Attached files

file filename
EX-32.2 - EXHIBIT 32.2 - BDCA VENTURE, INC.a50805710ex32_2.htm
EX-32.1 - EXHIBIT 32.1 - BDCA VENTURE, INC.a50805710ex32_1.htm
EX-31.2 - EXHIBIT 31.2 - BDCA VENTURE, INC.a50805710ex31_2.htm
EX-31.1 - EXHIBIT 31.1 - BDCA VENTURE, INC.a50805710ex31_1.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-K

 
x
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2013
 
OR
 
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM                     TO                    
COMMISSION FILE NUMBER:  0-53504

KEATING CAPITAL, INC.
(Exact name of registrant as specified in its charter)

Maryland
26-2582882
(State of Incorporation)
(I.R.S. Employer Identification Number)
   
5251 DTC Parkway, Suite 1100
Greenwood Village, CO 80111
(Address of principal executive offices)
(720) 889-0139
(Registrant’s telephone number, including area code)
 

 
Securities registered pursuant to Section 12(b) of the Act:

Title of Each Class Registered
 
Name of Each Exchange on Which Registered
Common stock, par value $0.001 per share
 
Nasdaq Capital Market
 
Securities registered pursuant to Section 12(g) of the Act:  None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes ¨  No x.
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ¨ No x.

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (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 if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  x

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    ¨
 
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).  Yes ¨ No x.
 
The aggregate market value of the voting and non-voting common stock held by non-affiliates of the registrant as of the last business day of the registrant’s most recently completed second fiscal quarter was approximately $59.7 million based upon a closing price of $6.78 reported for such date on the Nasdaq Capital Market.  Common shares held by each executive officer and director and by each person who owns 5% or more of the outstanding common shares have been excluded in that such persons may be deemed to be affiliates.
 
As of February 24, 2014, the number of outstanding shares of common stock of the registrant was 9,548,902.
 
DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrant’s definitive Proxy Statement relating to the 2014 Annual Meeting of Stockholders, to be filed within 120 days after the close of the registrant’s year end, are incorporated by reference into Part III of this Annual Report on Form 10-K.
 
 
 

 

Keating Capital, Inc.
Annual Report on Form 10-K
For Fiscal Year Ended December 31, 2013

Table of Contents
 
       
     
Page
Part I
   
 
1
    23
    42
    42
    42
  42
       
Part II
   
    43
    47
    49
  81
  82
  113
  113
  113
       
Part III
   
  114
  114
  114
  114
  114
       
Part IV
   
  115
     
  118
 
 
 

 

PART I

In this annual report on Form 10-K, unless otherwise indicated, the “Company”, “we”, “us” or “our” refer to Keating Capital, Inc., and “Keating Investments” or “our investment adviser” refer to Keating Investments, LLC.
 
Item 1.  Business

Overview

We are a closed-end, non-diversified investment company that has elected to be regulated as a business development company under the Investment Company Act of 1940, as amended (the “1940 Act”).  As a business development company, we are required to comply with certain regulatory requirements.  For instance, we generally have to invest at least 70% of our total assets in “qualifying assets,” including securities of private U.S. companies, cash, cash equivalents, U.S. government securities and high-quality debt investments that mature in one year or less.  See “Regulation as a Business Development Company” below.  Effective January 1, 2010, we elected to be treated for tax purposes as a regulated investment company, or a RIC, under Subchapter M of the Internal Revenue Code of 1986, as amended (the “Code”).  We satisfied the RIC requirements for our 2013 taxable year, and we intend to operate so as to qualify as a RIC in 2014.  See “— Material U.S. Federal Income Tax Considerations” below.

Our investment objective is to maximize capital appreciation.  We seek to accomplish our capital appreciation objective by making investments in the equity and equity-linked securities of later stage, typically venture capital-backed, pre-IPO companies.  Since our initial investment in January 2010, we have historically focused on venture capital-backed technology companies.

Our strategy is to evaluate and invest in companies prior to the valuation accretion that we believe occurs once private companies complete an initial public offering.  We seek to capture this value accretion, or what we refer to as a private-public valuation arbitrage, by investing primarily in private, micro-cap and small-cap companies that meet our core investment criteria.  Our investment strategy can be summarized as buy privately, sell publicly, capture the difference.

Based on our past experience–and representations made to us by our portfolio companies prior to our investments–we anticipate that, on average, it will take about two years after our initial investment for a portfolio company to complete its initial public offering, or IPO.  Following a typical lockup restriction which prohibits us from selling our investment during a customary 180-day period following the IPO and an expected additional one-year period to sell our shares in the portfolio company in the public markets, we anticipate that, on average, the holding period for our portfolio company investments will be about four years.  However, we may be able to sell our portfolio company positions prior to our targeted four-year holding period in cases where a portfolio company either completes an IPO sooner than we expected or, in lieu of an IPO, completes a strategic merger or sale prior to our targeted holding period.

Our Investment Adviser

We are externally managed by Keating Investments, an investment adviser that was founded in 1997 and is 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 also provides us with the administrative services necessary for us to operate.  Our investment activities are managed by Keating Investments pursuant to an investment advisory and administrative services agreement (the “Investment Advisory and Administrative Services Agreement”). Our investment adviser sources our investments through its principal office located in Greenwood Village, Colorado as well as through an additional office in Palo Alto, California.

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.  See “— Investment Advisory and Administrative Services Agreement” below.

The managing member and principal owner of Keating Investments is Timothy J. Keating.  Our investment adviser’s principals are Timothy J. Keating, our President, Chief Executive Officer and Chairman of our Board of Directors, Kyle L. Rogers, our Chief Investment Officer, and Frederic M. Schweiger, our Chief Financial Officer, Chief Operating Officer, Chief Compliance Officer, Treasurer, Secretary and a member of our Board of Directors.  In addition, Keating Investments employs one other investment professional dedicated to portfolio company origination, due diligence and financial analysis.

Keating Investments has established an investment committee (“Investment Committee”) that must unanimously approve each new portfolio company investment that we make.  Messrs. Keating, Rogers and Schweiger are the current members of the Investment Committee.  However, as the managing member of Keating Investments, Mr. Keating has sole control over the appointment and removal of the members of the Investment Committee.
 
 
1

 
 
Our investment adviser’s principals have extensive experience in taking companies public, advising micro- and small-cap companies on capital markets strategies, and developing investor relations programs.  Our investment adviser has managed our portfolio company investment activity since we made our first investment in January 2010.  Through our investment adviser’s experience in taking companies public, we believe the principals of our investment adviser possess valuable insights on the trends affecting the IPO market, the factors that contribute to the completion of a successful IPO in the current market, key IPO pricing drivers, investor sentiment, and industries or sectors in and out of favor.  Our investment adviser is able to use this experience and insight as part of its disciplined approach to investment assessment and adjust valuation expectations and portfolio composition as IPO market trends are identified.

Governance

Our Board of Directors monitors and performs an oversight role with respect to our business and affairs, including with respect to investment practices and performance, compliance with regulatory requirements and the services, expenses and performance of our service providers.  Among other things, our Board of Directors approves the appointment of our investment adviser and officers, reviews and monitors the services and activities performed by our investment adviser and officers, approves the engagement, and reviews the performance of, our independent registered public accounting firm, and provides overall risk management oversight.  Pursuant to the requirements under the 1940 Act and to satisfy the Nasdaq listing standards, our Board of Directors is composed of a majority of non-interested, independent, directors.

Our Board of Directors has established the Audit Committee, the Valuation Committee and the Nominating Committee to assist the Board of Directors in fulfilling its oversight responsibilities.  Each of these committees is composed solely of non-interested, or independent, directors.  The Audit Committee’s responsibilities include overseeing our accounting and financial reporting processes, our systems of internal controls over financial reporting, and audits of our financial statements.  The Valuation Committee’s responsibilities include reviewing preliminary portfolio company investment valuations from our investment adviser and making recommendations to our Board of Directors regarding the valuation of each investment in our portfolio.  The Nominating Committee’s responsibilities include identifying qualified individuals to serve on our Board of Directors, and to select, or recommend that the Board of Directors select, the Board nominees.

Our Investment Objective and Strategy

Our investment objective is to maximize capital appreciation.  We seek to accomplish our capital appreciation objective by making investments in the equity and equity-linked securities of later stage, typically venture capital-backed, pre-IPO companies.  We focus on acquiring equity securities that are typically a portfolio company’s most senior preferred stock at the time of our investment or, in cases where we acquire shares of common stock, the portfolio company typically has only common stock outstanding.  However, to a lesser extent, we may also invest in convertible debt securities, such as convertible bridge notes, issued by a portfolio company typically seeking to raise capital to fund their operations until an IPO, sale/merger or next equity financing event.  These bridge notes are typically subordinated to the portfolio company’s senior debt.  We generally intend to hold our convertible debt securities, which we refer to as equity-linked securities, for the purpose of conversion into equity at a future date.  In accordance with our investment objective, we seek to invest in equity and equity-linked securities of principally U.S.-based, private companies with an equity value typically between $100 million and $1 billion.  We refer to companies with an equity value of between $100 million and less than $250 million as “micro-cap companies” and companies with an equity value of between $250 million and $1 billion as “small-cap companies.”  Since our initial investment in January 2010, we have historically focused on venture capital-backed technology companies.

We specialize in making pre-IPO investments in emerging growth companies that are committed to and capable of becoming public, which we refer to as “pre-IPO” companies.  We provide investors with the ability to participate in a publicly traded, closed-end fund that allows our stockholders to share in the potential value accretion that we believe typically occurs once a company transforms from private to public status, or what we refer to as the private-to-public valuation arbitrage.  Our shares are listed on Nasdaq under the ticker symbol “KIPO.” Our strategy is to evaluate and invest in companies prior to the valuation accretion that we believe occurs once private companies complete an initial public offering.  We seek to capture this value accretion by investing primarily in private, micro-cap and small-cap companies that meet our core investment criteria:  they (i) generate annual revenue in excess of $20 million on a trailing 12-month basis and have growth potential; (ii) are committed to, capable of, and will benefit from becoming public companies; and (iii) create the potential to achieve a targeted 2x return on our investment within our expected investment horizon of four years. We may also pursue investments with a shorter expected investment horizon, where we believe the portfolio company may complete an IPO sooner than our targeted two-year period from our initial investment, in which case our targeted return may be correspondingly reduced.  Our investment strategy can be summarized as buy privately, sell publicly, capture the difference.
 
 
2

 
 
By design, our fund has been structured as a high risk/high return investment vehicle.  While we have discretion in the investment of our capital, we seek long-term capital appreciation through investments principally in equity or equity-linked securities that we believe will maximize our total return.  Although our preferred stock investments typically carry a dividend rate, in some cases with a payment preference over other classes of equity, we do not expect dividends (whether cumulative or non-cumulative) to be declared and paid on our preferred stock investments, or on our common stock investments, since our portfolio companies typically prefer to retain profits, if any, in their businesses.  Interest accrued under our equity-linked securities, such as convertible bridge notes, is generally not payable until maturity and, accordingly, does not generate current cash payments to us, nor are they held for that purpose.  Accordingly, our equity and equity-linked investments are not expected to generate current income (i.e., dividends or interest income), which makes us different from other business development companies that primarily make debt investments from which they receive current yield in the form of interest income.

Our primary source of investment return will be generated from net capital gains, if any, realized on the sale of our portfolio company investments, which typically will occur after a portfolio company completes an IPO and after expiration of a customary 180-day post-IPO lockup restriction or, to a lesser extent, is acquired.  We intend to maximize our potential for capital appreciation by taking advantage of the private-to-public valuation arbitrage, or the premium, that we believe is generally associated with having a more liquid asset, such as a publicly traded security.  Typically, we believe investors place a premium on liquidity, or having the ability to sell stock more quickly and efficiently through an established stock exchange than through private transactions.  Specifically, we believe that an exchange listing, if obtained, should generally provide our portfolio companies with greater visibility, marketability and liquidity than they would otherwise be able to achieve without such a listing.  As a result, we believe that public companies typically trade at higher valuations than private companies with similar financial attributes.  By going public and listing on an exchange, we believe that our portfolio companies have the potential to receive the benefit of this liquidity premium.  There can be no assurance that our portfolio companies will trade at these higher valuations once they are public and listed on an exchange.

We target our investments in portfolio companies that we believe can complete this value transformation within our targeted four-year holding period, compared to private equity and venture capital funds which we believe typically take seven to 10 years.  As a result, we may have low or negative returns in our initial years with any potential valuation accretion typically occurring in later years as our portfolio companies potentially are able to complete their IPOs and become publicly traded.  However, there can be no assurance that we will be able to achieve our targeted return on any individual portfolio company investment if and when it goes public, or on the portfolio as a whole.

We continue to believe that public companies typically trade at higher valuations than private companies with similar financial attributes.  The four portfolio companies that have completed IPOs (NeoPhotonics, Solazyme, LifeLock and Tremor Video) had unrealized returns at the time of their IPOs, based on their IPO price, of 1.8x, 2.0x, 1.7x and 1.5x our investment cost, respectively.  However, the stock prices of each of these companies have changed since the IPO, and there is no assurance that we will be able to sell any of our portfolio company investments, following our lockup restrictions, at prices that will allow us to achieve our targeted 2x return on investment once the companies are publicly traded and assuming our targeted four-year investment horizon.

We have an IPO, event-driven strategy, and we attempt to generate returns by accepting the risks of owning illiquid securities of later stage private companies.  We believe that investing in an issuer’s most senior equity securities and/or negotiating certain structural protections are ways to potentially mitigate the otherwise high risks associated with pre-IPO investing.  However, the process of transforming from private to public ownership is subject to the uncertainties of the IPO process.  If this process happened quickly and with certainty, we believe there would be less of an illiquidity discount available (and hence, less potential return) to us when we make our investments.  Instead, the private-to-public transformation process takes time and is subject to market conditions, and we therefore incorporate a targeted four-year average holding period for each portfolio company into our strategy.

