As filed with the Securities and Exchange Commission on August 3, 2005
Securities Act Registration No. 333-112862
Investment Company Act File Number 814-176
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM N-2
REGISTRATION STATEMENT
UNDER THE SECURITIES ACT OF 1933:
PRE-EFFECTIVE AMENDMENT NO. [_]
POST-EFFECTIVE AMENDMENT NO. 2 [X]
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HARRIS & HARRIS GROUP, INC.
(Exact Name of Registrant as Specified in its Charter)
111 West 57/th/ Street
Suite 1100
New York, New York 10019
(Address of Principal Executive Offices)
(212) 582-0900
(Registrant's Telephone Number, including Area Code)
Charles E. Harris, Chairman, CEO
111 West 57/th/ Street
Suite 1100
New York, New York 10019
(Name and Address of Agent for Service)
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Copies to:
Sandra M. Forman, Esq. Richard T. Prins, Esq.
General Counsel Skadden, Arps, Slate,
Meagher & Flom LLP
Harris & Harris Group,
Inc. Four Times Square
111 West 57/th/ Street,
Suite 1100 New York, New York 10036
New York, NY 10019 (212) 735-3000
(212) 582-0900
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Approximate Date of Proposed Public Offering: From time to time after the
effective date of this Registration Statement
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If any securities being registered on this form will be offered on a
delayed or continuous basis in reliance on Rule 415 under the Securities Act of
1933, other than securities offered in connection with a dividend reinvestment
plan, check the following box. [X]
It is proposed that this filing will become effective when declared
effective pursuant to Section 8(c).
[X] This post-effective amendment designates a new effective date for a
previously filed registration statement.
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HARRIS & HARRIS GROUP, INC.
CROSS-REFERENCE SHEET
PART A--THE PROSPECTUS
Items in Part A of Form N-2 Location in Prospectus
- --------------------------- ----------------------
Item 1. Outside Front Cover............................... Front Cover Page
Item 2. Cover Pages; Other Offering Information........... Front Cover Page; Inside Front Cover
Page
Item 3. Fee Table and Synopsis............................ Prospectus Summary; Table of Fees and
Expenses
Item 4. Financial Highlights.............................. Management's Discussion and Analysis of
Financial Condition and Results of
Operations
Item 5. Plan of Distribution.............................. Prospectus Summary; Plan of Distribution
Item 6. Selling Shareholders.............................. Not Applicable
Item 7. Use of Proceeds................................... Use of Proceeds
Item 8. General Description of the Registrant............. Outside Front Cover; Business; Risk
Factors; Investment Policies; Price
Range of Common Stock; General
Description of our Portfolio Companies
Item 9. Management........................................ Management of the Company
Item 10. Capital Stock, Long-Term Debt and Other Securities Prospectus Summary; Capitalization;
Dividends and Distributions; Taxation;
Risk Factors
Item 11. Defaults and Arrears on Senior Securities......... Not Applicable
Item 12. Legal Proceedings................................. Management of the Company
Item 13. Table of Contents of the Statement of Additional
Information..................................... Not Applicable
Items in Part B of Form N-2/(1)/ Location in Prospectus
- -------------------------------- ----------------------
Item 14. Cover Page........................................ Not Applicable
Item 15. Table of Contents................................. Not Applicable
Item 16. General Information and History................... Not Applicable
Item 17. Investment Objective and Policies................. Business; Investment Policies
Item 18. Management of the Company......................... Management of the Company
Item 19. Control Persons and Principal Shareholders........ Management of the Company
Item 20. Investment Advisory and Other Services............ Management of the Company; Experts
Item 21. Portfolio Managers................................ Not Applicable
Item 22. Brokerage, Allocation and Other Practices......... Brokerage
Item 23. Tax Status........................................ Taxation
Item 24. Financial Statements.............................. Incorporation by Reference
PART C--OTHER INFORMATION
Items 25-34 have been answered in Part C of this Registration Statement.
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(1) Pursuant to General Instructions to Form N-2, all information required by
Part B: Statement of Additional Information has been incorporated into Part
A: The Prospectus of the Registration Statement.
The information in this Prospectus is not complete and may be changed. We may
not sell securities until the registration statement filed with the Securities
and Exchange Commission is effective. This Prospectus is not an offer to sell
these securities and is not soliciting an offer to buy these securities in any
state where the offer or sale is not permitted.
Subject to Completion
Preliminary Prospectus, Dated August 2, 2005
[LOGO]
HARRIS & HARRIS GROUP, INC./R/
3,550,000 Shares
Common Stock
Harris & Harris Group, Inc.(R), is a venture capital company specializing
in tiny technology that operates as a non-diversified business development
company under the Investment Company Act of 1940. We may offer, from time to
time, shares of our common stock, $0.01 par value per share ("Common Stock"),
in one or more offerings. On July 7, 2004, we issued and sold 3,450,000 shares
of the 7,000,000 shares of our Common Stock registered, resulting in 3,550,000
remaining shares that may be offered pursuant to this Prospectus. The Common
Stock may be offered at prices and on terms to be set forth in one or more
supplements to this Prospectus (each a "Prospectus Supplement"). The offering
price per share of our Common Stock less any underwriting commissions or
discounts will not be less than the net asset value per share of our Common
Stock at the time we make the offering. You should read this Prospectus and the
applicable Prospectus Supplement carefully before you invest in our Common
Stock.
Our Common Stock may be offered directly to one or more purchasers
through agents designated from time to time by us, or to or through
underwriters or dealers. The Prospectus Supplement relating to the offering
will identify any agents or underwriters involved in the sale of our Common
Stock, and will set forth any applicable purchase price, fee, commission or
discount arrangement between us and our agents or underwriters, or among our
underwriters or the basis upon which such amount may be calculated. We may not
sell any of our Common Stock through agents, underwriters or dealers without
delivery of a Prospectus Supplement describing the method and terms of the
particular offering of our Common Stock. Our Common Stock is listed on the
Nasdaq National Market under the symbol "TINY." On August 1, 2005, the last
reported sale price of our Common Stock was $13.16.
An Investment in the Securities Offered in this Prospectus Involves a
High Degree of Risk. You Should Consider Investing in Us Only if You Are
Capable of Sustaining the Loss of Your Entire Investment. See "Risk Factors"
beginning on page 9.
This Prospectus sets forth concisely the information about us that a
prospective investor should know before investing. You should read this
Prospectus before deciding whether to invest in our Common Stock and retain it
for future reference. You may obtain our annual reports, request other
information about us and make shareholder inquiries by calling toll free
877-TINY TECH. We also make available our annual reports, free of charge, on
our website at www.TinyTechVC.com. Information on our website is not part of
this Prospectus and should not be considered as such when making your
investment decision. Material incorporated by reference and other information
about us can be obtained from the Securities and Exchange Commission's ("SEC")
website (http://www.sec.gov).
Neither the SEC nor any state securities commission has approved or
disapproved these securities or determined if this Prospectus is truthful or
complete. Any representation to the contrary is a crime.
This Prospectus may not be used to consummate sales of Common Stock by us
through agents, underwriters or dealers unless accompanied by a Prospectus
Supplement.
The date of the Prospectus is , 2005.
You should rely only on the information contained or incorporated by
reference in this Prospectus. We have not authorized any other person to
provide you with different information. If anyone provides you with different
or inconsistent information, you should not rely on it. We are not making an
offer to sell these securities in any jurisdiction in which the offer or sale
is not permitted.
In this Prospectus, unless otherwise indicated, "Harris & Harris,"
"Company," "us," "our" and "we" refer to Harris & Harris Group, Inc.(R)
"Harris & Harris Group, Inc.(R)" is a registered service mark. This Prospectus
also includes trademarks owned by other persons.
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TABLE OF CONTENTS
Page
----
PROSPECTUS SUMMARY.....................................................
1
TABLE OF FEES AND EXPENSES.............................................
7
INCORPORATION BY REFERENCE.............................................
8
RISK FACTORS...........................................................
9
FORWARD-LOOKING INFORMATION............................................
20
USE OF PROCEEDS........................................................
20
PRICE RANGE OF COMMON STOCK............................................
21
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS........................................................
22
SELECTED CONDENSED CONSOLIDATED FINANCIAL DATA.........................
24
BUSINESS...............................................................
36
GENERAL DESCRIPTION OF OUR PORTFOLIO COMPANIES.........................
40
DETERMINATION OF NET ASSET VALUE.......................................
46
INVESTMENT POLICIES....................................................
49
MANAGEMENT OF THE COMPANY..............................................
54
BROKERAGE..............................................................
68
DIVIDENDS AND DISTRIBUTIONS............................................
68
TAXATION...............................................................
69
CERTAIN GOVERNMENT REGULATIONS.........................................
72
CAPITALIZATION.........................................................
73
PLAN OF DISTRIBUTION...................................................
74
LEGAL MATTERS..........................................................
75
EXPERTS................................................................
75
FURTHER INFORMATION....................................................
76
PRIVACY PRINCIPLES OF THE COMPANY......................................
76
PROSPECTUS SUMMARY
This summary highlights information that is described more fully
elsewhere in this Prospectus and in the documents to which we have referred. It
may not contain all of the information that is important to you. To understand
the offering fully, you should read the entire document carefully, including
the risk factors beginning on page 9.
Our Business
Harris & Harris Group, Inc.(R), is a venture capital company specializing
in tiny technology that operates as a non-diversified business development
company under the Investment Company Act of 1940, which we refer to as the 1940
Act. For tax purposes, we operate as a regulated investment company under
Subchapter M of the Internal Revenue Code of 1986, which we refer to as the
Code. Our investment objective is to achieve long-term capital appreciation,
rather than current income, by making venture capital investments in
early-stage companies. Our approach is comprised of a patient examination of
available early stage opportunities, through due diligence and close
involvement with management.
We make initial venture capital investments exclusively in "tiny
technology," which we define as microsystems, microelectromechanical systems
(which we refer to as MEMS) and nanotechnology. We consider a company to be a
tiny technology company if the company employs intellectual property that we
consider to be at the microscale or smaller and that is material to its
business plan. Our portfolio includes non-tiny technology investments made
prior to 2001, and we may make follow-on investments in either tiny or non-tiny
technology companies. By making these investments, we seek to provide our
shareholders with an increasingly specific focus on tiny technology through a
portfolio of venture capital investments that address a variety of markets and
products. We believe that we are the only publicly traded, business development
company making initial venture capital investments exclusively in tiny
technology.
Tiny technology is multidisciplinary and widely applicable, and it
incorporates technology that is significantly smaller than is currently in
widespread use. Microsystems are measured in micrometers, which are units of
measurement in millionths of a meter. Nanotechnology is measured in nanometers,
which are units of measurement in billionths of a meter. Because it is a new
field, tiny technology has significant scientific, engineering, and
commercialization risks. See "Business" and "Risk Factors."
As a venture capital company, we make it possible for our investors to
participate at an early stage in this emerging field while our portfolio
companies are still private. By making investments in companies that control
intellectual property relevant to tiny technology, we are building a portfolio
that we believe will be difficult to replicate in the future, as we believe it
will likely become increasingly difficult to create new foundational
intellectual property in nanotechnology. To the investor, we offer:
. a portfolio consisting of investments that are generally available
only to a small, highly specialized group of investors;
. a team of professionals including five full time members of
management, four of whom are designated as Managing Directors, Charles
E. Harris, Douglas W. Jamison, Daniel V. Leff and Alexei A. Andreev,
and a Vice President, Daniel B. Wolfe, to evaluate and monitor
investments. Two of our directors are also consultants to us,
Dr. Kelly S. Kirkpatrick and Lori D. Pressman. These seven
professionals collectively have expertise in venture capital
investing, intellectual property, and tiny technology;
. the opportunity to benefit from our experience in a new field expected
to permeate a variety of industries; and
1
. through the ownership of our publicly traded shares, a measure of
liquidity not typically available in underlying venture capital
portfolio investments.
The number of tiny technology investment opportunities available to us
has increased over the past three years, through both new opportunities and
opportunities for follow-on investments in our existing portfolio companies. We
believe that our expertise and record of prior investments in tiny technology
are likely to lead us to additional tiny technology investment opportunities in
the future. We intend to use the net proceeds of this offering to:
. increase our capital in order to take advantage of these investment
opportunities;
. increase the types of tiny technology companies in our portfolio;
. increase the percentage of our total assets invested in tiny
technology;
. lower our expenses as a percentage of assets and otherwise achieve
certain economies and advantages of scale in our operations; and
. pay operating expenses, including due diligence expenses on potential
investments.
We identify investment opportunities primarily through four channels:
. our involvement in the field of tiny technology;
. research universities that seek to transfer their scientific
discoveries to the private sector;
. other venture capital companies seeking co-investors; and
. direct calls and business plan submissions by companies, business
incubators and individuals seeking venture capital.
Since registering as an investment company in 1992, we have invested in a
variety of industries. In 1994, we invested in our first tiny technology
company, Nanophase Technologies Corporation. In 1995, we elected to be
regulated as a business development company. Recognizing the potential of tiny
technology, we continued to monitor developments in the field and, since 2001,
we have made tiny technology our exclusive focus for initial investments. From
August 2001 through the present, all 24 of our initial investments have been in
companies involved in the development of products and technologies based on
tiny technology.
Our portfolio now includes investments in a total of 26 companies, 21 of
which we consider to be involved in tiny technology. We are an internally
managed investment company; that is, our officers and employees, rather than an
investment adviser, manage our operations under the general supervision of our
Board of Directors.
As is usual in the venture capital industry, our venture capital
investments are generally in convertible preferred stock, which is usually the
most senior security in a portfolio company's equity capital structure until
the company has substantial revenues, and which gives us seniority over the
holders of Common Stock (usually the founders) while preserving fully our
participation in the upside potential of the portfolio company through the
conversion feature. In many cases, our portfolio investments include a dividend
right payable in kind (which
2
increases our participation in the portfolio company) or potentially in cash.
In-kind distributions are primarily made in additional shares of convertible
preferred stock, and we would expect to continue to invest in convertible
securities.
Tiny Technology
Tiny technology is neither an industry nor a single technology, but a
variety of enabling technologies with critical dimensions below 100
micrometers. Tiny technology manifests itself in tools, materials and devices
that address broad markets, including instrumentation, electronics, photonics,
computing, medical devices, pharmaceutical manufacturing, drug delivery and
drug discovery. The development and commercialization of tiny technology often
require the integration of multiple disciplines, including biology, physics,
chemistry, materials science, computer science and the engineering sciences.
Examples of tiny technology-enabled products currently on the market are
quite diverse. They include accelerometers used in automobiles to sense impact
and deploy airbags, cosmetics with ingredients that block ultraviolet light but
that are invisible to the human eye, nanoclays used for strength in the running
boards of minivans, textiles with liquid-stain repellant surfaces, fast acting
painkillers and certain pharmaceutical therapeutics.
Within tiny technology, microsystems and MEMS both refer to materials,
devices and processes that are on a micrometer size scale. A micrometer, which
is also referred to as a micron, is 0.000001 meter, or one millionth of a
meter. In practice, any device, or device enabled by components, in a size
range from 100 microns down to 0.1 micron may be considered "micro."
Nanotechnology refers to materials, devices and processes with critical
dimensions below 0.1 micron, equal to 100 nanometers. A nanometer is
0.000000001 meter, or one billionth of a meter. It is at the scale below 100
nanometers, the nanoscale, that quantum effects begin to dominate classical
macroscale physics. At the nanoscale, size- and shape-dependent properties of
materials allow previously unattainable material and device performance.
Although the practical application of tiny technology requires great
expertise to implement in manufacturing processes, we believe that tiny
technology's broad applicability presents significant and diverse market
opportunities.
Risk Factors
Set forth below is a summary of certain risks that you should carefully
consider before investing in our Common Stock. See "Risk Factors" beginning on
page 9 for a more detailed discussion of the risks of investing in our Common
Stock.
Risks related to the companies in our portfolio.
. Investing in small, private companies involves a high degree of risk
and is highly speculative.
. We may invest in companies working with technologies or intellectual
property that currently have few or no proven commercial applications.
. Our portfolio companies may not successfully develop their products.
. Our portfolio companies working with tiny technology may be
particularly susceptible to intellectual property litigation.
3
. Our portfolio companies may not currently have the ability to
manufacture nanotechnology-enabled products in volume and will not be
able to sell products without developing volume manufacturing
capabilities.
. Even if our portfolio companies develop commercially acceptable
products, they may not be able to manufacture their products in a
profitable, cost-effective manner.
. Our portfolio companies may not successfully market their products.
. Our portfolio companies will need to achieve commercial acceptance of
their products to obtain product revenue and achieve profitability and
may not be able to do so.
. Unfavorable economic conditions could result in the inability of our
portfolio companies to access additional capital, leading to financial
losses in our portfolio.
. The value of our portfolio could be adversely affected if the
technologies utilized by our portfolio companies are found to cause
health or environmental risks.
. Public perception of ethical and social issues regarding
nanotechnology may limit or discourage the use of
nanotechnology-enabled products, which could reduce our portfolio
companies' revenues and harm our business.
Risks related to the illiquidity of our investments.
. We invest in illiquid securities and may not be able to dispose of
them when it is advantageous to do so, or ever.
. Unfavorable economic conditions and regulatory changes could impair
our ability to engage in liquidity events.
. Even if our portfolio companies complete initial public offerings, the
returns on our investments may be uncertain.
Risks related to our Company.
. Because there is generally no established market in which to value our
investments, our Valuation Committee's value determinations may differ
materially from the values that a ready market or third party would
attribute to these investments.
. Because we are a non-diversified company with a relatively
concentrated portfolio, the value of our business is subject to
greater volatility than the value of companies with more broadly
diversified investments.
. We may be obligated to pay substantial amounts under our
profit-sharing plan.
. Although we have specialized in tiny technology since 2001, as of June
30, 2005 approximately 50 percent of the net asset value attributable
to our venture capital investment portfolio, or 29 percent of our net
asset value, is concentrated in one company, NeuroMetrix, Inc. We
initially invested in 1996 as a seed investor in NeuroMetrix, Inc.,
which is not a tiny technology company.
4
. We are dependent upon key management personnel for future success and
may not be able to retain them.
. We will need to hire additional employees as the size of our portfolio
increases.
. The market for venture capital investments, including tiny technology
investments, is highly competitive.
. In addition to the difficulty of finding attractive investment
opportunities, our status as a regulated business development company
may hinder our ability to participate in investment opportunities or
to protect the value of existing investments.
. Our failure to make follow-on investments in our portfolio companies
could impair the value of our portfolio.
. Bank borrowing or the issuance of debt securities or preferred stock
by us to fund investments in portfolio companies or to fund our
operating expenses would make our total return to common shareholders
more volatile. The use of debt would leverage our available common
equity capital, magnifying the impact of changes in the value of our
investment portfolio on our net asset value. In addition, the cost of
debt or preferred stock financing may exceed the return on the assets
the proceeds are used to acquire, in which case the use of leverage
will have an adverse impact on the holders of our Common Stock.
. We are authorized to issue preferred stock, which would convey special
rights and privileges to its owners senior to those of Common Stock
shareholders.
. Loss of status as a RIC would reduce our net asset value and
distributable income.
. We operate in a heavily regulated environment and changes to or
non-compliance with regulations and laws could harm our business.
. If we are unable to remediate a material weakness previously
identified in our internal controls, or have other significant
deficiencies or material weaknesses, our ability to report our
financial results on a timely and accurate basis may be adversely
affected.
. We expect that the market price of our Common Stock will be volatile.
. Quarterly results fluctuate and are not indicative of future quarterly
performance.
. To the extent that we do not realize income or retain after-tax
realized capital gains, we may have a greater need for additional
capital to fund our investments and operating expenses.
. Investment in foreign securities could result in additional risks.
Risks related to this offering.
. Investing in our stock is highly speculative and an investor could
lose some or all of the amount invested.
. We will have discretion over the use of proceeds of this offering.
5
. Our shares might trade at discounts from net asset value or at
premiums that are unsustainable over the long term, and currently
trade at a substantial premium over net asset value that may not be
sustainable over the long term.
. Our former independent public accountant, Arthur Andersen LLP, no
longer practices, and you may be unable to exercise effective remedies
against it in any legal action.
. You have no right to require us to repurchase your shares.
Other Information
Our website is www.TinyTechVC.com and is not incorporated by reference
into this Prospectus. We make available free of charge through our website the
following materials (which are not incorporated by reference unless
specifically stated in this Prospectus) as soon as reasonably practicable after
filing or furnishing them to the SEC:
. our annual reports on Form 10-K;
. our quarterly reports on Form 10-Q;
. our current reports on Form 8-K; and
. amendments to those reports.
The Offering
Common Stock offered........ We may offer, from time to time, up to a total of
3,550,000 shares of our Common Stock available
under this Prospectus on terms to be determined
at the time of the offering. Our Common Stock may
be offered at prices and on terms to be set forth
in one or more Prospectus Supplements. The
offering price per share of our Common Stock net
of underwriting commissions or discounts will not
be less than the net asset value per share of our
Common Stock.
Use of proceeds............. Although we will make initial investments
exclusively in tiny technology, we can make
follow-on investments in non-tiny technology
companies currently in our portfolio. Further,
while considering venture capital investments, we
may invest the proceeds in U.S. government and
government agency securities, which are likely to
yield less than our operating expense ratio. We
expect to invest or reserve for potential
follow-on investment the net proceeds of any sale
of shares under this Prospectus within two years
from the completion of such sales. We may also
use the proceeds of this offering for operating
expenses, including due diligence expenses on
potential investments. Reserves for follow-on
investments referred to above in any particular
portfolio holding may be no more than the greater
of twice the investment to date in that portfolio
holding or five times the initial investment in
the case of seed-stage investments.
Nasdaq National Market symbol TINY
6
TABLE OF FEES AND EXPENSES
The following tables are intended to assist you in understanding the
various costs and expenses directly or indirectly associated with investing in
our Common Stock. Amounts are for the current fiscal year after giving effect
to anticipated net proceeds of the offering for the 3,550,000 shares remaining
from the 7,000,000 shares originally registered pursuant to the registration
statement of which this Prospectus is a part, assuming that we incur the
estimated offering expenses. The price per share used in this calculation was
the closing price of our Common Stock on August 1, 2005 of $13.16.
Shareholder Transaction Expenses
Sales Load/(1)/ (as a percentage of offering price)...................... 0.00%
Offering Expenses (as a percentage of offering price).................... .73
Annual Expenses (as a percentage of net assets attributable to Common Stock)
Management Fees/(2)/..................................................... N/A
Other Expenses/(3)/
Salaries and Benefits/(4)/........................................... 2.00%
Administration and Operations/(5)/................................... 1.50
Professional Fees.................................................... .69
Total Annual Expenses....................................................... 4.19%
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(1) In the event that the shares of Common Stock to which this Prospectus
relates are sold to or through underwriters, a corresponding Prospectus
Supplement will disclose the sales load.
(2) The Company has no external management fees because it is internally
managed.
(3) "Other Expenses" are based on estimated amounts for the current fiscal year.
(4) "Salaries and Benefits" excludes a profit-sharing accrual that is
calculated pursuant to the 2002 Employee Profit-Sharing Plan. The accrual
calculation includes all unrealized gains, and excludes all unrealized
losses. This methodology results in a fluctuation in our accrual, but is
not reflective of actual payments made under the Plan. Plan payments
require the existence of qualifying income and consider only realized gains
and losses (unrealized gains are excluded). For the six months ended
June 30, 2005, we calculated a profit-sharing accrual of $1,700,871 that
primarily relates to an unrealized gain resulting from an increase in the
value of our investment in NeuroMetrix of $9,671,705. See "Management of
the Company--Incentive Compensation Plan."
(5) "Administration and Operations" include expenses incurred for
administration, operations, rent, directors' fees and expenses,
depreciation and custodian fees.
7
Example
The following examples illustrate the dollar amount of cumulative
expenses that would be incurred over various periods with respect to a
hypothetical investment in our Common Stock. These amounts are based upon
payment by us of expenses at levels set forth in the above table.
You would pay the following expenses on a $10,000 investment, assuming a
five percent annual return:
1 Year 3 Years 5 Years 10 Years
------ ------- ------- --------
$491 $1,336 $2,195 $4,405
The foregoing table is to assist you in understanding the various costs
and expenses that an investor in our Common Stock will bear directly or
indirectly. The assumed 5 percent annual return is not a prediction of, and
does not represent, the projected or actual performance of our Common Stock.
The above example should not be considered a representation of future expenses,
and actual expenses and annual rates of return may be more or less than those
assumed for purposes of the example.
INCORPORATION BY REFERENCE
The financial statements as of December 31, 2004 and 2003 and for each of
the three years in the period ended December 31, 2004, and the financial
statements as of June 30, 2005 and for the fiscal periods ended June 30, 2005
and 2004, have been incorporated by reference into the Prospectus from the
Company's Annual Report on Form 10-K and Quarterly Report on Form 10-Q. These
financial statements either accompany this Prospectus or have previously been
provided to the person to whom this Prospectus is being sent. We will furnish,
without charge, a copy of such financial statements upon request by writing to
111 West 57/th/ Street, Suite 1100, New York, New York 10019, Attention:
Investor Relations, or calling 877-TINY TECH.
8
RISK FACTORS
Investing in our Common Stock involves significant risks relating to our
business and investment objective. You should carefully consider the risks and
uncertainties described below before you purchase any of our Common Stock.
These risks and uncertainties are not the only ones we face. Unknown additional
risks and uncertainties, or ones that we currently consider immaterial, may
also impair our business. If any of these risks or uncertainties materialize,
our business, financial condition or results of operations could be materially
adversely affected. In this event, the trading price of our Common Stock could
decline, and you could lose all or part of your investment.
Risks related to the companies in our portfolio.
Investing in small, private companies involves a high degree of risk and
is highly speculative.
We have invested a substantial portion of our assets in privately held
development stage or start-up companies. These businesses tend to lack
management depth, to have limited or no history of operations and to have not
attained profitability. Tiny technology companies are especially risky,
involving scientific, technological and commercialization risks. Because of the
speculative nature of these investments, these securities have a significantly
greater risk of loss than traditional investment securities. Some of our
venture capital investments are likely to be complete losses or unprofitable,
and some will never realize their potential. We have been and will continue to
be risk seeking rather than risk averse in our approach to venture capital and
other investments. Neither our investments nor an investment in our Common
Stock is intended to constitute a balanced investment program.
We may invest in companies working with technologies or intellectual
property that currently have few or no proven commercial applications.
Nanotechnology, in particular, is a developing area of technology, of
which much of the future commercial value is unknown, difficult to estimate and
subject to widely varying interpretations. There are as of yet relatively few
nanotechnology products commercially available. The timing of additional future
commercially available nanotechnology products is highly uncertain.
Our portfolio companies may not successfully develop their products.
The technology of our portfolio companies is new and in many cases
unproven. Their potential products require significant and lengthy product
development efforts. To date, many of our portfolio companies have not
developed any commercially available products. If our portfolio companies are
not able to develop successful tiny technology-enabled products, they will be
unable to generate product revenue or build sustainable or profitable
businesses.
Our portfolio companies working with tiny technology may be particularly
susceptible to intellectual property litigation.
Research and commercialization efforts in tiny technology are being
undertaken by a wide variety of government, academic and private corporate
entities. As additional commercially viable applications of tiny technology
begin to emerge, ownership of intellectual property on which these products are
based may be contested. Any litigation over the ownership of, or rights to, any
of our portfolio companies' technologies or products would have a material
adverse effect on those companies' values.
9
Our portfolio companies may not currently have the ability to manufacture
nanotechnology-enabled products in volume and will not be able to sell products
without developing volume manufacturing capabilities.
The manufacture of our portfolio companies' potential
nanotechnology-enabled products is unproven and will require long lead times to
establish adequate facilities. Some of the potential products may require our
portfolio companies to manufacture large volumes of materials in order to meet
commercial demand that are substantially larger than their current
capabilities. Our portfolio companies may not be able to develop commercial
scale manufacturing capabilities or produce products cost effectively. If our
portfolio companies are unable to manufacture economically or to produce their
products in commercial quantities that meet acceptable performance and quality
specifications, we could suffer financial losses in our portfolio.
Even if our portfolio companies develop commercially acceptable products,
they may not be able to manufacture their products in a profitable, cost
effective manner.
Even if the technology and products of our portfolio companies gain
commercial acceptance, they may not be able to manufacture their products in a
profitable manner. Even if our portfolio companies are able to manufacture
their products on a commercial scale, the cost of manufacturing their products
may be higher than they expect. If manufacturing costs and royalty obligations
are not significantly less than the prices at which they can sell their
products, it would lead to financial losses in our portfolio.
Our portfolio companies may not successfully market their products.
Even if our portfolio companies are able to develop commercially viable
products, the market for new products and services is highly competitive,
rapidly changing and especially sensitive to adverse general economic
conditions. Commercial success is difficult to predict, and the marketing
efforts of our portfolio companies may not be successful.
Our portfolio companies will need to achieve commercial acceptance of
their products to obtain product revenue and achieve profitability and may not
be able to do so.
Even if the products of our portfolio companies are technologically
feasible, these early-stage companies may not successfully develop commercially
viable products on a timely basis, if at all. It could be at least several
years before many of our portfolio companies develop initial products that are
commercially available and, during this period, superior competitive
technologies may be introduced or customer needs may change resulting in some
products being unsuitable for commercialization. The revenue growth and
achievement of profitability by our portfolio companies will depend
substantially on their ability to introduce new products into the marketplace
that are widely accepted by customers. If they are unable to achieve commercial
acceptance of their products in a cost-effective manner, the value of our
portfolio could be significantly adversely affected.
Unfavorable economic conditions could result in the inability of our
portfolio companies to access additional capital, leading to financial losses
in our portfolio.
Most of the companies in which we have made or will make investments are
susceptible to economic slowdowns or recessions. An economic slowdown or
adverse capital or credit market conditions may affect the ability of a company
in our portfolio to raise additional capital from venture capital or other
sources or to engage in a liquidity event such as an initial public offering or
merger. Adverse economic, capital or credit market conditions may lead to
financial losses in our portfolio.
10
The value of our portfolio could be adversely affected if the
technologies utilized by our portfolio companies are found to cause health or
environmental risks.
Our portfolio companies work with new technologies, which could have
potential environmental and health impacts. Tiny technology in general and
nanotechnology in particular are currently the subject of health and
environmental impact research. If health or environmental concerns about tiny
technology or nanotechnology were to arise, whether or not they had any basis
in fact, our portfolio companies might incur additional research, legal and
regulatory expenses, might have difficulty raising capital or marketing their
products.
Public perception of ethical and social issues regarding nanotechnology
may limit or discourage the use of nanotechnology-enabled products, which could
reduce our portfolio companies' revenues and harm our business.
