specified. The prices are based on comparable marketprices for similar securities. Market information has been obtained fromreputable secondary market sources. Although these sources are consideredreliable, SPSE cannot guarantee their accuracy.

SPSE opinions of valueare submitted to our Board of Directors along with our Adviser’s supplementalassessment and recommendation regarding valuation of each of these investments.Our Adviser generally accepts the opinion of value given by SPSE, however in certainlimited circumstances, such as when our Adviser may learn new information regarding an investment between the time ofsubmission to SPSE and the date of the board assessment, our Adviser’sconclusions as to value may differ from the opinion of value delivered bySPSE.  Our Board of Directors thenreviews whether our Adviser has followed its established procedures fordeterminations of fair value, and votes to accept or not accept the recommendedvaluation of our investment portfolio. Our Adviser and our management recommended, and the Board of Directorselected to accept, the opinions of value delivered by SPSE on the 13 loans inour portfolio as denoted on the Schedule of Investments as of March 31, 2007included in our consolidated financial statements.

Because there is a delaybetween when we close an investment and when the investment can be evaluated bySPSE, new loans are not valued immediately by SPSE; rather, management  makes its own determination about the valueof these investments in accordance with our valuation policy.  Because SPSE does not provide values forequity securities, our Adviser determines the fair value of these investmentsusing valuation policies approved by our Board of Directors.

*Credit Information:*** **OurAdviser monitors a wide variety of key credit statistics that provideinformation regarding our portfolio companies to help us assess credit qualityand portfolio performance.  We and ourAdviser participate in the

periodic board meetingsof our portfolio companies in which we hold control and affiliate investmentsand also require them to provide annual audited and monthly unaudited financialstatements.  Using these statements andboard discussions, our Adviser calculates and evaluates the credit statistics.

*Loan Grading and Risk Rating:*** **Aspart of our valuation procedures we risk rate all of our investments in debtsecurities. For syndicated loans that have been rated by a NRSRO (as defined inRule 2a-7 under the 1940 Act), we use the NRSRO’s risk rating for such security. For all other debt securities, weuse a proprietary risk rating system. Our risk rating system uses a scale of 0to 10, with 10 being the lowest probability of default. This system is used toestimate the probability of default on debt securities and the probability ofloss if there is a default. These types of systems are referred to as riskrating systems and are used by banks and rating agencies. The risk ratingsystem covers both qualitative and quantitative aspects of the business and thesecurities we hold.

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For the debt securitiesfor which we do not use a third-party NRSRO risk rating, we seek to have ourrisk rating system mirror the risk rating systems of major risk ratingorganizations, such as those provided by a NRSRO. While we seek to mirror theNRSRO systems, we cannot provide any assurance that our risk rating system willprovide the same risk rating as a NRSRO for these securities. The followingchart is an estimate of the relationship of our risk rating system to thedesignations used by two NRSROs as they risk rate debt securities of majorcompanies. Because our system rates debt securities of companies that areunrated by any NRSRO, there can be no assurance that the correlation to theNRSRO set out below is accurate. We believe our risk rating would besignificantly higher than a typical NRSRO risk rating because the risk ratingof the typical NRSRO is designed for larger businesses. However, our riskrating has been designed to risk rate the securities of smaller businesses thatare not rated by a typical NRSRO. Therefore, when we use our risk rating onlarger business securities, the risk rating is higher than a typical NRSROrating. The primary difference between our risk rating and the rating of atypical NRSRO is that our risk rating uses more quantitative determinants andincludes qualitative determinants that we believe are not used in the NRSROrating. It is our understanding that most debt securities of medium-sizedcompanies do not exceed the grade of BBB on a NRSRO scale, so there would be nodebt securities in the middle market that would meet the definition of AAA, AAor A. Therefore, our scale begins with the designation 10 as the best riskrating which may be equivalent to a BBB from a NRSRO, however, no assurance canbe given that a 10 on our scale is equal to a BBB on a NRSRO scale.
| **Company’s  System** | ** ** | **First  NRSRO** | ** ** | **Second  NRSRO** | ** ** | **Gladstone Investment’s Description(a)**                                              |
|----------------------------|------------|------------------|------------|-------------------|------------|-------------------------------------------------------------------------------------------------------|
| **>10**                 |       | Baa2             |       | BBB               |       | Probability of Default (PD) during the next ten  years is 4% and the Expected Loss (EL) is 1% or less |
| **10**                     |       | Baa3             |       | BBB-              |       | PD is 5 and the EL is 1 to 2%                                                                         |
| **9**                      |       | Ba1              |       | BB+               |       | PD is 10 and the EL is 2 to 3%                                                                        |
| **8**                      |       | Ba2              |       | BB                |       | PD is 16 and the EL is 3 to 4%                                                                        |
| **7**                      |       | Ba3              |       | BB-               |       | PD is 17.8 and the EL is 4 to 5%                                                                      |
| **6**                      |       | B1               |       | B+                |       | PD is 22 and the EL is 5 to 6.5%                                                                      |
| **5**                      |       | B2               |       | B                 |       | PD is 25 and the EL is 6.5 to 8%                                                                      |
| **4**                      |       | B3               |       | B-                |       | PD is 27 and the EL is 8 to 10%                                                                       |
| **3**                      |       | Caa1             |       | CCC+              |       | PD is 30 and the EL is 10.0 to 13.3%                                                                  |
| **2**                      |       | Caa2             |       | CCC               |       | PD is 35 and the EL is 13.3 to 16.7%                                                                  |
| **1**                      |       | Caa3             |       | CC                |       | PD is 65 and the EL is 16.7 to 20%                                                                    |
| **0**                      |       | N/a              |       | D                 |       | PD is 85 or there is a Payment Default and the EL is  greater than 20%                                |

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(a)             *the default rates set forth are for a ten year term debt security.  If a debt security is less than ten years,then the probability of default is adjusted to a lower percentage for theshorter period, which may move the security higher on our risk rating scale.*

The above scale gives anindication of the probability of default and the magnitude of the loss if thereis a default.  Our policy is to stopaccruing interest on an investment if we determine that interest is no longercollectible.  At March 31, 2007 and 2006,no payments were past due on any of our debt securities.  Additionally, we do not risk rate our equitysecurities.

The following table liststhe risk ratings for all non-syndicated loans in our portfolio at March 31,2007 and March 31, 2006, representing approximately 44% and 31%, respectively,of all loans in our portfolio:

| Rating           | ** ** | **March 31, 2007** | ** ** | **March 31, 2006** |
|------------------|------------|--------------------|------------|------------------------------|
| Highest          |       | 8.0                |       | 6.0                          |
| Average          |       | 5.7                |       | 5.3                          |
| Weighted Average |       | 5.0                |       | 5.3                          |
| Lowest           |       | 2.0                |       | 5.0                          |

 

The following table liststhe risk ratings for syndicated loans in our portfolio that are not currentlyrated by an NRSRO at March 31, 2007 and March 31, 2006, representingapproximately 14% and 12%, respectively, of all loans in our portfolio:

| Rating           | ** ** | **March 31, 2007** | ** ** | **March 31, 2006** |
|------------------|------------|--------------------|------------|------------------------------|
| Highest          |       | 8.0                |       | 9.0                          |
| Average          |       | 7.2                |       | 7.8                          |
| Weighted Average |       | 7.3                |       | 7.7                          |
| Lowest           |       | 6.0                |       | 7.0                          |

 

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For syndicated loans thatare currently rated by an NRSRO, we risk rate such loans in accordance with therisk rating systems of major risk rating organizations such as those providedby a NRSRO. The following table lists the risk ratings for  all syndicated loans in our portfolio thatare currently rated by an NRSRO at March 31, 2007 and March 31, 2006,representing approximately 42% and 57%, respectively, of all loans in ourportfolio:

| Rating           | ** ** | **March 31, 2007** | ** ** | **March 31, 2006** |
|------------------|------------|--------------------|------------|------------------------------|
| Highest          |       | BB-/Ba2            |       | BB/Ba2                       |
| Average          |       | B+/B1              |       | B+/B1                        |
| Weighted Average |       | B+/B1              |       | B/B2                         |
| Lowest           |       | B/B2               |       | B/B2                         |

 

*Valuation Methods:*  We determine the value of publicly-tradeddebt securities based on the closing price for the security on the exchange orsecurities market on which it is listed on the valuation date.  We value debt securities that are notpublicly traded, but for which a limited market for the security exists, suchas participations in syndicated loans, at the indicative bid price offered bythe syndication agent on the valuation date. At March 31, 2007, none of the debt securities in our portfolio werepublicly traded and there was a limited market for 42 debt securities in ourportfolio. At March 31, 2006, none of the debt securities in our portfolio werepublicly traded and there was a limited market for 19 debt securities in our portfolio.

For debt securities thatare not publicly traded, for which there is no market, or for which there is amarket but the securities have not been rated by a NRSRO, we begin with therisk rating designation of the security as described above.  Using this risk rating designation, we seekto determine the value of the security as if we intended currently to sell thesecurity and consider some or all of the following factors:

·                  the cost basisand the type of the security;

·                  the nature andrealizable value of the collateral;

·                  the portfoliocompany’s ability to make payments and discounted cash flow;

·                  reports fromportfolio company senior management and board meetings;

·                  reported valuesof similar securities of the portfolio company or comparable companies; and

·                  changes in theeconomy affecting the portfolio company.

We value convertibledebt, equity, success fees or other equity-like securities for which there is amarket based on the market prices for such securities, even if that market isnot robust.  At March 31, 2007  and March 31, 2006 there was no market for anyof the equity securities we owned.  Tovalue convertible debt, equity, success fees or other equity-like securitiesfor which no market exists, we use the same information we would use for a debtsecurity valuation described above, except risk-rating, as well as standardvaluation techniques used by major valuation firms to value the equitysecurities of private companies.  Thesevaluation techniques consist of discounted cash flow of the expected sale pricein the future, valuation of the securities based on recent sales in comparabletransactions, and a review of similar companies that are publicly traded andthe market multiple of their equity securities. At March 31, 2007 we had $28.6 million invested, at cost, in equity securities compared to our debtportfolio with a cost basis of $246.0 million. At March 31, 2006 we had $12.8 million invested, at cost, in equitysecurities compared to our debt portfolio with a cost basis of $140.5 million.

At March 31, 2007, we hadtotal unrealized depreciation of approximately $3.7 million, which wasprimarily comprised of net unrealized depreciation of our preferred and commonstock in Chase II Acquisition Corp.  At March31, 2006 we had total unrealized appreciation of approximately $113,000, whichwas mainly composed of net unrealized appreciation of our syndicated loaninvestments.

**Tax Status**

*Federal Income Taxes*

We currentlyqualify and intend to continue to qualify for treatment as a RIC under SubtitleA, Chapter 1 of Subchapter M of the Internal Revenue Code of 1986, as amended(the “Code”). As a RIC, we are not subject to federal income tax on the portionof our taxable income and gains distributed to stockholders. To qualify as aRIC, we are required to distribute to stockholders at least 90% of investmentcompany taxable income, as defined by the Code. It is our policy to pay out asa dividend up to 100% of those amounts.

In an effort toavoid certain excise taxes imposed on RICs, we currently intend to distributeduring each calendar year, an amount at least equal the sum of (1) 98% of ourordinary income for the calendar year, (2) 98% of our capital gains in excessof capital losses for the one-year period ending on October 31 of the calendaryear, and (3) any ordinary income and net capital gains for preceding yearsthat were not distributed during such years.

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**Revenue Recognition**

*Interest and Dividend  Income Recognition*

Interest income isrecorded on the accrual basis to the extent that such amounts are expected tobe collected. We will stop accruing interest on investments when it isdetermined that interest is no longer collectible. There were no uncollectibleaccounts at March 31, 2007 or March 31, 2006. Conditional interest, or asuccess fee, is recorded when earned upon full repayment of a loan investment.To date we have not recorded any conditional interest.  Dividend income on preferred equitysecurities is accrued to the extent that such amounts are expected to becollected and that we have the option to collect such amounts in cash.  To date, we have not accrued any dividendincome.

*Services Provided to Portfolio Companies*

The1940 Act requires that a business development company make available managerialassistance to its portfolio companies by providing significant guidance andcounsel concerning the management, operations, or business objectives and policiesof the respective portfolio company. We provide these and other services toportfolio companies through our Adviser. Currently, neither we nor our Adviserreceive fees in connection with managerial assistance.

OurAdviser receives fees for the other services it provides to portfoliocompanies.  These other fees aretypically non-recurring, are recognized as revenue when earned and aregenerally paid directly to our Adviser by the borrower or potential borrowerupon the closing of the investment. The services our Adviser provides vary byinvestment, but generally include a broad array of services such as investmentbanking services, arranging bank and equity financing, structuring financingfrom multiple lenders and investors, reviewing existing credit facilities,restructuring existing investments, raising equity and debt capital, turnaroundmanagement, merger and acquisition services and recruiting new managementpersonnel.  When our Adviser receivesfees for these services, 50% of certain of those fees are credited against thebase management fee due to the Adviser from us. Any services of this naturesubsequent to the closing would typically generate a separate fee at the timeof completion.

OurAdviser also receives fees for monitoring and reviewing portfolio companyinvestments.  These fees are recurringand are generally paid annually or quarterly in advance to our Adviserthroughout the life of the investment. Fees of this nature are recorded as revenue when earned by our Adviserwhich are not credited against the base management fee.

Wemay receive fees for the origination and closing services we provide toportfolio companies through our Adviser. These fees are paid directly to us and are recognized as revenue uponclosing of the originated investment.

**RESULTS OF OPERATIONS**

*For thefiscal year ended March 31, 2007 compared to the period June 22, 2005(commencement of operations) to March 31, 2006.*

**InvestmentIncome**

Investment income for theyear ended March 31, 2007 was $17,261,636, compared to investment income forthe period June 22, 2005 (commencement of operations) to March 31, 2006 of$7,370,856.

Interestincome from Non-Control/Non-Affiliate investments increased $7,121,687 to$9,572,593 for the year ended March 31, 2007, compared to $2,450,906 for theperiod June 22, 2005 (commencement of operations) to March 31, 2006.  Thisincrease was mainly the result of additional Non-Control/Non-Affiliateinvestments made during the year ended March 31, 2007 compared to the prioryear period, coupled with the incremental investment activity over theshortened prior year period.

Interestincome from Control investments was $5,486,060 for the year ended March 31,2007, compared to $255,059 for the period June 22, 2005 (commencement ofoperations) to March 31, 2006.   Thisincrease is mainly attributable to the purchase of two additional Controlinvestments, as well as holding the three Control investments purchased in theprior year for a full fiscal year.

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Interestincome from Affiliate investments was $535,629 for year ended March 31, 2007representing interest on our loan investments to our Non-Control affiliates. AtMarch 31, 2006, we had not yet invested in any Affiliate investments.

Interest income from cashand equivalents decreased $2,773,059 to $1,661,647 for year ended March 31,2007 from $4,434,706 for the period June 22, 2005 (commencement of operations)to March 31, 2006.  This decrease is the result of the complete investmentof the proceeds of our initial public offering in Control, Affiliate andNon-Control/Non-Affiliate investments.

The annualized weightedaverage yield on our portfolio of investments, excluding cash and cashequivalents, was 8.72% for the year ended March 31, 2007, compared to 7.02% forthe period June 22, 2005 (commencement of operations) to March 31, 2006.

For the period June 22,2005 (commencement of operations) to March 31, 2006 we recognized fee income of$230,000 representing financing fees from the acquisition of one ControlInvestment.  No fee income was recorded duringfiscal 2007.

Other income increased$5,522 to $5,707 for the year ended March 31, 2007 from $185 in the prior yearperiod.  Other income is comprised ofloan amendment fees that are amortized over the remaining lives of the respectiveloans.

**Operating Expenses**

Operatingexpenses for year ended March 31, 2007 were $6,991,487 compared to $2,041,547for the period June 22, 2005 (commencement of operations) March 31, 2006,representing an overall increase of $4,949,940.

For theyear ended March 31, 2007, we incurred gross base management fees of$3,981,970, less credits for fees received by our Adviser of $1,568,854, for anet management fee of $2,413,116 as compared to the period June 22, 2005(commencement of operations) to March 31, 2006, in which we incurred gross basemanagement fees of $915,360. The base management fee is currently computedquarterly as described under “Investment Advisory and Management Agreement.”The fees increased in the current period due to the growth of the investmentportfolio as compared to the same period of the prior year, however, theincrease was partially offset by increased credits against the management feein the current fiscal year of $877,583 compared to $554,589 in the prior fiscalyear.

Loanservicing fees of $1,568,854 were incurred for the year ended March 31,2007.  These fees were incurred in connection with a loan servicingagreement between Business Investment and our Adviser, which is based on thesize of the aggregate outstanding loan portfolio.  These fees reduced theamount of the base management fee due to our Adviser.  There were no loan servicing fees in theprior period as we did not enter into our credit facility until October 2006.

Theadministration fee incurred to our Administrator was $526,595 for the yearended March 31, 2007 compared to $288,471 for the period June 22, 2005(commencement of operations) to March 31, 2006. This fee consists of ourallocable portion of our Administrator’s rent and other overhead expenses, andour allocable portion of the salaries and benefits of our chief financialofficer, chief compliance officer, treasurer, controller and their respectivestaffs.  The increase was mainly attributable to the personnel growth ofour Administrator and fewer periods included in the prior year period.

Interestexpense for the year ended March 31, 2007 was $607,661 and resulted fromborrowings on our credit facility in the third and fourth quarters of fiscal2007, which were used to finance our investment purchases during thosequarters. Interest expense for the period June 22, 2005 (commencement ofoperations) to March 31, 2006 was $378 and consisted of interest due on a loanpayable to an affiliate, which was repaid in June 2005.

Deferredfinance cost amortization for the year ended March 31, 2007 was $233,779 and isdirectly attributable to the amortization of the capitalized finance costsassociated with our credit facility.

Professionalfees for the year ended March 31, 2007 were $586,028, an increase of $422,659over the professional fees for the period June 22, 2005 (commencement ofoperations) to March 31, 2006 of $163,369.  Professional fees primarilyconsist of legal fees and audit and accounting fees.  The increase ismainly due to the shortened prior year period, an increase in audit feesrelated to our compliance with Sarbanes-Oxley regulations and direct consultingand legal fees incurred on potential investments that were not executed.

Stockholderrelated costs increased $183,920 for the year ended March 31, 2007 to $273,483from $89,563 in the period June 22, 2005 (commencement of operations) to March31, 2006.  Stockholder related costs consist of the amortization of annualNasdaq listing fees, transfer agent fees, annual report printing fees,Securities and Exchange Commission (“SEC”) filing fees and press releasecosts.  The increase in stockholder related costs is mainly due to theshortened prior year period and fees incurred in connection with our inauguralannual meeting of stockholders on August 10, 2006.

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Insuranceexpense for the year ended March 31, 2007 was $262,339, compared to $184,642for the period June 22, 2005 (commencement of operations) to March 31,2006.  Insurance expense consists of the amortization of the directors andofficers insurance policy and professional liability policy. The increase of$77,697 is mainly due to our policies not beginning until August 2005, therebyresulting in the amortization of only eight months of insurance premiums in theprior year period.

Directors’fees for the year ended March 31, 2007 and the period June 22, 2005(commencement of operations) to March 31, 2006 were $208,100 and $160,000,respectively.  Directors’ fees consist of the amortization of thedirectors’ annual stipend and individual meeting fees.  The directors’fees for the prior year period were not declared until July 2005 and,therefore, only nine months of expense was recognized in the prior year.

Taxesand licenses expense for the year ended March 31, 2007 was $168,873 and wasprimarily comprised of franchise taxes due to the state of Delaware and otherfees surrounding state and regulatory licensing, registration and othercorporate filing fees.  For the period June 22, 2005 (commencement ofoperations) to March 31, 2006, taxes and licenses expense was $195,270 andconsisted of approximately $185,000 related to franchise taxes to the state ofDelaware for calendar year 2005 and the first quarter of calendar year2006.  The maximum franchise tax to bepaid to the state of Delaware for a calendar year is $165,000; however the priorfiscal year expense includes franchise tax from our date of incorporation inFebruary 2005 through December 31, 2005, in addition to an accrual of $41,250for January through March of the 2006 calendar year.

Otherexpenses for the year ended March 31, 2007 were $142,659, compared to $37,492 forthe period June 22, 2005 (commencement of operations) to March 31, 2006. Other expenses consist primarily of direct expenses such as travel relatedspecifically to our portfolio companies, loan evaluation services for ourportfolio companies and backup servicer expenses.  The overall increase of$105,167 is mainly due to the increase in direct expenses as the overall sizeof our investment portfolio grew from the prior year period and fewer directexpenses from the shorter prior year period.

**Realized and Unrealized Loss on Investments**

For theyear ended March 31, 2007, we recognized a net loss on the sale of nine loanparticipations in the aggregate amount of $93,850 and we recorded netunrealized depreciation of investments in the aggregate amount of $3,785,478.

AtMarch 31, 2006, the fair value of our investment portfolio exceeded the costbasis of our portfolio by approximately $113,000.  At March 31, 2007, thefair value of our investment portfolio was less than the cost basis of ourportfolio by approximately $3.7 million, representing an unrealized loss ofapproximately $3.8 million for the fiscal year.  This decrease isprimarily the result of the decline in market value of the equity securitiesfrom one of our Control investments.

**Net Increase in Net Assets from Operations**

Overall,we realized a net increase in net assets resulting from operations of$7,268,404 for the year ended March 31, 2007 as a result of the factorsdiscussed above. Our net increase in net assets from operations per basic and dilutedweighted average common share for the year ended March 31, 2007 was $0.44 andour net increase in net assets from operations per basic and diluted weightedaverage common share for the period June 22, 2005 (commencement of operations)to March 31, 2006 was $0.37.

We will continue to incurbase management fees which are likely to increase as our investment portfoliogrows, and we may begin to incur incentive fees. Our administrative expensespayable to our Administrator are also likely to grow during future periods asour average assets increase in comparison to our average assets at March 31,2007 and as the expenses incurred by our Administrator to support ouroperations increase.

**LIQUIDITYAND CAPITAL RESOURCES**

**OperatingActivities**

At March 31, 2007, we held investments in Non-Control/Non-Affiliates ofapproximately $138.6 million and we held investments in Control andAffiliate investments of approximately $136.1 million at cost.  AtMarch 31, 2006, we held investments in Non-Control/Non-Affiliates ofapproximately $97.4 million and we held investments in Controlinvestments of approximately $55.8 million at cost.