Because the equity and equity-linked securities of pre-IPO companies typically do not pay any current income, we may consider investments in qualified private and public companies that generate current yield in the form of interest income which can be used to offset some of our operating expenses.  These investments typically will be in the form of debt instruments providing for the current payment of interest, which may be convertible into equity securities or have separate warrants exercisable for equity securities so that we have an opportunity to achieve long-term capital appreciation.  To the extent that we make investments in public companies, we anticipate that the market capitalizations of these companies would typically be below $250 million and that we would be willing to generally accept a reduced level of potential capital appreciation in exchange for the payment of a current yield on our investments to offset some of our operating expenses.  In addition to broadening our potential sources of return, we believe that the ability to generate current yield in the form of interest income on some of our investments may be attractive to our investors.
 
 
3

 
 
We believe that there are four critical factors that will drive the success of our pre-IPO investing strategy, differentiate us from other potential investors in later stage, venture-backed private companies, and potentially enable us to complete equity transactions in pre-IPO companies that we believe will meet our expected targeted return.  First, we generally focus on companies with an equity value of typically between $100 million and $1 billion—companies we believe are better positioned to achieve our targeted return on our investment once the company is publicly traded.  Second, we focus on prospective portfolio companies where we can purchase securities directly from an issuer or from a selling stockholder in a negotiated transaction and can obtain business and financial information on the portfolio company.  Third, we focus on acquiring equity securities that are typically the issuer’s most senior preferred stock at the time of our investment or, in cases where we acquire shares of common stock, the issuer typically has only common stock outstanding.  And lastly, we are focused on the acquisition of private securities at a valuation that creates the potential for our targeted return on our investment once the company is publicly traded.  We believe that larger, highly-publicized, private companies may create the risk to a prospective investor of being either fully or, in certain cases, over-valued relative to publicly traded peers, which diminishes the opportunity for us to realize the potential value accretion that we believe exists when a private company completes an IPO.
 
Our portfolio companies are generally permitted to undertake subsequent financings in which they may issue equity securities or incur debt that ranks equally with, or senior to, the equity securities in which we invest.  In such cases, debt securities may provide that the holders are entitled to receive payment of interest or principal before we are entitled to receive any distribution from the portfolio companies, and the holders of more senior classes of preferred stock would typically be entitled to receive full or partial payment in preference to any distribution to us.

We believe that investing in an issuer’s most senior equity securities and/or negotiating certain structural protections are ways to potentially mitigate the otherwise high risks associated with pre-IPO investing.  We may seek to negotiate structural protections such as conversion rights which would result in our receiving shares of common stock at a discount to the IPO price upon conversion at the time of the IPO, or warrants that would result in our receiving additional shares for a nominal exercise price at the time of an IPO.  In some circumstances, these structural protections will apply only if the IPO price is below stated levels.  In some cases, our decision to pursue an investment opportunity will be dependent on obtaining some structural protections that are expected to enhance our ability to meet our targeted return on the investment.  These structural protections are intended to provide some additional value protection in the event of an IPO.  We view the potential value associated with these structural protections as an important component of our investment strategy.  However, there can be no assurance that our investment adviser will succeed in negotiating structural protections for our future investments.  Even if it succeeds in obtaining such protections, our ability to realize the potential value associated with these structural protections at the time of the IPO will depend on a number of factors including each portfolio company’s completion of an IPO, any adjustment to the special IPO conversion price that may be negotiated prior to or during the IPO process, the possible subsequent issuance of more senior securities that may impact the relative value of the structural  protection, and fluctuations in the market price of each portfolio company’s common shares until such time as the common shares received upon conversion can be disposed of following the expiration of a customary 180-day post-IPO lockup period.  Accordingly, the potential value associated with these structural protections would typically not be available unless each portfolio company completes an IPO.  Further, even if an IPO is completed, the potential value associated with these structural protections would not be realized unless the market price of each portfolio company’s common shares equals or exceeds the IPO price at the time such shares are sold by us following the post-IPO lockup period.

See “Management’s Discussion and Analysis of Financial Condition and Results of Operations” for additional information regarding the rights, preferences and limitations of the equity securities we hold in our private portfolio companies.

Investment Criteria

We have identified three core investment criteria that we believe are important in meeting our investment objective for pre-IPO companies.  These core criteria provide the primary basis for making our investment decisions; however, we may not require each prospective portfolio company in which we choose to invest to meet all of these core criteria.
 
 
High quality growth companies.  We seek to invest primarily in micro-cap and small-cap companies that are already generating annual revenue in excess of $20 million on a trailing 12-month basis and which we believe have growth potential.
     
 
Commitment to complete IPO.  We seek to invest in public ready micro-cap and small-cap companies whose management teams are committed to, and capable of, becoming public companies, whose businesses we believe will benefit from status as public companies, and that we believe are capable of completing IPOs and obtaining exchange listings typically within two years after we complete our investments.
     
 
Potential for return on investment.  Because of the value differential which we believe exists between public and private companies as a result of the liquidity premium, or what we refer to as the private-to-public valuation arbitrage, as discussed above, we seek to make investments that create the potential to achieve a targeted 2x return on our investment once the company is publicly traded and within our expected investment horizon of four years. We may also pursue investments with a shorter expected investment horizon, where we believe the portfolio company may complete an IPO sooner than our targeted two-year period from our initial investment, in which case our targeted return may be correspondingly reduced.
 
 
4

 
 
We expect that the primary sources of our investment opportunities will be from our relationships with venture capital firms and investment banks.
 
Market Opportunity

We seek to invest in micro-cap and small-cap companies across a broad range of growth industries that we believe are being transformed by technological, economic and social forces.  Since our initial investment in January 2010, we have historically focused on venture capital-backed technology companies.

We believe that an attractive market opportunity exists for us as a provider of pre-IPO financing to emerging growth companies that meet our investment criteria for the following reasons:
 
  Companies staying private longer.  The venture capital-backed companies that we typically target are staying private significantly longer than in the past.  As a result, we believe there is a growing pipeline of more mature private companies that are currently able to satisfy investor demands for growth and prospects for near-term profitability.
     
  Need for pre-IPO financing.  As a result of the changing IPO market conditions over the last several years, we believe micro- and small-cap companies generally must demonstrate an ability to raise private capital prior to an IPO to be successful in the IPO process.  We believe such pre-IPO financing evidences existing investors’ continuing commitment to the company, validates increased valuations to the extent new investors price the pre-IPO financing, and strengthens the company’s balance sheet as it prepares for the IPO process.
     
  Favorable IPO market conditions.  While capital markets volatility and the overall market environment may preclude our portfolio companies from completing an IPO and impede our exit from these investments, the U.S. IPO market in 2013 was the best year since 2000, when 406 IPOs were completed.  In 2013, a total of 222 companies completed IPOs in U.S., compared to a total of 128 IPOs completed in 2012.  The 222 IPOs completed in 2013 exceeded the 216 IPOs completed in 2004, the highest level of completed IPOs in the last 10 years.  We believe there are three primary technical drivers that determine the overall number of completed IPOs:  (i) volatility, (ii) recent IPO performance, and (iii) equity market trends.  As of the end of 2013, we believe that each of the technical indicators were at favorable levels.
     
  Non-controlling investment structure.  We believe we can be a provider of choice for pre-IPO financing.  Since we do not require board seats, observation rights, or other control provisions, we allow the current management and board to remain focused on executing the company’s business strategy.  In addition to participating in financings led by other investors, we are able to act as a lead investor, in which case we would establish the price and other terms on our own behalf and on behalf of other investors.  We believe that our willingness to lead an investment round may be attractive to certain existing venture capital investors, who may wish to avoid conflicts of interest presented by their board seats or other control rights.
 
Our Investment Process
 
Investment Sourcing
 
We believe our investment adviser has developed a disciplined approach to source qualified pre-IPO investing opportunities from a highly developed network of investors, advisers, and private companies that are deeply involved in later stage venture capital and IPO transactions.  We believe a very distinct “IPO ecosystem” exists, which is composed primarily of top tier venture capital firms, select investment banking firms, and a select group of law firms and accounting firms.  Our investment adviser has developed relationships with many of these leading venture capital, investment banking, legal and accounting firms that it believes are important participants in this ecosystem.

Through these relationships, our investment adviser is able to gain valuable insights on the current IPO market and access to pre-IPO investment opportunities that currently, or may in the near-term, meet our investment criteria.  We believe this approach will allow us to source the most attractive companies committed to going public.  We typically do not pursue larger, well-publicized private company investments through anonymous bidding on the trading platforms of private secondary marketplaces.  Instead, our investing strategy relies on the expertise of our investment adviser’s deal origination team to source opportunities that we can validate meet our investment criteria through our disciplined evaluation of company-provided business and financial information and access to management.
 
 
5

 
 
Based on the reputation we believe we have developed and our current pipeline of investment opportunities, we expect that the primary source of our future portfolio company investment opportunities will be from our relationships with venture capital firms and investment banks.
 
 
Venture capital firms.  We believe that a majority of our investment opportunities will come from venture capital firms with existing portfolio companies seeking later stage, pre-IPO financing.  In addition to participating in financings led by other investors, we are able to act as a lead investor, in which case we would establish the price and other terms on our own behalf and on behalf of other investors.
     
 
Investment banks.  We also expect to source our investment opportunities from investment banks that are focused on emerging growth companies that meet our investment criteria.  We have developed, and expect to continue building, relationships with the large, “bulge bracket,” investment banking firms and middle market firms that are recognized as leaders in these sectors.

We also have in the past and may in the future source investment opportunities from our direct outreach to private companies.  We have implemented a proactive marketing program to communicate with our investment adviser’s established referral network and with companies that meet our investment criteria.  We also maintain and continually update a database of emerging growth companies, which are typically venture capital-backed, that we believe currently satisfy, or will satisfy within the next year, our investment criteria.  Our database has been compiled from opportunities identified by our referral network, from publicly available information, and from acquired sources.

Because of our relationships with participants in the later stage venture capital and IPO ecosystems, we believe we have access to a significant number of venture capital-backed companies which are committed to and capable of completing an IPO in the near- or long-term.  We regularly monitor the progress of these private company opportunities in order to position us to participate or lead in their future private financing round before an IPO.

Portfolio Company Review and Approval
 
We use a disciplined approach to our initial investment assessment which relies primarily on the detailed financial and business information we receive about the company and our access to and discussions with management, both prior to and after our investment.  Our investment adviser uses this company information to prepare our initial valuation analysis, leveraging its experience in taking companies public and its insights on current trends affecting the IPO market.  We also use our initial discussions with our portfolio company management teams to discuss their commitment to completing an IPO and to determine which are best positioned to meet or exceed their performance targets following their IPOs and correspondingly achieve a market equity value comparable to their publicly traded peers.

Once we identify those private companies that we believe meet our minimum revenue threshold and have indicated a commitment to go public within our targeted time frame, we utilize an investment review and approval process focused on the following factors:
 
 
Qualification.  We obtain information from the company’s management and conduct a preliminary evaluation of the opportunity with a primary focus on understanding the business, historical and projected financial information, industry, competition and valuation to ascertain whether we believe the prospective portfolio company will be able to satisfy our targeted return on investment if and when the company becomes public.  The results of this preliminary evaluation are presented to our investment adviser’s Investment Committee, and typically a decision is made whether to pursue the opportunity further based on the relative attractiveness of the opportunity, the expected investment horizon and our assessment of the potential return on our investment, and our core investment criteria, compared to other opportunities currently in our deal pipeline.  The Investment Committee typically selects those portfolio company investment opportunities that meet our investment criteria and present the greatest potential for achieving our target return on investment.
     
 
Analysis.  Once the Investment Committee selects a portfolio company investment opportunity for further analysis, we will conduct research on the company’s prospects and industry, participate in additional discussions with the company’s management and existing investors, and prepare an internal investment memorandum which discusses our evaluation findings and recommendations, together with an internal valuation analysis outlining our acceptable valuation ranges for an investment.  As part of our analysis, we typically have discussions with the company’s management and advisers, and we usually request access to the company’s major stockholders.  These discussions generally are centered on a review of the company’s financial history and projections to understand key supporting assumptions, verification of the company’s commitment to go public and the timing thereof, and the primary considerations, metrics and milestone achievements being used by the company to justify its valuation.  At this stage, we prepare an in-depth valuation analysis focused primarily on comparable private transactions, market multiples of public companies that we believe are most comparable, and a discounted cash flow analysis.  Based on our comprehensive valuation assessment, the Investment Committee typically makes a decision whether to proceed with an investment and, if we are the lead investor, the terms and conditions that we will propose for further negotiation.  Each new portfolio company investment that we make requires the unanimous approval of our investment adviser’s three-person Investment Committee.
 
 
6

 
 
 
 
Terms.  We believe that investing in an issuer’s most senior equity securities or negotiating investment terms that are expected to provide an enhanced return upon an IPO event is one important way to mitigate the otherwise high risks associated with pre-IPO investing.  Examples of such structural protections include conversion rights which would result in our receiving shares of common stock at a discount to the IPO price upon conversion at the time of the IPO, or warrants that would result in our receiving additional shares for a nominal exercise price at the time of an IPO.  In some circumstances, these structural protections will apply only if the IPO price is below stated levels.  In some cases, our decision to pursue an investment opportunity will be dependent on obtaining some structural protections that are expected to enhance our ability to meet our targeted return on the investment.
     
 
Due Diligence and Closing.  Prior to closing an investment, we conduct further due diligence with a focus on verifying or validating the primary considerations used by our investment adviser’s Investment Committee in approving the investment, contacting where possible key suppliers, customers or industry sources, and verifying the company’s capitalization table and equity structure. The consummation of each investment will be subject to the satisfactory completion of our due diligence investigation, our confirmation and acceptance of the investment pricing and structure, and our review and acceptance of definitive agreements.
 
Our investment adviser’s principals have extensive experience negotiating, structuring and closing these specialized equity purchase transactions with issuers and selling stockholders.  As part of its due diligence process, our investment adviser analyzes the complex capital structures which venture capital-backed, pre-IPO companies typically possess including multiple classes of common and preferred equity securities with differing rights with respect to voting, dividends, redemptions, liquidation, and conversion rights.  Our investment adviser’s principals also have experience in negotiating matters relating to registration rights, restrictions of transfer, and other stockholder rights and restrictions.

