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

Form 10-Q

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

For the quarterly period ended March 31, 2009

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

For the transition period from ____________ to _____________

Commission file number: 0-11576

HARRIS & HARRIS GROUP, INC.

(Exact Name of Registrant as Specified in Its Charter)

New York
13-3119827
(State or Other Jurisdiction of
  Incorporation or Organization)
(I.R.S. Employer Identification No.)
   
111 West 57th Street, New York, New York
10019
(Address of Principal Executive Offices)
(Zip Code)

(212) 582-0900
(Registrant's Telephone Number, Including Area Code)

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

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

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

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

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

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date.

Class
  
Outstanding at May 8, 2009
Common Stock, $0.01 par value per share
 
25,859,573 shares

 
 

 

Harris & Harris Group, Inc.
Form 10-Q, March 31, 2009

 
Page Number
PART I. FINANCIAL INFORMATION
 
   
Item 1. Consolidated Financial Statements
1
   
Consolidated Statements of Assets and Liabilities
2
Consolidated Statements of Operations
3
Consolidated Statements of Cash Flows
4
Consolidated Statements of Changes in Net Assets
5
Consolidated Schedule of Investments
6
Notes to Consolidated Financial Statements
21
Financial Highlights
30
   
Item 2.  Management's Discussion and Analysis of Financial Condition and Results of Operations
31
   
Background and Overview
31
Results of Operations
35
Financial Condition
38
Liquidity
39
Capital Resources
40
Critical Accounting Policies
40
Recent Developments – Portfolio Companies
43
Forward-Looking Statements
43
   
Item 3.  Quantitative and Qualitative Disclosures About Market Risk
43
   
Item 4.  Controls and Procedures
45
   
PART II.  OTHER INFORMATION
 
   
Item 1A.  Risk Factors
46
   
Item 6. Exhibits
46
   
Signatures
47
   
Exhibit Index
48


 
 

 

PART I.  FINANCIAL INFORMATION

Item 1. Consolidated Financial Statements

 The information furnished in the accompanying consolidated financial statements reflects all adjustments that are, in the opinion of management, necessary for a fair statement of the results for the interim period presented.

Harris & Harris Group, Inc.® (the "Company," "us," "our" and "we"), is an internally managed venture capital company that has elected to operate as a business development company under the Investment Company Act of 1940 (the "1940 Act").  Certain information and disclosures normally included in the consolidated financial statements in accordance with Generally Accepted Accounting Principles have been condensed or omitted as permitted by Regulation S-X and Regulation S-K.  The accompanying consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto for the year ended December 31, 2008, contained in our Annual Report on Form 10-K for the year ended December 31, 2008.

On September 25, 1997, our Board of Directors approved a proposal to seek qualification as a regulated investment company ("RIC") under Subchapter M of the Internal Revenue Code (the "Code").  At that time, we were taxable under Subchapter C of the Code (a "C Corporation").  We filed for the 1999 tax year to elect treatment as a RIC.  In order to qualify as a RIC, we must, in general, (1) annually, derive at least 90 percent of our gross income from dividends, interest, gains from the sale of securities and similar sources; (2) quarterly, meet certain investment diversification requirements; and (3) annually, distribute at least 90 percent of our investment company taxable income as a dividend.  In addition to the requirement that we must annually distribute at least 90 percent of our investment company taxable income, we may either distribute or retain our taxable net capital gains from investments, but any net capital gains not distributed could be subject to corporate level tax.  Further, we could be subject to a four percent excise tax to the extent we fail to distribute at least 98 percent of our annual investment company taxable income and would be subject to income tax to the extent we fail to distribute 100 percent of our investment company taxable income.

Because of the specialized nature of our investment portfolio, we generally can satisfy the diversification requirements under Subchapter M of the Code if we receive a certification from the Securities and Exchange Commission (“SEC”) that we are "principally engaged in the furnishing of capital to other corporations which are principally engaged in the development or exploitation of inventions, technological improvements, new processes, or products not previously generally available."

On May 30, 2008, we received SEC certification for 2007, permitting us to qualify for RIC treatment for 2007 (as we had for the years 1999 through 2006) pursuant to Section 851(e) of the Code.  Although the SEC certification for 2007 was issued, there can be no assurance that we will qualify for or receive such certification for subsequent years (to the extent we need additional certification as a result of changes in our portfolio) or that we will actually qualify for Subchapter M treatment in subsequent years.  We filed for SEC certification for 2008, and we have not yet received a response about our qualification.  However, in 2008, we qualified for RIC treatment even without certification.  In addition, under certain circumstances, even if we qualified for Subchapter M treatment in a given year, we might take action in a subsequent year to ensure that we would be taxed in that subsequent year as a C Corporation, rather than as a RIC.  Because Subchapter M does not permit deduction of operating expenses against long-term capital gains, it is not clear that the Company and its shareholders have paid less taxes since 1999 than they would have paid had the Company remained a C Corporation.

