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| 8-K - 180 DEGREE CAPITAL CORP. /NY/ | v202019_8-k.htm |
| EX-99.2 - 180 DEGREE CAPITAL CORP. /NY/ | v202019_ex99-2.htm |
Venture
Capital for Nanotechnology and Microsystems
THIRD
QUARTER REPORT 2010
FELLOW
SHAREHOLDERS:
Please read this letter in conjunction
with our September 30, 2010, Quarterly Report on Form 10-Q and our third quarter
call on November 12, 2010, at 10:00 a.m. (EST). Details for the
quarterly call can be found on our website at www.hhvc.com.
On
September 30, 2010, Charles E. Harris, the founder of Harris & Harris Group,
passed away. We believe one of the overarching goals that Charlie had
was to make sure his life had meaning, that it made a difference. On
November 3, 2010, Charlie’s wife, Susan, hosted a celebration of Charlie’s
life. Speaking with many of the entrepreneurs, researchers, business
colleagues, shareholders and friends of Charlie that gathered that afternoon, it
was evident that Charlie’s life had meaning. Charlie did not just
touch lives, he impacted them deeply. He was a teacher, a mentor and
an example of what many of us aspire to become. There was no doubt
that his life had meaning. Thank you, Charlie.
Over the
past two years, we have taken to passing forward some of the lessons Charlie
compiled and taught us over his 42 years in business. We would like
to take this opportunity to quote one more that helps guide us as a
firm. “‘Pessimists are usually right. But optimists change the
world.’ The art of venture capital is to help the optimists while
being aware of the worries of the pessimists.”
Currently,
there is much to be excited about at Harris & Harris Group. The
optimists in which we have invested are beginning to change their industries by
bringing nanotechnology-enabled products to the market
successfully.
First,
our most mature companies, as defined on page 52 of our September 30, 2010,
Quarterly Report on Form 10-Q, continue to grow and execute on their respective
businesses. For example:
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As
of the end of the third quarter, Solazyme, Xradia, NeoPhotonics, Bridgelux
and Metabolon each expect revenues for 2010 to exceed record revenues
achieved in 2009. BioVex is on schedule to complete its Phase
III trial in malignant melanoma during the second half of
2011.
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On
November 8, 2010, Solazyme announced a joint venture agreement with
Roquette Frères, a global starch and starch-derivatives company
headquartered in France. The joint venture will be operational
by the beginning of 2011 and will launch an entirely new category of
natural, healthy and functional ingredients based on
microalgae. In addition to this financially significant deal
with Roquette, during the third quarter, Solazyme announced deals with
Bunge, Unilever, Ecopetrol and an order for 150,000 gallons of oil from
the Navy.
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NeoPhotonics
reported record third quarter revenue after previously announcing record
second quarter revenue. Additionally, NeoPhotonics continued to
generate positive net income.
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During
the third quarter, Nanosys and Samsung Electronics announced a strategic
alliance and licensing agreement to co-develop products. With
this agreement came a $15 million equity investment from Samsung and an
additional $16 million in fresh capital from existing
investors. This deal follows another commercial agreement
signed with LG Innotek earlier in the year. Both agreements
should result in rapidly increasing commercial revenue for Nanosys in
2011.
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Second,
the companies we classify as mid-stage and early-stage companies on page 52 of
our September 30, 2010, Quarterly Report on Form 10-Q and that have a material
value to our portfolio also continue to execute on their
businesses. For example:
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On
October 20, 2010, SiOnyx announced it had completed a $12.5 million Series
B financing that was oversubscribed with interest from new
investors. Strategic partner, Coherent Inc., joined new
financial investors, Crosslink Capital and Vulcan Capital, and existing
investors in this financing.
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Innovalight
consummated commercial agreements with three Chinese solar
manufacturers: JA Solar, Yingli Green Energy and
Solarfun. These agreements should drive commercial revenue into
2011. Innovalight also opened its offices in
China.
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Laser
Light Engines closed a $13 million Series B financing, including
participation by IMAX Corporation. The two companies also
signed a strategic partnership in conjunction with this
financing.
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Contour
Energy Systems announced the availability of its first product in the
fourth quarter of 2010, a next-generation lithium coin cell battery based
on its patented Fluorinetic™ battery
technology.
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On page
53 of our September 30, 2010, Quarterly Report on Form 10-Q, we include a new
slide with a matrix titled, “Pipeline of Investment Maturities.” The
purpose of this matrix is to demonstrate that our portfolio is comprised of a
pipeline of investments that includes companies at various stages of maturity
and that are impacting a variety of different industries. We believe
the distribution of companies across this pipeline provides us with
opportunities for exits in both the near term and in the longer term in multiple
industries.