Portfolio Company Monitoring and Managerial Assistance

We typically do not seek to take a control position in our investments through ownership, board seats, observation rights or other control features.  Accordingly, we will typically not be in a position to control the management, operation and strategic decision-making of the companies we invest in.  As a result, a portfolio company may make business decisions with which we disagree, and the stockholders and management of such a portfolio company may take risks or otherwise act in ways that are adverse to our interests.  In addition, other stockholders, such as venture capital sponsors that have substantial investments in our portfolio companies, may have interests that differ from that of the portfolio company or its minority stockholders, which may lead them to take actions that could materially and adversely affect the value of our investment in the portfolio company.  Due to the lack of liquidity for the equity investments that we will typically hold in our portfolio companies, we may not be able to dispose of our investments in the event that we disagree with the actions of a portfolio company or its substantial stockholders, including their decisions to delay their IPOs, and may therefore suffer a decrease in the value of our investments.

Nevertheless, as part of our portfolio company investment, we typically require information rights that give us access to the company’s quarterly and annual financial statements as well as the company’s annual budget.  We also attempt to have dialogue, on at least a quarterly basis, with our private portfolio company management teams to review the company’s business prospects, financial results, and exit strategy plans.  We monitor the financial trends of each portfolio company to assess the performance of individual companies as well as to evaluate overall portfolio quality and risk.  We believe this is an important competitive advantage for us relative to those funds that do not have or require the same access to ongoing financial information that we insist upon.

We also use our ongoing discussions with our portfolio company management teams to monitor their continued commitment to completing an IPO and, when requested, to provide our insights on the current IPO market and what we believe are the key differentiators for successful IPOs.  We also offer significant managerial assistance to our portfolio companies.  We expect that this managerial assistance will likely involve consulting and advice on the going public process and public capital markets, including introducing certain portfolio company management teams to capital markets advisory firms that we believe can assist these management teams in:  (i) selecting and structuring underwriting syndicates, (ii) developing the portfolio company’s IPO marketing message and plan, (iii) engaging the research analyst community, (iv) developing the appropriate valuation and go-to-market price range and advising on proper transaction size, (v) monitoring the quality of the roadshow audience and maximizing marketing effectiveness, (vi) monitoring bookbuilding and developing strategies for optimal pricing, and (vii) developing an optimal stockholder base and aftermarket trading.  As a business development company, we are required to offer such managerial assistance.
 
 
7

 
 
Portfolio Composition and Follow-on Investments

We currently expect to have a portfolio of approximately 20 companies, taking into account our current portfolio composition and our current capital base.  Based on our current capital base, the targeted size of our investments in new portfolio companies will be approximately $3 million, but we may invest more or less than this amount depending on the circumstances.  We do not expect our $3 million targeted investment size to increase unless we are able to raise additional capital.  It is also possible our targeted investment size may decrease over time if we are unable to raise additional capital.  If our targeted investment size decreases, the number and types of opportunities in which we may be allowed to participate are likely to decline, and we may be unable to invest in opportunities that otherwise meet our investment criteria.  See “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Financial Condition, Liquidity and Capital Resources.”

We generally expect that most of our portfolio company investments will represent approximately 5% of our gross assets measured at the time of investment depending on the size of our asset base and our investable capital.  However, based on our investment adviser’s assessment of each portfolio company’s relative quality, fundamentals and valuation, we may make opportunistic portfolio company investments that could represent up to 25% of our gross assets measured at the time of investment.  An individual portfolio company investment may be smaller than our targeted size and weighting at the time of the initial investment due to factors such as the size of investment made available to us and our cash available for investment.  We expect that the size of our individual portfolio company investments and their weighting in our overall portfolio will fluctuate over time based on a variety of factors including, but not limited to additional follow-on investments in existing portfolio companies, sales of our interests in portfolio companies, unrealized appreciation or depreciation, or an increased asset base as a result of the possible issuance of additional equity.

We may also consider making follow-on investments in an existing private portfolio company that is seeking to raise additional capital in subsequent private equity financing rounds.  Existing portfolio companies may elect, or be required, to raise additional capital prior to pursuing an IPO for any number of reasons including:  (i) to fund additional spending in marketing and/or research and development to develop their business, (ii) to fund working capital deficiencies due to weaker than expected revenue growth or higher than expected operating expenses, (iii) to fund business acquisitions or strategic joint ventures, and (iv) to increase cash reserves in advance of an anticipated IPO.  In evaluating follow-on investment opportunities, we typically assess a number of additional factors beyond the three core investment criteria we use in making our initial investment decisions.  These additional factors may include:  (i) the portfolio company’s continued commitment to an IPO, (ii) the achievement of pre-IPO milestones since our initial investment, (iii) the size of our portfolio company investment relative to our overall portfolio, (iv) any industry trends affecting the portfolio company or other portfolio investments in similar industries, (v) the impact of a follow-on investment on our diversification requirements so we can continue to qualify as a RIC for tax purposes, and (vi) the possible adverse consequences to our existing investment if we elect not to make a follow-on investment, such as the forced conversion of our preferred stock into common stock at an unfavorable conversion rate and the corresponding loss of any liquidation preferences or other rights and privileges that may be applicable to the securities we currently hold.  Although we have de-emphasized the energy and recycling sectors as areas of interest, we may continue to evaluate and make investments in existing energy and recycling portfolio companies based on the foregoing factors.

Targeted Holding Periods and Portfolio Company Exits

We generally expect that our portfolio companies will be able to complete an IPO, on average, within approximately two years after the closing of our initial investment.  After a typical lockup restriction which prohibits us from selling our investment during a customary 180-day period following the IPO, we expect that, on average, the holding period for our portfolio company investments will be approximately four years, compared to private equity and venture capital funds which we believe typically take seven to 10 years.  In the venture capital and private equity industries, it is common for a portfolio's return to undergo a so-called "J-curve" pattern.  This means that when reflected on a graph, the portfolio’s return would appear in the shape of the letter "J," with low or negative returns in early years and possible investment gains occurring in later years as valuations increase. In the context of the “J-curve” return pattern, our write-downs reflect our unrealized depreciation which may not be reversed on some investments.  However, we are unable to reflect the potential value we believe may be realized if or when our private companies progress to and complete an IPO or other exit.  This J-curve return pattern results from write-downs of portfolio investments that appear to be unsuccessful, prior to any potential write-ups and realized gains for portfolio investments that may prove to be successful.

While we have only a few discrete events to measure a portfolio company’s progress to an IPO–a registration statement publicly on file with the SEC, the completion of an IPO, and the disposition of our investment–which we refer to as “lagging” indicators, we believe that a number of our portfolio companies continue to prepare for and make progress towards an IPO.  Our assessment of a portfolio company’s IPO preparation and progress is based on information our investment adviser may obtain in its quarterly update calls with our portfolio company management teams with respect to certain pre-IPO indicators, or what we refer to as “leading” indicators.  These leading indicators include:  (i) adding new members of senior management (e.g., a CFO with public company experience), (ii) meeting with investment banking firms and conducting a “bakeoff” to select underwriters, (iii) testing the waters by meeting with prospective institutional IPO investors, (iv) determining (and then achieving) the key operating milestones that need to be met to increase the probability of a successful IPO, (v) holding an IPO “organizational meeting” to begin preparation for the IPO process, (vi) drafting the IPO registration statement, and, in certain cases, (vii) confidentially filing a registration statement with the SEC.  Due to the confidential nature of our investment adviser’s discussions with management, we are precluded from discussing the presence or absence of these “leading” indicators with respect to specific portfolio companies.  Based on our assessment of these “leading” indicators, we believe that many of our portfolio companies are making progress toward an IPO that is consistent with our targeted time frames and holding periods.
 
 
8

 
 
In the event our portfolio companies fail to complete an IPO within our targeted two-year time frame, we may need to make additional investments in these portfolio companies, along with other existing investors, to fund their operations.  In some cases, if we elect not to fund our pro rata share of these additional investments, there may be adverse consequences including the forced conversion of our preferred stock into common stock at an unfavorable conversion rate and the corresponding loss of any liquidation preferences or other rights and privileges that may be applicable to the securities we currently hold.

Although we have a targeted four-year holding period, our public company ownership structure eliminates the pressure to sell a portfolio company investment if a portfolio company’s IPO or merger/sale is delayed.  Accordingly, we believe that we can be a patient investor in our portfolio companies, allowing them flexibility to access the IPO market when the timing and pricing may be best for the company and us.  In the event the IPO markets become unfavorable to a specific industry or the broader market, we can be flexible as our portfolio companies wait for a market recovery or seek alternative exit strategies.  However, there may be situations where our portfolio companies will not perform as planned and thus be unable to go public under any circumstances.  There may also be situations where a specific industry or sector will no longer be attractive to IPO investors.

In such cases, we will consider whether the portfolio company has already passed, or is likely to exceed, our targeted two-year IPO completion period.  If we believe the portfolio company will not complete an IPO within this period, our investment adviser has the discretion to consider a number of alternative strategies including (i) pursuing a sale of our interests to an existing investor, (ii) attempting to influence the portfolio company’s management to pursue a strategic merger or sale, and (iii) identifying potential third party investors interested in purchasing all or a portion of our interest.  Our ability to liquidate our investments under any of these strategies will be highly uncertain, although we expect to have a greater chance of success if our investments contain structural protections.  Nonetheless, depending on the circumstances, even if we are successful in liquidating an investment under these alternatives, we may not achieve our targeted return and, as for any investment, we may experience a loss on our investment.

There also can be no assurances that any of our private portfolio companies will complete an IPO within our targeted two-year time frame, or at all.  Even if these portfolio companies are able to complete an IPO, we may not be able to dispose of our interests in these publicly traded portfolio companies within our targeted four-year holding period or at prices that would allow us to achieve our targeted 2x return on our investment, or any return at all.  In cases where we have reduced our targeted return due to a shorter expected investment horizon, there can be no assurance that our portfolio company will be able to complete an IPO, or that we will be able to dispose of our investment, in this shorter time frame at our targeted return.  There can be no assurance that we will be able to achieve our targeted return on our portfolio company investments if, as and when they go public.

See “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Targeted Holding Periods and Portfolio Company Exits” for additional information on the holding periods of our portfolio companies and the IPO progress of private portfolio companies.

Source of Returns

Our primary source of investment return will be generated from net capital gains, if any, realized on the sale of our portfolio company investments, which typically will occur after a portfolio company completes an IPO or, to a lesser extent, is acquired.  We are typically prohibited from exiting investments in our publicly traded portfolio companies following their IPO until the expiration of the customary 180-day lockup period.  These agreements, which we are usually required to enter into as part of our investment, prohibit us and other significant existing investors from selling stock in the portfolio company or hedging such securities during the customary 180-day period following an IPO.  We may sell these securities at our discretion at any time following the lockup period based on our investment adviser’s business judgment.  However, we will have no ability to mitigate the high volatility that is a typical characteristic of IPO aftermarket trading and is driven by such factors as overall market conditions, the industry conditions for the particular sector in which the portfolio company operates, the portfolio company’s performance, the relative size of the public float, and the potential selling activities of other pre-IPO investors and possibly management.
 
 
9

 
 
For our portfolio company investments where the lockup period following the IPO has expired and the stock becomes freely tradable, we typically do not begin selling automatically upon expiration of the lockup period.  We expect to sell our positions over a period of time, typically during the one-year period following the expiration of our lockup, although we may sell more rapidly or in one or more block transactions.  Factors that we may consider include, but are not limited to, the following:
 
 
The target price determined by our investment adviser based on its business judgment and what it believes to be the portfolio company’s intrinsic value.
     
 
The application of public company multiples and our proprietary analysis to a variety of operating metrics for each portfolio company.  The primary operating metrics that we typically consider are revenue and earnings before interest, taxes, depreciation and amortization (“EBITDA”).
     
 
Other factors that may be adversely or favorably affecting a particular portfolio company’s stock price, including overall market conditions, industry cyclicality, or issues specific to the portfolio company.
 
See “Management’s Discussion and Analysis of Financial Condition and Results of Operations – Net Realized Gains” for additional information on the realized gains and losses for our portfolio company dispositions.

Distributions

Quarterly Distribution Policy

On February 20, 2014, our Board of Directors adopted a quarterly distribution policy where we intend to pay regular quarterly distributions to our stockholders out of assets legally available for distribution.  Under the quarterly distribution policy, our Board of Directors intends to pay regular quarterly distributions to our stockholders based on our estimated net capital gains (which are defined as our realized capital gains in excess of realized capital losses during the year, without regard to the long-term or short-term character of such gains or losses) for a given calendar year.  Since our portfolio company investments typically do not generate current income (i.e., dividends or interest income), we do not expect the quarterly distributions to represent earnings from net investment income, which makes us different from other business development companies that primarily make debt investments and may pay dividends from their recurring interest income.

Under our quarterly distribution policy, we seek to maintain a consistent distribution level that may be paid in part or in full from net capital gains or a return of capital, or a combination thereof.  If our actual net capital gains are less than the total amount of our regular quarterly distributions for the year, the difference will be distributed from our capital and will constitute a return of capital to our stockholders.  Alternatively, if our actual net capital gains exceed the total amount of our regular quarterly distributions for a given year, our Board of Directors currently intends to adjust or make an additional distribution in December of each year so that our total distributions for any given year represent 100% of our actual net capital gains in that year.  A return of capital is generally not taxable and, instead, reduces a stockholder's tax basis in his shares of Keating Capital.  A return of capital does also not necessarily reflect our investment performance and generally does not reflect income earned.  The tax character of a distribution is determined based upon our total net capital gains and distributions made with respect to a taxable year and, therefore, cannot be finally determined until after the close of the relevant taxable year.

Due to the uncertainty of our portfolio companies achieving a liquidity event through either an IPO or sale/merger and our ability to sell our positions at a gain following a liquidity event, we can give no assurance that we will be able to realize net capital gains during the year equal to the amount of our regular quarterly distributions.  Furthermore, we can give no assurance that we will achieve our projected investment results that will allow us to pay a specified level of distributions, previously projected distributions for future periods, or year-to-year increases in distributions.  Our ability to pay distributions will be based on our ability to invest our capital in securities of suitable portfolio companies in a timely manner, our portfolio companies achieving a liquidity event, and our ability to sell our publicly traded portfolio positions at a gain following a liquidity event.  Accordingly, we can give no assurance that we will be able to realize any net capital gains from the sale of our portfolio company investments.