 
1

 


HARRIS & HARRIS GROUP, INC.
CONSOLIDATED STATEMENTS OF ASSETS AND LIABILITIES

ASSETS
 
             
   
March 31, 2009
(Unaudited)
   
December 31, 2008
 
 
Investments, in portfolio securities at value:
           
Unaffiliated companies (cost: $24,320,940 and
           
$24,208,281, respectively)
  $ 10,802,744     $ 12,086,503  
Non-controlled affiliated companies (cost: $61,330,539
               
and $60,796,720, respectively)
    44,338,636       39,650,187  
Controlled affiliated companies (cost: $6,085,000
               
and $6,085,000, respectively)
    3,652,308       5,228,463  
Total, investments in private portfolio companies at value
               
(cost: $91,736,479 and $91,090,001, respectively)
  $ 58,793,688     $ 56,965,153  
                 
Investments, in U.S. Treasury obligations at value
               
(cost: $51,343,768 and $52,956,288, respectively)
    51,340,811       52,983,940  
Cash and cash equivalents
    241,402       692,309  
Restricted funds (Note 10)
    192,573       191,955  
Interest receivable
    13       56  
Prepaid expenses
    346,887       484,567  
Other assets
    294,764       309,621  
Total assets
  $ 111,210,138     $ 111,627,601  
                 
LIABILITIES & NET ASSETS
 
                 
Accounts payable and accrued liabilities (Note 10)
  $ 1,988,247     $ 2,088,348  
Deferred rent
    6,564       8,140  
Total liabilities
    1,994,811       2,096,488  
                 
Net assets
  $ 109,215,327     $ 109,531,113  
                 
Net assets are comprised of:
               
Preferred stock, $0.10 par value,
               
2,000,000 shares authorized; none issued
  $ 0     $ 0  
Common stock, $0.01 par value, 45,000,000 shares authorized at
               
3/31/09 and 12/31/08; 27,688,313 issued at
               
3/31/09 and 12/31/08
    276,884       276,884  
Additional paid in capital (Note 6)
    181,887,145       181,251,507  
Accumulated net operating and realized loss
    (36,597,423 )     (34,494,551 )
Accumulated unrealized depreciation of investments
    (32,945,748 )     (34,097,196 )
Treasury stock, at cost (1,828,740 shares at 3/31/09 and 12/31/08)
    (3,405,531 )     (3,405,531 )
                 
Net assets
  $ 109,215,327     $ 109,531,113  
                 
Shares outstanding
    25,859,573       25,859,573  
                 
Net asset value per outstanding share
  $ 4.22     $ 4.24  


The accompanying notes are an integral part of these consolidated financial statements.

 
2

 


HARRIS & HARRIS GROUP, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)

   
Three Months Ended
March 31, 2009
   
Three Months Ended
March 31, 2008
 
Investment income:
           
Interest from:
           
Fixed-income securities and bridge notes (Note 3)
  $ (35,899 )   $ 576,302  
Miscellaneous income
    12,338       0  
Total investment (loss) income
    (23,561 )     576,302  
                 
Expenses:
               
Salaries, benefits and stock-based compensation (Note 6)
    1,387,340       2,433,295  
Administration and operations
    290,435       301,855  
Professional fees
    215,250       138,232  
Rent
    78,063       57,854  
Directors' fees and expenses
    84,509       105,146  
Depreciation
    12,859       13,985  
Custodian fees
    6,862       6,553  
Total expenses
    2,075,318       3,056,920  
                 
Net operating loss
    (2,098,879 )     (2,480,618 )
                 
Net realized loss from investments:
               
Realized loss from:
               
Unaffiliated companies
    (3,288 )     0  
Non-controlled affiliated companies
    0       (5,014,653 )
Controlled affiliated companies
    0       0  
U.S. Treasury obligations/other
    (325 )     (217 )
Realized loss from investments
    (3,613 )     (5,014,870 )
                 
Income tax expense (Note 7)
    380       46,198  
Net realized loss from investments
    (3,993 )     (5,061,068 )
                 
Net decrease (increase) in unrealized depreciation on investments:
               
Change as a result of investment sales
    0       5,014,653  
Change on investments held
    1,151,448       (762,002 )
Net decrease in unrealized depreciation on investments
    1,151,448       4,252,651  
                 
Net decrease in net assets resulting from operations:
               
                 
Total
  $ (951,424 )   $ (3,289,035 )
                 
Per average basic and diluted outstanding share
  $ (0.04 )   $ (0.14 )
                 
Average outstanding shares
    25,859,573       23,314,573  


The accompanying notes are an integral part of these consolidated financial statements.