Nanotechnology has received both positive and negative publicity and is
the subject increasingly of public discussion and debate. Government
authorities could, for social or other purposes, prohibit or regulate the use
of nanotechnology. Ethical and emotional concerns about nanotechnology could
adversely affect acceptance of the potential products of our portfolio
companies or lead to new government regulation of nanotechnology-enabled
products. For example, debate regarding the production of materials that could
cause harm to the environment or the health of individuals could raise concerns
in the public's perception of nanotechnology, not all of which may be rational
or scientifically based.
Risks related to the illiquidity of our investments.
We invest in illiquid securities and may not be able to dispose of them
when it is advantageous to do so, or ever.
Most of our investments are or will be equity or equity-linked securities
acquired directly from small companies. These equity securities are generally
subject to restrictions on resale or otherwise have no established trading
market. The illiquidity of most of our portfolio of equity securities may
adversely affect our ability to dispose of these securities at times when it
may be advantageous for us to liquidate these investments. We may never be able
to dispose of these securities.
Unfavorable economic conditions and regulatory changes could impair our
ability to engage in liquidity events.
Our business of making private equity investments and positioning our
portfolio companies for liquidity events may be adversely affected by current
and future capital markets and economic conditions. The public equity markets
currently provide less opportunity for liquidity events than at times in the
past when there was more robust demand for initial public offerings, even for
more mature technology companies than those in which we typically invest. The
potential for public market liquidity could further decrease and could lead to
an inability to realize potential gains or could lead to financial losses in
our portfolio and a decrease in our revenues, net income and assets. Recent
government reforms affecting publicly traded companies, stock markets,
investment banks and securities research practices have made it more difficult
for privately held companies to complete successful initial public offerings of
their equity securities, and such reforms have increased the expense and legal
exposure of being a public company. Slowdowns in initial public offerings also
have an adverse effect on the frequency and prices of acquisitions of privately
held companies. The lack of merger and/or acquisition opportunities for
privately held companies also has an adverse effect on the ability of these
companies to raise capital from private sources. Public equity market response
to company offerings of nanotechnology-enabled products is uncertain. An
inability to engage in liquidity events could negatively affect our liquidity,
our reinvestment rate in new and follow-on investments and the value of our
portfolio.
11
Even if our portfolio companies complete initial public offerings, the
returns on our investments may be uncertain.
When companies in which we have invested as private entities complete
initial public offerings of their securities, these newly issued securities are
by definition unseasoned issues. Unseasoned issues tend to be highly volatile
and have uncertain liquidity, which may negatively affect their price. In
addition, we are typically subject to lock-up provisions which prohibit us from
selling our investments into the public market for specified periods of time
after initial public offerings. The market price of securities that we hold may
decline substantially before we are able to sell these securities. Most initial
public offerings of technology companies are listed on the Nasdaq National
Market. Recent government reforms of the Nasdaq National Market have made
market making by broker-dealers less profitable, which has caused
broker-dealers to reduce their market making activities, thereby making the
market for unseasoned stocks less liquid.
Risks related to our Company.
Because there is generally no established market in which to value our
investments, our Valuation Committee's value determinations may differ
materially from the values that a ready market or third party would attribute
to these investments.
There is generally no public market for the equity securities in which we
invest. Pursuant to the requirements of the Investment Company Act of 1940,
which we refer to as the 1940 Act, we value all of the private equity
securities in our portfolio at fair value as determined in good faith by the
Valuation Committee of our Board of Directors, pursuant to Valuation Procedures
established by the Board of Directors. As a result, determining fair value
requires that judgment be applied to the specific facts and circumstances of
each portfolio investment pursuant to specified valuation principles and
processes. We are required by the 1940 Act to value specifically each
individual investment on a quarterly basis and record unrealized depreciation
for an investment that we believe has become impaired. Conversely, we must
record unrealized appreciation if we believe that the underlying portfolio
company has appreciated in value. Without a readily ascertainable market value
and because of the inherent uncertainty of valuation, the fair value that we
assign to our investments may differ from the values that would have been used
had an efficient market existed for the investments, and the difference could
be material. Any changes in fair value are recorded in our consolidated
statements of operations as a change in the "Net (decrease) increase in
unrealized appreciation on investments." See "Determination of Net Asset Value."
In the venture capital industry, even when a portfolio of early stage,
high-technology venture capital investments proves to be profitable over the
portfolio's lifetime, it is common for the portfolio's value to undergo a
so-called "J-curve" valuation pattern, which means that when reflected on a
graph, the portfolio's valuation would appear in the shape of the letter "J,"
declining from the initial valuation prior to increasing in valuation. This
J-curve valuation pattern results from write-downs and write-offs of portfolio
investments that appear to be unsuccessful, prior to write-ups for portfolio
investments that prove to be successful. Even if our venture capital
investments prove to be profitable in the long run, such J-curve valuation
patterns could have a significant adverse effect on the value of our Common
Stock in the interim. As we continue to make additional tiny technology
investments, this J-curve pattern may not be relevant for the portfolio as a
whole because the individual J-curves for each investment, or series of
investments, may overlap with previous investments at different stages of their
J-curves.
Because we are a non-diversified company with a relatively concentrated
portfolio, the value of our business is subject to greater volatility than the
value of companies with more broadly diversified investments.
As a result of our assets being invested in the securities of a small
number of issuers, we are classified as a non-diversified company. We may be
more vulnerable to events affecting a single issuer or industry and therefore
subject to greater volatility than a company whose investments are more broadly
diversified. Accordingly, an investment in our Common Stock may present greater
risk to you than an investment in a diversified company.
12
We may be obligated to pay substantial amounts under our profit-sharing
plan.
Our employee profit-sharing plan requires us to distribute to our
officers and employees 20 percent of any net after-tax realized income as
reflected on our consolidated statements of operations for that year, less any
non-qualifying gain. Payments may be made under our profit-sharing plan in a
particular year, even if we have incurred losses in previous years. These
distributions reduce funds available for investment and may have a significant
effect on the amount of direct distributions in the form of cash dividends, or
indirect distributions in the form of tax credits, if any, made to our
shareholders.
Although we have specialized in tiny technology since 2001, as of June
30, 2005, approximately 50 percent of the net asset value attributable to our
venture capital investment portfolio, or 29 percent of our net asset value, is
concentrated in one company, NeuroMetrix, Inc. We initially invested in 1996 as
a seed investor in NeuroMetrix, Inc., which is not a tiny technology company.
At June 30, 2005, we valued our investment in NeuroMetrix, Inc.
("NeuroMetrix"), which had a historical cost to us of $4,411,373, at
$22,785,527, or 50.2 percent of the net asset value attributable to our venture
capital investment portfolio, or 28.7 percent of our net asset value.
NeuroMetrix, Inc. is a non-tiny technology company. We made our initial
investment as a seed investor in NeuroMetrix in 1996, prior to 2001 when we
began our focus on tiny technology. It is publicly traded on the Nasdaq
National Market and is often thinly traded. Any downturn in the market price of
NeuroMetrix's stock or its business outlook, in general, or any failure of its
products to receive widespread acceptance in the marketplace, would have a
significant effect on our specific investment in NeuroMetrix, Inc., and on the
overall value of our portfolio.
All 24 of our initial investments from August 2001 through the present
have been in tiny technology companies, and we consider 21 of the companies in
our current venture capital investment portfolio to be tiny technology
companies. Nevertheless, at June 30, 2005, only 49.6 percent of the net asset
value attributable to our venture capital investment portfolio, or 28.3 percent
of our net asset value, was invested in tiny technology companies, which may
limit our ability to achieve our investment objective.
We are dependent upon key management personnel for future success and may
not be able to retain them.
We are dependent for the selection, structuring, closing and monitoring
of our investments on the diligence and skill of our senior management and
other key advisers. We utilize lawyers and outside consultants, including two
of our directors, Dr. Kelly S. Kirkpatrick and Lori D. Pressman, to assist us
in conducting due diligence when evaluating potential investments. There is
generally no publicly available information about the companies in which we
invest, and we rely significantly on the diligence of our employees and
advisers to obtain information in connection with our investment decisions. Our
future success to a significant extent depends on the continued service and
coordination of our senior management team, and particularly depends on our
Chairman and Chief Executive Officer, Charles E. Harris. The departure of any
of our executive officers, key employees or advisers could materially adversely
affect our ability to implement our business strategy. We do not maintain for
our benefit any key man life insurance on any of our officers or employees.
We will need to hire additional employees as the size of our portfolio
increases.
We anticipate that it will be necessary for us to add investment
professionals with expertise in venture capital and/or tiny technology and
administrative and support staff to accommodate the increasing size of our
portfolio. We may need to provide additional scientific, business, accounting,
legal or investment training for our hires. There is competition for highly
qualified personnel, and we may not be successful in our efforts to recruit and
retain highly qualified personnel.
13
The market for venture capital investments, including tiny technology
investments, is highly competitive.
We face substantial competition in our investing activities from many
competitors, including but not limited to: private venture capital funds;
investment affiliates of large industrial, technology, service and financial
companies; small business investment companies; wealthy individuals; and
foreign investors. Our most significant competitors typically have
significantly greater financial resources than we do. Greater financial
resources are particularly advantageous in securing lead investor roles in
venture capital syndicates. Lead investors negotiate the terms and conditions
of such financings. Many sources of funding compete for a small number of
attractive investment opportunities. Hence, we face substantial competition in
sourcing good investment opportunities on terms of investment that are
commercially attractive.
In addition to the difficulty of finding attractive investment
opportunities, our status as a regulated business development company may
hinder our ability to participate in investment opportunities or to protect the
value of existing investments.
We are required to disclose on a quarterly basis the names and business
descriptions of our portfolio companies and the value of any portfolio
securities. Most of our competitors are not subject to these disclosure
requirements. Our obligation to disclose this information could hinder our
ability to invest in some portfolio companies. Additionally, other current and
future regulations may make us less attractive as a potential investor than a
competitor not subject to the same regulations.
Our failure to make follow-on investments in our portfolio companies
could impair the value of our portfolio.
Following an initial investment in a portfolio company, we may make
additional investments in that portfolio company as "follow-on" investments, in
order to: (1) increase or maintain in whole or in part our ownership
percentage; (2) exercise warrants, options or convertible securities that were
acquired in the original or subsequent financing; or (3) attempt to preserve or
enhance the value of our investment. Recently, "pay to play" provisions have
become common in venture capital transactions. These provisions require
proportionate investment in subsequent rounds of financing in order to preserve
preferred rights such as anti-dilution protection or even to prevent preferred
shares from being converted to common shares.
We may elect not to make follow-on investments or otherwise lack
sufficient funds to make those investments. We have the discretion to make any
follow-on investments, subject to the availability of capital resources. The
failure to make follow-on investments may, in some circumstances, jeopardize
the continued viability of a portfolio company and our initial investment, or
may result in a missed opportunity for us to increase our participation in a
successful operation, or may cause us to lose some or all preferred rights
pursuant to "pay to play" provisions. Even if we have sufficient capital to
make a desired follow-on investment, we may elect not to make a follow-on
investment because we may not want to increase our concentration of risk,
because we prefer other opportunities or because we are inhibited by compliance
with business development company requirements or the desire to maintain our
tax status.
Bank borrowing or the issuance of debt securities or preferred stock by
us to fund investments in portfolio companies or to fund our operating expenses
would make our total return to common shareholders more volatile.
Use of debt or preferred stock as a source of capital entails two primary
risks. The first is the risk of leverage, which is the use of debt to increase
the pool of capital available for investment purposes. The use of debt
leverages our available common equity capital, magnifying the impact on net
asset value of changes in the value of our investment portfolio. For example, a
business development company that uses 33 percent leverage (that is, $50 of
leverage per $100 of common equity) will show a 1.5 percent increase or decline
in net asset
14
value for each 1 percent increase or decline in the value of its total assets.
The second risk is that the cost of debt or preferred stock financing may
exceed the return on the assets the proceeds are used to acquire, thereby
diminishing rather than enhancing the return to common shareholders. If we
issue preferred shares, the common shareholders would bear the cost of this
leverage. To the extent that we utilize debt or preferred stock financing for
any purpose, these two risks would likely make our total return to common
shareholders more volatile. In addition, we might be required to sell
investments, in order to meet dividend, interest or principal payments, when it
may be disadvantageous for us to do so.
As provided in the 1940 Act and subject to some exceptions, we can issue
debt or preferred stock so long as our total assets immediately after the
issuance, less some ordinary course liabilities, exceed 200 percent of the sum
of the debt and any preferred stock outstanding. The debt or preferred stock
may be convertible in accordance with SEC guidelines, which may permit us to
obtain leverage at more attractive rates. The requirement under the 1940 Act to
pay, in full, dividends on preferred shares or interest on debt before any
dividends may be paid on our Common Stock means that dividends on our Common
Stock from earnings may be reduced or eliminated. An inability to pay dividends
on our Common Stock could conceivably result in our ceasing to qualify as a
regulated investment company, or RIC, under the Code, which would in most
circumstances be materially adverse to the holders of our Common Stock. As of
the date hereof, we do not have any debt or preferred stock outstanding.
We are authorized to issue preferred stock, which would convey special
rights and privileges to its owners senior to those of Common Stock
shareholders.
We are currently authorized to issue up to 2,000,000 shares of preferred
stock, under terms and conditions determined by our Board of Directors. These
shares would have a preference over our Common Stock with respect to dividends
and liquidation. The statutory class voting rights of any preferred shares we
would issue could make it more difficult for us to take some actions that may,
in the future, be proposed by the Board and/or holders of Common Stock, such as
a merger, exchange of securities, liquidation or alteration of the rights of a
class of our securities if these actions were perceived by the holders of the
preferred shares as not in their best interests. The issuance of preferred
shares convertible into shares of Common Stock might also reduce the net income
and net asset value per share of our Common Stock upon conversion.
Loss of status as a RIC would reduce our net asset value and
distributable income.
We qualify as a RIC for 2004 under the tax Code. As a RIC, we do not have
to pay federal income taxes on our income (including realized gains) that is
distributed to our shareholders. Accordingly, we are not permitted under
accounting rules to establish reserves for taxes on our unrealized capital
gains. If we failed to qualify for RIC status in 2005 or beyond, to the extent
that we had unrealized gains, we would have to establish reserves for taxes,
which would reduce our net asset value, net of a reduction in the reserve for
employee profit sharing, accordingly. To the extent that we, as a RIC, were to
decide to make a deemed distribution of net realized capital gains and retain
the net realized capital gains, we would have to establish appropriate reserves
for taxes upon making that decision. It is possible that establishing reserves
for taxes could have a material adverse effect on the value of our Common
Stock. See "Taxation."
We operate in a heavily regulated environment and changes to or
non-compliance with regulations and laws could harm our business.
We are subject to substantive SEC regulations as a business development
company. Securities and tax laws and regulations governing our activities may
change in ways adverse to our and our shareholders' interests, and
interpretations of these laws and regulations may change with unpredictable
consequences. Any change in the laws or regulations that govern our business
could have an adverse impact on us or on our operations. Changing laws,
regulations and standards relating to corporate governance and public
disclosure, including the Sarbanes-Oxley Act of 2002, new SEC regulations and
Nasdaq National Market rules, are creating additional expense and uncertainty
for publicly held companies in general, and for business development companies
in
15
particular. These new or changed laws, regulations and standards are subject to
varying interpretations in many cases because of their lack of specificity, and
as a result, their application in practice may evolve over time, which may well
result in continuing uncertainty regarding compliance matters and higher costs
necessitated by ongoing revisions to disclosure and governance practices.
We are committed to maintaining high standards of corporate governance
and public disclosure. As a result, our efforts to comply with evolving laws,
regulations and standards have and will continue to result in increased general
and administrative expenses and a diversion of management time and attention
from revenue-generating activities to compliance activities. In particular, our
efforts to comply with Section 404 of the Sarbanes-Oxley Act of 2002 and the
related regulations regarding our required assessment of our internal controls
over financial reporting and our external auditors' audit of that assessment
has required the commitment of significant financial and managerial resources.
Moreover, even though BDCs are not mutual funds, they must comply with several
of the new regulations applicable to mutual funds, such as the requirement for
the implementation of a comprehensive compliance program and the appointment of
a Chief Compliance Officer. Further, our Board members, Chief Executive Officer
and Chief Financial Officer could face an increased risk of personal liability
in connection with the performance of their duties. As a result, we may have
difficulty attracting and retaining qualified Board members and executive
officers, which could harm our business, and we have significantly increased
both our coverage under, and the related expense, for directors' and officers'
liability insurance. If our efforts to comply with new or changed laws,
regulations and standards differ from the activities intended by regulatory or
governing bodies, our reputation may be harmed. Also, as business and financial
practices continue to evolve, they may render the regulations under which we
operate less appropriate and more burdensome than they were when originally
imposed. This increased regulatory burden is causing us to incur significant
additional expenses and is time consuming for our management, which could have
a material adverse effect on our financial performance.
If we are unable to remediate a material weakness previously identified
in our internal controls, or have other significant deficiencies or material
weaknesses, our ability to report our financial results on a timely and
accurate basis may be adversely affected.
Our management is responsible for establishing and maintaining adequate
internal control over financial reporting. Our internal control system is
designed to provide reasonable assurance to our management and Board of
Directors regarding the preparation and fair presentation of published
financial statements. Effective internal controls are necessary for us to
provide reliable financial reports.
We have in the past discovered, and may in the future discover, areas of
our internal controls that need improvement. As noted in Management's Report on
Internal Control Over Financial Reporting included in the Annual Report on Form
10-K for the fiscal year ended December 31, 2004, we determined that we had a
material weakness with respect to maintaining effective controls over the
accuracy of the Financial Highlights ratios based on an audit adjustment to the
line item referred to as "Total return based on: Net asset value" in the
Company's Financial Highlights section of the financial statements for the year
ended December 31, 2004. Specifically, our procedures for preparing the
Financial Highlights ratios were not sufficiently detailed to detect errors in
the underlying calculations.
We have implemented the following changes to our internal control over
financial reporting during the first and second quarters of 2005:
1. We retained Anne M. Donoho, C.P.A., M.B.A., to serve as a temporary,
senior controller and consultant, effective March 14, 2005. Ms. Donoho is
currently expected to remain in these roles through August 2005.
2. We hired Patricia N. Egan, C.P.A, to serve as Chief Accounting
Officer and Senior Controller, effective June 13, 2005.
3. On March 5, 2005, we engaged an independent accounting and consulting
firm with industry experience, Eisner LLP ("Eisner"), to read the financial
statements contained in the draft Annual Report and to
16
provide financial reporting and accounting advisory services to the Company. On
April 4, 2005, we engaged Eisner to provide financial reporting and accounting
advisory services to the Company on an ongoing basis, including reading and
commenting on the Company's quarterly and annual financial statements prior to
submission to our external auditors.
4. In March 2005, we revised the worksheet that we use for preparing our
Annual and Interim Reports to clarify how ratios in the Financial Highlights
section are calculated.
5. In March 2005, we mapped out a detailed sequence of reviews of our
Annual and Interim Reports that must occur rather than merely stating that
additional reviews should occur as necessary.
In addition, during the preparation and review of the financial
statements for the fiscal periods ended June 30, 2005, an error was identified
in the spreadsheet used to compute the line item referred to as "Portfolio
Turnover" in the Financial Highlights section, which existed at December 31,
2004 and had not yet been addressed in the remediation process. Although the
error has been corrected in the financial statements included in our Quarterly
Report on Form 10-Q for the quarter ended June 30, 2005 and did not have a
material impact on previously issued financial statements, we have determined
that additional reviews of the Financial Highlights spreadsheets are required
before the material weakness can be remediated.
We will continue to evaluate the effectiveness of internal controls and
procedures on an ongoing basis. A control system, no matter how well conceived
and operated, can provide only reasonable, not absolute, assurance that the
objectives of the control system are met. Because of the inherent limitations
in all control systems, no evaluation of controls can provide absolute
assurance that all controls issues within the Company have been detected. These
inherent limitations include the realities that judgments in decision-making
can be faulty, and that breakdowns can occur because of simple error or
mistake. Additionally, controls can be circumvented. Because of the inherent
limitations in a cost-effective control system, misstatements due to error or
fraud may occur and not be detected.
If we are unable to remediate the identified material weakness in our
internal controls or if we have other significant deficiencies or material
weaknesses in our internal controls, our ability to report financial results on
a timely and accurate basis may be adversely affected.
We expect that the market price of our Common Stock will be volatile.
The price of the Common Stock may be higher or lower than the price you
pay for your shares, depending on many factors, some of which are beyond our
control and may not be directly related to our operating performance. These
factors include the following:
. price and volume fluctuations in the overall stock market from time to
time;
. significant volatility in the market price and trading volume of
securities of business development companies or other financial
services companies;
. volatility resulting from trading in derivative securities related to
our Common Stock may include puts, calls, long-term equity
anticipation securities, or LEAPs, or short trading positions;
. changes in regulatory policies or tax guidelines with respect to
business development companies or regulated investment companies;
. actual or anticipated changes in our net asset value or fluctuations
in our operating results or changes in the expectations of securities
analysts;
. announcements regarding any of our portfolio companies;
. announcements regarding developments in the nanotechnology field in
general;
. announcements regarding government funding and initiatives related to
the development of nanotechnology;
17
. general economic conditions and trends; and/or
. departures of key personnel.
We will not have control over many of these factors but expect that our
stock price may be influenced by them. As a result, our stock price may be
volatile and you may lose all or part of your investment.
Quarterly results fluctuate and are not indicative of future quarterly
performance.
Our quarterly operating results fluctuate as a result of a number of
factors. These factors include, among others, variations in and the timing of
the recognition of realized and unrealized gains or losses, the degree to which
we and our portfolio companies encounter competition in our markets and general
economic and capital markets conditions. As a result of these factors, results
for any one quarter should not be relied upon as being indicative of
performance in future quarters.
To the extent that we do not realize income or retain after-tax realized
capital gains, we may have a greater need for additional capital to fund our
investments and operating expenses.
As a RIC, we must annually distribute at least 90 percent of our
investment company taxable income as a dividend and may either distribute or
retain our realized net capital gains from investments. As a result, these
earnings may not be available to fund investments. If we fail to generate net
realized capital gains or to obtain funds from outside sources, it would have a
material adverse effect on our financial condition and results of operations as
well as our ability to make follow-on and new investments. Because of the
structure and objectives of our business, we generally expect to experience net
operating losses and rely on proceeds from sales of investments, rather than on
investment income, to defray a significant portion of our operating expenses.
These sales are unpredictable and may not occur. In addition, as a business
development company, we are generally required to maintain a ratio of at least
200 percent of total assets to total borrowings, which may restrict our ability
to borrow to fund these requirements. Lack of capital could curtail our
investment activities or impair our working capital.
Investment in foreign securities could result in additional risks.
The Company may invest in foreign securities, although we currently have
no investments in foreign securities. If we invest in securities of foreign
issuers, we may be subject to risks not usually associated with owning
securities of U.S. issuers. These risks can include fluctuations in foreign
currencies, foreign currency exchange controls, social, political and economic
instability, differences in securities regulation and trading, expropriation or
nationalization of assets, and foreign taxation issues. In addition, changes in
government administrations or economic or monetary policies in the United
States or abroad could result in appreciation or depreciation of our securities
and could favorably or unfavorably affect our operations. It may also be more
difficult to obtain and enforce a judgment against a foreign issuer. Any
foreign investments made by us must be made in compliance with U.S. and foreign
currency restrictions and tax laws restricting the amounts and types of foreign
investments.
Risks related to this offering.
Investing in our stock is highly speculative and an investor could lose
some or all of the amount invested.
Our investment objective and strategies result in a high degree of risk
in our investments and may result in losses in the value of our investment
portfolio. Our investments in portfolio companies are highly speculative and,
therefore, an investor in our Common Stock may lose his or her entire
investment. The value of our Common Stock may decline and may be affected by
numerous market conditions, which could result in the loss
18
of some or all of the amount invested in our Common Stock. The securities
markets frequently experience extreme price and volume fluctuations which
affect market prices for securities of companies generally, and technology and
very small capitalization companies in particular. Because of our focus on the
technology and very small capitalization sectors, and because we are a small
capitalization company ourselves, our stock price is especially likely to be
affected by these market conditions. General economic conditions, and general
conditions in the Internet and information technology, life sciences,
nanotechnology, tiny technology, materials science and other high technology
industries, may also affect the price of our Common Stock.
We will have discretion over the use of proceeds of this offering.
We will have flexibility in applying the proceeds of this offering. We
may pay operating expenses, including due diligence expenses of potential new
investments, from the net proceeds. Our ability to achieve our investment
objective may be limited to the extent that the net proceeds of the offering,
pending full investment, are used to pay operating expenses.
Our shares might trade at discounts from net asset value or at premiums
that are unsustainable over the long term.
Shares of business development companies like us may, during some
periods, trade at prices higher than their net asset value and during other
periods, as frequently occurs with closed-end investment companies, trade at
prices lower than their net asset value. The possibility that our shares will
trade at discounts from net asset value or at premiums that are unsustainable
over the long term are risks separate and distinct from the risk that our net
asset value will decrease. The risk of purchasing shares of a business
development company that might trade at a discount or unsustainable premium is
more pronounced for investors who wish to sell their shares in a relatively
short period of time because, for those investors, realization of a gain or
loss on their investments is likely to be more dependent upon the existence of
a premium or discount than upon portfolio performance. Our Common Stock may not
trade at a price higher than or equal to net asset value. On August 1, 2005,
our stock closed at $13.16 per share, a premium of $8.55 over our net asset
value per share of $4.61 as of June 30, 2005.
Our former independent public accountant, Arthur Andersen LLP, no longer
practices, and you may be unable to exercise effective remedies against it in
any legal action.
Our former independent public accountant, Arthur Andersen LLP, provided
us with auditing services for prior fiscal periods through December 31, 2001,
certain information of which is included in the Selected Condensed Consolidated
Financial Data section of this Prospectus. On June 15, 2002, a jury in Houston,
Texas found Arthur Andersen LLP guilty of a federal obstruction of justice
charge arising from the federal government's investigation of Enron Corp. On
August 31, 2002, Arthur Andersen LLP ceased practicing before the SEC. On
May 31, 2005, the U.S. Supreme Court reversed the 2002 conviction and remanded
the case to lower federal courts.
We were unable to obtain Arthur Andersen LLP's consent to use the
information in the Selected Condensed Consolidated Financial Data section in
this Prospectus. Rule 437(a) under the Securities Act of 1933, or the
Securities Act, permits us to dispense with the requirement to file their
consent. As a result, you may not have an effective remedy against Arthur
Andersen LLP in connection with a material misstatement or omission with
respect to the Selected Condensed Consolidated Financial Data section in this
Prospectus or any other filing we may make with the SEC, including, with
respect to this offering or any other offering registered under the Securities
Act, any claim under Section 1l of the Securities Act. In addition, even if you
were able to assert a claim, as a result of its conviction and other lawsuits,
Arthur Andersen LLP may fail or otherwise have insufficient assets to satisfy
claims made by investors or by us that might arise under federal securities
laws or
19
otherwise relating to any alleged material misstatement or omission with
respect to our audited consolidated financial statements for the fiscal periods
through December 31, 2001.
You have no right to require us to repurchase your shares.
You do not have the right to require us to repurchase your shares of
Common Stock.
FORWARD-LOOKING INFORMATION
This Prospectus may contain "forward-looking statements" based on our
current expectations, assumptions, and estimates about us and our industry.
These forward-looking statements involve risks and uncertainties. Words such as
"believe," "anticipate," "estimate," "expect," "intend," "plan," "will," "may,"
"continue" and other similar expressions identify forward-looking statements.
In addition, any statements that refer to expectations, projections or other
characterizations of future events or circumstances are forward-looking
statements. Our actual results could differ materially from those anticipated
in the forward-looking statements as a result of several factors more fully
described in "Risk Factors" and elsewhere in this Prospectus. The
forward-looking statements made in this Prospectus relate only to events as of
the date on which the statements are made. We undertake no obligation to update
publicly any forward-looking statements for any reason, even if new information
becomes available or other events occur in the future. More detailed
information regarding the proceeds of a specific offering will be provided in
the prospectus supplement related to such offering.
USE OF PROCEEDS
We estimate the total net proceeds of the offering for the remaining
3,550,000 shares to be up to $43,574,920 based on the last reported price for
our Common Stock on August 1, 2005 of $13.16 per share and after deducting
underwriting discounts and commissions and estimated offering expenses payable
by us. However, there can be no assurances as to the amount of proceeds unless
and until we effect an offering and determine the offering price and the number
of the shares to be sold.
We expect to invest or reserve for potential follow-on investment the net
proceeds of any offering within two years from the completion of such
offerings. Reserves for follow-on investments referred to above in any
particular initial investment may be no more than the greater of twice the
investment to date or five times the initial investment in the case of
seed-stage investments. Although we intend to make our initial investments
exclusively in companies that we believe are involved significantly in tiny
technology, we may also make follow-on investments in existing portfolio
companies involved in other technologies. Pending investment in portfolio
companies, we intend to invest the net proceeds of any offering of our Common
Stock in time deposits and/or income-producing securities that are issued or
guaranteed by the federal government or an agency of the federal government or
a government owned corporation, which are likely to yield less than our
operating expense ratio. We may also use the proceeds of this offering for
operating expenses, including due diligence expenses on potential investments.
If we pay operating expenses from the proceeds, it will reduce the net proceeds
of the offering that we will have available for investment.
20
PRICE RANGE OF COMMON STOCK
Our Common Stock is traded on the Nasdaq National Market under the symbol
"TINY."
The following table sets forth for the quarters indicated, the high and
low sale prices on the Nasdaq National Market per share of our Common Stock and
the net asset value and the premium or discount from net asset value per share
at which the shares of Common Stock were trading, expressed as a percentage of
net asset value, at each of the high and low sale prices provided.
Premium or
Discount as a
Market Price Net Asset Value % of NAV
----------- ("NAV") Per Share -------------
Quarter Ended High Low at End of Period High Low
------------- ----- ----- ----------------- ----- -----
March 31, 2003.......... 3.99 2.36 2.26 76.5 4.4
June 30, 2003........... 7.95 2.71 2.22 258.1 22.1
September 30, 2003...... 9.49 4.47 2.11 349.8 111.8
December 31, 2003....... 12.29 6.18 2.95 316.6 109.5
March 31, 2004.......... 20.70 11.47 3.01 587.7 281.1
June 30, 2004........... 23.60 10.77 2.85 728.1 277.9
September 30, 2004...... 13.90 7.07 4.44 213.1 59.2
December 31, 2004....... 16.70 10.29 4.33 285.7 137.6
March 31, 2005.......... 16.80 11.30 4.20 300.0 169.0
June 30, 2005........... 13.38 10.01 4.61 190.2 117.1
Third Quarter
through August 1, 2005 13.85 11.74 -- -- --
The shares of our Common Stock have historically traded at times at a
discount and at other times at a premium to net asset value. Since 2003, our
shares of Common Stock have traded at a premium to net asset value. The last
reported price for our Common Stock on August 1, 2005 was $13.16 per share. As
of August 1, 2005, we had approximately 138 shareholders of record.