See “Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities – Distribution Policy” for additional information on our quarterly distribution policy.
 
Stock Distributions

On February 20, 2014, consistent with applicable tax rules, our Board of Directors determined that it intends to pay the regular quarterly distributions under our quarterly distribution policy in cash or our common stock at the election of stockholders, subject to a limitation that no more than 25% of the aggregate distribution will be paid in cash with the remainder paid in shares of our common stock.  As a result of our stock distributions, you may be required to pay tax in excess of the cash portion of the dividend you receive.
 
 
10

 
 
Our Board believes there are a number of benefits from paying stock distributions and retaining cash for additional portfolio company investments,  including the following:  (i) that our increased cash resources would allow us to make investments in a greater number of portfolio companies at potentially larger investment amounts, (ii) that our increased capital base would have the effect of reducing our operating expenses as a percent of our net assets, and (iii) that a higher market capitalization and potentially greater liquidity may make our common stock more attractive to investors and help reduce or eliminate our stock price discount to net asset value over time.  Based on our current stock price, we expect that stock distributions for the foreseeable future will be made at a price per share that is less than our net asset value per share, which will result in an immediate dilution of net asset value per share for all of our stockholders.  We expect to continue to pay a portion of our distributions in shares of our common stock until such time as we have eliminated our stock price discount to net asset value and can successfully access the equity capital markets, or on an ongoing basis.

We intend to suspend our dividend reinvestment plan (“DRIP”) with respect to the entirety of any distribution which is paid in cash and shares of our common stock at the election of stockholders.

See “Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities – Distribution Policy” for additional information on our stock distributions and DRIP.

Capital Raising

As a business development company, we need the ability to raise additional capital for investment purposes on an ongoing basis.  Accordingly, we expect to access the capital markets from time to time in the future to raise cash to fund additional investments.  We intend to use the proceeds from these offerings to fund additional investments in portfolio companies consistent with our investment objective.  However, we do not intend to raise additional equity capital in 2014 unless and until our stock price is at or above our net asset value per share.  Nonetheless, we remain committed to distribute 100% of our net realized gains to our stockholders in accordance with the quarterly distribution policy adopted by our Board of Directions on February 20, 2014.  Further, in an effort to preserve cash for additional portfolio company investments, we intend to pay our distributions in cash or in shares of our common stock at the election of stockholders, subject to a limitation that no more than 25% of the aggregate distribution will be paid in cash with the remainder paid in shares of our common stock. Capital for additional portfolio company investments will be provided from our available cash and the proceeds from our sale of existing portfolio company investments.
 
We may borrow additional funds to make investments, to the extent we determine that additional capital would allow us to take advantage of additional investment opportunities, if the market for debt financing presents attractively priced debt financing opportunities, or if our Board of Directors determines that leveraging our portfolio would be in our best interests and the best interests of our stockholders.  While a debt offering could raise additional capital for investment, our investment adviser would need to carefully weigh the interest expense of the debt relative to the expected return on the invested capital.  There is no assurance that any return from new investments funded by debt would cover the interest expense associated with the debt, which would adversely impact stockholders. Further, any interest expense associated with a debt offering would increase our operating expenses, which continue to be high compared to our peers because of our comparatively lower capital base. We do not currently anticipate issuing any preferred stock, although we could do so if our Board of Directors determines that it is in our best interest and the best interests of our stockholders.  The costs associated with any borrowing or preferred stock issuance will be indirectly borne by our common stockholders.

Our ability to raise capital to fund additional investments provides a number of possible benefits to our stockholders, including the following:

Greater Number of and Larger Investment Opportunities May be Available with a Larger Capital Base.  Our ability to raise additional capital through equity or debt offerings may help us generate additional deal flow.  We believe additional capital could position us to attract greater deal flow and, at the same time, make larger investments in qualified portfolio companies and still satisfy the diversification requirements to maintain our status as a regulated investment company, or a RIC.  Additionally, once our market capitalization reaches $100 million, we would achieve qualified institutional investor (“QIB”) status and, therefore, be eligible to participate in additional investment opportunities only available to QIBs.

Since we expect that most of our individual portfolio company investments will represent about 5% of our gross assets at the time of investment, an increase in our potential investment size (currently, about $3 million) would put us in a better position to act as lead investor and potentially negotiate structural protections that are expected to enhance our ability to meet our targeted return on our investments.  We currently expect to have a portfolio of approximately 20 companies, each representing approximately 5% of our total assets.  We believe an optimal investment size for each portfolio company is about $10 million.
 
 
11

 
 
Additional Capital May Reduce our Operating Expenses Per Share. Additional capital that increases our total assets may reduce our operating expenses per share by spreading our fixed expenses over a larger asset base.  We are currently operating at sub-scale based on our existing capital base.  We also believe our investment adviser, with eight employees currently responsible for managing our day-to-day operations including, without limitation, identifying, evaluating, negotiating, closing, monitoring and servicing our investments, has the appropriate resources and infrastructure in place to cost effectively scale our operations.  While the base management fee payable to our investment adviser will increase if we increase our total assets, we must also bear certain fixed expenses, such as certain administrative, governance, regulatory and compliance costs that do not generally vary based on our size.  Further, as a public company, we incur legal, accounting and other expenses, including costs associated with the periodic reporting requirements applicable to a company whose securities are registered under the Exchange Act, as well as additional corporate governance requirements, including requirements under the Sarbanes-Oxley Act, and other rules implemented by the SEC, that do not generally vary based on our total assets.  On a per share basis, these fixed expenses will be reduced when supported by a larger capital base.

Higher Market Capitalization and Greater Liquidity May Make our Common Stock More Attractive to Investors.  If we increase our capital through the issuance of additional shares, our market capitalization and the amount of our publicly tradable common stock would increase, which may afford all holders of our common stock greater liquidity.  A larger market capitalization may make our stock more attractive to a larger number of investors who have limitations on the size of companies in which they invest.  The investment criteria of certain institutional investors typically include a minimum market capitalization (generally, $100 million).  Furthermore, a larger number of shares outstanding may increase the Company’s trading volume, which could decrease the volatility in the secondary market price of our common stock.

We currently have a limited number of institutional investors that hold shares of our common stock.  A higher market capitalization and greater liquidity could create an opportunity for institutional investors to acquire a larger position in open market purchases of our common stock that would otherwise be unavailable.  Our ability to attract institutional ownership in our common stock could also attract additional coverage from analysts who serve these institutional investors.

Our Ability to Raise Additional Capital May Help Reduce or Eliminate our Stock Price Discount to Net Asset Value.  Shares of business development companies, like us, may trade at a market price that is less than the value of the net assets attributable to those shares.  The possibility that the shares of our common stock will trade at a discount from net asset value, or at premiums that are unsustainable over the long term, are risks separate and distinct from the risk that our net asset value will decrease.  Since we initially listed our common stock on Nasdaq on December 12, 2011, our shares of common stock have typically traded at a discount to our net assets attributable to those shares.  Our Board of Directors has been focused on the current discount between our stock price and net asset value, and we have taken active steps to try to eliminate this discount to net asset value over time.  These steps have included purchases of our shares under our stock repurchase program that are accretive to net asset value as well as an investor relations program and corporate branding campaign designed to increase awareness and visibility for our stock, which includes presenting Keating Capital to the investment community at various investor conferences and holding one-on-one meetings with institutional investors.  On February 20, 2014, our Board of Directors also adopted a quarterly distribution policy which we believe may help reduce or eliminate our stock price discount to net asset value over time.  We believe it is important for us to demonstrate to the investment community that we can raise additional capital to make additional investments.  However, we have no intention of raising equity capital in 2014 unless and until our stock price is at or above our net asset value per share. If we are successful in raising additional capital, we believe we are positioned to deliver returns and the potential for future dividends to stockholders, which we believe, in turn, will help reduce or eliminate our current stock price discount to net asset value over time.

Competition
 
A large number of entities compete with us to make the types of equity investments that we target as part of our business strategy.  We compete for such investments with a large number of venture capital funds, other equity and non-equity based investment funds, investment banks and other sources of financing, including traditional financial services companies such as commercial banks and specialty finance companies.  Many of our competitors are substantially larger than us and have considerably greater financial, technical and marketing resources than we do.  In addition, some of our competitors may require less information than we do and/or have higher risk tolerances or different risk assessments, which could allow them to consider a wider variety of investments and establish more relationships than we can.  Furthermore, many of our competitors are not subject to the regulatory restrictions that the 1940 Act imposes on us as a business development company and, as a result, such companies may be more successful in completing their investments.  There can be no assurance that the competitive pressures we face will not have a material adverse effect on our business, financial condition, and results of operations.  Also, as a result of this competition, we may not be able to take advantage of attractive investment opportunities from time to time, and we can offer no assurance that we will be able to identify and make investments that are consistent with our investment objective.
 
 
12

 
 
Employees

Currently, we do not have any employees.  The management of our investment portfolio is the responsibility of our investment adviser, Keating Investments, and its Investment Committee, which currently consists of Messrs. Keating, Rogers and Schweiger.  Keating Investments’ Investment Committee must unanimously approve each new investment that we make.  The members of the Investment Committee are not employed by us, and receive no compensation from us in connection with their portfolio management activities.  However, Messrs. Keating, Rogers and Schweiger, through their financial interests in, or management positions with, Keating Investments, are entitled to a portion of any investment advisory fees paid by us to Keating Investments pursuant to the Investment Advisory and Administrative Services Agreement.

Investment Advisory and Administrative Services Agreement

Organization of the Investment Adviser

Keating Investments is a Delaware limited liability company that is registered as an investment adviser under the Advisers Act and serves as our investment adviser.  Timothy J. Keating is the principal owner and managing member of Keating Investments.  Messrs. Keating, Rogers and Schweiger are Keating Investments’ principals and the members of its Investment Committee.  Messrs. Keating, Rogers and Schweiger manage the day-to-day operations of our investment adviser and provide the services to us under the Investment Advisory and Administrative Services Agreement. Keating Investments may in the future provide similar investment advisory services to other entities in addition to us.  In the event that Keating Investments provides investment advisory services to other entities, we expect that our management and our independent directors will attempt to resolve conflicts in a fair and equitable manner taking into account factors that would include the investment objective, amount of assets under management and available for investment in new portfolio companies, portfolio composition and return expectations of us and any other entity, and other factors deemed appropriate.  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 and with the fiduciary duties owed to us so that we are not disadvantaged in relation to any other affiliate or client of Keating Investments.  The principal address of Keating Investments is 5251 DTC Parkway, Suite 1100, Greenwood Village, Colorado 80111.

Management and Advisory Services

Subject to the overall supervision of our Board of Directors, Keating Investments manages our day-to-day operations and provides us with investment advisory services.  Under the terms of the Investment Advisory and Administrative Services Agreement, as currently in effect, Keating Investments:
 
 
Determines the composition of our portfolio, the nature and timing of the changes to our portfolio and the manner of implementing such changes;
     
 
Determines which securities we will purchase, retain or sell;
     
 
Identifies, evaluates and negotiates the structure of the investments we make; and
     
 
Closes, monitors and services the investments we make.
 
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 us are not impaired.  Although we are not aware of any current plans to do so, our investment adviser is not restricted from creating new investment vehicles subject to compliance with applicable law.  Further, our investment adviser, its principals, investment professionals and the members of its Investment Committee may serve as investment advisers, officers, directors or principals of entities or investment funds that operate in the same or a related line of business as us and/or of investment funds managed by our affiliates.

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.  The cost of both the base management fee payable to Keating Investments and any incentive fees earned by Keating Investments is ultimately borne by our common stockholders.  Our officers do not receive any compensation directly from us.  However, the principals and officers of the investment adviser who also serve as the Company’s officers receive compensation from, or may have financial interests in, the investment adviser, which may be funded by or economically related to the investment advisory fees paid by us to the investment adviser under to the Investment Advisory and Administrative Services Agreement.
 
 
13

 
 
The base management fee (the “Base Fee”) is calculated at an annual rate of 2% of our gross assets, where gross assets include any borrowings for investment purposes.  The Base Fee is payable monthly in arrears, and is calculated based on the value of our 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 month or quarter will be appropriately pro-rated.
 
The incentive fee is determined and payable in arrears as of the end of each calendar year and equals 20% of our 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.  For purposes of determining the incentive fee, realized capital gains, realized capital losses and unrealized capital depreciation are each determined without regard to the holding period for our investments and include both long-term (held more than 12 months) and short-term holdings.

We believe the investment advisory fees that we pay Keating Investments fairly compensate it for the specialized knowledge that its principals and investment professionals have in managing our specialized pool of private equity investments.  Specifically, we believe our investment adviser has a valuable origination platform and approach based on company-provided information and access to company management, a unique understanding of the IPO markets and the underwriting of risks associated with pre-IPO investing, and a disciplined portfolio monitoring process to evaluate our specific portfolio companies and ensure the integrity and reliability of our Board of Directors’ determination of the fair value of our portfolio company investments.

Administrative Services

Pursuant to the Investment Advisory and Administrative Services Agreement, Keating Investments also furnishes us with equipment and clerical, bookkeeping and record-keeping services, including responsibility for the financial records which we are required to maintain and preparing reports to our stockholders and reports filed with the SEC.  In addition, Keating Investments assists us in monitoring our portfolio accounting and bookkeeping, managing portfolio collections and reporting, performing internal audit services, determining and publishing our net asset value, overseeing the preparation and filing of our tax returns and the printing and dissemination of reports to our stockholders, providing support for our risk management efforts and generally overseeing the payment of our expenses and the performance of administrative and professional services rendered to us by others.

We reimburse Keating Investments for our allocable portion of overhead and other expenses incurred by it in performing its administrative obligations under the Investment Advisory and Administrative Services Agreement, including our allocable portion of the compensation of our Chief Financial Officer and Chief Compliance Officer, and their respective staff.  Beginning February 20, 2013, the Chief Financial Officer and Chief Compliance Officer positions have been held by a single individual.  Allocated administrative expenses are payable to the investment adviser monthly in arrears.