 
3

 


HARRIS & HARRIS GROUP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)


   
Three Months Ended
March 31, 2009
   
Three Months Ended
March 31, 2008
 
             
Cash flows used in operating activities:
           
Net decrease in net assets resulting from operations
  $ (951,424 )   $ (3,289,035 )
Adjustments to reconcile net decrease in net assets
               
resulting from operations to net cash used in
               
operating activities:
               
Net realized and unrealized (gain) loss on investments
    (1,147,835 )     762,219  
Depreciation of fixed assets, amortization of premium or
               
discount on U.S. government securities, and bridge note interest
    86,269       (454,332 )
Stock-based compensation expense
    635,638       1,466,980  
                 
Changes in assets and liabilities:
               
Restricted funds
    (618 )     146,710  
Receivable from portfolio company
    0       524  
Interest receivable
    54,660       149,849  
Prepaid expenses
    137,680       76,078  
Other assets
    3,312       (2,492 )
Accounts payable and accrued liabilities
    (100,103 )     (296,978 )
Deferred rent
    (1,576 )     (1,659 )
Current income tax liability
    0       541  
                 
Net cash used in operating activities
    (1,283,997 )     (1,441,595 )
                 
Cash flows from investing activities:
               
Purchase of U.S. government securities
    (52,334,768 )     (21,230,754 )
Sale of U.S. government securities
    53,892,347       28,883,642  
Investment in private placements and loans
    (723,176 )     (6,435,274 )
Proceeds from sale of investments
    0       105,714  
Purchase of fixed assets
    (1,313 )     (1,588 )
                 
Net cash provided by investing activities
    833,090       1,321,740  
                 
Cash flows from financing activities:
               
Net cash provided by financing activities
    0       0  
                 
Net decrease in cash and cash equivalents:
               
Cash and cash equivalents at beginning of the period
    692,309       330,009  
Cash and cash equivalents at end of the period
    241,402       210,154  
                 
Net decrease in cash and cash equivalents
  $ (450,907 )   $ (119,855 )
                 
Supplemental disclosures of cash flow information:
               
Income taxes paid
  $ 380     $ 45,657  


The accompanying notes are an integral part of these consolidated financial statements.

 
4

 


HARRIS & HARRIS GROUP, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN NET ASSETS

   
Three Months Ended
March 31, 2009
(Unaudited)
   
Year Ended
December 31, 2008
 
Changes in net assets from operations:
           
             
Net operating loss
  $ (2,098,879 )   $ (10,687,151 )
Net realized loss on investments
    (3,993 )     (8,323,634 )
Net decrease in unrealized depreciation on investments as a result of sales
    0       8,292,072  
Net decrease (increase) in unrealized depreciation on investments held
    1,151,448       (38,462,784 )
                 
                 
Net decrease in net assets resulting from operations
    (951,424 )     (49,181,497 )
                 
                 
Changes in net assets from capital stock transactions:
               
                 
Issuance of common stock on offering
    0       25,450  
Additional paid-in capital on common stock issued
    0       14,358,047  
Stock-based compensation expense
    635,638       5,965,769  
                 
                 
Net increase in net assets resulting from capital stock transactions
    635,638       20,349,266  
                 
                 
Net decrease in net assets
    (315,786 )     (28,832,231 )
                 
                 
Net assets:
               
                 
Beginning of the period
    109,531,113       138,363,344  
                 
End of the period
  $ 109,215,327     $ 109,531,113  



The accompanying notes are an integral part of these consolidated financial statements.

 
5

 


HARRIS & HARRIS GROUP, INC.
CONSOLIDATED SCHEDULE OF INVESTMENTS AS OF MARCH 31, 2009
(Unaudited)

 
Method of
Valuation (1)
 
Shares/
Principal
   
Value
 
               
Investments in Unaffiliated Companies (2)(3) – 9.9% of  net assets at value
             
               
Private Placement Portfolio (Illiquid) – 9.9% of net assets at value
             
               
BioVex Group, Inc. (4)(5)(6)(7) -- Developing novel biologics
             
for treatment of cancer and infectious disease
             
Series E Convertible Preferred Stock
(M)
    2,799,552     $ 85,995  
Series F Convertible Preferred Stock
(M)
    1,321,196       270,436  
Warrants at $0.241576 expiring 11/13/15
( I )
    248,120       29,329  
                385,760  
                   
Cobalt Technologies, Inc. (4)(5)(6)(8) – Developing biobutanol
                 
through biomass fermentation
                 
Series C Convertible Preferred Stock
(M)
    176,056       187,500  
                   
                   
Exponential Business Development Company (4)(5) -- Venture
                 
capital partnership focused on early stage companies
                 
Limited Partnership Interest
(M)
    1       1,853  
                   
                   
Kereos, Inc. (4)(5)(6)  --  Developing emulsion-based imaging
                 
agents and targeted therapeutics to image and treat cancer
                 
and cardiovascular disease
                 
Common Stock
(M)
    545,456       0  
                   
                   
Molecular Imprints, Inc. (4)(5) -- Manufacturing nanoimprint
                 
lithography capital equipment
                 
Series B Convertible Preferred Stock
(M)
    1,333,333       1,083,333  
Series C Convertible Preferred Stock
(M)
    1,250,000       1,015,625  
Warrants at $2.00 expiring 12/31/11
( I )
    125,000       31,625  
                2,130,583  
                   
Nanosys, Inc. (4)(5) -- Developing zero and one-dimensional
                 
inorganic nanometer-scale materials and devices
                 
Series C Convertible Preferred Stock
(M)
    803,428       1,777,584  
Series D Convertible Preferred Stock
(M)
    1,016,950       2,250,002  
                4,027,586  



 
The accompanying notes are an integral part of these consolidated financial statements.