The
second reason to be optimistic is that, currently, we continue to have enough
capital to execute on our business without the need to raise additional capital
through the sale of our shares. We ended the third quarter with
approximately $44 million in cash and U.S. Treasuries. In our first
quarter letter to shareholders, we said, “We believe we have adequate capital to
get our portfolio companies to cash flow breakeven or to exit without raising
additional capital.” We believe this assessment remains
true.
2
We
believe many of our companies are well financed for the near
future. Fewer rounds of additional financing translate to a reduced
risk of significant dilution of our ownership in these companies and a reduced
risk of non-performance related to raising additional capital. In our
top 10 investments by value, there are three companies that we believe may need
to raise capital over the next year. Our values of these companies
include a significant discount for non-performance risk applied to the price
paid for shares of those companies in the most recent round of
financing. At the current time it is difficult to know if these three
companies will be able to raise capital at the price per share paid by investors
in the previous round of financing, above the price per share paid by investors
in the previous round of financing or below the price per share paid by
investors in the previous round of financing.
The third
reason to be optimistic is that we have developed and have begun executing on a
business plan that we believe is critical for our success in the venture capital
business and the public market environment we will face over the coming
years. Over the past two years we have discussed the structural
issues facing micro-capitalization and nano-capitalization public
companies. We have also discussed the structural issues facing the
venture capital industry. We detailed a plan that we believe provides
us the best opportunity to take advantage of these structural
problems.
As the
image above demonstrates, since we focused the company on investing in companies
enabled by nanotechnology and microsystems, we have focused our efforts
primarily on making equity or convertible debt investments in privately held
companies. Looking forward, we will continue to focus most of our
efforts in this quadrant, as we believe our team is well qualified to identify
and invest in these opportunities. These opportunities have
tremendous return potential when they are successful.
However,
the holding periods for these types of investments have been lengthening, while
the holding period of both institutional and retail investors in Harris &
Harris Group has been decreasing dramatically. Currently, at the
other end of the spectrum, holding cash in treasuries is yielding practically no
return. Thus, we believe it is important to generate some portion of
our returns more frequently and with greater predictability than our historic
strategy affords. These more frequent and predictable returns can be
used to begin offsetting our annual expenses. This strategy permits
us to reduce our annual cash burn thus providing us with the necessary time to
realize the option value on the high-risk, high-return nature of early-stage
technology investments in nanotechnology and microsystems. This
option value remains our primary expected source of growth. This
strategy should also increase the after-expenses net return to our investors if
we are successful.
Towards
this goal, as the slide below depicts and as we have discussed previously, we
have begun to identify investment opportunities in nano-capitalization public
companies where we believe there is an opportunity for more frequent
exits. We also have identified and have begun investing in venture
debt opportunities where the returns are both more frequent and more
predictable. The deal sourcing, the diligence and the expertise for
both these additional investment opportunities are substantially similar to
privately held equity investments. All of these investment
opportunities will be focused on companies enabled by nanotechnology and
microsystems. Other than the structure of the investment, one key
difference is that these investments tend to be a bit later stage than our
initial privately held equity investments. We are typically looking
for mid- and late-stage companies that are beginning to generate revenue for our
risk profile in these types of investments.
3
We made
our first investment in venture debt in the third quarter of 2010 in GEO
Semiconductor (GeoSemi). The company purchased two assets from a
failed venture capital-backed company. These assets enable the
correction of distortions and non-uniformities in displays and smartphone
cameras and enable the use of nanotechnology-enabled products such as
light-emitting diodes and high-resolution image sensors,
respectively. GeoSemi’s chips can resolve issues that plague both
technologies using geometry processing. The chips negate the need for
expensive, complex optics or correction circuitry. GeoSemi is
shipping chips to customers and has secured design wins that incorporate its
chips into products that are expected to hit the commercial market in
2011.
We
invested through a participation agreement with Montage Capital, a venture debt
provider whose principals have over 15 years of experience providing debt
capital to high-growth companies. In addition to an interest rate of
13.75 percent, we received an up-front fee, warrants to purchase shares of the
company at a set price in the future and pre-emptive rights to invest in a
future round of financing. The term of this debt is 21
months. We were able to secure favorable terms as a result of the
limited availability of capital to small businesses and the high cost of equity
investments from venture capital firms in semiconductor-related
companies.