Indemnification of Investment Adviser

Under the Investment Advisory and Administrative Services Agreement, absent the willful misfeasance, bad faith or gross negligence of our investment adviser or the investment adviser’s reckless disregard of its duties and obligations, we have agreed to indemnify our investment adviser (including its officers, managers, agents, employees and members) for any damages, liabilities, costs and expenses (including reasonable attorneys’ fees and amounts reasonably paid in settlement) arising out of our investment adviser’s performance of its duties and obligations under the Investment Advisory and Administrative Services Agreement or otherwise as our investment adviser, except to the extent specified in the 1940 Act.

Duration and Termination

Our amended and restated Investment Advisory and Administrative Services Agreement, which is presently in effect, was approved by our Board of Directors on April 17, 2009, and by our stockholders on May 14, 2009.  On April 25, 2013, our Board of Directors (including the non-interested directors) renewed the current Investment Advisory and Administrative Services Agreement for an additional year.  The current Investment Advisory and Administrative Services Agreement will remain in effect from year-to-year thereafter if approved annually by (i) the vote of our Board of Directors, or by the vote of a majority of our outstanding voting securities, and (ii) the vote of a majority of our directors who are not interested persons.  An affirmative vote of the holders of a majority of our outstanding voting securities is also necessary in order to make material amendments to the current Investment Advisory and Administrative Services Agreement.
 
 
14

 
 
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 we 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 our outstanding voting securities.  See “Risk Factors – Risks Relating to Our Business and Structure.”

In addition, should we or Keating Investments elect to terminate the Investment Advisory and Administrative Services Agreement, a new investment adviser may not be appointed without approval of a majority of our outstanding common stock, except in limited circumstances where a temporary adviser may be appointed without stockholder consent, consistent with the 1940 Act.
 
Board Approval of the Investment Advisory and Administrative Services Agreement

Our Board of Directors (including the independent directors) determined at a meeting held on April 25, 2013 to approve the renewal of the Investment Advisory and Administrative Services Agreement currently in effect. In its consideration of the renewal of the Investment Advisory and Administrative Services Agreement, our Board of Directors focused on information it had received relating to, among other things:
 
 
The nature, quality and extent of the advisory and other services to be provided to us by Keating Investments;
     
 
Our investment performance and that of our investment adviser;
     
 
Comparative data with respect to advisory fees or similar expenses paid by other business development companies with similar investment objective;
     
 
Our projected operating expenses and expense ratio compared to business development companies with similar investment objectives and size;
     
 
Any existing and potential sources of indirect income to Keating Investments from their relationship with us and the profitability of those relationships, including through the Investment Advisory and Administrative Services Agreement;
     
 
Information about the services to be performed and the personnel performing such services under the Investment Advisory and Administrative Services Agreement;
     
 
The organizational capability and financial condition of Keating Investments and its affiliates;
     
 
The possibility of obtaining similar services from other third party service providers or through an internally managed structure; and
     
 
Any real or potential conflicts of interest.
 
Based on the information reviewed and the discussions, our Board of Directors, including a majority of the non-interested directors, concluded that fees payable to the investment adviser pursuant to the Investment Advisory and Administrative Services Agreement were reasonable in relation to the services to be provided.  Our Board of Directors did not assign relative weights to the above factors or the other factors considered by it.  In addition, our Board of Directors did not reach any specific conclusion on each factor considered, but conducted an overall analysis of these factors. Individual members of our Board of Directors may have given different weights to different factors.

License Agreement

On July 28, 2008, we entered into a license agreement (“License Agreement”) with Keating Investments pursuant to which Keating Investments granted us a non-exclusive license to use the name “Keating.”  Under the License Agreement, we have a right to use the Keating name and logo without license fee, for so long as Keating Investments or one of its affiliates remains our investment adviser.  Other than with respect to this limited license, we have no legal right to the “Keating” name or logo.  The License Agreement will remain in effect for so long as the Investment Advisory and Administrative Services Agreement with our investment adviser is in effect.
 
 
15

 
 
Material U.S. Federal Income Tax Considerations

From incorporation through December 31, 2009, we were treated as a corporation under the Code.  Effective January 1, 2010, we elected to be treated for tax purposes as a regulated investment company, or RIC, under the Code.  We intend to operate so as to qualify as a RIC and, as such, have made no provision for income taxes as of December 31, 2013 and 2012.  However, our continued qualification as a RIC requires that we comply with certain requirements contained in Subchapter M of the Code that may affect our ability to pursue additional business opportunities or strategies that, if we were to determine we should pursue, could diminish the desirability of qualifying, or impede our ability to qualify, as a RIC.  For example, a RIC must meet certain requirements, including source of income and asset diversification requirements (as described below) and distributing annually at least 90% of its investment company taxable income (the “Annual Distribution Requirement”).

As a RIC, we generally will not have to pay corporate-level federal income taxes on any investment company taxable income (which is generally our net ordinary income plus the excess, if any, of realized net short-term capital gains over realized net long-term capital losses) or any realized net capital gains (which is generally net realized long-term capital gains in excess of net realized short-term capital losses) that we distribute to our stockholders as dividends.  We will be subject to United States federal income tax at the regular corporate rates on any investment company taxable income or capital gain not distributed (or deemed distributed) to our stockholders.

In order to qualify and continue to qualify as a RIC for federal income tax purposes and obtain the tax benefits accorded to a RIC, in addition to satisfying the Annual Distribution Requirement, we must, among other things:
 
 
Have in effect at all times during each taxable year an election to be regulated as a business development company under the 1940 Act;
         
 
Derive in each taxable year at least 90% of our gross income from (i) dividends, interest, payments with respect to certain securities loans, gains from the sale of stock or other securities, or other income derived with respect to our business of investing in such stock or securities and (ii) net income derived from an interest in a “qualified publicly traded limited partnership” (the “90% Income Test”); and
         
 
Diversify our holdings so that at the end of each quarter of the taxable year:
         
     
at least 50% of the value of our assets consists of cash, cash equivalents, U.S. government securities, securities of other RICs, and other securities if such other securities of any one issuer do not represent more than 5% of the value of our assets or more than 10% of the outstanding voting securities of such issuer; and
         
     
no more than 25% of the value of our assets is invested in (i) securities (other than U.S. government securities or securities of other RICs) of one issuer, (ii) securities of two or more issuers that are controlled, as determined under applicable tax rules, by us and that are engaged in the same or similar or related trades or businesses, or (iii) securities of one or more “qualified publicly traded partnerships” (the “Diversification Tests”).
 
Provided that we satisfy the Diversification Tests as of the close of any quarter, we will not fail the Diversification Tests as of the close of a subsequent quarter as a consequence of a discrepancy between the value of our assets and the requirements of the Diversification Tests that is attributable solely to fluctuations in the value of our assets.  Rather, we will fail the Diversification Tests as of the end of a subsequent quarter only if such a discrepancy existed immediately after our acquisition of any asset and was wholly or partly the result of that acquisition. In addition, if we fail the Diversification Tests as of the end of any quarter, we will not lose our status as a RIC if we eliminate the discrepancy within thirty days of the end of such quarter and, if we eliminate the discrepancy within that thirty-day period, we will be treated as having satisfied the Diversification Tests as of the end of such quarter.

We satisfied the above RIC requirements during each of the taxable years since our election to be treated as a RIC for tax purposes.  Since we did not generate investment company taxable income in any of these taxable years, we were not required to make any distributions to satisfy the Annual Distribution Requirement.  We did not generate any realized net capital gains in 2010 or 2011 and, as a result, we were not required to make any distributions to satisfy the Excise Tax Avoidance Requirement, as described below.  Because we distributed all of our net realized capital gains for the years ended December 31, 2013 and 2012, no corporate-level federal income or excise taxes are due on such net realized capital gains and, as such, we have not made any provision for federal income or excise taxes as of December 31, and 2013 and 2012.

On February 20, 2014, our Board of Directors adopted a quarterly distribution policy where we intend to pay regular quarterly distributions to our stockholders based on our estimated net capital gains (which are defined as our realized capital gains in excess of realized capital losses during the year, without regard to the long-term or short-term character of such gains or losses) for the year.  Under our quarterly distribution policy, if our actual net capital gains exceed the total amount of our regular quarterly distributions for a given year, our Board of Directors currently intends to adjust or make an additional distribution in December of each year so that our total distributions for any given year represent 100% of our actual net capital gains in that year.  Since our portfolio company investments typically do not generate current income (i.e., dividends or interest income), we do not expect to generate net ordinary income from which we could make distributions to our stockholders.  Our distributions will also depend on our financial condition, maintenance of our RIC status, corporate-level income and excise tax planning, compliance with applicable business development company regulations and such other factors as our Board of Directors may deem relevant from time to time.
 
 
16

 
 
Our Board of Directors intends to pay the regular quarterly distributions under our quarterly distribution policy in cash or our common stock at the election of stockholders, subject to a limitation that no more than 25% of the aggregate distribution will be paid in cash with the remainder paid in shares of our common stock.   Under certain applicable provisions of the Code and the Treasury regulations, distributions payable in cash or in shares of stock at the election of stockholders are treated as taxable dividends.  The Internal Revenue Service has issued private rulings indicating that this rule will apply even where the total amount of cash that may be distributed is limited to no more than 20% of the total distribution.  Under these rulings, up to 80% of any taxable dividend declared by us could be payable in our stock.  If too many stockholders elect to receive their distributions in cash, each such stockholder would receive a pro rata share of the total cash to be distributed and would receive the remainder of their distribution in shares of stock.  If we decide to make any distributions consistent with these rulings that are payable in part in our stock, taxable stockholders receiving such dividends will be required to include the full amount of the dividend (whether received in cash, our stock, or a combination thereof) as ordinary income (or as a long-term capital gain to the extent such distribution is properly reported as a capital gain dividend) to the extent of our current and accumulated earnings and profits for United States federal income tax purposes.  As a result, a U.S. stockholder may be required to pay tax with respect to such dividends in excess of any cash received.  If a U.S. stockholder sells the stock it receives as a dividend in order to pay this tax, the sales proceeds may be less than the amount included in income with respect to the dividend, depending on the market price of our stock at the time of the sale.  Furthermore, with respect to non-U.S. stockholders, we may be required to withhold U.S. tax with respect to such dividends, including in respect of all or a portion of such dividend that is payable in stock.  In addition, if a significant number of our stockholders determine to sell shares of our stock in order to pay taxes owed on dividends, it may put downward pressure on the trading price of our stock.

Assuming we continue to qualify as a RIC, our corporate-level federal income tax should be substantially reduced or eliminated to the extent that we distribute any investment company taxable income or realized net capital gains to our stockholders as dividends.  However, we will pay corporate-level federal income tax on any amount of realized net capital gain that we elect to retain.  In the event we retain some or all of our realized net capital gains, we may designate the retained amount as a deemed distribution to stockholders.  In such case, among other consequences, we will pay corporate-level tax on the retained amount, each U.S. stockholder will be required to include its share of the deemed distribution in income as if it had been actually distributed to the U.S. stockholder, and the U.S. stockholder will be entitled to claim a credit or refund equal to its allocable share of the corporate-level tax we pay on the retained realized net capital gain.  The amount of the deemed distribution (net of such tax credit or refund) will be added to each U.S. stockholder's cost basis for its common stock.  In order to utilize the deemed distribution approach, we must provide written notice to our stockholders prior to the expiration of 60 days after the close of the relevant taxable year.  We cannot treat any of our investment company taxable income as a “deemed distribution.”

As a RIC, we are also subject to a 4% nondeductible federal excise tax on certain undistributed income unless we distribute in a timely manner an amount at least equal to the sum of (i) 98% of our ordinary income for each calendar year, (ii) 98.2% of our capital gains in excess of capital losses for the one-year period ending December 31 in that calendar year, and (iii) any ordinary income and realized net capital gains for preceding years that were not distributed during such years (the “Excise Tax Avoidance Requirement”).  We will not be subject to this excise tax on amounts on which we are required to pay corporate income tax (such as retained realized net capital gains which we designate as "undistributed capital gain" or a deemed distribution).  We currently intend to make sufficient distributions (including deemed distributions of retained realized net capital gains) each taxable year to avoid the payment of this excise tax.  We elected to calculate excise taxes related to any net capital gains on a calendar year basis on our 2012 tax returns.

The following simplified examples illustrate the tax treatment under Subchapter M of the Code for us and our non-corporate U.S. stockholders with regard to three possible distribution alternatives, assuming we realize, in 2014, a net capital gain of $1.00 per share, consisting entirely of sales of non-real property assets held for more than 12 months.  These illustrations exclude any additional 3.8% tax on their “net investment income” for certain U.S. individuals.

Under Alternative A:  100% of net capital gain declared as a cash dividend and distributed to stockholders:

 
1.
No federal income taxation at the Company level.
 
 
17

 
 
 
2.
Taxable stockholders receive a $1.00 per share dividend and pay federal income tax at a rate not in excess of 20% or $0.20 per share, retaining $0.80 per share.*

 
3.
Non-taxable stockholders that file a federal tax return receive a $1.00 per share dividend and pay no federal income tax, retaining $1.00 per share.

*In the event the net capital gain distribution is paid in cash or our common stock at the election of stockholders, subject to a limitation that no more than 25% of the aggregate distribution will be paid in cash with the remainder paid in shares of our common stock, taxable stockholders receiving such dividends will be required to include the full amount of the dividend (whether received in cash, our stock, or a combination thereof) as net capital gain.  As a result, a U.S. stockholder may be required to pay tax with respect to such dividends in excess of any cash received.

Under Alternative B:  100% of net capital gain retained by the Company and designated as "undistributed capital gain" or deemed dividend:

 
1.
The Company pays a corporate-level federal income tax of 35% on the undistributed gain or $0.35 per share and retains 65% of the gain or $0.65 per share.

