Attached files
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EX-31.1 - EXHIBIT 31.1 - CROSSROADS LIQUIDATING TRUST | a6094757ex31_1.htm |
EX-31.2 - EXHIBIT 31.2 - CROSSROADS LIQUIDATING TRUST | a6094757ex31_2.htm |
EX-32.1 - EXHIBIT 32.1 - CROSSROADS LIQUIDATING TRUST | a6094757ex32_1.htm |
EX-32.2 - EXHIBIT 32.2 - CROSSROADS LIQUIDATING TRUST | a6094757ex32_2.htm |
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
WASHINGTON,
D.C. 20549
FORM
10-Q
x
|
QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
|
FOR THE
QUARTER ENDED SEPTEMBER 30, 2009.
¨
|
TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
|
COMMISSION
FILE NUMBER: 0-53504
KEATING
CAPITAL, INC.
(Exact
name of registrant as specified in its charter)
Maryland
|
26-2582882
|
|
(State
or other jurisdiction of
incorporation
or organization)
|
(I.R.S.
Employer
Identification
No.)
|
5251
DTC Parkway, Suite 1000
Greenwood
Village, CO 80111
(Address
of principal executive office)
(720)
889-0139
(Registrant’s
telephone number, including area code)
Indicate
by check mark whether the registrant (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes x No ¨.
Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files).
Yes ¨ No ¨.
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
definition of “accelerated filer,” “large accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large
accelerated filer ¨
|
Accelerated
filer ¨
|
|||
Non-accelerated
filer x
|
Smaller
reporting company ¨
|
|||
(Do
not check if a smaller reporting company)
|
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act). Yes ¨ No x.
Indicate
the number of shares outstanding of each of the issuer’s classes of common
stock, as of the latest practicable date.
The number
of shares of the issuer’s Common Stock, $0.001 par value, outstanding as of
November 10, 2009 was 569,900.
TABLE
OF CONTENTS
Page
|
||
|
||
i
Keating Capital, Inc. | ||||||||
Statements of Assets and Liabilities | ||||||||
(Unaudited) | ||||||||
September
30,
|
December
31,
|
|||||||
2009
|
2008
|
|||||||
Assets
|
||||||||
Investments
in certificates of deposit
|
$ | 3,500,000 | $ | - | ||||
Investments
in money market funds
|
- | 4,411,127 | ||||||
Cash
and cash equivalents
|
185,036 | 367,588 | ||||||
Prepaid
expenses and other assets
|
58,787 | 31,448 | ||||||
Deferred
offering costs
|
433,139 | - | ||||||
Total
Assets
|
4,176,962 | 4,810,163 | ||||||
Liabilities
|
||||||||
Base
management fees payable to Investment Adviser
|
25,339 | 11,990 | ||||||
Administrative
fees payable to Investment Adviser
|
67,408 | 28,041 | ||||||
Reimbursable
expenses payable to Investment Adviser
|
9,110 | 13,875 | ||||||
Accounts
payable
|
69,963 | 35,783 | ||||||
Accrued
expenses
|
35,230 | 5,000 | ||||||
Total
Liabilities
|
207,050 | 94,689 | ||||||
Net
Assets
|
$ | 3,969,912 | $ | 4,715,474 | ||||
Components
of Net Assets:
|
||||||||
Common
stock, $0.001 par value; 200,000,000 shares authorized;
|
||||||||
569,900
shares issued and outstanding
|
$ | 570 | $ | 570 | ||||
Additional
paid-in capital
|
5,243,864 | 5,243,864 | ||||||
Accumulated
net investment loss
|
(1,274,522 | ) | (528,960 | ) | ||||
Net
Assets
|
$ | 3,969,912 | $ | 4,715,474 | ||||
Common
Shares Outstanding
|
569,900 | 569,900 | ||||||
Net
Asset Value Per Outstanding Common Share
|
$ | 6.96 | $ | 8.27 |
The
accompanying notes are an integral part of these financial
statements.
1
Keating Capital, Inc. | ||||||||||||||||
Statements of Operations | ||||||||||||||||
(Unaudited) | ||||||||||||||||
Period
from
|
||||||||||||||||
Three
Months
|
Three
Months
|
Nine
Months
|
May
9, 2008
|
|||||||||||||
Ended
|
Ended
|
Ended
|
(Inception)
to
|
|||||||||||||
September
30,
|
September
30,
|
September
30,
|
September
30,
|
|||||||||||||
2009
|
2008
|
2009
|
2008
|
|||||||||||||
Investment
Income
|
||||||||||||||||
Interest
and dividend income
|
$ | 3,723 | $ | 6,011 | $ | 5,240 | $ | 6,011 | ||||||||
Total
Investment Income
|
3,723 | 6,011 | 5,240 | 6,011 | ||||||||||||
Operating
Expenses
|
||||||||||||||||
Base
management fees
|
22,342 | - | 70,019 | - | ||||||||||||
Administrative
fees
|
67,408 | - | 202,248 | - | ||||||||||||
Legal
and professional fees
|
84,944 | 158,092 | 303,179 | 276,036 | ||||||||||||
Directors'
fees
|
20,250 | 25,250 | 75,750 | 25,250 | ||||||||||||
General
and administrative expenses
|
43,125 | 41,998 | 99,606 | 54,697 | ||||||||||||
Total
Operating Expenses
|
238,069 | 225,340 | 750,802 | 355,983 | ||||||||||||
Net
Investment Loss
|
(234,346 | ) | (219,329 | ) | (745,562 | ) | (349,972 | ) | ||||||||
Net
Decrease in Net Assets
|
||||||||||||||||
Resulting
from Operations
|
$ | (234,346 | ) | $ | (219,329 | ) | $ | (745,562 | ) | $ | (349,972 | ) | ||||
Net
Decrease in Net Assets
|
||||||||||||||||
Resulting
from Operations
|
||||||||||||||||
Per
Common Share
|
$ | (0.41 | ) | $ | (1.13 | ) | $ | (1.31 | ) | $ | (2.84 | ) | ||||
Weighted
Average Number of
|
||||||||||||||||
Common
Shares Outstanding:
|
||||||||||||||||
Basic
and Diluted
|
569,900 | 194,448 | 569,900 | 123,407 |
The
accompanying notes are an integral part of these financial
statements.
2
Keating Capital, Inc. | ||||||||
Statements of Changes in Net Assets | ||||||||
(Unaudited) | ||||||||
Period
from
|
||||||||
Nine
Months
|
May
9, 2008
|
|||||||
Ended
|
(Inception)
to
|
|||||||
September
30,
|
September
30,
|
|||||||
2009
|
2008
|
|||||||
Changes
in Net Assets from Operations
|
||||||||
Net
investment loss
|
$ | (745,562 | ) | $ | (349,972 | ) | ||
Net
Decrease in Net Assets Resulting from Operations
|
(745,562 | ) | (349,972 | ) | ||||
Changes
in Net Assets from Capital Stock Transactions
|
||||||||
Issuance
of common stock in private offering at $10 per share
|
- | 5,151,000 | ||||||
Offering
expenses associated with the issuance of common stock
|
- | (403,898 | ) | |||||
Increase
in Net Assets Resulting From
|
||||||||
Capital
Stock Transactions
|
- | 4,747,102 | ||||||
Net
(Decrease) Increase in Net Assets
|
(745,562 | ) | 4,397,130 | |||||
Net
assets at beginning of period
|
4,715,474 | - | ||||||
Net
Assets at End of Period
|
$ | 3,969,912 | $ | 4,397,130 |
The
accompanying notes are an integral part of these financial
statements.
3
Keating Capital, Inc. | ||||||||
Statements of Cash Flows | ||||||||
(Unaudited) | ||||||||
Nine
Months Ended
September 30, |
Period
from
May 9, 2008 (Inception) to September
30,
|
|||||||
2009
|
2008
|
|||||||
Cash
Flows From Operating Activities
|
||||||||
Net
decrease in net assets resulting from operations
|
$ | (745,562 | ) | $ | (349,972 | ) | ||
Changes
in operating assets and liabilities:
|
||||||||
(Increase)
in prepaid expenses and other assets
|
(27,339 | ) | (38,071 | ) | ||||
Increase
in base management fees payable to Investment Adviser
|
13,349 | - | ||||||
Increase
in administrative fees payable to Investment Adviser
|
39,367 | - | ||||||
Increase
(decrease) in reimbursable expenses
|
||||||||
payable
to Investment Adviser
|
(4,765 | ) | 8,545 | |||||
Increase
in accounts payable
|
34,180 | 20,098 | ||||||
Increase
in accrued expenses
|
30,230 | 70,448 | ||||||
Net
cash used in operating activities
|
(660,540 | ) | (288,952 | ) | ||||
Cash
Flows From Investing Activities
|
||||||||
Purchases
of short-term investments
|
(7,203,814 | ) | (4,405,474 | ) | ||||
Proceeds
from sales and maturities of short-term investments
|
8,114,941 | - | ||||||
Net
cash provided by (used in) investing activities
|
911,127 | (4,405,474 | ) | |||||
Cash
Flows From Financing Activities
|
||||||||
Proceeds
from issuance of common stock
|
- | 5,151,000 | ||||||
Offering
costs from issuance of common stock
|
- | (403,898 | ) | |||||
Deferred
stock offering costs
|
(433,139 | ) | - | |||||
Net
cash (used in) provided by financing activities
|
(433,139 | ) | 4,747,102 | |||||
Net
(decrease) increase in cash and cash equivalents
|
(182,552 | ) | 52,676 | |||||
Cash
and cash equivalents, beginning of period
|
367,588 | - | ||||||
Cash
and cash equivalents, end of period
|
$ | 185,036 | $ | 52,676 |
The
accompanying notes are an integral part of these financial
statements.
4
Keating Capital, Inc. | ||||||||||||||||
Schedules of Investments | ||||||||||||||||
(Unaudited) | ||||||||||||||||
September 30, 2009 | ||||||||||||||||
%
of
|
||||||||||||||||
Shares
|
Cost
|
Fair
Value
|
Net
Assets
|
|||||||||||||
Certificates
of Deposit
|
||||||||||||||||
Certificates
of Deposit (1)
|
||||||||||||||||
Maturing
on October 15, 2009
|
||||||||||||||||
Annual
Percentage Yield of 0.85%
|
- | $ | 3,500,000 | $ | 3,500,000 | 88.16 | % | |||||||||
Total
Investments
|
$ | 3,500,000 | $ | 3,500,000 | 88.16 | % | ||||||||||
(1) Fair value reflects amortized cost as of September 30, 2009. |
December 31, 2008 | ||||||||||||||||
%
of
|
||||||||||||||||
Shares
|
Cost
|
Fair
Value
|
Net
Assets
|
|||||||||||||
Money
Market Funds
|
||||||||||||||||
Goldman
Sachs Financial Square
|
||||||||||||||||
Treasury
Instruments Fund (2)
|
4,411,127 | $ | 4,411,127 | $ | 4,411,127 | 93.55 | % | |||||||||
Total
Investments
|
$ | 4,411,127 | $ | 4,411,127 | 93.55 | % | ||||||||||
(2) Fair value reflects redemption value as of December 31, 2008. |
The
accompanying notes are an integral part of these financial
statements.
5
Keating Capital, Inc. | ||||||||
Financial Highlights | ||||||||
(Unaudited) | ||||||||
Period
from
|
||||||||
Nine
Months
|
May
9, 2008
|
|||||||
Ended
|
(Inception)
to
|
|||||||
September
30,
|
December
31,
|
|||||||
2009
|
2008
|
|||||||
Per
Common Share Data (1)
|
||||||||
Net
asset value, beginning of period
|
$ | 8.27 | $ | - | ||||
Loss
from investment operations:
|
||||||||
Net
investment loss
|
(1.31 | ) | (0.93 | ) | ||||
Total
decrease from investment operations
|
(1.31 | ) | (0.93 | ) | ||||
Capital
stock transactions:
|
||||||||
Issuance
of common stock in private offering
|
- | 10.00 | ||||||
Offering
expenses associated with the issuance of common stock
|
- | (0.80 | ) | |||||
Total
increase from capital stock transactions
|
- | 9.20 | ||||||
Net
asset value, end of period
|
$ | 6.96 | $ | 8.27 | ||||
Common
shares outstanding, end of period
|
569,900 | 569,900 | ||||||
Supplemental
Data and Ratios
|
||||||||
Net
assets, beginning of period
|
$ | 4,715,474 | $ | - | ||||
Net
assets, end of period
|
$ | 3,969,912 | $ | 4,715,474 | ||||
Average
net assets during period
|
$ | 4,342,693 | $ | 2,357,737 | ||||
Annualized
ratio of operating expenses to average net assets
|
23.05 | % | 35.62 | % | ||||
Annualized
ratio of net investment loss to average net assets
|
22.89 | % | 34.70 | % | ||||
(1) Financial
highlights are based on total shares outstanding at
end of period.
|
The
accompanying notes are an integral part of these financial
statements.