 
6

 


HARRIS & HARRIS GROUP, INC.
CONSOLIDATED SCHEDULE OF INVESTMENTS AS OF MARCH 31, 2009
(Unaudited)

 
Method of
Valuation (1)
 
Shares/
Principal
   
Value
 
               
Investments in Unaffiliated Companies (2)(3) – 9.9% of net assets at value (cont.)
             
               
Private Placement Portfolio (Illiquid) – 9.9% of net assets at value (cont.)
             
               
Nantero, Inc. (4)(5)(6) -- Developing a high-density, nonvolatile,
             
random access memory chip, enabled by carbon nanotubes
             
Series A Convertible Preferred Stock
(M)
    345,070     $ 1,046,908  
Series B Convertible Preferred Stock
(M)
    207,051       628,172  
Series C Convertible Preferred Stock
(M)
    188,315       571,329  
                2,246,409  
                   
NeoPhotonics Corporation (4)(5) -- Developing and manufacturing
                 
optical devices and components
                 
Common Stock
(M)
    716,195       174,788  
Series 1 Convertible Preferred Stock
(M)
    1,831,256       446,920  
Series 2 Convertible Preferred Stock
(M)
    741,898       181,060  
Series 3 Convertible Preferred Stock
(M)
    2,750,000       671,138  
Series X Convertible Preferred Stock
(M)
    2,000       97,620  
Warrants at $0.15 expiring 01/26/10
( I )
    16,364       2,111  
Warrants at $0.15 expiring 12/05/10
( I )
    14,063       2,166  
                1,575,803  
                   
Polatis, Inc. (4)(5)(6)(9) -- Developing MEMS-based optical
                 
networking components
                 
Series A-1 Convertible Preferred Stock
(M)
    16,775       0  
Series A-2 Convertible Preferred Stock
(M)
    71,611       0  
Series A-4 Convertible Preferred Stock
(M)
    4,774       0  
Series A-5 Convertible Preferred Stock
(M)
    16,438       0  
                0  
                   
PolyRemedy, Inc. (4)(5)(6) --Developing a robotic
                 
manufacturing platform for wound treatment patches
                 
Series B-1 Convertible Preferred Stock
(M)
    287,647       122,250  
                   
                   
Starfire Systems, Inc. (4)(5) -- Producing ceramic-forming polymers
                 
Common Stock
(M)
    375,000       0  
Series A-1 Convertible Preferred Stock
(M)
    600,000       0  
                0  


The accompanying notes are an integral part of these consolidated financial statements.

 
7

 


HARRIS & HARRIS GROUP, INC.
CONSOLIDATED SCHEDULE OF INVESTMENTS AS OF MARCH 31, 2009
(Unaudited)

 
Method of
Valuation (1)
 
Shares/
Principal
   
Value
 
               
Investments in Unaffiliated Companies (2)(3) – 9.9% of net assets at value (cont.)
             
               
Private Placement Portfolio (Illiquid) – 9.9% of net assets at value (cont.)
             
               
               
TetraVitae Bioscience, Inc. (4)(5)(6)(10) -- Developing alternative
             
chemicals and fuels through biomass fermentation
             
Series B Convertible Preferred Stock
(M)
    118,804     $ 125,000  
                   
                   
                   
Total Unaffiliated Private Placement Portfolio (cost: $24,320,940)
            $ 10,802,744  
                   
Total Investments in Unaffiliated Companies (cost: $24,320,940)
            $ 10,802,744  






 
The accompanying notes are an integral part of these consolidated financial statements.

 
8

 


HARRIS & HARRIS GROUP, INC.
CONSOLIDATED SCHEDULE OF INVESTMENTS AS OF MARCH 31, 2009
(Unaudited)

 
Method of
Valuation (1)
 
Shares/
Principal
   
Value
 
               
Investments in Non-Controlled Affiliated Companies (2)(11) – 40.6% of net assets at value
             
               
Private Placement Portfolio (Illiquid) – 40.6% of net assets at value
             
               
               
Adesto Technologies Corporation (4)(5)(6) -- Developing
             
semiconductor-related products enabled at the nanoscale
             
Series A Convertible Preferred Stock
(M)
    6,547,619     $ 1,100,000  
                   
                   
Ancora Pharmaceuticals, Inc. (4)(5)(6) -- Developing synthetic
                 
carbohydrates for pharmaceutical applications
                 
Series B Convertible Preferred Stock
(M)
    1,663,808       800,000  
                   
                   
BridgeLux, Inc. (4)(5)(12) -- Manufacturing high-power light
                 
emitting diodes
                 
Series B Convertible Preferred Stock
(M)
    1,861,504       1,396,128  
Series C Convertible Preferred Stock
(M)
    2,130,699       1,598,025  
Series D Convertible Preferred Stock
(M)
    666,667       500,000  
Warrants at $0.7136 expiring 12/31/14
( I )
    98,340       60,184  
Warrants at $0.7136 expiring 12/31/14
( I )
    65,560       40,123  
                3,594,460  
                   