21
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
The information contained in this section should be read in conjunction
with our unaudited June 30, 2005 and our audited December 31, 2004 Consolidated
Financial Statements and the Notes thereto. In addition, this Prospectus
contains certain forward-looking statements. These statements include the plans
and objectives of management for future operations and financial objectives and
can be identified by the use of forward-looking terminology such as "believe,"
"anticipate," "estimate," "expect," "intend," "plan," "will," "may" or
"continue" or the negative thereof or other variations thereon or comparable
terminology. These forward-looking statements are subject to the inherent
uncertainties in predicting future results and conditions.
Information presented for portfolio companies has been obtained from the
portfolio companies.
Background and Overview
We incorporated under the laws of the state of New York in August 1981.
In 1983, we completed an initial public offering and invested $406,936 in
Otisville BioTech, Inc., which also completed an initial public offering later
that year. In 1984, Charles E. Harris purchased a controlling interest in us,
which resulted in his also becoming the control person in Otisville. We then
divested our other assets and became a financial services company, with the
investment in Otisville as the initial focus of our business activity. We hired
new management for Otisville, and Otisville acquired new technology targeting
the development of a human blood substitute.
By 1988, we operated two insurance brokerages and a trust company as
wholly-owned subsidiaries. In 1989, Otisville changed its name to Alliance
Pharmaceutical Corporation, and by 1990, we had completed selling our $406,936
investment in Alliance for total proceeds of $3,923,559.
In 1992, we sold our insurance brokerage and trust company subsidiaries
to their respective managements and registered as an investment company under
the 1940 Act, commencing operations as a closed-end, non-diversified investment
company. In 1995, we elected to become a business development company subject
to the provisions of Sections 55 through 65 of the 1940 Act. Throughout our
corporate history, we have made early stage venture capital investments in a
variety of industries. We define venture capital investments as investments in
start-up firms and small businesses with exceptional growth potential. In 1994,
we made our first tiny technology investment. From August 2001 through the
present, all 24 of our initial investments have been exclusively in tiny
technology.
Since our investment in Otisville in 1983, we have made a total of 66
venture capital investments, including four private placement investments, in
securities of publicly traded companies. We have sold 40 of these 66
investments, realizing total proceeds of $108,496,803 on our invested capital
of $42,562,069. Seventeen of these 40 investments were profitable. As measured
from first dollar in to last dollar out, the average and median holding periods
for these 40 investments were 3.5 years and 3.2 years, respectively. As
measured by the 131 separate rounds of investment within these 40 investments,
the average and median holding periods for the 131 separate rounds of
investment were 2.7 years and 2.4 years, respectively. At June 30, 2005, we
valued the 26 venture capital investments remaining in our portfolio at
$45,421,482, or 57.1 percent of our net assets, including unrealized
appreciation of $10,367,462. At June 30, 2005, from first dollar in, the
average and median holding periods for these 26 venture capital investments
were 2.9 years and 2.0 years, respectively. As measured by the 65 separate
rounds of investment within these 26 investments, the average and median
holding periods for the 65 separate rounds of investment were 2.6 years and 1.4
years, respectively.
We have invested a substantial portion of our assets in venture capital
investments of private, development stage or start-up companies. These private
businesses tend to be thinly capitalized, unproven, small companies that lack
management depth, have little or no history of operations and are developing
unproven technologies. At June 30, 2005, $22,635,955, or 28.5 percent, of our
net assets consisted of private venture capital investments at fair value, net
of unrealized depreciation of $8,006,691. At December 31, 2004,
22
$18,508,138, or 24.8 percent, of our net assets at fair value consisted of
private venture capital investments, net of unrealized depreciation of
$9,577,094.
At June 30, 2005, $22,785,527, or 28.7 percent of our net assets,
consisted of common shares of NeuroMetrix, Inc., a publicly traded venture
capital investment, valued at market value, of which unrealized appreciation
was $18,374,153. Prior to January 18, 2005, our ownership interest in
NeuroMetrix, Inc., was not in freely tradable securities, and prior to March
31, 2005 the fair value for our investment in NeuroMetrix, Inc., was determined
in good faith by our Valuation Committee within guidelines established by our
Board of Directors.
We value our private venture capital investments each quarter at fair
value as determined in good faith by our Valuation Committee within guidelines
established by our Board of Directors in accordance with the 1940 Act.
We have discretion in the investment of our capital. However, we invest
primarily in illiquid equity securities of private companies. Generally, these
investments take the form of preferred stock, are subject to restrictions on
resale and have no established trading market. Our principal objective is to
achieve long-term capital appreciation. Therefore, a significant portion of our
investment portfolio provides little or no income in the form of dividends or
interest. We earn interest income from fixed-income securities, including U.S.
government and government agency securities. The amount of interest income we
earn varies with the average balance of our fixed-income portfolio and the
average yield on this portfolio and is not expected to be material to our
results of operations.
We present the financial results of our operations utilizing accounting
principles generally accepted in the United States for investment companies. On
this basis, the principal measure of our financial performance during any
period is the net increase/(decrease) in our net assets resulting from our
operating activities, which is the sum of the following three elements:
Net Operating Income / (Loss)--the difference between our income from
interest, dividends, and fees and our operating expenses.
Net Realized Income / (Loss) on Investments--the difference between the
net proceeds of sales of portfolio securities and their stated cost, and income
from interests in limited liability companies.
Net Increase / (Decrease) in Unrealized Appreciation or Depreciation on
Investments--the net unrealized change in the value of our investment portfolio.
Owing to the structure and objectives of our business, we generally
expect to experience net operating losses and seek to generate increases in our
net assets from operations through the long term appreciation of our venture
capital investments. We have relied, and continue to rely, on proceeds from
sales of investments, rather than on investment income, to defray a significant
portion of our operating expenses. Because such sales are unpredictable, we
attempt to maintain adequate working capital to provide for fiscal periods when
there are no such sales.
23
SELECTED CONDENSED CONSOLIDATED FINANCIAL DATA
BALANCE SHEET DATA
Financial Position as of:
December 31,
- - -----------------------------------------------------------
2004 2003 2002 2001 2000
----------- ----------- ----------- ----------- -----------
Total assets....................... $79,361,451 $44,115,128 $35,951,969 $39,682,367 $43,343,423
Total liabilities.................. $ 4,616,652 $ 3,432,390 $ 8,695,923 $15,347,597 $11,509,948
Net assets......................... $74,744,799 $40,682,738 $27,256,046 $24,334,770 $31,833,475
Net asset value per outstanding
share............................ $ 4.33 $ 2.95 $ 2.37 $ 2.75 $ 3.51
Cash dividends paid................ $ 0.00 $ 0.00 $ 0.00 $ 0.00 $ 184,817
Cash dividends paid per outstanding
share............................ $ 0.00 $ 0.00 $ 0.00 $ 0.00 $ 0.02
Shares outstanding, end of year.... 17,248,845 13,798,845 11,498,845 8,864,231 9,064,231
OPERATING DATA
For the twelve months ended
December 31,
---------------------------------------------------------------------
2004 2003 2002 2001 2000
----------- ----------- ----------- ----------- ------------
Total investment income.............. $ 637,562 $ 167,785 $ 253,461 $ 510,661 $ 687,050
Total expenses/(1)/.................. $ 4,046,341 $ 2,731,527 $ 2,124,549 $ 1,035,221 $ (2,623,200)
Net operating (loss) income.......... $(3,408,779) $(2,563,742) $(1,871,088) $ (524,560) $ 3,310,250
Net realized income (loss) from
investments........................ $ 858,503 $ (984,925) $ 2,390,302 $ 1,276,366 $ 18,963,832
Net realized (loss) income........... $(2,550,276) $(3,548,667) $ 519,214 $ 751,806 $ 22,274,082
Net decrease (increase) in unrealized
depreciation on investments........ $ 484,162 $ 343,397 $(3,241,408) $(7,641,044) $(37,781,289)
Net decrease in net assets resulting
from operations.................... $(2,066,114) $(3,205,270) $(2,722,194) $(6,889,238) $(15,507,207)
Decrease in net assets resulting from
operations per average outstanding
share.............................. $ (0.13) $ (0.28) $ (0.27)/(2)/ $ (0.78) $ (1.71)
- ------------------
(1) Included in total expenses are the following profit-sharing
expenses/(reversals): $311,594 in 2004; ($163,049) in 2002; ($984,021) in
2001; ($4,812,675) in 2000.
24
SELECTED QUARTERLY DATA (UNAUDITED)
2005
BALANCE SHEET DATA -------------------------
June 30 March 31
------------ -----------
Total assets.................................................................... $103,994,225 $76,772,881
Total liabilities............................................................... $ 24,481,022 $ 4,261,529
Net assets...................................................................... $ 79,513,203 $72,511,352
Net asset value per outstanding share........................................... $ 4.61 $ 4.20
Cash dividends paid............................................................. -- $ --
Cash dividends paid per outstanding share....................................... -- $ --
Shares outstanding, end of quarter.............................................. 17,248,845 17,248,845
2005
OPERATING DATA -------------------------
June 30 March 31
------------ -----------
Total investment income......................................................... $ 158,717 $ 260,108
Net operating loss.............................................................. $ (3,302,094) $ (745,590)
Net increase (decrease) in net assets resulting from operations................. $ 7,001,847 $(2,233,447)
Net (decrease) increase in net assets resulting from operations per average
outstanding share............................................................. $ 0.41 $ (0.13)
2004
---------------------------------------------------
December 31 September 30 June 30 March 31
----------- ------------ ------------ -----------
Total investment income............................... $ 248,214 $ 253,581 $ 79,231 $ 56,536
Net operating loss.................................... $ (905,557) $ (978,773) $ (774,584) $ (749,865)
Net increase (decrease) in net assets resulting from
operations.......................................... $(1,760,713) $ 1,111,121 $ (2,237,037) $ 820,515
Net (decrease) increase in net assets resulting from
operations per average outstanding share............ $ (0.09) $ 0.06 $ (0.16) $ 0.06
2003
---------------------------------------------------
December 31 September 30 June 30 March 31
----------- ------------ ------------ -----------
Total investment income............................... $ 21,933 $ 30,612 $ 50,564 $ 64,676
Net operating loss.................................... $ (679,947) $ (572,346) $ (726,989) $ (584,460)
Net (decrease) in net assets resulting from
operations.......................................... $ (175,136) $(1,270,298) $ (544,709) $(1,215,127)
Net (decrease) in net assets resulting from operations
per average outstanding share....................... $ (0.01) $ (0.11) $ (0.05) $ (0.11)
Results of Operations
Three months ended June 30, 2005, as compared with the three months ended June
30, 2004
We had a net increase in net assets resulting from operations of
$7,001,847 in the three months ended June 30, 2005, as compared with a net
decrease in net assets resulting from operations of $2,237,037 in the three
months ended June 30, 2004.
Investment Income and Expenses:
We had net operating losses of $ 3,302,094 and $774,584 for the three
months ended June 30, 2005, and June 30, 2004, respectively.
25
Operating expenses were $3,460,811 and $853,815 for the three months
ended June 30, 2005, and June 30, 2004, respectively. The increase in expenses
for the three months ended June 30, 2005, as compared with the three months
ended June 30, 2004, is primarily a result of the increase to the profit
sharing plan provision of $2,012,465 resulting from an increase of $11,921,734
in the valuation of our investment in NeuroMetrix, Inc. during the three months
ended June 30, 2005. In addition, professional fees increased by $139,244, or
176.5 percent, primarily as a result of ongoing expenses of compliance with the
requirements of Section 404 of the Sarbanes-Oxley Act of 2002. An increase in
administration and operations expense of $300,368, or 160.8 percent, is
primarily owing to the increase in expenses associated with proxy solicitation
for non-routine matters and increases in the cost of directors' and officers'
liability insurance.
Realized Income and Losses from Investments:
During the three months ended June 30, 2005, we realized net losses of
$1,386,741, and during the three months ended June 30, 2004, we realized income
of $2,580, before taxes.
Net realized losses for the three months ended June 30, 2005, consisted
primarily of the realized loss from the sale of our investment in
Nanotechnologies, Inc., of $1,091,209 and the loss on the sale of the assets
underlying our investment in Optiva Inc., of $294,245.
Unrealized Appreciation or Depreciation on Investments:
Net unrealized appreciation on total investments increased by
$11,691,316, or 710.7 percent, during the three months ended June 30, 2005,
from net unrealized depreciation of $1,645,024 at March 31, 2005, to net
unrealized appreciation of $10,046,292 at June 30, 2005. Net unrealized
depreciation on total investments increased by $1,463,921, or 91.9 percent,
during the three months ended June 30, 2004, from $1,592,929 at March 31, 2004,
to $3,056,850 at June 30, 2004.
During the three months ended June 30, 2005, net unrealized appreciation
on our venture capital investments increased by $11,551,546, from net
unrealized depreciation of $1,184,084 at March 31, 2005, to net unrealized
appreciation of $10,367,462 at June 30, 2005, primarily owing to an increase in
the valuation of our investment in NeuroMetrix, Inc., of $11,921,734, and
realization of the losses on the sale of our investment in Nanotechnologies,
Inc., of $1,091,209 and the sale of the assets underlying our investment in
Optiva, Inc., of $675,000. In addition, decreases in the valuations of Zia
Laser, Inc., Nanopharma Corp. and NanoOpto Corporation decreased our unrealized
appreciation by $750,000, $563,097, and $571,283, respectively.
During the three months ended June 30, 2004, we recorded a net increase
of $1,264,290 in unrealized depreciation of our venture capital investments,
primarily owing to increases in unrealized depreciation of Nanotechnologies,
Inc., and Optiva, Inc., of $638,840 and $625,000, respectively.
Six months ended June 30, 2005, as compared with the six months ended June 30,
2004
We had a net increase in net assets resulting from operations of
$4,768,404 in the six months ended June 30, 2005, as compared with a net
decrease in net assets resulting from operations of $1,416,522 for the six
months ended June 30, 2004.
Investment Income and Expenses:
We had net operating losses of $ 4,042,681 and $1,524,449, for the six
months ended June 30, 2005, and June 30, 2004, respectively.
Operating expenses were $4,466,507 and $1,660,216 for the six months
ended June 30, 2005, and June 30, 2004, respectively. The increase in expenses
for the six months ended June 30, 2005, as compared with the
26
six months ended June 30, 2004, is primarily related to an increase of
$1,700,871 in the profit sharing expense resulting from an increase of
$9,671,705 in the valuation of our investment in NeuroMetrix, Inc. Salaries and
benefits increased by $217,118, or 22.5 percent, primarily as a result of the
addition of four full-time employees, and secondarily to increases in salary
and benefits for existing employees. Administration and operations increased by
$463,031, or 133.8 percent, as a result of increased expenses owing to proxy
solicitation for non-routine matters and increases in the cost of our
directors' and officers' liability insurance. Professional fees increased by
$332,648, or 210.6 percent, owing to expenses associated with the
implementation of the requirements of Section 404 of the Sarbanes-Oxley Act of
2002.
Realized Income and Losses on Investments:
During the six months ended June 30, 2005, we realized losses of
$2,427,785 as compared with realized income of $795,969 for the six months
ended June 30, 2004, before taxes.
During the six months ended June 30, 2005, we realized losses on the sale
of investments including $1,358,286 for Agile Materials & Technologies, Inc.,
and $1,091,209 for Nanotechnologies, Inc. We also realized a loss of $294,245
from the sale of the assets underlying our investment in Optiva, Inc. These
realized losses were partially offset by the realized gain of $255,486 on the
sale of our investment in NanoGram Devices Corporation.
During the six months ended June 30, 2004, our realized net gains of
$795,969 consisted primarily of a realized gain of $1,681,259 resulting from
the sale of our investment in NanoGram Devices Corporation, offset by a
realized loss of $915,108 resulting from the sale of our shares of Series D
Convertible Preferred Stock in NeoPhotonics Corporation.
Unrealized Appreciation or Depreciation on Investments:
Net unrealized appreciation on total investments increased by $11,243,721
or 939.0 percent, during the six months ended June 30, 2005, from net
unrealized depreciation of $1,197,429 at December 31, 2004, to net unrealized
appreciation of $10,046,292 at June 30, 2005. Net unrealized depreciation on
investments increased by $680,134, or 28.6 percent, during the six months ended
June 30, 2004, from $2,376,716 at December 31, 2003, to $3,056,850 at June 30,
2004.
During the six months ended June 30, 2005, we recorded a net increase of
$11,242,108 in unrealized appreciation of our venture capital investments,
primarily as a result of an increase in unrealized appreciation of NeuroMetrix,
Inc., of $9,671,705. In addition, unrealized appreciation increased as a result
of the realization of losses on the sale of our investments in Agile Materials
and Technologies, Inc. of $1,364,081, Nanotechnologies, Inc., of $917,410 and
the sale of the assets underlying our investment in Optiva, Inc., of $675,000.
Changes in valuation resulted in increased appreciation on our investment in
Nantero, Inc., of $813,771 and decreased appreciation on our investments in Zia
Laser, Inc., of $750,000 and Nanopharma Corporation of $563,097.
During the six months ended June 30, 2004, we recorded a net increase of
$452,638 in unrealized depreciation of our venture capital investments,
primarily as a result of an increase in unrealized depreciation of
Nanotechnologies, Inc., of $638,840 and Optiva, Inc., of $625,000, offset by
the realization of the loss of $915,108 on the sale of our shares of Series D
Convertible Preferred stock in NeoPhotonics Corporation.
Years Ended December 31, 2004, 2003, and 2002
During the three years ended December 31, 2004, 2003, and 2002, we had
net decreases in net assets resulting from operations of $2,066,114, $3,205,270
and $2,722,194, respectively.
27
Investment Income and Expenses:
During the three years ended December 31, 2004, 2003, and 2002, we had
net operating losses of $3,408,779, $2,563,742 and $1,871,088, respectively.
The variation in these results is primarily owing to the changes in operating
expenses. During the three years ended December 31, 2004, 2003, and 2002,
operating expenses were $4,046,341, $2,731,527 and $2,124,549, respectively.
The increase during 2004 resulted primarily owing to increases in
profit-sharing provision, salaries and benefits, administration and operations
and professional fees. In 2004, the profit-sharing provision increased by
$311,594, or 100 percent. The profit-sharing provision changes as a result of
realized gains and losses and increases and decreases in unrealized
appreciation. The increase in the profit-sharing provision is primarily a
result of the increase in the value of our investment in NeuroMetrix, Inc.,
which completed its IPO on July 22, 2004. Salaries and benefits increased by
$387,396, or 25.1 percent, primarily as a result of the addition of four
employees, partially offset by a decrease in mandatory retirement plan pension
expense that was being amortized through December 31, 2004. Administration and
operations increased by $272,345, or 61.0 percent, primarily as the result of
an increase in travel expenses associated with additional investments in
portfolio companies, an increase in expenses related to the preparation and
distribution of the annual and quarterly reports and proxy statement owing to
the increased number of shareholders, and an increase in director and officer
liability insurance. The premium expense for directors' and officers' liability
insurance increased by $112,259 to $172,229 in 2004, and the premium expense
for 2005 is estimated to be $535,000. Professional fees increased by $363,516,
or 119.7 percent, almost entirely owing to the expenses associated with
implementation of the Sarbanes-Oxley Act of 2002 and policies under the 1940
Act, which require a comprehensive compliance program. We estimate that our
total incremental direct and indirect expenses in 2004 associated with the
Sarbanes-Oxley Act of 2002 and compliance policies under the 1940 Act totaled
$316,000.
The increase in operating expenses during 2003 was primarily owing to
increases in salary and benefits. During 2003, the full-year effect of a new
employee who started in September 2002 was realized. In addition, we recorded
an expense of $225,000 for the establishment of a Mandatory Retirement Plan.
Realized Income and Losses from Investments:
During the three years ended December 31, 2004, 2003 and 2002, we had
realized income (losses) from investments of $813,994, ($971,164) and
$3,284,737, respectively.
During 2004, our realized income from investments of $813,994 consisted
primarily of a realized gain of $1,681,259 from the sale of our investment in
NanoGram Devices Corporation, partially offset by a realized loss of $915,108
from the sale of our shares of Series D Convertible Preferred Stock in
NeoPhotonics Corporation.
During 2003, we realized a loss of $1,000,001 on the tax write-off of our
investment in Kriton, Inc., which had been previously written-off for book
purposes. As a result of the loss realized in 2003 on the tax write-off of
Kriton Medical, Inc., unrealized appreciation increased by $1,000,001.
During 2002, we realized a gain of $4,776,360 from the liquidation of our
partnership interest in PHZ Capital Partners L.P., and losses of $350,583 and
$1,248,825 from the liquidation of Informio, Inc., and the sale of our
previously written-off investment in Schwoo, Inc., respectively.
Unrealized Appreciation or Depreciation on Investments:
During the years ended December 31, 2004, 2003 and 2002, net unrealized
depreciation on investments decreased (increased) by $1,179,288, $343,397 and
($3,936,534), respectively.
During 2004, net unrealized depreciation on investments decreased owing
to the higher valuation of our investment in NeuroMetrix, Inc., of $6,288,405,
and the realization of our loss of $915,108 on the sale of our
28
shares of Series D Convertible Preferred Stock in NeoPhotonics. Decreases in
the valuations of the following investments increased our unrealized
depreciation by the following amounts: Agile Materials and Technologies, Inc.,
$614,081, Continuum Photonics, Inc., $1,162,208, Experion Systems, Inc.,
$630,497, Nanotechnologies, Inc., $1,275,373 and Optiva, Inc., $2,000,000.
During 2003, net unrealized depreciation on investments decreased owing
to higher valuation of our investments in Continuum Photonics, Inc., of
$226,046 and Nanotechnologies, Inc., of $357,963, and as a result of the
$1,000,000 loss realized in 2003 on the write-off of Kriton Medical, Inc.
Decreases in the valuations of the following venture capital investments
increased our net unrealized depreciation in the following amounts: Agile
Material and Technologies, Inc., $750,000, Experion Systems, Inc., $325,662 and
NeoPhotonics Corporation, $345,558.
During the year ended December 31, 2002, net unrealized depreciation
increased by $3,936,534 owing to decreases in the valuations of our venture
capital investments of $3,933,834, including the decrease in valuation of
NeuroMetrix, Inc., of $1,986,081.
Financial Condition
Six Months ended June 30, 2005
Our total assets and net assets were $103,994,225 and $79,513,203,
respectively, at June 30, 2005, as compared with $79,361,451 and $74,744,799 at
December 31, 2004.
Net asset value per share was $4.61 at June 30, 2005, as compared with
$4.33 at December 31, 2004. Our shares outstanding were unchanged during the
six months ended June 30, 2005.
Significant developments in the six months ended June 30, 2005, were an
increase in the value of our venture capital investments of $13,799,522 and a
decrease in the value of our investment in U.S. government and government
agency securities of $8,248,104. The increase in the value of our venture
capital investments, from $31,621,960 at December 31, 2004, to $45,421,482 at
June 30, 2005, resulted primarily from the increase in value of our investment
in NeuroMetrix, Inc., from $13,113,822 at December 31, 2004, to $22,785,527 at
June 30, 2005, and three new and six follow-on investments. The increase in our
assets also reflects temporary timing differences resulting from the purchase
of U.S. government and government agency securities prior to the end of the
second quarter of $18,297,158, with payment for such purchase due in the third
quarter.
The following table is a summary of additions to our portfolio of venture
capital investments during the six months ended June 30, 2005:
New Investment Amount
-------------- ----------
eLite Optoelectronics, Inc. $1,000,000
Kereos, Inc................ $ 800,000
Zia Laser, Inc............. $1,500,000
Follow-on Investment
--------------------
Cambrios, Inc.............. $ 511,006
Nanomix, Inc............... $ 250,000
NanoOpto Corporation....... $ 411,741
Nanopharma Corp............ $ 100,000
Nantero, Inc............... $ 571,329
Starfire Systems, Inc...... $ 500,000
----------
Total...................... $5,644,076
==========
29
The following tables summarize the values of our portfolios of venture
capital investments and U.S. government and government agency securities, as
compared with their cost, at June 30, 2005, December 31, 2004, and December 31,
2003:
December 31,
June 30, ------------------------
2005 2004 2003
----------- ----------- -----------
Venture capital investments, at cost................. $35,054,020 $32,496,605 $17,481,879
Unrealized appreciation (depreciation)/(1)/.......... 10,367,462 (874,645) (2,375,303)
----------- ----------- -----------
Venture capital investments, at fair value........... $45,421,482 $31,621,960 $15,106,576
=========== =========== ===========
December 31,
June 30, ------------------------
2005 2004 2003
----------- ----------- -----------
U.S. government and agency obligations, at cost...... $36,695,789 $44,945,505 $27,121,899
Unrealized depreciation/(1)/......................... (321,171) (322,783) (1,413)
----------- ----------- -----------
U.S. government and agency obligations, at fair value $36,374,618 $44,622,722 $27,120,486
=========== =========== ===========
- ------------------
(1) At June 30, 2005, the accumulated unrealized appreciation on investments,
including deferred taxes, was $8,506,248. At December 31, 2004, and
December 31, 2003, the accumulated unrealized depreciation on investments,
including deferred taxes, was $2,737,473 and $3,221,635, respectively.
The following table summarizes the value composition of our venture
capital investment portfolio at June 30, 2005, December 31, 2004, and
December 31, 2003. NeuroMetrix, Inc., accounted for 99.5 percent, 97.6 percent
and 85.6 percent of the "Other Venture Capital Investments," at June 30,
2005, December 31, 2004, and December 31, 2003, respectively.
December 31,
June 30, ------------
Category 2005 2004 2003
-------- -------- ----- -----
Tiny Technology.................. 49.6% 57.5% 60.7%
Other Venture Capital Investments 50.4% 42.5% 39.3%
----- ----- -----
Total Venture Capital Investments 100.0% 100.0% 100.0%
===== ===== =====
The following table summarizes the fair value composition of our venture
capital investment portfolio that was still privately held at June 30,
2005, December 31, 2004, and December 31, 2003. NeuroMetrix, Inc., became a
publicly held company in July 2004.
December 31,
June 30, ------------
Category 2005 2004 2003
-------- -------- ----- -----
Tiny Technology................................. 99.4% 98.2% 60.7%
Other Privately Held Venture Capital Investments .6% 1.8% 39.3%
----- ----- -----
Total Private Venture Capital Investments....... 100.0% 100.0% 100.0%
===== ===== =====
Year ended December 31, 2004
At December 31, 2004, our total assets and net assets were $79,361,451
and $74,744,799, respectively. Our net asset value per share ("NAV") at that
date was $4.33, and our shares outstanding increased to 17,248,845 as compared
with 13,798,845 at December 31, 2003.
During the 12 months ended December 31, 2004, significant financial
developments included the receipt of net proceeds of $36,501,000, less costs of
$372,825, for a total of $36,128,175, from the issuance of 3,450,000
30
new shares of our Common Stock in an underwritten public offering. In addition,
the value of our venture capital investments increased by $16,515,384 to
$31,621,960, primarily reflecting nine new venture capital investments and 10
follow-on investments totaling $16,709,107, the sale of our investment in
NanoGram Devices and the net increase in the valuation of our venture capital
investments.
During the 12 months ended December 31, 2004, the net increase in the
valuation of our venture capital investments was primarily owing to an increase
in the valuation of our investment in NeuroMetrix, Inc., of $6,288,405,
partially offset by decreases in the valuation of our investments in Agile
Materials & Technologies, Inc., Continuum Photonics, Inc., Experion Systems,
Inc., Nanotechnologies, Inc., and Optiva, Inc., of $614,081, $1,162,208,
$630,497, $1,275,373 and $2,000,000, respectively.
On July 27, 2004, NeuroMetrix, Inc., completed its IPO. Our preferred
stock was converted into 1,137,570 shares of Common Stock that were subject to
a 180-day lock-up period that expired on January 18, 2005. The valuation of our
investment in NeuroMetrix, Inc., at December 31, 2004, reflects a 1.9 percent
discount to the market price.
The increase in the value of our investment in U.S. government and agency
obligations, from $27,120,486 at December 31, 2003, to $44,622,722 at December
31, 2004, resulted primarily from the receipt of net proceeds of $36,128,175
from our 2004 public offering, partially offset by nine new venture capital
investments and nine follow-on investments totaling $16,709,107, as well as by
operating expenses.
The following table is a summary of additions to our portfolio of venture
capital investments during the 12 months ended December 31, 2004:
New Investment Amount
-------------- -----------
Cambrios Technologies Corporation... $ 783,019
Crystal IS, Inc..................... $ 199,983
CSwitch, Inc........................ $ 1,000,000
Molecular Imprints, Inc............. $ 2,000,000
Nanomix, Inc........................ $ 2,250,000
NeoPhotonics Corporation............ $ 1,925,000
Nextreme Thermal Solutions, Inc..... $ 500,000
Solazyme, Inc....................... $ 310,000
Starfire Systems, Inc............... $ 250,000
Follow-on Investment
--------------------
Agile Materials & Technologies, Inc. $ 376,008
Continuum Photonics, Inc............ $ 839,000
Experion Systems, Inc............... $ 121,262
NanoGram Corporation................ $ 1,000,000
NanoOpto Corporation................ $ 1,921,252
Nanopharma Corp..................... $ 550,000
Nanotechnologies, Inc............... $ 171,492
NeoPhotonics Corporation............ $ 12,092
NeuroMetrix, Inc.................... $ 1,749,999
Optiva, Inc......................... $ 750,000
-----------
Total............................... $16,709,107
===========
31
The following tables summarize the fair values of our portfolios of
venture capital investments and U.S. government and agency obligations, as
compared with their costs, at December 31, 2004, and December 31, 2003:
December 31,
------------------------
2004 2003
----------- -----------
Venture capital investments, at cost................. $32,496,605 $17,481,879
Unrealized depreciation/(1)/......................... (874,645) (2,375,303)
----------- -----------
Venture capital investments, at fair value........... $31,621,960 $15,106,576
=========== ===========
December 31,
------------------------
2004 2003
----------- -----------
U.S. government and agency obligations, at cost...... $44,945,505 $27,121,899
Unrealized depreciation/(1)/......................... (322,783) (1,413)
----------- -----------
U.S. government and agency obligations, at fair value $44,622,722 $27,120,486
=========== ===========
- ------------------
(1) At December 31, 2004 and December 31, 2003, the accumulated unrealized
depreciation on investments, including deferred taxes, was $2,737,473 and
$3,221,635, respectively.