6
Keating Capital, Inc. |
Notes to Financial Statements |
(Unaudited) |
1.
|
Organization
|
Keating
Capital, Inc. (“Keating Capital” or the “Company”) was incorporated on May 9,
2008 under the laws of the State of Maryland and is an externally managed,
closed-end management investment company that has elected to be regulated as a
business development company (“BDC”) under the Investment Company Act of 1940,
as amended (the “1940 Act”) as of November 20, 2008. As a BDC, the Company
intends to elect to be treated as a regulated investment company (“RIC”) under
Subchapter M of the Internal Revenue Code beginning with its 2010 taxable year
(see Federal and State Income Taxes subheading under Note 2). Prior
to electing to be treated as RIC, the Company will be taxable as a regular
corporation under Subchapter C of the Internal Revenue Code.
The
Company intends to invest principally in equity securities and, to a lesser
extent, debt securities of primarily non-public U.S. based micro-cap
companies. The Company utilizes a three-step investment process
focused on 1) an initial investment consisting of convertible debt or
convertible preferred stock, 2) a going-public preparation process, and 3) a
subsequent follow-on investment consisting of convertible preferred stock or
other equity that will be contingent upon a portfolio company satisfying
pre-established milestones towards the filing of a registration statement under
the Securities Act of 1933, as amended (the “Securities Act”) or the Securities
Exchange Act of 1934, as amended (the “Exchange Act”).
Keating
Investments, LLC (“Keating Investments” or the “Investment Adviser”) serves as
the Company’s external investment adviser and also provides the Company with
administrative services necessary for it to operate. In this
capacity, Keating Investments is primarily responsible for the selection,
evaluation, structure, valuation, and administration of the Company’s investment
portfolio, subject to the supervision of the Company’s Board of
Directors. Keating Investments is a registered investment adviser
under the Investment Advisers Act of 1940, as amended.
2.
|
Significant
Accounting Policies
|
Basis
of Presentation
The
interim financial statements of the Company are prepared in accordance with
accounting principles generally accepted in the United States of America
(“GAAP”) for interim financial information and pursuant to the requirements for
reporting on Form 10-Q and Regulation S-X. In the opinion of management,
all adjustments, all of which were of a normal recurring nature, considered
necessary for the fair presentation of financial statements for the interim
period have been included. The results of operations for the current period are
not necessarily indicative of results that ultimately may be achieved for any
other interim period or for the year ending December 31, 2009. The interim
unaudited financial statements and notes thereto should be read in conjunction
with the audited financial statements and notes thereto contained in the
Company’s Annual Report on Form 10-K for the year ended December 31,
2008.
Consolidation
Under the
1940 Act rules and the regulations pursuant to Article 6 of Regulation S-X, the
Company is precluded from consolidating any entity other than another investment
company or an operating company that provides substantially all of its services
and benefits to the Company. The Company’s September 30, 2009 financial
statements include only the accounts of Keating Capital, Inc. as the Company
currently has no subsidiaries.
Use
of Estimates
The
preparation of financial statements in conformity with GAAP requires the
Company’s management to make estimates and assumptions that affect the reported
amounts of assets and liabilities at the date of the financial statements and
the reported amounts of income and expenses during the reported period. Changes
in the economic environment, financial markets, creditworthiness of the
portfolio companies the Company chooses to invest in and any other parameters
used in determining these estimates could cause actual results to
differ. The Company considers its significant estimates to include
the fair value of investments in certificates of deposit.
7
Keating Capital, Inc. |
Notes to Financial Statements |
(Unaudited) |
Valuation
of Investments
The 1940
Act requires periodic valuation of each investment in the Company’s portfolio to
determine its net asset value. Under the 1940 Act, unrestricted securities with
readily available market quotations are to be valued at the current market
value; all other assets must be valued at fair value as determined in good faith
by or under the direction of the Board of Directors.
Financial
Accounting Standards Board (“FASB”) Accounting Standard Codification (“ASC”)
Topic 820, Fair Value
Measurements and Disclosures (“ASC 820”), defines fair value, establishes
a framework for measuring fair value and requires enhanced disclosures about
fair value measurements. ASC 820 specifically defines fair value as
the price that would be received to sell an asset or paid to transfer a
liability in an orderly transaction between market participants at the
measurement date. ASC 820 also establishes a three-tier fair value hierarchy,
which prioritizes the inputs used in measuring fair value. These tiers include:
Level 1, defined as observable inputs such as quoted prices in active markets;
Level 2, which includes inputs such as quoted prices for similar securities in
active markets and quoted prices for identical securities where there is little
or no activity in the market; and Level 3, defined as unobservable inputs for
which little or no market data exists, therefore requiring an entity to develop
its own assumptions.
The
following table presents the financial instruments carried at fair value as of
September 30, 2009, by caption on the Statement of Assets and
Liabilities.
Total
Fair Value
|
||||||||||||||||
Quoted
Prices In
|
Significant
Other
|
Significant
|
Reported
In
|
|||||||||||||
Active
Markets
|
Observable
Inputs
|
Unobservable
Inputs
|
Statement
of
|
|||||||||||||
(Level
1)
|
(Level
2)
|
(Level
3)
|
Assets
and Liabilities
|
|||||||||||||
As
of September 30, 2009
|
||||||||||||||||
Certificates
of Deposit (1)
|
||||||||||||||||
(Maturing
on October 15, 2009)
|
$ | - | $ | 3,500,000 | $ | - | $ | 3,500,000 | ||||||||
Total
Investments at Fair Value
|
$ | - | $ | 3,500,000 | $ | - | $ | 3,500,000 | ||||||||
(1) Fair value reflects amortized cost as of September 30, 2009. |
Short-Term
Investments
Short-term
investments that mature in 90 days or less are valued at amortized cost, which
approximates fair value. The amortized cost method involves recording a security
at its cost (i.e., principal amount plus any premium and less any discount) on
the date of purchase and thereafter amortizing/accreting that difference between
the principal amount due at maturity and cost assuming a constant yield to
maturity as determined at the time of purchase.
Investments
in money market mutual funds are classified as short-term investments separate
from cash and cash equivalents and are valued at their net asset value or
redemption value as of the close of business on the day of
valuation.
Investments
in certificates of deposit are classified as short-term investments separate
from cash and cash equivalents and are valued at amortized cost, which
approximates fair value, and are classified as Level 2 in the fair value
hierarchy.
Debt
Investments
The
Company will determine the fair value of debt investments by reference to the
market in which it sources and executes such debt investments. Market
participants generally have a strategic premise for these investments, and
anticipate the sale of the company, recapitalization or initial public offering
as the realization/liquidity event. The fair value, or exit price, for a debt
instrument would be the hypothetical price that a market participant would pay
for the instrument, using a set of assumptions that are aligned with the
criteria that the Company would use in originating a debt investment in such a
market, including credit quality, interest rate, maturity date, conversion ratio
and overall yield, and considering the prevailing returns available in such a
market.
8
Keating Capital, Inc. |
Notes to Financial Statements |
(Unaudited) |
In
general, the Company considers enterprise value an important element in the
determination of fair value, because it represents a metric that may support the
recorded value, or which, conversely, would indicate if a credit-related
markdown is appropriate. The Company also considers the specific covenants and
provisions of each investment that may enable the Company to preserve or improve
the value of the investment. In addition, the trends of the portfolio company’s
basic financial metrics from the time of the original investment until the
measurement date are analyzed; material deterioration of these metrics may
indicate that a discount should be applied to the debt investment, or a premium
may be warranted in the event that metrics improve substantially and the return
is higher than anticipated for such a profile under current market
conditions.
Equity
Investments
Equity
investments for which market quotations are readily available will generally be
valued at the most recently available closing market prices.
The fair
value of the Company’s equity investments for which market quotations are not
readily available will be determined based on various factors, including the
enterprise value remaining for equity holders after the repayment of the
portfolio company’s debt and other preference capital, and other pertinent
factors such as recent offers to purchase a portfolio company, recent
transactions involving the purchase or sale of the portfolio company’s equity
securities, or other liquidity events. The determined equity values are
generally discounted when the Company has a minority position, when there are
restrictions on resale, when there are specific concerns about the receptiveness
of the capital markets to a specific company at a certain time, or other
factors.
Enterprise
value means the entire value of the company to a potential buyer, including the
sum of the values of debt and equity securities used to capitalize the
enterprise at a point in time. There is no one methodology to determine
enterprise value and, in fact, for any one portfolio company, enterprise value
is best expressed as a range of fair values, from which the Company derives a
single estimate of enterprise value. To determine the enterprise value of a
portfolio company, the Company will analyze the portfolio company’s historical
and projected financial results, as well as the nature and value of collateral,
if any. The Company will also use industry valuation benchmarks and public
market comparables. The Company will also consider other events,
including private mergers and acquisitions, a purchase transaction, public
offering or subsequent debt or equity sale or restructuring, and include these
events in the enterprise valuation process. The Company will
generally require portfolio companies to provide annual audited and quarterly
unaudited financial statements, as well as annual projections for the upcoming
fiscal year.
The
following is a description of the steps the Company will take each quarter to
determine the value of the Company’s portfolio investments. Investments for
which market quotations are readily available will be recorded in the Company’s
financial statements at such market quotations. With respect to investments for
which market quotations are not readily available, the Company’s Board of
Directors will undertake a multi-step valuation process each quarter, as
described below:
•
|
The
Company’s quarterly valuation process begins with each portfolio company
or investment being initially valued by Keating Investments’ senior
investment professionals responsible for the portfolio
investment;
|
•
|
A
nationally recognized third-party valuation firm engaged by the Company’s
Board of Directors will review these preliminary
valuations;
|
•
|
The
Company’s Valuation Committee will review the preliminary valuations and
the Company’s investment adviser and nationally recognized third-party
valuation firm will respond and supplement the preliminary valuation to
reflect any comments provided by the Valuation
Committee; and
|
•
|
The
Company’s Board of Directors will discuss valuations and will determine,
in good faith, the fair value of each investment in the Company’s
portfolio for which market quotations are not readily available based on
the input of the Company’s investment adviser, a nationally recognized
third-party valuation firm, and the Company’s Valuation
Committee.
|
9
Keating Capital, Inc. |
Notes to Financial Statements |
(Unaudited) |
As the
Company has made no debt or equity portfolio company investments since its
inception, the debt and equity investment valuation policies summarized above
will be applied prospectively.
Portfolio
Investment Classification
The
Company will classify its portfolio investments in accordance with the
requirements of the 1940 Act. Under the 1940 Act, “Control Investments” are
defined as investments in which the Company owns more than 25% of the voting
securities or has rights to maintain greater than 50% of the board
representation. Under the 1940 Act, “Affiliate Investments” are defined as
investments in which the Company owns between 5% and 25% of the voting
securities. Under the 1940 Act, “Non-Control/Non-Affiliate Investments” are
defined as investments that are neither Control Investments nor Affiliate
Investments.
Cash
and Cash Equivalents
Cash and
cash equivalents include all highly-liquid instruments with an original maturity
of 90 days or less at the date of purchase. Investments in money market mutual
funds and certificates of deposit, which may have original maturities of 90 days
or less, are separately classified as short-term investments.
Deferred
Offering Costs
Deferred
offering costs are comprised of expenses directly related to a continuous public
offering of the Company’s common stock that initially have been deferred and
will subsequently be charged against the gross proceeds of the offering (see
Note 4).