                   
Cambrios Technologies Corporation (4)(5)(6) -- Developing
                 
nanowire-enabled electronic materials for the display industry
                 
Series B Convertible Preferred Stock
(M)
    1,294,025       647,013  
Series C Convertible Preferred Stock
(M)
    1,300,000       650,000  
                1,297,013  
                   
                   
CFX Battery, Inc. (4)(5)(6)(13) -- Developing batteries using
                 
nanostructured materials
                 
Series A Convertible Preferred Stock
(M)
    1,885,108       1,476,756  



The accompanying notes are an integral part of these consolidated financial statements.

 
9

 


HARRIS & HARRIS GROUP, INC.
CONSOLIDATED SCHEDULE OF INVESTMENTS AS OF MARCH 31, 2009
(Unaudited)

 
Method of
Valuation (1)
 
Shares/
Principal
   
Value
 
               
Investments in Non-Controlled Affiliated Companies (2)(11) – 40.6% of net assets at value (cont.)
             
               
Private Placement Portfolio (Illiquid) – 40.6% of net assets at value (cont.)
             
               
               
Crystal IS, Inc. (4)(5) -- Developing single-crystal
             
aluminum nitride substrates for light-emitting diodes
             
Series A Convertible Preferred Stock
(M)
    391,571     $ 0  
Series A-1 Convertible Preferred Stock
(M)
    1,300,376       0  
Unsecured Convertible Bridge Note (including interest)
(M)
  $ 408,573       415,961  
Warrants at $0.78 expiring 05/05/13
( I )
    15,231       0  
Warrants at $0.78 expiring 05/12/13
( I )
    2,350       0  
Warrants at $0.78 expiring 08/08/13
( I )
    4,396       0  
                415,961  
                   
CSwitch Corporation (4)(5)(6)(14) -- Developing system-
                 
on-a-chip solutions for communications-based platforms
                 
Series A-1 Convertible Preferred Stock
(M)
    6,863,118       0  
Unsecured Convertible Bridge Note (including interest)
(M)
  $ 1,766,673       0  
                0  
                   
D-Wave Systems, Inc. (4)(5)(6)(15) -- Developing high-
                 
performance quantum computing systems
                 
Series B Convertible Preferred Stock
(M)
    1,144,869       1,013,595  
Series C Convertible Preferred Stock
(M)
    450,450       398,800  
Series D Convertible Preferred Stock
(M)
    1,533,395       1,357,572  
                2,769,967  
                   
Ensemble Discovery Corporation (4)(5)(6)(16) -- Developing DNA
                 
Programmed Chemistry for the discovery of new classes of
                 
therapeutics and bioassays
                 
Series B Convertible Preferred Stock
(M)
    1,449,275       1,000,000  
Unsecured Convertible Bridge Note (including interest)
(M)
  $ 250,286       261,312  
                1,261,312  
                   
Innovalight, Inc. (4)(5)(6) -- Developing solar power
                 
products enabled by silicon-based nanomaterials
                 
Series B Convertible Preferred Stock
(M)
    16,666,666       4,288,662  
Series C Convertible Preferred Stock
(M)
    5,810,577       1,495,176  
                5,783,838  


The accompanying notes are an integral part of these consolidated financial statements.

 
10

 


HARRIS & HARRIS GROUP, INC.
CONSOLIDATED SCHEDULE OF INVESTMENTS AS OF MARCH 31, 2009
(Unaudited)

 
Method of
Valuation (1)
 
Shares/
Principal
   
Value
 
               
Investments in Non-Controlled Affiliated Companies (2)(11) – 40.6% of net assets at value (cont.)
             
               
Private Placement Portfolio (Illiquid) – 40.6% of net assets at value (cont.)
             
               
               
Kovio, Inc. (4)(5)(6)  --  Developing semiconductor products
             
using printed electronics and thin-film technologies
             
Series C Convertible Preferred Stock
(M)
    2,500,000     $ 2,561,354  
Series D Convertible Preferred Stock
(M)
    800,000       819,633  
Series E Convertible Preferred Stock
(M)
    1,200,000       1,229,450  
Warrants at $1.25 expiring 12/31/12
( I )
    355,880       247,337  
                4,857,774  
                   
Mersana Therapeutics, Inc. (4)(5)(6)(17) -- Developing advanced
                 
polymers for drug delivery
                 
Series A Convertible Preferred Stock
(M)
    68,451       68,451  
Series B Convertible Preferred Stock
(M)
    866,500       866,500  
Unsecured Convertible Bridge Note (including interest)
(M)
  $ 400,000       415,562  
Warrants at $2.00 expiring 10/21/10
( I )
    91,625       29,961  
                1,380,474  
                   