The following table summarizes the fair value composition of our venture
capital investment portfolio at December 31, 2004, and December 31, 2003.
NeuroMetrix, Inc., accounted for 97.6 percent and 85.6 percent of the "Other
Venture Capital Investments," at December 31, 2004, and December 31, 2003,
respectively.
December 31,
------------
2004 2003
----- -----
Tiny Technology.................. 57.5% 60.7%
Other Venture Capital Investments 42.5% 39.3%
----- -----
Total Venture Capital Investments 100.0% 100.0%
===== =====
The following table summarizes the fair value composition of our venture
capital investment portfolio that was still privately held at December 31,
2004, and December 31, 2003. NeuroMetrix, Inc., became a publicly held company
in July 2004.
December 31,
------------
2004 2003
----- -----
Tiny Technology................................. 98.2% 60.7%
Other Privately Held Venture Capital Investments 1.8% 39.3%
----- -----
Total Private Venture Capital Investments....... 100.0% 100.0%
===== =====
Year ended December 31, 2003
At December 31, 2003, our total assets and net assets were $44,115,128
and $40,682,738, respectively. Our NAV at that date was $2.95, and our shares
outstanding increased to 13,798,845 as compared with 11,498,845 at December 31,
2002.
During the 12 months ended December 31, 2003, significant financial
developments included the receipt of net proceeds of $16,631,962 from to the
issuance of 2,300,000 new shares of our Common Stock from an underwritten
public offering and a decrease in a payable to broker for an unsettled trade of
$5,696,725. In
32
addition, the value of our venture capital investments increased by $3,070,499,
to $15,106,576 at December 31, 2003, primarily owing to three new venture
capital investments and five follow-on investments totaling $3,727,718 and
increases in the valuations of our venture capital investments of $848,883,
offset by write-downs in the valuations of our venture capital investments of
$1,506,102.
The following table is a summary of additions to our portfolio of venture
capital investments during the year ended December 31, 2003:
New Investment Amount
-------------- ----------
Chlorogen, Inc.............. $ 525,900
NanoGram Devices Corporation $ 750,000
Nanosys, Inc................ $1,500,000
Follow-on Investment
--------------------
Chlorogen, Inc.............. $ 259,100
NanoOpto Corporation........ $ 125,000
Nanotechnologies, Inc....... $ 169,718
Nantero, Inc................ $ 323,000
NeoPhotonics, Inc........... $ 75,000
----------
Total....................... $3,727,718
==========
Cash Flow
Year Ended December 31, 2004
Net cash used in operating activities for the year ended December 31,
2004, was $3,809,805, primarily owing to a net operating loss of $3,408,779. In
addition, cash flow decreased owing to an increase in prepaid expenses of
$535,648 and increased owing to an increase in deferred income tax liability of
$695,126.
Cash used in investing activities for the year ended December 31, 2004,
was $32,093,612, primarily reflecting an increase in our investment in U.S.
government obligations of $17,823,606 and investments in private placements of
$16,731,216.
Cash provided by financing activities for the year ended December 31,
2004, was $36,128,175, reflecting net proceeds from the issuance of 3,450,000
new shares of our Common Stock on July 7, 2004, in an underwritten public
offering. Although we intend to make initial investments exclusively in tiny
technology, we can make follow-on investments in non-tiny technology companies
currently in our portfolio. Further, while considering venture capital
investments, we may invest the proceeds in U.S. government and agency
obligations, which typically yield less than our operating expense ratio. We
expect to invest or reserve for potential follow-on investment the net proceeds
of the 2004 public offering within two years of the offering. We may also use
the proceeds of the 2004 offering for operating expenses, including due
diligence expenses on potential investments. For the purpose of allocating the
proceeds of the 2004 offering, reserves for follow-on investments in any
particular portfolio holding may be no more than the greater of twice the
investment to date in that portfolio holding or five times the initial
investment in the case of seed-stage investments.
Year Ended December 31, 2003
Net cash used in operating activities for the year ended December 31,
2003, was $6,592,321, primarily reflecting an operating loss of $2,563,742. In
addition, cash flow decreased owing to additions to restricted funds of
$455,134, a payment to a broker for an unsettled trade of $5,696,725, and a
decrease in the current income tax liability of $857,656. Cash flow increased
owing to the receipt of the final payment from the liquidation of our
33
partnership interest in PHZ Capital Partners, L.P. of $786,492, release of
funds held in escrow of $750,000, an increase in the deferred compensation
accrual of $381,000 and an increase in our pension plan accrual of $225,000.
Cash used in investing activities for the year ended December 31, 2003,
was $15,582,923, primarily reflecting an increase in our investment in U.S.
government and agency obligations of $11,669,430 and investments in private
placements of $3,727,718.
Cash provided by financing activities for the year ended December 31,
2003, was $16,633,462, primarily reflecting net proceeds of $16,631,962 from
the issuance of 2,300,000 new shares of our Common Stock in an underwritten
public offering. Within 12 months of the offering, we invested and used for
operating expenses all of the net proceeds from this issuance.
Capital Resources and Liquidity
Capital Resources
In 2004, we registered with the Securities and Exchange Commission the
sale of up to 7,000,000 shares of our Common Stock from time to time. On
July 7, 2004, we sold 3,450,000 common shares for gross proceeds of
$36,501,000; net proceeds of the offering, less offering costs of $372,825,
were $36,128,175. We intend to use, and have been using, the net proceeds of
the offering, less offering costs, to make new investments in tiny technology
as well as follow-on investments in our existing venture capital investments,
and for working capital. Through June 30, 2005, we have used $12,481,009 for
these purposes. An additional 3,550,000 shares of our Common Stock may be sold
at prices and on terms to be set forth in one or more supplements to this
Prospectus from time to time.
Liquidity
Our primary sources of liquidity are cash and U.S. government and
government agency securities, receivables and freely marketable non-government
securities, net of short-term indebtedness. Our secondary sources of liquidity
are restricted securities of companies that are publicly traded. At June 30,
2005, NeuroMetrix, Inc., is our only publicly traded, freely marketable
non-government security. NeuroMetrix became a publicly traded company in July
2004, and our common shares of NeuroMetrix were contractually restricted until
January 18, 2005.
Six Months ended June 30, 2005
At June 30, 2005, and December 31, 2004, our total net primary liquidity
was $59,953,045 and $45,353,691, respectively, and our secondary liquidity was
$0 and $13,133,822, respectively.
The increase in our primary liquidity and decrease in our secondary
liquidity from December 31, 2004, to June 30, 2005, is primarily owing to the
reclassification of our common shares of NeuroMetrix, Inc. from secondary
liquidity to primary liquidity, as they were no longer restricted at June 30,
2005, and an increase in the value of those shares. The increase in our total
liquidity is primarily owing to an increase in the value of our investment in
NeuroMetrix, Inc., offset by investments made in venture capital portfolio
companies, and the use of funds for net operating expenses. NeuroMetrix's
Common Stock is thinly traded, which could negatively impact our liquidity.
Year Ended December 31, 2004
At December 31, 2004, and December 31, 2003, our total net primary
liquidity was $45,353,691 and $27,563,886, respectively, and our secondary
liquidity was $13,113,822 and $0, respectively.
34
Our net primary sources of liquidity are more than adequate to cover our
gross cash operating expenses over the next 12 months. Our gross cash operating
expenses totaled $3,878,610 and $2,455,454 in 2004 and 2003, respectively.
The increase in our primary source of liquidity from December 31, 2003,
to December 31, 2004, is primarily owing to the receipt of the net proceeds
from the issuance of 3,450,000 new shares of our Common Stock and the net
proceeds from the sale of our investment in NanoGram Devices Corporation,
partially offset by our investments in Agile Materials & Technologies, Inc.,
Cambrios Technologies Corporation, Continuum Photonics, Inc., Crystal IS, Inc.,
CSwitch, Inc., Experion Systems, Inc., Molecular Imprints, Inc., NanoGram
Corporation, Nanomix, Inc., NanoOpto Corporation, Nanopharma Corp.,
NeoPhotonics Corporation, NeuroMetrix, Inc., Nextreme Thermal Solutions, Inc.,
Optiva, Inc., Solazyme, Inc. and Starfire Systems, Inc., and the use of funds
for net operating expenses. The increase in our secondary source of liquidity
from December 31, 2003, to December 31, 2004, is owing to the completion of the
public offering of NeuroMetrix, Inc.
On November 19, 2001, we established an asset account line of credit. The
asset account line of credit is secured by U.S. government and government
agency securities. Currently, under the asset account line of credit, we may
borrow up to $8,000,000. The asset account line of credit may be increased to
up to 95 percent of the current value of the U.S. government and government
agency obligations with which we secure the line. Our outstanding balance under
the asset account line of credit at December 31, 2004, 2003, and 2002, was $0,
$0 and $0, respectively. The asset account line of credit bears interest at a
rate of the Broker Call Rate plus 50 basis points.
Year Ended December 31, 2003
At December 31, 2003, and 2002, our net primary liquidity was $27,563,886
and $16,508,057, respectively. On each of those corresponding dates, our
secondary liquidity was $0, as we had no restricted securities of companies
that were publicly traded. Our gross cash operating expenses totaled $2,455,454
and $2,256,991 in 2003 and 2002, respectively.
During the year ended December 31, 2003, the increase in our net primary
liquidity was primarily owing to: (1) our payment of federal, state and local
taxes; (2) our investments in Chlorogen, Inc., NanoGram Devices Corporation,
NanoOpto Corporation, Nanosys, Inc., Nanotechnologies, Inc., Nantero, Inc. and
NeoPhotonics, Inc.; and (3) our use of funds for operating expenses; offset by
our receipt of $16,631,962 of net proceeds from an offering of our Common Stock
that closed on December 30, 2003.
Critical Accounting Policies
Critical accounting policies are those that are both important to the
presentation of our financial condition and results of operations and require
management's most difficult, complex or subjective judgments. Our critical
accounting policies are those applicable to the valuation of investments.
Valuation of Portfolio Investments
As a business development company, we invest primarily in illiquid
securities, including debt and equity securities of private companies. The
investments are generally subject to restrictions on resale and generally have
no established trading market. We value all of our private equity investments
at fair value as determined in good faith by our Valuation Committee. The
Valuation Committee, comprised of three or more independent Board members,
reviews and approves the valuation of our investments within the guidelines
established by the Board of Directors. Fair value is generally defined as the
amount for which an investment could be sold in an orderly disposition over a
reasonable time. Generally, to increase objectivity in valuing our assets,
external measures of value, such as public market values or third party
transactions, are utilized whenever
35
possible. Valuation is not based on long-term work-out value, nor immediate
liquidation value, nor incremental value for potential changes that may take
place in the future.
Recent Developments
On July 5, 2005, the $999,999 that was held in escrow at June 30, 2005,
was released as a follow-on investment in NeoPhotonics Corporation. Upon
settlement, a portion of the common shares received in the transaction were
being held in escrow for the Company.
BUSINESS
We are a venture capital company specializing in tiny technology. We
operate as a business development company under the 1940 Act. Our investment
objective is to achieve long-term capital appreciation, rather than current
income, by making venture capital investments in early stage companies. While
our portfolio includes non-tiny technology investments made prior to 2001, we
now make our initial investments exclusively in tiny technology companies. By
making these investments, we seek to provide our shareholders with an
increasingly specific focus on tiny technology through a portfolio of venture
capital investments that address a variety of markets and products. We believe
that we are the only publicly traded, business development company making
initial venture capital investments exclusively in tiny technology.
As is usual in the venture capital industry, our venture capital
investments are primarily in convertible preferred stock, which is usually the
most senior security in a portfolio company's equity capital structure until
the company has substantial revenues, and which gives us seniority over the
holders of Common Stock (usually the founders) while preserving fully our
participation in the upside potential of the portfolio company through the
conversion feature and, in many cases, a dividend right payable in kind (which
increases our participation in the portfolio company) or potentially in cash.
We have a long history of investing in venture capital and of business
development. Our approach is traditional, in that we employ a patient
examination of available early stage opportunities, thorough due diligence and
close involvement with management. Unlike most private equity and venture
capital funds, we will not be subject to any requirement to return capital to
investors. Such requirements typically stipulate that these funds can only be
invested once and, together with any capital gains on such investment, must be
returned to investors after a pre-agreed time period. These provisions may
cause private equity and venture capital funds to seek investments that are
likely to be able to be sold relatively quickly or to seek returns on their
investments through mergers, public equity offerings or other liquidity events
more quickly than they otherwise might, potentially resulting in both a lower
overall return to investors and an adverse impact on their portfolio companies.
In addition, to the investor, we offer:
. a portfolio consisting of investments that are generally available
only to a small, highly specialized group of investors;
. a qualified team of professionals including five full time members of
management, four of whom are designated as Managing Directors, Charles
E. Harris, Douglas W. Jamison, Daniel V. Leff and Alexei A. Andreev,
and a Vice President, Daniel B. Wolfe, to evaluate and monitor
investments. Two of our directors are also consultants to us,
Dr. Kelly S. Kirkpatrick and Lori D. Pressman. These seven
professionals collectively have expertise in venture capital,
intellectual property and tiny technology to evaluate and monitor
investments;
. the opportunity to benefit from our experience in a new field expected
to permeate a variety of industries; and
36
. through the ownership of our publicly traded shares, a measure of
liquidity not available in typical underlying venture capital
portfolio investments.
Microsystems, microelectromechanical systems, which we refer to as MEMS,
and nanotechnology are often referred to collectively as "tiny technology," or
"small technology," by scientists and others in this field. Tiny technology is
multidisciplinary and widely applicable, and it incorporates technology that is
significantly smaller than is currently in widespread use. Microsystems are
measured in micrometers, which are units of measurement in millionths of a
meter. Nanotechnology is measured in nanometers, which are units of measurement
in billionths of a meter. Because it is a new field, tiny technology has
significant scientific, engineering and commercialization risks.
Tiny technology, particularly nanotechnology, is distinguished by its
applicability to a wide range of industries. As a venture capital company, we
make it possible, through the ownership of our shares, for our shareholders to
participate in this emerging field at an earlier stage than would typically be
possible for them. By making investments in companies that control intellectual
property relevant to tiny technology, we are building a portfolio that we
believe will be difficult to replicate in the future, as we believe it will
likely become increasingly difficult to create new foundational intellectual
property in nanotechnology.
Since registering as an investment company in 1992, we have invested in a
variety of industries. In 1994, we invested in our first nanotechnology
company, Nanophase Technologies Corporation. In 1995, we elected to be
regulated as a business development company. Recognizing the potential of tiny
technology, we continued to monitor developments in the field, and since 2001
we have made tiny technology the exclusive focus of our initial investment
activity. Since August 2001, all 24 of our initial investments have been in
companies involved in the development of products and technologies based on
tiny technology.
Our portfolio now includes interests in a total of 26 companies, of which
we consider 21 to be involved in tiny technology. While we intend to make
initial investments exclusively in companies that we believe are involved
significantly in tiny technology, we may also make follow-on investments in
existing non-tiny technology portfolio companies. The balance of our funds is
primarily invested in short-term U.S. government and government agency
securities. We are an internally managed investment company because our
officers and employees, under the general supervision of our Board of
Directors, control our operations. We have no investment adviser.
Subject to our compliance with business development company and tax code
requirements, there are no limitations on the types of securities or other
assets, foreign or domestic, in which we may invest. Investments may include
the following:
. equity, equity-related securities (including warrants) and debt with
equity features from either private or public issuers, whether in
corporate, partnership or other form, including development stage or
start-up entities;
. debt obligations of all types having varying terms with respect to
security or credit support, subordination, purchase price, interest
payments and maturity; and
. to a limited extent, intellectual property, including patents,
research and development in technology or product development that may
lead to patents or other marketable technology.
Neither our investments nor an investment in our securities constitutes a
balanced investment program. We have been and will continue to be risk seeking
rather than risk averse in our investment approach. We reserve the fullest
possible freedom of action regarding the types of investments we make and our
relationship with our portfolio companies, subject to our certificate of
incorporation, applicable law and regulations, and policy statements described
herein. Our tiny technology investment policy is not a "fundamental policy"
under the 1940
37
Act and, accordingly, may be changed without shareholder approval, although we
will give shareholders at least 60 days prior written notice of any change.
Our business is subject to federal regulation under the 1940 Act, under
which we have elected to operate as a business development company. As a
business development company, we are subject to regulatory requirements, the
most significant of which relate to our investments and borrowings. We are
required to invest at least 70 percent of our assets in qualifying assets and,
over time, at least 50 percent in "eligible portfolio companies." We must also
maintain a coverage ratio of assets to senior securities (such as debt and
preferred stock) of at least 200 percent immediately after giving effect to the
issuance of any senior securities. We are also required to offer managerial
assistance to our portfolio companies, in addition to our investment. For tax
purposes, we are a RIC under the Internal Revenue Code of 1986.
We believe that increasing the size of our assets should lower our
expenses as a proportion of average net assets because some of our costs, such
as administration and public company expenses, are fixed and can be spread over
a larger asset base and may decline as a percentage of assets as our assets
increase. In addition, with more assets, we expect the average size of our
investments to increase. Each due diligence investigation entails expenses
whether or not we complete the transaction, and the cost of due diligence,
negotiation and documentation of our investments does not vary significantly
with the size of the investment or intended investment.
Some expenses are expected to increase as new investments are made. We
plan to add personnel to enable us to enlarge the scope of our activities and
our expertise in tiny technology, and our hiring of new employees will increase
with more assets under management. We also believe that a larger number of
outstanding shares and a larger number of beneficial owners of shares could
increase the level of our visibility and improve the trading liquidity of our
shares on the Nasdaq National Market. We may not realize any of these benefits.
Tiny Technology
Tiny technology refers to microsystems, MEMS and nanotechnology, a
variety of enabling technologies with critical dimensions below 100
micrometers, including both organic and inorganic processes. Tiny technology is
neither an industry nor a single technology. Tiny technology manifests itself
in tools, materials and devices that address broad markets, including
instrumentation, electronics, photonics, computing, medical devices,
pharmaceutical manufacturing, drug delivery and drug discovery. The development
and commercialization of tiny technology often require the integration of
multiple disciplines, including biology, physics, chemistry, materials science,
computer science and the engineering sciences.
Examples of tiny technology-enabled products currently on the market are
quite diverse. They include accelerometers used in automobiles to sense impact
and deploy airbags, cosmetics with ingredients that block ultraviolet light but
that are invisible to the human eye, nanoclays used for strength in the running
boards of minivans, textiles with liquid-stain repellant surfaces, fast acting
painkillers and pharmaceutical therapeutics.
Within tiny technology, microsystems and MEMS both refer to materials,
devices and processes that are on a micrometer size scale. A micrometer, which
is also referred to as a micron, is 0.000001 meter, or one millionth of a
meter. In practice, any device, or device enabled by components, in a size
range from 100 microns down to 0.1 micron may be considered "micro."
Nanotechnology refers to devices and processes with critical dimensions below
0.1 micron, equal to 100 nanometers. A nanometer is 0.000000001 meter, or one
billionth of a meter. It is at the scale below 100 nanometers, the nanoscale,
that quantum effects begin to dominate classical macroscale physics. At the
nanoscale, size- and shape-dependent properties of materials allow previously
unattainable material and device performance.
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MEMS
MEMS often refer to three-dimensional devices with features between one
and 100 microns that integrate electrical and mechanical structures. MEMS
devices often contain a combination of sensors, actuators, mechanical
structures and electronics that detect or respond to thermal, biological,
chemical or optical information. To date, most commercial MEMS devices are
batch fabricated out of silicon, using techniques based on standard
semiconductor processes. Examples of devices incorporating MEMS technology
include airbag accelerometers, smart pens for digital signatures, the Sony
AIBO(TM) entertainment robot and Texas Instruments' Digital Light Processing
Cinema(TM) system.
Microsystems
Microsystems are similar to MEMS, but without mechanical parts.
Microsystems are microscale machines that sense information from the
environment and provide a response to it. A microsystem often integrates
mechanical, fluidic, optical and pneumatic components into a single system.
Examples of two established microsystem technologies include microarrays
and lab-on-a-chip. Microarrays can identify thousands of genes simultaneously
and usually perform one type of analysis multiple times. Lab-on-a-chip is a
small chip containing microfluidic channels that quickly separate liquids and
gases in order to permit microsensors to analyze the properties of the liquids
and gases. The following are additional fields in which microsystems are
currently being used:
. Military/Aerospace--telemetry, communications, guidance systems,
control circuitry and avionics.
. Geophysical Exploration--seismic data acquisition and geophysical
measurement equipment.
. Medical Instrumentation--instrument motor controls and diagnostic
devices.
. Satellite Systems--power monitoring and control circuits.
. Industrial Electronic Systems--measurement and diagnostics on rotating
machinery.
. Opto-Electronics--sub-miniature temperature controls and laser diode
drivers for data transmission.
Nanotechnology
There are various definitions of nanotechnology. Regardless of the
definition used, the technology being defined qualifies as tiny technology. A
commonly used measure of nanotechnology includes all materials, devices and
processes with critical dimensions below 100 nanometers. A nanometer is
0.000000001 meter, or one billionth of a meter. Nanotechnology is defined by
the U.S. Government's National Nanotechnology Initiative as research and
technology development at the atomic, molecular or macromolecular levels, in
the length scale of approximately 1--100 nanometer range, to provide a
fundamental understanding of phenomena and materials at the nanoscale and to
create and use structures, devices and systems that have novel properties and
functions because of their small and/or intermediate size.
The nanoscale is the scale at which quantum effects begin to dominate
classical macroscale physics. At the nanoscale, size- and shape-dependent
properties of materials allow heretofore unattainable material and device
performance. Nanotechnology science and its implications are currently the
subject of intense research and development efforts in the governmental,
academic and corporate sectors, in the United States and internationally.
39
Government research funding and patenting activity, prerequisites to
successful commercialization of nanotechnology, have been growing rapidly in
recent years. Currently, researchers in the field are collaborating with
entrepreneurs and venture capitalists to form companies around nanotechnology
platforms. The first generation of nanotechnology products consists of
instrumentation that permits visualization and manipulation of matter at the
nanoscale and passive nanostructures such as coatings, nanoparticles and
polymers. Examples of commercial instrumentation include nanoimprint
lithography equipment, new variations of the atomic force microscope and highly
sensitive gene and protein detecting arrays. Examples of commercial
nanostructures include cosmetics with ingredients that block ultraviolet light
but that are invisible to the human eye, nanoclays used for strength in the
running boards of minivans, textiles with liquid-stain repellant surfaces, fast
acting painkillers, certain pharmaceutical therapeutics, fluorescent quantum
dots for biolabeling and bioassays and nanoscale chemical mechanical polishing
slurries for wafer polishing.
We believe that the next generation of nanotechnology products will
likely consist of active nanostructures, including transistors, targeted drugs
and chemicals, actuators and adaptive structures. We believe that these
products are at least two to three years away from commercial application.
Examples of products being developed include semiconductor nanowires that act
as tiny transistors; functionalized, drug-delivering polymers that allow the
release of therapeutics to be controlled by temperature, pH or a magnetic field
at specified locations within the body; and engineered membrane structures for
filtration.
We project that longer-term product opportunities may include integrated
nanosystems involving heterogeneous nanocomponents and various assembling
techniques. Patent applications explaining the science of these discoveries
have recently been filed, and the first commercial entities formed to develop
these technologies are emerging from universities, federal government labs and
industrial research centers. Future product opportunities may include
exponentially denser and faster electronic devices, with individual molecules
acting as transistors; tissues and organs engineered from self-assembling
polymers that form biomimetic structures; and new forms of computing developed
by exploiting the superposition of quantum particles.
Although the practical application of tiny technology requires great
expertise to implement in manufacturing processes, we believe that tiny
technology's broad applicability presents significant and diverse market
opportunities. Our strategy is to invest in the best of these tiny technology
companies, with emphasis on nanotechnology companies. This strategy includes
making a number of these investments in the current environment, which is
characterized by diminished investment by venture capital companies and
depressed valuations for privately held, early stage companies.
GENERAL DESCRIPTION OF OUR PORTFOLIO COMPANIES
The following are brief descriptions of each portfolio company in which
we are invested. The portfolio companies are presented in two categories:
companies where we directly or indirectly own five percent to 25 percent of the
outstanding voting securities of the portfolio company or where we hold one or
more seats on the portfolio company's Board of Directors and, therefore, are
deemed to be an affiliated person under the 1940 Act; and companies where we
directly or indirectly own less than five percent of the outstanding voting
securities of the portfolio company and where we have no other affiliations. We
currently do not own 25 percent or more of any company. The value described
below for each portfolio company is its fair value. Each portfolio company that
we believe is significantly involved in tiny technology is designated by an
asterisk (*).
Non-Controlled Affiliated Companies:
*Cambrios Technology Corporation, located at 2450 Bayshore Parkway,
Mountain View, California 94043, is developing a directed-evolution
technology platform that uses genetic approaches to evolve rapidly
biomolecules that express specific control over materials synthesis and
assembly. As a result, the company plans to produce inexpensive and
uniform nanostructures and fibers that self-assemble and
40
attach to other structures via molecular affinity. Cambrios's techniques
can produce a wide variety of inorganic or commercially useful materials,
including semiconductors, metals, ceramics, and magnetic materials. As of
June 30, 2005, we held 1,294,025 shares of Series B Convertible Preferred
Stock (representing 10.78 percent of the total Series B Convertible
Preferred Stock outstanding) of Cambrios. As of the above date, our
Valuation Committee fair valued the Series B Preferred Stock of Cambrios
held by us at $1,294,025. The Chief Executive Officer of the company is
Michael R. Knapp. Daniel V. Leff serves as an observer to the Board of
Directors of the company.
*Chlorogen, Inc., located at 893 North Warson Road, St. Louis, Missouri
63141, is developing a high-yield, plant-based protein production
technology. In this production technology, DNA molecules are packaged as
nanosized expression cassettes and inserted into the plant chloroplast by
a high velocity "gene gun." The genes from the expression cassettes are
integrated into the chloroplast genome, resulting in the manufacture of
the selected protein. As of June 30, 2005, we held 4,478,038 shares of
Series A Convertible Preferred Stock (representing 13.57 percent of the
total Series A Convertible Preferred Stock outstanding) of Chlorogen. As
of the above date, our Valuation Committee fair valued the Series A
Preferred Stock of Chlorogen held by us at $785,000. The Chief Executive
Officer of the company is David N. Duncan. Douglas W. Jamison is on the
Scientific Advisory Board of the company.
*CSwitch, Inc., located at 3101 Jay Street, Santa Clara, California
95054, is developing the next generation of low-power, efficient, and
highly-integrated system-on-a-chip (SOC) solutions for a wide range of
communications-based platforms. As of June 30, 2005, we held 1,000,000
shares of Series A Convertible Preferred Stock (representing 9.11 percent
of the total shares of Series A Convertible Preferred Stock outstanding)
of CSwitch. As of the date above, our Valuation Committee fair valued the
Series A Convertible Preferred Stock of CSwtich held by us at $1,000,000.
The Chief Executive Officer of the company is Doug Laird. Daniel V. Leff
serves as an observer to the Board of Directors of the company.
*eLite Optoelectronics, Inc., located at 18042 Cortney Court, City of
Industry, California 91748, is developing high-power indium gallium
nitride light emitting diodes (InGaN LEDs) that are used in various solid
state lighting, mobile appliance, signage, and automotive applications.
As of June 30, 2005, we held 1,861,504 shares of Series B Convertible
Preferred Stock (representing 11.70 percent of the total Series B
Convertible Preferred Stock outstanding) of eLite Optoelectronics. As of
the above date, our Valuation Committee fair valued the Series B
Convertible Preferred Stock of eLite Optoelectronics held by us at
$1,000,000. The Chief Executive Officer of the company is Robert Walker.
Daniel V. Leff serves as an observer to the Board of Directors of the
company.
Experion Systems, Inc., located at 8 Clock Tower Place, Maynard,
Massachusetts 01754, develops and sells an e-business software package
known as Guided Selling Systems for financial institutions to sell
mortgages and other financial products to their members. Experion's
initial customers are credit unions. As of June 30, 2005, we held 187,500
shares of Series A Convertible Preferred Stock (representing 24.29
percent of the total shares of Series A Convertible Preferred Stock
outstanding), 22,500 shares of Series B Convertible Preferred Stock
(representing 8.83 percent of the total shares of Series B Convertible
Preferred Stock outstanding), 222,184 shares of Series C Convertible
Preferred Stock (representing 16.71 percent of the total shares of Series
C Convertible Preferred Stock outstanding) and 64,501 shares of Series D
Convertible Preferred Stock (representing 16.84 percent of the total
shares of Series D Convertible Preferred Stock outstanding) of Experion.
As of the above date, our Valuation Committee fair valued the total
amount of shares of Experion held by us at $0. The Chief Executive
Officer of the company is Ross Blair. Charles E. Harris previously served
as a Director of the Company.
*Kereos, Inc., located at 4041 Forest Park Avenue, Saint Louis, Missouri,
63108, is developing targeted therapeutics and molecular imaging agents
that detect and attack cancer and cardiovascular disease. The imaging
agents and targeted therapeutics in Kereos' pipeline are based on
proprietary ligand-targeted emulsion technologies. As of June 30, 2005,
we held 290,910 shares of Series B Convertible Preferred
41
Stock (representing 7.87 percent of the total Series B Convertible
Preferred Stock outstanding) of Kereos. As of the above date, our
Valuation Committee fair valued the Series B Convertible Preferred Stock
held by us at $800,000. The Chief Executive Officer of the company is
Robert A. Beardsley. Douglas W. Jamison serves as an observer to the
Board of Directors of the company.
*NanoGram Corporation, located at 2911 Zanker Road, San Jose, California
95134, owns a patent portfolio of approximately 75 patents and a
complementary family of trademarks. NanoGram plans to license its broad
intellectual property portfolio in fields including, nanomaterials-based
films, discovery of new nanomaterials compositions, and rapid synthesis
of nanopowders and films. As of June 30, 2005 we held 63,210 shares of
Series I Convertible Preferred Stock (representing 1.81 percent of the
total shares of Series I Convertible Preferred Stock outstanding) and
1,250,904 shares of Series II Convertible Preferred Stock (representing
12.47 percent of the total shares of Series II Convertible Preferred
Stock outstanding) of NanoGram. As of the date above, our Valuation
Committee fair valued the total amount of shares of NanoGram held by us
at $1,022,395. The Chief Executive Officer of the company is Timothy S.