Concentration
of Credit Risk
The
Company may place its cash and cash equivalents with various financial
institutions and, at times, cash held in depository accounts at such
institutions may exceed the Federal Deposit Insurance Corporation insured
limit.
Securities
Transactions
Securities
transactions are accounted for on the date the transaction for the purchase or
sale of the securities is entered into by the Company (i.e., trade
date).
Interest,
Dividend and Other Income
Interest
income from debt investments in portfolio companies, adjusted for amortization
of premium and accretion of discount, is recorded on an accrual basis to the
extent such amounts are expected to be collected.
Origination, closing and/or commitment fees associated with debt investments in portfolio companies are accreted into interest income over the respective terms of the applicable loans. Upon the prepayment of a loan or debt security, the Company records any prepayment penalties and unamortized loan origination, closing and commitment fees as part of interest income.
Debt
investments are placed on non-accrual status when principal or interest payments
are past due 60 days or more or when there is reasonable doubt that principal or
interest will be collected. Accrued interest is generally reversed when a loan
is placed on non-accrual status. Non-accrual debt investments are
restored to accrual status when past due principal and interest is paid and, in
management’s judgment, are likely to remain current.
Dividend
income from equity investments in portfolio companies is recorded on the
ex-dividend date.
Fee income
includes fees, if any, for due diligence, structuring, transaction services,
consulting services and management services rendered to portfolio companies and
other third parties. Due diligence, structuring, transaction service, consulting
and management service fees generally are recognized as other income when
services are rendered.
As the
Company has made no debt or equity investments in any portfolio companies since
inception, no interest, dividend or other income from portfolio company
investments was recorded for the three and nine months ended September 30, 2009,
for the three months ended September 30, 2008, or for the period from May 9,
2008 (Inception) to September 30, 2008.
10
Keating Capital, Inc. |
Notes to Financial Statements |
(Unaudited) |
Federal
and State Income Taxes
The
Company is currently taxable as a C corporation and uses the liability method of
accounting for income taxes. Deferred tax assets and liabilities are recorded
for temporary differences between the tax basis of assets and liabilities and
their reported amounts in the financial statements, using statutory tax rates in
effect for the year in which the temporary differences are expected to reverse.
A valuation allowance is provided against deferred tax assets when it is more
likely than not that some portion or all of the deferred tax assets will not be
realized.
Beginning
with its 2010 taxable year, the Company intends to elect to be treated for U.S.
federal income tax purposes, and intends to qualify annually thereafter, as a
RIC under Subchapter M of the Internal Revenue Code. If the Company
does not meet the criteria to qualify as a RIC for its 2010 taxable year, it
will continue to be taxed as a regular corporation under Subchapter C of the
Internal Revenue Code (a “C corporation”). As a RIC, the Company
generally will not have to pay corporate-level federal income taxes on any
ordinary income or capital gains that the Company distributes to its
stockholders from its tax earnings and profits. To obtain and maintain its RIC
tax treatment, the Company must meet specified source-of-income and asset
diversification requirements and distribute annually at least 90% of its
ordinary income and realized net capital gains in excess of realized net capital
losses, if any. In order to avoid certain excise taxes imposed on RICs, the
Company currently intends to distribute during each calendar year an amount at
least equal to the sum of: (i) 98% of its ordinary income for the calendar
year, (ii) 98% of its capital gains in excess of capital losses for the
one-year period ending on October 31 of the calendar year, and
(iii) any ordinary income and net capital gains for preceding years that
were not distributed during such years.
Uncertain
tax positions
The
Company evaluates its tax positions taken or expected to be taken in the course
of preparing the Company’s tax returns to determine whether the tax positions
are ‘‘more-likely-than-not’’ of being sustained by the applicable tax authority.
Tax positions not deemed to meet the “more-likely-than-not” threshold are
recorded as an expense in the applicable year. As of September 30, 2009 and for
the period then ended, the Company did not have a liability for any unrecognized
tax benefits. Management’s evaluation of uncertain tax positions may be subject
to review and adjustment at a later date based upon factors including, but not
limited to, an on-going analysis of tax laws, regulations and interpretations
thereof.
Dividends
and Distributions
Dividends
and distributions to common stockholders are recorded on the ex-dividend date.
Net realized capital gains, if any, are distributed at least
annually. No dividends or distributions were declared or paid to
common stockholders for the three and nine months ended September 30, 2009, for
the three months ended September 30, 2008, or for the period from May 9, 2008
(Inception) to September 30, 2008.
Per
Share Information
Net
changes in net assets resulting from operations per common share, or basic
earnings per share, are calculated using the weighted average number of common
shares outstanding for the period presented. Diluted earnings per share are not
presented as there are no potentially dilutive securities
outstanding.
Subsequent
Events
The
Company evaluated subsequent events through the time of filing its Quarterly
Report on Form 10-Q on November 10, 2009. The Company is not
aware of any significant events that occurred subsequent to the balance sheet
date but prior to the filing of its Quarterly Report on Form 10-Q that would
have a material impact on its financial statements.
Recently
Issued Accounting Pronouncements
From time
to time, new accounting pronouncements are issued by the FASB or other standards
setting bodies that are adopted by the Company as of the specified effective
date. Unless otherwise discussed, the Company believes that the impact of
recently issued standards that are not yet effective will not have a material
impact on its financial statements upon adoption.
11
Keating Capital, Inc. |
Notes to Financial Statements |
(Unaudited) |
In
September 2009, the FASB issued Accounting Standards Update No. 2009-12, Investments in Certain Entities That
Calculate Net Asset Value per Share (or Its Equivalent) (“ASU
2009-12”), which provides amendments to ASC Subtopic 820-10, for the fair value
measurement of investments in certain entities that calculate net asset value
per share (or its equivalent). ASU 2009-12 permits a reporting entity
to measure the fair value of an investment that is within its scope on the basis
of the net asset value per share of the investment (or its equivalent) if the
net asset value of the investment (or its equivalent) is calculated in a manner
consistent with the measurement principles of ASC 820. ASU 2009-12 is
effective for interim and annual periods ending after December 15, 2009, and its
adoption is not expected to impact Company’s financial condition, results of
operations or cash flows.
3.
Related Party Agreements and Transactions
Investment
Advisory and Administrative Services Agreement
Subject to
the overall supervision of its Board of Directors, Keating Investments, the
Company’s external Investment Adviser, manages the Company’s day-to-day
operations and provides the Company with investment advisory services. Under the
terms of the Investment Advisory and Administrative Services Agreement, Keating
Investments will:
·
|
Determine
the composition of the Company’s investment portfolio, the nature and
timing of the changes to the investment portfolio and the
manner of implementing such
changes;
|
·
|
Determine
which securities the Company will purchase, retain or
sell;
|
·
|
Identify,
evaluate and negotiate the structure of the investments the Company makes,
including performing due diligence on prospective portfolio
companies; and
|
·
|
Close,
monitor and service the investments the Company
makes.
|
Keating
Investments’ services under the Investment Advisory and Administrative Services
Agreement are not exclusive and it is free to furnish similar services to other
entities so long as its services to the Company are not impaired.
The
Company pays Keating Investments a fee for its investment advisory services
under the Investment Advisory and Administrative Services Agreement consisting
of two components - a base management fee and an incentive fee.
Base
Management Fee
The base
management fee (the “Base Fee”) is calculated at an annual rate of 2% of the
Company’s gross assets, which includes any borrowings for investment
purposes. The Base Fee is payable quarterly in arrears, and is
calculated based on the value of the Company’s gross assets at the end of the
most recently completed calendar quarter, and appropriately adjusted for any
equity capital raises or repurchases during the current calendar quarter. The
Base Fee for any partial quarter is appropriately pro-rated.
In
accordance with the Investment Advisory and Administrative Services Agreement,
Base Fees payable to Keating Investments began accruing on November 13, 2008,
though Keating Investments has agreed to delay the collection of a portion of
the Base Fee equal to 0.5% of its gross assets until the Company has completed
at least one investment in a micro-cap company consistent with its investment
strategy. As a result, the Company began accruing the entire 2% Base
Fee for accounting purposes on November 13, 2008, but only pays 75% of the
accrued Base Fee to Keating Investments until such time as it begins making
investments in micro-cap companies.
Total Base
Fees incurred for the three and nine months ended September 30, 2009, for the
three months ended September 30, 2008, and for the period from May 9, 2008
(Inception) through September 30, 2008 were $22,342, $70,019, $0, and $0,
respectively.
At
September 30, 2009, total Base Fees payable to Keating Investments were $37,258,
including $11,919 of Accounts Payable in the accompanying Statement of Assets
and Liabilities.
12
Keating Capital, Inc. |
Notes to Financial Statements |
(Unaudited) |
Incentive
Fee
The
incentive fee is determined and payable in arrears as of the end of each
calendar year (or upon termination of the Investment Advisory and Administrative
Services Agreement, as of the termination date), and will equal 20% of the
Company’s realized capital gains, if any, on a cumulative basis from inception
through the end of each calendar year, computed net of all realized capital
losses and unrealized capital depreciation on a cumulative basis, less the
aggregate amount of any previously paid incentive fees, with respect to each of
the investments in the Company’s portfolio. Additionally, although
the Company anticipates that a portion of its investments at any given time will
include an interest or dividend component, Keating Investments is not entitled
to an incentive fee on investment income generated from such interest or
dividend payments.
No
incentive fees were earned by or paid to Keating Investments for the three and
nine months ended September 30, 2009, for the three months ended September 30,
2008, or for the period from May 9, 2008 (Inception) through September 30, 2008,
as the Company generated no realized capital gains during these
periods.
Administrative
Services
Pursuant
to the Investment Advisory and Administrative Services Agreement, Keating
Investments furnishes the Company with office facilities, equipment, and
clerical, bookkeeping and record-keeping services. Under the Investment Advisory
and Administrative Services Agreement, Keating Investments also performs, or
facilitates the performance of, certain administrative services, which includes
being responsible for the financial records which the Company is required to
maintain and preparing reports to the Company’s stockholders and reports filed
with the Securities and Exchange Commission (“SEC”). In addition, Keating
Investments assists the Company in monitoring its portfolio accounting and
bookkeeping, managing portfolio collections and reporting, performing internal
audit services, determining and publishing its net asset value, overseeing the
preparation and filing of its tax returns, printing and dissemination of reports
to its stockholders, providing support for its risk management efforts and
generally overseeing the payment of its expenses and performance of
administrative and professional services rendered to the Company by
others.
The
Company reimburses Keating Investments for the allocable portion of overhead and
other expenses incurred by Keating Investments in performing its administrative
obligations under the Investment Advisory and Administrative Services Agreement,
including the compensation of the Company’s Chief Financial Officer and Chief
Compliance Officer, and their respective staff.
In
accordance with the Investment Advisory and Administrative Services Agreement,
the allocation of administrative expenses from Keating Investments commenced on
November 13, 2008. For the three and nine months ended September 30,
2009, for the three months ended September 30, 2008, and for the period from May
9, 2008 (Inception) to September 30, 2008, allocated administrative expenses
totaled $67,408, $202,248, $0, and $0, respectively.
Reimbursable
expenses payable to Keating Investments totaling $9,110 and $13,875 in the
accompanying statement of assets and liabilities at September 30, 2009 and
December 31, 2008, respectively, represent direct expenses of Keating Capital
that were paid by Keating Investments on behalf of Keating Capital and are not
comprised of allocable expenses under the Investment Advisory and Administrative
Services Agreement.
Duration and
Termination
The
Investment Advisory and Administrative Services Agreement was initially approved
by the Company’s Board of Directors and its sole stockholder on July 28, 2008.
An amended and restated version of the Investment Advisory and Administrative
Services Agreement, which is presently in effect, was approved by the Company’s
Board of Directors on April 17, 2009, and by the Company’s
stockholders at its Annual Meeting held on May 14, 2009.
Unless
earlier terminated as described below, the Investment Advisory and
Administrative Services Agreement will remain in effect for a period of two
years from the date it was approved by the Board of Directors and will remain in
effect from year to year thereafter if approved annually by (i) the vote of the
Company’s Board of Directors, or by the vote of a majority of the Company’s
outstanding voting securities, and (ii) the vote of a majority of the Company’s
directors who are not interested persons. An affirmative vote of the holders of
a majority of the Company’s outstanding voting securities is also necessary in
order to make material amendments to the Investment Advisory and Administrative
Services Agreement.