 
2. 
Taxable stockholders increase their cost basis in their stock by $0.65 per share.  They are liable for federal income tax at a rate not in excess of 20% on 100% of the undistributed gain of $1.00 per share or $0.20 per share in tax.  Offsetting this tax, stockholders receive a tax credit equal to the $0.35 per share tax paid by us, which offsets the $0.20 per share tax liability, resulting in an excess tax credit of $0.15 per share for each such stockholder.
 
 
3.
Non-taxable stockholders that file a federal income tax return receive a tax refund equal to $0.35 per share.
 
Under Alternative C:  100% of net capital gain retained by the Company, with no designated capital gain or deemed distribution:

 
1.
The Company pays a corporate-level federal income tax of 35% on the retained gain or $0.35 per share.
 
 
2.
There is no tax consequence at the stockholder level.
 
We are authorized to borrow funds and to sell assets in order to satisfy the Annual Distribution Requirement and the Excise Tax Avoidance Requirement (collectively, the “Distribution Requirements”).  Further, under the 1940 Act, we are not permitted to make distributions to our stockholders while our debt obligations and other senior securities are outstanding unless certain “asset coverage” tests are met.  Moreover, our ability to dispose of assets to meet the Distribution Requirements may be limited by:  (i) the illiquid nature of our portfolio, or (ii) other requirements relating to our status as a RIC, including the Diversification Tests.  If we dispose of assets in order to meet the Distribution Requirements, we may make such dispositions at times that, from an investment standpoint, are not advantageous.

A RIC is limited in its ability to deduct expenses in excess of its investment company taxable income.  If our expenses in a given year exceed investment company taxable income (which is likely to occur since our operating expenses are expected to exceed the amount of interest or dividend income we receive on our portfolio investments), we would experience a net operating loss for that year.  However, a RIC is not permitted to carry forward net operating losses to subsequent years.  In addition, expenses including any incentive fees paid to our investment adviser can be used only to offset investment company taxable income, not net capital gain.  Due to these limits on the deductibility of expenses, we may for tax purposes have aggregate taxable income for several years that we are required to distribute and that is taxable to our stockholders even if such income is greater than the aggregate net income we actually earned during those years.  Such required distributions may be made from our cash assets or by liquidation of investments, if necessary.  We may realize gains or losses from such liquidations. In the event we realize net capital gains from such transactions, our stockholders may receive a larger capital gain distribution than they would have received in the absence of such transactions.

If we are unable to continue to qualify for treatment as a RIC, we would be subject to tax on all of our taxable income at regular corporate rates.  We would not be able to deduct distributions to stockholders, nor would distributions be required to be made.  Such distributions would be taxable to our stockholders.  Subject to certain limitations under the Code, corporate distributees would be eligible for the dividends received deduction.  Distributions in excess of our current and accumulated earnings and profits would be treated first as a return of capital to the extent of the stockholder’s tax basis, and any remaining distributions would be treated as a capital gain.

If we fail to qualify as a RIC in any taxable year, we would be required to satisfy the RIC qualification requirements in order to requalify as a RIC and dispose of any earnings and profits from any year in which we failed to qualify as a RIC. Subject to a limited exception applicable to RICs that qualified as such under Subchapter M of the Code for at least one year prior to disqualification and that requalify as a RIC no later than the second year following the nonqualifying year, we could be subject to tax on any unrealized net built-in gains in the assets held by us during the period in which we failed to qualify as a RIC that were recognized within the subsequent 10 years, unless we made a special election to pay corporate-level tax on such built-in gain at the time of our requalification as a RIC.  If we fail to satisfy the 90% Income Test or the Diversification Test described above, however, we may be able to avoid losing our status as a RIC by timely providing notice of such failure to the IRS, curing such failure and possibly paying an additional tax.
 
 
18

 
 
Regulation as a Business Development Company

The following discussion is a general summary of the material prohibitions and descriptions governing business development companies.  It does not purport to be a complete description of all of the laws and regulations affecting business development companies.

A business development company primarily focuses on investing in or lending to private companies and making significant managerial assistance available to them.  A business development company provides stockholders with the ability to retain the liquidity of a publicly traded stock, while sharing in the possible benefits of investing in emerging growth, expansion stage or established stage companies.  The 1940 Act contains prohibitions and restrictions relating to transactions between business development companies and their directors and officers and principal underwriters and certain other related persons and requires that a majority of the directors be persons other than “interested persons,” as that term is defined in the 1940 Act.  In addition, the 1940 Act provides that we may not change the nature of our business so as to cease to be, or to withdraw our election as, a business development company unless approved by a majority of our outstanding voting securities.  A majority of the outstanding voting securities of a company is defined under the 1940 Act as the lesser of:  (i) 67% or more of such company’s shares present at a meeting if more than 50% of the outstanding shares of such company are present or represented by proxy, or (ii) more than 50% of the outstanding shares of such company.

Qualifying Assets

Under the 1940 Act, a business development company may not acquire any asset other than assets of the type listed in Section 55(a) of the 1940 Act, which are referred to here as “qualifying assets,” unless, at the time the acquisition is made, qualifying assets represent at least 70% of the company’s total assets (the “70% test”).  The principal categories of qualifying assets relevant to our business are any of the following:
 
 
(1)
Securities purchased in transactions not involving any public offering from the issuer of such securities, which issuer (subject to certain limited exceptions) is an eligible portfolio company, or from any person who is, or has been during the preceding 13 months, an affiliated person of an eligible portfolio company, or from any other person, subject to such rules as may be prescribed by the SEC.  An eligible portfolio company is defined in the 1940 Act as any issuer which:
         
   
(a)
is organized under the laws of, and has its principal place of business in, the United States;
         
   
(b)
is not an investment company (other than a small business investment company wholly owned by the business development company) or a company that would be an investment company but for certain exclusions under the 1940 Act; and
         
   
(c)
Satisfies any of the following:
         
     
(i)
does not have any class of securities that is traded on a national securities exchange;
         
     
(ii)
has a class of securities listed on a national securities exchange, but has an aggregate market value of outstanding voting and non-voting common equity of less than $250 million;
         
     
(iii)
is controlled by a business development company or group of companies including a business development company and the business development company has an affiliated person who is a director of the eligible portfolio company; or
         
     
(iv)
is a small and solvent company having gross assets of not more than $4.0 million and capital and surplus of not less than $2.0 million.
         
 
(2)
Securities of any eligible portfolio company that we control.
 
 
19

 
 
 
(3)
Securities purchased in a private transaction from a U.S. issuer that is not an investment company or from an affiliated person of the issuer, or in transactions incident thereto, if the issuer is in bankruptcy and subject to reorganization or if the issuer, immediately prior to the purchase of its securities was unable to meet its obligations as they came due without material assistance other than conventional lending or financing arrangements.
         
 
(4)
Securities of an eligible portfolio company purchased from any person in a private transaction if there is no ready market for such securities and we already own 60% of the outstanding equity of the eligible portfolio company.
         
 
(5)
Securities received in exchange for or distributed on or with respect to securities described in (1) through (4) above, or pursuant to the exercise of warrants or rights relating to such securities.
         
 
(6)
Cash, cash equivalents, certificates of deposit, U.S. Government securities or high-quality debt securities maturing in one year or less from the time of investment.
 
Control, as defined by the 1940 Act, is presumed to exist where a business development company beneficially owns more than 25% of the outstanding voting securities of the portfolio company.

If less than 70% of our total assets are comprised of qualifying assets, we would generally not be permitted to acquire any additional non-qualifying assets, until such time as 70% of our then current total assets were comprised of qualifying assets.  We would not be required, however, to dispose of any non-qualifying assets in such circumstances.  As of December 31, 2013, approximately 97.8% of our total assets constituted qualifying investments under Section 55(a) of the 1940 Act.

We do not intend to acquire securities issued by any investment company that exceed the limits imposed by the 1940 Act. Under these limits, we generally cannot acquire more than 3% of the voting stock of any investment company (as defined in the 1940 Act), invest more than 5% of the value of our gross assets in the securities of one such investment company or invest more than 10% of the value of our gross assets in the securities of such investment companies in the aggregate.  With regard to that portion of our portfolio invested in securities issued by investment companies, it should be noted that such investments might subject our stockholders to additional expenses.

In addition, a business development company must have been organized and have its principal place of business in the United States and must be operated for the purpose of making investments in the types of securities described in (1), (2) or (3) above.

Significant Managerial Assistance

In general, in order to count portfolio securities as qualifying assets for the purpose of the 70% test, we must either control the issuer of the securities or must offer to make available to the issuer of the securities (other than small and solvent companies described above) significant managerial assistance; except that, where we purchase such securities in conjunction with one or more other persons acting together, one of the other persons in the group may make available such managerial assistance.  Making available managerial assistance means, among other things, any arrangement whereby the business development company, through its directors, officers or employees, offers to provide, and, if requested to, provides significant guidance and counsel concerning the management, operations or business objectives and policies of a portfolio company.  We expect that any managerial assistance we provide to our portfolio companies will likely involve consulting and advice on the going public process and public capital markets.

Senior Securities

We are permitted, under specified conditions, to issue multiple classes of debt and one class of stock senior to our common stock if our asset coverage, as defined in the 1940 Act, is at least equal to 200% immediately after each such issuance.  In addition, while any senior securities remain outstanding, we must make provisions to prohibit any distribution to our stockholders or the repurchase of such securities or shares unless we meet the applicable asset coverage ratios at the time of the distribution or repurchase. We may also borrow amounts up to 5% of the value of our gross assets for temporary or emergency purposes without regard to asset coverage.

We may borrow additional funds to make investments, to the extent we determine that additional capital would allow us to take advantage of additional investment opportunities, if the market for debt financing presents attractively priced debt financing opportunities, or if our Board of Directors determines that leveraging our portfolio would be in our best interests and the best interests of our stockholders.  We do not currently anticipate issuing any preferred stock, although we could do so if our Board of Directors determines that is was in our best interest and the best interests of our stockholders.  In the event we do borrow funds to make investments thereafter, we are exposed to the risks of leverage, which may be considered a speculative investment technique.  Borrowings, also known as leverage, magnify the potential for gain and loss on amounts invested and therefore increase the risks associated with investing in our securities.  In addition, the costs associated with any borrowing or preferred stock issuance, including any increase in the management fee payable to our investment adviser, will be borne by our common stockholders.
 
 
20

 
 
Proxy Voting Policies and Procedures  

We vote proxies relating to our portfolio securities in the best interest of our stockholders.  We review on a case-by-case basis each proposal submitted to a stockholder vote to determine its impact on the portfolio securities held by us.  Although we generally vote against proposals that may have a negative impact on our portfolio securities, we may vote for such a proposal if there exists compelling long-term reasons to do so.
 
Our proxy voting decisions are made by our investment adviser’s principals.  To ensure that our vote is not the product of a conflict of interest, we require that:  (i) anyone involved in the decision making process disclose to our Chief Compliance Officer any potential conflict that he is aware of and any contact that he has had with any interested party regarding a proxy vote; and (ii) employees involved in the decision making process or vote administration are prohibited from revealing how we intend to vote on a proposal in order to reduce any attempted influence from interested parties.
 
Stockholders may obtain information regarding how we voted proxies with respect to our portfolio securities by making a written request for proxy voting information to:  Chief Compliance Officer, Keating Capital, Inc., 5251 DTC Parkway, Suite 1100, Greenwood Village, Colorado 80111.
 
Temporary Investments

Pending investment in other types of “qualifying assets,” as described above, our investments may consist of cash, cash equivalents, certificates of deposit, U.S. government securities or high-quality debt securities maturing in one year or less.  The management fee payable to our investment adviser will not be reduced while our assets are invested in such temporary investments.

Code of Ethics

We and our investment adviser have each adopted a code of ethics pursuant to Rule 17j-1 under the 1940 Act and Rule 204A-1 under the Advisers Act, respectively, that establishes procedures for personal investments and restricts certain transactions by our personnel.  Our codes of ethics generally do not permit investments by our employees in securities that may be purchased or held by us.  You may read and copy these codes of ethics at the SEC’s Public Reference Room in Washington, DC.  You may obtain information on the operation of the Public Reference Room by calling the SEC at (202) 551-8090.  In addition, each code of ethics is available on the SEC’s website at www.sec.gov. You may also obtain copies of the codes of ethics, after paying a duplicating fee, by electronic request at the following email address:  publicinfo@sec.gov, or by writing the SEC’s Public Reference Section, 100 F Street, N.E., Washington, DC 20549.  You may also obtain a copy of our code of ethics on our website at www.keatingcapital.com.

Capital Structure

Except for a rights offering, we are not generally able to issue and sell our common stock at a price below net asset value per share.  We may, however, sell our common stock, at a price below the current net asset value of the common stock, or sell warrants, options or rights to acquire such common stock, at a price below the current net asset value of the common stock if (i) our Board of Directors determines that such sale is in the best interests of the Company, and (ii) our stockholders have approved such sale.  If our Board of Directors determines that a sale of common stock at a price below the current net asset value is in the best interests of the Company and our stockholders, our Board may consider a rights offering or it may seek approval from our stockholders for the authority to sell shares of our common stock below net asset value.

Compliance Policies and Procedures

We and our investment adviser have adopted and implemented written policies and procedures reasonably designed to detect and prevent violation of the federal securities laws and are required to review these compliance policies and procedures annually for their adequacy and the effectiveness of their implementation and designate a Chief Compliance Officer to be responsible for administering the policies and procedures.  Frederic M. Schweiger serves as our Chief Compliance Officer.

Sarbanes-Oxley Act

The Sarbanes-Oxley Act imposes a wide variety of regulatory requirements on publicly-held companies and their insiders. Many of these requirements affect us.  For example:
 
 
21

 
 
 
Pursuant to Rule 13a-14 of the Securities Exchange Act of 1934, as amended (“Exchange Act”), our Chief Executive Officer and Chief Financial Officer must certify the accuracy of the financial statements contained in our periodic reports;
     
 
Pursuant to Item 307 of Regulation S-K, our periodic reports must disclose our conclusions about the effectiveness of our disclosure controls and procedures;
     
 
Pursuant to Rule 13a-15 of the Exchange Act, our management must prepare an annual report regarding its assessment of our internal controls over financial reporting and, once our public float exceeds $75 million, must obtain an audit of the effectiveness of internal controls over financial reporting performed by our independent registered public accounting firm;
     
 
Pursuant to Item 308 of Regulation S-K and Rule 13a-15 of the Exchange Act, our periodic reports must disclose whether there were significant changes in our internal controls over financial reporting or in other factors that could significantly affect these controls subsequent to the date of their evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses; and
     
 
Pursuant to Section 404 of the Sarbanes-Oxley Act and Rule 13a-15 of the Exchange Act, we are required to include in our annual report on Form 10-K a report from our management on internal controls over financial reporting, including a statement that our management is responsible for establishing and maintaining adequate internal control over financial reporting as well as our management's assessment of the effectiveness of our internal control over financial reporting.
 