Jenks until August 15, 2005. As of August 15, 2005, the Chief Executive
Officer will be Kieran F. Drain. Daniel V. Leff serves as an observer to
the Board of Directors of the company.
*Nanomix, Inc., located at 5980 Horton Street, Emeryville, California
94608, is developing nanoelectronic sensors that integrate carbon
nanotube electronics with silicon microstructures. These sensors are
intended to add value across a broad range of industrial and medical
applications where attributes of nanotechnology offer significant
performance advantages including: low power consumption, small size, high
specificity, reproducibility and wireless integration. As of June 30,
2005, we held 9,779,181 shares of Series C Convertible Preferred Stock
(representing 15.63 percent of the total shares of Series C Convertible
Preferred Stock outstanding) of Nanomix. As of the above date, our
Valuation Committee fair valued the total amount of shares of Nanomix
held by us at $2,500,000. The Chief Executive Officer of the company is
David L. Macdonald. Daniel V. Leff serves as a Director of the company.
*NanoOpto Corporation, located at 1600 Cottontail Lane, Somerset, New
Jersey 08873, is developing and manufacturing discrete, integrated
optical communications sub-components on a chip by utilizing
nano-manufacturing technology. As of June 30, 2005, we held 267,857
shares of Series A-1 Convertible Preferred Stock (representing 10.39
percent of the total Series A-1 Convertible Preferred Stock outstanding),
3,819,935 shares of Series B Convertible Preferred Stock (representing
14.81 percent of the total Series B Convertible Preferred Stock
outstanding) and 1,932,789 shares of Series C Convertible Preferred Stock
(representing 5.43 percent of the total Series C Convertible Preferred
Stock outstanding) of NanoOpto, as well as warrants to purchase 193,279
shares of Series C Convertible Preferred Stock of the company at a price
of $0.4359 per share representing 11.73 percent of the total Series C
Convertible Preferred Warrants outstanding. As of the above date, our
Valuation Committee fair valued the total amount of securities of
NanoOpto held by us at $1,985,066. The Chief Executive Officer of the
company is Barry J. Weinbaum. Douglas W. Jamison serves as a Director of
the company.
*Nanopharma Corp., located at 75 Park Plaza, Boston, Massachusetts 02116,
is a privately held company spun off from Massachusetts General
Hospital. Nanopharma is a research-based pharmaceutical company founded
to develop advanced drug delivery systems. Nanopharma's main goal is to
provide fully biodegradable nanoscopic drug delivery vehicles based on
proprietary molecular constructs and "biological stealth" materials. The
company plans to pursue an out-licensing program for its platform
technologies. As of June 30, 2005, we held 684,516 shares of Series A
Convertible Preferred Stock (representing 87.5 percent of the total
Series A Convertible Preferred Stock outstanding) and $650,000 in
Convertible Bridge Notes (representing 72.2 percent of the total
Convertible Bridge Notes outstanding) of Nanopharma. As of the date
above, our Valuation Committee fair valued the total securities of
Nanopharma held by us at $786,903. The Chief Executive Officer of the
company is Julie A. Olson. Charles E. Harris serves as a Director of the
company.
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NeuroMetrix, Inc., located at 62 Fourth Avenue, Waltham, Massachusetts
02451, is a spin-off from the Massachusetts Institute of Technology.
NeuroMetrix develops and sells medical diagnostic products based on
patented intellectual property related to developing portable instruments
that permit low cost, non-invasive diagnostic tests. The company's core
technology is focused on utilizing low-level, non-invasively measured,
electrophysiological signals from nerves and muscles to perform an array
of clinical diagnostic tests. The company's current products test for and
monitor lower back pain, carpal tunnel syndrome and diabetic neuropathy.
The company is operating in a large, untapped point-of-care
neurodiagnostic market. The market opportunity has been estimated at over
$1 billion with over 90 percent of it estimated to be in monitoring lower
back pain, carpal tunnel syndrome and diabetic neuropathy. There is
minimal direct competition but strong indirect competition that takes two
forms, ElectroMyoGraphy (EMG) and neurologists. EMG requires expensive
capital equipment and is targeted at specialists. Neurologists are
expensive, require referral and provide no revenue for referring
physicians. The company has a small but rapidly growing market share. The
company now has over 2,400 customers and has sold over one million
biosensors. The company achieved initial 510(k) clearance from the Food
and Drug Administration in 1998. Revenue is affected by government
regulations specific to reimbursement procedures. The company is highly
dependent on its intellectual property platform position. NeuroMetrix
completed its initial public offering on July 22, 2004 at a price of $8
per share. As of June 30, 2005, we held 1,137,570 shares of Common Stock
(representing 9.4 percent of the Common Stock outstanding) of
NeuroMetrix. As of the date above, the total amount of shares of
NeuroMetrix held by us had a current market value of $22,785,527. The
company's Chief Executive Officer is Dr. Shai N. Gozani, the Chief
Operating Officer is Gary L. Gregory, the Chief Financial Officer is W.
Bradford Smith, and the Senior Vice President of Engineering is Michael
Williams. Charles E. Harris previously served as a Director of the
company.
*Nextreme Thermal Solutions, Inc., located at 3040 Cornwallis Road,
Research Triangle Park, North Carolina, 27709, is developing
next-generation thermoelectrics based on its unique, thin-film
superlattice technology for applications that require extreme thermal
management solutions. The technology has the potential to improve thermal
management for the next generation of microprocessors and other
integrated circuits. Other potential applications include refrigeration,
personal heating/cooling, power generation, cooling microprocessors,
fiber-optic switches, biotechnology and automotive energy management. As
of June 30, 2005, we held 500,000 shares of Series A Convertible
Preferred Stock (representing 14.29 percent of the total Series A
Convertible Preferred Stock outstanding) of Nextreme. As of the above
date, our Valuation Committee fair valued the Series A Convertible
Preferred Stock of Nextreme held by us at $500,000. The Chief Executive
Officer of the company is Jesko von Windheim. Douglas W. Jamison serves
as a Director of the company.
*Questech Corporation, located at 92 Park Street, Rutland, Vermont 05701,
manufactures and sells tile and trim products, based on its proprietary
technology, with revenue generated from stock products. We originally
invested in Questech on May 26, 1994. We did not invest in Questech as a
tiny technology company, but Questech's proprietary technology is
dependent on tiny technology, micro-scale processes. Thus, Questech may
be regarded as a tiny technology holding. As of June 30, 2005, we held
646,954 shares of Common Stock (representing 8.09 percent of the total
Common Stock outstanding) and warrants to purchase 23,500 shares of
Common Stock of the company at $1.50 per share (representing 7.70 percent
of the total warrants outstanding) of Questech. As of the date above, our
Valuation Committee fair valued the Common Stock of Questech held by us
at $724,588. The Chief Executive Officer of the company is Barry J.
Culkin. Until December 2004, Mel P. Melsheimer served as a Director of
the company.
*Solazyme, Inc., located at 3475-T Edison Way, Menlo Park, California
94025, is harnessing the power of the sun through the directed evolution
of selected photosynthetic microbes to provide efficient bioproduction
solutions to the energy, pharmaceutical, chemical and nutraceutical
industries. As of June 30, 2005, we invested $310,000 in exchange for a
Convertible Promissory Note (representing
43
26.16 percent of the total Convertible Promissory Notes outstanding) of
Solazyme. As of the date above, our Valuation Committee fair valued the
Convertible Promissory Note in Solazyme held by us at $310,000. The Chief
Executive Officer of the company is Harrison F. Dillon. Daniel V. Leff
serves as a Director of the company and Douglas W. Jamison serves as an
observer to the Board of Directors of the company.
*Starfire Systems, Inc., located at 10 Hermes Road, Malta, New York
12020, offers a family of patented silicon carbide forming polymers for
the manufacture of advanced ceramic materials applications. Starfire's
range of matrix polymers and silicon carbide CVD precursors simplifies
the formation of advanced ceramic materials. Starfire Systems has
targeted applications in aerospace, high-performance brake systems and
microelectronics. As of June 30, 2005, we held 375,000 shares of Common
Stock (representing 6.64 percent of the total Common Stock outstanding)
and 600,000 shares of Series A-1 Convertible Preferred Stock
(representing 12.87 percent of the total Series A-1 Convertible Preferred
Stock outstanding) of Starfire. As of the above date, our Valuation
Committee fair valued the total amount of shares of Starfire held by us
at $750,000. The Chief Executive Officer of the company is Richard M.
Saburro. Douglas W. Jamison serves as an observer to the Board of
Directors of the company.
*Zia Laser, Inc., located at 801 University Boulevard SE, Albuquerque,
New Mexico 87106, is developing quantum dot-based semiconductor laser
technology for application in microprocessors. Zia Laser's quantum
dot-based lasers could enable computer chips to process some of their
signals optically instead of entirely electronically. As of June 30,
2005, we held 1,500,000 shares of Series C Convertible Preferred Shares
(representing 18.75 percent of the total Series C Convertible Preferred
Shares outstanding) of Zia Laser. As of the above date, our Valuation
Committee fair valued the Series C Convertible Preferred Shares of Zia
Laser held by us at $750,000. The Chief Executive Officer of the company
is Kenneth E. Westrick. Daniel V. Leff serves as an observer to the Board
of Directors of the company.
Unaffiliated Companies:
Alpha Simplex Group, LLC, located at One Cambridge Center, 9th Floor,
Cambridge, Massachusetts 02139, is an investment advisory firm. The
company conducts a quantitative-based hedge-fund operation. Alpha was
founded by Dr. Andrew W. Lo, the Harris & Harris Group Professor at the
MIT Sloan School. As of June 30, 2005, we held 50,000 units (representing
0.5 percent of the total units outstanding) of Alpha. As of the date
above, our Valuation Committee fair valued the units of Alpha Simplex
held by us at $125,000. The Managing Member of the company is
Dr. Andrew W. Lo. Charles E. Harris serves as an adviser to the company.
*Continuum Photonics, Inc., located at 5 Fortune Drive, Billerica,
Massachusetts 01821, is developing a family of MEMS switches for optical
network applications. The switches are based on Continuum's proprietary
piezoelectric ceramic substrates. As of June 30, 2005, we held 2,000,000
shares of the Series B Convertible Preferred Stock (representing 6.91
percent of the total Series B Convertible Preferred Stock outstanding)
and 2,689,103 shares of Series C Convertible Preferred Stock
(representing 4.65 percent of the total Series C Convertible Preferred
Stock outstanding) of Continuum. As of the date above, our Valuation
Committee fair valued the total amount of shares of Continuum held by us
at $257,500. The Chief Executive Officer of the company is Jeffrey D.
Farmer. Lori D. Pressman serves as an observer to the Board of Directors
of the company.
*Crystal IS, Inc., located at 70 Cohotes Avenue, Green Island, New York
12183 is developing methods to produce large, high-quality,
single-crystal substrates of aluminum nitride (AlN) for use in the
nitride semiconductor industry. These substrates are used in the
production of high-power, high-temperature optoelectronic devices such as
blue and ultraviolet lasers. As of June 30, 2005, we held 274,100 shares
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of Series A Convertible Preferred Stock (representing 3.96 percent of the
total Series A Convertible Preferred Stock outstanding) of Crystal IS. As
of the date above, our Valuation Committee fair valued the total amount
of shares of Crystal IS held by us at $199,983. The Chief Executive
Officer of the company is Leo J. Schowalter. Douglas W. Jamison serves as
an observer to the Board of Directors of the company.
Exponential Business Development Company, located at 462 Seventh Avenue,
New York, New York 10018, is a venture capital partnership that invests
in early stage manufacturing, software development and communication
technology industries in the Albany area. As of June 30, 2005, we held
one Limited Partnership Unit (representing 0.87 percent of the total
Limited Partnership Units outstanding) of the company. As of the date
above, our Valuation Committee fair valued the Limited Partnership Unit
held by us at $0. The manager of the portfolio of the company is Jeff
Rubin, President of NewTek Capital, Inc.
Heartware, Inc., located at 3351 Executive Way, Miramar, Florida 33025,
is a privately held company engaged in research and development of
implantable rotary blood pumps for patients who suffer from congestive
heart failure. On July 10, 2003, we received 47,620 shares of Series A-2
Non-Voting Preferred stock of Heartware, Inc., a new company formed to
acquire the assets and assume certain liabilities of Kriton Medical, Inc.
("Kriton") as part of Kriton's bankruptcy. As of June 30, 2005, we held
47,620 shares of Series A-2 Non-Voting Preferred Stock (representing
10.90 percent of the total Series A-2 Non-Voting Preferred Stock
outstanding) of Heartware. As of the date above, our Valuation Committee
fair valued the Series A-2 Non-Voting Preferred Stock of Heartware held
by us at $0. The Chief Executive Officer of the company is Seth Harrison.
*Molecular Imprints, Inc., located at 1807-C West Braker Lane, Austin,
Texas 78758, is developing lithography systems and technology for
manufacturing applications in the areas of nanodevices, microstructures,
advanced packaging, bio devices, optical components and semiconductor
devices. As of June 30, 2005, we held 1,333,333 shares of Series B
Convertible Preferred Stock (representing 6.55 percent of the total
shares of Series B Preferred Stock outstanding) of Molecular Imprints. As
of the date above, our Valuation Committee fair valued the Series B
Convertible Preferred Stock of Molecular Imprints held by us at
$2,000,000. The Chief Executive Officer of the company is Norman E.
Schumaker. Daniel V. Leff serves as an observer to the Board of Directors
of the company.
*Nanosys, Inc., located at 2625 Hanover Street, Palo Alto, California
94304, is a company with broad-based intellectual property that is
initially commercializing applications in macroelectronics,
photovoltaics, and fuel cells. These applications incorporate novel zero
and one-dimensional, nanometer-scale materials, such as nanowires and
nanodots (quantum dots), as their principal active elements. As of
June 30, 2005, we held 803,428 shares of Series C Convertible Preferred
Stock (representing 4.0 percent of the total Series C Convertible
Preferred Stock outstanding) of Nanosys. As of the date above, our
Valuation Committee fair valued the Series C Preferred Stock of Nanosys
held by us at $1,500,000. The Chief Executive Officer of the company is
Calvin Chow.
*Nantero, Inc., located at 25-D Olympia Avenue, Woburn, Massachusetts
01801, is a spin-off from Harvard University. Nantero intends to be a
fabless semiconductor company, focusing on the development of
non-volatile random access memory based on carbon nanotubes. As of
June 30, 2005, we held 345,070 shares of Series A Convertible Preferred
Stock (representing 8.17 percent of the total Series A Preferred Stock
outstanding), 207,051 shares of Series B Convertible Preferred Stock
(representing 3.08 percent of the total Series B Convertible Preferred
Stock outstanding) and 188,315 shares of Series C Convertible Preferred
Stock (representing 3.75 percent of the total Series C Convertible
Preferred Stock outstanding) of Nantero. As of the date above, our
Valuation Committee fair valued the total amount of shares of Nantero
held by us at $2,246,409. The Chief Executive Officer of the company is
Greg Schmergel.
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*NeoPhotonics Corporation, located at 2911 Zanker Road, San Jose,
California 95134, is developing planar optical devices and components to
manufacture and offer to leading optical component manufacturers using
its patented nanomaterials deposition technology. The company is
developing functional component arrays to offer integrated optical
"systems on a chip" to component vendors. As of June 30, 2005, we held
60,580 shares of Common Stock (representing 6.43 percent of the total
Common Stock outstanding), 1,831,256 shares of Series 1 Convertible
Preferred Stock (representing 4.21 percent of the total Series 1
Convertible Preferred Stock) and Warrants to purchase 30,427 shares of
Common Stock (representing 9.00 percent of the total Warrants
outstanding). As of the date above, our Valuation Committee fair valued
the total amount of securities of NeoPhotonics held by us at $2,024,086.
The Chief Executive Officer of the company is Timothy S. Jenks. Daniel V.
Leff serves as an observer to the Board of Directors of the company.
*Optiva, Inc., located at 377 Oyster Point Boulevard, Suite 13, South San
Francisco, California 94080, was developing and commercializing a new
class of nanomaterials for advanced optical applications, initially for
the flat panel display industry. As of June 30, 2005, we held 1,249,999
shares of the Series C Preferred Stock (representing 4.13 percent of the
total Series C Convertible Preferred Stock outstanding) and $150,000 in
Convertible Bridge Notes (representing 11.54 percent of the total
Convertible Bridge Notes outstanding) of Optiva. As of the date above,
our Valuation Committee fair valued the total securities of Optiva held
by us at $0. The Chief Executive Officer of the company was Peter
Hopper. As of the date above, our Valuation Committee fair valued the
Convertible Bridge Note held by us at $75,000.
With the exceptions of Alpha Simplex, Crystal IS, eLite Optoelectronics,
Experion, Molecular Imprints, Nanomix, NanoOpto, NeoPhotonics, NeuroMetrix,
Questech and Starfire Systems, none of the foregoing portfolio companies is
currently generating revenues from commercial sales of products and/or
services. Although Alpha Simplex, Crystal IS, eLite Optoelectronics, Experion,
Molecular Imprints, Nanomix, NanoOpto, NeoPhotonics, NeuroMetrix, Questech and
Starfire Systems are generating revenues from commercial sales of products
and/or services, they are still relatively early-stage companies with the
attendant risks. Any of the private companies may require additional funding
that may not be obtainable at all or on the terms of their most recent
fundings, which would result in partial or complete write-downs in the value of
our investment. In general, private equity is difficult to obtain, especially
in the current capital markets environment. Each company is dependent upon a
single or small number of customers and/or key operating personnel. All of the
foregoing companies rely heavily upon the technology associated with their
respective business or, in the case of Exponential, with the companies in which
it invests. Therefore, each company places great importance on its relevant
patents, trademarks, licenses, algorithms, trade secrets, franchises or
concessions. Lastly, each company is particularly vulnerable to general
economic, private equity and capital markets conditions and to changes in
government regulation, interest rates or technology.
DETERMINATION OF NET ASSET VALUE
Our investments can be classified into five broad categories for
valuation purposes:
. Equity-related securities;
. Investments in intellectual property or patents or research and
development in technology or product development;
. Long-term fixed-income securities;
. Short-term fixed-income investments; and
. All other investments.
46
The 1940 Act requires periodic valuation of each investment in our
portfolio to determine 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.
Our Board of Directors is responsible for (1) determining overall
valuation guidelines and (2) ensuring the valuation of investments within the
prescribed guidelines.
Our Valuation Committee, comprised of three or more independent Board
members, is responsible for reviewing and approving the valuation of our assets
within the guidelines established by the Board of Directors.
Fair value is generally defined as the amount that an investment could be
sold for in an orderly disposition over a reasonable time. Generally, to
increase objectivity in valuing our assets, external measures of value, such as
public markets or third-party transactions, are utilized whenever possible.
Valuation is not based on long-term work-out value, nor immediate liquidation
value, nor incremental value for potential changes that may take place in the
future.
The values assigned to these investments are based on available
information and do not necessarily represent amounts that might ultimately be
realized, as these amounts depend on future circumstances and cannot reasonably
be determined until the individual investments are actually liquidated or
become marketable.
Our valuation policy with respect to the five broad investment categories
is as follows:
Equity-Related Securities
Equity-related securities are valued using one or more of the following
basic methods of valuation:
Cost. The cost method is based on our original cost. This method is
generally used in the early stages of a company's development until significant
positive or negative events occur subsequent to the date of the original
investment that dictate a change to another valuation method. Some examples of
these events are: (1) a major recapitalization; (2) a major refinancing; (3) a
significant third-party transaction; (4) the development of a meaningful public
market for the company's Common Stock; and (5) significant positive or negative
changes in a company's business.
Analytical Method. The analytical method is generally used to value an
investment position when there is no established public or private market in
the company's securities or when the factual information available to us
dictates that an investment should no longer be valued under either the cost or
private market method. This valuation method is inherently imprecise and
ultimately the result of reconciling the judgments of our Valuation Committee
members, based on the data available to them. The resulting valuation, although
stated as a precise number, is necessarily within a range of values that vary
depending upon the significance attributed to the various factors being
considered. Some of the factors considered may include the financial condition
and operating results of the company, the long-term potential of the business
of the company, the values of similar securities issued by companies in similar
businesses, 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.
Private Market. The private market method uses actual, executed,
historical transactions in a company's securities by responsible third parties
as a basis for valuation. The private market method may also use, where
applicable, unconditional firm offers by responsible third parties as a basis
for valuation.
Public Market. The public market method is used when there is an
established public market for the class of the company's securities held by us
or into which our securities are convertible. We discount market value for
securities that are subject to significant legal and contractual restrictions.
Other securities, for which
47
market quotations are readily available, are carried at market value as of the
time of valuation. Market value for securities traded on securities exchanges
or on the Nasdaq National Market is the last reported sales price on the day of
valuation. For other securities traded in the over-the-counter market and
listed securities for which no sale was reported on that day, market value is
the mean of the closing bid price and asked price on that day. This method is
the preferred method of valuation when there is an established public market
for a company's securities, as that market provides the most objective basis
for valuation.
Investments in Intellectual Property or Patents or Research and Development in
Technology or Product Development
These investments are carried at fair value using the following basic
methods of valuation:
Cost. The cost method is based on our original cost. This method is
generally used in the early stages of commercializing or developing
intellectual property or patents or research and development in technology or
product development until significant positive or adverse events occur
subsequent to the date of the original investment that dictate a change to
another valuation method.
Analytical Method. The analytical method is used to value an investment
after analysis of the best available outside information where the factual
information available to us dictates that an investment should no longer be
valued under either the cost or private market method. This valuation method is
inherently imprecise and ultimately the result of reconciling the judgments of
our Valuation Committee members. The resulting valuation, although stated as a
precise number, is necessarily within a range of values that vary depending
upon the significance attributed to the various factors being considered. Some
of the factors considered may include the results of research and development,
product development progress, commercial prospects, term of patent and
projected markets.
Private Market. The private market method uses actual third-party
investments in intellectual property or patents or research and development in
technology or product development as a basis for valuation, using actual
executed historical transactions by responsible third parties. The private
market method may also use, where applicable, unconditional firm offers by
responsible third parties as a basis for valuation.
As of June 30, 2005, we do not have any investments in intellectual
property or patents or research and development in technologies or products.
Long-Term Fixed-Income Securities
Fixed-income securities for which market quotations are readily available
are carried at market value as of the time of valuation using the most recent
bid quotations when available. Securities for which market quotations are not
readily available are carried at fair value using one or more of the following
basic methods of valuation:
. Fixed-income securities are valued by independent pricing services
that provide market quotations based primarily on quotations from
dealers and brokers, market transactions, and other sources.
. Other fixed-income securities that are not readily marketable are
valued at fair value by our Valuation Committee.
Short-Term Fixed-Income Investments
Short-term fixed-income investments are valued at market value at the
time of valuation. We value short-term debt with remaining maturity of 60 days
or less at amortized cost.
48
All Other Investments
All other investments are reported at fair value as determined in good
faith by the Valuation Committee.
The reported values of securities for which market quotations are not
readily available and for other assets reflect the Valuation Committee's
judgment of fair values as of the valuation date using the outlined basic
methods of valuation. They do not necessarily represent an amount of money that
would be realized if we had to sell the securities in an immediate liquidation.
Thus, valuations as of any particular date are not necessarily indicative of
amounts that we may ultimately realize as a result of future sales or other
dispositions of investments we hold.
As of June 30, 2005, we do not have any of these investments.
INVESTMENT POLICIES
Investments and Strategies
The following is a summary description of the types of assets in which we
may invest, the investment strategies we may utilize and the attendant risks
associated with our investments and strategies. For a full description of our
investments and strategies, please refer to our Annual Report on Form 10-K.
Equity, Equity-Related Securities and Debt with Equity Features
We may invest in equity, equity-related securities and debt with equity
features. These securities include Common Stock, preferred stock, debt
instruments convertible into common or preferred stock, limited partnership
interests, other beneficial ownership interests and warrants, options or other
rights to acquire any of the foregoing.
We may make investments in companies with operating histories that are
unprofitable or marginally profitable, that have negative net worth or that are
involved in bankruptcy or reorganization proceedings. These investments would
involve businesses that management believes have turn around potential through
the infusion of additional capital and management assistance. In addition, we
may make investments in connection with the acquisition or divestiture of
companies or divisions of companies. There is a significantly greater risk of
loss with these types of securities than is the case with traditional
investment securities.
We may also invest in publicly traded securities of whatever nature,
including relatively small, emerging growth companies that management believes
have long-term growth possibilities.
Warrants, options and convertible or exchangeable securities generally
give the investor the right to acquire specified equity securities of an issuer
at a specified price during a specified period or on a specified date. Warrants
and options fluctuate in value in relation to the value of the underlying
security and the remaining life of the warrant or option, while convertible or
exchangeable securities fluctuate in value both in relation to the intrinsic
value of the security without the conversion or exchange feature and in
relation to the value of the conversion or exchange feature, which is like a
warrant or option. When we invest in these securities, we incur the risk that
the option feature will expire worthless, thereby either eliminating or
diminishing the value of our investment.
Investments in equity securities of private companies involve securities
that are restricted as to sale and cannot be sold in the open market without
registration under the Securities Act of 1933 or pursuant to a specific
exemption from these registrations. Opportunities for sale are more limited
than in the case of marketable securities, although these investments may be
purchased at more advantageous prices and may offer attractive
49
investment opportunities. Even if one of our portfolio companies completes an
initial public offering, we are typically subject to a lock-up agreement, and
the stock price may decline substantially before we are free to sell. Even if
we have registration rights to make our investments more marketable, a
considerable amount of time may elapse between a decision to sell or register
the securities for sale and the time when we are able to sell the securities.
The prices obtainable upon sale may be adversely affected by market conditions
or negative conditions affecting the issuer during the intervening time.
Venture Capital Investments
We expect to invest in development stage or start-up businesses.
Substantially all of our long-term investments are in thinly capitalized,
unproven, small companies focused on risky technologies. These businesses also
tend to lack management depth, to have limited or no history of operations and
to have not attained profitability. Because of the speculative nature of these
investments, these securities have a significantly greater risk of loss than
traditional investment securities. Some of our venture capital investments are
likely to be complete losses or unprofitable and some will never realize their
potential.
We may own 100 percent of the securities of a start-up investment for a
period of time and may control the company for a substantial period. Start-up
companies are more vulnerable than better capitalized companies to adverse
business or economic developments. Start-up businesses generally have limited
product lines, service niches, markets and/or financial resources. Start-up
companies are not well-known to the investing public and are subject to
potential bankruptcy, general movements in markets and perceptions of potential
growth.
In connection with our venture capital investments, we may participate in
providing a variety of services to our portfolio companies, including the
following:
. recruiting management;
. formulating operating strategies;
. formulating intellectual property strategies;
. assisting in financial planning;
. providing management in the initial start-up stages; and
. establishing corporate goals.
We may assist in raising additional capital for these companies from
other potential investors and may subordinate our own investment to that of
other investors. We may also find it necessary or appropriate to provide
additional capital of our own. We may introduce these companies to potential
joint venture partners, suppliers and customers. In addition, we may assist in
establishing relationships with investment bankers and other professionals. We
may also assist with mergers and acquisitions. We do not derive income from
these companies for the performance of any of the above services.
We may control, be represented on or have observer rights on the Board of
Directors of a portfolio company by one or more of our officers or directors,
who may also serve as officers of the portfolio company. We indemnify our
officers and directors for serving on the Boards of Directors or as officers of
portfolio companies, which exposes us to additional risks. Particularly during
the early stages of an investment, we may in effect be involved in the conduct
of the operations of the portfolio company. As a venture company emerges from
the developmental stage with greater management depth and experience, we expect
that our role in the portfolio company's operations will diminish. Our goal is
to assist each company in establishing its own independent capitalization,
management and Board of Directors. We expect to be able to reduce our interest
in those start-up companies which become successful.
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Debt Obligations
We may hold debt securities for income and as a reserve pending more
speculative investments. Debt obligations may include U.S. government and
government agency securities, commercial paper, bankers' acceptances,
receivables or other asset-based financing, notes, bonds, debentures, or other
debt obligations of any nature and repurchase agreements related to these
securities. These obligations may have varying terms with respect to security
or credit support, subordination, purchase price, interest payments and
maturity from private, public or governmental issuers of any type located
anywhere in the world. We may invest in debt obligations of companies with
operating histories that are unprofitable or marginally profitable, that have
negative net worth or are involved in bankruptcy or reorganization proceedings,
or that are start-up or development stage entities. In addition, we may
participate in the acquisition or divestiture of companies or divisions of
companies through issuance or receipt of debt obligations.
It is likely that our investments in debt obligations will be of varying
quality, including non-rated, highly speculative debt investments with limited
marketability. Investments in lower-rated and non-rated securities, commonly
referred to as "junk bonds," are subject to special risks, including a greater
risk of loss of principal and non-payment of interest. Generally, lower-rated
securities offer a higher return potential than higher-rated securities but
involve greater volatility of price and greater risk of loss of income and
principal, including the possibility of default or bankruptcy of the issuers of
these securities. Lower-rated securities and comparable non-rated securities
will likely have large uncertainties or major risk exposure to adverse
conditions and are predominantly speculative with respect to the issuer's
capacity to pay interest and repay principal in accordance with the terms of
the obligation. The occurrence of adverse conditions and uncertainties to
issuers of lower-rated securities would likely reduce the value of lower-rated
securities held by us, with a commensurate effect on the value of our shares.
The markets in which lower-rated securities or comparable non-rated
securities are traded generally are more limited than those in which
higher-rated securities are traded. The existence of limited markets for these
securities may restrict our ability to obtain accurate market quotations for
the purposes of valuing lower-rated or non-rated securities and calculating net
asset value or to sell securities at their fair value. Any economic downturn
could adversely affect the ability of issuers' lower-rated securities to repay
principal and pay interest thereon. The market values of lower-rated and
non-rated securities also tend to be more sensitive to individual corporate
developments and changes in economic conditions than higher-rated securities.
In addition, lower-rated securities and comparable non-rated securities
generally present a higher degree of credit risk. Issuers of lower-rated
securities and comparable non-rated securities are often highly leveraged and
may not have more traditional methods of financing available to them, so that
their ability to service their debt obligations during an economic downturn or
during sustained periods of rising interest rates may be impaired. The risk of
loss owing to default by these issuers is significantly greater because
lower-rated securities and comparable non-rated securities generally are
unsecured and frequently are subordinated to the prior payment of senior
indebtedness. We may incur additional expenses to the extent that we are
required to seek recovery upon a default in the payment of principal or
interest on our portfolio holdings.