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During the year ended March 31, 2007 and the period from June 22, 2005(commencement of operations) to March 31, 2006, the following investmentactivity occurred during each quarter of the respective fiscal year:

 
| ** **              | ** ** | **New**         | ** **  | **Principal**  | ** ** | **Investments** | ** ** | **Net Gain/(Loss)** | ** ** |
|-------------------------|------------|-----------------|-------------|----------------|------------|-----------------|------------|--------------------------|------------|
| **Quarter Ended**  | ** ** | **Investments** | ** **  | **Repayments** | ** ** | **Sold**        | ** ** | **on Disposal**     | ** ** |
|                    |       |            |        |           |       |            |       |                     |       |
| June 30, 2006           |       | $               | 33,665,549  |           | $          | 874,222         |       | $                        | 15,548,453 |   | $ | 3,273 |   |
| September 30,  2006     |       | 15,812,230      |        | 5,964,245      |       | 999,436         |       | (1,934                   | )          |
| December 31,  2006      |       | 69,372,847      |        | 3,610,221      |       | 3,043,000       |       | (2,283                   | )          |
| March 31, 2007          |       | 64,102,446      |        | 19,973,880     |       | 11,247,175      |       | (92,906                  | )          |
| Total fiscal  year 2007 |       | $               | 182,953,072 |           | $          | 30,422,568      |       | $                        | 30,838,064 |   | $ | (93,850 | ) |
|                    |       |            |        |           |       |            |       |                     |       |
| June 30, 2005           |       | $               | —      |           | $          | —          |       | $                        | —     |   | $ | — |   |
| September 30,  2005     |       | 40,844,381      |        | 333,363        |       | —          |       | —                   |       |
| December 31,  2005      |       | 23,376,958      |        | 1,043,120      |       | 2,000,000       |       | 38,056                   |       |
| March 31, 2006          |       | 96,425,131      |        | 425,054        |       | 3,522,500       |       | 19,375                   |       |
| Total fiscal year 2006  |       | $               | 160,646,470 |           | $          | 1,801,537       |       | $                        | 5,522,500  |   | $ | 57,431 |   |

 

The following tablesummarizes the contractual principal amortization and maturity of ourinvestment portfolio by fiscal year:

| Fiscal Year Ended March 31, | ** ** | **Amount**  | ** **      |
|-------------------------------------------------|------------|-------------|-----------------|
| 2008                                            |       | $           | 8,311,428       |   |
| 2009                                            |       | 10,047,620  |            |
| 2010                                            |       | 11,698,781  |            |
| 2011                                            |       | 52,080,567  |            |
| 2012                                            |       | 34,029,743  |            |
| Thereafter                                      |       | 129,212,533 |            |
| **Total  contractual repayments**               | ** ** | **$**       | **245,380,672** | ** ** |
|                                            |       |        |            |
| Investments in  equity securities               |       | $           | 28,598,801      |   |
| Unamortized  premiums on debt securities        |       | 640,639     |            |
| **Total**                                       | ** ** | **$**       | **274,620,112** | ** ** |

 

Net cash used inoperating activities for the year ended March 31, 2007 was approximately $122.7million and consisted primarily of the purchase of investments, an increase inour investment interest receivable and amounts due from custodian and adecrease in our base management fee payable to our Adviser,  offset bysales and repayments of existing portfolio investments, increases in loanservicing and administration fees payable, net amortization of loan premiumsand unrealized depreciation of our portfolio investments.

Net cash used inoperating activities for the period June 22, 2005 (commencement of operations)to March 31, 2006 was approximately $148.1 million and consisted of the fundingof our portfolio investments and their respective principal repayments, netinvestment income generated from our portfolio and short-term investments, anincrease in accounts payable, base management fee and administrative feespayable and accrued expenses offset by an increase in interest receivable andprepaid assets.

**Financing Activities**

Duringthe year ended March 31, 2007, we recorded net borrowings under our creditfacility of $100.0 million, which were used to purchase new investments. As a result of our credit facility, we incurred approximately $862,000 oflegal, accounting and other associated expenses that will be amortized over theremaining life of the facility.

37

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Weanticipate issuing equity securities to obtain additional capital in thefuture. The terms of the future equity issuances cannot be determined and therecan be no assurances that the equity markets will be available to us on termswe deem favorable, if at all.  On October 13, 2006 we filed a registrationstatement with the SEC (as amended on December 22, 2006) that, if and whendeclared effective, would permit us to issue, through one or more transactions,up to an aggregate of $100 million in securities, consisting of common stock,preferred stock and/or debt securities.  To date we have incurredapproximately $133,000 of costs in connection with this registration statement.

For theyear ended March 31, 2007, our dividends paid of $14,158,885 exceeded our netinvestment income (including realized losses) by $3,105,003.  We declaredthese dividends based on our estimates of net investment income for the fiscalyear.  Our investment pace continues to be slower than expected in oursecond year of operations and, consequently, our net investment income waslower than our original estimates.  Aportion of the dividends declared during fiscal 2007 were treated as a returnof capital to our stockholders.

For the period June 22,2005 (commencement of operations) to March 31, 2006 cash provided by financingactivities consisted of the net proceeds from the initial public offering of$230,292,203 (which includes $30.1 million of proceeds received in July 2005 inconnection with the closing of the underwriters’ over-allotment option andother related offering costs and does not include approximately $48,000 ofoffering costs incurred prior to fiscal 2006), partially offset by the paymentof dividends of $6,458,439 and the repayment of the loan payable to affiliateof $50,000. Our dividends paid of $6,458,439 for the 2006 fiscal year exceedednet investment income (including realized gains) by $517,110. We declared thesedividends based on estimates of net investment income for the 2006 fiscal year.Our investment pace was slower than expected in our first year of operationsand consequently, net investment income was lower than originallyanticipated.  A portion of the dividendsdeclared during fiscal 2006 were treated as a return of capital to ourstockholders.

**Revolving Credit Facility**

OnOctober 19, 2006, through our wholly-owned subsidiary, Business Investment, weinitially obtained a $100 million revolving credit facility (the “CreditFacility”).  On October 19, 2006, we executed a purchase and saleagreement pursuant to which we agreed to sell certain loans to BusinessInvestment in consideration for a membership interest therein. Simultaneously, Business Investment executed a credit agreement (the “CreditAgreement”) with Deutsche Bank AG, New York Branch (“Deutsche Bank”), asadministrative agent, and others, pursuant to which Business Investment pledgedthe loans purchased from us to secure future advances by certain institutionallenders. Availability under the Credit Facility will terminate on October18, 2007, unless extended in the discretion of the lenders, at the request ofBusiness Investment. Interest is payable monthly during the term of the CreditFacility and principal is payable out of collections on loans purchased from usduring the period following the date of which availability for advances hasterminated through maturity.  The CreditFacility will mature two years following the date on which availability foradvances has terminated and on such date, all principal, interest and otheramounts owing under the Credit Facility will be due and payable.  Interest rates charged on the advances underthe facility are based on the rate paid by the lenders on commercial papernotes issued by such lenders to fund some or all of the advances, the LondonInterbank Offered Rate (“LIBOR”), the Prime Rate or the Federal Funds Rate,depending on market conditions, and adjusts periodically.  On March 29,2007, we increased our borrowing capacity under the Credit Facility from $100million to $150 million through June 27, 2007 and to $200 millionthereafter.  As of March 31, 2007, therewas an outstanding principal balance of $100.0 million under the CreditFacility at an interest rate of approximately 5.3%. Available borrowings aresubject to various constraints imposed under the Credit Agreement, based on theaggregate loan balance pledged by Business Investment, which varies as loans oradded and repaid, regardless of whether such repayments are early prepayment orare made as contractually required.  At March 31, 2007, the remainingborrowing capacity available under the Credit Facility was approximately $50.0million.  If we request a renewal of the Credit Facility, any such renewalwill be granted in the discretion of the lenders and there can be no guaranteethat we will be able to renew the Credit Facility on terms that are favorableto us, if at all.  In the event that we are not able to renew or refinancethe Credit Facility this could have a material adverse impact on our liquidityand ability to fund new investments.

TheCredit Facility contains covenants that require Business Investment to maintainits status as a separate entity; prohibit certain significant corporatetransactions (such as mergers, consolidations, liquidations or dissolutions);and restrict material changes to our credit and collection policies.  Thefacility also restricts some of the terms and provisions (including interestrates, terms to maturity and payments schedules) and limits the borrower andindustry concentrations of loans that are eligible to secure advances.  Asof March 31, 2007, Business Investment was in compliance with all of the facilitycovenants.  We currently intend to securitize some or all of the loansheld by Business Investment and if we are able to do so, we will use theproceeds from the securitization to pay down any amounts then outstanding underthe revolving credit facility.

The administrativeagent also requires that any interest or principal payments on pledged loans beremitted directly by the borrower into lockbox accounts controlled by DeutscheBank. Once a month, Deutsche Bank remits the collected funds to the Companyafter payment of any interest and expenses provided for under the CreditAgreement.

38

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OurAdviser services the loans pledged under the Credit Facility.  As acondition to this servicing arrangement, we executed a performance guarantypursuant to which we guaranteed that our Adviser would comply fully with all ofits obligations under the Credit Facility. The performance guaranty requires usto maintain a minimum net worth of $100 million and to maintain “asset coverage”with respect to “senior securities representing indebtedness” of at least 200%,in accordance with Section 18 of the 1940 Act. As of March 31, 2007, wewere in compliance with our covenants under the performance guaranty.

**Dividends**

In order to qualify as aRIC and to avoid corporate level tax on the income we distribute to ourstockholders, we are required, under Subchapter M of the Code, to distribute atleast 90% of our ordinary income and realized net short-term capital gains toour stockholders on an annual basis. In accordance with these requirements, wedeclared the following dividends:

 

| Declaration Date | ** ** | **Record Date** | ** ** | **Payment Date** | ** ** | **Dividend per Share** | ** ** |
|-----------------------|------------|----------------------|------------|-----------------------|------------|----------------------------------|------------|
| April 11, 2007        |       | June  21, 2007       |       | June  29, 2007        |       | $                                | 0.075      |   |
| April 11, 2007        |       | May  22, 2007        |       | May  31, 2007         |       | $                                | 0.075      |   |
| April 11, 2007        |       | April  20, 2007      |       | April  30, 2007       |       | $                                | 0.075      |   |
| January 10, 2007      |       | March  22, 2007      |       | March  30, 2007       |       | $                                | 0.075      |   |
| January 10, 2007      |       | February  20, 2007   |       | February  28, 2007    |       | $                                | 0.075      |   |
| January 10, 2007      |       | January  23, 2007    |       | January  31, 2007     |       | $                                | 0.075      |   |
| October 10, 2006      |       | December  20, 2006   |       | December  29, 2006    |       | $                                | 0.07       |   |
| October 10, 2006      |       | November  21, 2006   |       | November  30, 2006    |       | $                                | 0.07       |   |
| October 10, 2006      |       | October  23, 2006    |       | October  31, 2006     |       | $                                | 0.07       |   |
| July 11, 2006         |       | September  21, 2006  |       | September  29, 2006   |       | $                                | 0.07       |   |
| July 11, 2006         |       | August  21, 2006     |       | August  31, 2006      |       | $                                | 0.07       |   |
| July 11, 2006         |       | July  19, 2006       |       | July  31, 2006        |       | $                                | 0.07       |   |
| April 11, 2006        |       | June  22, 2006       |       | June  30, 2006        |       | $                                | 0.07       |   |
| April 11, 2006        |       | May  22, 2006        |       | May  31, 2006         |       | $                                | 0.07       |   |
| April 11, 2006        |       | April  20, 2006      |       | April  28, 2006       |       | $                                | 0.07       |   |
| January 10, 2006      |       | March  17, 2006      |       | March  31, 2006       |       | $                                | 0.07       |   |
| January 10, 2006      |       | February  16, 2006   |       | February  28, 2006    |       | $                                | 0.07       |   |
| January 10, 2006      |       | January  23, 2006    |       | January  31, 2006     |       | $                                | 0.07       |   |
| October 7, 2005       |       | December  21, 2005   |       | December  31, 2005    |       | $                                | 0.04       |   |
| October 7, 2005       |       | November  21, 2005   |       | November  30, 2005    |       | $                                | 0.04       |   |
| October 7, 2005       |       | October  21, 2005    |       | October  30, 2005     |       | $                                | 0.04       |   |
| July 7, 2005          |       | September  22, 2005  |       | September  30, 2005   |       | $                                | 0.02       |   |
| July 7, 2005          |       | August  23, 2005     |       | August  31, 2005      |       | $                                | 0.02       |   |
| July 7, 2005          |       | July 21, 2005        |       | July 29, 2005         |       | $                                | 0.02       |   |

 

**ContractualObligations and Off-Balance Sheet Arrangements**

At March 31, 2007, wewere a party to signed and non-binding term sheets for an allocation of asyndicate loan participation for approximately $7.0 million and one buyoutinvestment of approximately $10.8 million. The future scheduled contractual payments at March 31, 2007 are asfollows:
| ** **                       | ** ** | ** ** | ** ** | **Payment Due by Period** | ** ** |
|----------------------------------|------------|------------|------------|------------------------------------------|------------|
| **Contractual Obligations** | ** ** | **Total**  | ** ** | **Less than 1 Year**      | ** ** | **1-3 Years** | ** ** | **3-5 Years** | ** ** | **More than 5 Years** | ** ** |
|                             |       |       |       |                                     |       |   |   |   |   |   |   |
| Investments                      |       | 17,800,000 |       | 17,800,000                               |       |   |   |   |   |   |   |
| Total                            |       | $          | 17,800,000 |                                     | $          | 17,800,000 |   | $ | — |   | $ | — |   | $ | — |   |
|                                  |            |            |            |                                          |            |  |  |  |  |  |  |  |  |  |  |  |

 

As of the date of thisreport, the investment purchase obligations above have been funded. See Note 12“Subsequent Events” in our Consolidated Financial Statements for furtherinformation.

We do not have any significant off-balance sheetarrangements as defined in Item 303(a)(4)(ii) of SEC Regulation S-K as of March31, 2007.

39

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**Item 7A.Quantitative and Qualitative Disclosures About Market Risk**

We are subject to financial market risks, includingchanges in interest rates. General interest rate fluctuations may have asubstantial negative impact on our investments and investment opportunitiesand, accordingly have a material adverse effect on our investment objectivesand our rate of return on invested capital. Currently, approximately 63% of ourinvestment portfolio, at cost, are comprised of loans at variable rates andapproximately 10% of our investment portfolio, at cost, is in loans at variablerates with a floor.   In addition, anincrease in interest rates would make it more expensive to use debt for ourfinancing needs, if any.

We expect to continue toborrow funds to finance future lending activities as we have fully invested theproceeds of our initial public offering. These future borrowings may be atfixed or variable rates. For example, interest rates charged on the advancesunder our credit facility are based on the rate paid by the lenders oncommercial paper notes issued by such lenders to fund some or all of theadvances, LIBOR, the Prime Rate or the Federal Funds Rate, depending on marketconditions, and adjust periodically.  Asof March 31, 2007, there was an outstanding principal balance of $100.0 millionunder the credit facility.

To illustrate the potential impact of changes ininterest rates on our net increase in net assets resulting from operations, wehave performed the following analysis, which assumes that our balance sheetremains constant. Under this analysis, a hypothetical increase in the one monthLIBOR by 1.0% would increase our net increase in net assets resulting fromoperations by approximately $0.8 million or 10.5%, over the next twelve months,compared to the net increase in net assets resulting from operations for yearended March 31, 2007. A hypothetical decrease in the one month LIBOR by 1.0%would decrease our net increase in net assets resulting from operations byapproximately $0.8 million or 10.5%, over the next twelve months, compared tothe net increase in net assets from operations for the year ended March 31,2007. Although management believes that this analysis is indicative of ourexisting interest rate sensitivity, it does not adjust for potential changes incredit quality, size and composition of our investment portfolio and otherbusiness developments that could affect net increase in net assets resultingfrom operations. Accordingly, no assurances can be given that actual resultswould not differ materially from the results under this hypothetical analysis.

In the event that wesecuritize a portion of our loan portfolio, we believe that we will likely berequired to enter into further hedging arrangements in the future with respectto securitized loans.  While hedging activitiesmay mitigate our exposure to adverse fluctuations in interest rates, certainhedging transactions that we may enter into in the future, such as interestrate swap agreements, may also limit our ability to participate in the benefitsof lower interest rates with respect to our portfolio of investments.

We may also experience risk associated with investingin securities of companies with foreign operations. We currently do notanticipate investing in debt or equity of foreign companies, however, somepotential portfolio companies may have operations located outside the UnitedStates. These risks include, but are not limited to, fluctuations in foreigncurrency exchange rates, imposition of foreign taxes, changes in exportationregulations and political and social instability.

**Item 8. Financial Statements and Supplementary Data**

**Indexto Consolidated Financial Statements**
| Report of Independent  Registered Public Accounting Firm                                                                                                                       |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| Consolidated  Statement of Assets and Liabilities as of March 31, 2007 and 2006                                                                                                |
| Consolidated  Schedule of Investments as of March 31, 2007 and 2006                                                                                                            |
| Consolidated  Statement of Operations for the year ended March 31, 2007 and the period June  22, 2005 (Commencement     of Operations) to March 31, 2006             |
| Consolidated  Statement of Changes in Net Assets for the year ended March 31, 2007 and the  period June 22, 2005      (Commencement of Operations) to March 31, 2006 |
| Consolidated  Statement of Cash Flows for the year ended March 31, 2007 and the period June  22, 2005 (Commencement     of Operations) to March 31, 2006             |
| Financial  Highlights for the year ended March 31, 2007 and the period June 22, 2005  (Commencement of Operations)     to March 31, 2006                             |
| Notes to  Consolidated Financial Statements                                                                                                                                    |

 

40

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**Report of Independent Registered Public AccountingFirm**

To the Stockholders and Board of Directorsof Gladstone Investment Corporation:

We have completed an integrated audit of GladstoneInvestment Corporation’s 2007 consolidated financial statements and of itsinternal control over financial reporting as of March 31, 2007 and an audit ofits March 31, 2006 consolidated financial statements in accordance with thestandards of the Public Company Accounting Oversight Board (United States).  Our opinions, based on our audits, arepresented below.

Consolidated financial statements

In our opinion, the consolidated financial statementslisted in the accompanying index present fairly, in all material respects, thefinancial position of Gladstone Investment Corporation and its subsidiaries(the "Company") at March 31, 2007 and March 31, 2006, and the resultsof their operations and their cash flows for the period ended March 31, 2007and the period June 22, 2005 to March 31, 2006 in conformity with accountingprinciples generally accepted in the United States of America. These financialstatements are the responsibility of the Company’s management.  Our responsibility is to express an opinionon these financial statements based on our audits.  We conducted our audits of these statementsin accordance with the standards of the Public Company Accounting OversightBoard (United States).  Those standardsrequire that we plan and perform the audit to obtain reasonable assurance aboutwhether the financial statements are free of material misstatement.  An audit of financial statements includesexamining, on a test basis, evidence supporting the amounts and disclosures inthe financial statements, assessing the accounting principles used andsignificant estimates made by management, and evaluating the overall financialstatement presentation.  We believe thatour audits provide a reasonable basis for our opinion.

Internal control over financial reporting

Also, in our opinion, management’s assessment,included Management’s Annual Report on Internal Control over FinancialReporting appearing under Item 9A, that the Company maintained effectiveinternal control over financial reporting as of March 31, 2007 based oncriteria established in Internal Control - Integrated Framework issued by theCommittee of Sponsoring Organizations of the Treadway Commission (COSO), isfairly stated, in all material respects, based on those criteria. Furthermore,in our opinion, the Company maintained, in all material respects, effectiveinternal control over financial reporting as of March 31, 2007, based oncriteria established in Internal Control - Integrated Framework issued by theCOSO.  The Company’s management isresponsible for maintaining effective internal control over financial reportingand for its assessment of the effectiveness of internal control over financialreporting.  Our responsibility is toexpress opinions on management’s assessment and on the effectiveness of theCompany’s internal control over financial reporting based on our audit. Weconducted our audit of internal control over financial reporting in accordancewith the standards of the Public Company Accounting Oversight Board (UnitedStates).  Those standards require that weplan and perform the audit to obtain reasonable assurance about whethereffective internal control over financial reporting was maintained in allmaterial respects.  An audit of internalcontrol over financial reporting includes obtaining an understanding ofinternal control over financial reporting, evaluating management’s assessment,testing and evaluating the design and operating effectiveness of internalcontrol, and performing such other procedures as we consider necessary in thecircumstances.  We believe that our auditprovides a reasonable basis for our opinions. 

A company’s internal control over financial reportingis a process designed to provide reasonable assurance regarding the reliabilityof financial reporting and the preparation of financial statements for externalpurposes in accordance with generally accepted accounting principles.  A company’s internal control over financialreporting includes those policies and procedures that (i) pertain to themaintenance of records that, in reasonable detail, accurately and fairlyreflect the transactions and dispositions of the assets of the company; (ii)provide reasonable assurance that transactions are recorded as necessary topermit preparation of financial statements in accordance with generallyaccepted accounting principles, and that receipts and expenditures of thecompany are being made only in accordance with authorizations of management anddirectors of the company; and (iii) provide reasonable assurance regardingprevention or timely detection of unauthorized acquisition, use, or dispositionof the company’s assets that could have a material effect on the financialstatements. 

Because of its inherent limitations, internal controlover financial reporting may not prevent or detect misstatements.  Also, projections of any evaluation ofeffectiveness to future periods are subject to the risk that controls maybecome inadequate because of changes in conditions, or that the degree ofcompliance with the policies or procedures may deteriorate.