13
Keating Capital, Inc. |
Notes to Financial Statements |
(Unaudited) |
The
Investment Advisory and Administrative Services Agreement will automatically
terminate in the event of its assignment. As required by the 1940 Act, the
Investment Advisory and Administrative Services Agreement provides that the
Company may terminate the agreement without penalty upon 60 days written
notice to Keating Investments. If Keating Investments wishes to
voluntarily terminate the Investment Advisory and Administrative Services
Agreement, it must give stockholders a minimum of 120 days notice prior to
termination and must pay all expenses associated with its termination. The
Investment Advisory and Administrative Services Agreement may also be
terminated, without penalty, upon the vote of a majority of the Company’s
outstanding voting securities.
License
Agreement
On July
28, 2008, the Company entered into a license agreement (“License Agreement”)
with Keating Investments pursuant to which Keating Investments granted the
Company a non-exclusive license to use the name “Keating.” Under the License
Agreement, the Company has a right to use the Keating name and logo, for as long
as Keating Investments or one of its affiliates remains the Company’s investment
adviser. Other than with respect to this limited license, the Company has no
legal right to the “Keating” name or logo. The License Agreement will remain in
effect for as long as the Investment Advisory and Administrative Services
Agreement with Keating Investments is in effect.
4. Capital
Stock
The
Company’s authorized capital stock consists of 200,000,000 shares of stock,
par value $0.001 per share, all of which has initially been designated as
common stock.
During the
three and nine months ended June 30, 2009, the Company did not issue any shares
of common stock.
On May 14,
2008, the Company sold 100 shares of common stock to Keating Investments at
$10.00 per share, resulting in gross proceeds of $1,000.
From
August 27, 2008 through November 12, 2008, the Company sold 569,800 shares of
common stock in a private offering to various qualified purchasers at $10.00 per
share, resulting in gross proceeds of $5,698,000 (the “Private
Offering”). After the payment of placement agent commissions and
other offering costs of $454,566, the Company received net proceeds of
$5,243,434 in connection with the Private Offering.
In
connection with the Private Offering, the Company paid Andrews Securities, LLC
(“Andrews Securities”) an aggregate of $398,860 in commissions (7% of gross
proceeds received) and $15,632 in expense reimbursements for acting as the
Company’s exclusive placement agent under the Offering.
On June
11, 2009 the Company commenced a continuous public offering pursuant to which
the Company intends to sell from time to time up to 10 million shares of its
common stock, at an initial offering price of $10.00 per share, for a period of
12 months, subject to a 6-month extension at the Company’s sole
discretion. There can be no assurance that the Company will be able
to sell all of the shares it is presently offering and as of September 30, 2009,
no shares of common stock had been sold and no proceeds had been received from
the Company’s continuous public offering.
Prior to
August 21, 2008, Andrews Securities was 100% owned by the Company’s investment
adviser, Keating Investments. On August 21, 2008, a transaction was
completed whereby Keating Investments sold 65% of Andrews Securities to Jeff L.
Andrews and 15% of Andrews Securities to Michael J. Keating, the brother of
Timothy J. Keating, the Company’s President and Chief Executive
Officer. Following the completion of this transaction, Keating
Investments continued to own 20% of Andrews Securities, but did not actively
participate in the operations or management of Andrews Securities.
14
Keating Capital, Inc. |
Notes to Financial Statements |
(Unaudited) |
On January
31, 2009, Keating Investments sold its remaining 20% interest in Andrews
Securities to Jeff L. Andrews and upon completion of the sale transaction, was
terminated as a member of Andrews Securities. Additionally, on January 31, 2009,
Michael J. Keating transferred and assigned his 15% interest in Andrews
Securities directly to Andrews Securities. Upon completion of this
transaction, Michael J. Keating was removed as a member of Andrews Securities,
with Jeff L. Andrews having a 100% ownership interest in Andrews
Securities. As a result of Keating Investments’ previous ownership of
Andrews Securities, Andrews Securities may have previously been deemed an
affiliate of Keating Investments and, as a result of the Company’s relationship
with Keating Investments and Timothy J. Keating, previously an affiliate of the
Company’s.
5. Changes
in Net Assets Per Share
The
following table sets forth the computation of the basic and diluted per share
net decrease in net assets resulting from operations for the three and nine
months ended September 30, 2009, for the three months ended September 30, 2008,
and for the period from May 9, 2008 (Inception) to September 30,
2008:
Period
from
|
||||||||||||||||
Three
Months
|
Three
Months
|
Nine
Months
|
May
9, 2008
|
|||||||||||||
Ended
|
Ended
|
Ended
|
(Inception)
to
|
|||||||||||||
September
30,
|
September
30,
|
September
30,
|
September
30,
|
|||||||||||||
2009
|
2008
|
2009
|
2008
|
|||||||||||||
Numerator
for decrease in net assets per share
|
$ | (234,346 | ) | $ | (219,329 | ) | $ | (745,562 | ) | $ | (349,972 | ) | ||||
Denominator
for basic and diluted
|
||||||||||||||||
weighted
average shares
|
569,900 | 194,448 | 569,900 | 123,407 | ||||||||||||
Basic
and diluted net decrease in net assets per share
|
||||||||||||||||
resulting
from operations
|
$ | (.41 | ) | $ | (1.13 | ) | $ | (1.31 | ) | $ | (2.84 | ) |
15
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations.
|
FORWARD-LOOKING
STATEMENTS
Some of
the statements in this quarterly report on Form 10-Q constitute forward-looking
statements because they relate to future events or our future performance or
financial condition. These forward-looking statements are not historical facts,
but rather are based on current expectations, estimates and projections about
us, our prospective portfolio investments, our industry, our beliefs, and our
assumptions. The forward-looking statements contained in this
quarterly report on Form 10-Q may include statements as to:
•
|
Our
future operating results;
|
•
|
Our
business prospects and the prospects of our portfolio
companies;
|
•
|
The
impact of the investments that we expect to
make;
|
•
|
The
ability of our portfolio companies to achieve their
objectives;
|
•
|
Our
expected financings and
investments;
|
•
|
The
adequacy of our cash resources and working
capital; and
|
•
|
The
timing of cash flows, if any, from the operations of our portfolio
companies.
|
In
addition, words such as “anticipate,” “believe,” “expect” and “intend” indicate
a forward-looking statement, although not all forward-looking statements include
these words. The forward-looking statements contained in this quarterly report
on Form 10-Q involve risks and uncertainties. Our actual results could differ
materially from those implied or expressed in the forward-looking statements for
any reason, including the factors set forth in “Risk Factors” and elsewhere in
this quarterly report on Form 10-Q or incorporated by reference herein. Other
factors that could cause actual results to differ materially
include:
|
•
|
An
economic downturn, such as the one we are currently experiencing, could
likely impair the ability of any portfolio company that we may
acquire an interest in to continue to operate, which could lead to the
loss of some or all of our investments in such portfolio
companies;
|
|
•
|
An
economic downturn, such as the one we are currently experiencing, could
disproportionately impact the public ready growth companies which we
intend to target for investment, potentially causing us to suffer losses
in our portfolio and experience diminished demand for capital from these
companies;
|
•
|
An
inability to access the equity markets could impair our investment
activities.
|
We have
based the forward-looking statements included in this quarterly report on Form
10-Q on information available to us at the time we filed this quarterly report
on Form 10-Q with the SEC, and we assume no obligation to update any such
forward-looking statements. Except as required by the federal securities laws,
we undertake no obligation to revise or update any forward-looking statements,
whether as a result of new information, future events or otherwise. You are
advised to consult any additional disclosures that we may make directly to you
or through reports that we in the future may file with the SEC, including annual
reports on Form 10-K, quarterly reports on Form 10-Q and current
reports on Form 8-K. The forward-looking statements and projections
contained in this quarterly report on Form 10-Q are excluded from the safe
harbor protection provided by Section 21E of the Securities Exchange Act of
1934, as amended (the “Exchange Act”).
16
MANAGEMENT’S
DISCUSSION AND ANALYSIS
OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The
following Management’s Discussion and Analysis of Financial Condition and
Results of Operations should be read in conjunction with our financial
statements and the related notes and schedules thereto.
Overview
We were
incorporated on May 9, 2008 under the laws of the State of
Maryland. We filed an election to be regulated as a business
development company under the Investment Company Act of 1940, as amended (the
“1940 Act”) on November 20, 2008.
We intend
to invest principally in equity securities, including convertible preferred
securities and debt securities convertible into equity securities, of primarily
non-public U.S.-based companies. Our investment objective is to maximize
our portfolio’s capital appreciation while generating current income from our
portfolio investments. In accordance with our investment objective,
we intend to provide capital principally to U.S.-based, private companies with
an equity value of less than $250 million, which we refer to as “micro-cap
companies.” Our primary emphasis will be to attempt to generate
capital gains through our equity investments in micro-cap companies, including
through the conversion of the convertible debt or convertible preferred
securities we will seek to acquire in such companies. However, we
anticipate that a portion of our investments at any given time will include a
component of interest or dividends, which we believe will provide us with
current yield, in addition to the potential for capital
appreciation.
We may
also make investments on an opportunistic basis in U.S.-based publicly-traded
companies with market capitalizations of less than $250 million, as well as
foreign companies that otherwise meet our investment criteria, subject to
certain limitations imposed under the 1940 Act. At the present time, we do not
expect our investments in foreign companies to exceed more than 10% of our total
investment portfolio on a cost basis, however.
We intend
to utilize a three-step investment process focused on:
|
•
|
An
initial investment consisting of convertible debt or convertible preferred
stock;
|
|
•
|
A
going public preparation process;
and
|
|
•
|
A
subsequent follow-on investment typically consisting of convertible
preferred stock or other equity.
|
Any
subsequent follow-on investment will be contingent upon a portfolio company
satisfying pre-established milestones towards the filing of a registration
statement under the Securities Act of 1933, as amended (“Securities Act”) or the
Exchange Act. Where appropriate, we may also negotiate to receive
warrants, either as part of our initial or follow-on investments in our
portfolio companies.
As an
integral part of our initial investment, we intend to partner with and help
prepare our portfolio companies to become public and meet the governance and
eligibility requirements for a Nasdaq Capital Market listing. Because
we believe that the traditional underwritten initial public offering (“IPO”)
market is virtually non-existent for micro-cap companies, we intend that our
portfolio companies will go public through the filing of a registration
statement under the Securities Act or the Exchange Act. We
intend to invest in micro-cap companies that we believe will be able to file a
registration statement with the U.S. Securities and Exchange Commission (“SEC”)
within approximately three to twelve months after our initial
investment. These registration statements will typically take
the form of a resale registration statement filed by a portfolio company under
the Securities Act coupled with a concurrent registration of the portfolio
company’s common stock under the Exchange Act, or alternatively a stand-alone
registration statement registering the common stock of a portfolio company under
the Exchange Act without a concurrent registered offering under the Securities
Act.
While we
expect the common stock of our portfolio companies to typically be initially
quoted on the Over-the-Counter Bulletin Board (the “OTC Bulletin Board”)
following the completion of the registration process, we intend to target
investments in portfolio companies that we believe will be able to qualify for a
Nasdaq Capital Market listing within approximately twelve to eighteen months
after completion of our follow-on investment. We can provide no
assurance, however, that the micro-cap companies in which we invest will be able
to successfully complete the SEC registration process, or that they will be
successful in obtaining a listing on the OTC Bulletin Board or the Nasdaq
Capital Market within the expected timeframe, if at all.
17
We
intend to maximize our potential for capital appreciation by taking advantage of
the premium we believe is generally associated with having a more liquid asset,
such as a publicly traded security. Specifically, we believe that a
Nasdaq Capital Market listing, if obtained, will generally provide our portfolio
companies with greater visibility, marketability, and liquidity than they would
otherwise be able to achieve without such a listing. Since we intend
to be more patient investors, we believe that our portfolio companies may have
an even greater potential for capital appreciation if they are able to
demonstrate sustained earnings growth and are correspondingly rewarded by the
public markets with a price-to-earnings (P/E) multiple appropriately linked to
earnings performance. We can provide no assurance, however, that the
micro-cap companies in which we may invest will be able to achieve such
sustained earnings growth necessary, or that the public markets will recognize
such growth, if any, with an appropriate market premium.