The market value of investments in debt securities that carry no equity
participation usually reflects yields generally available on securities of
similar quality and type at the time purchased. When interest rates decline,
the market value of a debt portfolio already invested at higher yields can be
expected to rise if the securities are protected against early call. Similarly,
when interest rates increase, the market value of a debt portfolio already
invested at lower yields can be expected to decline. Deterioration in credit
quality also generally causes a decline in market value of the security, while
an improvement in credit quality generally leads to increased value.
Foreign Securities
We may make investments in securities of issuers whose principal
operations are conducted outside the United States, and whose earnings and
securities are stated in foreign currency. In order to maintain our status as
51
a business development company, our investments in the stocks of companies
organized outside the U.S. would be limited to 30 percent of our assets,
because we must invest at least 70 percent of our assets in "qualifying assets"
and foreign companies are not "qualifying assets." We do not anticipate
investing a significant portion of our assets in foreign companies.
Compared to otherwise comparable investments in securities of U.S.
issuers, currency exchange risk of securities of foreign issuers is a
significant variable. The value of these investments to us will vary with the
relation of the currency in which they are denominated to the U.S. dollar, as
well as with intrinsic elements of value such as credit risk, interest rates
and performance of the issuer. Investments in foreign securities also involve
risks relating to economic and political developments, including
nationalization, expropriation, currency exchange freezes and local recession.
Securities of many foreign issuers are less liquid and more volatile than those
of comparable U.S. issuers. Interest and dividend income and capital gains on
our foreign securities may be subject to withholding and other taxes that may
not be recoverable by us. We may seek to hedge all or part of the currency risk
of our investments in foreign securities through the use of futures, options
and forward currency purchases or sales.
Intellectual Property
We believe there is a role for organizations that can assist in
technology transfer. Scientists and institutions that develop and patent
intellectual property perceive the need for and rewards of entrepreneurial
commercialization of their inventions.
Our form of investment may be:
. funding research and development in the development of a technology;
. obtaining licensing rights to intellectual property or patents;
. acquiring intellectual property or patents; or
. forming and funding companies or joint ventures to further
commercialize intellectual property.
Income from our investments in intellectual property or its development
may take the form of participation in licensing or royalty income, fee income,
or some other form of remuneration. Investment in developmental intellectual
property rights involves a high degree of risk that can result in the loss of
our entire investment as well as additional risks including uncertainties as to
the valuation of an investment and potential difficulty in liquidating an
investment. Further, investments in intellectual property generally require
investor patience as investment return may be realized only after or over a
long period. At some point during the commercialization of a technology, our
investment may be transformed into ownership of securities of a development
stage or start-up company as discussed under "Venture Capital Investments"
above.
Other Strategies
In pursuit of our investment strategy, we may employ one or more of the
following strategies in order to enhance investment results.
Borrowing and Margin Transactions
We may from time to time borrow money, issue preferred shares or obtain
credit by any lawful means from banks, lending institutions, other entities or
individuals, in negotiated transactions. We may issue, publicly or privately,
bonds, debentures or notes, in series or otherwise, with interest rates and
other terms and provisions, including conversion rights, on a secured or
unsecured basis, for any purpose, up to the maximum amounts and
52
percentages permitted for closed-end investment companies under the 1940 Act.
The 1940 Act currently prohibits us from borrowing any money or issuing any
other senior securities (other than preferred stock and other than temporary
borrowings of up to five percent of our assets), if in giving effect to the
borrowing or issuance, the value of our total assets would be less than 200
percent of our total liabilities (other than liabilities not constituting
senior securities). We may pledge assets to secure any borrowings. We currently
have no leverage and have no current intention to issue preferred stock.
A primary purpose of our borrowing power is for leverage, to increase our
ability to acquire investments both by acquiring larger positions and by
acquiring more positions. Borrowings for leverage accentuate any increase or
decrease in the market value of our investments and thus our net asset value.
Since any decline in the net asset value of our investments will be borne first
by holders of Common Stock, the effect of leverage in a declining market would
be a greater decrease in net asset value applicable to the Common Stock than if
we were not leveraged. Any decrease would likely be reflected in a decline in
the market price of the Common Stock. To the extent the income derived from
assets acquired with borrowed funds exceeds the interest and other expenses
associated with borrowing, our total income will be greater than if borrowings
were not used. Conversely, if the income from assets is not sufficient to cover
the borrowing costs, our total income will be less than if borrowings were not
used. If our current income is not sufficient to meet our borrowing costs
(repayment of principal and interest), we might have to liquidate our
investments when it may be disadvantageous to do so. Our borrowings for the
purpose of buying most liquid equity securities will be subject to the margin
rules, which require excess liquid collateral marked to market daily. If we are
unable to post sufficient collateral, we would be required to sell securities
to remain in compliance with the margin rules. These sales might be at
disadvantageous times or prices.
Repurchase of Shares
Our shareholders do not have the right to compel us to redeem our shares.
We may, however, purchase outstanding shares of our Common Stock from time to
time, subject to approval of our Board of Directors and compliance with
applicable corporate and securities laws. The Board of Directors may authorize
purchases from time to time when they are deemed to be in the best interests of
our shareholders, but could do so only after notification to shareholders. The
Board of Directors may or may not decide to undertake any purchases of our
Common Stock.
Our repurchases of our common shares would decrease our total assets and
would therefore likely have the effect of increasing our expense ratio. Subject
to our investment restrictions, we may borrow money to finance the repurchase
of our Common Stock in the open market pursuant to any tender offer. Interest
on any borrowings to finance share repurchase transactions will reduce our net
assets. If, because of market fluctuations or other reasons, the value of our
assets falls below the required 1940 Act coverage requirements, we may have to
reduce our borrowed debt to the extent necessary to comply with the
requirement. To achieve a reduction, it is possible that we may be required to
sell portfolio securities at inopportune times when it may be disadvantageous
to do so. Since 1998, we have repurchased a total of 1,828,740 shares of our
Common Stock at a total cost of $3,405,531, or $1.86 per share. Because we
intend to continue investing in tiny technology, our Board of Directors does
not currently intend to authorize the purchase of additional shares of our
Common Stock.
Portfolio Company Turnover
Changes with respect to portfolio companies will be made as our
management considers necessary in seeking to achieve our investment objective.
The rate of portfolio turnover will not be treated as a limiting or relevant
factor when circumstances exist which are considered by management to make
portfolio changes advisable.
Although we expect that many of our investments will be relatively long
term in nature, we may make changes in our particular portfolio holdings
whenever it is considered that an investment no longer has
53
substantial growth potential or has reached its anticipated level of
performance, or (especially when cash is not otherwise available) that another
investment appears to have a relatively greater opportunity for capital
appreciation. We may also make general portfolio changes to increase our cash
to position us in a defensive posture. We may make portfolio changes without
regard to the length of time we have held an investment, or whether a sale
results in profit or loss, or whether a purchase results in the reacquisition
of an investment which we may have only recently sold.
The portfolio turnover rate may vary greatly from year to year as well as
during a year and may also be affected by cash requirements.
MANAGEMENT OF THE COMPANY
Board of Directors and Certain Executive Officers
Set forth below are the names, ages, positions and principal occupations
during the past five years of our directors and executive officers. We have no
advisory board. Our business address and that of our officers and directors is
111 West 57/th/ Street, Suite 1100, New York, New York 10019.
Executive Officers
Messrs. Harris, Jamison, Leff and Andreev are Managing Directors and are
primarily responsible for the day to day management of our portfolio. They have
served in this capacity since 1984, 2002, 2004 and 2005, respectively.
Charles E. Harris. Mr. Harris, 62, currently serves as our Chairman,
Chief Executive Officer, Director and as a Managing Director. He has served as
our Chief Executive Officer since July 1984 and as a Managing Director since
January 2004. He has been a member of our Board of Directors and served as
Chairman of the Board since April 1984. He also served as our Chief Compliance
Officer from February 1997 to February 2001. He is Chairman of the Board, Chief
Executive Officer and a Director of Harris & Harris Enterprises, a wholly owned
subsidiary of the Company. He is a Director of Nanopharma Corp., a privately
held company in which we have an investment. He was a member of the Advisory
Panel for the Congressional Office of Technology Assessment. Prior to joining
us, he was Chairman of Wood, Struthers and Winthrop Management Corporation, the
investment advisory subsidiary of Donaldson, Lufkin and Jenrette. He is
currently a member of the New York Society of Security Analysts. He was, until
2004, a Trustee and head of the Audit Committee of Cold Spring Harbor
Laboratory, a not-for-profit institution that conducts research and education
programs in the fields of molecular biology and genetics, and he currently
serves as Co-Chairman of its President's Council. He also serves as a Trustee
and head of the Audit Committee of the Nidus Center, a life sciences business
incubator in St. Louis, Missouri. He is a life-sustaining fellow of MIT and a
shareholder of its Entrepreneurship Center. He is an "interested person" as
defined in Section 2(a)(19) of the 1940 Act, as a beneficial owner of more than
five percent of our Common Stock, as a control person and as one of our
officers. He was graduated from Princeton University (A.B.) and the Columbia
University Graduate School of Business (M.B.A.).
Douglas W. Jamison. Mr. Jamison, 35, has served as President, Chief
Financial Officer and Chief Operating Officer since January 1, 2005, Treasurer
since March 2005 and as a Managing Director since January 2004. Since January
2005, he is President and a Director of Harris & Harris Enterprises, Inc., a
wholly owned subsidiary of Harris & Harris Group, Inc., and Vice President from
September 2002 through December 2004. He is a director of NanoOpto Corporation
and Nextreme Thermal Solutions, Inc., privately held nanotechnology-enabled
companies in which we have an investment. He is Co-Editor-in-Chief of
"Nanotechnology Law & Business." He is Co-Chair of the Advisory Board,
Converging Technology Bar Association, and a member of the Advisory Board,
Massachusetts Technology Collaborative Nanotechnology Venture Forum. His
professional societies include the Association of University Technology
Managers, for which he serves on its Survey
54
Statistics and Metrics Committee. Prior to joining us, he worked as a senior
technology manager at the University of Utah Technology Transfer Office, where
he managed intellectual property in physics, chemistry and the engineering
sciences from 1997 to 2002. He was graduated from Dartmouth College (B.A.) and
the University of Utah (M.S.).
Daniel V. Leff. Mr. Leff, 37, has served as an Executive Vice President
and a Managing Director since January 2004. Prior to joining us, he was a
Senior Associate with Sevin Rosen Funds in the firm's Dallas, Texas office,
where he focused on early-stage investment opportunities in semiconductors,
components, and various emerging technology areas from 2001 to 2003. Previously
he worked for Redpoint Ventures in the firm's Los Angeles office from 2000 to
2001. In addition, he previously held engineering, marketing and strategic
investment positions with Intel Corporation from 1997 to 2000. He is a Director
of Nanomix, Inc., and Solazyme, Inc., privately held nanotechnology-enabled
companies in which we have an investment. He received his Ph.D. degree in
Physical Chemistry from UCLA's Department of Chemistry and Biochemistry, where
his thesis advisor was Professor James R. Heath (recipient of the 2000 Feynman
Prize in Nanotechnology). He also received a B.S. in Chemistry from the
University of California, Berkeley and an MBA from The Anderson School at UCLA,
where he was an Anderson Venture Fellow. He has published several articles in
peer-reviewed scientific journals and has been awarded two patents in the field
of Nanotechnology. He is also a member of the business advisory boards of the
NanoBusiness Alliance and the California NanoSystems Institute (CNSI).
Alexei A. Andreev. Mr. Andreev, 33, joined us in March 2005, as an
Executive Vice President and as a Managing Director. From 2002 to March 2005,
he was an Associate with Draper Fisher Jurvetson, a venture capital firm. In
2001, he was a Summer Associate with TLcom Capital Partners, a London-based
venture capital fund backed by Morgan Stanley. From 1997 to 2000, he was
employed by Renaissance Capital Group/Sputnik Funds, a venture capital fund in
Moscow, Russia. Previously, he was a researcher at the Centre of
Nanotechnology, Isan, in Troitsk, Russia. He is a Director of privately held
EoPlex Technologies, Inc., a tiny technology-enabled company, and of the
American Business Association of Russian Expatriates. He was graduated with a
B.S. with honors in Engineering/Material Sciences and a Ph.D. in Solid State
Physics from Moscow Steel and Alloys Institute and with an M.B.A. from the
Stanford Graduate School of Business.
Daniel B. Wolfe. Mr. Wolfe, 28, has served as a Vice President since July
2004. Prior to joining us, he served as a consultant to Nanosys, Inc. (from
2002 to 2004), CW Group (from 2001 to 2004) and Bioscale, Inc. (from January
2004 to June 2004). From February 2000 to January 2002, he was the Co-founder
and President of Scientific Venture Assessments, Inc., a provider of scientific
analysis of prospective investments for venture capital placements and of
scientific expertise to high-technology companies. Mr. Wolfe was graduated from
Rice University (B.A., Chemistry), where his honors included the Zevi and
Bertha Salsburg Memorial Award in Chemistry and the Presidential Honor Roll,
and from Harvard University (Ph.D., Chemistry), where he was an NSF Predoctoral
Fellow.
Sandra Matrick Forman. Ms. Forman, 39, has served as General Counsel,
Chief Compliance Officer and Director of Human Resources since August 2004.
Prior to joining us, she was an Associate at Skadden, Arps, Slate, Meagher &
Flom LLP, in the Investment Management Group, from 2001 to 2004. From May to
August 2000, she was a Summer Associate with Latham & Watkins LLP in its London
office. Ms. Forman served as an intern from August to December 2000 in the
office of the General Counsel, United States Department of Defense, Office of
the Secretary of Defense. From June to August 1999, she served as an intern for
the Honorable Ronald S. Lew, United States Federal District Court, Central
District of California. She was graduated from New York University (B.A.),
where her honors included National Journalism Honor Society, and from the
University of California Los Angeles (J.D.), where her honors included Order of
the Coif and membership on the Law Review. She is currently a member of the
working group for the National Venture Capital Association model documents.
Patricia N. Egan. Ms. Egan, 30, has served as Chief Accounting Officer,
Vice President, Senior Controller and Assistant Secretary since June 2005.
Prior to joining us, she served as a Manager at
55
PricewaterhouseCoopers LLP in its financial services group from 1996 to 2005.
Ms. Egan was graduated from Georgetown University (B.S., Accounting), where her
honors included the Othmar F. Winkler Award for Excellence in Community
Service. She is a Certified Public Accountant.
Susan T. Harris. Ms. Harris, 60, has served as our Secretary since July
2001. She was employed by Harris & Harris Enterprises, Inc., our wholly owned
subsidiary, from July 1999 to July 2003, working primarily in financial public
relations. From July 2001 to July 2003, she served as its Secretary and
Treasurer. She has been an investor relations consultant since 1972, operating
as a sole proprietor prior to 1999, and again from July 2003 to the present.
She was graduated from Wellesley College (B.A., Economics). Ms. Harris's
husband serves as the Chairman, Chief Executive Officer and a Managing Director
of the Company.
Board of Directors
Our Board of Directors supervises our management. The responsibilities of
each director include, among other things, the oversight of the investment
approval process, the quarterly valuation of our assets, and the oversight of
our financing arrangements.
Interested Directors:
Charles E. Harris. See biography under "Executive Officers."
Kelly S. Kirkpatrick. Dr. Kirkpatrick, 38, has served as a member of our
Board of Directors since March 2002. She has served as a consultant to us on
nanotechnology and in our due diligence work on certain prospective
investments. She is an independent business consultant assessing and advising
on early stage, technology start-ups for venture capital companies. From 2000
to 2002, she served in the Office of the Executive Vice Provost of Columbia
University as Director of the Columbia University Nanotechnology Initiative and
as Director for Research and Technology Initiatives. From 1998 to 2000, she
served in the White House Office of Science and Technology Policy as a Senior
Policy Analyst involved in the National Nanotechnology Initiative. From 1997 to
1998, she was a Science Policy Coordinator for Sandia National Laboratories.
From 1995 to 1996, she served in the office of Senator Joseph Lieberman as
Legislative Assistant, Congressional Science and Engineering Fellow. She was
graduated from University of Richmond (B.S., Chemistry with a business option)
and Northwestern University (Ph.D., Materials Science and Engineering). She may
be considered to be an "interested person" of the Company because of the
consulting work she does for us.
Lori D. Pressman. Ms. Pressman, 47, has served as a member of our Board
of Directors since March 2002. She has served as a consultant to us on tiny
technology, intellectual property and in our due diligence work on certain
prospective investments. She also acts as an observer for us at Board meetings
of certain portfolio companies in the Boston area. She is a business consultant
providing advisory services to start-ups and venture capital companies. She
consults internationally on technology transfer practices and metrics for
non-profit and government organizations. From 1999 to 2001, she was Chair of
the Survey Statistics and Metrics Committee of the Association of University
Technology Managers. From September 1989 to July 2000, she was employed by MIT
in its Technology Licensing Office. She served as a Technology Licensing
Officer from 1989 to 1995 and as Assistant Director of the Technology Licensing
Office from 1996 to 2000. From September 1984 to September 1989, she was Senior
Development Engineer at Lasertron, Inc. She was graduated from the
Massachusetts Institute of Technology (S.B., Physics) and the Columbia School
of Engineering (MSEE). She may be considered to be an "interested person" of
the Company because of the consulting work she does for us.
56
Independent Directors:
C. Wayne Bardin. Dr. Bardin, 70, has served as a member of our Board of
Directors since December 1994. Since 1996, he has served as the President of
Bardin LLC, a consulting firm to pharmaceutical companies. From 1998 to 2003,
he served as President of Thyreos Corp., a privately held, start-up
pharmaceutical company. From 1978 through 1996, he was Vice President of The
Population Council. His professional appointments have included: Professor of
Medicine, Chief of the Division of Endocrinology, The Milton S. Hershey Medical
Center of Pennsylvania State University and Senior Investigator, Endocrinology
Branch, National Cancer Institute. He has also served as a consultant to
several pharmaceutical companies. He has been appointed to the editorial boards
of 15 journals. He has also served on national and international committees and
boards for the National Institutes of Health, World Health Organization, The
Ford Foundation and numerous scientific societies. He was graduated from Rice
University (B.A.), Baylor University (M.S., M.D.) and he received a Doctor
Honoris Causa from the University of Caen, the University of Paris and the
University of Helsinki.
Phillip A. Bauman. Dr. Bauman, 49, has served as a member of our Board of
Directors since February 1998. He is Senior Attending in Orthopedic Surgery at
St. Luke's/Roosevelt Hospital Center in Manhattan and has served as an elected
member of the Executive Committee of the Medical Board since 2000. He has been
Assistant Professor of Orthopedic Surgery at Columbia University since 1998 and
a Vice President of Orthopedic Associates of New York since 1994. He was
elected a fellow of the American Academy of Orthopaedic Surgeons in 1991. He is
an active member of the American Orthopaedic Society for Sports Medicine, the
New York State Society of Orthopaedic Surgeons and the American Medical
Association. He was graduated from Harvard College (B.A.), Harvard University
(M.S., biology) and the College of Physicians and Surgeons at Columbia
University (M.D).
G. Morgan Browne. Mr. Browne, 70, has served as a member of our Board of
Directors since June 1992. He is President since 2004 and a Trustee since 2000
of Planting Fields Foundation, a historic estate arboretum. From 2001 to 2003,
he served as Chief Financial Officer of Cold Spring Harbor Laboratory, a
not-for-profit institution that conducts research and education programs in the
fields of molecular biology and genetics. From 1985 to 2000, he was the
Administrative Director of Cold Spring Harbor Laboratory. In prior years, he
was active in the management of numerous scientifically based companies as an
officer, as an individual consultant and as an associate of Laurent Oppenheim
Associates, Industrial Management Consultants. He is a Director of OSI
Pharmaceuticals, Inc., a publicly held company principally engaged in drug
discovery based on gene transcription. He was a founding director of the New
York Biotechnology Association and a founding Director of the Long Island
Research Institute. He was graduated from Yale University.
Dugald A. Fletcher. Mr. Fletcher, 75, has served as a member of our Board
of Directors since 1996. He has served as President of Fletcher & Company,
Inc., a management consulting firm since 1984. Until the end of 1997, he was
Chairman of Binnings Building Products Company, Inc. His previous business
appointments include: adviser to Gabelli/Rosenthal LP, a leveraged buyout fund;
Chairman of Keller Industries, building and consumer products; Senior Vice
President of Booz-Allen & Hamilton; President of Booz-Allen Acquisition
Services; Executive Vice President and a Director of Paine Webber, Inc.; and
President of Baker, Weeks and Co., Inc., a New York Stock Exchange member firm.
He is currently a Trustee of the Gabelli Growth Fund and a Director of the
Gabelli Convertible and Income Securities Fund, Inc. He was graduated from
Harvard College and Harvard Business School (M.B.A.).
Mark A. Parsells. Mr. Parsells, 45, has served as a member of our Board
of Directors since November 2003. Since February 2004, he is the Chairman,
President and Chief Executive Officer of Montpelier Ventures, a management
consulting firm. From 2001 to 2004, he was the Chairman, President, Chief
Executive Officer and a Director of Fusura LLC, an AIG company that is an
Internet-based, direct-to-consumer auto insurance business. From 2000 to 2001,
he was President and Chief Operating Officer of Citibank Online. Previously, he
worked in executive positions for Bank One and American Express and acted as
Special Assistant to U.S. Senator John Heinz. He is a Director of Winterthur
Business Associates, a board that oversees corporate giving and events for
57
corporations (a former DuPont family estate). He is an alumni of The General
Manager Program at Harvard Business School. He was graduated from Emory
University (BA), Cornell University (MBA) and Vlerick Leuven Gent Business
School (M.B.A.).
Charles E. Ramsey. Mr. Ramsey, 62, has served as a member of our Board of
Directors since October 2002. He has been a consultant since 1997. He is a
retired founder and principal of Ramsey/Beirne Associates, Inc., an executive
search firm that specialized in recruiting top officers for high technology
companies, many of which were backed by venture capital. An active investor, he
is a Director of one privately held company. He works on construction projects
in Nicaragua as a member of the Nicaraguan Initiative Committee for the
Presbyterian Churches of the Hudson River and as Chair of Bridges to Community,
a non-governmental organization dedicated to construction projects in
Nicaragua. He is Chairman of The Seedling Group, Inc., an executive search
firm. He was graduated from Wittenberg University (B.A.).
James E. Roberts. Mr. Roberts, 59, has served as a member of our Board of
Directors since 1995. Since 2002, he has been Executive Vice President and
Chief Underwriting Officer of the Reinsurance Division of Alea North America
Company. From October 1999 to November 2002, he was Chairman and Chief
Executive Officer of the Insurance Corporation of New York, Dakota Specialty
Insurance Company, and Recor Insurance Company Inc., all members of the
Trenwick Group, Ltd. From October 1999 to March 2000, he served as Vice
Chairman of Chartwell Reinsurance Company. Prior to assuming those positions,
he was Vice Chairman of Trenwick America Reinsurance Corporation from May 1995
to March 2000. He was graduated from Cornell University (A.B.).
Committees of the Board of Directors
Our Board of Directors maintains an Executive Committee, an Audit
Committee, a Compensation Committee, a Nominating Committee, a Valuation
Committee and an Independent Directors Committee. All of the members of each
committee other than Mr. Harris (who sits on the Executive Committee) are
non-interested directors (as defined in Section 2(a)(19) of the 1940 Act).
The Executive Committee has and may exercise those rights, powers and
authority that the Board of Directors from time to time grants to it, except
where action by the full Board is required by statute, an order of the SEC or
our charter or bylaws. The Executive Committee did not meet as a separate
committee and did not act by unanimous written consent in 2004. The members of
the Executive Committee are Messrs. Harris (Chairman), Roberts and Browne and
Dr. Bardin.
The Audit Committee operates pursuant to a charter that sets forth the
responsibilities of the Audit Committee. The Audit Committee's responsibilities
include selecting and retaining our independent registered public accounting
firm, reviewing with the independent registered public accounting firm the
planning, scope and results of their audit and our financial statements and the
fees for services performed, reviewing with the independent registered public
accounting firm the adequacy of internal control systems, reviewing our annual
financial statements and receiving our audit reports and financial statements.
The Audit Committee met four times and acted by unanimous written consent one
time in 2004. The members of the Audit Committee are Messrs. Fletcher
(Chairman), Roberts and Browne and Dr. Bauman, all of whom are considered
independent under the rules promulgated by the Nasdaq National Market.
The Compensation Committee operates pursuant to a written charter and
determines the compensation for our executive officers and the amount of salary
and bonus to be included in the compensation package for each of our officers.
The Compensation Committee met one time and acted by unanimous written consent
one time in 2004. The members of the Compensation Committee are Messrs. Roberts
(Chairman), Parsells and Ramsey and Dr. Bauman.
The Nominating Committee acts pursuant to a written charter as an
advisory committee to the Board by identifying individuals qualified to serve
on the Board as directors and on committees of the Board, and
58
recommending nominees to stand for election as directors at the next annual
meeting of shareholders. The Nominating Committee met one time in 2004. The
members of the Nominating Committee are Messrs. Bardin (Chairman), Parsells and
Ramsey and Dr. Bauman.
The Nominating Committee will consider director candidates recommended by
shareholders. In considering candidates submitted by shareholders, the
Nominating Committee will take into consideration the needs of the Board and
the qualifications of the candidate. The Nominating Committee may also take
into consideration the number of shares held by the recommending shareholder
and the length of time that such shares have been held. To have a candidate
considered by the Nominating Committee, a shareholder must submit the
recommendation in writing and must include:
. The name of the shareholder and evidence of the person's ownership of
shares of the Company, including the number of shares owned and the
length of time of ownership;
. The name of the candidate, the candidate's resume or a listing of his
or her qualifications to be a Director of the Company and the person's
consent to be named as a Director if selected by the Nominating
Committee and nominated by the Board and consent to serve if elected;
and
. If requested by the Nominating Committee, a completed and signed
director's questionnaire.
The shareholder recommendation and information described above must be
sent to the Company's Corporate Secretary, c/o Harris & Harris Group, Inc., 111
West 57th Street, Suite 1100, New York, New York 10019, and must be received by
the Corporate Secretary not less than 120 days prior to the anniversary date of
the Company's most recent annual meeting of shareholders or, if the meeting has
moved by more than 30 days, a reasonable amount of time before the meeting.
The Valuation Committee reviews and approves the valuation of our assets,
from time to time, as prescribed by the 1940 Act, pursuant to Valuation
Procedures established by our Board of Directors. The Valuation Committee met
five times in 2004. The members of the Valuation Committee are Messrs. Fletcher
(Chairman), Browne, Parsells and Roberts and Dr. Bardin.
The Independent Directors Committee has the responsibility of proposing
corporate governance and long-term planning matters to the Board of Directors
and making the required determinations pursuant to the 1940 Act. The
Independent Directors Committee met three times in 2004. The members of the
Independent Directors Committee are Messrs. Browne (Chairman), Fletcher,
Parsells, Ramsey and Roberts, and Drs. Bardin and Bauman.
59
The following table sets forth the dollar range of equity securities
beneficially owned by each director as of December 31, 2004.
Dollar Range of Equity Securities
Name of Director Beneficially Owned/(1)(2)(3)/
---------------- ---------------------------------
Interested Directors:
Charles E. Harris............ Over $100,000
Dr. Kelly S. Kirkpatrick/(4)/ $50,001 - $100,000
Lori D. Pressman/(4)/........ $50,001 - $100,000
Independent Directors:
Dr. C. Wayne Bardin.......... Over $100,000
Dr. Phillip A. Bauman........ Over $100,000
G. Morgan Browne............. Over $100,000
Dugald A. Fletcher........... Over $100,000
Mark A. Parsells............. $10,001 - $50,000
Charles E. Ramsey............ Over $100,000
James E. Roberts............. Over $100,000
- ------------------
(1) Beneficial ownership has been determined in accordance with Rule
16a-1(a)(2) of the 1934 Act.
(2) The dollar ranges are: none, $1-$10,000, $10,001-$50,000, $50,001-$100,000
and over $100,000.
(3) The dollar ranges are based on the price of the equity securities as of
December 31, 2004.
(4) Denotes an individual who may be considered an "interested person" because
of consulting work performed for us.
60
Principal Shareholders and Ownership by Directors and Executive Officers
Set forth below is information as of August 1, 2005 with respect to the
beneficial ownership of our Common Stock by (i) each person who is known by us
to be the beneficial owner of more than five percent of the outstanding shares
of the Common Stock, (ii) each of our directors and executive directors and
(iii) all of our directors and executive officers as a group. Except as
otherwise indicated, to our knowledge, all shares are beneficially owned and
investment and voting power is held by the persons named as owners. At this
time, we are unaware of any shareholder owning 5 percent or more of the
outstanding shares of Common Stock other than the ones noted below. Unless
otherwise provided, the address of each holder is c/o Harris & Harris Group,
Inc., 111 West 57th Street, Suite 1100, New York, New York 10019.
Amount and Nature of Percentage of Outstanding
Name and Address of Beneficial Owner Beneficial Ownership Common Shares Owned
- ------------------------------------ -------------------- -------------------------
Independent Directors:
Dr. C. Wayne Bardin......................................... 22,739/(1)/ *
Dr. Phillip A. Bauman....................................... 23,971/(2)/ *
G. Morgan Browne............................................ 34,172 *
Dugald A. Fletcher.......................................... 16,556 *
Mark A. Parsells............................................ 1,437/(3)/ *
Charles E. Ramsey........................................... 29,179 *
James E. Roberts............................................ 17,740 *
Interested Directors:
Charles E. and Susan T. Harris.............................. 1,050,893/(4)/ 6.1
Kelly S. Kirkpatrick........................................ 4,497 *
Lori D. Pressman............................................ 4,993 *
Executive Officers:
Alexei A. Andreev........................................... 0 *
Patricia N. Egan............................................ 0 *
Sandra M. Forman............................................ 250/(5)/ *
Douglas W. Jamison.......................................... 645 *
Daniel V. Leff.............................................. 300 *
Daniel B. Wolfe............................................. 0 *
All directors and executive officers as a group (17 persons) 1,207,372 7.0
5% Shareholders:
None other than as listed above.............................
- ------------------
* Less than 1%.
(1) Includes 3,786 shares owned by Bardin LLC for the Bardin LLC Profit-Sharing
Keogh.
(2) Includes 5,637 shares owned by Ms. Milbry C. Polk, Dr. Bauman's wife; 100
shares owned by Adelaide Polk-Bauman, Dr. Bauman's daughter; 100 shares
owned by Milbry Polk-Bauman, Dr. Bauman's daughter; and 100 shares owned by
Mary Polk-Bauman, Dr. Bauman's daughter. Ms. Milbry C. Polk is the
custodian for the accounts of the three children.