Metabolon, Inc. (4)(5) -- Discovering biomarkers through
                 
the use of metabolomics
                 
Series B Convertible Preferred Stock
(M)
    2,173,913       652,174  
Series B-1 Convertible Preferred Stock
(M)
    869,565       260,870  
Warrants at $1.15 expiring 3/25/15
( I )
    434,783       87,391  
                1,000,435  
                   
NanoGram Corporation (4)(5) -- Developing solar power products
                 
enabled by silicon-based nanomaterials
                 
Series I Convertible Preferred Stock
(M)
    63,210       31,131  
Series II Convertible Preferred Stock
(M)
    1,250,904       616,070  
Series III Convertible Preferred Stock
(M)
    1,242,144       611,756  
Series IV Convertible Preferred Stock
(M)
    432,179       212,848  
                1,471,805  
                   
Nanomix, Inc. (4)(5) -- Producing nanoelectronic sensors that
                 
integrate carbon nanotube electronics with silicon microstructures
                 
Series C Convertible Preferred Stock
(M)
    977,917       23,622  
Series D Convertible Preferred Stock
(M)
    6,802,397       6,428  
                30,050  


The accompanying notes are an integral part of these consolidated financial statements.

 
11

 


HARRIS & HARRIS GROUP, INC.
CONSOLIDATED SCHEDULE OF INVESTMENTS AS OF MARCH 31, 2009
(Unaudited)

 
Method of
Valuation (1)
 
Shares/
Principal
   
Value
 
               
Investments in Non-Controlled Affiliated Companies (2)(11) – 40.6% of net assets at value (cont.)
             
               
Private Placement Portfolio (Illiquid) – 40.6% of net assets at value (cont.)
             
               
               
Nextreme Thermal Solutions, Inc. (4)(5) -- Developing thin-film
             
thermoelectric devices for cooling and energy conversion
             
Series A Convertible Preferred Stock
(M)
    17,500     $ 875,000  
Series B Convertible Preferred Stock
(M)
    4,870,244       1,327,629  
                2,202,629  
                   
Questech Corporation (4)(5) -- Manufacturing and marketing
                 
proprietary metal and stone decorative tiles
                 
Common Stock
(M)
    655,454       99,097  
Warrants at $1.50 expiring 11/19/09
( I )
    5,000       0  
                99,097  
                   
Siluria Technologies, Inc. (4)(5)(6) -- Developing next-generation
                 
nanomaterials
                 
Series S-2 Convertible Preferred Stock
(M)
    482,218       0  
Unsecured Bridge Note (including interest)
(M)
  $ 42,542       43,046  
                43,046  
                   
Solazyme, Inc. (4)(5)(6) -- Developing algal biodiesel, industrial
                 
chemicals and special ingredients based on synthetic biology
                 
Series A Convertible Preferred Stock
(M)
    988,204       4,978,157  
Series B Convertible Preferred Stock
(M)
    495,246       2,494,841  
Series C Convertible Preferred Stock
(M)
    651,309       3,281,021  
                10,754,019  
                   
Xradia, Inc. (4)(5) -- Designing, manufacturing and selling ultra-high
                 
resolution 3D x-ray microscopes and fluorescence imaging systems
                 
Series D Convertible Preferred Stock
(M)
    3,121,099       4,000,000  
                   
                   
                   
                   
Total Non-Controlled Private Placement Portfolio (cost: $61,330,539)
            $ 44,338,636  
                   
Total Investments in Non-Controlled Affiliated Companies (cost: $61,330,539)
            $ 44,338,636  



The accompanying notes are an integral part of these consolidated financial statements.

 
12

 


HARRIS & HARRIS GROUP, INC.
CONSOLIDATED SCHEDULE OF INVESTMENTS AS OF MARCH 31, 2009
(Unaudited)

 
Method of
Valuation (1)
 
Shares/
Principal
   
Value
 
               
Investments in Controlled Affiliated Companies (2)(18) – 3.3% of net assets at value
             
               
Private Placement Portfolio (Illiquid) – 3.3% of net assets at value
             
               
               
Laser Light Engines, Inc. (4)(5)(6) -- Manufacturing solid-state light
             
sources for digital cinema and large-venue projection displays
             
Series A Convertible Preferred Stock
(M)
    7,499,062     $ 1,500,000  
                   
                   
SiOnyx, Inc. (4)(5)(6) -- Developing silicon-based optoelectronic
                 
products enabled by its proprietary "Black Silicon"
                 
Series A Convertible Preferred Stock
(M)
    233,499       67,843  
Series A-1 Convertible Preferred Stock
(M)
    2,966,667       861,965  
Series A-2 Convertible Preferred Stock
(M)
    4,207,537       1,222,500  
                2,152,308  
                   
                   
                   
Total Controlled Private Placement Portfolio (cost: $6,085,000)
            $ 3,652,308  
                   
                   
Total Investments in Controlled Affiliated Companies (cost: $6,085,000)
            $ 3,652,308  
                   
                   
Total Private Placement Portfolio (cost: $91,736,479)
            $ 58,793,688  





 
The accompanying notes are an integral part of these consolidated financial statements.