The
convertible debt instruments we expect to receive in connection with our initial
investments will likely be unsecured or subordinated debt securities.
These convertible debt instruments will in nearly all cases not be rated by a
national rating agency. If such debt securities were rated, however,
we would expect them to fall below investment grade, which are sometimes
referred to as “junk bonds,” meaning that they are more speculative in nature
with respect to the issuer’s capacity to pay interest and repay principal, and
are therefore subject to greater risk of default than other debt securities that
qualify as investment grade. The equity investments we expect to receive in
connection with our follow-on investments will typically be non-controlling
investments, meaning we will not be in a position to control the management,
operation and strategic decision-making of the companies in which we
invest. In the near term, we expect that our total initial and
follow-on investments in each portfolio company will typically range from
$500,000 to $1,000,000, although we may invest more than this threshold in
certain opportunistic situations. We expect the size of our
individual investments to increase if and to the extent our capital base
increases in the future.
We expect
that our capital will primarily be used by our portfolio companies to finance
organic growth. To a lesser extent, our capital may be used to
finance acquisitions and recapitalizations. Our investment adviser’s investment
decisions will be based on an analysis of potential portfolio companies’
management teams and business operations supported by industry and competitive
research, an understanding of the quality of their revenues and cash flow,
variability of costs and the inherent value of their assets, including
proprietary intangible assets and intellectual property. Our
investment adviser will also assess each potential portfolio company as to its
appeal in the public markets and its suitability for achieving and maintaining
public company status.
We are
externally managed by Keating Investments, LLC (“Keating Investments”), an
investment adviser registered under the Investment Advisers Act of 1940, as
amended, or the “Advisers Act.” As our investment adviser, Keating
Investments is responsible for managing our day-to-day operations including,
without limitation, identifying, evaluating, negotiating, closing, monitoring
and servicing our investments. Keating Investments has a 13-year
track record of investing in and working with micro-cap public companies and has
assisted 20 companies in achieving public company status. Keating
Investments also provides us with the administrative services necessary for us
to operate.
As a
business development company, we are required to comply with certain regulatory
requirements. For example, to the extent provided by the 1940 Act, we are
required to invest at least 70% of our total assets in eligible portfolio
companies.
Alternative
Equity Investments
Alternative
equity investments are managed assets that are generally accessible only to
wealthy investors and that typically have low correlations to traditional
categories of investments, like stocks and bonds. Alternative equity
investments are generally designed to either help investors diversify their
portfolios and potentially manage risk exposure more effectively and/or to
enhance return. We believe alternative equity investments such as
venture capital and private equity are typically added to institutional
portfolios to increase return.
We intend
to create a unique pool of fundamental, patient capital dedicated to making
pre-IPO investments. In the current environment, we believe that
there is limited competition from banks, PIPE funds or hedge funds that might
otherwise be providers of this type of transitional capital. Our goal
is to be a “go to” source of capital for private companies seeking to obtain
pre-IPO financing. As a business development company investing in private
companies that have the potential for growth and that may be capable of becoming
public, we may provide the potential to deliver above-average returns relative
to traditional marketable securities.
Research
shows that publically traded companies are potentially valued higher than
comparable private company peers because market participants may pay a
significant premium for liquidity. Investors willing to accept
illiquidity in the form of a private, pre-IPO investment can attempt to capture
this potential valuation differential once a company becomes publicly
traded.
18
We intend
to provide an opportunity to participate in the potential increase in value that
can occur as portfolio companies transition from private to public status and
potential accelerated earnings growth following an infusion of capital. We
believe that we have a systematic, identifiable and quantifiable source of
risk-adjusted excess return that has the potential to generate capital gains on
each investment over an average 3-year anticipated holding period. We
intend to distribute current income from our portfolio to investors in the form
of quarterly dividends, to the extent available.
Current
Economic Environment
The U.S.
economy is currently in a recession. During the
nine months ended September 30, 2009, consumer confidence continued to
deteriorate and unemployment figures increased. However, in recent
months, certain economic indicators have shown modest
improvements. The
generally depressed economic situation, together with the limited availability
of debt and equity capital, including through bank financing, will likely have a
disproportionate impact on the micro-cap companies we intend to target for
investment. As a result, we may experience a reduction in attractive
investment opportunities in prospective portfolio companies that fit our
investment criteria. In addition, micro-cap companies in which we
ultimately invest may be unable to pay us the interest or dividends on their
convertible securities or repay their debt obligations to us, and the common
stock which we may receive upon conversion of the convertible securities may
have little or no value, resulting in the loss of all or substantially all of
our investment in such micro-cap companies.
Operating
and Regulatory Structure
Our
investment activities are managed by Keating Investments pursuant to an
investment advisory and administrative services agreement (the “Investment
Advisory and Administrative Services Agreement”). Keating Investments
was founded in 1997 and is an investment adviser registered under the Advisers
Act. The managing member and majority owner of Keating Investments is
Timothy J. Keating. Our investment adviser’s senior investment
professionals are Timothy J. Keating, our President, Chief Executive Officer and
Chairman of our Board of Directors, Ranjit P. Mankekar, our Chief Financial
Officer, Treasurer and a member of our Board of Directors, and Kyle L. Rogers,
our Chief Operating Officer and Secretary. In addition, Keating
Investments’ other investment professionals consist of two portfolio company
originators, one analyst and a Chief Compliance Officer. Under our
Investment Advisory and Administrative Services Agreement with Keating
Investments, we have agreed to pay Keating Investments, for its investment
advisory services, an annual base management fee based on our gross assets as
well as an incentive fee based on our performance. In addition,
Keating Investments has agreed to delay a portion of the base management fee
payable equal to 0.5% of our gross assets until we have completed at least one
investment in a micro-cap company consistent with our investment
strategies. As a result, we will accrue the delayed portion of our base
management fee for accounting purposes, but will not actually pay that amount to
our investment adviser until we begin making investments in micro-cap
companies.
Investment
Portfolio and Activities
During the three and nine months ended
September 30, 2009, our investment portfolio consisted solely of money market
investments and short-term certificate of deposit investments. While
our investment adviser continues to actively evaluate potential portfolio
investments in micro-cap companies that meet our investment criteria, we have
made no investments in portfolio companies as of September 30,
2009.
Our
investment adviser, Keating Investments, employs a 7-stage system to track the
progress of deals in its pipeline as set forth below:
Stage
in Pipeline
|
Description
of Stage
|
Stage
One
|
Company
information has been received and reviewed by a portfolio originator, and
the target portfolio company meets our minimum investment criteria. The
target portfolio company has expressed an interest in our “going public”
process.
|
Stage
Two
|
The
portfolio originator and the target portfolio company have agreed, in
principle, on the valuation metrics to be used in the
transaction.
|
Stage
Three
|
The
portfolio originator has submitted an Investment Opportunity Report on the
target portfolio company to the Investment Committee for
consideration.
|
Stage
Four
|
The
Investment Committee has submitted a Management Questionnaire to the
target portfolio company requesting detailed
information.
|
Stage
Five
|
The
Investment Committee has submitted a Term Sheet to the target portfolio
company outlining the terms and conditions of the proposed
investment.
|
Stage
Six
|
The
target portfolio company has accepted the terms and conditions of the
investment and the Term Sheet is executed.
|
Stage
Seven
|
We
have closed the investment transaction and made the initial investment in
the target portfolio company.
|
19
Since the
closing of our initial private placement in November 2008, our investment
adviser has reviewed over one hundred companies that meet the Company’s
investment criteria. Of those companies, seven are at various stages
in the pipeline as of September 30, 2009, though we currently do not anticipate
finalizing and funding any target portfolio investments during the remainder of
2009. Beginning in 2010, we anticipate making five to ten investments
per year depending upon the amount of capital we have available for
investment. The consummation of each investment will depend upon
satisfactory completion of our due diligence investigation of the prospective
portfolio company, our confirmation and acceptance of the investment terms,
structure and financial covenants, the execution and delivery of final binding
agreements in form mutually satisfactory to the parties, the absence of any
material adverse change and the receipt of any necessary consents. We
can provide no assurance that we will be able to meet our anticipated pace of
investment.
Results
of Operations
We were
incorporated on May 9, 2008 and commenced operations in November
2008. Set forth below are the results of operations for the three and
nine months ended September 30, 2009, for the three months ended September 30,
2008, and for the period from May 9, 2008 (Inception) to September 30,
2008.
Revenues. We
currently have limited revenue from operations and in all likelihood will
be required to make future expenditures in connection with our marketing efforts
along with general and administrative expenses before we will earn any material
revenue.
We
previously raised a total of $5,698,000 in gross proceeds in our initial private
placement which was completed on November 12, 2008. Management of
Keating Investments contributed 16.7% of that total. Since inception,
we have incurred operating cash outflows of approximately $1,125,000, stock
offering costs of approximately $455,000, including placement agent commissions,
associated with our initial private placement, and deferred stock offering costs
of approximately $433,000 associated with our continuous public offering,
resulting in approximately $3,685,000 of capital available as of September 30,
2009. We have generated and will continue to generate limited revenue
from interest earned from the temporary investment of the net proceeds from our
initial private placement offering in U.S. government securities and other
high-quality debt investments that mature in one year or less. For the three and
nine months ended September 30, 2009, we earned interest and dividend income
from money market and certificate of deposit investments of approximately $3,700
and $5,240, respectively. For the three months ended September 30, 2008 and for
the period from May 9, 2008 (inception) through September 30, 2008, we
earned interest and dividend income from money market investments of
approximately $6,011.
We intend
to invest principally in equity securities, including convertible preferred
securities, and debt securities convertible into common stock, of primarily
non-public U.S.-based micro-cap companies. Specifically, we intend to invest
principally in convertible debt securities for our initial investment and equity
securities, principally preferred securities convertible into common stock, for
our follow-on investments. We expect that the convertible debt
securities will generally carry a market rate of interest, which interest will
be payable monthly in cash. We may, in certain instances, also
require that all or a portion of the interest on the convertible debt securities
be paid in advance from the proceeds thereof. In the event that we do
not receive advance payments of interest out of the proceeds of the convertible
debt securities, there is no assurance that we will receive interest from our
portfolio companies on a monthly basis.
We may
also generate revenue in the form of commitment, origination, structuring or
diligence fees, fees for providing significant managerial assistance and
possibly consulting fees. Any such fees will be generated in connection with our
investments and recognized as earned.
As we have
made no debt or equity investments in any portfolio companies since inception,
no interest, dividend or other income from portfolio company investments was
recorded during the three and nine months ended September 30, 2009, during the
three months ended September 30, 2008, or during the period from May 9, 2008
(Inception) through September 30, 2008.
Expenses. Our
primary operating expenses include the payment of: (i) investment advisory
fees to our investment adviser, Keating Investments; (ii) the allocable
portion of overhead and other expenses incurred by Keating Investments, as our
administrator, in performing its administrative obligations under the Investment
Advisory and Administrative Services Agreement; and (iii) other operating
expenses as detailed below. Our investment advisory fee compensates our
investment adviser for its work in identifying, evaluating, negotiating,
closing, monitoring and servicing our investments. We bear all other expenses of
our operations and transactions, including, without limitation:
20
·
|
Costs
of calculating our net asset value, including the cost of any third-party
valuation services;
|
·
|
Costs
of effecting sales and repurchases of shares of our common stock and other
securities;
|
·
|
Fees
payable to third parties relating to, or associated with, making
investments, including fees and expenses associated with performing due
diligence reviews of prospective
investments;
|
·
|
Costs
related to organization and
offerings;
|
·
|
Transfer
agent and custodial fees;
|
·
|
Fees
and expenses associated with marketing
efforts;
|
·
|
Federal
and state registration fees;
|
·
|
Any
stock exchange listing fees;
|
·
|
Applicable
federal, state and local taxes;
|
·
|
Independent
directors’ fees and expenses;
|
·
|
Brokerage
commissions;
|
·
|
Costs
of proxy statements, stockholders’ reports and
notices;
|
·
|
Fidelity
bond, directors and officers/errors and omissions liability insurance and
other insurance premiums;
|
·
|
Direct
costs such as printing, mailing, and long distance
telephone;
|
·
|
Fees
and expenses associated with independent audits and outside legal
costs;
|
·
|
Costs
associated with our reporting and compliance obligations under the 1940
Act, Sarbanes-Oxley Act, and applicable federal and state securities
laws; and
|
·
|
All
other expenses incurred by either Keating Investments or us in connection
with administering our business, including payments under the Investment
Advisory and Administrative Services Agreement that will be based upon our
allocable portion of overhead and other expenses incurred by Keating
Investments in performing its obligations under the Investment Advisory
and Administrative Services Agreement, including the compensation of our
Chief Financial Officer and Chief Compliance Officer, and their respective
staff.
|
For the
three months ended September 30, 2009, we had operating expenses of $238,069,
comprised of: (i) legal, accounting and other professional fees of $84,944; (ii)
directors’ fees of $20,250; (iii) base management fees of $22,342; (iv)
allocated administrative fees of $67,408; and (v) other general and
administrative expenses of $43,125.