PricewaterhouseCoopersLLP

McLean,VA

May 31, 2007

41

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**GLADSTONEINVESTMENT CORPORATIONCONSOLIDATED STATEMENTS OF ASSETS AND LIABILITIES**
| ** **                                                                                                                 | ** ** | **March 31,** | ** **  | **March 31,** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------|------------|--------------------|-------------|--------------------|------------|
| ** **                                                                                                                 | ** ** | **2007**           | ** **  | **2006**           | ** ** |
|                                                                                                                       |       |               |        |               |       |
| ASSETS                                                                                                                     |       |               |        |               |       |
| Non-Control/Non-Affiliate  investments (Cost 3/31/07:$138,567,741; 3/31/06: $97,423,004)                                   |       | $                  | 138,168,612 |               | $          | 97,585,972 |   |
| Control investments  (Cost 3/31/07: $116,302,372; 3/31/06: $55,846,318)                                                    |       | 113,016,491        |        | 55,796,318         |       |
| Affiliate investments  (Cost 3/31/07: $19,750,000)                                                                         |       | 19,762,500         |        | —             |       |
| Total investments at  fair value (Cost 3/31/07: $274,620,113; 3/31/06: $153,269,322)                                       |       | 270,947,603        |        | 153,382,290        |       |
| Cash and cash  equivalents                                                                                                 |       | 37,788,941         |        | 75,672,605         |       |
| Interest receivable                                                                                                        |       | 1,306,090          |        | 761,388            |       |
| Prepaid insurance                                                                                                          |       | 83,819             |        | 99,874             |       |
| Deferred finance costs                                                                                                     |       | 627,960            |        | —             |       |
| Due from Custodian                                                                                                         |       | 12,694,985         |        | —             |       |
| Due from Adviser                                                                                                           |       | 20,383             |        | 234,551            |       |
| Other assets                                                                                                               |       | 120,434            |        | 173,099            |       |
| TOTAL ASSETS                                                                                                               |       | $                  | 323,590,215 |               | $          | 230,323,807 |   |
|                                                                                                                       |       |               |        |               |       |
| LIABILITIES                                                                                                                |       |               |        |               |       |
| Due to Administrator                                                                                                       |       | $                  | 162,244     |               | $          | 110,002 |   |
| Borrowings under line  of credit                                                                                           |       | 100,000,000        |        | —             |       |
| Accrued expenses                                                                                                           |       | 523,698            |        | 367,031            |       |
| Other liabilities                                                                                                          |       | 85,764             |        | 5,077              |       |
| Total Liabilities                                                                                                          |       | 100,771,706        |        | 482,110            |       |
| NET ASSETS                                                                                                                 |       | $                  | 222,818,509 |               | $          | 229,841,697 |   |
|                                                                                                                       |       |               |        |               |       |
| ANALYSIS OF NET ASSETS:                                                                                                    |       |               |        |               |       |
| Common stock, $0.001  par value, 100,000,000 shares authorized and 16,560,100 shares issued and  outstanding, respectively |       | $                  | 16,560      |               | $          | 16,560 |   |
| Capital in excess of  par value                                                                                            |       | 230,096,572        |        | 230,229,279        |       |
| Net unrealized  (depreciation) appreciation of investment portfolio                                                        |       | (3,672,510         | )           | 112,968            |       |
| Distributions in excess  of net investment income                                                                          |       | (3,622,113         | )           | (517,110           | )          |
| Total Net Assets                                                                                                           |       | $                  | 222,818,509 |               | $          | 229,841,697 |   |
| Net assets per share                                                                                                       |       | $                  | 13.46       |               | $          | 13.88 |   |

 

*THE ACCOMPANYING NOTES ARE AN INTEGRAL PARTTO THESE CONSOLIDATED FINANCIAL STATEMENTS.*

 

42

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**GLADSTONE INVESTMENT CORPORATIONSCHEDULE OF INVESTMENTSMARCH 31, 2007**
| Company (1)                                 | ** ** | **Industry**                                                    | ** ** | **Investment (2)**                            | ** ** | **Cost**  | ** ** | **Fair Value** |
|---------------------------------------------|------------|-----------------------------------------------------------------|------------|-----------------------------------------------|------------|-----------|------------|----------------|
|                                        |       |                                                            |       |                                          |       |      |       |           |
| **NON-CONTROL/NON-AFFILIATE INVESTMENTS**   |       |                                                            |       |                                          |       |      |
| ** **                                  |       |                                                            |       |                                          |       |      |       |           |
| ACS Media, LLC                              |       | Service - directory advertising                                 |       | Senior Term Debt (7.9%, Due 11/2013) (3)      |       | $         | 4,857,421  |           | $ | 4,857,822 |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Activant                                    |       | Service - enterprise software and services                      |       | Senior Term Debt (7.4%, Due 5/2013) (3)       |       | 3,745,496 |       | 3,714,281      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| American Safety Razor Company Inc.          |       | Manufacturing - razors and blades                               |       | Senior Term Debt (7.9%, Due 7/2013) (3)       |       | 1,491,154 |       | 1,492,472      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Aramark Corp.                               |       | Service - vending services                                      |       | Senior Term Debt (7.5%, Due 1/2014) (10)      |       | 921,289   |       | 925,895        |
|                                        |       |                                                            |       | Letter of Credit (5.3%, Due 1/2014) (10)      |       | 65,841    |       | 66,170         |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Aspect Software, Inc.                       |       | Service - call center software                                  |       | Senior Term Debt (8.4%, Due 7/2011) (3)       |       | 2,988,647 |       | 2,999,925      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Brock Holdings II, Inc.                     |       | Service - industrial specialty maintenance                      |       | Senior Term Debt (7.3%, Due 8/2013) (3) (5)   |       | 3,000,000 |       | 3,003,750      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Compsych Investments Corp.                  |       | Service - independent employee assistance programs              |       | Senior Term Debt (8.1%, Due 2/2012) (3) (5)   |       | 3,875,254 |       | 3,879,300      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| CRC Health Group, Inc.                      |       | Service - substance abuse treatment                             |       | Senior Term Debt (7.9%, Due 2/2012) (3)       |       | 9,993,754 |       | 10,010,307     |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Critical Homecare Solutions, Inc.           |       | Service - home therapy and respiratory treatment                |       | Senior Term Debt (8.6%, Due 1/2012) (3) (5)   |       | 2,000,000 |       | 2,000,000      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| CST Industries Acquisition, Inc.            |       | Manufacturing - metal storage units                             |       | Senior Term Debt (8.5%, Due 8/2013) (3)       |       | 996,946   |       | 999,975        |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Dealer Computer Services, Inc.              |       | Manufacturing & Service - systems for automotive  retailers |       | Senior Term Debt (7.4%, Due 9/2013) (3)       |       | 1,042,760 |       | 1,044,063      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Dresser Holdings, Inc.                      |       | Manufacturing - oilfield & energy products                  |       | Senior Term Debt (8.1%, Due 10/2013) (3)      |       | 3,868,905 |       | 3,851,943      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Generac Acquisition Corp.                   |       | Manufacturing - standby power products                          |       | Senior Term Debt (7.9%, Due 11/2013) (5)      |       | 2,593,800 |       | 2,611,957      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Hudson Products Holdings, Inc.              |       | Manufacturing - heat transfer solutions                         |       | Senior Term Debt (8.1%, Due 12/2013) (3)      |       | 2,358,550 |       | 2,363,866      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| IPC Information Systems, LLC                |       | Manufacturing - specialized telephony systems                   |       | Senior Term Debt (7.9%, Due 9/2013) (3)       |       | 263,045   |       | 262,319        |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| J. Crew Operating Corp.                     |       | Retail - apparel                                                |       | Senior Term Debt (7.2%, Due 5/2013) (3)       |       | 1,405,990 |       | 1,407,018      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Latham Manufacturing Corp.                  |       | Manufacturing - swimming pool components accessories            |       | Senior Term Debt (8.5%, Due 6/2012) (3)       |       | 2,427,162 |       | 2,375,520      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Lexicon Marketing USA, Inc.                 |       | Service - marketing to Hispanic community                       |       | Senior Term Debt (7.8%, Due 5/2012) (3) (5)   |       | 2,971,543 |       | 3,006,325      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| LVI Services, Inc.                          |       | Service - asbestos and mold remediation                         |       | Senior Term Debt (10.3%, Due 11/2010) (3) (5) |       | 6,440,352 |       | 6,330,492      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Madison River Capital LLC                   |       | Service - communications and information                        |       | Senior Term Debt (7.6%, Due 7/2012) (3)       |       | 5,727,708 |       | 5,702,357      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Maidenform, Inc.                            |       | Manufacturing - intimate apparel                                |       | Senior Term Debt (7.1%, Due 5/2010) (3)       |       | 2,569,252 |       | 2,573,084      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| MedAssets, Inc.                             |       | Service - pharmaceuticals and healthcare GPO                    |       | Senior Term Debt (7.8%, Due 10/2013) (3) (5)  |       | 3,493,734 |       | 3,504,342      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| MediMedia USA, LLC                          |       | Service - healthcare and pharmeceutical marketing               |       | Senior Term Debt (7.9%, Due 10/2013) (3)      |       | 1,185,613 |       | 1,180,462      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| National Mentor Holdings, Inc.              |       | Service - home health care                                      |       | Senior Term Debt (7.4%, Due 6/2013) (3)       |       | 1,987,027 |       | 1,985,825      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| NPC International Inc.                      |       | Service - Pizza Hut franchisee                                  |       | Senior Term Debt (7.1%, Due 5/2013) (3)       |       | 3,017,479 |       | 2,995,367      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Nutro Products, Inc.                        |       | Manufacturing - pet food                                        |       | Senior Term Debt (7.4%, Due 4/2012) (3)       |       | 2,442,961 |       | 2,421,809      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Open Solutions, Inc.                        |       | Service - software outsourcing for financial  institutions      |       | Senior Term Debt (7.5%, Due 1/2014) (3)       |       | 2,518,294 |       | 2,506,250      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Ozburn-Hessey Holding Co. LLC               |       | Service - third party logistics                                 |       | Senior Term Debt (8.6%, Due 8/2012) (3)       |       | 7,764,943 |       | 7,711,178      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Patriot Media & Communications CNJ, LLC |       | Service - telecommunications                                    |       | Senior Term Debt (7.4%, Due 3/2013) (3)       |       | 4,147,228 |       | 4,105,476      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| QTC Acquisition, Inc.                       |       | Service - outsourced disability evaluations                     |       | Senior Term Debt (8.1%, Due 11/2012) (3)      |       | 1,996,592 |       | 1,997,199      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Radio Systems Corporation                   |       | Service - design electronic pet containment products            |       | Senior Term Debt (8.1%, Due 9/2013) (3)       |       | 1,989,421 |       | 1,999,950      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Rally Parts, Inc.                           |       | Manufacturing - aftermarket motorcycle parts and  accessories   |       | Senior Term Debt (7.9%, Due 11/2013) (3)      |       | 1,313,285 |       | 1,319,792      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| RPG Holdings, Inc.                          |       | Manufacturing and design - greeting cards                       |       | Senior Term Debt (8.9%, Due 12/2011) (3)      |       | 5,001,100 |       | 4,900,000      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| SGS International, Inc.                     |       | Service - digital imaging and graphics                          |       | Senior Term Debt (7.9%, Due 12/2011) (3)      |       | 1,611,921 |       | 1,616,724      |
|                                        |       |                                                            |       |                                          |       |      |       |           |
| Stolle Machinery Company                    |       | Manufacturing - can-making equipment and parts                  |       | Senior Term Debt (7.9%, Due 9/2012) (3)       |       | 500,100   |       | 502,491        |
|                                        |       |                                                            |       |                                          |       |      |       |           |
|                                             |            |                                                                 |            |                                               |            |           |            |                |  |  |

 

43

----

 
| **NON-CONTROL/NON-AFFILIATE  INVESTMENTS (Continued)** |       |                                                        |       |                                                      |            |       |
|--------------------------------------------------------|------------|-------------------------------------------------------------|------------|-----------------------------------------------------------|-----------------|------------|
| ** **                                             |       |                                                        |       |                                                      |            |       |
| Survey Sampling, LLC                                   |       | Service - telecommunications-based sampling                 |       | Senior Term Debt (7.9%, Due 5/2011) (3)                   |            | 3,309,714  |   | 3,282,178 |
|                                                   |       |                                                        |       |                                                      |            |       |   |   |
| Triad Laboratory Alliance, LLC                         |       | Service - regional medical laboratories                     |       | Senior Term Debt (8.6%, Due 12/2011) (3) (5)              |            | 4,953,549  |   | 4,912,813 |
|                                                   |       |                                                        |       |                                                      |            |       |   |   |
| US Investigative Services, Inc.                        |       | Service - background investigations                         |       | Senior Term Debt (7.9%, Due 9/2012) (3)                   |            | 10,923,253 |   | 10,910,191 |
|                                                   |       |                                                        |       |                                                      |            |       |   |   |
| Wastequip, Inc.                                        |       | Service - process and transport waste materials             |       | Senior Term Debt (7.6%, Due 2/2013) (3)                   |            | 2,066,465  |   | 2,081,963 |
|                                                   |       |                                                        |       |                                                      |            |       |   |   |
| WaveDivision Holdings, LLC                             |       | Service - cable                                             |       | Senior Term Debt (7.8%, Due 6/2014) (3)                   |            | 1,925,440  |   | 1,929,600 |
|                                                   |       |                                                        |       |                                                      |            |       |   |   |
| West Corporation                                       |       | Service - business process outsourcing                      |       | Senior Term Debt (7.8%, Due 10/2013) (3)                  |            | 10,814,753 |   | 10,826,161 |
|                                                   |       |                                                        |       |                                                      |            |       |   |   |
|                                                   |       |                                                        |       |                                                      |            |       |   |   |
| **Total Non-Control/Non-Affiliate Investments**        |       |                                                        | ** ** | **$**                                                     | **138,567,741** | ** ** | **$** | **138,168,612** |
| * *                                               |       |                                                        |       |                                                      |            |       |   |   |
| **CONTROL INVESTMENTS**                                |       |                                                        |       |                                                      |            |       |   |   |
|                                                   |       |                                                        |       |                                                      |            |       |   |   |
| A. Stucki Company                                      |       | Manufacturing - railroad cars and accessories               |       | Senior Term Debt (9.8% Due 3/2012) (6)                    |            | 15,000,000 |   | 15,000,000 |
|                                                   |       |                                                        |       | Senior Term Debt (12.1% Due 3/2012) (6)                   |            | 11,000,000 |   | 11,000,000 |
|                                                   |       |                                                        |       | Senior Subordinated Term Debt (13% Due 3/2014) (6)        |            | 5,485,760  |   | 5,485,760 |
|                                                   |       |                                                        |       | Preferred Stock (4) (6)                                   |            | 4,386,686  |   | 4,386,686 |
|                                                   |       |                                                        |       | Common Stock (4) (6)                                      |            | 129,956    |   | 129,956 |
|                                                   |       |                                                        |       |                                                      |            | 36,002,402 |   | 36,002,402 |
|                                                   |       |                                                        |       |                                                      |            |       |   |   |
| Acme Cryogenics Corporation                            |       | Manufacturing - manifolds and pipes for industrial  gasses  |       | Senior Subordinated Term Debt (11.5% Due 3/2013) (5)  (6) |            | $          | 14,500,000 |   | $ | 14,481,875 |
|                                                   |       |                                                        |       | Redeemable Preferred Stock (4) (6)                        |            | 6,983,785  |   | 6,983,785 |
|                                                   |       |                                                        |       | Common Stock (4) (6)                                      |            | 1,045,181  |   | 1,045,181 |
|                                                   |       |                                                        |       | Common Stock Warrants (4) (6)                             |            | 24,686     |   | 24,686 |
|                                                   |       |                                                        |       |                                                      |            | 22,553,652 |   | 22,535,527 |
|                                                   |       |                                                        |       |                                                      |            |       |   |   |
| Chase II Holdings Corp.                                |       | Manufacturing - traffic doors                               |       | Revolving Credit Facility (9.8% Due 3/2008) (7)           |            | 1,900,000  |   | 1,900,000 |
|                                                   |       |                                                        |       | Senior Term Debt (9.8%, Due 3/2011) (5)                   |            | 11,000,000 |   | 11,000,000 |
|                                                   |       |                                                        |       | Senior Term Debt (12.0% Due 3/2011) (5)                   |            | 8,000,000  |   | 8,000,000 |
|                                                   |       |                                                        |       | Subordinated Term Debt (13% Due 3/2013) (5)               |            | 6,167,810  |   | 6,167,810 |
|                                                   |       |                                                        |       | Redeemable Preferred Stock (4)                            |            | 6,960,806  |   | 3,120,070 |
|                                                   |       |                                                        |       | Common Stock Warrants (4)                                 |            | 61,384     |   | — |
|                                                   |       |                                                        |       |                                                      |            | 34,090,000 |   | 30,187,880 |
|                                                   |       |                                                        |       |                                                      |            |       |   |   |
| Hailey Transport Corporation                           |       | Retail and Service - school buses and parts                 |       | Senior Subordinated Term Debt (12.0%, Due 1/2012) (5)     |            | 4,000,000  |   | 4,000,000 |
|                                                   |       |                                                        |       | Preferred Stock (4)                                       |            | 2,500,000  |   | 3,184,874 |
|                                                   |       |                                                        |       |                                                      |            | 6,500,000  |   | 7,184,874 |
|                                                   |       |                                                        |       |                                                      |            |       |   |   |
| Quench Holdings Corp.                                  |       | Service - sales, installation and service  of water coolers |       | Revolving Credit Facility (9.3%, Due 3/2009) (5) (8)      |            | 1,900,000  |   | 1,900,000 |
|                                                   |       |                                                        |       | Senior Term Debt (9.3%, Due 3/2011) (5)                   |            | 4,000,000  |   | 4,000,000 |
|                                                   |       |                                                        |       | Subordinated Term Debt (11.5%, Due 3/2011) (5)            |            | 8,000,000  |   | 8,000,000 |
|                                                   |       |                                                        |       | Common Stock (4)                                          |            | 3,256,318  |   | 3,205,808 |
|                                                   |       |                                                        |       |                                                      |            | 17,156,318 |   | 17,105,808 |
|                                                   |       |                                                        |       |                                                      |            |       |   |   |
| **Total Control Investments**                          | ** ** | ** **                                                  | ** ** | ** **                                                | ** **      | **$**      | **116,302,372** | ** ** | **$** | **113,016,491** |
| ** **                                             | ** ** | ** **                                                  | ** ** | ** **                                                | ** **      | ** ** | ** ** | ** ** |
| **AFFILIATE INVESTMENTS**                              |       |                                                        |       |                                                      |            |       |   |   |
|                                                   |       |                                                        |       |                                                      |            |       |   |   |
| Noble Logistics, Inc.                                  |       | Service - aftermarket auto parts delivery                   |       | Revolving Credit Facility (9.3%, Due 12/2009) (5) (9)     |            | $          | 2,000,000 |   | $ | 1,995,000 |
|                                                   |       |                                                        |       | Senior Term Debt (9.3%, Due 12/2011) (5) (6)              |            | 7,000,000  |   | 7,008,750 |
|                                                   |       |                                                        |       | Senior Term Debt (11.3% Due 3/2011) (5) (6)               |            | 7,000,000  |   | 7,008,750 |
|                                                   |       |                                                        |       | Senior Subordinated Term Debt (12.3% Due 8/2007) (5)  (6) |            | 500,000    |   | 500,000 |
|                                                   |       |                                                        |       | Preferred Stock (4) (6)                                   |            | 1,750,000  |   | 1,750,000 |
|                                                   |       |                                                        |       | Common Stock (4) (6)                                      |            | 1,500,000  |   | 1,500,000 |
|                                                   |       |                                                        |       |                                                      |            | 19,750,000 |   | 19,762,500 |
|                                                   |       |                                                        |       |                                                      |            |       |   |   |
| **Total Affiliate Investments**                        | ** ** | ** **                                                  | ** ** | ** **                                                | ** **      | **$**      | **19,750,000** | ** ** | **$** | **19,762,500** |
|                                                   |       |                                                        |       |                                                      |            |       |   |   |
| **Total Investments**                                  | ** ** | ** **                                                  | ** ** | ** **                                                | ** **      | **$**      | **274,620,113** | ** ** | **$** | **270,947,603** |

----

(1)                Certain of the listed securities are issued byaffiliate(s) of the indicated portfolio company.

(2)                Percentage represents the weighted average interestrates in effect at March 31, 2007 and due date represents the contractualmaturity date.

(3)                Marketable securities are valued based on the indicativebid price, as of March 31, 2007, from the respective originating syndicationagent’s trading desk.

(4)                Security is non-income producing.

(5)                Valued using Standard & Poor’s SecuritiesEvaluations, Inc. opinions of value at March 31, 2007.

(6)                Fair value is equal to cost due to recent acquisition.

(7)                Total available under the revolving credit facility is$3,500,000 of which $1,600,000 remains undrawn as of March 31, 2007.

(8)                Total available under the revolving credit facility is$2,000,000, of which $100,000 remains undrawn at March 31, 2007.

(9)                Total available under the revolving credit facility is$2,000,000, which was fully drawn at March 31, 2007.

(10)           Subsequent to March 31, 2007, the investment in theportfolio company was sold at the fair value reflected herein.