 
13

 


HARRIS & HARRIS GROUP, INC.
CONSOLIDATED SCHEDULE OF INVESTMENTS AS OF MARCH 31, 2009
(Unaudited)

 
Method of
Valuation (1)
 
Shares/
Principal
   
Value
 
               
U.S. Government Securities (19) – 47.0% of net assets at value
             
               
U.S. Treasury Bill    -- due date 04/30/09
(M)
  $ 51,348,000     $ 51,340,811  
                   
                   
                   
Total Investments in U.S. Government Securities (cost: $51,343,768)
            $ 51,340,811  
                   
                   
                   
Total Investments (cost: $143,080,247)
            $ 110,134,499  













The accompanying notes are an integral part of these consolidated financial statements.

 
14

 


HARRIS & HARRIS GROUP, INC.
CONSOLIDATED SCHEDULE OF INVESTMENTS AS OF MARCH 31, 2009
(Unaudited)

Notes to Consolidated Schedule of Investments

(1)
See Footnote to Consolidated Schedule of Investments on page 17 for a description of the Valuation Procedures.

(2)
Investments in unaffiliated companies consist of investments in which we own less than five percent of the voting shares of the portfolio company.  Investments in non-controlled affiliated companies consist of investments in which we own five percent or more, but less than 25 percent, of the voting shares of the portfolio company, or where we hold one or more seats on the portfolio company’s Board of Directors but do not control the company.  Investments in controlled affiliated companies consist of investments in which we own 25 percent or more of the voting shares of the portfolio company or otherwise control the company.

(3)
The aggregate cost for federal income tax purposes of investments in unaffiliated companies is $24,320,940.  The gross unrealized appreciation based on the tax cost for these securities is $862,081.  The gross unrealized depreciation based on the tax cost for these securities is $14,380,277.

(4)
Legal restrictions on sale of investment.

(5)
Represents a non-income producing security.  Equity investments that have not paid dividends within the last 12 months are considered to be non-income producing.

(6)
These investments are development stage companies.  A development stage company is defined as a company that is devoting substantially all of its efforts to establishing a new business, and either it has not yet commenced its planned principal operations, or it has commenced such operations but has not realized significant revenue from them.

(7)
With our purchase of Series E Convertible Preferred Stock of BioVex, we received a warrant to purchase a number of shares of common stock of BioVex as determined by dividing 624,999.99 by the price per share at which the common stock is offered and sold to the public in connection with the initial public offering.  The ability to exercise this warrant is therefore contingent on BioVex completing successfully an initial public offering before the expiration date of the warrant on September 27, 2012.  The exercise price of this warrant shall be 110 percent of the initial public offering price.

(8)
Cobalt Technologies, Inc., does business as Cobalt Biofuels.

(9)
Continuum Photonics, Inc., merged with Polatis, Ltd., to form Polatis, Inc.

(10)
With our purchase of the Series B Convertible Preferred Stock of TetraVitae Bioscience, Inc., we received the right to purchase, at a price of $2.63038528 per share, a number of shares in the Series C financing equal to the number of shares of Series B Preferred Stock purchased.  The ability to exercise this right is contingent on TetraVitae Bioscience completing successfully a subsequent round of financing.


The accompanying notes are an integral part of this consolidated schedule.

 
15

 


HARRIS & HARRIS GROUP, INC.
CONSOLIDATED SCHEDULE OF INVESTMENTS AS OF MARCH 31, 2009
(Unaudited)

(11)
The aggregate cost for federal income tax purposes of investments in non-controlled affiliated companies is $61,330,539.  The gross unrealized appreciation based on the tax cost for these securities is $8,174,077.  The gross unrealized depreciation based on the tax cost for these securities is $25,165,980.

(12)
BridgeLux, Inc., was previously named eLite Optoelectronics, Inc.

(13)
On February 28, 2008, Lifco, Inc., merged with CFX Battery, Inc.  The surviving entity is CFX Battery, Inc.

(14)
With our investments in secured convertible bridge notes issued by CSwitch, we received three warrants to purchase a number of shares of the class of stock sold in the next financing of CSwitch equal to $529,322, $985,835 and $249,750, respectively, the principal of the notes, divided by the lowest price per share of the class of stock sold in the next financing of CSwitch.  The ability to exercise these warrants is, therefore, contingent on CSwitch completing successfully a subsequent round of financing.  The warrants will expire five years from the date of the close of the next round of financing.  The cost basis of these warrants is $529, $986 and $250, respectively.

(15)
D-Wave Systems, Inc., is located and is doing business primarily in Canada.   We invested in D-Wave Systems, Inc., through D-Wave USA, a Delaware company.  Our investment is denominated in Canadian dollars and is subject to foreign currency translation.  See "Note 3. Summary of Significant Accounting Policies."