A reporting company that is a non-accelerated filer (with a public float below $75 million as of June 30 of the previous year) is exempt from the requirement to obtain an audit of the effectiveness of internal controls over financial reporting performed by their auditors.  Accordingly, until such time as we have a public float in excess of $75 million, our auditors will not need to report on our management’s assessment of our internal control over financial reporting.  However, we will be required to assess the effectiveness of our internal controls over financial reporting each year.  Based on our public float at June 30, 2013, we are a non-accelerated filer for the year ended December 31, 2013 and, thus, we are not required to obtain an audit of the effectiveness of internal controls over financial reporting for the year ended December 31, 2013.

The Sarbanes-Oxley Act requires us to review our current policies and procedures to determine whether we comply with the Sarbanes-Oxley Act and the regulations promulgated thereunder.  We will continue to monitor our compliance with all regulations that are adopted under the Sarbanes-Oxley Act and will take actions necessary to ensure that we are in compliance therewith.

Privacy Policies

We are committed to protecting your privacy.  This privacy notice, which is required by federal law, explains privacy policies of Keating Capital, Inc. and our investment adviser.  This notice supersedes any other privacy notice you may have received from Keating Capital, Inc., and its terms apply both to our current stockholders and to former stockholders as well.

We will safeguard, according to strict standards of security and confidentiality, all information we receive about you.  With regard to this information, we maintain procedural safeguards that comply with federal standards.

Our goal is to limit the collection and use of information about you.  In certain cases, when you purchase shares of our common stock, our transfer agent collects personal information about you, such as your name, address, Social Security number or tax identification number.  This information is used only so that we can send you annual reports, proxy statements and other information required by law, and to send you information we believe may be of interest to you.

We do not share such information with any non-affiliated third party except as described below:
 
 
It is our policy that only authorized employees of our investment adviser, Keating Investments, LLC, who need to know your personal information will have access to it.
     
 
We may disclose stockholder-related information to companies that provide services on our behalf, such as record keeping, processing your trades, and mailing you information.  These companies are required to protect your information and use it solely for the purpose for which they received it.
     
 
If required by law, we may disclose stockholder-related information in accordance with a court order or at the request of government regulators.  Only that information required by law, subpoena, or court order will be disclosed.
 
 
22

 
 
Other

We may also be prohibited under the 1940 Act from knowingly participating in certain transactions with our affiliates without the prior approval of our Board of Directors who are not interested persons and, in some cases, prior approval by the SEC.

We expect to be periodically examined by the SEC for compliance with the 1940 Act.
 
We are required to provide and maintain a bond issued by a reputable fidelity insurance company to protect us against larceny and embezzlement.  Furthermore, as a business development company, we are prohibited from protecting any director or officer against any liability to us or our stockholders arising from willful misfeasance, bad faith, gross negligence or reckless disregard of the duties involved in the conduct of such person’s office.

Brokerage Allocations and Other Practices

Since we will generally acquire our investments in privately negotiated transactions, we will infrequently use brokers in the normal course of our investing activities.  However, we do intend to dispose of our publicly traded securities through brokers.  Subject to policies established by our Board of Directors, our investment adviser is primarily responsible for the execution and sale of the publicly traded securities portion of our portfolio transactions and the allocation of brokerage commissions.  The investment adviser does not execute sales of our publicly held securities through any particular broker or dealer, but seeks to obtain the best net results for us, taking into account such factors as price (including the applicable brokerage commission or dealer spread), size of order, difficulty of execution, and operational facilities of the firm and the firm’s risk and skill in positioning blocks of securities.  While our investment adviser will generally seek reasonably competitive trade execution costs, we will not necessarily pay the lowest spread or commission available.  Subject to applicable legal requirements, our investment adviser may select a broker based partly upon brokerage or research services provided to our investment adviser and to us and any other clients.  In return for such services, we may pay a higher commission than other brokers would charge if the investment adviser, in accordance with Section 28(e) under the Exchange Act, determines in good faith that such commission is reasonable in relation to the services provided.

Available Information

We are required to file with or submit to the SEC annual, quarterly and current reports, proxy statements and other information meeting the informational requirements of the Exchange Act.  You may inspect and copy these reports, proxy statements and other information, as well as related exhibits and schedules, at the Public Reference Room of the SEC.  You may obtain information on the operation of the Public Reference Room by calling the SEC at (202) 551-8090.  The SEC maintains an Internet site that contains reports, proxy and information statements and other information filed electronically by us with the SEC, which are available on the SEC’s website at www.sec.gov.  Copies of these reports, proxy and information statements and other information may be obtained, after paying a duplicating fee, by electronic request at the following e-mail address: publicinfo@sec.gov, or by writing the SEC’s Public Reference Section, 100 F Street, N.E., Washington, DC 20549.  This information is also available free of charge by contacting us at Keating Capital, Inc., 5251 DTC Parkway, Suite 1100, Greenwood Village, CO 80111, (720) 889-0139, or on our website at  www.keatingcapital.com.  We make available free of charge on our website these reports, proxy and information statements and other information as soon as reasonably practicable after we electronically file such material with, or furnish it to, the SEC.  Information contained on our website is not incorporated by reference into this annual report on Form 10-K and you should not consider information contained on our website to be part of this annual report on Form 10-K.

Item 1A.  Risk Factors

Investing in our common stock involves a number of significant risks.  In addition to the other information contained in this annual report on Form 10-K, you should consider carefully the following information before making an investment in our common stock.  Although the risks described below represent our material risks, they are not the only risks we face.  Additional risks and uncertainties not presently known to us might also impair our operations and performance.  If any of the following events occur, our business, financial condition and results of operations could be materially and adversely affected.  In such case, our net asset value and the trading price of our common stock could decline, and you may lose all or part of your investment in our common stock.
 
Risks Related to Our Portfolio Company Investments

Our investments in the later stage, private, pre-IPO companies that we target may be extremely risky, and you could lose all or part of your investment in our common stock.
 
Investments in the later stage, private, pre-IPO companies that we target involve a number of significant risks, including:
 
 
23

 
 
 
They typically have limited operating histories, narrower, less established product lines and smaller market shares than larger businesses, which tend to render them more vulnerable to competitors’ actions, market conditions and consumer sentiment in respect of their products or services, as well as general economic downturns.  Most of our portfolio companies may experience operating losses, which may be substantial, and there can be no assurance when or if such companies will operate at a profit.
     
 
They may have limited financial resources and may be unable to meet their obligations under their existing credit facilities (to the extent that such facilities exist), which may lead to equity financings, possibly at discounted valuations, in which we could be substantially diluted if we do not or cannot participate, bankruptcy or liquidation and the corresponding reduction in value or loss of our equity investment.  The companies in which we invest may have substantial debt loads and, in such cases, our equity investments would typically be last in line behind any creditors in a bankruptcy or liquidation.
     
 
At the time of our investment, there is generally little publicly available information about these businesses since they are primarily privately owned.  Therefore, although our investment adviser’s representatives will perform due diligence investigations on these portfolio companies, their operations and their prospects, we may not learn all of the material information we need to know regarding these businesses.  At the time of our investment, we may only have access to the portfolio company’s actual financial results as of and for the most recent quarter end or, in certain cases, the quarter end preceding the most recent quarter end.  There can be no assurance that the information that we do obtain with respect to any investment is reliable.
     
 
They are more likely to depend on the management talents and efforts of a small group of persons; therefore, the death, disability, resignation or termination of one or more of these persons could have a material adverse impact on our portfolio company and, in turn, on us.
     
 
They generally have less predictable operating results, may from time to time be parties to litigation, may be engaged in rapidly changing businesses with products subject to a substantial risk of obsolescence, and may require substantial additional capital to support their operations, finance expansion or maintain their competitive position.
     
 
Continued global economic uncertainty could also result in investors becoming more risk-averse, which in turn could reduce the amount of growth capital available to our portfolio companies from both existing and new investors, could adversely affect their operating performance, and could delay liquidity paths (for example, an IPO or strategic sale/merger) for our portfolio companies.
 
A portfolio company’s failure to satisfy financial or operating covenants imposed by lenders could lead to defaults and, potentially, termination of its loans and foreclosure on its assets, which could trigger cross-defaults under other agreements and jeopardize our equity investment in such portfolio company.  We may incur expenses to the extent necessary to seek recovery of our equity investment or to negotiate new terms with a financially distressed portfolio company.
 
The securities of our private portfolio companies are illiquid, and the inability of these portfolio companies to complete an IPO within our targeted time frame will extend the holding period of our investments, may adversely affect the value of these investments, and will delay the distribution of gains, if any.

The IPO market is, by its very nature, unpredictable.  A lack of IPO opportunities for venture capital-backed companies could lead to companies staying longer in our portfolio as private entities still requiring funding.  This situation may adversely affect the amount of available venture capital funding to late-stage companies that cannot complete an IPO.  Such stagnation could dampen returns or could lead to unrealized depreciation and realized losses as some companies run short of cash and have to accept lower valuations in private fundings or are not able to access additional capital at all.  A lack of IPO opportunities for venture capital-backed companies may also cause some venture capital firms to change their strategies, leading some of them to reduce funding of their portfolio companies and making it more difficult for such companies to access capital.  This might result in unrealized depreciation and realized losses in such companies by other investment funds, like us, who are co-investors in such companies.  There can be no assurance that we will be able to achieve our targeted return on our portfolio company investments if, as and when they go public.

The equity securities we acquire in a private company are generally subject to contractual transfer limitations imposed on the company’s stockholders as well as other contractual obligations, such as rights of first refusal and co-sale rights.  These obligations generally expire only upon an IPO by the company.  As a result, prior to an IPO, our ability to liquidate our private portfolio company positions may be constrained.  Transfer restrictions could limit our ability to liquidate our positions in these securities if we are unable to find buyers acceptable to our portfolio companies, or where applicable, their stockholders.  Such buyers may not be willing to purchase our investments at adequate prices or in volumes sufficient to liquidate our position, and even where they are willing, other stockholders could exercise their co-sale rights to participate in the sale, thereby reducing the number of shares available to sell by us.  Furthermore, prospective buyers may be deterred from entering into purchase transactions with us due to the delay and uncertainty that these transfer and other limitations create.
 
 
24

 
 
If the private companies in which we invest do not perform as planned, they may be unable to successfully complete an IPO within our targeted two-year time frame, or at all, or may decide to abandon their plans for an IPO.  In such cases, we will likely exceed our targeted four-year holding period and the value of these investments may decline substantially if an IPO exit is no longer viable.  We may also be forced to take other steps to exit these investments

The illiquidity of our private portfolio company investments, including those that are traded on the trading platforms of private secondary marketplaces, may make it difficult for us to sell such investments should the need arise.  Also, if we were required to liquidate all or a portion of our portfolio quickly, we may realize significantly less than the value at which we have previously recorded our investments.  We will have no limitation on the portion of our portfolio that may be invested in illiquid securities, and we anticipate that all or a substantial portion of our portfolio may be invested in such illiquid securities at all times.  Due to the inherent uncertainty in determining the fair value of investments that do not have a readily available market value, the fair value of our investments determined in good faith by our Board may differ significantly from the value that would have been used had a ready market existed for such investments, and the differences could be material.

In addition, even if a portfolio company completes an IPO, we will typically not be able to sell our position until the post-IPO lockup expires, which generally means we will be required to hold our investments for at least 30 months (from the date of our initial investment) before we are able to begin selling.  As a result of lockup restrictions, the market price of securities that we hold may decline substantially before we are able to sell them following an IPO.  There is also no assurance that a meaningful trading market will develop for our publicly traded portfolio companies following an IPO to allow us to liquidate our position when we desire.

There are significant potential risks associated with investing in venture capital-backed, later stage, pre-IPO companies with complex capital structures.

We invest primarily in venture capital-backed, later stage, pre-IPO companies, primarily through direct investments in these companies and, to a lesser extent, through private secondary transactions which we negotiate with selling stockholders in these portfolio companies.  Such private companies frequently have much more complex capital structures than traditional publicly-traded companies, and may have multiple classes of common and preferred equity securities with differing rights, including with respect to voting, dividends, redemptions, liquidation, and conversion rights.  Although we seek to invest in the most senior class of securities or obtain other structural protections, the seniority and protections provided in these types of investments may be diminished if the portfolio company issues more senior securities in a subsequent financing round.  Our investment adviser typically requires information on the private company’s capital structure as part of its due diligence process.  Although we believe that our investment adviser’s principals have extensive experience evaluating and investing in private companies with such complex capital structures, there can be no assurance that we will be able to adequately evaluate the relative risks and benefits of investing in a particular class of a portfolio company’s equity securities.  Any failure on our part to properly evaluate the relative rights and value of a class of securities in which we invest could cause us to lose part or all of our investment, which in turn could have a material and adverse effect on our net asset value and results of operations.

There are significant potential risks associated with investing in private secondary transactions which we negotiate with selling stockholders in portfolio companies that meet our investment criteria.

We may acquire equity investments in privately-held companies that meet our investment criteria directly from current or former management and early stage investors that are interested in selling privately.  We may also acquire shares in these private secondary transactions from current or former non-management employees where the company or its management is coordinating the transaction process.  We will typically source these negotiated transactions from investment banks or through our other relationships.  We intend to focus on transactions where we will have access to management, as well as financial data and other information about the private company.  This management access is important to assure the flow of the company’s financial and other information to us both before and after our investment.  In any case, there can be no assurance that our investment adviser will be able to acquire adequate information on which to make its investment decision with respect to any private secondary purchases, or that the information it is able to obtain is current, accurate or complete.  Any failure to obtain full and complete information regarding the portfolio companies with respect to which we invest through private secondary transactions could cause us to incur a loss on part or all of our investment in such companies, which could have a material and adverse effect on our net asset value and results of operations.
 