For the
nine months ended September 30, 2009, we had operating expenses of $750,802,
comprised of: (i) legal, accounting and other professional fees of $303,179;
(ii) directors’ fees of $75,750; (iii) base management fees of $70,019;
(iv) allocated administrative fees of $202,248; and (v) other general and
administrative expenses of $99,606.
For the
three months ended September 30, 2008, we had operating expenses of $225,340,
comprised of: (i) legal, accounting and other professional fees of $158,092;
(ii) directors’ fees of $25,250; and (iii) other general and administrative
expenses of $41,998.
For the
period from May 9, 2008 (inception) through September 30, 2008, we had operating
expenses of $355,983, comprised of: (i) legal, accounting and other professional
fees of $276,036; (ii) directors’ fees of $25,250; and (iii) other general and
administrative expenses of $54,697.
21
Financial
Condition, Liquidity and Capital Resources
We
generated net cash proceeds of $5,243,434 from our initial private placement
which was completed on November 12, 2008.
We plan to
invest the net proceeds remaining from our initial private placement in
portfolio companies in accordance with our investment objective and strategies
described in this quarterly report. We currently do not anticipate
finalizing and funding any portfolio company investments during the remainder of
2009. Beginning in 2010, we anticipate making five to ten investments
per year depending upon the amount of capital we have available for investment
and on the availability of appropriate investment opportunities consistent with
our investment objective and market conditions.
On June
11, 2009, we commenced a continuous public offering pursuant to which we intend
to sell from time to time up to 10 million shares of our common stock, at an
initial offering price of $10 per share, for a period of 12 months, subject to a
six month extension at our sole discretion. There can be no assurance
that we will be able to sell all of the shares we are presently offering and as
of September 30, 2009, no shares of common stock had been sold and no proceeds
had been received from our continuous public offering. We plan to invest the net
proceeds from our continuous public offering in portfolio companies in
accordance with our investment objective and strategies described in this
quarterly report. We anticipate that it will take us up to 12 to 24
months after conclusion of the continuous public offering to invest
substantially all of the proceeds from the continuous public offering in
accordance with our investment strategy and depending on the availability of
appropriate investment opportunities consistent with our investment objective
and market conditions. We cannot assure you we will achieve our targeted
investment pace.
Pending
such investments, we will invest the net proceeds from our initial private
placement and continuous public offering primarily in cash, cash equivalents,
U.S. government securities and other high-quality investments that mature in one
year or less from the date of investment, which we expect will earn yields
substantially lower than the interest, dividend or other income that we
anticipate receiving from investments in debt and equity securities of our
target portfolio companies. As a result, our ability to pay dividends in our
initial years of operation will be based on our ability to invest our capital in
suitable portfolio companies in a timely manner.
Our
primary use of funds will be investments in portfolio companies, cash
distributions to holders of our common stock, and the payment of operating
expenses. As of September 30, 2009, we had made no investments in portfolio
companies.
As of
September 30, 2009, we had cash resources of approximately $3,685,000 and no
indebtedness other than accounts payable and accrued expenses incurred in the
ordinary course of business of approximately $182,000, and management fees
payable to Keating Investments of approximately $25,000. As of
December 31, 2008, we had cash resources of approximately $4,779,000 and no
indebtedness other than accounts payable and accrued expenses incurred in the
ordinary course of business of approximately $83,000, and management fees
payable to Keating Investments of approximately $12,000.
As of
September 30, 2009, our cash resources included approximately $3,500,000
invested in certificates of deposit with original maturities of four weeks
(maturing on October 15, 2009) which have been valued by us at amortized cost as
of September 30, 2009. The remainder of our cash resources of
approximately $185,000 are held in depository accounts at Steele Street Bank
& Trust, which serves as our custodian. We currently have
no investments in debt or equity securities of private or public
companies. As of December 31, 2008, our cash resources included
approximately $4,411,000 invested in the Goldman Sachs Financial Square Treasury
Instruments Fund, a money market mutual fund holding primarily short-term U.S.
Treasury securities, and approximately $368,000 held in depository accounts at
Steele Street Bank & Trust.
As of
September 30, 2009, we had net assets of $3,969,912 and, based on 569,900 shares
of common stock outstanding, a net asset value per common share of approximately
$6.96. As of December 31, 2008, we had net assets of $4,715,474 and,
based on 569,900 shares of common stock outstanding, a net asset value per
common share of approximately $8.27.
Distribution
Policy
We have
not paid any dividends or distributions since our inception. Our
Board of Directors will determine the payment of any distributions in the
future. We intend to declare and pay distributions on a quarterly
basis beginning no later than the first calendar quarter after the month in
which we have raised at least $10 million from the sale of shares of our common
stock to investors not affiliated with us or Keating Investments. We
will pay these distributions to our stockholders out of assets legally available
for distribution. We cannot assure you that we will achieve investment results
that will allow us to make a targeted level of cash distributions or
year-to-year increases in cash distributions. Any dividends to our
stockholders will be declared out of assets legally available for
distribution.
22
Although
our primary emphasis will be to generate capital gains through the common stock
we expect to receive upon conversion of the convertible debt and convertible
preferred securities issued to us in the initial and follow-on investments in
our portfolio companies, we also expect to generate current income from the
interest and preferred dividends on the debt and convertible preferred
securities, respectively, prior to their conversion.
The timing
of any capital gains generated from the appreciation and sale of common stock we
expect to receive in our portfolio companies upon conversion of the convertible
debt and convertible preferred equity securities cannot be
predicted. Although we expect to be able to pay dividends from the
interest and preferred dividends we receive from our initial and follow-on
investments prior to our conversion thereof, we do not expect to generate
capital gains from the sale of our portfolio investments on a level or uniform
basis from quarter to quarter. This may result in substantial
fluctuations in our quarterly dividend payments to stockholders. In
addition, since we expect to have an average holding period for our portfolio
company investments of two to three years, it is unlikely we will generate any
capital gains during our initial years of operations and thus we are likely to
pay dividends in our initial years of operation principally from interest and
preferred dividends we receive from our initial and follow-on investments prior
to our conversion thereof. However, our ability to pay dividends in
our initial years of operation will be based on our ability to invest our
capital in suitable portfolio companies in a timely manner.
We are
currently taxable as a C corporation. Beginning with our 2010 taxable
year, we intend to elect to be treated, and intend to qualify annually
thereafter, as a RIC under Subchapter M of the Code. To obtain and maintain RIC
tax treatment, we must, among other things, distribute at least 90% of our
ordinary income and realized net capital gains in excess of realized net capital
losses, if any. In order to avoid certain excise taxes imposed on RICs, we
currently intend to distribute during each calendar year an amount at least
equal to the sum of: (i) 98% of our ordinary income for the calendar year,
(ii) 98% of our capital gains in excess of capital losses for the one-year
period ending on October 31 of the calendar year, and (iii) any
ordinary income and net capital gains for preceding years that were not
distributed during such years.
In
addition, after the effective date of our election to be taxable as a RIC, we
currently intend to distribute realized net capital gains, if any, at least
annually; however, we may in the future decide to retain such capital gains for
investment and elect to treat such gains as deemed distributions to our
stockholders. If this happens, our stockholders will be treated as if they had
received an actual distribution of the capital gains we retain and reinvested
the net after-tax proceeds in us. In this situation, our stockholders would be
eligible to claim a tax credit (or, in certain circumstances, a tax refund)
equal to their allocable share of the tax we paid on the capital gains deemed
distributed to them. We can offer no assurance that we will achieve
results that will permit the payment of any cash distributions and, to the
extent that we issue senior securities, we will be prohibited from making
distributions if doing so causes us to fail to maintain the asset coverage
ratios stipulated by the 1940 Act or if distributions are limited by the terms
of any of our borrowings.
We have
adopted a dividend reinvestment plan that provides for reinvestment of our
dividends and other distributions on behalf of our stockholders, unless a
stockholder elects to receive cash. As a result, if our Board of Directors
authorizes, and we declare, a cash distribution, then our stockholders who have
not opted out of our dividend reinvestment plan will have their cash
distributions automatically reinvested in additional shares of our common stock,
rather than receiving the cash distributions. To the extent we
conduct an offering prior to the time our shares become publicly traded, we
expect to coordinate dividend payment dates so that the same price that is used
for the closing date immediately following such dividend payment date will be
used to calculate the purchase price for purchasers under the dividend
reinvestment plan until such offering concludes. In such cases, we expect that
reinvested dividends will purchase shares at a price equal to 95% of the price
that shares are sold in any such offering at the closing immediately following
the distribution payment date.
After
conclusion of any such offering and until our shares become publicly traded, the
number of shares to be issued to a stockholder will be determined by dividing
the total dollar amount of the distribution payable to such stockholder by the
net asset value per share of our common stock as most recently determined by our
Board of Directors on or prior to the valuation date for such distribution. If
and when our shares become publicly traded, the number of shares to be issued to
a stockholder will be determined by dividing the total dollar amount of the
distribution payable to such stockholder by the market price per share of our
common stock at the close of regular trading on the Nasdaq Capital Market, if
our shares are listed thereon, or the OTC Bulletin Board on the valuation date
for such distribution. Market price per share on that date will be the closing
price for such shares on the Nasdaq Capital Market or the OTC Bulletin Board, as
applicable, or, if no sale is reported for such day, at the average of their
electronically-reported bid and asked prices.
No action
will be required on the part of a registered stockholder to have his, her or its
cash distribution reinvested in shares of our common stock. A registered
stockholder will be able to elect to receive an entire distribution in cash by
notifying the plan administrator and our transfer agent and registrar, in
writing so that such notice is received by the plan administrator no later than
the record date for distributions to stockholders. The plan administrator will
set up an account for shares acquired through the plan for each stockholder who
has not elected to receive distributions in cash and hold such shares in
non-certificated form. Upon request by a stockholder participating in the plan,
received in writing not less than 10 days prior to the record date, the plan
administrator will, instead of crediting shares to the participant’s account,
issue a certificate registered in the participant’s name for the number of whole
shares of our common stock and a check for any fractional share.
23
Those
stockholders whose shares are held by a broker or other financial intermediary
will be able to receive distributions in cash by notifying their broker or other
financial intermediary of their election.
We can
offer no assurance that we will achieve results that will permit the payment of
any cash distributions and, if we issue senior securities, we will be prohibited
from making distributions if doing so causes us to fail to maintain the asset
coverage ratios stipulated by the 1940 Act or if distributions are limited by
the terms of any of our borrowings.
All
distributions will be paid at the discretion of our Board of Directors and will
depend on our earnings, our financial condition, maintenance of our RIC status,
compliance with applicable business development company regulations and such
other factors as our Board of Directors may deem relevant from time to time. We
cannot assure that we will pay distributions to our stockholders in the future.
In the event that we encounter delays in locating suitable investment
opportunities, we may pay all or a substantial portion of our distributions from
the proceeds of the sales of our common stock in anticipation of future cash
flow, which may constitute a return of our stockholders’ capital. Distributions
from the proceeds of the sales of our common stock also could reduce the amount
of capital we ultimately invest in interests of portfolio
companies. Our distributions may exceed our earnings, especially
during the period before we have substantially invested the proceeds from the
sale of our common stock.