Even as
we are optimistic about the prospects of business success for our portfolio
companies, we are fully aware of our existing circumstances: The
current economic environment remains uncertain; the capital markets remain
volatile and uncertain; and, we must begin to realize exit events within our
portfolio to provide us with access to future liquidity. These are
the challenges in which we remain focused.
In order
to extend our cash runway and in order to have more capital available for new
investments, our 2011 cash budget is currently 8 percent, or $500,000, less than
the cash budget proposed in 2010. This decrease reflects the steps
taken to reduce future expenses discussed in prior letters to shareholders,
primarily the consolidation of the majority of our operations in our offices in
New York City, a reduction in headcount, reductions in professional fees, and
reductions in office-related fees. Additionally, non-cash
compensation expenses have decreased in 2010 and are likely to continue to
decrease in 2011. As we announced previously, we will not issue
options to employees until after June of 2011 at the earliest.
This
proposed budget equates to a level of annual expenses of 4.1 percent based on
our net assets as of September 30, 2010. Based on our calculation from financial
statements filed with the Securities and Exchange Commission, this percentage of
net assets is less than the average and median ratio of annual expenses to net
assets of nine business development companies (BDCs) with less than $1 billion
in net assets of approximately 4.3 percent and 4.4 percent,
respectively. Additionally, management fees paid by investors in a
private fund to the general partners or by an externally managed BDC to its
investment manager commonly range from 2 to 2.5 percent of the total committed
capital in a private fund and 1.5 to 2 percent of net assets for an externally
managed BDC. We estimate expenses in our budget for 2011 that would
be covered by these management fees if we were a private fund or an externally
managed BDC to be approximately 2 percent of our net assets as of September 30,
2010.
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As we
look forward, we will continue to focus our companies on successful exit
opportunities. As we detailed on page 54 of our September 30, 2010,
Quarterly Report on Form 10-Q:
On April
15, 2010, NeoPhotonics Corporation filed a registration statement on Form S-1 to
register its shares of common stock for an initial public offering
(IPO). We believe that in the next 6 to 12 months one or more of our
other late-stage portfolio companies could take steps toward the filing of a
registration statement on Form S-1 for an IPO. There can be no
assurance that these companies will successfully complete IPOs, and a variety of
factors, including stock market and general business conditions, could lead them
to terminate such IPOs.
During
the third quarter of 2010, two of our privately held companies retained bankers
to explore opportunities to sell those companies. There can be no
assurance that these companies will successfully complete a sale. A
variety of factors, including general business conditions, could lead them to
terminate such efforts.
In
addition to focusing on opportunities to generate returns from our existing
portfolio, currently we are focused on finding and researching new opportunities
for investments across the spectrum of structures we described
above. There remains a tremendous vibrancy from entrepreneurs to
bring exciting new nanotechnology-enabled breakthroughs to the market, and there
remains a tremendous disconnect between the financing community and these
opportunities. We enjoy operating in this
environment. Additionally, as our visibility to liquidity continues
to increase, we will reach out and tell our story to a wider audience of
institutional and retail investors. Our credibility is
important. We want to be certain that the story we tell begins to
unfold as we describe it and within the timeframe we describe. Thank
you.
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/s/
Douglas W. Jamison
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/s/
Daniel B. Wolfe
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Douglas
W. Jamison
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Daniel
B. Wolfe
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Chairman,
Chief Executive Officer
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President,
Chief Operating Officer,
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and
Managing Director
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Chief
Financial Officer and Managing
Director
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/s/
Alexei A. Andreev
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/s/
Misti Ushio
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Alexei
A. Andreev
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Misti
Ushio
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Executive
Vice President and
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Vice
President and Principal
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Managing
Director
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November
12, 2010
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This
letter may contain statements of a forward-looking nature relating to
future events. These forward-looking statements are subject to
the inherent uncertainties in predicting future results and
conditions. These statements reflect the Company's current
beliefs, and a number of important factors could cause actual results to
differ materially from those expressed in this letter. Please
see the Company's Annual Report on Form 10-K for the fiscal year ended
December 31, 2009, as well as subsequent filings, filed with the
Securities and Exchange Commission for a more detailed discussion of the
risks and uncertainties associated with the Company's business, including
but not limited to the risks and uncertainties associated with venture
capital investing and other significant factors that could affect the
Company's actual results. Except as otherwise required by
Federal securities laws, the Company undertakes no obligation to update or
revise these forward-looking statements to reflect new events or
uncertainties. The reference to the website www.HHVC.com has
been provided as a convenience, and the information contained on such
website is not incorporated by reference into this
letter.
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