*THE ACCOMPANYING NOTES ARE AN INTEGRAL PARTTO THESE CONSOLIDATED FINANCIAL STATEMENTS.*

44

----

**GLADSTONE INVESTMENT CORPORATIONSCHEDULE OF INVESTMENTSMARCH 31, 2006**
| Company (1)                                     | ** ** | **Industry**                                       | ** ** | **Investment (2)**                       | ** ** | **Cost**       | ** ** | **Fair Value** |
|-------------------------------------------------|------------|----------------------------------------------------|------------|------------------------------------------|------------|----------------|------------|----------------|
|                                            |       |                                               |       |                                     |       |           |       |           |
| **NON-CONTROL/NON-AFFILIATE INVESTMENTS**       | ** ** | ** **                                         | ** ** | ** **                               | ** ** | ** **     |
| ** **                                      | ** ** | ** **                                         | ** ** | ** **                               | ** ** | ** **     | ** ** | ** **     |
| CRC Health Group,  Inc.                         |       | Service - substance abuse treatment                |       | Senior Term Debt (6.9%, Due 2/2016) (3)  |       | $              | 5,056,761  |           | $ | 5,056,250 |
|                                            |       |                                               |       |                                     |       |           |       |           |
| Graham Packaging  Holdings Co.                  |       | Manufacturing-custom blow molded                   |       | Senior Term Debt (7.0%, Due 10/2011) (3) |       | 10,071,296     |       | 10,061,087     |
|                                            |       |                                               |       |                                     |       |           |       |           |
| Hertz Equipment  Rental Corporation             |       | Service - car rentals                              |       | Senior Term Debt (6.7%, Due 12/2010) (3) |       | 871,388        |       | 876,560        |
|                                            |       |                                               |       |                                     |       |           |       |           |
| Latham  Manufacturing Corp.                     |       | Manufacturing-swimming pool components accessories |       | Senior Term Debt (7.8%, Due 12/2010) (3) |       | 4,454,333      |       | 4,461,188      |
|                                            |       |                                               |       |                                     |       |           |       |           |
| Le-Natures, Inc.                                |       | Marketing and Development - natural beverages      |       | Senior Term Debt (7.7%, Due 6/2010) (3)  |       | 5,042,467      |       | 5,074,713      |
|                                            |       |                                               |       |                                     |       |           |       |           |
| LVI Services,  Inc.                             |       | Service-asbestos and mold remediation              |       | Senior Term Debt (7.3%, Due 11/2010) (3) |       | 6,511,390      |       | 6,540,483      |
|                                            |       |                                               |       |                                     |       |           |       |           |
| Madison River  Capital LLC                      |       | Service-communications and information             |       | Senior Term Debt (6.8%, Due 7/2012) (3)  |       | 5,788,660      |       | 5,829,062      |
|                                            |       |                                               |       |                                     |       |           |       |           |
| Maidenform, Inc.                                |       | Intimate apparel                                   |       | Senior Term Debt (6.5%, Due 5/2010) (3)  |       | 3,118,448      |       | 3,122,787      |
|                                            |       |                                               |       |                                     |       |           |       |           |
| MedAssets, Inc.                                 |       | Pharmaceuticals and healthcare GPO                 |       | Senior Term Debt (7.7%, Due 7/2010) (3)  |       | 2,340,111      |       | 2,348,526      |
|                                            |       |                                               |       |                                     |       |           |       |           |
| Ozburn-Hessey  Holding Co. LLC                  |       | Third party logistics provider                     |       | Senior Term Debt (7.3%, Due 8/2012) (3)  |       | 6,382,673      |       | 6,376,646      |
|                                            |       |                                               |       |                                     |       |           |       |           |
| Patriot Media  & Communications CNJ, LLC    |       | Service - telecommunications                       |       | Senior Term Debt (7.0%, Due 3/2013) (3)  |       | 4,360,777      |       | 4,359,125      |
|                                            |       |                                               |       |                                     |       |           |       |           |
| Revere  Industries, LLC                         |       | Manufacturing-plastic and metal components         |       | Senior Term Debt (7.6%, Due 9/2010) (3)  |       | 3,508,831      |       | 3,504,546      |
|                                            |       |                                               |       |                                     |       |           |       |           |
| RPG Holdings,  Inc.                             |       | Manufacturing and Design - greeting cards          |       | Senior Term Debt (8.2%, Due 12/2011) (3) |       | 5,001,332      |       | 5,000,000      |
|                                            |       |                                               |       |                                     |       |           |       |           |
| SGS  International, Inc.                        |       | Service - digital imaging and graphics             |       | Senior Term Debt (7.2%, Due 12/2011) (3) |       | 1,404,081      |       | 1,415,702      |
|                                            |       |                                               |       |                                     |       |           |       |           |
| SunGard Data  Systems, Inc.                     |       | Integrated software and processing solutions       |       | Senior Term Debt (7.2%, Due 2/2013) (3)  |       | 10,033,531     |       | 10,049,063     |
|                                            |       |                                               |       |                                     |       |           |       |           |
| Triad Laboratory  Alliance, LLC                 |       | Service - regional medical laboratories            |       | Senior Term Debt (7.8%, Due 12/2011) (3) |       | 5,006,982      |       | 5,012,438      |
|                                            |       |                                               |       |                                     |       |           |       |           |
| TexStar  Operating, L.P.                        |       | Manufacturing - midstream natural gas processing   |       | Senior Term Debt (8.3%, Due 12/2011) (3) |       | 3,000,161      |       | 2,999,981      |
|                                            |       |                                               |       |                                     |       |           |       |           |
| US Investigative  Services, Inc.                |       | Service-background investigations                  |       | Senior Term Debt (7.4%, Due 10/2012) (3) |       | 9,948,345      |       | 9,984,478      |
|                                            |       |                                               |       |                                     |       |           |       |           |
| Wastequip, Inc.                                 |       | Manufacturing-waste removal equipment              |       | Senior Term Debt (7.0%, Due 7/2011) (3)  |       | 5,521,437      |       | 5,513,337      |
|                                            |       |                                               |       |                                     |       |           |       |           |
| **Total Non-Control/Non-Affiliate Investments** |       |                                               | ** ** | **97,423,004**                           | ** ** | **97,585,972** |
|                                                 |            |                                                    |            |                                          |            |                |            |                |  |  |

 

45

----

 
| **CONTROL INVESTMENTS**                     |   |                                        |   |                                                   |       |            |            |            |
|---------------------------------------------|--------|---------------------------------------------|--------|--------------------------------------------------------|------------|-----------------|-----------------|-----------------|
|                                        |   |                                        |   |                                                   |       |            |            |            |
| Chase II Holdings  Corporation              |   | Manufacturing - Traffic doors               |   | Revolving Credit Facility (5)                          |       | —          |            | —          |
|                                        |   |                                        |   | Senior Term Debt (9.1%, Due 3/2011)                    |       | 12,900,000      |            | 12,900,000      |
|                                        |   |                                        |   | Senior Term Debt (12.0% Due 3/2011)                    |       | 8,000,000       |            | 8,000,000       |
|                                        |   |                                        |   | Subordinated Term Debt (13% Due 3/2013)                |       | 6,167,810       |            | 6,167,810       |
|                                        |   |                                        |   | Redeemable Preferred Stock (4)                         |       | 6,960,806       |            | 6,960,806       |
|                                        |   |                                        |   | Common Stock (4)                                       |       | 61,384          |            | 61,384          |
|                                        |   |                                        |   |                                                   |       | 34,090,000      |            | 34,090,000      |
|                                        |   |                                        |   |                                                   |       |            |            |            |
| Hailey Transport  Corporation               |   | Retail and Service - school buses and parts |   | Senior Subordinated Term Debt (12.0%, Due 1/2012) |       | 4,000,000       |            | 3,950,000       |
|                                        |   |                                        |   | Common Stock (4)                                       |       | 2,500,000       |            | 2,500,000       |
|                                        |   |                                        |   |                                                   |       | 6,500,000       |            | 6,450,000       |
|                                        |   |                                        |   |                                                   |       |            |            |            |
| Quench Holdings  Corporation                |   | Service - sales, installation and service   |   | Revolving Credit Facility (6)                          |       | —          |            | —          |
|                                        |   | of water coolers                            |   | Senior Term Debt (9.1%, Due 3/2011)                    |       | 4,000,000       |            | 4,000,000       |
|                                        |   |                                        |   | Subordinated Term Debt (11.5%, Due 3/2011)        |       | 8,000,000       |            | 8,000,000       |
|                                        |   |                                        |   | Common Stock (4)                                       |       | 3,256,318       |            | 3,256,318       |
|                                        |   |                                        |   |                                                   |       | 15,256,318      |            | 15,256,318      |
|                                        |   |                                        |   |                                                   |       |            |            |            |
| **Total  Control Investments**              |   |                                        |   |                                                   | ** ** | **55,846,318**  | ** **      | **55,796,318**  |
|                                        |   |                                        |   |                                                   |       |            |            |            |
| **Total  Investments**                      |   |                                        |   |                                                   | ** ** | **153,269,322** | ** **      | **153,382,290** |
|                                        |   |                                        |   |                                                   |       |            |            |            |
| **Cash  equivalents**                       |   |                                        |   |                                                   |       |            |            |            |
|                                        |   | Government                                  |   | US Treasury Bill                                       |       | 3,989,800       |            | 3,989,800       |
|                                        |   |                                        |   | (4.2%, 4/20/2006)                                      |       |            |            |            |
|                                        |   |                                        |   |                                                   |       |            |            |            |
|                                        |   | Government                                  |   | US Treasury Bill                                       |       | 15,241,694      |            | 15,241,694      |
|                                        |   |                                        |   | (4.4%, 4/27/2006)                                      |       |            |            |            |
|                                        |   |                                        |   |                                                   |       |            |            |            |
|                                        |   | Government                                  |   | US Treasury Bill                                       |       | 35,132,347      |            | 35,132,347      |
|                                        |   |                                        |   | (4.4%, 5/4/2006)                                       |       |            |            |            |
|                                        |   |                                        |   |                                                   |       |            |            |            |
|                                        |   | Government                                  |   | US Treasury Bill                                       |       | 15,243,245      |            | 15,243,245      |
|                                        |   |                                        |   | (4.4%, 5/25/2006)                                      |       |            |            |            |
|                                        |   |                                        |   |                                                   |       |            |            |            |
| **Total  cash equivalents:**                |   |                                        |   |                                                   | ** ** | **69,607,086**  | ** **      | **69,607,086**  |
| **Total investments and cash equivalents:** |   |                                        |   | **$222,876,408**                                       | ** ** | **$**           | **222,989,376** |

----

(1)                Certain of the listed securities are issued byaffiliate(s) of the indicated portfolio company.

(2)                Percentage represents the weighted average interestrates in effect at March 31, 2006 and due date represents the contractualmaturity date.

(3)                Marketable securities are valued based on theindicative bid price, as of March 31, 2006, from the respective originatingsyndication agent’s trading desk.

(4)                Security is non-income producing.

(5)                Total available under the revolving credit facility is$500,000 which was undrawn as of March 31, 2006.

(6)                Total available under the revolving credit facility is$2,000,000 which was undrawn as of March 31, 2006.

 

*THE ACCOMPANYING NOTES ARE AN INTEGRAL PARTTO THESE CONSOLIDATED FINANCIAL STATEMENTS.*

46

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**GLADSTONEINVESTMENT CORPORATIONCONSOLIDATED STATEMENT OF OPERATIONS**
| ** **                                                                           | ** ** | ** **                   | ** ** | **For the period** | ** ** |
|--------------------------------------------------------------------------------------|------------|------------------------------|------------|------------------------------|------------|
| ** **                                                                           | ** ** | ** **                   | ** ** | **June 22, 2005**  | ** ** |
| ** **                                                                           | ** ** | ** **                   | ** ** | **(Commencement of**    | ** ** |
| ** **                                                                           | ** ** | **Year Ended**          | ** ** | **Operations) to**      | ** ** |
| ** **                                                                           | ** ** | **March 31, 2007** | ** ** | **March 31, 2006** | ** ** |
|                                                                                 |       |                         |       |                         |       |
| INVESTMENT INCOME                                                                    |       |                         |       |                         |       |
| Interest income                                                                      |       |                         |       |                         |       |
| Non-Control/Non-Affiliate  investments                                               |       | $                            | 9,572,593  |                         | $          | 2,450,906 |   |
| Control  investments                                                                 |       | 5,486,060                    |       | 255,059                      |       |
| Affiliate  investments                                                               |       | 535,629                      |       | —                       |       |
| Cash and cash  equivalents                                                           |       | 1,661,647                    |       | 4,434,706                    |       |
| Total interest  income                                                               |       | 17,255,929                   |       | 7,140,671                    |       |
| Fee income —  Control investments                                               |       | —                       |       | 230,000                      |       |
| Other income                                                                         |       | 5,707                        |       | 185                          |       |
| Total investment  income                                                             |       | 17,261,636                   |       | 7,370,856                    |       |
|                                                                                 |       |                         |       |                         |       |
| EXPENSES                                                                             |       |                         |       |                         |       |
| Base management  fee                                                                 |       | 2,413,116                    |       | 915,360                      |       |
| Loan servicing  fee                                                                  |       | 1,568,854                    |       | —                       |       |
| Administration  fee                                                                  |       | 526,595                      |       | 288,471                      |       |
| Interest expense                                                                     |       | 607,661                      |       | 378                          |       |
| Amortization of  deferred finance costs                                              |       | 233,779                      |       | —                       |       |
| Professional  fees                                                                   |       | 586,028                      |       | 163,369                      |       |
| Stockholder  related costs                                                           |       | 273,483                      |       | 89,563                       |       |
| Insurance  expense                                                                   |       | 262,339                      |       | 184,642                      |       |
| Directors fees                                                                       |       | 208,100                      |       | 160,000                      |       |
| Taxes and  licenses                                                                  |       | 168,873                      |       | 195,270                      |       |
| Organizational  costs                                                                |       | —                       |       | 7,002                        |       |
| General and  administrative expenses                                                 |       | 142,659                      |       | 37,492                       |       |
| Expenses before  credit from Adviser                                                 |       | 6,991,487                    |       | 2,041,547                    |       |
| Credit to  management fee for fees collected by Adviser (Refer to Note 3)            |       | (877,583                     | )          | (554,589                     | )          |
| Total expenses  net of credit to management fee                                      |       | 6,113,904                    |       | 1,486,958                    |       |
| NET INVESTMENT INCOME                                                                |       | 11,147,732                   |       | 5,883,898                    |       |
|                                                                                 |       |                         |       |                         |       |
| REALIZED AND UNREALIZED  GAIN (LOSS) ON INVESTMENTS                                  |       |                         |       |                         |       |
| Realized (loss)  gain on sale of Non-Control/Non-Affiliate investments               |       | (93,850                      | )          | 57,431                       |       |
| Net unrealized  (depreciation) appreciation of Non-Control/Non-Affiliate investments |       | (562,097                     | )          | 162,968                      |       |
| Net unrealized  depreciation of Control Investments                                  |       | (3,235,881                   | )          | (50,000                      | )          |
| Net unrealized  appreciation of Affiliate Investments                                |       | 12,500                       |       | —                       |       |
| Net (loss) gain  on investments                                                      |       | (3,879,328                   | )          | 170,399                      |       |
|                                                                                 |       |                         |       |                         |       |
|                                                                                 |       |                         |       |                         |       |
| NET INCREASE IN NET  ASSETS RESULTING FROM OPERATIONS (Refer to Note 5)              |       | $                            | 7,268,404  |                         | $          | 6,054,297 |   |
|                                                                                 |       |                         |       |                         |       |
| NET INCREASE IN NET  ASSETS RESULTING FROM OPERATIONS PER COMMON SHARE:              |       |                         |       |                         |       |
| Basic and  Diluted                                                                   |       | $                            | 0.44       |                         | $          | 0.37 |   |
|                                                                                 |       |                         |       |                         |       |
| SHARES OF COMMON STOCK  OUTSTANDING:                                                 |       |                         |       |                         |       |
| Basic and diluted  weighted average shares                                           |       | 16,560,100                   |       | 16,391,589                   |       |

 

*THE ACCOMPANYING NOTES ARE AN INTEGRAL PARTTO THESE CONSOLIDATED FINANCIAL STATEMENTS.*

47

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**GLADSTONEINVESTMENT CORPORATIONCONSOLIDATED STATEMENT OF CHANGES IN NET ASSETS**
| ** **                                                         | ** ** | ** **                   | ** **  | **For the period** | ** ** |
|--------------------------------------------------------------------|------------|------------------------------|-------------|------------------------------|------------|
| ** **                                                         | ** ** | ** **                   | ** **  | **June 22, 2005**  | ** ** |
| ** **                                                         | ** ** | ** **                   | ** **  | **(Commencement of**    | ** ** |
| ** **                                                         | ** ** | **Year Ended**          | ** **  | **Operations) to**      | ** ** |
| ** **                                                         | ** ** | **March 31, 2007** | ** **  | **March 31, 2006** | ** ** |
| *Operations:*                                                      |       |                         |        |                         |       |
| Net investment income                                              |       | $                            | 11,147,732  |                         | $          | 5,883,898 |   |
| Realized (loss) gain on sale of investments                        |       | (93,850                      | )           | 57,431                       |       |
| Unrealized (depreciation) appreciation of portfolio                |       | (3,785,478                   | )           | 112,968                      |       |
| Increase in net  assets from operations                            |       | 7,268,404                    |        | 6,054,297                    |       |
|                                                               |       |                         |        |                         |       |
| *Capital  transactions:*                                           |       |                         |        |                         |       |
| Issuance of common stock                                           |       | —                       |        | 230,244,339                  |       |
| Shelf offering costs                                               |       | (132,707                     | )           | —                       |       |
| Dividends from net investment income                               |       | (14,158,885                  | )           | (6,458,439                   | )          |
| Total (decrease) increase in net assets from capital  transactions |       | (14,291,592                  | )           | 223,785,900                  |       |
|                                                               |       |                         |        |                         |       |
| Total (decrease)  increase in net assets                           |       | (7,023,188                   | )           | 229,840,197                  |       |
|                                                               |       |                         |        |                         |       |
| Net Assets                                                         |       |                         |        |                         |       |
| Beginning of period                                                |       | 229,841,697                  |        | 1,500                        |       |
| End of period                                                      |       | $                            | 222,818,509 |                         | $          | 229,841,697 |   |

 

*THE ACCOMPANYING NOTES ARE AN INTEGRAL PARTTO THESE CONSOLIDATED FINANCIAL STATEMENTS.*

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**GLADSTONEINVESTMENT CORPORATIONCONSOLIDATED STATEMENT OF CASH FLOWS**
| ** **                                                                                                               | ** ** | ** **                            | ** ** | **For the period** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------|------------|------------------------------|------------|
| ** **                                                                                                               | ** ** | ** **                            | ** ** | **June 22, 2005**  | ** ** |
| ** **                                                                                                               | ** ** | ** **                            | ** ** | **(Commencement of**    | ** ** |
| ** **                                                                                                               | ** ** | **For the year ended** | ** ** | **Operations) to**      | ** ** |
| ** **                                                                                                               | ** ** | **March 31, 2007**          | ** ** | **March 31, 2006** | ** ** |
|                                                                                                                     |       |                                  |       |                         |       |
| **CASH  FLOWS FROM OPERATING ACTIVITIES**                                                                                |       |                                  |       |                         |       |
| ** **                                                                                                               |       |                                  |       |                         |       |
| Net increase in net assets resulting from operations                                                                     |       | $                                     | 7,268,404  |                         | $          | 6,054,297 |   |
| Adjustments to reconcile net increase in net assets resulting  from operations to net cash used in operating activities: |       |                                  |       |                         |       |
| Purchase of investments                                                                                                  |       | (182,953,071                          | )          | (160,646,470                 | )          |
| Principal repayments of investments                                                                                      |       | 30,422,568                            |       | 1,801,537                    |       |
| Proceeds from the sale of investments                                                                                    |       | 30,744,214                            |       | 5,579,931                    |       |
| Net unrealized depreciation (appreciation) of  investment portfolio                                                      |       | 3,785,478                             |       | (112,968                     | )          |
| Net realized loss (gain) on sales of investments                                                                         |       | 93,850                                |       | (57,431                      | )          |
| Net amortization of premiums and discounts                                                                               |       | 341,648                               |       | 53,111                       |       |
| Amortization of deferred finance costs                                                                                   |       | 233,779                               |       | —                       |       |
| Increase in interest receivable                                                                                          |       | (544,702                              | )          | (761,388                     | )          |
| Increase in due from custodian                                                                                           |       | (12,694,985                           | )          | —                       |       |
| Decrease (increase) in prepaid assets                                                                                    |       | 18,630                                |       | (99,874                      | )          |
| Decrease (increase) in other assets                                                                                      |       | 50,090                                |       | (173,099                     | )          |
| Increase in other liabilities                                                                                            |       | 80,687                                |       | 5,077                        |       |
| (Decrease) increase in administration fee payable to  Administrator                                                      |       | (119,873                              | )          | 110,002                      |       |
| Increase (decrease) in base management fee payable  to Adviser                                                           |       | 102,987                               |       | (234,551                     | )          |
| Increase in loan servicing fee payable to Adviser                                                                        |       | 283,296                               |       | —                       |       |
| Increase in accrued expenses                                                                                             |       | 156,667                               |       | 367,031                      |       |
| Net cash used in operating activities                                                                                    |       | (122,730,333                          | )          | (148,114,795                 | )          |
|                                                                                                                     |       |                                  |       |                         |       |
| **CASH  FLOWS FROM FINANCING ACTIVITIES**                                                                                |       |                                  |       |                         |       |
| ** **                                                                                                               |       |                                  |       |                         |       |
| Net proceeds from the issuance of common stock  (including deferred offering costs of $47,864)                           |       | —                                |       | 230,292,203                  |       |
| Borrowings from line of credit                                                                                           |       | 103,500,000                           |       | —                       |       |
| Repayments of line of credit                                                                                             |       | (3,500,000                            | )          | —                       |       |
| Deferred finance costs                                                                                                   |       | (861,739                              | )          | —                       |       |
| Shelf offering registration costs                                                                                        |       | (132,707                              | )          | —                       |       |
| Distributions paid                                                                                                       |       | (14,158,885                           | )          | (6,458,439                   | )          |
| Decrease in loan payable to affiliate                                                                                    |       | —                                |       | (50,000                      | )          |
| Net cash provided by financing activities                                                                                |       | 84,846,669                            |       | 223,783,764                  |       |
|                                                                                                                     |       |                                  |       |                         |       |
| **NET  (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS (1)**                                                            |       | (37,883,664                           | )          | 75,668,969                   |       |
| **CASH  AND CASH EQUIVALENTS, BEGINNING OF PERIOD**                                                                      |       | 75,672,605                            |       | 3,636                        |       |
| **CASH  AND CASH EQUIVALENTS, END OF PERIOD**                                                                            |       | $                                     | 37,788,941 |                         | $          | 75,672,605 |   |
|                                                                                                                     |       |                                  |       |                         |       |
| **CASH  PAID DURING PERIOD FOR INTEREST**                                                                                |       | $                                     | 360,262    |                         | $          | — |   |
| **CASH PAID DURING PERIOD FOR  INTEREST TO AFFILIATE**                                                                   |       | $                                     | —     |                         | $          | 378 |   |

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(1)             Cashand cash equivalents consist of demand deposits and highly liquid investmentswith original maturities of three months or less when purchased.