(3) All shares are owned jointly with Mr. Parsells' wife.
(4) Includes 1,039,559 shares owned by Mrs. Harris, our Corporate Secretary,
and 11,334 shares owned by Mr. Harris.
(5) All shares owned by Ms. Forman's husband.
61
Remuneration of Directors
The following table sets forth the compensation paid by us for the fiscal
year ended December 31, 2004 to our directors. During the fiscal year ended
December 31, 2004, we did not pay any pension or retirement benefits.
Total Compensation Paid to
Name of Director Aggregate Compensation ($) Directors ($)
- ---------------- -------------------------- --------------------------
Independent Directors:
Dr. C. Wayne Bardin.......... 27,000 27,000
Dr. Phillip A. Bauman........ 25,000 25,000
G. Morgan Browne............. 28,000 28,000
Dugald A. Fletcher........... 31,000 31,000
James E. Roberts/(1)/........ 24,097 24,097
Mark A. Parsells/(2)/........ 25,163 25,163
Charles E. Ramsey............ 21,000 21,000
Interested Directors:
Charles E. Harris/(3)/....... 0 0
Dr. Kelly S. Kirkpatrick/(4)/ 26,620 26,620
Lori D. Pressman/(5)/........ 123,861 123,861
- ------------------
(1) Includes $1,097 for reimbursement for travel expenses to attend Board
meetings.
(2) Includes $2,163 for reimbursement for travel expenses to attend Board
meetings.
(3) Mr. Harris is an "interested person" as defined in the 1940 Act.
(4) Includes $2,032 for reimbursement for travel expenses to attend Board
meetings and $3,588 for consulting services. Dr. Kirkpatrick may be
considered an "interested person" because of consulting work performed for
us.
(5) Includes $2,486 for reimbursement for travel expenses to attend Board
meetings and $99,375 for consulting services. Ms. Pressman may be
considered an "interested person" because of consulting work performed for
us.
In 2005, the directors who are not officers will receive $1,500 for each
meeting of the Board of Directors and $1,500 for each committee meeting they
attend, in addition to a monthly retainer of $750.
We also reimburse our directors for travel, lodging and related expenses
they incur in attending Board and Committee meetings. The total compensation
and reimbursement for expenses paid to all directors in 2004 was $237,971.
In 1998, the Board of Directors approved that effective January 1, 1998,
50 percent of all director fees be used to purchase our Common Stock from us.
However, effective March 1, 1999, the Board of Directors approved that
directors purchase our Common Stock in the open market, rather than from us. In
2001, the outside directors (i.e., all directors except Mr. Harris) bought a
total of 7,944 shares in the open market. In 2002, the outside directors bought
9,524 shares in the open market and 43,426 shares through exercise of rights in
a public offering of our Common Stock. In 2003 and 2004, the directors bought
7,860 and 9,543 shares, respectively, in the open market.
62
Remuneration of Chief Executive Officer and Other Executive Officers
The following table sets forth a summary for each of the last three years
ended December 31 of the cash and non-cash compensation paid to our four
highest paid executive officers.
Annual Compensation
------------------------------------------------------
Name and Other Annual All Other Aggregate
Principal Position Year Salary Bonus Compensation Compensation Compensation
------------------ ---- ------- ------- ------------ ------------ ------------
($) ($)/(1)/ ($)/(2)/ ($)/(3)/ ($)
Charles E. Harris................... 2004 229,778 0 42,193 245,778 517,749
Chairman of the Board, 2003 224,567 0 43,006 318,296 585,869
Chief Executive Officer/(4)(5)(6)/ 2002 221,217 10,503 46,570 165,468 443,758
Mel P. Melsheimer................... 2004 260,001 0 0 16,000 276,001
Former President, Chief Operating 2003 254,106 0 0 14,000 268,106
Officer, Chief Financial Officer, 2002 250,327 3,224 0 12,000 265,551
Treasurer & Chief Compliance
Officer/(7)/
Douglas W. Jamison.................. 2004 153,183 0 0 13,000 166,183
President, Chief Operating Officer & 2003 137,182 0 0 12,000 149,182
Chief Financial Officer, Former Vice 2002 35,936 0 0 1,050 36,986
President/(8)/
Daniel V. Leff...................... 2004 228,667 0 0 13,000 241,667
Executive Vice President/(9)/
- ------------------
(1) For 2002, these amounts represent the actual amounts earned as a result of
realized gains during the year ended December 31, 2002, and paid out in
2003, under the Harris & Harris Group Employee Profit-Sharing Plan. You may
find more information on our Employee Profit-Sharing Plan under Incentive
Compensation Plans.
(2) Other than Mr. Harris, amounts of "Other Annual Compensation" earned by the
named executive officers for the periods presented did not meet the
threshold reporting requirements. The amounts reported for Mr. Harris
represent benefits including personal use of an automobile and garage,
membership in a private club, membership in a health club and use of a
trainer, medical care reimbursement, consultation with a financial planner,
long-term disability insurance, group term life insurance and long-term
care insurance for him and his wife.
(3) Except for Mr. Harris, amounts reported represent our contributions on
behalf of the named executive to the Harris & Harris Group, Inc. 401(k)
Plan. For 2004, Mr. Harris's "All Other Compensation" consisted of: $16,000
401(k) Plan employer contribution and $229,778 for his 2004 SERP
contribution. With respect to 2002 and 2003, an additional $73,739 was
accrued for Mr. Harris's SERP account in 2002, but not paid until 2003. The
total amount in the SERP account at December 31, 2002, 2003, and 2004, was
$830,683, $1,212,078 and $1,591,971, respectively.
(4) Mr. Harris has an employment agreement with us.
(5) Mr. Harris's wife was employed by a subsidiary in 2002 and 2003 and earned
salary and all other compensation of $15,035 and $9,522, in 2002 and 2003,
respectively. In 2004, she received compensation of $17,000 for serving as
our Secretary.
(6) During 2004, the Company accrued pension expense of $15,319 for Mr. Harris
pursuant to the Mandatory Retirement Plan. It is currently projected that
Mr. Harris, beginning in 2009, will receive an annual benefit of $11,543.
63
(7) During 2003 and 2004, the Company accrued pension expense of $225,000 and
$29,024, respectively, for Mr. Melsheimer, who retired on December 31,
2004, pursuant to the Mandatory Retirement Plan. Mr. Melsheimer receives an
annual benefit of $22,915.
(8) Commenced employment September 9, 2002. As of January 1, 2005, Mr.
Jamison's salary increased to $250,000 when he became President, Chief
Operating Officer and Chief Financial Officer.
(9) Commenced employment January 19, 2004.
Compensation and Share Ownership of our Managing Directors
Messrs. Harris, Jamison, Leff and Andreev are Managing Directors and are
primarily responsible for the day to day management of our portfolio. They have
served in this capacity since 1984, 2002, 2004 and 2005, respectively.
On October 14, 2004, Mr. Harris, who is also our Chairman and Chief
Executive Officer, signed an Amended and Restated Employment Agreement with us
(disclosed on Form 8-K filed on October 15, 2004) (the "Employment Agreement").
During the period of employment, Mr. Harris is to receive compensation under
his Employment Agreement in the form of base salary, with automatic yearly
adjustments to reflect inflation, which amounted to $229,778 for 2004. In
addition, the Board may increase such salary, and consequently decrease it, but
not below the level provided for by the automatic adjustments described above.
Mr. Harris is also entitled to participate in our Profit-Sharing Plan as well
as in all compensation or employee benefit plans or programs, and to receive
all benefits, perquisites, and emoluments for which salaried employees are
eligible. Under the Employment Agreement, we will furnish Mr. Harris with
certain perquisites which include a company car, membership in certain clubs
and up to a $5,000 annual reimbursement for personal, financial or tax advice.
The Employment Agreement provides Mr. Harris with life insurance for the
benefit of his designated beneficiaries in the amount of $2,000,000; provides
reimbursement for uninsured medical expenses, not to exceed $10,000 per annum,
adjusted for inflation, over the period of the contract; provides Mr. Harris
and his spouse with long-term care insurance; and with disability insurance in
the amount of 100 percent of his base salary. These benefits are for the term
of the Employment Agreement.
The Employment Agreement provides for us to adopt a supplemental
executive retirement plan (the "SERP") for the benefit of Mr. Harris, as
described below, and severance pay in the event of termination without cause or
by constructive discharge. It also provides for certain death benefits payable
to the surviving spouse equal to the executive's base salary for a period of
two years.
Messrs. Jamison, Leff and Andreev each receive a fixed base salary as
determined by our Compensation Committee, participate in the Profit-Sharing
Plan (as described below) and receive all benefits, perquisites, and emoluments
for which salaried employees are eligible.
64
The following table sets forth the dollar range of equity securities
beneficially owned by each Managing Director as of December 31, 2004.
Dollar Range of Equity Securities
Name of Managing Director Beneficially Owned/ (1)(2)(3)/
------------------------- -------------------------------------
Charles E. Harris..................... Over $1,000,000
Douglas W. Jamison.................... $10,001 - $50,000
Daniel V. Leff........................ $1 - $10,000
Alexei A. Andreev/(4)/................ None
- ------------------
(1) Beneficial ownership has been determined in accordance with Rule
16a-1(a)(2) of the 1934 Act.
(2) The dollar ranges are: none, $1-$10,000, $10,001-$50,000, $50,001-$100,000,
$100,001-$500,000, $500,001-$1,000,000 and over $1,000,000.
(3) The dollar ranges are based on the price of the equity securities as of
December 31, 2004.
(4) As of August 1, 2005.
Compensation Plans
Incentive Compensation Plan
As of January 1, 2003, we implemented the Amended and Restated Harris &
Harris Group, Inc. Employee Profit-Sharing Plan, which we refer to as the 2002
Plan.
The 2002 Plan (and its predecessor) provides for profit sharing for our
officers and employees equal to 20 percent of our "qualifying income" for that
plan year (the "Payout Amount"). For the purposes of the 2002 Plan, qualifying
income is defined as net realized income as reflected on our consolidated
statements of operations for that year, less nonqualifying gains, if any.
For purposes of the 2002 Plan, our net realized income includes
investment income, realized gains and losses, and operating expenses (including
taxes paid or payable by us), but is calculated without including dividends
paid or distributions made to shareholders, payments under the Plan, unrealized
gains and losses, and loss carry-overs from other years, which net realized
income we refer to as qualifying income. The proportion of net after-tax
realized gains attributable to asset values as of September 30, 1997, is
considered nonqualifying gain, which reduces qualifying income. As soon as
practicable following the year-end audit, the Audit Committee will determine
whether, and if so how much, qualifying income exists for a plan year. Once
determined, 90 percent of the Payout Amount will be paid out to Plan
participants pursuant to the distribution percentages set forth in the 2002
Plan. The remaining 10 percent will be paid out after we have filed our federal
tax return for that plan year.
On October 15, 2002, our shareholders approved the performance goals
under the 2002 Plan in accordance with Section 162(m) of the Code, effective as
of January 1, 2003. The Code generally provides that a public company may not
deduct compensation paid to its chief executive officer or to any of its four
most highly compensated officers to the extent that the compensation paid to
the officer/employee exceeds $1,000,000 in any tax year, unless payment is made
upon the attainment of objective performance goals that are approved by our
shareholders.
Under the 2002 Plan, awards previously granted to the four Participants
(Messrs. Harris and Melsheimer, our former President, Chief Financial Officer
and Chief Operating Officer, and Ms. Shavin and Ms. Matthews, herein referred
to as the "grandfathered participants") will be reduced by 10 percent with
respect to "Non-Tiny Technology Investments" (as defined in the 2002 Plan) and
by 25 percent with respect to "Tiny Technology Investments" (as defined in the
2002 Plan) and became permanent. These reduced awards are herein
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referred to as "grandfathered participations." The amount by which the awards
are reduced will be allocable and reallocable each year by the Compensation
Committee among current and new participants as awards under the 2002 Plan. The
grandfathered participations is honored by us whether or not the grandfathered
participant is still employed by us or is still alive (in the event of death,
the grandfathered participations will be paid to the grandfathered
participant's estate), unless the grandfathered participant is dismissed for
cause, in which case all awards, including the grandfathered participations,
will be immediately cancelled and forfeited. With regard to new investments and
follow-on investments made after January 1, 2003, all participants are required
to be employed by us at the end of a plan year in order to participate in
profit-sharing on our investments with respect to that year.
Notwithstanding any provisions of the 2002 Plan, in no event may the
aggregate amount of all awards payable for any Plan Year during which we remain
a "business development company" within the meaning of the 1940 Act be greater
than 20 percent of our "net income after taxes" within the meaning of
Section 57(n)(1)(B) of the 1940 Act. In the event the awards as calculated
exceed that amount, the awards will be reduced on a pro rata basis.
The 2002 Plan may be modified, amended or terminated by the Compensation
Committee at any time. Notwithstanding the foregoing, the grandfathered
participations may not be further modified. Nothing in the 2002 Plan will
preclude the Compensation Committee from naming additional participants in the
2002 Plan or, except for grandfathered participations, changing the Award
Percentage of any Participant (subject to the overall percentage limitations
contained in the 2002 Plan). Currently under the 2002 Plan, the distribution
amounts for non-grandfathered investments for each officer and employee
currently are as follows: Charles E. Harris, 7.790 percent; Douglas W. Jamison,
3.75 percent; Daniel V. Leff, 3.483 percent; Helene B. Shavin, 1.524 percent;
Sandra M. Forman, 1.50 percent; Daniel B. Wolfe, 1.5 percent; and Jacqueline M.
Matthews, 0.453 percent, which together equal 20 percent. In one case, for a
former employee who left other than due to termination for cause, any amount
earned will be accrued and may subsequently be paid to the participant.
The grandfathered participations are set forth below:
Grandfathered Participations
-------------------------------------------
Name of Officer/Employee Non-Tiny Technology (%) Tiny Technology (%)
------------------------ ----------------------- -------------------
Charles E. Harris...... 12.41100 10.34250
Mel P. Melsheimer...... 3.80970 3.17475
Helene B. Shavin....... 1.37160 1.14300
Jacqueline M. Matthews. 0.40770 0.33975
-------- --------
TOTAL.................. 18.00000 15.00000
======== ========
Accordingly, an additional 2 percent of Qualifying Income with respect to
grandfathered Non-Tiny Technology Investments, 5 percent of Qualifying Income
with respect to grandfathered Tiny Technology Investments and the full 20
percent of Qualifying Income with respect to new investments are available for
allocation and reallocation from year to year. Currently Douglas W. Jamison,
Daniel V. Leff, Sandra M. Forman and Daniel B. Wolfe are allocated 0.7329229
percent, 0.6807388 percent, 0.2931692 percent and 0.2931692 percent,
respectively, of the Non-Tiny Technology Grandfathered Participations and
1.8323072 percent, 1.701847 percent, 0.7329229 percent and 0.7329229 percent,
respectively, of the Tiny Technology Grandfathered Participations.
We perform a calculation to determine the profit-sharing accrual pursuant
to the 2002 Employee Profit-Sharing Plan. The calculation includes all
unrealized gains, but excludes all unrealized losses. This methodology results
in a fluctuation in our accrual but is not reflective of actual payments made
under the Plan. Plan payments require the existence of qualifying income and
consider only realized gains or losses (unrealized gains are excluded).
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For the six months ended June 30, 2005, we calculated a profit-sharing
accrual of $2,012,465 that primarily relates to an unrealized gain resulting
from an increase in the value of our investment in NeuroMetrix of $9,671,705.
SERP for Chief Executive Officer
Mr. Harris's Employment Agreement provides for us to adopt a supplemental
executive retirement plan (the "SERP") for his benefit. Under the SERP, we
cause an amount equal to one-twelfth of Mr. Harris's current annual salary to
be credited each month to a special account maintained for this purpose on our
books for the benefit of Mr. Harris (the "SERP Account"). The amounts credited
to the SERP Account will be deemed invested or reinvested in such mutual funds
or U.S. government securities as determined by Mr. Harris. The SERP Account is
credited and debited to reflect the deemed investment returns, losses and
expenses attributed to such deemed investments and reinvestments. Mr. Harris's
benefit under the SERP will equal the balance in the SERP Account and such
benefit will always be 100 percent vested (i.e., not forfeitable). Mr. Harris
will determine the form and timing of the distribution of the balance in the
SERP Account; provided, however, in the event of the termination of his
employment, the balance in the SERP Account will be distributed to Mr. Harris
or his beneficiary, as the case may be, in a lump-sum payment within 30 days of
such termination. We have established a rabbi trust for the purpose of
accumulating funds to satisfy the obligations incurred by us under the SERP,
which amount to $1,591,971 at December 31, 2004, and are included in accounts
payable and accrued liabilities. The restricted funds for the SERP Account
total $1,591,971 at December 31, 2004. Mr. Harris's rights to benefits pursuant
to this SERP are no greater than those of a general creditor of us.
401(k) Plan
As of January 1, 1989, we adopted an employee benefits program covering
substantially all of our employees under a 401(k) Plan and Trust Agreement. As
of January 1, 1999, we adopted the Harris & Harris Pension Plan and Trust, a
money purchase plan which would allow us to stay compliant with the 401(k)
top-heavy regulations and deduction limitation regulations. In 2001, Congress
enacted the Economic Growth and Tax Relief Reconciliation Act of 2001 which has
increased the deduction limits for plans such as the 401(k) Plan. This Act
eliminates the need for us to maintain two separate plans. Effective
December 31, 2001, the Pension Plan merged into the 401(k) Plan, with the
401(k) Plan being the surviving plan. For the year ended December 31, 2004, the
Compensation Committee approved a 100 percent match. Matching contributions to
the plan, which amounted to $99,249 for the year ended December 31, 2004, are
at the discretion of the Compensation Committee.
Retirement Healthcare Benefit Plan
On June 30, 1994, we adopted a plan to provide medical and dental
insurance for retirees, their spouses and dependents who, at the time of their
retirement, have ten years of service with us and have attained 50 years of age
or have attained 45 years of age and have 15 years of service with us. On
February 10, 1997, we amended this plan to include employees who "have seven
full years of service and have attained 58 years of age." The coverage is
secondary to any government provided or subsequent employer provided health
insurance plans. The annual premium cost to us with respect to the entitled
retiree shall not exceed $12,000, subject to an index for inflation. Based upon
actuarial estimates, we provided an original reserve of $176,520 that was
charged to operations for the period ending June 30, 1994. As of December 31,
2004, we had a reserve of $613,447 for the plan. On December 8, 2003, the
Medicare Prescription Drug, Improvement and Modernization Act of 2003 (the Act)
was signed into law. The Act introduces a prescription drug benefit under
Medicare (Medicare Part D) as well as a federal subsidy to sponsors of retiree
health care benefit plans that provide a benefit that is at least actuarially
equivalent to Medicare Part D. The Act, which goes into effect January 1, 2006,
provides a 28 percent subsidy for post-65 prescription drug benefits. Our
reserve assumes our plan is actuarially equivalent under the Act and reflects a
decrease in the accumulated postretirement benefit obligation of $34,000 and a
decrease in the aggregated service and interest cost of $7,000 at the adoption
date of December 31, 2004, reflecting the prescription drug subsidy.
67
Executive Mandatory Retirement Benefit Plan
On March 20, 2003, in order to begin planning for eventual management
succession, the Board of Directors voted to establish the Executive Mandatory
Retirement Benefit Plan for individuals who are employed by us in a bona fide
executive or high policy making position. There are currently three such
individuals, Charles E. Harris, the Chairman and Chief Executive Officer,
Douglas W. Jamison, the President, Chief Operating Officer and Chief Financial
Officer and Mel P. Melsheimer, the former President, Chief Operating Officer
and Chief Financial Officer. Under this plan, mandatory retirement will take
place effective December 31 of the year in which the eligible individuals
attain the age of 65. On an annual basis beginning in the year in which the
designated individual attains the age of 65, a committee of the Board
consisting of non-interested directors may determine to postpone the mandatory
retirement date for that individual for one additional year for our benefit.
Under applicable law prohibiting discrimination in employment on the
basis of age, we can impose a mandatory retirement age of 65 for our executives
or employees in high policy-making positions only if each employee subject to
the mandatory retirement age is entitled to an immediate retirement benefit at
retirement age of at least $44,000 per year. The benefits payable at retirement
to Mr. Harris and Mr. Melsheimer under our existing 401(k) plan do not equal
this threshold. A plan was established to provide the difference between the
benefit required under the age discrimination laws and that provided under our
existing plans. The annual expense to us of providing the benefit under this
new plan as it relates to Mr. Harris is currently estimated to be $35,228. This
benefit will be unfunded, and the expense as it relates to Mr. Harris is being
amortized over the fiscal periods through the years ended December 31, 2008.
Currently, there is no accrual for Mr. Jamison. On December 31, 2004,
Mr. Melsheimer retired pursuant to the mandatory retirement plan. He will
receive an annual benefit of $22,915.
Other Information
We are not subject to any material pending or, to our knowledge,
threatened legal proceedings.
Our custodian, J.P. Morgan Chase Bank, 345 Park Avenue, New York, New
York 10154-1002, holds our securities in safekeeping.
Our transfer and dividend-paying agent is The Bank of New York, 101
Barclay Street, New York, New York 10286.
BROKERAGE
We have not effected any transactions in portfolio securities in the last
three fiscal years except for the purchase and sale of treasury securities, for
which we do not pay any brokerage commissions. In the future, when we do effect
transactions in our portfolio company securities, brokers will be selected on
the basis of our best judgment as to which brokers are most likely to be in
contact with likely buyers of the thinly traded securities of our portfolio
companies. We will also consider the competitiveness of such broker's
commission rates. We might pay a premium for a broker's knowledge of the
potential buyers.
DIVIDENDS AND DISTRIBUTIONS
As a regulated investment company under the Code, we will not be subject
to U.S. federal income tax on our investment company taxable income that we
distribute to shareholders, provided that at least 90 percent of our investment
company taxable income for that taxable year is distributed to our
shareholders. We may choose to retain our net capital gains for investment and
pay the associated federal corporate income tax.
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To the extent that we retain any net capital gain, we may pay deemed
capital gain dividends to shareholders. If we do pay a deemed capital gain
dividend, you will not receive a cash distribution, but instead you will
receive a tax credit equal to your proportionate share of the tax paid by us.
When we declare a deemed dividend, our dividend-paying agent will send you an
IRS Form 2439 which will reflect receipt of the deemed dividend income and the
tax credit. This tax credit, which we pay at the applicable corporate rate, is
normally at a higher rate than the rate payable by individual shareholders on
the deemed dividend income. The excess credit can be used by the shareholder to
offset other taxes due in that year or to generate a tax refund to the
shareholder. In addition, each shareholder's tax basis in his shares of Common
Stock is increased by the excess of the capital gain on which we paid taxes
over the amount of taxes we paid. See "Taxation."
We did not pay a cash dividend or declare a deemed capital gain dividend
for 2004.
TAXATION
Taxation of the Company
We have elected and qualified and intend to continue to qualify to be
taxed as a regulated investment company under Subchapter M of the Code.
Accordingly, we must, among other things, (a) derive in each taxable year at
least 90 percent of our gross income (including tax-exempt interest) from
dividends, interest, payments with respect to certain securities loans, and
gains from the sale or other disposition of stock, securities or foreign
currencies, or other income (including but not limited to gain from options,
futures and forward contracts) derived with respect to our business of
investing in stock, securities or currencies; and (b) diversify our holdings so
that, at the end of each fiscal quarter (i) at least 50 percent of the market
value of our total assets is represented by cash and cash items, U.S.
government and government securities, the securities of other regulated
investment companies and other securities, with other securities limited, in
respect of any one issuer, to an amount not greater than five percent of the
value of our total assets and not more than 10 percent of the outstanding
voting securities of any issuer (subject to the exception described below), and
(ii) not more than 25 percent of the market value of our total assets is
invested in the securities of any issuer (other than U.S. government securities
and the securities of other regulated investment companies) or of any two or
more issuers that we control and that are determined to be engaged in the same
business or similar or related trades or businesses.
In the case of a regulated investment company which furnishes capital to
development corporations, there is an exception to the rule relating to the
diversification of investments described above. This exception is available
only to registered management investment companies which the SEC determines to
be 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 ("SEC Certification"). We have received SEC Certification since 1999,
including for 2004, but it is possible that we may not receive SEC
Certification in future years. Pursuant to the SEC Certification, we are
generally entitled to include, in the computation of the 50 percent value of
our assets (described in (b)(i) above), the value of any securities of an
issuer, whether or not we own more than 10 percent of the outstanding voting
securities of the issuer, if the basis of the securities, when added to our
basis of any other securities of the issuer that we own, does not exceed five
percent of the value of our total assets.
As a regulated investment company, in any fiscal year with respect to
which we distribute at least 90 percent of the sum of our (i) investment
company taxable income (which includes, among other items, dividends, interest
and the excess of any net short-term capital gains over net long-term capital
losses and other taxable income other than any net capital gain reduced by
deductible expenses) determined without regard to the deduction for dividends
paid and (ii) net tax exempt interest (the excess of its gross tax exempt
interest over certain disallowed deductions), we (but not our shareholders)
generally will not be subject to U.S. federal income tax on investment company
taxable income and net capital gains that we distribute to shareholders. To the
extent that we retain our net capital gains for investment, we will be subject
to U.S. federal income tax. We may choose to retain our net capital gains for
investment and pay the associated federal corporate income tax.
69
Amounts not distributed on a timely basis in accordance with a calendar
year distribution requirement are subject to a nondeductible four percent
excise tax payable by us. To avoid this tax, we must distribute (or be deemed
to have distributed) during each calendar year an amount equal to the sum of:
(1) at least 98 percent of our ordinary income (not taking into account
any capital gains or losses) for the calendar year;
(2) at least 98 percent of our capital gains in excess of our capital
losses (adjusted for certain ordinary losses) for a one-year period
generally ending on October 31 of the calendar year (unless an
election is made by a company with a November or December year-end to
use the company's fiscal year); and
(3) any undistributed amounts from previous years on which we paid no
U.S. federal income tax.
While we intend to distribute any income and capital gains in the manner
necessary to minimize imposition of the four percent excise tax, sufficient
amounts of our taxable income and capital gains may not be distributed to avoid
entirely the imposition of the tax. In that event, we will be liable for the
tax only on the amount by which we do not meet the foregoing distribution
requirement.
If in any particular taxable year, we do not qualify as a regulated
investment company, all of our taxable income (including its net capital gains)
will be subject to tax at regular corporate rates without any deduction for
distributions to shareholders, and distributions will be taxable to the
shareholders as ordinary dividends to the extent of our current and accumulated
earnings and profits.
We may decide to be taxed as a corporation even if we would otherwise
qualify as a regulated investment company.
Company Investments
We may make certain investments which would subject us to special
provisions of the Code that, among other things, may affect the character of
the gains or losses realized by us and require us to recognize income or gain
without receiving cash with which to make distributions.
In the event we invest in foreign securities, we may be subject to
withholding and other foreign taxes with respect to those securities. We do not
expect to satisfy the requirement to pass through to the shareholders their
share of the foreign taxes paid by us.
Due to our expected investments, in general, distributions will not be
eligible for the dividends received deduction allowed to corporate shareholders
and will not qualify for the reduced rate of tax for qualified dividend income
allowed to individuals.
Taxation of Shareholders
Distributions we pay to you from our ordinary income or from an excess of
net short-term capital gains over net long-term capital losses (together
referred to hereinafter as "ordinary income dividends") are taxable to you as
ordinary income to the extent of our earnings and profits. Distributions made
to you from an excess of net long-term capital gains over net short-term
capital losses ("capital gain dividends"), including capital gain dividends
credited to you but retained by us, are taxable to you as long-term capital
gains, regardless of the length of time you have owned our shares.
Distributions in excess of our earnings and profits will first reduce the
adjusted tax basis of your shares and, after the adjusted tax basis is reduced
to zero, will constitute capital gains to you (assuming the shares are held as
a capital asset). Generally, you will be provided with a written notice
designating the amount of any (i) ordinary income dividends no later than 30
days after the close of the taxable year, and (ii) capital gain dividends or
other distributions no later than 60 days after the close of the taxable year.
70
In the event that we retain any net capital gains, we may designate the
retained amounts as undistributed capital gains in a notice to our
shareholders. If a designation is made, shareholders would include in income,
as long-term capital gains, their proportionate share of the undistributed
amounts, but would be allowed a credit or refund, as the case may be, for their
proportionate share of the corporate tax paid by us. In addition, the tax basis
of shares owned by a shareholder would be increased by an amount equal to the
difference between (i) the amount included in the shareholder's income as
long-term capital gains and (ii) the shareholder's proportionate share of the
corporate tax paid by us.
Dividends and other taxable distributions are taxable to you even though
they are reinvested in additional shares of our Common Stock. If we pay you a
dividend in January which was declared in the previous October, November or
December to shareholders of record on a specified date in one of these months,
then the dividend will be treated for tax purposes as being paid by us and
received by you on December 31 of the year in which the dividend was declared.
A shareholder will realize gain or loss on the sale or exchange of our
common shares in an amount equal to the difference between the shareholder's
adjusted basis in the shares sold or exchanged and the amount realized on their
disposition. Generally, gain recognized by a shareholder on the sale or other
disposition of our common shares will result in capital gain or loss to you,
and will be a long-term capital gain or loss if the shares have been held for
more than one year at the time of sale. Any loss upon the sale or exchange of
our shares held for six months or less will be treated as a long-term capital
loss to the extent of any capital gain dividends received (including amounts
credited as an undistributed capital gain dividend) by you. A loss realized on
a sale or exchange of our shares will be disallowed if other substantially
identical shares are acquired (whether through the automatic reinvestment of
dividends or otherwise) within a 61-day period beginning 30 days before and
ending 30 days after the date that the shares are disposed of. In this case,
the basis of the shares acquired will be adjusted to reflect the disallowed
loss.
In general, federal withholding taxes at a 30 percent rate (or a lower
rate pursuant to a tax treaty) will apply to distributions to shareholders
(except to those distributions designated by us as capital gain dividends) that
are nonresident aliens or foreign partnerships, trusts or corporations (a
"non-U.S. investor"). Different tax consequences may result if a non-U.S.
investor is engaged in a trade or business in the United States or, in the case
of an individual, is present in the United States for 183 or more days during a
taxable year and certain other conditions are met.
Backup Withholding
We are required in some circumstances to backup withhold on taxable
dividends and other payments paid to non-corporate holders of our shares who do
not furnish us with their correct taxpayer identification number and
certifications, or who are otherwise subject to backup withholding. Backup
withholding is not an additional tax. Any amounts withheld from payments made
to you may be refunded or credited against your U.S. federal income tax
liability, if any, provided that the required information is furnished to the
Internal Revenue Service.