(16)
With our investment in a convertible bridge note issued by Ensemble Discovery, we received a warrant to purchase a number of shares of the class of stock sold in the next financing of Ensemble Discovery equal to $125,105.40 divided by the price per share of the class of stock sold in the next financing of Ensemble Discovery.  The ability to exercise this warrant is, therefore, contingent on Ensemble Discovery completing successfully a subsequent round of financing.  This warrant shall expire and no longer be exercisable on September 10, 2015.  The cost basis of this warrant is $75.20.

(17)
Mersana Therapeutics, Inc., was previously named Nanopharma Corp.

 (18)
The aggregate cost for federal income tax purposes of investments in controlled affiliated companies is $6,085,000.  The gross unrealized appreciation based on the tax cost for these securities is $0.  The gross unrealized depreciation based on the tax cost for these securities is $2,432,692.

(19)
The aggregate cost for federal income tax purposes of our U.S. government securities is $51,343,768.  The gross unrealized appreciation on the tax cost for these securities is $0.  The gross unrealized depreciation on the tax cost of these securities is $2,957.

The accompanying notes are an integral part of this consolidated schedule.

 
16

 


HARRIS & HARRIS GROUP, INC.
FOOTNOTE TO CONSOLIDATED SCHEDULE OF INVESTMENTS

VALUATION PROCEDURES

I.
Determination of Net Asset Value

The 1940 Act requires periodic valuation of each investment in the portfolio of the Company to determine its net asset value. Under the 1940 Act, unrestricted securities with readily available market quotations are to be valued at the current market value; all other assets must be valued at “fair value” as determined in good faith by or under the direction of the Board of Directors.

The Board of Directors is responsible for (1) determining overall valuation guidelines and (2) ensuring that the investments of the Company are valued within the prescribed guidelines.

The Valuation Committee, comprised of all of the independent Board members, is responsible for reviewing and approving the valuation of the Company’s assets within the guidelines established by the Board of Directors.  The Valuation Committee receives information and recommendations from management.

The values assigned to these investments are based on available information and do not necessarily represent amounts that might ultimately be realized, as such amounts depend on future circumstances and cannot reasonably be determined until the individual investments are actually liquidated or become readily marketable.


II.
Approaches to Determining Fair Value

Statement of Financial Accounting Standards No. 157, "Fair Value Measurements," ("SFAS No. 157") defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (exit price).

The main approaches to measuring fair value utilized are the market approach and the income approach.

 
·
Market Approach (M): The market approach uses prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities. For example, the market approach often uses market multiples derived from a set of comparables. Multiples might lie in ranges with a different multiple for each comparable. The selection of where within the range each appropriate multiple falls requires judgment considering factors specific to the measurement (qualitative and quantitative).

 
17

 

 
·
Income Approach (I): The income approach uses valuation techniques to convert future amounts (for example, cash flows or earnings) to a single present value amount (discounted). The measurement is based on the value indicated by current market expectations about those future amounts. Those valuation techniques include present value techniques; option-pricing models, such as the Black-Scholes-Merton formula (a closed-form model) and a binomial model (a lattice model), which incorporate present value techniques; and the multi-period excess earnings method, which is used to measure the fair value of certain assets.

SFAS No. 157 classifies the inputs used to measure fair value by these approaches into the following hierarchy:

 
·
Level 1:  Unadjusted quoted prices in active markets for identical assets or liabilities.

 
·
Level 2:  Quoted prices in active markets for similar assets or liabilities, or quoted prices for identical or similar assets or liabilities in markets that are not active, or inputs other than quoted prices that are observable for the asset or liability.
 
 
·
Level 3:  Unobservable inputs for the asset or liability.
 
Financial assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement.


III.
Investment Categories

The Company’s investments can be classified into five broad categories for valuation purposes:

 
·
Equity-related securities;
 
·
Long-term fixed-income securities;
 
·
Short-term fixed-income securities;
 
·
Investments in intellectual property, patents, research and development in technology or  product development; and
 
·
All other securities.

 
The Company applies the methods for determining fair value discussed above to the valuation of investments in each of these five broad categories as follows:

 
A.
EQUITY-RELATED SECURITIES

Equity-related securities, including warrants, are fair valued using the market or income approaches.  The following factors may be considered when the market approach is used to fair value these types of securities:

 
18

 

 
§
Readily available public market quotations;

 
§
The cost of the Company’s investment;

 
§
Transactions in a company's securities or unconditional firm offers by responsible parties as a factor in determining valuation;

 
§
The financial condition and operating results of the company;

 
§
The company's progress towards milestones.

 
§
The long-term potential of the business and technology of the company;

 
§
The values of similar securities issued by companies in similar businesses;

 
§
Multiples to revenue, net income or EBITDA that similar securities issued by companies in similar businesses receive;

 
§
The proportion of the company's securities we own and the nature of any rights to require the company to register restricted securities under applicable securities laws; and

 
§
The rights and preferences of the class of securities we own as compared to other classes of securities the portfolio company has issued.

When the income approach is used to value warrants, the Company uses the Black-Scholes-Merton formula.