*THE ACCOMPANYING NOTES ARE AN INTEGRAL PARTTO THESE CONSOLIDATED FINANCIAL STATEMENTS.*

 

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**GLADSTONEINVESTMENT CORPORATIONFINANCIAL HIGHLIGHTS**
| ** **                                                     | ** ** | ** **                            | ** **  | **For the period** | ** ** |
|----------------------------------------------------------------|------------|---------------------------------------|-------------|------------------------------|------------|
| ** **                                                     | ** ** | ** **                            | ** **  | **June 22, 2005**  | ** ** |
| ** **                                                     | ** ** | ** **                            | ** **  | **(Commencement of**    | ** ** |
| ** **                                                     | ** ** | **For the year ended** | ** **  | **Operations) to**      | ** ** |
| ** **                                                     | ** ** | **March 31, 2007**          | ** **  | **March 31, 2006** | ** ** |
| Per Share Data (1)                                             |       |                                  |        |                         |       |
| Balance at  beginning of period                                |       | $                                     | 13.88       |                         | $          | — |   |
| Net proceeds  from initial public offering (2)                 |       | —                                |        | 13.95                        |       |
| Offering costs                                                 |       | —                                |        | (0.05                        | )          |
|                                                           |       |                                  |        |                         |       |
| *Income  from investment operations:*                          |       |                                  |        |                         |       |
| Net investment  income (3)                                     |       | 0.67                                  |        | 0.36                         |       |
| Realized loss on  sale of investments (3)                      |       | (0.01                                 | )           | —                       |       |
| Net unrealized  (depreciation) appreciation of investments (3) |       | (0.22                                 | )           | 0.01                         |       |
| Total from  investment operations                              |       | 0.44                                  |        | 0.37                         |       |
| Distributions                                                  |       | (0.85                                 | )           | (0.39                        | )          |
| Shelf  registration offering costs                             |       | (0.01                                 | )           | —                       |       |
| Net asset value at end  of period                              |       | $                                     | 13.46       |                         | $          | 13.88 |   |
|                                                           |       |                                  |        |                         |       |
| Per share market value  at beginning of period                 |       | $                                     | 15.10       |                         | $          | 15.00 |   |
| Per share market value  at end of period                       |       | 14.87                                 |        | 15.10                        |       |
| Total Return (4)                                               |       | 4.36                                  | %           | 3.39                         | %          |
| Shares outstanding at  end of period                           |       | 16,560,100                            |        | 16,560,100                   |       |
|                                                           |       |                                  |        |                         |       |
| Ratios/Supplemental  Data                                      |       |                                  |        |                         |       |
| Net assets at end of  period                                   |       | $                                     | 222,818,509 |                         | $          | 229,841,697 |   |
| Average net assets                                             |       | $                                     | 225,642,593 |                         | $          | 226,875,738 |   |
| Ratio of expenses to  average net assets (5) (6)               |       | 3.10                                  | %           | 1.08                         | %          |
| Ratio of net expenses  to average net assets (5) (7)           |       | 2.71                                  | %           | 0.79                         | %          |
| Ratio of net investment income to average net assets (5)       |       | 4.94                                  | %           | 3.11                         | %          |

----

(1)             Based on actualshares outstanding.

(2)             Net of initialunderwriting discount of $1.05 per share.

(3)             Based on weightedaverage basic per share data.

(4)             Total return equalsthe change in the market value of the Company’s common stock from the beginningof the period taking into account dividends reinvested in accordance with theterms of the Company’s dividend reinvestment plan.

(5)             Amounts areannualized for the period June 22, 2005 (commencement of operations) to March31, 2006.

(6)             Ratio of expenses toaverage net assets is computed using expenses before credit from the Adviser.

(7)             Ratioof net expenses to average net assets is computed using total expenses net ofcredits to management fee.

*THE ACCOMPANYING NOTES ARE AN INTEGRAL PARTTO THESE CONSOLIDATED FINANCIAL STATEMENTS.*

 

50

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**GLADSTONE INVESTMENT CORPORATIONNOTES TO CONSOLIDATED FINANCIAL STATEMENTSMarch 31, 2007**

**Note 1.Organization**

GladstoneInvestment Corporation (the “Company”) was incorporated under the GeneralCorporation Laws of the State of Delaware on February 18, 2005 and completed aninitial public offering on June 22, 2005.  The Company is a closed-end, non-diversified management investmentcompany that has elected to be treated as a business development company underthe Investment Company Act of 1940, as amended (the “1940 Act”). In addition,the Company has elected to be treated for tax purposes as a regulatedinvestment company, or RIC, under the Internal Revenue Code of 1986, as amended(the “Code”). The Company’s investment objectives are to achieve a high levelof current income and capital gains by investing in debt and equity securitiesof established private businesses.

Gladstone BusinessInvestment, LLC (“Business Investment”) a wholly-owned subsidiary of theCompany, was established on August 11, 2006 for the sole purpose of owning theCompany’s portfolio of investments in connection with the establishment of itsline of credit facility with Deutsche Bank AG, which recently closed on October19, 2006.  The financial statements ofBusiness Investment are consolidated with those of the Company.

The Company isexternally managed by Gladstone Management Corporation (“GMC” or the “Adviser”),an unconsolidated affiliate of the Company.

**Note 2.Summary of Significant Accounting Policies**

*Basisof Presentation*

The accompanyingconsolidated financial statements include the accounts of the Company and itswholly-owned subsidiaries. All significant intercompany balances andtransactions have been eliminated.

*Consolidation*

Under Article 6 of Regulation S-X under the Securities Act of 1933, asamended, and the authoritative accounting guidance provided by the AICPA Auditand Accounting Guide for Investment Companies, the Company is not permitted toconsolidate any subsidiary or other entity that is not an investment company.

*Useof Estimates*

The consolidatedfinancial statements have been prepared in accordance with accountingprinciples generally accepted in the United States of America that requiremanagement to make estimates and assumptions that affect the amounts reportedin the financial statements and accompanying notes. Actual results may differfrom those estimates.

*Reclassifications*

Certain amounts inprior year’s financial statements have been reclassified to conform to thecurrent year presentation with no effect to net increase in net assetsresulting from operations.

*Cashand Cash Equivalents*

The Companyconsiders all short-term, highly liquid investments that are both readilyconvertible to cash and have a maturity of three months or less at the time ofpurchase to be cash equivalents. Items classified as cash equivalents includetemporary investments in U.S. Treasury bills and can also include commercialpaper and money-market funds. All of the Company’s cash at March 31, 2007 wasdeposited with two financial institutions, and the Company’s balances exceedfederally insurable limits. The Company seeks to mitigate this risk bydepositing funds with major financial institutions.

*Classificationof Investments*

The 1940 Act requires classification of the Company’s investments byits respective level of control.  Asdefined in the 1940 Act, “Control Investments” are investments in thoseportfolio companies that the Company is deemed to “Control”.  “Affiliate Investments” are investments inthose portfolio companies that are “Affiliated Companies” of the Company, as 

51

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defined in the 1940 Act, other than Control Investments.  “Non-Control/Non-Affiliate Investments” arethose that are neither Control Investments nor Affiliate Investments.  In general, the 1940 Act prescribes that theCompany has control over a portfolio company if it owns greater than 25% of thevoting securities of the portfolio company. The Company is deemed to be an affiliate of a portfolio company if itowns between 5% and 25% of the voting securities of such portfolio company orhas one or more seats on the affiliated company’s board of directors.  However, if the Company holds 50% or morecontractual representation on a portfolio company’s board of directors, theCompany will be deemed to have control over the portfolio company.

*InvestmentValuation*

The Companycarries its investments at fair value, as determined by its Board ofDirectors.  Securities that are publiclytraded are valued at the closing price on the valuation date.  Securities for which a limited market exists,such as participations in syndicated loans, are valued at the indicative bidprice on the valuation date from the respective originating syndication agent’strading desk.  Debt and equity securitiesthat are not publicly traded are valued at fair value. The Company’s Board ofDirectors has established a valuation policy and consistently applied valuationprocedures used to determine the fair value of these securities quarterly.  These procedures for the determination ofvalue of 13 of the Company’s debt securities rely on the opinions of valuesubmitted to us by Standard & Poor’s Securities Evaluations, Inc. (“SPSE”).SPSE will only evaluate the debt portion of the Company’s investments for whichthe Company specifically requests evaluation, and may decline to make requestedevaluations for any reason in its sole discretion.  SPSE opinions of value are submitted to theBoard of Directors along with the Adviser’s supplemental assessment andrecommendation regarding valuation of each of these investments. The Board ofDirectors then reviews whether the Adviser has followed its establishedprocedures for determinations of fair value, and votes to accept or not acceptthe recommended valuation of the Company’s investment portfolio. The Company’sfair valuation procedures provide for valuation of non-convertible debtsecurities at cost plus amortized original issue discount (“OID”) plus paid inkind (“PIK”) interest, if any, unless adverse factors lead to a determinationof a lesser valuation.  The fair value ofconvertible debt, equity, success or exit fees or other equity-like securitiesis determined based on the collateral, the enterprise value of the issuer, theissuer’s ability to make payments, the earnings of the issuer, sales to thirdparties of similar securities, the comparison to publicly traded securities,discounted cash flow and other pertinent factors.  Due to the uncertainty inherent in thevaluation process, such estimates of fair value may differ significantly fromthe values that would have resulted had a ready market for the securitiesexisted, and the differences could be material. Additionally, changes in themarket environment and other events that may occur over the life of theinvestments may cause the gains or losses ultimately realized on theseinvestments to be different than the valuation currently assigned.  Because there is a delay between when theCompany closes an investment and when the investment can be evaluated by SPSE,new investments are not valued immediately by SPSE; rather, the Adviser makesits own determination about the recommended value of these investments inaccordance with the Company’s valuation policy without the input of SPSE duringthe specific quarter in which the investment is made.  Because SPSE does not currently performindependent valuations of mortgage loans or equity securities for the Company,the Adviser also determines a recommendation for the fair value of theseinvestments without the input of SPSE. The Adviser considers a number of qualitative and quantitative factorsin current market conditions when performing valuations.  The Board of Directors then determineswhether or not to accept the Adviser’s recommendations for the aggregatevaluation of the Company’s portfolio of investments.  The Board of Directors is ultimatelyresponsible for setting the fair value and disclosure of investments in thefinancial statements.

*Interestand Dividend Income Recognition*

Interest income, adjusted for amortization of premiums and acquisition costsand for the accretion of discounts, is recorded on the accrual basis to theextent that such amounts are expected to be collected. The Company stopsaccruing interest on its investments when it is determined that interest is nolonger collectible.  There were nouncollectible accounts at March 31, 2007. Conditional interest or a success fee is recorded upon full repayment ofa loan investment. Dividend income on preferred equity securities is accrued tothe extent that such amounts are expected to be collected and that the Companyhas the option to collect such amounts in cash. To date, the Company has not accrued any dividend income.

*ServicesProvided to Portfolio Companies*

The 1940 Actrequires that a business development company make available managerialassistance to its portfolio companies by providing significant guidance andcounsel concerning the management, operations, or business objectives andpolicies of the respective portfolio company. The Company provides these andother services to portfolio companies through its Adviser.   Currently, neither the Company nor theAdviser receives fees in connection with managerial assistance.

The Adviserreceives fees for other services it provides to portfolio companies.  These other fees are typically non-recurring,are recognized as revenue when earned and are generally paid directly to theAdviser by the borrower or potential borrower 

52

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upon closing ofthe investment.  The services the Adviserprovides to portfolio companies vary by investment, but generally include abroad array of services, such as investment banking services, arranging bankand equity financing, structuring financing from multiple lenders andinvestors, reviewing existing credit facilities, restructuring existinginvestments, raising equity and debt capital, turnaround management, merger andacquisition services and recruiting new management personnel.  When the Adviser receives fees for theseservices, 50% of those fees are credited against the base management fee due tothe Adviser from the Company.  Anyservices of this nature subsequent to the closing would typically generate aseparate fee at the time of completion.

The Adviser alsoreceives fees for monitoring and reviewing portfolio company investments.  These fees are recurring and are generallypaid annually or quarterly in advance to the Adviser throughout the life of theinvestment.  Fees of this nature arerecorded as revenue by the Adviser when earned and are not credit against the basemanagement fees.

The Company mayreceive fees for the origination and closing services it provides to portfoliocompanies through its Adviser. These fees are paid directly to the Company andare recognized as revenue upon closing of the originated investment and arereported as fee income in the consolidated statements of operations.

*RealizedGain or Loss and Unrealized Appreciation or Depreciation of PortfolioInvestments*

Realized gain or loss is recognized when an investment is disposed ofand is computed as the difference between the Company’s cost basis in theinvestment at the disposition date and the net proceeds received from suchdisposition.  Unrealized appreciation ordepreciation displays the difference between the fair market value of theinvestment and the cost basis of such investment.

*InvestmentAdvisory and Management Agreement with Gladstone Management Corporation*

Pursuant to the Company’sinvestment advisory and management agreement with the Adviser, the Company paysthe Adviser a fee, as compensation for its services, consisting of a basemanagement fee and an incentive fee.

Priorto January 1, 2007, the base management fee was assessed at an annual rate of2.0% computed on the basis of the average value of the Company’s gross investedassets at the end of the two most recently completed quarters, which are totalassets less the cash proceeds and cash and cash equivalent investments from theproceeds of the Company’s initial public offering that are not invested in debtand equity securities of portfolio companies and was computed and payablequarterly.  Beginning in periodssubsequent to December 31, 2006, the base management fee was assessed at anannual rate of 2.0% computed on the basis of the value of the Company’s averagegross assets at the end of the two most recently completed quarters, which aretotal assets, including investments made with proceeds of borrowings, less anyuninvested cash or cash equivalents resulting from borrowings.  This newcalculation was originally scheduled to begin in periods after March 31, 2006;however, on April 11, 2006, July 11, 2006 and October 10, 2006, the Company’sBoard of Directors accepted voluntary waivers from the Company’s Adviser thatallowed the former  calculation of thebase management fee to be effective through June 30, 2006, September 30, 2006and December 31, 2006, respectively.

OnJanuary 9, 2007, the Company’s Board of Directors accepted a voluntary waiverfrom the Adviser to reduce the annual 2.0% base management fee on seniorsyndicated loan participations to 0.5% to the extent that proceeds resultingfrom borrowings were used to purchase such syndicated loan participations forthe three months ended March 31, 2007.

Whenthe Company’s Adviser receives fees from the Company’s portfolio companies,such as investment banking fees, structuring fees or executive recruitingservices fees, 50%  of certain of these fees will be credited against thebase management fee that the Company would otherwise be required to pay to theCompany’s Adviser.

Inaddition, the Company’s Adviser services the loans held by Business Investment,in return for which the Adviser receives a 2.0% annual fee based on the monthlyaggregate balance of loans held by Business Investment.  Since the Companyowns these loans, all loan servicing fees paid to the Company’s Adviser aretreated as reductions against the 2.0% base management fee.  Overall, thebase management fee due to the Company’s Adviser cannot exceed 2.0% of totalassets (as reduced by cash and cash equivalents pledged to creditors) duringany given fiscal year.

The incentive feeconsists of two parts: an income-based incentive fee and a capital gainsincentive fee. The income-based incentive fee rewards the Adviser if theCompany’s quarterly net investment income (before giving effect to the incentivefee) exceeds 1.75% of the Company’s net assets. The Adviser will receive a capital gains incentive fee of 20% of theCompany’s realized capital gains (net of realized capital losses and unrealizedcapital depreciation).

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*AdministrationAgreement with Gladstone Administration, LLC*

The Company has enteredinto an administration agreement with Gladstone Administration, LLC (theAdministrator” or “Gladstone Administration”), a wholly owned subsidiary of theAdviser, which is controlled by the Company’s chairman and chief executiveofficer. Pursuant to the administration agreement, the Administrator furnishesthe Company with office facilities, equipment and clerical, bookkeeping andrecord keeping services at such facilities and performs, or oversees the performanceof the Company’s required administrative services. Such required administrativeservices include, among other things, being responsible for the financialrecords which the Company is required to maintain and preparing reports to theCompany’s stockholders and reports filed with the Securities and ExchangeCommission.

The administrationagreement requires the Company to reimburse the Administrator for theperformance of its obligations under the administration agreement. Thereimbursement is based upon the allocable portion of the Administrator’soverhead, including, but not limited to, rent and the allocable portion ofsalaries and benefits of the Company’s chief financial officer, controller,chief compliance officer, treasurer and their respective staff.

*FederalIncome Taxes*

The Companyintends to continue to qualify for treatment as a RIC under Subchapter M of theCode. As a RIC, the Company is not subject to federal income tax on the portionof its taxable income and gains distributed to stockholders. To qualify as aRIC, the Company is required to distribute to its stockholders at least 90% ofinvestment company taxable income, as defined by the Code.

*Dividends*

Distributions tostockholders are recorded on the ex-dividend date. The Company is required topay out at least 90% of its ordinary income and short-term capital gains foreach taxable year as a dividend to its stockholders in order to maintain itsstatus as a RIC under Subtitle A, Chapter 1 of Subchapter M of the Code. It isthe policy of the Company to pay out as a dividend up to 100% of those amounts.The amount to be paid out as a dividend is determined by the Board of Directorseach quarter and is based on the annual earnings estimated by the management ofthe Company. Based on that estimate, a dividend is declared each quarter and ispaid out monthly over the course of the respective quarter. At year-end theCompany may pay a bonus dividend, in addition to the monthly dividends, toensure that it has paid out at least 90% of its ordinary income and short-termcapital gains for the year. The Company has a policy of retaining long-termcapital gains, if any, and not paying them out as dividends.

*RecentAccounting Pronouncements*

In February 2007, the FASB issued Statement ofFinancial Accounting Standards No. 159, *The Fair Value Option forFinancial Assets and Financial Liabilities* (“SFAS 159”). SFAS 159 allows entities to measure at fair value many financialinstruments and certain other assets and liabilities that are not otherwiserequired to be measured at fair value. SFAS 159 is effective for fiscalyears beginning after November 15, 2007. The Company is currently evaluatingthe impact of this pronouncement on its consolidated financial statements.

In September 2006, the FASB issued Statement ofFinancial Accounting Standards No. 157, *FairValue Measurements* (“SFAS 157”). SFAS 157 defines fair value, establishes a framework for measuring fairvalue in GAAP and expands disclosures about fair value measurements.  SFAS157 is effective for financial statements issued for fiscal years beginningafter November 15, 2007, and interim periods within those fiscal years. The Company is required to adopt the provisions of SFAS 157 beginning with thefiscal year ended March 31, 2009.  The Company is currently evaluating theimpact of this pronouncement on its consolidated financial statements.

In September 2006, the Securities and ExchangeCommission (“SEC”) issued Staff Accounting Bulletin No. 108 (“SAB 108”).SAB 108 addresses how the effects of prior year uncorrected misstatementsshould be considered when quantifying misstatements in current year financialstatements and requires registrants to consider the effect of all carry overand reversing effects of prior year misstatements when quantifying errors incurrent year financial statements. SAB 108 does not change the SEC’s previousguidance in SAB No. 99, “*Materiality*,”on evaluating the materiality of misstatements. A registrant applying the newguidance for the first time that identifies material errors in existence at thebeginning of the first fiscal year ending after November 15, 2006, maycorrect those errors through a one-time cumulative effect adjustment tobeginning-of-year retained earnings. The cumulative effect alternative isavailable only if the application of the new guidance results in a conclusionthat a material error exists as of the beginning of the first fiscal yearending after November 15, 2006, and those misstatements were determined tobe immaterial based on a proper application of the registrant’s previous method

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for quantifying misstatements. The adoption of SAB 108did not have an impact on the Company’s consolidated financial statements.

In June 2006, the FASB issued FASB InterpretationNo. 48, “*Accounting for Uncertainty inIncome Taxes—an interpretation of FASB Statement No. 109,”* (“FIN48”), which clarifies the accounting for uncertainty in income taxes recognizedin an enterprise’s financial statements in accordance with SFAS No. 109, “*Accounting for Income Taxes*.” FIN 48 iseffective as of the beginning of an entity’s first fiscal year that beginsafter December 15, 2006. The Company will adopt this Interpretationeffective April 1, 2007. The Company is currently evaluating the impact ofthis pronouncement on its consolidated financial statements.

In February 2006, the FASB issued SFAS No. 155, *“Accounting for Certain Hybrid Financial Instruments,an amendment of FASB statements No. 133 and 140”* (“SFAS No. 155”).SFAS No. 155 allows financial instruments that have embedded derivativesto be accounted for as a whole (eliminating the need to bifurcate thederivative from its host) as long as the entire instrument is valued on a fairvalue basis. The statement also resolves and clarifies other specific SFASNo. 133 and SFAS No. 140 related issues. SFAS No. 155 iseffective for all financial instruments acquired or issued after the beginningof an entity’s first fiscal year that begins after September 15, 2006. TheCompany will be required to adopt SFAS No. 155 on April 1, 2007. TheCompany does not expect the pronouncement to have a material impact on itsfinancial statements since all investments are valued on a fair value basis

**Note 3.Investments**

*Non-Control/Non-Affiliate Investments*

At March 31, 2007 and 2006 the Company held investments inNon-Control/Non-Affiliates of approximately $138.6 million and $97.4 million,at cost, respectively.  These investmentsall represent syndicated loan participations of senior notes of both public andprivate companies representing approximately 62% and 42% of the Company’s netassets at March 31, 2007 and 2006, respectively.

*Control and Affiliate Investments*

At March 31, 2007,the Company had investments of approximately $107.5 million, at cost,  in revolving credit facilities, senior debtand subordinated debt of six portfolio companies.  In addition, at March31, 2007, the Company had invested approximately $28.6 million in preferred andcommon equity of those companies.

On March 21, 2007,the Company invested approximately $36.0 million in A. Stucki Holding Corp. (“Stucki”)and its subsidiaries.  The investmentconsists of approximately $4.5 million in preferred and common stock of Stuckiand approximately $31.5 million of senior and subordinated notes from Stuckiand its subsidiaries.  The Companycurrently holds no voting securities of Stucki, however, it does hold 2 of 4seats on  Stucki’s board ofdirectors.  Stucki, based in Pittsburgh,PA, is a designer, manufacturer and re-conditioner of products used in theconstruction and repair of railroad freight cars.

On December 28, 2006, theCompany invested approximately $22.6 million in Acme Cryogenics, Inc. (“Acme”)and its subsidiaries. The investment is comprised of approximately $8.1 millionin preferred and common stock of Acme and $14.5 million of subordinated notesfrom Acme.  The Company currently holds 2out of 4 seats on Acme’s board of directors. In addition, the Company’s preferred stock investment in Acme representsan 86% limited voting interest over Acme’s capital-raising activities.  Acme, based in Allentown, PA, was founded in1969 and manufactures manifolds used in regulating the flow of industrialgasses at extremely low temperatures (cryogenic), manufactures vacuum insulatedpipe used in the transmission of gasses that have been liquefied, repairscryogenic storage tanks, and repairs and manufactures tank trailers used intransporting liquid nitrogen, oxygen, helium, etc.