Contractual
Obligations
We have
entered into a contract under which we have material future commitments, the
Investment Advisory and Administrative Services Agreement, pursuant to which
Keating Investments agrees to serve as our investment adviser and to furnish us
with certain administrative services necessary to conduct our day-to-day
operations. This agreement is terminable by either party upon proper notice. We
pay Keating Investments a fee for its investment advisory services under the
Investment Advisory and Administrative Services Agreement consisting of two
components - a base management fee and an incentive fee. Keating Investments has
agreed to delay a portion of the base management fee payable equal to 0.5% of
our gross assets until we have completed at least one investment in a micro-cap
company consistent with our investment strategies. As a result, we will
accrue the delayed portion of our base management fee for accounting purposes,
but will not actually pay that amount to our investment adviser until we begin
making investments in micro-cap companies. We also reimburse Keating Investments
for the allocable portion of overhead and other expenses incurred by it in
performing its administrative obligations under the Investment Advisory and
Administrative Services Agreement, including the compensation of our Chief
Financial Officer and Chief Compliance Officer, and their respective
staff.
If our
Investment Advisory and Administrative Services Agreement is terminated, our
costs under a new agreement that we may enter into may increase. In addition, we
will likely incur significant time and expense in locating alternative parties
to provide the services we expect to receive under the Investment Advisory and
Administrative Services Agreement. Any new Investment Advisory and
Administrative Services Agreement would also be subject to approval by our
stockholders.
Off-Balance
Sheet Arrangements
As of
September 30, 2009, we have no off-balance sheet arrangements.
Related
Parties
We have a
number of business relationships with affiliated or related
parties. We have entered into the Investment Advisory and
Administrative Services Agreement with Keating Investments. Timothy
J. Keating, our President, Chief Executive Officer and Chairman of the Board of
Directors, is the managing member and majority owner of Keating
Investments. Ranjit P. Mankekar, our Chief Financial Officer,
Treasurer and a member of our Board of Directors, is also an executive officer
and member of Keating Investments. Kyle L. Rogers, our Chief
Operating Officer and Secretary, is also an executive officer and member of
Keating Investments. We have also entered into a license agreement
with Keating Investments, pursuant to which Keating Investments has granted us a
non-exclusive license to use the name “Keating.” In addition, pursuant to the
terms of the Investment Advisory and Administrative Services Agreement, Keating
Investments provides us with certain administrative services necessary to
conduct our day-to-day operations.
Currently,
our investment adviser’s senior investment professionals, Messrs. Keating,
Mankekar and Rogers, and the additional administrative personnel currently
retained by Keating Investments, do not serve as principals of other investment
funds affiliated with Keating Investments; however, they may do so in the
future. If they do, persons and entities may in the future manage
investment funds with investment objective similar to ours. In addition, our
current executive officers and directors, serve or may serve as officers,
directors or principals of entities that operate in the same or related line of
business as we do, including investment funds managed by our affiliates.
Accordingly, we may not be given the opportunity to participate in certain
investments made by investment funds managed by advisers affiliated with Keating
Investments. However, in the event such conflicts do arise in the
future, Keating Investments intends to allocate investment opportunities in a
fair and equitable manner consistent with our investment objective and
strategies so that we are not disadvantaged in relation to any other affiliate
or client of Keating Investments.
24
We rely on
Keating Investments to manage our day-to-day activities and to implement our
investment strategy. Keating Investments plans, in the future, to be involved
with activities which are unrelated to us. As a result of these activities,
Keating Investments, its employees and certain of its affiliates will have
conflicts of interest in allocating their time between us and other activities
in which it may become involved. Keating Investments and its employees will
devote only as much of its time to our business as Keating Investments and its
employees, in their judgment, determine is reasonably required, which may be
substantially less than their full time. Therefore, Keating Investments, its
personnel, and certain affiliates may experience conflicts of interest in
allocating management time, services, and functions among us and any other
business ventures in which they or any of their key personnel, as applicable,
may become involved. This could result in actions that are more favorable to
other affiliated entities than to us. However, Keating Investments believes that
it has sufficient personnel to discharge fully their responsibilities to all
activities in which they are involved.
As a
business development company, we may be limited in our ability to invest in any
portfolio company in which any fund or other client managed by Keating
Investments, or any of its affiliates has an investment. We may also be
limited in our ability to co-invest in a portfolio company with Keating
Investments or one or more of its affiliates. Subject to obtaining exemptive
relief from the SEC, we also intend to co-invest with any such investment entity
to the extent permitted by the 1940 Act, or the rules and regulations
thereunder.
In
addition, we have adopted a formal Code of Ethics that governs the conduct of
our officers and directors. Our officers and directors also remain subject to
the fiduciary obligations imposed by both the 1940 Act and applicable state
corporate law. Finally, we pay Keating Investments our allocable portion of
overhead and other expenses incurred by Keating Investments in performing its
administrative obligations under the Investment Advisory and Administrative
Services Agreement, which creates conflicts of interest that our Board of
Directors must monitor.
Information
concerning related party transactions is included in the financial statements
and related notes, appearing elsewhere in this quarterly report on Form
10-Q.
Critical
Accounting Policies
The
preparation of financial statements and related disclosures in conformity with
generally accepted accounting principles in the United States requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities, disclosure of contingent assets and liabilities at the
date of the financial statements, and revenues and expenses during the periods
reported. Actual results could materially differ from those estimates. We have
identified the following items as critical accounting policies.
Valuation of
Portfolio Investments. We will determine the
net asset value per share of our common stock quarterly, or more frequently to
the extent circumstances together with our obligations under the 1940 Act
require us to do so. The net asset value per share is equal to the value of our
total assets minus liabilities and any preferred stock outstanding divided by
the total number of shares of common stock outstanding. At present, we do not
have any preferred stock authorized or outstanding.
Value, as
defined in Section 2(a)(41) of the 1940 Act, is (i) the market price
for those securities for which a market quotation is readily available, and
(ii) for all other securities and assets, fair value is as determined in
good faith by our Board of Directors.
Determining
fair value requires that judgment be applied to the specific facts and
circumstances of each portfolio investment while employing a consistently
applied valuation process for the types of investments we make. We are required
to specifically value each individual investment on a quarterly
basis.
We will
determine the fair value of our debt investments by reference to the market in
which we source and execute these debt investments. Market participants
generally have a strategic premise for these investments, and anticipate the
sale of the company, recapitalization or initial public offering as the
realization/liquidity event. The fair value, or exit price, for a debt
instrument would be the hypothetical price that a market participant would pay
for the instrument, using a set of assumptions that are aligned with the
criteria that we would use in originating a debt investment in this market,
including credit quality, interest rate, maturity date, conversion ratio and
overall yield, and considering the prevailing returns available in this market.
In general, we consider enterprise value an important element in the
determination of fair value, because it represents a metric that may support the
recorded value, or which, conversely, would indicate if a credit-related
markdown is appropriate. We also consider the specific covenants and provisions
of each investment which may enable us to preserve or improve the value of the
investment. In addition, the trends of the portfolio company’s basic financial
metrics from the time of the original investment until the measurement date are
also analyzed; material deterioration of these metrics may indicate that a
discount should be applied to the debt investment, or a premium may be warranted
in the event that metrics improve substantially and the return is higher than
required for such a profile under current market conditions.
The fair
value of our equity investments for which market quotations are not readily
available will be determined based on various factors, including the enterprise
value remaining for equity holders after the repayment of the portfolio
company’s debt and other preference capital, and other pertinent factors such as
recent offers to purchase a portfolio company, recent transactions involving the
purchase or sale of the portfolio company’s equity securities, or other
liquidity events. The determined equity values will generally be discounted when
we have a minority position, restrictions on resale, specific concerns about the
receptivity of the capital markets to a specific company at a certain time, or
other factors. Equity investments for which market quotations are
readily available will generally be valued at the most recently available
closing market price.
25
Enterprise
value means the entire value of the company to a potential buyer, including the
sum of the values of debt and equity securities used to capitalize the
enterprise at a point in time. There is no one methodology to determine
enterprise value and, in fact, for any one portfolio company, enterprise value
is best expressed as a range of fair values, from which we derive a single
estimate of enterprise value. To determine the enterprise value of a portfolio
company, we will analyze its historical and projected financial results, as well
as the nature and value of collateral, if any. We will also use industry
valuation benchmarks and public market comparables. We will also
consider other events, including private mergers and acquisitions, a purchase
transaction, public offering or subsequent debt or equity sale or restructuring,
and include these events in the enterprise valuation process. We will generally
require portfolio companies to provide annual audited and quarterly unaudited
financial statements, as well as annual projections for the upcoming fiscal
year.
The
following is a description of the steps we will take each quarter to determine
the value of our portfolio investments. Investments for which market quotations
are readily available will be recorded in our financial statements at such
market quotations. With respect to investments for which market quotations are
not readily available, our Board of Directors will undertake a multi-step
valuation process each quarter, as described below:
•
|
Our
quarterly valuation process begins with each portfolio company or
investment being initially valued by Keating Investments’ senior
investment professionals responsible for the portfolio
investment;
|
|
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•
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A
nationally recognized third-party valuation firm engaged by our Board of
Directors will review these preliminary
valuations;
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•
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Our
Valuation Committee will review the preliminary valuations and our
investment adviser and nationally recognized third-party valuation firm
will respond and supplement the preliminary valuation to reflect any
comments provided by the Valuation
Committee; and
|
•
|
Our
Board of Directors will discuss valuations and will determine, in good
faith, the fair value of each investment in our portfolio for which market
quotations are not readily available based on the input of our investment
adviser, a nationally recognized third-party valuation firm, and our
Valuation Committee.
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Determination
of fair values involves subjective judgments and estimates. Accordingly, this
critical accounting policy expresses the uncertainty with respect to the
possible effect of such valuations, and any change in such valuations, on our
financial statements.
Revenue
Recognition. We calculate gains or
losses on the sale of investments by using the specific identification method.
We record interest income, adjusted for amortization of premium and accretion of
discount, on an accrual basis to the extent such amounts are expected to be
collected.
Origination,
closing and/or commitment fees associated with debt investments in portfolio
companies are accreted into interest income over the respective terms of the
applicable loans. Upon the prepayment of a loan or debt security, we
record any prepayment penalties and unamortized loan origination, closing and
commitment fees part of interest income.
We place
loans on non-accrual status when principal or interest payments are past due 60
days or more or when there is reasonable doubt that principal or interest will
be collected. Accrued interest is generally reversed when a loan is placed on
non-accrual status. We may recognize as income or apply to principal, interest
payments received on non-accrual loans, depending upon management’s judgment. We
restore non-accrual loans to accrual status when past due principal and interest
is paid and, in management’s judgment, are likely to remain
current.
Other
Income. Other income includes
closing fees, or origination fees, associated with equity investments in
portfolio companies. Such fees are normally paid at closing of our investments,
are fully earned and non-refundable, and are generally
non-recurring.
The 1940
Act requires that a business development company offer managerial assistance to
its portfolio companies. We offer and provide managerial assistance to our
portfolio companies in connection with our investments and may receive fees for
our services. These fees are typically included in other income.
Federal Income
Taxes. We are
currently taxable as a C Corporation. Beginning with our 2010
taxable year, we intend to elect to be treated, and intend to qualify annually
thereafter, as a RIC under Subchapter M of the Code. If we do not
meet the criteria to qualify as a RIC for our 2010 taxable year, we will
continue to be taxed as a regular corporation under Subchapter C of the Code. We
intend to operate so as to qualify to be taxed as a RIC under Subchapter M of
the Code and, as such, to not be subject to federal income tax on the portion of
our taxable income and gains distributed to stockholders. To qualify for RIC tax
treatment, we are required to annually distribute at least 90% of our investment
company taxable income, as defined by the Code.
26
Because
federal income tax regulations differ from accounting principles generally
accepted in the United States, distributions in accordance with tax regulations
may differ from net investment income and realized gains recognized for
financial reporting purposes. Differences may be permanent or temporary.
Permanent differences are reclassified among capital accounts in the financial
statements to reflect their tax character. Temporary differences arise when
certain items of income, expense, gain or loss are recognized at some time in
the future. Differences in classification may also result from the treatment of
short-term gains as ordinary income for tax purposes.