The foregoing is a general discussion of the provisions of the Code and
the Treasury regulations in effect as they directly govern our taxation and our
shareholders. These provisions are subject to change by legislative or
administrative action, and any change may be retroactive. The discussion does
not purport to deal with all of the U.S. federal income tax consequences
applicable to us, or which may be important to particular shareholders in light
of their individual investment circumstances or to some types of shareholders
subject to special tax rules, such as financial institutions, broker-dealers,
insurance companies, tax-exempt organizations, partnerships or other
pass-through entities, persons holding notes in connection with a hedging,
straddle, conversion or other integrated transaction, persons engaged in a
trade or business in the United States or persons who have ceased to be U.S.
citizens or to be taxed as resident aliens. Shareholders are urged to consult
their tax advisers regarding specific questions as to U.S. federal, foreign,
state and local income or other taxes.
71
CERTAIN GOVERNMENT REGULATIONS
A business development company is regulated by the 1940 Act. A business
development company must be organized in the United States for the purpose of
investing in primarily private companies and making managerial assistance
available to them. A business development company may use capital provided by
public shareholders and from other sources to invest in private investments. A
business development company provides shareholders the ability to retain the
liquidity of a publicly traded stock, while sharing in the possible benefits,
if any, of investing primarily in privately owned companies.
As a business development company, we may not acquire any assets other
than "qualifying assets" unless, at the time we make the acquisition, the value
of our qualifying assets represents at least 70 percent of the value of our
total assets. The principal categories of qualifying assets relevant to our
business are:
. securities purchased in transactions not involving any public
offering, the issuer of which is an eligible portfolio company;
. securities received in exchange for or distributed with respect to
securities described in the bullet above or pursuant to the exercise
of options, warrants or rights relating to the securities; and
. cash, cash items, government securities or high quality debt
securities (within the meaning of the 1940 Act), maturing in one year
or less from the time of investment.
An eligible portfolio company is generally a domestic company that is not
an investment company (other than a small business investment company wholly
owned by a business development company) and that:
. does not have a class of securities registered on an exchange or a
class of securities with respect to which a broker may extend margin
credit;
. is actively controlled by the business development company and has an
affiliate of a business development company on its Board of Directors;
or
. meets other criteria as may be established by the SEC.
Control under the 1940 Act is presumed to exist where a business
development company beneficially owns more than 25 percent of the outstanding
voting securities of the portfolio company.
To include securities described above as qualifying assets for the
purpose of the 70 percent test, a business development company must make
available to the issuer of those securities (whether directly or through
cooperating parties) significant managerial assistance such as providing
significant guidance and counsel concerning the management, operations or
business objectives and policies of a portfolio company. We offer to provide
managerial assistance to each of our portfolio companies.
As a business development company, we are entitled to issue senior
securities in the form of stock or indebtedness, including bank borrowings and
debt securities, as long as our senior securities have an asset coverage of at
least 200 percent immediately after each issuance. See "Risk Factors."
We may also be prohibited under the 1940 Act from knowingly participating
in certain transactions with our affiliates without the prior approval of
members of our Board of Directors who are not interested persons and, in some
cases, may have to seek prior approval from the SEC.
As with other companies regulated by the 1940 Act, a business development
company must adhere to substantive regulatory requirements. A majority of our
directors must be persons who are not interested persons,
72
as that term is defined in the 1940 Act. Additionally, we are required to
provide and maintain a bond issued by a reputable fidelity insurance company to
protect us against larceny and embezzlement. Furthermore, as a business
development company, we are prohibited from protecting any director or officer
against any liability to us or our shareholders arising from willful
malfeasance, bad faith, gross negligence or reckless disregard of the duties
involved in the conduct of that person's office.
We maintain a code of ethics under Rule 17j-1 of the 1940 Act that
establishes procedures for personal investment and restricts some transactions
by our personnel. Our code of ethics generally does not permit investment by
our employees in private securities that may be purchased or held by us. The
code of ethics is filed as an exhibit to our registration statement of which
this Prospectus is a part. You may read and copy the code of ethics at the
SEC's Public Reference Room in Washington, D.C. You may obtain information on
operations of the Public Reference Room by calling the SEC at (800) SEC-0330.
In addition, the code of ethics is available on the EDGAR Database on the SEC
Internet site at http://www.sec.gov. You may obtain copies of the code of
ethics, after paying a duplicating fee, by electronic request at the following
email address: publicinfo@sec.gov, or by writing to the SEC's Public Reference
Section, 450 5th Street, N.W., Washington, D.C. 20549.
We may not change the nature of our business so as to cease to be, or
withdraw our election as, a business development company unless authorized by
vote of a "majority of the outstanding voting securities," as defined in the
1940 Act, of our shares. A majority of the outstanding voting securities of a
company is defined under the 1940 Act as the lesser of: (i) 67 percent or more
of the company's shares present at a meeting if more than 50 percent of the
outstanding shares of the company are present and represented by proxy or
(ii) more than 50 percent of the outstanding shares of the company.
We vote proxies relating to our portfolio securities in what management
believes is in the best interest of our shareholders. We carefully review on a
case-by-case basis each proposal submitted to a shareholder vote to determine
its impact on the portfolio securities held by us. Although we generally vote
against proposals that may have a negative impact on our portfolio securities,
we may vote for such a proposal if there exists a compelling long-term reasons
to do so.
Our proxy voting decisions are made by the Managing Directors who are
responsible for monitoring each of our investments. To ensure that our vote is
not the product of a conflict of interest, we require that: (i) anyone involved
in the decision making process disclose to our Chief Compliance Officer any
potential conflict that he or she is aware of and any contact that he or she
has had with any interested party regarding a proxy vote; and (ii) employees
involved in the decision making process or vote administration are prohibited
from revealing how we intend to vote on a proposal in order to reduce any
attempted influence from interested parties.
Shareholders may obtain information regarding how we voted proxies with
respect to our public portfolio companies by making a written request for proxy
voting information or by contacting us by telephone at 877 TINY TECH.
CAPITALIZATION
We are authorized to issue 30,000,000 shares of Common Stock, par value
$0.01 per share, and 2,000,000 shares of preferred stock, par value $0.10 per
share. Each share within a particular class or series thereof has equal voting,
dividend, distribution and liquidation rights. When issued, in accordance with
the terms thereof, shares of Common Stock will be fully paid and
non-assessable. All shares issued as a result of exercise of the rights will be
newly issued shares. Shares of Common Stock are not redeemable and have no
preemptive, conversion, or cumulative voting rights.
The following table shows the number of shares of (i) capital stock
authorized, (ii) the amount held by us or for our own account, and
(iii) capital stock outstanding for each class of our authorized securities as
of August 1, 2005.
73
Amount Held by
Amount Company or for its Amount
Title of Class Authorized Own Account Outstanding
-------------- ---------- ------------------ -----------
Common Stock... 30,000,000 1,828,740 17,248,845
Preferred Stock 2,000,000 0 0
Issuance of Preferred Stock
Our Board of Directors is authorized by our articles of incorporation to
issue up to 2,000,000 shares of preferred stock having a par value of $0.10 per
share. The Board of Directors is authorized to divide the preferred stock into
one or more series and to determine the terms of each series, including, but
not limited to, the voting rights, redemption provisions, dividend rate and
liquidation preference. Any terms must be consistent with the requirements of
the 1940 Act. The 1940 Act currently prohibits us from issuing any preferred
stock if after giving effect to the issuance the value of our total assets,
less all liabilities and indebtedness other than senior securities, would be
less than 200 percent of the aggregate amount of senior securities representing
indebtedness plus the aggregate involuntary liquidation value of our preferred
stock (other than up to 5 percent borrowings for temporary purposes).
Leveraging with preferred stock raises the same general potential for loss or
gain and other risks as does leveraging with borrowings described above.
Options and Warrants
We have no options or warrants outstanding. Under the 1940 Act, we cannot
issue options and/or warrants for more than 25 percent of our outstanding
voting securities.
PLAN OF DISTRIBUTION
We may sell our Common Stock through underwriters or dealers, directly to
one or more purchasers through agents or through a combination of any such
methods of sale. Any underwriter or agent involved in the offer and sale of our
Common Stock will be named in the applicable Prospectus Supplement.
The distribution of our Common Stock may be effected from time to time in
one or more transactions at a fixed price or prices, which may be changed, at
prevailing market prices at the time of sale, at prices related to such
prevailing market prices, or at negotiated prices, provided, however, that the
offering price per share less any underwriting commissions or discounts must
equal or exceed the net asset value per share of our Common Stock.
In connection with the sale of our Common Stock, underwriters or agents
may receive compensation from us in the form of discounts, concessions or
commissions. Underwriters may sell our Common Stock to or through dealers, and
such dealers may receive compensation in the form of discounts, concessions or
commissions from the underwriters and/or commissions from the purchasers for
whom they may act as agents. Underwriters, dealers and agents that participate
in the distribution of our Common Stock may be deemed to be underwriters under
the Securities Act of 1933, and any discounts and commissions they receive from
us and any profit realized by them on the resale of our Common Stock may be
deemed to be underwriting discounts and commissions under the Securities Act of
1933. Any such underwriter or agent will be identified and any such
compensation received from us will be described in the applicable Prospectus
Supplement. The maximum commission or discount to be received by any NASD
member or independent broker-dealer will not exceed eight percent. We will not
pay any compensation to any underwriter or agent in the form of warrants,
options, consulting or structuring fees or similar arrangements.
Any Common Stock sold pursuant to a Prospectus Supplement will be listed
on the Nasdaq National Market.
74
Under agreements into which we may enter, underwriters, dealers and
agents who participate in the distribution of our Common Stock may be entitled
to indemnification by us against certain liabilities, including liabilities
under the Securities Act of 1933. Underwriters, dealers and agents may engage
in transactions with us, or perform services for us, in the ordinary course of
business.
If so indicated in the applicable Prospectus Supplement, we will
authorize underwriters or other persons acting as our agents to solicit offers
by certain institutions to purchase our Common Stock from us pursuant to
contracts providing for payment and delivery on a future date. Institutions
with which such contacts may be made include commercial and savings banks,
insurance companies, pension funds, investment companies, educational and
charitable institutions and others, but in all cases such institutions must be
approved by us. The obligations of any purchaser under any such contract will
be subject to the condition that the purchase of the Common Stock shall not at
the time of delivery be prohibited under the laws of the jurisdiction to which
such purchaser is subject. The underwriters and such other agents will not have
any responsibility in respect of the validity or performance of such contracts.
Such contracts will be subject only to those conditions set forth in the
Prospectus Supplement, and the Prospectus Supplement will set forth the
commission payable for solicitation of such contracts.
In order to comply with the securities laws of certain states, if
applicable, our Common Stock offered hereby will be sold in such jurisdictions
only through registered or licensed brokers or dealers.
LEGAL MATTERS
Certain legal matters will be passed on by Skadden, Arps, Slate,
Meagher & Flom LLP, New York, New York, our special counsel in connection with
the offering of Common Stock.
EXPERTS
Our audited financial statements as of December 31, 2004 and 2003 and for
each of the three years in the period ended December 31, 2004 have been
incorporated by reference from our 2004 Annual Report on Form 10-K in reliance
on the report of PricewaterhouseCoopers LLP, independent registered public
accounting firm, given on the authority of that firm as experts in accounting
and auditing. PricewaterhouseCoopers LLP is located at 300 Madison Avenue, New
York, New York 10017.
Certain information of which is included in the Selected Condensed
Consolidated Financial Data section of this Prospectus, as of and for the years
ended December 31, 2001 and 2000, were derived from financial statements which
were audited by Arthur Andersen LLP, independent public accountant, as
indicated in their report with respect thereto, are included herein in reliance
upon the authority of said firm as experts in giving said report. Arthur
Andersen LLP has not consented to the inclusion of their report in this
Prospectus, and we have not obtained their consent to do so in reliance upon
Rule 437a of the Securities Act of 1933. Because Arthur Andersen LLP has not
consented to the inclusion of their report in this Prospectus, you will not be
able to recover against Arthur Andersen LLP under Section 11(a) of the
Securities Act for any untrue statements of a material fact contained in the
financial statements audited by Arthur Andersen LLP or any omissions to state a
material fact required to be stated therein.
We will furnish, without charge, a copy of such financial statements upon
request by writing to 111 West 57th Street, Suite 1100, New York, New York
10019, Attention: Investor Relations, or calling 212-582-0900.
75
FURTHER INFORMATION
We are subject to the informational requirements of the 1934 Act and in
accordance therewith file reports, proxy statements and other information with
the SEC. The reports, proxy statements and other information filed by us can be
inspected and copied at public reference facilities maintained by the SEC at
450 Fifth Street, N.W., Washington, D.C. 20549, its Northeast Regional Office,
233 Broadway, New York, New York 10279 and its Chicago Regional Office, Suite
900, 175 West Jackson Boulevard, Chicago, Illinois 60604. You can obtain
information on the operation of the Public Reference room by calling the SEC at
(800) SEC-0330. The SEC also maintains a website that contains reports, proxy
statements, and other information. The address of the SEC's website is
http://www.sec.gov. Copies of this material may also be obtained from the
Public Reference Branch, Office of Consumer Affairs and Information Services of
the SEC at 450 Fifth Street, N.W., Washington, D.C. 20549, at prescribed rates.
Our Common Stock is listed on the Nasdaq National Market and our reports, proxy
statements and other information concerning us can be inspected and copied at
the library of the National Association of Securities Dealers, Inc., 1735 K
Street, N.W., Washington, D.C. 20006.
PRIVACY PRINCIPLES OF THE COMPANY
We are committed to maintaining the privacy of our shareholders and to
safeguarding their non-public personal information. The following information
is provided to help you understand what personal information we collect, how we
protect that information and why, in some cases, we may share information with
select other parties.
Generally, we do not receive any non-public personal information relating
to our shareholders, although some non-public personal information of our
shareholders may become available to us. We do not disclose any non-public
personal information about our shareholders or former shareholders to anyone,
except as permitted by law or as is necessary in order to service shareholder
accounts (for example, to a transfer agent or third party administrator).
We restrict access to non-public personal information about our
shareholders to our employees and to employees of our service providers and
their affiliates with a legitimate business need for the information. We
maintain physical, electronic and procedural safeguards designed to protect the
non-public personal information of our shareholders.
76
HARRIS & HARRIS GROUP, INC.
3,550,000 Shares
Common Stock
The date of the Prospectus is , 2005
----------------
This Prospectus constitutes a part of a registration statement on Form
N-2 (together with all the exhibits and the appendix thereto, the "Registration
Statement") filed by us with the SEC under the Securities Act. This Prospectus
does not contain all of the information set forth in the Registration
Statement. Reference is hereby made to the Registration Statement and related
exhibits for further information with respect to us and the shares offered
hereby. Statements contained herein concerning the provisions of documents are
necessarily summaries of the material terms of such documents.
No dealer, salesperson or other person has been authorized to give any
information or to make any representations not contained in this Prospectus. If
given or made, any information or representation must not be relied upon as
having been authorized by us. This Prospectus does not constitute an offer to
sell or the solicitation of an offer to buy any security other than the shares
of Common Stock offered by this Prospectus, nor does it constitute an offer to
sell or the solicitation of an offer to buy shares of Common Stock by anyone in
any jurisdiction in which such offer or solicitation would be unlawful.
PART C--OTHER INFORMATION
Item 25.Financial Statements and Exhibits
(1) Financial Statements--The following financial statements have been
incorporated by reference into the Registration Statement:
(a) Annual Report on Form 10-K
Consolidated Statements of Assets and Liabilities as of
December 31, 2004 and 2003
Consolidated Statements of Operations for the years ended
December 31, 2004, 2003 and 2002
Consolidated Statements of Cash Flows for the years ended
December 31, 2004, 2003 and 2002
Consolidated Statements of Changes in the Net Assets for the years ended
December 31, 2004, 2003 and 2002
Consolidated Schedule of Investments as of
December 31, 2004 and 2003
Footnote to Consolidated Schedule of Investments
Notes to Consolidated Financial Statements
Financial Highlights for the years ended
December 31, 2004, 2003, 2002, 2001 and 2000
(b) Quarterly Reports on Form 10-Q
Consolidated Statement of Assets and Liabilities as of
June 30, 2005 and December 31, 2004
Consolidated Statements of Operations for the six months ended
June 30, 2005 and June 30, 2004 and the quarters ended June 30, 2005 and
June 30, 2004
Consolidated Statements of Cash Flows for the six months ended
June 30, 2005 and June 30, 2004
Consolidated Statements of Changes in Net Assets for the year ended
December 31, 2004, six months ended June 30, 2005
Consolidated Schedule of Investments as of June 30, 2005
Footnote to Consolidated Schedule of Investments
Notes to Consolidated Financial Statements
Statements, schedules and historical information other than those listed
above have been omitted since they are either not applicable, or not required
or the required information is shown in the financial statements or notes
thereto.
C-1
(2) Exhibits:
(a) (1) Certificate of Incorporation of the Company, as amended./(1)/
(2) Certificate of Amendment of the Certificate of Incorporation
Dated May 20, 2005./(3)/
(b) Restated By-laws of the Company./(1)/
(c) Not applicable.
(d) Form of Specimen certificate of common stock certificate./(2)/
(e) Not applicable.
(f) Not applicable.
(g) Not applicable.
(h) Not applicable.
(i) (1) Harris & Harris Group, Inc. Amended and Restated Employee
Profit-Sharing Plan, incorporated by reference as Exhibit
10.7 to the Company's Proxy Statement for the 2002 Annual
Meeting of Shareholders (File No. 000-11576) filed on
September 3, 2002.
(2) Harris & Harris Group, Inc. Directors Stock Purchase Plan
2001, incorporated by reference as Exhibit 10.23 to the
Company's Form 10-K for the year ended December 31, 2000.
(3) Amended and Restated Employment Agreement by and between the
Company and Charles E. Harris dated October 14, 2004,
incorporated by reference to Exhibit 10.4 to the Company's
Form 8-K (File No. 814-00176) filed on October 15, 2004.
(4) Severance Compensation Agreement by and between the Company
and Charles E. Harris dated August 15, 1990./(1)/
(5) Deferred Compensation Agreement Between Harris & Harris
Group, Inc. and Charles E. Harris, incorporated by reference
as Exhibit 10.5 to the Company's Form 10-K for the year ended
December 31, 2004 (File No. 814-00176) filed on March 16,
2005.
(6) Trust Under Harris & Harris Group, Inc. Deferred Compensation
Agreement, incorporated by reference as Exhibit 10.6 to the
Company's Form 10-K for the year ended December 31, 1999.
(j) Harris & Harris Group, Inc. Custodian Agreement with JP
Morgan./(1)/
(k) (1) Form of Indemnification Agreement which has been established
with all directors and executive officers of the Company./(1)/
(k) (2) Stock Transfer Agency Agreement between Harris & Harris
Group, Inc. and The Bank of New York dated as of November 19,
1988./(4)/
(l) Opinion letter of Skadden, Arps, Slate, Meagher & Flom, LLP./(2)/
(m) Not applicable.
(n) Consent of the Independent Registered Public Accounting Firm./(4)/
(o) Not applicable.
(p) Not applicable.
(q) Not applicable.
(r) Code of Ethics under 17j-1 under the 1940 Act is hereby
incorporated by reference to Exhibit (r) ofour registration
statement on Form N-2 (File No. 333-110064) filed on December 19,
2003.
(s) Powers of Attorney./(1)/
- ------------------
(1) Previously filed with Pre-Effective Amendment 1 to this Registration
Statement on March 22, 2004.
(2) Previously filed with Pre-Effective Amendment 2 to this Registration
Statement on April 13, 2004.
(3) Previously filed with Post-Effective Amendment 1 to this Registration
Statement on June 16, 2005.
(4) Filed herewith.
C-2
Item 26.Marketing Arrangements
The information contained under the heading "Plan of Distribution" on
page 74 of the Prospectus is incorporated herein by reference, and any
information concerning any underwriters will be contained in the accompanying
Prospectus Supplement, if any.
Item 27.Other Expenses of Issuance and Distribution
The following table sets forth the expenses to be incurred in connection
with this offering described in this Registration Statement:
Registration fees....................... $ 7,500
Nasdaq listing fee...................... $ 35,500
Printing (other than stock certificates) $ 42,000
Accounting fees and expenses............ $ 55,000
Legal fees and expenses................. $100,000
Miscellaneous........................... $100,000
--------
Total................................... $340,000
========
Item 28.Persons Controlled by or Under Common Control with Company
Percentage of voting
Organized securities owned
At December 31, 2004 under laws of by the Registrant
-------------------- ------------- --------------------
Harris & Harris Enterprises, Inc. Delaware 100%
Item 29.Number of Holders of Securities (as of August 1, 2005)
Title of class Number of record holders
-------------- ------------------------
Common stock, $.01 par value 138
Item 30.Indemnification
Article 8 ("Article 8") of our Certificate of Incorporation, as adopted
by our board of directors in October 1992, and approved by our shareholders in
December, 1992, provides for the indemnification of our directors and officers
to the fullest extent permitted by applicable New York law, subject to the
applicable provisions of the 1940 Act.
Scope of Indemnification Under New York Law. BCL (S)(S) 721-726 provide
that a director or officer of a New York corporation who was or is a party or a
threatened party to any threatened, pending or completed action, suit or
proceeding (i) shall be entitled to indemnification by the corporation for all
expenses of litigation when he is successful on the merits, (ii) may be
indemnified by the corporation for judgments, fines, and amounts paid in
settlement of, and reasonable expenses incurred in, litigation (other than a
derivative suit), even if he is not successful on the merits, if he acted in
good faith and for a purpose he reasonably believed to be in or not opposed to
the best interest of the corporation (and, in criminal proceedings, had no
reasonable cause to believe that his conduct was unlawful), and (iii) may be
indemnified by the corporation for amounts paid in settlement and reasonable
expenses incurred in a derivative suit (i.e., a suit by a shareholder alleging
a breach of a duty owed to the corporation by a director or officer) even if he
is not successful on the merits, if he acted in good faith, for a purpose which
he believed to be in, or not opposed to, the best interest of the corporation.
However, no indemnification may be made in accordance with clause (iii) if he
is adjudged liable to the corporation, unless a court determines that, despite
the adjudication of liability and in view of all of the
C-3
circumstances, he is entitled to indemnification. The indemnification described
in clauses (ii) and (iii) above and the advancement of litigation expenses, may
be made only upon a determination by (i) a majority of a quorum of
disinterested directors, (ii) independent legal counsel, or (iii) the
shareholders that indemnification is proper because the applicable standard of
conduct has been met. In addition, litigation expenses to a director or officer
may only be made upon receipt of an undertaking by the director or officer to
repay the expenses if it is ultimately determined that he is not entitled to be
indemnified. The indemnification and advancement of expenses provided for by
BCL (S)(S) 721-726 are not deemed exclusive of any rights the indemnitee may
have under any by-law, agreement, vote of shareholders or disinterested
directors, or otherwise. When any action with respect to indemnification of
directors is taken by amendment to the by-laws, resolution of directors, or
agreement, the corporation must mail a notice of the action taken to its
shareholders of record by the earlier of (i) the date of the next annual
meeting, or (ii) fifteen months after the date of the action taken.
The foregoing provisions are subject to Section 17(h) of the 1940 Act,
which provides that neither the certificate of incorporation or by-laws nor any
agreement may protect any director or officer against any liability to the
Company or any of its stockholders to which he would otherwise be subject by
reason of willful misfeasance, bad faith, gross negligence or reckless
disregard of his duties.
The Indemnification Agreements. Pursuant to the Indemnification
Agreement, the Company would indemnify the indemnified director or officer (the
"Indemnitee") to the fullest extent permitted by New York law as in effect at
the time of execution of the Indemnification Agreement and to such fuller
extent as New York law may permit in the future, subject in each case to the
applicable provisions of the 1940 Act. An Indemnitee would be entitled to
receive indemnification against all judgments rendered, fines levied, and other
assessments (including amounts paid in settlement of any claims, if approved by
the Company), plus all reasonable costs and expenses (including attorneys'
fees) incurred in connection with the defense of any threatened, pending, or
completed action or proceeding, whether civil, criminal, administrative, or
investigative (an "Action"), related to or arising from (i) any actual or
alleged act or omission of the Indemnitee at any time as a director, officer,
employee, or agent of the Company or any of its affiliates or subsidiaries, or
(ii) the Indemnitee's past, present, or future status as a director, officer,
employee or agent of the Company or any of its affiliates or subsidiaries. An
Indemnitee would also be entitled to advancement of all reasonable costs and
expenses incurred in the defense of any Action upon a finding by a court or an
opinion of independent counsel that the Indemnitee is more likely than not to
prevail. If the Company makes any payment to the Indemnitee under the
Indemnification Agreement and it is ultimately determined that the Indemnitee
was not entitled to be indemnified, the Indemnitee would be required to repay
the Company for all amounts paid to the Indemnitee under the Indemnification
agreement. An Indemnitee would not be entitled to Indemnification or
advancement of expenses under the Indemnification Agreement with respect to any
proceeding or claim brought by him against the Company.
Insofar as indemnification for liabilities arising under the Securities
Act of 1933 (the "Act") may be permitted to directors, officers and controlling
persons of the Company pursuant to the foregoing provisions, or otherwise, the
Company has been advised that in the opinion of the SEC such indemnification is
against public policy as expressed in the Act and is, therefore, unenforceable.
In the event that a claim for indemnification against such liabilities (other
than the payment by the Company of expenses incurred or paid by a director,
officer or controlling person of the Company in the successful defense of any
action, suit or proceeding) is asserted by such director, officer or
controlling person in connection with the securities being registered, the
Company will, unless in the opinion of its counsel the matter has been settled
by controlling precedent, submit to a court of appropriate jurisdiction the
question whether such indemnification by it is against public policy as
expressed in the Act and will be governed by the final adjudication of such
issue.
We maintain directors' and officers' liability insurance.
C-4
Item 31.Business and Other Connections of Investment Adviser
Not applicable, because the Company has no investment adviser.
Item 32.Location of Accounts and Records
Certain accounts, books and other documents required to be maintained by
Section 31(a) of the 1940 Act and the Rules promulgated there under are
maintained at the offices of the Company at 111 West 57/th/ Street, Suite 1100,
New York, New York 10019. Certain accounts, books and other documents
pertaining to the Company's subsidiaries are maintained at 111 West 57/th/
Street, Suite 1100, New York, New York 10019.
Item 33.Management Services
None.
Item 34.Undertakings
1. The Company undertakes to suspend the offering of its shares until it
amends its prospectus if:
(1) subsequent to the effective date of this Registration Statement, the
net asset value per share declines more than 10% from its net asset
value per share as of the effective date of the Registration
Statement; or
(2) the net asset value increases to an amount greater than its net
proceeds as stated in the Prospectus.
2. Not applicable.
3. Not applicable.
4. The Company hereby undertakes:
(a) to file, during any period in which offers or sales are being made, a
post-effective amendment to this Registration Statement:
(1)to include any prospectus required by Section 10(a)(3) of the
Securities Act of 1933;
(2)to reflect in the prospectus any facts or events after the
effective date of the Registration Statement (or the most recent
post-effective amendment thereof) which, individually or in the
aggregate, represent a fundamental change in the information set
forth in the Registration Statement; and
(3)to include any material information with respect to the plan of
distribution not previously disclosed in the Registration
Statement or any material change to such information in the
Registration Statement.
(b) that for the purpose of determining any liability under the
Securities Act of 1933, each post-effective amendment shall be deemed
to be a new registration statement relating to the securities offered
therein, and the offering of such securities at that time shall be
deemed to be the initial bona fide offering thereof;
(c) to remove from registration by means of a post-effective amendment
any of the securities being registered which remain unsold at the
termination of the offering; and
(d) that for the purposes of determining any liability under the
Securities Act of 1933, each filing of the Company's annual report or
quarterly reports pursuant to section 13(a) or section 15(d) of the
Securities Exchange Act of 1934 that is incorporated by reference in
the registration statement shall be deemed to be a new registration
statement relating to the securities offered therein, and the
offering of such securities at that time shall be deemed to be the
initial bona fide offering thereof.
C-5
5. The Company hereby undertakes:
(a) that for purposes of determining any liability under the Securities
Act of 1933, the information omitted from the form of Prospectus
filed as part of this Registration Statement in reliance upon Rule
430A and contained in a form of Prospectus filed by the Company
pursuant to Rule 497(e) and Rule 497(h) under the Securities Act
shall be deemed to be part of this Registration Statement as of the
time it was declared effective; and
(b) that for the purpose of determining any liability under the
Securities Act of 1933, each post-effective amendment that contains a
form of Prospectus shall be deemed to be a new registration statement
relating to the securities offered therein, and the offering of such
securities at that time shall be deemed to be the initial bona fide
offering thereof.
6. Not Applicable.
C-6
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the
Registrant has duly caused this Registration Statement to be signed on its
behalf by the undersigned, thereunto duly authorized, in the City of New York,
and State of New York, on the 2/nd/ day of August, 2005.
HARRIS & HARRIS GROUP, INC.
By: /S/ CHARLES E. HARRIS
------------------------------
Name: Charles E. Harris
Title: Chairman of the Board
and Chief Executive
Officer
(Principal Executive
Officer)
C-7
Pursuant to the requirements of the Securities Exchange Act of 1933, this
Registration Statement has been signed below by the following persons on behalf
of the Registrant and in the capacities and on the dates indicated:
Signature Title Date
--------- ----- ----
/S/ CHARLES E. HARRIS Chairman of the Board and August 2, 2005
- ----------------------------- Chief Executive Officer
Charles E. Harris (Principal Executive
Officer)
/S/ DOUGLAS W. JAMISON President, Chief Operating August 2, 2005
- ----------------------------- Officer and Chief
Douglas W. Jamison Financial Officer
(Principal Financial
Officer)
* Director
- -----------------------------
Dr. C. Wayne Bardin
* Director
- -----------------------------
Dr. Phillip A. Bauman
* Director
- -----------------------------
G. Morgan Browne
* Director
- -----------------------------
Dugald A. Fletcher
* Director
- -----------------------------
Dr. Kelly S. Kirkpatrick
* Director
- -----------------------------
Mark Parsells
* Director
- -----------------------------
Lori D. Pressman
* Director
- -----------------------------
Charles E. Ramsey
* Director
- -----------------------------
James E. Roberts
*By: /S/ CHARLES E. HARRIS
--------------------------
Attorney-in-fact
C-8
EXHIBITS
(k)(2) Stock transfer Agency Agreement between Harris & Harris Group, Inc. and
The Bank of New York dated as of November 19, 1988.
(n) Consent of the Independent Registered Public Accounting Firm.