On December 7, 2006, theCompany invested approximately $18.4 million in Noble Logistics, Inc. (“Noble”).The investment is comprised of approximately $3.3 million in preferred andcommon stock of NLS, $14.0 million of senior notes of Noble and itssubsidiaries and $0.5 million of short-term notes of such parties.  The amount funded includes a $0.6 milliondraw on a revolving credit facility with a total borrowing capacity of $2.0million.  During December 2006 andJanuary 2007, Noble borrowed the remaining $1.4 million available on itsrevolving credit facility, which was fully drawn at March 31, 2007.  The Company’s investment in the equity ofrepresents 12% of the outstanding voting securities of the portfoliocompany.  Noble, based in Houston, Texas,provides time sensitive local and regional delivery services to wholesalers ofaftermarket automotive repair components and pharmaceutical distributors.

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On March 27, 2006, theCompany invested approximately $3.3 million in Quench Holdings Corporation (“QuenchHoldings”) to purchase  $3.0 million ofpreferred units in Quench USA, LLC (“Quench”) and $0.3 million of warrants topurchase 6,041,538 common units of Quench. Quench Holdings is wholly-owned by the Company.  Quench installs and services water coolers incommercial settings using machines that filter and purify water dispensed froma facility’s existing water supply.  Inaddition, the Company made a $4.0 million senior term loan and an $8.0 millionsubordinated loan to Quench, both maturing on March 27, 2011.  The Company further entered into a $2.0million revolving promissory note agreement with Quench,of which $0.1 millionremains undrawn as of March 31, 2007.

On March 17, 2006, theCompany invested approximately $7.1 million in Chase II Holding Corporation (“ChaseHolding”) to purchase $7.0 million of preferred stock and $0.1 million ofcommon stock of Chase Industries, Inc. (“Chase”).  As a result of these equity holdings, theCompany currently has 2 out of 4 seats on Chase’ Board of Directors.  Chase Industries is a leading designer,manufacturer and marketer of impact traffic doors and sliding door systems inNorth America, serving over 4,000 retail, commercial and industrial customersin the United States, Canada Mexico and selected international markets.  The Company also made two senior term loansto Chase Industries in the amounts of $12.9 million and $8.0 million, bothmaturing on March 17, 2011.  In addition,the Company made a $6.2  millionsubordinated loan to Chase Industries maturing March 17, 2013, and also issueda revolving promissory note to Chase with a total borrowing capacity of $0.5million that expires on March 17, 2008. However, in March 2007, Chase amended its revolving promissory note fromthe Company by increasing the total borrowing capacity to $3.5 million andsubsequently reducing its $12.9 million senior term loan to $11 million.  The $1.9 million reduction in the senior termloan was applied to the amended revolving promissory note, leaving $1.6 millionavailable for borrowings at March 31, 2007.

On January 4, 2006, theCompany invested $2.5 million in Hailey Transport Corporation (“Hailey”) topurchase preferred membership interests in Rocky Mountain Bus Company, LLC (“RMBC”).The acquired membership interests represent a $4.2 million interest in RMBC towhich Hailey enabled RMBC to borrow the additional $1.7 million in therecapitalization.  Hailey is wholly-ownedby the Company. RMBC is the sole owner of Auto Safety House LLC (“ASH”), aretailer and service-provider for school buses, commercial buses, trucks andtrailers in Arizona and Nevada. Also on January 4, 2006, the Company made aloan of $4.0 million comprised of subordinated notes to RMBC and ASH maturingon January 4, 2012.

*InvestmentConcentrations*

Approximately76% of the aggregate  value of theCompany’s investment portfolio at March 31, 2007 consisted of senior debt,approximately 9% was senior subordinated debt, approximately 5% wassubordinated debt and approximately 10% was preferred and common equitysecurities.  At March 31, 2007, theCompany had approximately $275 million invested in 47 portfolio companies.  The following table outlines the Company’sinvestments by type at March 31, 2007 and 2006:
| ** **                                | ** ** | **March 31, 2007** | ** **  | **March 31, 2006** | ** ** |
|-------------------------------------------|------------|------------------------------|-------------|------------------------------|------------|
| ** **                                | ** ** | **Cost**                     | ** **  | **Fair Value**          | ** ** | **Cost** | ** ** | **Fair Value** | ** ** |
| Senior Term Debt                          |       | $                            | 207,367,741 |                         | $          | 206,981,112 |   | $ | 122,323,004 |   | $ | 122,485,972 |   |
| Senior  Subordinated Term Debt            |       | 24,485,760                   |        | 24,467,635                   |       | 4,000,000 |   | 3,950,000 |   |
| Subordinated  Term Debt                   |       | 14,167,810                   |        | 14,167,810                   |       | 14,167,810 |   | 14,167,810 |   |
| Preferred &  Common Equity Securities |       | 28,598,802                   |        | 25,331,046                   |       | 12,778,508 |   | 12,778,508 |   |
| Total Investments                         |       | $                            | 274,620,113 |                         | $          | 270,947,603 |   | $ | 153,269,322 |   | $ | 153,382,290 |   |

 

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Investments at fair value consisted of the followingindustry classifications at March 31, 2007 and 2006:
| ** **                                    | ** ** | **March 31, 2007** | ** **  | **March 31, 2006** | ** ** |
|-----------------------------------------------|------------|------------------------------|-------------|------------------------------|------------|
| ** **                                    | ** ** | ** **                   | ** **  | **Percentage of**       | ** ** | ** ** | ** ** | **Percentage of** | ** ** |
| ** **                                    | ** ** | **Fair  Value**              | ** **  | **Total  Investments**       | ** ** | **Net  Assets** | ** ** | **Fair  Value** | ** ** | **Total  Investments** | ** ** | **Net  Assets** | ** ** |
|                                          |       |                         |        |                         |       |   |   |   |   |   |   |   |   |
| Automobile                                    |       | $                            | 8,504,666   |                         | 3.1        | % | 3.8 | % | $ | 6,450,000 |   | 4.2 | % | 2.8 | % |
| Beverage,  Food & Tobacco                 |       | 3,413,874                    |        | 1.3                          | %          | 1.5 | % | 5,074,713 |   | 3.3 | % | 2.2 | % |
| Buildings  & Real Estate                  |       | 3,003,750                    |        | 1.1                          | %          | 1.3 | % | — |   | — |   | — |   |
| Cargo  Transport                              |       | 21,844,463                   |        | 8.1                          | %          | 9.8 | % | 5,513,337 |   | 3.6 | % | 2.4 | % |
| Chemicals,  Plastics & Rubber             |       | 22,535,527                   |        | 8.3                          | %          | 10.1 | % | — |   | — |   | — |   |
| Containers,  Packaging and Glass              |       | 999,975                      |        | 0.4                          | %          | 0.4 | % | 10,061,087 |   | 6.6 | % | 4.4 | % |
| Diversified/Conglomerate  Manufacturing       |       | 32,563,400                   |        | 12.0                         | %          | 14.6 | % | 42,055,734 |   | 27.4 | % | 18.3 | % |
| Diversified/Conglomerate  Service             |       | 27,374,081                   |        | 10.1                         | %          | 12.3 | % | 12,917,129 |   | 8.4 | % | 5.6 | % |
| Electronics                                   |       | 6,758,294                    |        | 2.5                          | %          | 3.0 | % | 10,049,063 |   | 6.6 | % | 4.4 | % |
| Healthcare,  Education and Childcare          |       | 31,296,111                   |        | 11.6                         | %          | 14.0 | % | 12,417,214 |   | 8.1 | % | 5.4 | % |
| Home  & Office Furnishings                |       | 17,105,808                   |        | 6.3                          | %          | 7.7 | % | 15,256,318 |   | 9.9 | % | 6.6 | % |
| Machinery                                     |       | 41,480,716                   |        | 15.3                         | %          | 18.6 | % | — |   | — |   | — |   |
| Oil  & Gas                                |       | 3,851,943                    |        | 1.4                          | %          | 1.7 | % | 2,999,981 |   | 2.0 | % | 1.3 | % |
| Personal,  Non-durable Consumer Products      |       | 1,492,472                    |        | 0.6                          | %          | 0.7 | % | — |   | — |   | — |   |
| Personal  Transportation                      |       | —                       |        | —                       |       | — |   | 876,560 |   | 0.6 | % | 0.4 | % |
| Personal,  Food, & Miscellaneous Services |       | 16,905,483                   |        | 6.2                          | %          | 7.6 | % | 9,984,478 |   | 6.5 | % | 4.3 | % |
| Printing,  Publishing, Broadcasting           |       | 18,590,084                   |        | 6.9                          | %          | 8.3 | % | 10,774,827 |   | 7.0 | % | 4.7 | % |
| Retail  Stores                                |       | 1,407,018                    |        | 0.5                          | %          | 0.6 | % | — |   | — |   | — |   |
| Telecommunications                            |       | 9,246,854                    |        | 3.4                          | %          | 4.1 | % | 5,829,062 |   | 3.8 | % | 2.5 | % |
| Textiles  & Leather                       |       | 2,573,084                    |        | 0.9                          | %          | 1.2 | % | 3,122,787 |   | 2.0 | % | 1.4 | % |
| Total  Investments                            |       | $                            | 270,947,603 |                         | 100        | % |   |   | $ | 153,382,290 |   | 100 | % |   |   |

 

Theinvestments at fair value consisted of the following geographic regions atMarch 31, 2007 and 2006:
| ** **        | ** ** | **March 31, 2007** | ** **  | **March 31, 2006** | ** ** |
|-------------------|------------|------------------------------|-------------|------------------------------|------------|
| ** **        | ** ** | ** **                   | ** **  | **Percentage of**       | ** ** | ** ** | ** ** | **Percentage of** | ** ** |
| ** **        | ** ** | **Fair   Value**        | ** **  | **Total   Investments** | ** ** | **Net   Assets** | ** ** | **Fair   Value** | ** ** | **Total   Investments** | ** ** | **Net   Assets** | ** ** |
|              |       |                         |        |                         |       |   |   |   |   |   |   |   |   |
| Mid-Atlantic      |       | $                            | 94,257,169  |                         | 34.8       | % | 42.3 | % | $ | 55,442,199 |   | 36.1 | % | 24.1 | % |
| Midwest           |       | 88,508,725                   |        | 32.7                         | %          | 39.7 | % | 51,107,864 |   | 33.3 | % | 22.2 | % |
| Northeast         |       | 14,879,654                   |        | 5.5                          | %          | 6.7 | % | 4,359,125 |   | 2.8 | % | 1.9 | % |
| Southeast         |       | 36,357,555                   |        | 13.4                         | %          | 16.3 | % | 30,966,852 |   | 20.2 | % | 13.5 | % |
| West              |       | 36,944,500                   |        | 13.6                         | %          | 16.6 | % | 11,506,250 |   | 7.5 | % | 5.0 | % |
| Total Investments |       | $                            | 270,947,603 |                         | 100.0      | % |   |   | $ | 153,382,290 |   | 100.0 | % |   |   |

 

Thegeographic region depicts the location of the headquarters for the Company’sportfolio companies.  A portfolio companymay have a number of other locations in other geographic regions.

*Investment Principal Amortization*

The following tablesummarizes the contractual principal amortization and maturity of the Company’sinvestment portfolio by fiscal year, assuming no voluntary prepayments:

| Fiscal Year Ended March 31, | ** ** | **Amount**  | ** **  |
|-------------------------------------------------|------------|-------------|-------------|
| 2008                                            |       | $           | 8,311,428   |   |
| 2009                                            |       | 10,047,620  |        |
| 2010                                            |       | 11,698,781  |        |
| 2011                                            |       | 52,080,567  |        |
| 2012                                            |       | 34,029,743  |        |
| Thereafter                                      |       | 129,212,533 |        |
| Total  contractual repayments                   |       | $           | 245,380,672 |   |
|                                            |       |        |        |
| Investments in  equity securities               |       | 28,598,801  |        |
| Unamortized  premiums on debt securities        |       | 640,639     |        |
| Total                                           |       | $           | 274,620,112 |   |

 

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**Note4. Line of Credit**

Through the Company’s wholly-owned subsidiary, Business Investment, theCompany has obtained a $200 million revolving credit facility (the “CreditFacility”).  On October 19, 2006, theCompany executed a Purchase and Sale Agreement pursuant to which it agreed tosell certain loans to Business Investment in consideration of a membershipinterest therein.  Simultaneously,Business Investment executed a Credit Agreement (the “Credit Agreement”) withDeutsche Bank AG, New York Branch (“Deutsche Bank”), as administrative agent,pursuant to which Business Investment pledged the loans purchased from theCompany to secure future advances by certain institutional lenders. On March29, 2007, the Company increased its capacity under the Credit Facility from$100 million to $200 million, such that an additional $50 million would beavailable for borrowing for the succeeding 90 day period after the initialamendment of the Credit Facility, and the remaining $50 million would beavailable thereafter.  Availability underthe Credit Facility will terminate on October 18, 2007, unless extended in thediscretion of the lenders, at the request of Business Investment. Interest ispayable monthly during the term of the Credit Facility and principal will bepayable out of collections on loans purchased from the Company during theperiod following the date of which availability for advances has terminated throughmaturity.  The Credit Facility willmature two years following the date on which availability for advances hasterminated and on such date, all principal, interest and other amounts owingunder the Credit Facility will be due and payable.  Interest rates charged on the advances underthe facility are based on the rate paid by the lenders on commercial papernotes issued by such lenders to fund some or all of the advances, the LondonInterbank Offered Rate (“LIBOR”), the Prime Rate or the Federal Funds Rate,depending on market conditions, and adjust periodically.  Available borrowings are subject to variousconstraints imposed under the Credit Agreement, based on the aggregate loanbalance pledged by Business Investment, which varies as loans are added andrepaid, regardless of whether such repayments are early prepayment or are madeas contractually required.

The Credit Facility contains covenants that require Business Investmentto maintain its status as a separate entity; prohibit certain significant corporatetransactions (such as mergers, consolidations, liquidations or dissolutions);and restrict material changes to the Company’s credit and collectionpolicies.  The facility also restrictssome of the terms and provisions (including interest rates, terms to maturityand payments schedules) and limits the borrower and industry concentrations ofloans that are eligible to secure advances. As of March 31, 2007, Business Investment was in compliance with all ofthe facility covenants.  As of March 31,2007 there was $100 million of borrowings outstanding on the Credit Facility atan interest rate of approximately 5.3% and the remaining borrowing capacityunder the Credit Facility was $50 million.

The administrative agent also requires that any interest or principalpayments on pledged loans be remitted directly by the borrower into a lockboxaccount with the Bank of New York as custodian. Deutsche Bank is also the trustee of the account and once a month remitsthe collected funds to the Company. At March 31, 2007, the amount due from thecustodian was $12,694,985.

The Adviser services the loans pledged under the Credit Facility. As a condition to this servicing arrangement, the Company executed aperformance guaranty pursuant to which it guaranteed that the Adviser wouldcomply fully with all of its obligations under the Credit Facility. Theperformance guaranty requires the Company to maintain a minimum net worth of$100 million and to maintain “asset coverage” with respect to “seniorsecurities representing indebtedness” of at least 200%, in accordance withSection 18 of the 1940 Act. As of March 31, 2007, the Company was incompliance with the covenants under the performance guaranty.

**Note5. Commitments and Contingencies**

At March 31, 2007,the Company was a party to a signed and non-binding term sheet for anallocation of a syndicate loan participation for approximately $7.0  million and one buyout investmentapproximating $10.8 million.

All prospectiveinvestments are subject to, among other things, the satisfactory completion ofthe Company’s due diligence investigation of each borrower, acceptance of termsand structure and receipt of necessary consents. With respect to eachprospective loan, the Company will only agree to provide the loan if, among otherthings, the results of its due diligence investigations are satisfactory, theterms and conditions of the loan are acceptable and all necessary consents arereceived.   Both the syndicate loanparticipation and the buyout investment were funded subsequent toMarch 31, 2007.

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**Note 6.Common Stock Transactions**
| ** **                                    | ** ** | **Common Stock** | ** ** |
|-----------------------------------------------|------------|-----------------------|------------|
| ** **                                    | ** ** | **Shares**            | ** ** | **Amount** | ** ** |
|                                          |       |                  |       |   |   |
| Beginning  balance, March 31, 2005            |       | 100                   |       | $ | — |   |
|                                          |       |                  |       |   |   |
| Issuance of common  shares in public offering |       | 16,560,000            |       | 16,560 |   |
|                                          |       |                  |       |   |   |
| Ending balance,  March 31, 2006               |       | 16,560,100            |       | $ | 16,560 |   |
|                                          |       |                  |       |   |   |
| Ending balance, March  31, 2007               |       | 16,560,100            |       | $ | 16,560 |   |

 

No shares ofcommon stock were issued during the year ended March 31, 2007.

**Note 7.Net Increase in Net Assets Resulting from Operations per Share**

The followingtable sets forth the computation of basic and diluted net increase in netassets resulting from operations per share for the year ended March 31, 2007and the period June 22, 2005 (Commencement of Operations) to March 31, 2006:
| ** **                                       | ** ** | ** **                   | ** ** | **For the period** | ** ** |
|--------------------------------------------------|------------|------------------------------|------------|------------------------------|------------|
| ** **                                       | ** ** | ** **                   | ** ** | **June 22, 2005**  | ** ** |
| ** **                                       | ** ** | ** **                   | ** ** | **(Commencement of**    | ** ** |
| ** **                                       | ** ** | **Year Ended**          | ** ** | **Operations) to**      | ** ** |
| ** **                                       | ** ** | **March 31, 2007** | ** ** | **March 31, 2006** | ** ** |
|                                             |       |                         |       |                         |       |
| Numerator for  basic and diluted net increase in |       |                         |       |                         |       |
| net assets  resulting from operations per share  |       | $                            | 7,268,404  |                         | $          | 6,054,297 |   |
|                                             |       |                         |       |                         |       |
| Denominator for  basic and diluted shares        |       | 16,560,100                   |       | 16,391,589                   |       |
|                                             |       |                         |       |                         |       |
| Basic and  diluted net increase in net assets    |       |                         |       |                         |       |
| per share  resulting from operations             |       | $                            | 0.44       |                         | $          | 0.37 |   |

 

**Note 8.Related Party Transactions**

*Investment Advisory andManagement Agreement*

The Company has entered into an investment advisoryand management agreement with the Adviser (the “Advisory Agreement”), which iscontrolled by the Company’s chairman and chief executive officer. In accordancewith the Advisory Agreement, the Company pays the Adviser a fee, ascompensation for its services, consisting of a base management fee and anincentive fee.

The base management fee is assessed at an annual rateof 2.0% computed on the basis of the average value of the Company’s grossinvested assets at the end of the two most recently completed quarters, whichare total assets less the cash proceeds and cash and cash equivalents from theproceeds of the Company’s initial public offering that are not invested in debtand equity securities of portfolio companies. Through December 31, 2006, the base management fee was computed andpayable quarterly.  Beginning on January1, 2007, the base management fee was computed and payable quarterly and was beassessed at an annual rate of 2.0% computed on the basis of the value of theCompany’s average gross assets at the end of the two most recently completedquarters, which are total assets, including investments made with proceeds ofborrowings, less any uninvested cash or cash equivalents resulting fromborrowings.  This new calculation wasoriginally scheduled to begin in periods after March 31, 2006; however, onApril 11, 2006, July 11, 2006 and October 10, 2006, the Company’s Board of Directorsaccepted voluntary waivers from the Adviser that allowed the currentcalculation of the base management fee to be effective through June 30, 2006,September 30, 2006 and December 31, 2006, respectively.

On January 9, 2007, the Company’s Board of Directorsaccepted a voluntary waiver from the Adviser to reduce the annual 2.0% basemanagement fee on senior syndicated loan participations to 0.5% to the extentthat proceeds resulting from borrowings were used to purchase such syndicatedloan participations for the three months ended March 31, 2007.

When the Adviser receives fees from portfoliocompanies, as discussed in Note 2 under “Services Provided to PortfolioCompanies,” 50% of certain of these fees are credited against the basemanagement fee that the Company would otherwise be required to pay to theAdviser.

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For the year ended March 31, 2007, the Companyincurred a base management fee to the Adviser of $2,413,116.  For the period June 22, 2005 (Commencement ofoperations) to March 31, 2006, the Company incurred a base management fee tothe Adviser of $915,360.  For the yearended March 31, 2007 and for the period June 22, 2005 (Commencement ofoperations) to March 31, 2006, the Company recognized aggregate credits againstthe base management fee of $877,583 and 554,589, respectively, resulting frominvestment banking fees paid to the Adviser during the respective periods.  As of March 31, 2007 and 2006, $303,679 and$234,551, respectively, was unpaid and included in fees due from Adviser in theaccompanying consolidated statements of assets and liabilities.  At March 31, 2007, the base management feecredit due from the Adviser of $303,679 is offset by loan servicing fees due tothe Adviser of $283,296 as discussed below.

In addition, the Adviser services the loans held byBusiness Investment, in return for which the Adviser receives a 2.0% annual feebased on the monthly aggregate balance of loans held by BusinessInvestment.  Since the Company owns theseloans, all loan servicing fees paid to the Adviser are treated as reductionsagainst the 2.0% base management fee payable to the Adviser.  Overall, the management fee due to theAdviser cannot exceed 2.0% of total assets (as reduced by cash and cashequivalents pledged to creditors) during any given fiscal year.

For the year ended March 31, 2007, the Companyrecorded loan servicing fees to the Adviser of $1,568,854, of which $283,296was unpaid at March 31, 2007 and are included as a credit in fees due fromAdviser in the accompanying consolidated statements of assets and liabilities,offsetting the base management fee credit due to the Company from the Adviser.