Quantitative
and Qualitative Disclosures about Market
Risk.
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To date,
our efforts have been limited primarily to organizational activities and
activities relating to our initial private placement, as well as our evaluation
of prospective portfolio investments. As a significant portion of the proceeds
from our initial private placement have been invested in short term investments,
pending subsequent investment in suitable micro-cap companies in accordance with
our investment objective, our only current market risk exposure relates to
fluctuations in interest rates.
As of
September 30, 2009, approximately $3,500,000 was invested in certificates of
deposit with original maturities of four weeks (maturing on October 15, 2009) at
an effective annualized interest rate of approximately 0.85%. Assuming no other
changes to our holdings as of September 30, 2009, a 1% change in the underlying
interest rate payable on our certificate of deposit investments as of September
30, 2009 would not have a material effect on the amount of interest income
earned from our certificate of deposit investments for the following 90-day
period.
We have
not engaged in any hedging activities since our inception on May 9, 2008. We do
not expect to engage in any hedging activities with respect to the market risk
to which we are exposed.
Controls
and Procedures.
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As of
September 30, 2009 (the end of the period covered by this report), we, including
our Chief Executive Officer and Chief Financial Officer, evaluated the
effectiveness of the design and operation of our disclosure controls and
procedures (as defined in Rule 13a-15(e) of the 1934 Act). Based on that
evaluation, our management, including our Chief Executive Officer and Chief
Financial Officer, concluded that our disclosure controls and procedures were
effective and provided reasonable assurance that information required to be
disclosed in our periodic SEC filings is recorded, processed, summarized and
reported within the time periods specified in the SEC’s
rules and forms, and that such information is accumulated and communicated to
our management, including our Chief Executive Officer and Chief Financial
Officer, as appropriate, to allow timely decisions regarding required
disclosure. However, in evaluating the disclosure controls and procedures,
management recognized that any controls and procedures, no matter how well
designed and operated can provide only reasonable assurance of achieving the
desired control objectives, and management necessarily was required to apply its
judgment in evaluating the cost-benefit relationship of possible controls and
procedures.
Management
has not identified any change in our internal control over financial reporting
that occurred during the third quarter of 2009 that has materially affected, or
is reasonably likely to materially affect, our internal control over financial
reporting.
27
Legal
Proceedings.
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We are not
currently subject to any material legal proceedings, nor, to our knowledge, is
any material legal proceeding threatened against us. From time to time, we may
be a party to certain legal proceedings in the ordinary course of business,
including proceedings relating to the enforcement of our rights under contracts
with our portfolio companies. While the outcome of these legal proceedings
cannot be predicted with certainty, we do not expect that these proceedings will
have a material effect upon our financial condition or results of
operations.
Risk
Factors.
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Except as
described below, there have been no material changes during the nine months
ended September 30, 2009 to the risk factors discussed in Item 1A. Risk Factors
in our Annual Report on Form 10-K for the year ended December 31,
2008.
Current
market conditions have adversely affected the capital markets and have reduced
the availability of debt and equity capital for the market as a whole and
financial firms in particular. These conditions make it more
difficult for us to achieve our investment objective, particularly as they
likely have an even greater impact on the micro-cap companies we intend to
target. This may adversely affect the financial condition and
operating results of certain micro-cap companies in which we may invest, as well
as reduce the availability of attractive micro-cap targets for potential
investment.
The U.S.
economy is currently in a recession. During the
nine months ended September 30, 2009, consumer confidence continued to
deteriorate and unemployment figures increased. However, in recent
months, certain economic indicators have shown modest
improvements. Banks and others in the financial services industry
previously reported significant write-downs in the fair value of their assets,
which led to the failure of a number of banks and investment companies, a number
of distressed mergers and acquisitions, the government take-over of the nation’s
two largest government-sponsored mortgage companies, and the passage of the $700
billion Emergency Economic Stabilization of 2008 in early October 2008. In
addition, the stock market declined significantly, with both the S&P 500 and
the Nasdaq Composite declining by over 38% during 2008. These events have
significantly constrained the availability of debt and equity capital for the
market as a whole. Further, these and other events have also led to rising
unemployment, deteriorating consumer confidence and a general reduction in
spending by both consumers and businesses.
The
generally distressed economic situation, together with the limited availability
of debt and equity capital, including through bank financing, will likely have a
disproportionate impact on the micro-cap companies we intend to target for
investment. As a result, we will likely experience a reduction in
attractive investment opportunities in prospective portfolio companies that fit
our investment criteria. In addition, our debt and equity investments
in portfolio companies could be impaired to the extent such portfolio companies
experience financial difficulties arising out of the current economic
environment. Our inability to locate attractive investment
opportunities, or the impairment of our portfolio investments as a result of
economic conditions, could have a material adverse effect on our financial
condition and results of operations.
We
are currently in a period of capital markets disruption and
recession. These conditions are likely to have a more severe impact
on micro-cap companies, which may adversely affect our portfolio companies and
reduce the number of potential micro-cap company investments that meet our
investment criteria.
The U.S.
capital markets have been experiencing extreme volatility and disruption for an
extended period of time and the U.S. economy is currently in a recession.
Disruptions in the capital markets have increased the spread between the yields
realized on risk-free and higher risk securities, resulting in illiquidity in
parts of the capital markets. We believe these conditions may continue for a
prolonged period of time or worsen in the future. A prolonged period of market
illiquidity may have an adverse effect on our business, financial condition and
results of operations. Unfavorable economic conditions could also increase our
portfolio companies’ funding costs, limit their access to the capital markets or
result in a decision by lenders not to extend credit to them. These events could
limit our investment originations, limit their ability to grow and negatively
impact our operating results.
Although
we do not currently intend to do so, if we borrow money, the potential for gain
or loss on amounts invested in us will be magnified and may increase the risk of
investing in us.
The use of
borrowings, also known as leverage, increases the volatility of investments by
magnifying the potential for gain or loss on invested equity capital. Although
we do not presently intend to do so, if we use leverage to partially finance our
investments, through borrowing from banks and other lenders, potential
investors and current shareholders will experience increased risks of
investing in our common stock. If the value of our assets increases, leveraging
would cause the net asset value attributable to our common stock to increase
more sharply than it would have had we not leveraged. Conversely, if the value
of our assets decreases, leveraging would cause net asset value to decline more
sharply than it otherwise would have had we not leveraged. Similarly, any
increase in our income in excess of interest payable on the borrowed funds would
cause our net income to increase more than it would without the leverage, while
any decrease in our income would cause net income to decline more sharply than
it would have had we not borrowed. Such a decline could negatively affect our
ability to make common stock distribution payments. Leverage is generally
considered a speculative investment technique.
28
We
will remain subject to corporate-level income tax if we are unable to qualify as
a regulated investment company under Subchapter M of the Code.
Although
we intend to elect to be treated as a RIC under Subchapter M of the Code
beginning with our 2010 taxable year and succeeding years thereafter, no
assurance can be given that we will be able to qualify for and maintain RIC
status. To obtain and maintain RIC tax treatment under the Code, we must meet
the following annual distribution, income source and asset diversification
requirements.
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·
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The annual distribution
requirement for a RIC will be satisfied if we distribute to our
stockholders on an annual basis at least 90% of our net ordinary income
and realized net short-term capital gains in excess of realized net
long-term capital losses, if any. In the event we use debt financing, we
will be subject to certain asset coverage ratio requirements under the
1940 Act and financial covenants under loan and credit agreements that
could, under certain circumstances, restrict us from making distributions
necessary to satisfy the distribution requirement. If we are unable to
obtain cash from other sources, we could fail to qualify for RIC tax
treatment and thus become subject to corporate-level income
tax.
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·
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The income source requirement will
be satisfied if we obtain at least 90% of our income for each year from
dividends, interest, gains from the sale of stock or securities or similar
sources.
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·
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The asset diversification
requirement will be satisfied if we meet certain asset diversification
requirements at the end of each quarter of our taxable year. Failure to
meet those requirements may result in our having to dispose of certain
investments quickly in order to prevent the loss of RIC status. Because
most of our investments will be in public companies whose securities may
not trade actively in the secondary markets, and therefore will be
relatively illiquid, any such dispositions could be made at
disadvantageous prices and could result in substantial
losses.
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If we fail
to qualify for RIC tax treatment for any reason and remain or become subject to
corporate income tax, the resulting corporate taxes could substantially reduce
our net assets, the amount of income available for distribution, and the amount
of our distributions.
We
have not identified any of the portfolio companies in which we will invest the
net proceeds of our continuous public offering and, as a result, we may be
deemed to be a "blind pool" investment company until such time as we begin
making investments in portfolio companies.
Our
investments will be selected by our investment adviser’s investment
professionals, subject to the approval of its Investment Committee, and our
stockholders will not have input into our investment decisions. Both of these
factors will increase the uncertainty, and thus risk, of investing in our
shares. In addition, until such time as we begin making investments in portfolio
companies, we may be deemed to be a "blind pool" investment
company.
Unregistered
Sales of Equity Securities and Use of
Proceeds.
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We did not
engage in any unregistered sales of equity securities during the three months
ended September 30, 2009.
Defaults
upon Senior Securities.
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Not
applicable.
Submission
of Matters to a Vote of Security
Holders.
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No matters
were submitted to a vote of stockholders during the three months ended September
30, 2009.
Other
Information.
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Not
applicable.
29
3.1
|
Amended
and Restated Articles of Incorporation (Incorporated by reference to
Amendment No. 2 to the Registrant’s Registration Statement on Form N-2
(File No. 333-157217), filed on June 5, 2009)
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3.2
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Amended
and Restated Bylaws (Incorporated by reference to the Registrant’s Current
Report on Form 8-K (File No. 0-53504), filed on April 23,
2009)
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3.3
|
Dividend
Reinvestment Plan (Incorporated by reference to Amendment No. 2 to the
Registrant’s Registration Statement on Form N-2 (File No. 333-157217),
filed on June 5, 2009)
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4.1
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Form
of Share Certificate (Incorporated by reference to the Registrant’s Annual
Report on Form 10-K (File No. 0-53504), filed on March 9,
2009)
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10.1
|
Form
of Amended and Restated Investment Advisory and Administrative Services
Agreement (Incorporated by reference to Amendment No. 1 to the
Registrant’s Registration Statement on Form N-2 (File No. 333-157217),
filed on May 1, 2009)
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10.2
|
License
Agreement between the Company and Keating Investments, LLC (Incorporated
by reference to the Registrant’s Registration Statement on Form 10 (File
No. 0-53504), filed on November 20, 2008)
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10.3
|
Form
of Indemnification Agreement for Directors (Incorporated by reference to
Amendment No. 2 to the Registrant’s Registration Statement on Form N-2
(File No. 333-157217), filed on June 5, 2009)
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10.4
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Custody
Agreement between the Company and Steele Street Bank & Trust
(Incorporated by reference to the Registrant’s Registration Statement on
Form 10 (File No. 0-53504), filed on November 20, 2008)
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11
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Computation
of Per Share Earnings (included in the notes to the unaudited financial
statements contained in this report)
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31.1*
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Certification
of Chief Executive Officer pursuant to Rule 13a-14 of the Securities
Exchange Act of 1934, as amended.
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31.2*
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Certification
of Chief Financial Officer pursuant to Rule 13a-14 of the Securities
Exchange Act of 1934, as amended.
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32.1*
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Certification
of Chief Executive Officer pursuant to Section 906 of The Sarbanes-Oxley
Act of 2002.
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32.2*
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Certification
of Chief Financial Officer pursuant to Section 906 of The Sarbanes-Oxley
Act of 2002.
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*
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Filed
herewith.
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30
Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act
of 1934, the Registrant has duly caused the report to be signed on its behalf by
the undersigned, thereunto duly authorized.
Date:
November 10, 2009
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KEATING
CAPITAL, INC.
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By:
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/s/
Timothy J. Keating
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President
and Chief Executive Officer
(Principal
Executive Officer)
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||||||
By:
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/s/
Ranjit P. Mankekar
|
|||||
Ranjit
P. Mankekar
Chief
Financial Officer and Treasurer
(Principal
Accounting and Financial Officer)
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31