Theincentive fee consists of two parts: an income-based incentive fee and acapital gains incentive fee. The income-based incentive fee rewards the Adviserif the Company’s quarterly net investment income (before giving effect to anyincentive fee) exceeds 1.75% of our net assets (the “hurdle rate”). The Companywill pay the Adviser an income incentive fee with respect to the Company’spre-incentive fee net investment income in each calendar quarter as follows:

·             no incentive fee inany calendar quarter in which our pre-incentive fee net investment income doesnot exceed the hurdle rate (7% annualized);

·             100% of the Company’spre-incentive fee net investment income with respect to that portion of suchpre-incentive fee net investment income, if any, that exceeds the hurdle ratebut is less than 2.1875% in any calendar quarter (8.75% annualized); and

·             20% of the amount ofthe Company’s pre-incentive fee net investment income, if any, that exceeds2.1875% in any calendar quarter (8.75% annualized).

Thesecond part of the incentive fee is a capital gains incentive fee that will bedetermined and payable in arrears as of the end of each fiscal year (or upontermination of the Advisory Agreement, as of the termination date), and equals20% of the Company’s realized capital gains as of the end of the fiscal year.In determining the capital gains incentive fee payable to the Adviser, theCompany will calculate the cumulative aggregate realized capital gains andcumulative aggregate realized capital losses since the Company’s inception, andthe aggregate unrealized capital depreciation as of the date of thecalculation, as applicable, with respect to each of the investments in theCompany’s portfolio.

Because pre-incentive fee net investment income wasbelow the hurdle rate of 1.75% of net assets, no income-based incentive fee wasrecorded for the three months or year ended March 31, 2007 or the period June22, 2005 (commencement of operations) to March 31, 2006.  No capital gains incentive fee was recordedfor the year ended March 31, 2007 or the period June 22, 2005 (commencement ofoperations) as cumulative unrealized capital depreciation exceeded cumulativerealized capital gains net of cumulative realized capital losses for eachperiod.

*Administration Agreement*

The Company has entered into an administrationagreement (the “Administration Agreement”) with Gladstone Administration, LLC (“GladstoneAdministration” or the “Administrator”), a wholly-owned subsidiary of theAdviser. Under the Administration Agreement, the Company pays separately foradministrative services.  TheAdministration Agreement provides for payments equal to the Company’s allocableportion of the Administrator’s overhead expenses in performing its obligationsunder the Administration Agreement, including but not limited to, rent foremployees of the Administrator, and the allocable portion of salaries andbenefits expenses of the Company’s chief financial officer, controller, chiefcompliance officer, treasurer and their respective staffs.   The Company recorded fees to theAdministrator on the consolidated statements of operations of $526,595 and $288,471for the year ended March 31, 2007 and the period June 22, 2005 (Commencement ofoperations) to March 31, 2006, respectively. As of March 31, 2007 and2006, $162,244 and 110,002, respectively, was unpaid and included in theadministration fee payable to Administrator in the accompanying consolidatedstatements of assets and liabilities.

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*LicenseAgreement*

The Company has enteredinto a license agreement with the Adviser, pursuant to which the Adviser hasgranted the Company a non-exclusive license to use the name “Gladstone” and theDiamond G trademark. This license agreement requires the Company to pay theAdviser a royalty fee of $1 per quarter and is recorded in general andadministrative expenses on the statement of operations. The amount of the feeis negotiable on an annual basis by the Company’s compensation committee andapproved by a majority of the Company’s independent directors.

*Sale of Investments to Affiliate*

DuringMarch 2007, the Company purchased from its affiliate, Gladstone CapitalCorporation (“Gladstone Capital”), certain of its investments in syndicatedloan participations for approximately $12.5 million.  An independentbroker was engaged to execute these transactions between the Company andGladstone Capital. The independent broker accepted the quotes from therespective agent bank for each syndicated loan and then executed thesetransactions between the Company and Gladstone Investment.

*Loan Payable to Affiliate*

On June 30, 2005, theCompany repaid a $50,000 loan payable to its chairman and chief executiveofficer. The demand recourse promissory note accrued interest at the rate of 3%per annum and was repaid with accrued interest of $378 using a portion of thenet proceeds from the Offering.

**Note 9.Dividends**

Thefollowing table illustrates the monthly dividends per share the fiscal years2007 and 2006:

| Declaration Date | ** ** | **Record Date**         | ** ** | **Payment Date**        | ** ** | **Dividend per Share** | ** ** |
|-----------------------|------------|------------------------------|------------|------------------------------|------------|----------------------------------|------------|
| January 10, 2007      |       | March  22, 2007              |       | March  30, 2007              |       | $                                | 0.075      |   |
| January 10, 2007      |       | February  20, 2007           |       | February  28, 2007           |       | $                                | 0.075      |   |
| January 10, 2007      |       | January  23, 2007            |       | January  31, 2007            |       | $                                | 0.075      |   |
| October 10, 2006      |       | December  20, 2006           |       | December  29, 2006           |       | $                                | 0.07       |   |
| October 10, 2006      |       | November  21, 2006           |       | November  30, 2006           |       | $                                | 0.07       |   |
| October 10, 2006      |       | October  23, 2006            |       | October  31, 2006            |       | $                                | 0.07       |   |
| July 11, 2006         |       | September 21, 2006 |       | September 29, 2006 |       | $                                | 0.07       |   |
| July 11, 2006         |       | August  21, 2006             |       | August  31, 2006             |       | $                                | 0.07       |   |
| July 11, 2006         |       | July  19, 2006               |       | July  31, 2006               |       | $                                | 0.07       |   |
| April 11, 2006        |       | June  22, 2006               |       | June  30, 2006               |       | $                                | 0.07       |   |
| April 11, 2006        |       | May  22, 2006                |       | May  31, 2006                |       | $                                | 0.07       |   |
| April 11, 2006        |       | April  20, 2006              |       | April  28, 2006              |       | $                                | 0.07       |   |
|                  |       |                         |       | Total Fiscal 2007            |       | $                                | 0.855      |   |

 

| Declaration Date | ** ** | **Record Date**         | ** ** | **Payment Date**        | ** ** | **Dividend per Share** | ** ** |
|-----------------------|------------|------------------------------|------------|------------------------------|------------|----------------------------------|------------|
| January 10, 2006      |       | March 17,  2006         |       | March 31,  2006         |       | $                                | 0.07       |   |
| January 10, 2006      |       | February 16,  2006      |       | February 28,  2006      |       | $                                | 0.07       |   |
| January 10, 2006      |       | January 23,  2006       |       | January 31,  2006       |       | $                                | 0.07       |   |
| October 7, 2005       |       | December 21,  2005      |       | December 31,  2005      |       | $                                | 0.04       |   |
| October 7, 2005       |       | November 21,  2005      |       | November 30,  2005      |       | $                                | 0.04       |   |
| October 7, 2005       |       | October 21,  2005       |       | October 30,  2005       |       | $                                | 0.04       |   |
| July 7, 2005          |       | September 22, 2005 |       | September 30, 2005 |       | $                                | 0.02       |   |
| July 7, 2005          |       | August 23,  2005        |       | August 31,  2005        |       | $                                | 0.02       |   |
| July 7, 2005          |       | July  21, 2005               |       | July  29, 2005               |       | $                                | 0.02       |   |
|                  |       |                         |       | Total Fiscal 2006            |       | $                                | 0.39       |   |

 

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Aggregatedividends declared and paid for the 2007 fiscal year were approximately $14.2million which were declared based on an estimate of net investment income forthe year.  Dividends declared for the2007 fiscal year exceeded net investment income by approximately $3.0 million.A portion of the dividends declared during fiscal 2007 were treated as a returnof capital to the Company’s stockholders.

Aggregatedividends declared and paid for the 2006 fiscal year were approximately $6.5million which were declared based on an estimate of net investment income forthe year.  Dividends declared for the2006 fiscal year exceeded net investment income by approximately $0.5 million.A portion of the dividends declared during fiscal 2006 were treated as a returnof capital to the Company’s stockholders.

**Note 10.Fee Income**

As a result offees received by the Adviser for its services to portfolio companies on theCompany’s behalf as discussed in Note 2, the Company recognized reductions of$0.9 million and $0.5 million in its base management fee payable to the Adviserunder the investment advisory agreement between the Company and the Adviser forthe year ended March 31, 2007 and the period June 22, 2005 (Commencement ofOperations) to March 31, 2006, respectively. In addition, the Company recognized $0.2 million in financing fees forthe for period June 22, 2005 (Commencement of Operations) to March 31, 2006.

**Note11. Federal and State Income Taxes**

TheCompany operates and intends to continue to operate, in a manner to qualify fortreatment as a RIC under Subchapter M of the Code.  As a RIC, the Company is not subject tofederal or state income tax on the portion of its taxable income and gainsdistributed to stockholders.  To qualifyas a RIC, the Company is required to distribute to its stockholders at least 90%of investment company taxable income, as defined by the Code and as such noincome tax provisions have been recorded for the Company.

**Note 12.Subsequent Events**

*Investments*

In April and May 2007, the Company purchasedadditional syndicated loan participations of 8 new and 9 existing portfoliocompanies of approximately $48.6 million. Of these purchases of existing portfolio companies, approximately $19.0million were purchased from Gladstone Capital via an independent broker.  The Company also received the full repaymenton 3 of its syndicated loan participations for approximately $13.6 million. Inaddition, the Company sold two of its syndicated loan participations totalingapproximately $3.4 million realizing a net loss of approximately $30,000 on thetransactions.

In May 2007, the Company invested approximately$7.2 million in one buyout investment.

*Chase II Holdings Corp.*

In April and May 2007, Chase II Holdings Corp., asubsidiary of Chase II Acquisition Corp. (“Chase”) borrowed $480,000, net ofrepayments, under their revolving credit facility with the Company.  At May 25, 2007, $0.9 million was undrawnunder the facility.

*Quench USA, LLC.*

In April 2007, Quench USA, LLC, a subsidiary of QuenchHoldings Corp. (“Quench”) amended its senior term note from the Company toincrease the total borrowings under the note from $4.0 million to $5.0 millionusing amounts already outstanding under its revolving credit facility with theCompany.  Further, Quench amended itsrevolving credit facility with the Company to decrease the total borrowingcapacity under the facility to $1.5 million. At May 30, 2007, $0.5 million was undrawn under the facility.

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*Dividends*

On April 11, 2007,the Company’s Board of Directors declared the following monthly dividends whichit believes will be paid from ordinary income:

| Declaration Date | ** ** | **Record Date** | ** ** | **Payment Date** | ** ** | **Dividend per Share** | ** ** |
|-----------------------|------------|----------------------|------------|-----------------------|------------|----------------------------------|------------|
| April 11, 2007        |       | June 21, 2007        |       | June 29, 2007         |       | $                                | 0.075      |   |
| April 11, 2007        |       | May 22, 2007         |       | May 31, 2007          |       | $                                | 0.075      |   |
| April 11, 2007        |       | April 20, 2007       |       | April 30, 2007        |       | $                                | 0.075      |   |

 

**Note 13.Selected Quarterly Data (Unaudited)**
| ** **                                                                                                     | ** ** | **Year Ended March 31, 2007** | ** ** |
|----------------------------------------------------------------------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                                                                                     | ** ** | **Quarter Ended  June 30, 2006**   | ** ** | **Quarter Ended  September 30, 2006** | ** ** | **Quarter Ended  December 31, 2006** | ** ** | **Quarter Ended  March 31, 2007** | ** ** |
|                                                                                                           |       |                                              |       |   |   |   |   |   |   |
| Total Investment  Income                                                                                       |       | $                                                 | 3,863,438  |   | $ | 4,213,928 |   | $ | 4,299,368 |   | $ | 4,884,902 |   |
| Net Investment  Income                                                                                         |       | 2,581,164                                         |       | 2,883,886 |   | 2,898,068 |   | 2,784,614 |   |
| Net Increase in  Net Assets Resulting From Operations                                                          |       | 1,277,048                                         |       | 2,848,044 |   | 2,684,543 |   | 458,769 |   |
|                                                                                                           |       |                                              |       |   |   |   |   |   |   |
| Net Increase in Net  Assets Resulting From Operations per Weighted Average Common Share (Basic  & Diluted) |       | $                                                 | 0.08       |   | $ | 0.17 |   | $ | 0.16 |   | $ | 0.03 |   |

 
| ** **                                                                                                     | ** ** | **Period June 22, 2005 (Commencement of operations) to March 31, 2006** | ** ** |
|----------------------------------------------------------------------------------------------------------------|------------|---------------------------------------------------------------------------------------------------------------------------|------------|
| ** **                                                                                                     | ** ** | **Quarter Ended   June 30, 2005**                                                                     | ** ** | **Quarter Ended   September 30, 2005** | ** ** | **Quarter Ended   December 31, 2005** | ** ** | **Quarter Ended   March 31, 2006** | ** ** |
|                                                                                                           |       |                                                                                                                      |       |   |   |   |   |   |   |
| Total Investment  Income                                                                                       |       | $                                                                                                                         | 48,198     |   | $ | 1,806,590 |   | $ | 2,321,688 |   | $ | 3,194,380 |   |
| Net Investment  Income                                                                                         |       | 19,800                                                                                                                    |       | 1,412,906 |   | 1,752,570 |   | 2,698,622 |   |
| Net Increase in  Net Assets Resulting From Operations                                                          |       | 19,800                                                                                                                    |       | 1,476,732 |   | 1,614,747 |   | 2,943,018 |   |
|                                                                                                           |       |                                                                                                                      |       |   |   |   |   |   |   |
| Net Increase in  Net Assets Resulting From Operations per Weighted Average Common Share (Basic  & Diluted) |       | $                                                                                                                         | —     |   | $ | 0.09 |   | $ | 0.10 |   | $ | 0.18 |   |
|                                                                                                           |       |                                                                                                                      |       |   |   |   |   |   |   |
|                                                                                                           |       |                                                                                                                      |       |   |   |   |   |   |   |
|                                                                                                           |       |                                                                                                                      |       |   |   |   |   |   |   |
|                                                                                                           |       |                                                                                                                      |       |   |   |   |   |   |   |

 

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**Item 9. Changes in and Disagreements with Accountants onAccounting and Financial Disclosure**

Not applicable.

**Item 9A. Controls and Procedures.**

a)  Disclosure Controls and Procedures

As of March 31,2007 (the end of the period covered by this report), we, including our ChiefExecutive Officer and Chief Financial Officer, evaluated the effectiveness anddesign and operation of our disclosure controls and procedures.  Based on that evaluation, our management,including the Chief Executive Officer and Chief Financial Officer, concludedthat our disclosure controls and procedures were effective in timely alertingmanagement, including the Chief Executive Officer and Chief Financial Officer,of material information about us required to be included in periodic SEC filings.  However, in evaluation of the disclosurecontrols and procedures, management recognized that any controls andprocedures, no matter how well designed and operated can provide onlyreasonable assurance of achieving the desired control objectives, andmanagement necessarily was required to apply its judgment in evaluating thecost-benefit relationship of possible controls and procedures.

b) Management’s Annual Report on Internal Control Over FinancialReporting

Our management isresponsible for establishing and maintaining adequate internal control overfinancial reporting as defined in Rule 13a-15(f) under the Securities ExchangeAct of 1934. Our internal control over financial reporting is designed toprovide reasonable assurance regarding the reliability of financial reportingand the preparation of financial statements for external purposes in accordancewith generally accepted accounting principles and include those policies andprocedures that: (1) pertain to the maintenance of records that in reasonabledetail accurately and fairly reflect our transactions and the dispositions ofour assets; (2) provide reasonable assurance that our transactions are recordedas necessary to permit preparation of financial statements in accordance withgenerally accepted accounting principles, and that our receipts andexpenditures are being made only in accordance with appropriate authorizations;and (3) provide reasonable assurance regarding prevention or timely detectionof unauthorized acquisition, use or disposition of our assets that could have amaterial effect on our financial statements.

Because of itsinherent limitations, internal control over financial reporting may not preventor detect misstatements. Therefore, even those systems determined to be effectivecan provide only reasonable assurance with respect to financial statementpreparation and presentation.

Under thesupervision and with the participation of our management, we assessed theeffectiveness of our internal control over financial reporting as of March 31,2007, using the criteria set forth by the Committee of Sponsoring Organizationsof the Treadway Commission (COSO) in Internal Control—Integrated Framework.Based on its assessment, management has concluded that our internal controlover financial reporting was effective as of March 31, 2007.

Our management’sassessment of the effectiveness of our internal control over financialreporting as of March 31, 2007 has been audited by PricewaterhouseCoopers LLP,an independent registered public accounting firm, as stated in their reportwhich is included herein.

c) Attestation Report of the Independent Registered Public AccountingFirm

Refer to the Report of Independent Registered Public Accounting Firmlocated in Item 8 of this Form 10-K.

d) Change in Internal Control over Financial Reporting

There were no changes in internal controls during the quarter ended March31, 2007 that have materially affected, or are reasonably likely to materiallyaffect, our internal control over financial reporting.

**Item 9B. Other Information.**

Not applicable.

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**PART III**

We willfile a definitive Proxy Statement for our 2007 Annual Meeting ofStockholders (the “2007 Proxy Statement”) with the SEC, pursuant toRegulation 14A, not later than 120 days after the end of our fiscalyear. Accordingly, certain information required by Part III has beenomitted under General Instruction G(3) to Form 10-K. Only those sectionsof the 2007 Proxy Statement that specifically address the items set forthherein are incorporated by reference.

**Item 10.Directors, Executive Officers of the Registrant and Corporate Governance**

The informationrequired by Item 10 is hereby incorporated by reference from our 2007 ProxyStatement under the captions “Election of Directors” and “Section 16(a)Beneficial Ownership Reporting Compliance.”

**Item 11. ExecutiveCompensation**

The informationrequired by Item 11 is hereby incorporated by reference from our 2007 ProxyStatement under the captions “Executive Compensation” and DirectorCompensation.”

**Item 12. SecurityOwnership of Certain Beneficial Owners and Management and Related StockholderMatters**

The informationrequired by Item 12 is hereby incorporated by reference from our 2007 ProxyStatement under the caption “Security Ownership of Certain Beneficial Ownersand Management.”

**Item 13. CertainRelationships and Related Transactions and Director Independence**

The informationrequired by Item 13 is hereby incorporated by reference from our 2007 ProxyStatement under the captions “Certain Transactions” and “Director Independence.”

**Item 14. PrincipalAccountant Fees and Services.**

The informationrequired by Item 14 is hereby incorporated by reference from our 2007 ProxyStatement under the caption “Independent Registered Public Accounting FirmFees.”

**PART IV**

**Item 15. Exhibitsand Financial Statement Schedules**

**a.             DOCUMENTS FILED AS PART OF THISREPORT**

1.                                       Thefollowing financial statements are filed herewith:
| Report of Independent  Registered Public Accounting Firm                                                                                                         |   |   |   |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------|--------|
| Consolidated  Statements of Assets and Liabilities as of March 31, 2007 and March 31, 2006                                                                       |   |   |   |
| Consolidated  Schedule of Investments as of March 31, 2007 and March 31, 2006                                                                                    |   |   |   |
| Consolidated  Statements of Operations for the year ended March 31, 2007 and the period  June 22, 2005 (Commencement of operations) to March 31, 2006            |   |   |   |
| Consolidated  Statements of Changes in Net Assets for the year ended March 31, 2007 and the  period June 22, 2005 (Commencement of operations) to March 31, 2006 |   |   |   |
| Consolidated  Statements of Cash Flows for the year ended March 31, 2007 and the period  June 22, 2005 (Commencement of operations) to March 31, 2006            |   |   |   |
| Financial  Highlights for the year ended March 31, 2007 and the period June 22, 2005  (Commencement of operations) to March 31, 2006                             |   |   |   |
| Notes to Consolidated  Financial Statements                                                                                                                      |   |   |   |

 

2.                                       Financialstatement schedules

The followingfinancial statement schedule is filed herewith:

·                  Schedule12-14 Investments in and Advances to Affiliates

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No other financialstatement schedules are filed herewith because (1) such schedules are notrequired or (2) the information has been presented in the aforementionedfinancial statements.

3.             Exhibits

Thefollowing exhibits are filed as part of this report or hereby incorporated byreference to exhibits previously filed with the SEC:
| 3.1   |   | Amended and Restated Certificate of Incorporation,  incorporated by reference to Exhibit a.2 to Pre-Effective Amendment  No. 1 to the Registration Statement on Form N-2 (File  No. 333-123699), filed May 13, 2005.                                                                                        |
|-------|--------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.2   |   | Amended and Restated Bylaws, incorporated by  reference to Exhibit b.2 to the Pre-effective Amendment No. 3 to the  Registration Statement on Form N-2 (File No. 333-123699), filed  June 21, 2005.                                                                                                              |
| 4.1   |   | Specimen Stock Certificate, incorporated by  reference to Exhibit 99.d on Form N-2/A (File No. 333-123699), filed June 21,  2005.                                                                                                                                                                                          |
| 4.2   |   | Dividend Reinvestment Plan, incorporated by  reference to Exhibit 99.e to Pre-Effective Amendment No. 3 to the  Registration Statement on Form N-2 (File No. 333-123699), filed June 21,  2005.                                                                                                        |
| 10.1* |   | Investment Advisory and Management Agreement between  the Company and Gladstone Management Corporation, dated June 22, 2005,  incorporated by reference to Exhibit 10.1 to the Annual Report on  Form 10-K filed June 14, 2006.                                                                        |
| 10.2* |   | Administration Agreement between the Registrant and  Gladstone Administration, LLC, dated June 22, 2005, incorporated by reference  to Exhibit 10.2 to the Annual Report on Form 10-K filed  June 14, 2006.                                                                                                 |
| 10.3* |   | Trademark License Agreement between the Registrant  and Gladstone Management Corporation, incorporated by reference to Exhibit  k.3 to the Registration Statement on Form N-2 (File No. 333-123699), filed on  March 31, 2005.                                                                                             |
| 10.4  |   | Stock Transfer Agency Agreement between the  Registrant and The Bank of New York, incorporated by reference to Exhibit k.1  to Amendment No. 1 to the Registration Statement on Form N-2 (File  No. 333-123699), filed May 13, 2005.                                                                        |
| 10.5  |   | Custody Agreement between the Registrant and The  Bank of New York, incorporated by reference to Exhibit 99.j to  Pre-Effective Amendment No. 3 to the Registration Statement on  Form N-2 (File No. 333-123699), filed June 21, 2005.                                                                 |
| 10.6  |   | Credit Agreement by and among Gladstone Business  Investment LLC, Deutsche Bank AG and certain other parties, dated as of  October 19, 2006, incorporated by reference to Exhibit 10.1 to the  Current Report on Form 8-K filed on October 23, 2006.                                                   |
| 10.7  |   | Amendment No. 1 to the Credit Agreement by and among  Gladstone Business Investment, LLC and Deutsche Bank AG, dated as of March  29, 2007, incorporated by reference to Exhibit 10.1 to the Current  Report on Form 8-K filed on March 30, 2007.                                                                |
| 10.8* |   | Joint Directors Nonqualified Excess Plan of  Gladstone Commercial Corporation, Gladstone Capital Corporation and Gladstone  Investment Corporations, dated as of July 11, 2006, incorporated by reference  to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K (File No.  814-00704), filed July 12, 2006. |
| 11    |   | Computation of Per Share Earnings (included in the  notes to the audited financial statements contained in this report).                                                                                                                                                                                                   |
| 21    |   | Subsidiaries of the Registrant.                                                                                                                                                                                                                                                                                            |
| 31.1  |   | Certification of Chief Executive Officer pursuant to  section 302 of The Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                  |
| 31.2  |   | Certification of Chief Financial Officer pursuant to  section 302 of The Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                  |
| 32.1  |   | Certification of Chief Executive Officer pursuant to  section 906 of The Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                  |
| 32.2  |   | Certification of Chief Financial Officer pursuant to  section 906 of The Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                                  |

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*                                         Denotesmanagement contract or compensatory plan or arrangement.

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**SIGNATURES**

Pursuantto the requirements of Section 13 or 15(d) of the Securities Exchange Actof 1934, the registrant has duly caused this report to be signed on its behalfby the undersigned, thereunto duly authorized.

 
|                     | ** ** | **GLADSTONE INVESTMENT CORPORATION** |
|---------------------|------------|--------------------------------------|
| ** **          | ** ** | ** **                           | ** ** | ** ** |
| Date: May 31,  2007 |       | By:                                  |   | /s/ HARRY BRILL |
|                | ** ** |                                 |   | Harry Brill |
|                | ** ** |                                 |   | Chief Financial Officer and Treasurer |

 

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Pursuantto the requirements of the Securities Exchange Act of 1934, this report hasbeen signed below by the following persons on behalf of the registrant and inthe capacity and on the dates indicated.
| Date: May 31, 2007 |   | By:    |   | /s/ DAVID GLADSTONE                                                                           |
|--------------------|--------|--------|--------|-----------------------------------------------------------------------------------------------|
|               |   |   |   | David Gladstone                                                                               |
|               |   |   |   | Chief Executive Officer and Chairman of the Board of  Directors (principal executive officer) |
|               |   |   |   |                                                                                          |
| Date: May 31, 2007 |   | By:    |   | /s/ TERRY LEE BRUBAKER                                                                        |
|               |   |   |   | Terry Lee Brubaker                                                                            |
|               |   |   |   | Vice Chairman, Chief Operating Officer  and Director                                     |
|               |   |   |   |                                                                                          |
| Date: May 31, 2007 |   | By:    |   | /s/ HARRY BRILL                                                                               |
|               |   |   |   | Harry Brill                                                                                   |
|               |   |   |   | Chief Financial Officer (principal financial and  accounting officer)                         |
|               |   |   |   |                                                                                          |
| Date: May 31, 2007 |   | By:    |   | /s/ GEORGE STELLJES III                                                                       |
|               |   |   |   | George Stelljes III                                                                           |
|               |   |   |   | President, Chief Investment Officer and Director                                              |
|               |   |   |   |                                                                                          |
| Date: May 31, 2007 |   | By:    |   | /s/ DAVID A.R. DULLUM                                                                         |
|               |   |   |   | David A.R. Dullum                                                                             |
|               |   |   |   | Director                                                                                      |
|               |   |   |   |                                                                                          |
| Date: May 31, 2007 |   | By:    |   | /s/ ANTHONY W. PARKER                                                                         |
|               |   |   |   | Anthony W. Parker                                                                             |
|               |   |   |   | Director                                                                                      |
|               |   |   |   |                                                                                          |
| Date: May 31, 2007 |   | By:    |   | /s/ MICHELA A. ENGLISH                                                                        |
|               |   |   |   | Michela A. English                                                                            |
|               |   |   |   | Director                                                                                      |
|               |   |   |   |                                                                                          |
| Date: May 31, 2007 |   | By:    |   | /s/ PAUL ADELGREN                                                                             |
|               |   |   |   | Paul Adelgren                                                                                 |
|               |   |   |   | Director                                                                                      |
|               |   |   |   |                                                                                          |
| Date: May 31, 2007 |   | By:    |   |                                                                                          |
|               |   |   |   | Maurice Coulon                                                                                |
|               |   |   |   | Director                                                                                      |
|               |   |   |   |                                                                                          |
| Date: May 31, 2007 |   | By:    |   | /s/ JOHN OUTLAND                                                                              |
|               |   |   |   | John Outland                                                                                  |
|               |   |   |   | Director                                                                                      |
|               |   |   |   |                                                                                          |
| Date: May 31, 2007 |   | By:    |   |                                                                                          |
|               |   |   |   | Gerard Mead                                                                                   |
|               |   |   |   | Director                                                                                      |

 

 

68

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** **

**SCHEDULE 12-14**

**GLADSTONEINVESTMENT CORPORATIONINVESTMENTS IN AND ADVANCES TO AFFILIATES**
| **Name of Issuer (1)** | ** ** | **Title of Issue or  Nature of Indebtedness** | ** ** | **Number of Shares or  Principal Amount of  Indebtedness Held at  March 31, 2007** | ** ** | **Interest Earned  for the year Ended  March 31, 2007** | ** **    | **Equity in Net Profit  (Loss) for the year  ended   March 31, 2007 (3)** | ** ** | **Value at   March 31, 2007** | ** ** |
|---------------------------------------|------------|------------------------------------------------------------------------|------------|---------------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------------------------------------------------------|---------------|-----------------------------------------------------------------------------------------------------------------------------|------------|---------------------------------------------------|------------|
| * *                              |       |                                                                   |       |                                                                                                                            |       |                                                                                  |          |                                                                                                                        |       |                                              |       |
| **CONTROL  INVESTMENTS**              |       |                                                                   |       |                                                                                                                            |       |                                                                                  |          |                                                                                                                        |       |                                              |       |
| ** **                            |       |                                                                   |       |                                                                                                                            |       |                                                                                  |          |                                                                                                                        |       |                                              |       |
| A.  Stucki Holding Corporation        |       | Senior Term Debt                                                       |       | $                                                                                                                               | 15,000,000 |                                                                                  |          |                                                                                                                        |       |                                              | $          | 15,000,000 |   |
|                                  |       | Senior Term Debt                                                       |       | 11,000,000                                                                                                                      |       |                                                                                  |          |                                                                                                                        |       | 11,000,000                                        |       |
|                                  |       | Subordinated Term Debt                                                 |       | 5,485,760                                                                                                                       |       |                                                                                  |          |                                                                                                                        |       | 5,485,760                                         |       |
|                                  |       | Redeemable Preferred Stock (2)                                         |       | 43,867                                                                                                                          |       |                                                                                  |          |                                                                                                                        |       | 4,386,686                                         |       |
|                                  |       | Common Stock (2)                                                       |       | 129,956                                                                                                                         |       |                                                                                  |          |                                                                                                                        |       | 129,956                                           |       |
|                                  |       |                                                                   |       |                                                                                                                            |       | $                                                                                     | 107,368       |                                                                                                                        | $          | —                                            |       | 36,002,402 |   |
|                                  |       |                                                                   |       |                                                                                                                            |       |                                                                                  |          |                                                                                                                        |       |                                              |       |
| Acme  Cryogenics, Inc.                |       | Senior Subordinated Term Debt                                          |       | 14,500,000                                                                                                                      |       |                                                                                  |          |                                                                                                                        |       | 14,481,875                                        |       |
|                                  |       | Redeemable Preferred Stock (2)                                         |       | 898,814                                                                                                                         |       |                                                                                  |          |                                                                                                                        |       | 6,983,785                                         |       |
|                                  |       | Common Stock (2)                                                       |       | 418,072                                                                                                                         |       |                                                                                  |          |                                                                                                                        |       | 1,045,181                                         |       |
|                                  |       | Common Stock Warrants (2)                                              |       | 452,673                                                                                                                         |       |                                                                                  |          |                                                                                                                        |       | 24,686                                            |       |
|                                  |       |                                                                   |       |                                                                                                                            |       | 430,771                                                                               |          | —                                                                                                                      |       | 22,535,527                                        |       |
|                                  |       |                                                                   |       |                                                                                                                            |       |                                                                                  |          |                                                                                                                        |       |                                              |       |
| Chase  II Holdings Corporation        |       | Revolving Credit Facility                                              |       | 1,900,000                                                                                                                       |       |                                                                                  |          |                                                                                                                        |       | 1,900,000                                         |       |
|                                  |       | Senior Term Debt                                                       |       | 11,000,000                                                                                                                      |       |                                                                                  |          |                                                                                                                        |       | 11,000,000                                        |       |
|                                  |       | Senior Term Debt                                                       |       | 8,000,000                                                                                                                       |       |                                                                                  |          |                                                                                                                        |       | 8,000,000                                         |       |
|                                  |       | Subordinated Term Debt                                                 |       | 6,167,810                                                                                                                       |       |                                                                                  |          |                                                                                                                        |       | 6,167,810                                         |       |
|                                  |       | Redeemable Preferred Stock (2)                                         |       | 69,608                                                                                                                          |       |                                                                                  |          |                                                                                                                        |       | 3,120,070                                         |       |
|                                  |       | Common Stock (2)                                                       |       | 61,384                                                                                                                          |       |                                                                                  |          |                                                                                                                        |       | —                                            |       |
|                                  |       |                                                                   |       |                                                                                                                            |       | 3,062,830                                                                             |          | —                                                                                                                      |       | 30,187,880                                        |       |
|                                  |       |                                                                   |       |                                                                                                                            |       |                                                                                  |          |                                                                                                                        |       |                                              |       |
| Hailey  Transport Corporation         |       | Senior Subordinated Term Debt                                          |       | 4,000,000                                                                                                                       |       |                                                                                  |          |                                                                                                                        |       | 4,000,000                                         |       |
|                                  |       | Common Stock (2)                                                       |       | 1,000                                                                                                                           |       |                                                                                  |          |                                                                                                                        |       | 3,184,874                                         |       |
|                                  |       |                                                                   |       |                                                                                                                            |       | 480,000                                                                               |          | —                                                                                                                      |       | 7,184,874                                         |       |
|                                  |       |                                                                   |       |                                                                                                                            |       |                                                                                  |          |                                                                                                                        |       |                                              |       |
| Quench  Holdings Corporation          |       | Revolving Credit Facility                                              |       | 1,900,000                                                                                                                       |       |                                                                                  |          |                                                                                                                        |       | 1,900,000                                         |       |
|                                  |       | Senior Term Debt                                                       |       | 4,000,000                                                                                                                       |       |                                                                                  |          |                                                                                                                        |       | 4,000,000                                         |       |
|                                  |       | Subordinated Term Debt                                                 |       | 8,000,000                                                                                                                       |       |                                                                                  |          |                                                                                                                        |       | 8,000,000                                         |       |
|                                  |       | Common Stock (2)                                                       |       | 1,000                                                                                                                           |       |                                                                                  |          |                                                                                                                        |       | 3,205,808                                         |       |
|                                  |       |                                                                   |       |                                                                                                                            |       | 1,405,091                                                                             |          | —                                                                                                                      |       | 17,105,808                                        |       |
|                                  |       |                                                                   |       |                                                                                                                            |       |                                                                                  |          |                                                                                                                        |       |                                              |       |
| **Total  Control Investments**        | ** ** | ** **                                                             | ** ** | ** **                                                                                                                      | ** ** | **$**                                                                                 | **5,486,060** | ** **                                                                                                                  | **$**      | **—**                                        | ** ** | **$** | **113,016,491** | ** ** |
|                                  |       |                                                                   |       |                                                                                                                            |       |                                                                                  |          |                                                                                                                        |       |                                              |       |
| **AFFILIATE  INVESTMENTS**            |       |                                                                   |       |                                                                                                                            |       |                                                                                  |          |                                                                                                                        |       |                                              |       |
|                                  |       |                                                                   |       |                                                                                                                            |       |                                                                                  |          |                                                                                                                        |       |                                              |       |
| Noble  Logistics, Inc.                |       | Revolving Credit Facility                                              |       | $                                                                                                                               | 2,000,000  |                                                                                  |          |                                                                                                                        |       |                                              | $          | 1,995,000 |   |
|                                  |       | Senior Term Debt                                                       |       | 7,000,000                                                                                                                       |       |                                                                                  |          |                                                                                                                        |       | 7,008,750                                         |       |
|                                  |       | Senior Term Debt                                                       |       | 7,000,000                                                                                                                       |       |                                                                                  |          |                                                                                                                        |       | 7,008,750                                         |       |
|                                  |       | Senior Subordinated Term Debt                                          |       | 500,000                                                                                                                         |       |                                                                                  |          |                                                                                                                        |       | 500,000                                           |       |
|                                  |       | Redeemable Preferred Stock (2)                                         |       | 1,000,000                                                                                                                       |       |                                                                                  |          |                                                                                                                        |       | 1,750,000                                         |       |
|                                  |       | Common Stock (2)                                                       |       | 1,500,000                                                                                                                       |       |                                                                                  |          |                                                                                                                        |       | 1,500,000                                         |       |
|                                  |       |                                                                   |       |                                                                                                                            |       | $                                                                                     | 535,629       |                                                                                                                        | —     |                                              | 19,762,500 |   |
| **Total  Affiliate Investments**      | ** ** | ** **                                                             | ** ** | ** **                                                                                                                      | ** ** | **$**                                                                                 | **535,629**   | ** **                                                                                                                  | **$**      | **—**                                        | ** ** | **$** | **19,762,500** | ** ** |

----

(1)             Certain of the listed securities are issued byaffiliate(s) of the indicated portfolio company.

(2)             Security is non-income producing.

(3)             In accordance with Regulation S-X, rule 6-03(c)(i), theCompany does not consolidate its portfolio investments. Therefore, no equity inthe net profit (loss) was recorded as of March 31, 2007.

 

69

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**SCHEDULE12-14**

**(continued)**

**GLADSTONEINVESTMENT CORPORATIONINVESTMENTS IN AND ADVANCES TO AFFILIATES (continued)**
| **Name of Issuer (1)** | ** ** | **Title of Issue or  Nature of Indebtedness** | ** ** | **Value of Each  Item as of   March 31, 2006** | ** **     | **Gross   Additions** | ** ** | **Gross   Reductions** | ** ** | **Value of Each   Item as of   March 31, 2007** | ** **     |
|---------------------------------------|------------|------------------------------------------------------------------------|------------|-----------------------------------------------------------------------------------|----------------|----------------------------|------------|-----------------------------|------------|-----------------------------------------------------------------------------------------|----------------|
| * *                              | * *   | * *                                                               |       |                                                                              |           |                       |       |                        |       |                                                                                    |           |
| **CONTROL  INVESTMENTS**              | ** ** | ** **                                                             |       |                                                                              |           |                       |       |                        |       |                                                                                    |           |
| ** **                            | ** ** | ** **                                                             |       |                                                                              |           |                       |       |                        |       |                                                                                    |           |
| A.  Stucki Holding Corporation        |       | Senior Term Debt                                                       |       | $                                                                                 | —         |                       | $          | 15,000,000                  |       | —                                                                                  |           | $ | 15,000,000 |   |
|                                  |       | Senior Term Debt                                                       |       | —                                                                            |           | 11,000,000                 |       | —                      |       | 11,000,000                                                                              |           |
|                                  |       | Subordinated Term Debt                                                 |       | —                                                                            |           | 5,485,760                  |       | —                      |       | 5,485,760                                                                               |           |
|                                  |       | Redeemable Preferred Stock (2)                                         |       | —                                                                            |           | 4,386,686                  |       | —                      |       | 4,386,686                                                                               |           |
|                                  |       | Common Stock (2)                                                       |       | —                                                                            |           | 129,956                    |       | —                      |       | 129,956                                                                                 |           |
|                                  |       |                                                                   |       | —                                                                            |           | 36,002,402                 |       | —                      |       | 36,002,402                                                                              |           |
|                                  |       |                                                                   |       |                                                                              |           |                       |       |                        |       |                                                                                    |           |
| Acme  Cryogenics, Inc.                |       | Senior Subordinated Term Debt                                          |       | —                                                                            |           | 14,481,875                 |       | —                      |       | 14,481,875                                                                              |           |
|                                  |       | Redeemable Preferred Stock (2)                                         |       | —                                                                            |           | 6,983,785                  |       | —                      |       | 6,983,785                                                                               |           |
|                                  |       | Common Stock (2)                                                       |       | —                                                                            |           | 1,045,181                  |       | —                      |       | 1,045,181                                                                               |           |
|                                  |       | Common Stock Warrants (2)                                              |       | —                                                                            |           | 24,686                     |       | —                      |       | 24,686                                                                                  |           |
|                                  |       |                                                                   |       | —                                                                            |           | 22,553,652                 |       | —                      |       | 22,535,527                                                                              |           |
|                                  |       |                                                                   |       |                                                                              |           |                       |       |                        |       |                                                                                    |           |
| Chase  II Holdings Corporation        |       | Revolving Credit Facility                                              |       | —                                                                            |           | 1,900,000                  |       | —                      |       | 1,900,000                                                                               |           |
|                                  |       | Senior Term Debt                                                       |       | 12,900,000                                                                        |           | —                     |       | (1,900,000                  | )          | 11,000,000                                                                              |           |
|                                  |       | Senior Term Debt                                                       |       | 8,000,000                                                                         |           | —                     |       | —                      |       | 8,000,000                                                                               |           |
|                                  |       | Subordinated Term Debt                                                 |       | 6,167,810                                                                         |           | —                     |       | —                      |       | 6,167,810                                                                               |           |
|                                  |       | Redeemable Preferred Stock (2)                                         |       | 6,960,806                                                                         |           | —                     |       | (3,840,736                  | )          | 3,120,070                                                                               |           |
|                                  |       | Common Stock (2)                                                       |       | 61,384                                                                            |           | —                     |       | (61,384                     | )          | —                                                                                  |           |
|                                  |       |                                                                   |       | 34,090,000                                                                        |           | 1,900,000                  |       | (5,802,120                  | )          | 30,187,880                                                                              |           |
|                                  |       |                                                                   |       |                                                                              |           |                       |       |                        |       |                                                                                    |           |
| Hailey  Transport Corporation         |       | Senior Subordinated Term Debt                                          |       | 3,950,000                                                                         |           | 50,000                     |       | —                      |       | 4,000,000                                                                               |           |
|                                  |       | Common Stock (2)                                                       |       | 2,500,000                                                                         |           | 684,874                    |       | —                      |       | 3,184,874                                                                               |           |
|                                  |       |                                                                   |       | 6,450,000                                                                         |           | 734,874                    |       | —                      |       | 7,184,874                                                                               |           |
|                                  |       |                                                                   |       |                                                                              |           |                       |       |                        |       |                                                                                    |           |
| Quench  Holdings Corporation          |       | Revolving Credit Facility                                              |       | —                                                                            |           | 2,000,000                  |       | (100,000                    | )          | 1,900,000                                                                               |           |
|                                  |       | Senior Term Debt                                                       |       | 3,256,318                                                                         |           | —                     |       | (50,510                     | )          | 3,205,808                                                                               |           |
|                                  |       | Subordinated Term Debt                                                 |       | 4,000,000                                                                         |           | —                     |       | —                      |       | 4,000,000                                                                               |           |
|                                  |       | Common Stock (2)                                                       |       | 8,000,000                                                                         |           | —                     |       | —                      |       | 8,000,000                                                                               |           |
|                                  |       |                                                                   |       | 15,256,318                                                                        |           | 2,000,000                  |       | (150,510                    | )          | 17,105,808                                                                              |           |
|                                  |       |                                                                   |       |                                                                              |           |                       |       |                        |       |                                                                                    |           |
| **Total  Control Investments**        | ** ** | ** **                                                             | ** ** | **$**                                                                             | **55,796,318** | ** **                 | **$**      | **63,172,803**              | ** ** | **$**                                                                                   | **(5,952,630** | **)** | **$** | **113,016,491** | ** ** |
|                                  |       |                                                                   |       |                                                                              |           |                       |       |                        |       |                                                                                    |           |
| **AFFILIATE  INVESTMENTS**            |       |                                                                   |       |                                                                              |           |                       |       |                        |       |                                                                                    |           |
|                                  |       |                                                                   |       |                                                                              |           |                       |       |                        |       |                                                                                    |           |
| Noble  Logistics, Inc.                |       | Revolving Credit Facility                                              |       | $                                                                                 | —         |                       | $          | 2,000,000                   |       | $                                                                                       | (5,000         | ) | $ | 1,995,000 |   |
|                                  |       | Senior Term Debt                                                       |       | —                                                                            |           | 7,008,750                  |       | —                      |       | 7,008,750                                                                               |           |
|                                  |       | Senior Term Debt                                                       |       | —                                                                            |           | 7,008,750                  |       | —                      |       | 7,008,750                                                                               |           |
|                                  |       | Senior Subordinated Term Debt                                          |       | —                                                                            |           | 500,000                    |       | —                      |       | 500,000                                                                                 |           |
|                                  |       | Redeemable Preferred Stock (2)                                         |       | —                                                                            |           | 1,750,000                  |       | —                      |       | 1,750,000                                                                               |           |
|                                  |       | Common Stock (2)                                                       |       | —                                                                            |           | 1,500,000                  |       | —                      |       | 1,500,000                                                                               |           |
|                                  |       |                                                                   |       | —                                                                            |           | 19,767,500                 |       | (5,000                      | )          | 19,762,500                                                                              |           |
|                                  |       |                                                                   |       |                                                                              |           |                       |       |                        |       |                                                                                    |           |
| **Total  Affiliate Investments**      | ** ** | ** **                                                             | ** ** | **$**                                                                             | **—**     | ** **                 | **$**      | **19,767,500**              | ** ** | **$**                                                                                   | **(5,000**     | **)** | **$** | **19,762,500** | ** ** |

----

(1)             Certain of the listed securities are issued byaffiliate(s) of the indicated portfolio company.

(2)             Security is non-income producing.

 

----