 
25

 
 
Investments in private companies through private secondary transactions also entail additional legal and regulatory risks which expose participants to the risk of liability due to the imbalance of information among participants and participant qualification and other transactional requirements applicable to private securities transactions, the non-compliance with which could result in rescission rights and monetary and other sanctions.  In addition, private block sales of shares may be restricted by contractual transfer restrictions and company policies, which may impose strict limits on transfer, including veto rights or rights of first refusal in favor of the company and other stockholders.  As a result, we may be unable to complete a purchase transaction if the subject company or its stockholders chooses to exercise a veto right or right of first refusal.

We may not realize gains from our equity investments.

Our investment objective is to maximize capital appreciation, which we seek to accomplish by making investments in the equity securities of later stage, typically venture capital-backed, pre-IPO companies.  Unlike most business development companies that are focused on investing in debt securities that generate current yield for their stockholders, our portfolio companies typically do not pay dividends and, as a result, we are unable to pass this source of current income through to our stockholders.  Any gains that we may realize, and the source of distributions to our stockholders, will come solely from the sale of the equity interests we acquire in our portfolio companies.  These equity interests may not appreciate in value and, in fact, may decline in value.

In addition, the private company securities we acquire are often subject to certain provisions, which could permit other stockholders, under certain circumstances, to force us to liquidate our position in a subject company at a specified price, which could be inadequate or undesirable or even below our cost basis.  In this event, we could realize a loss or fail to realize a gain in an amount that we deem an appropriate return on our investment.

Further, capital markets volatility and the overall market environment may preclude our portfolio companies from completing an IPO and impede our exit from these investments.  Accordingly, we may not be able to realize gains from our equity interests, and any gains that we do realize on the sale of any equity interests may not be sufficient to offset any other losses we experience.  We will generally have little, if any, control over the timing of any gains we may realize from our equity investments.

Even if our portfolio companies are successful in completing an IPO, there is no assurance that they will be able to achieve their projected revenue and earnings targets or effectively maintain their status as public reporting companies.  In such cases, there may be little or no demand for the securities of our portfolio companies in the public markets, we may have difficulty selling of our investments, and the value of our investments may decline substantially.

We are also typically prohibited from exiting investments in our publicly traded portfolio company until the expiration of the customary post-IPO lockup agreement.  These agreements, which we are required to enter into as part of our initial investment, prohibit us and other significant existing investors from selling stock in the portfolio company or hedging such securities during the customary 180 days following an IPO.  The market prices of our portfolio companies that have recently completed an IPO typically experience high volatility driven by such factors as overall market conditions, the industry conditions for the particular sector in which the portfolio company operates, the portfolio company’s performance, the relative size of the public float, and the potential selling activities of other pre-IPO investors and possibly management.  Following the post-IPO lockup period, significant sales by other selling stockholders may result in a decrease in trading price, particularly if the stock has low trading volumes, which could result in significant market price volatility and a decline in the value of our investment.  In such cases, the value of our investments may decline substantially or we may be forced to hold our positions for longer than we anticipated, or both.  As a result, there can be no assurance that we will be able to achieve our targeted return on our portfolio company investments if and when they go public.

We may not succeed in negotiating structural protections for our investments, and cannot assure you that we will realize gains from structural protections in our investments.

As part of our investment strategy, our investment adviser may attempt to negotiate structural protections that are expected to provide for an enhanced return upon an IPO event or otherwise enhance our ability to meet our targeted return on our portfolio company investments.  Such structural protections may include conversion rights which would result in us receiving shares of common stock at a discount to the IPO price upon conversion at the time of the IPO, or warrants that would result in us receiving additional shares for a nominal exercise price at the time of an IPO.  At the time of initial investment, we had negotiated some form of structural protection in 11 of our 21 total portfolio company investments made through December 31, 2013. Of our investments in 15 private portfolio companies as of December 31, 2013, we continue to have some structural protection with respect to investments in five of these portfolio companies.  However, there can be no assurance that the structural protection in these five investments will remain intact or will not be compromised by either a pending subsequent financing or sale/merger transaction, or other considerations.

There can be no assurance that our investment adviser will succeed in negotiating structural protections for our future investments.  Even if it succeeds in obtaining such protections, our ability to realize the potential value associated with these structural protections will depend on a number of factors including the completion of the IPO, any adjustment to the terms of the structural protection that may be negotiated during the IPO process, and the possible subsequent issuance of more senior securities that may impact the relative value of our investment.  Further, even if an IPO is completed, we would not realize the potential value associated with these structural protections unless the market price of the portfolio company’s common shares equaled or exceeded the IPO price at the time such shares were sold following the lockup period.  Further, our ability to realize the potential value associated with any structural protections at the time of a sale/merger or liquidation of a portfolio company will depend on a number of factors including the completion of a sale/merger or liquidation, the realization of sale/merger or liquidation proceeds (after payment of liabilities) sufficient to pay our senior preference amount, any adjustment to our preference amount that may be negotiated prior to any sale/merger or liquidation, and the possible subsequent issuance of more senior securities that may make our preference rights subordinate to the preference rights of senior security holders.  As a result, there can be no assurance that we will be able to realize the potential value of these structural protections even if we are able to obtain them.
 
 
26

 
 
Because our investments are generally not in publicly traded securities, there will be uncertainty regarding the value of our investments, which could adversely affect the determination of our net asset value.

Our portfolio investments will generally not be in publicly traded securities and, as a result, the fair value of our investments in portfolio companies will often not be readily determinable.  At December 31, 2013, portfolio investments, which were valued at fair value by our Board of Directors, were approximately 77.4% of our gross assets.  We expect our investments to continue to consist primarily of securities issued by privately-held companies, the fair value of which is not readily determinable, and the percentage of assets which will be valued at fair value by our Board of Directors is expected to increase as we continue to make additional investments in private portfolio companies.  To the extent our Board of Directors has determined that an investment has increased in fair value, we record an increase in unrealized appreciation for that investment and, conversely, to the extent our Board of Directors has determined that an investment has decreased in fair value, we record a decrease in unrealized appreciation for that investment.

The 1940 Act requires us to value each portfolio investment on a quarterly basis to determine our net asset value.  Under the 1940 Act, unrestricted securities with readily available market quotations in an active market are valued at the closing market price on the valuation date; all other assets are valued at fair value as determined in good faith by our Board of Directors based upon the recommendation of the Board of Director’s Valuation Committee in accordance with our written valuation policies.  In connection with that determination, members of our investment adviser’s portfolio management team will prepare portfolio company valuations using the most recently available portfolio company financial statements and forecasts.  The Valuation Committee may utilize the services of one or more independent valuation firms to conduct a valuation review of our portfolio company investment investments that are not publicly traded.  However, our Board of Directors will retain ultimate authority as to the appropriate valuation of each such investment.

We typically obtain financial and other information with respect to private companies directly from our prospective portfolio companies during our due diligence process or from available public sources.  We also generally have agreements with our portfolio companies to receive financial and other information with respect to private companies on a quarterly basis.  However, for our quarterly fair value determinations, we typically will only have access to a portfolio company’s actual financial results as of and for the quarter end which precedes the quarter end for which our fair value determination relates.  In addition, we typically only receive updated financial projections for a portfolio company on an annual basis.  Due to the inherent uncertainty in determining the fair value of investments that do not have a readily available market value, the fair value of our investments determined in good faith by our Board of Directors may differ significantly from the value that would have been used had a ready market existed for such investments, and the differences could be material. There can be no assurance that we will be able to realize the fair value that our Board has determined for our portfolio company investments upon our sale of such investments.  Our net asset value could be adversely affected if our determinations regarding the fair value of our investments were materially higher than the values that we ultimately realize upon the sale of such securities.

Because there is generally no established market in which to value our investments, our Board of Directors’ value determinations may differ materially from the values that a ready market or third party would attribute to these investments.

There is generally no public market for the private equity securities in which we invest.  Pursuant to the requirements of the 1940 Act, we value all of the privately held equity securities in our portfolio at fair value as determined in good faith by our Board of Directors.

The types of factors that the Valuation Committee may take into account in providing its fair value recommendation to our Board of Directors with respect to our private portfolio company investments may include, as relevant and to the extent available, the portfolio company’s most recently available historical and projected financial results, industry valuation benchmarks and public market comparables, and other factors.  The Valuation Committee may also consider other events, including the transaction in which we acquired our securities, subsequent equity sales by the portfolio company, mergers or acquisitions affecting the portfolio company, or the completion of an IPO by the portfolio company.  The Valuation Committee may also consider the trends of the portfolio company’s basic financial metrics from the time of our original investment until the valuation date, with material improvement of these metrics indicating a possible increase in fair value, while material deterioration of these metrics may indicate a possible reduction in fair value.  Determinations of fair value are highly fact-specific and involve subjective judgments and estimates.  After review of available information, the Valuation Committee may determine that it is appropriate to increase fair value, decrease fair value or to make no change to fair value.  The fair values of our portfolio company securities are generally discounted for lack of marketability or when the securities are illiquid, such as when there are restrictions on resale or the lack of an established trading market which will generally be the case for pre-IPO companies, as well as during any lockup period to which we are subject with respect to public companies in our portfolio. Due to the inherent uncertainty in determining the fair value of investments that do not have a readily available market value, the fair value of our investments determined in good faith by our Board of Directors may differ significantly from the value that would have been used had a ready market existed for such investments, and the differences could be material. Accordingly, there can be no assurance that we will be able to realize the fair value that our Board has determined for our portfolio company investments upon our sale of such investments.
 
 
27

 
 
Our portfolio may be focused in a limited number of portfolio companies or industry sectors, which will subject us to a risk of significant loss if the business or market position of these companies deteriorates or industry sectors experience a downturn.
 
A consequence of our limited number of investments is that the aggregate returns we realize may be significantly adversely affected if a small number of investments perform poorly or if we need to write down the value of any one investment.  Beyond our income tax asset diversification requirements, we do not have fixed guidelines for diversification, and our investments could be concentrated in relatively few issuers.  In addition, our investments may be concentrated in a limited number of industry sectors.  We make investments in later stage, typically venture capital-backed, private, pre-IPO technology companies.  As a result, a market downturn affecting one of our portfolio companies or industry sectors could materially adversely affect us.

We do not choose specific investments based on a strategy of industry diversification and do not intend to rebalance our portfolio if one of our portfolio company investments increases in value relative to the remaining portion of the portfolio.  As a result, our portfolio may be more vulnerable to events affecting a single industry sector or portfolio company and, therefore, subject to greater potential volatility than a company that follows a more diversified strategy.

Our investments in technology companies, including Internet and software companies and those in the energy and recycling sectors, are subject to many risks, including volatility, intense competition, unproven technologies, shortened product life cycles, periodic downturns, loss of government subsidies and incentives, regulatory concerns, and litigation risks.

We have invested and will continue investing in technology companies, many of which may have narrow product lines and small market shares, which tend to render them more vulnerable to competitors’ actions and market conditions, as well as to general economic downturns.  The revenues, income (or losses), and valuations of technology-related companies can and often do fluctuate suddenly and dramatically.  In addition, technology-related markets are generally characterized by abrupt business cycles and intense competition, where the leading companies in any particular category may hold a highly concentrated percentage of the overall market share.  Our investments in technology companies, including Internet and software companies and those in the energy and recycling sectors, are subject to substantial operational risks, such as underestimated capital cost and marketing projections, unanticipated operation and maintenance expenses, loss of government subsidies, inability to deliver cost-effective products and services, general economic downturns, abrupt business cycles, rapidly evolving and intense competition, increased regulatory scrutiny, potential litigation, changing technology, shifting user needs, and frequent introductions of new products and services.  These companies also face potential claims under both U.S. and foreign laws for defamation, invasion of privacy and other tort claims, unlawful activity, copyright, trademark and patent infringement, or other theories based on the nature and content of their products and services.  Therefore, our portfolio companies may face considerably more risk of loss than do companies in other industry sectors.

Because of rapid technological change, the selling prices of products and services provided by technology-related companies have historically decreased over their productive lives.  As a result, the selling prices of products and services offered by technology-related companies may decrease over time, which could adversely affect their operating results, their ability to meet obligations under their debt securities and the value of their equity securities.  This could, in turn, materially adversely affect the value of the technology-related companies in our portfolio.

Some of our portfolio companies are subject to complex regulation, and any compliance failures or regulatory action could materially adversely affect their business and reduce the value of our investments.

The businesses of some of our portfolio companies are subject to extensive, complex and continually changing federal and state laws and regulations and the regulations of foreign agencies.  If these companies fail to comply with any applicable law, rule or regulation, they could be subject to fines and penalties, indemnification claims by their customers, or become the subject of a regulatory agency enforcement action, each of which would materially adversely affect their business and reputation.
 
 
28

 
 
These companies may also become subject to additional regulatory and compliance requirements as a result of changes in laws or regulations, or as a result of any expansion or enhancement of existing products and services or any new products or services they may offer in the future.  Compliance with any new regulatory requirements may divert internal resources and take significant time and effort.  Their compliance processes may not be sufficient to prevent assertions that they failed to comply with any applicable law, rule or regulation.

Any claims of noncompliance brought against our portfolio companies, regardless of merit or ultimate outcome, could subject them to investigation by the Department of Labor, the Federal Trade Commission, Internal Revenue Service, the Treasury Department or other federal, state and foreign regulatory authorities, which could result in substantial costs to them and divert management’s attention and other resources away from their operations.  In addition, investor perceptions of the subject company may suffer and could cause a decline in the market price of their securities, reducing the value of our investments in them.

Our portfolio companies may issue additional securities or incur debt that ranks equal or senior to our investments in such companies and we may experience a complete loss on our equity investments in the event of a bankruptcy or liquidation of any of our portfolio companies.

We intend to invest primarily in equity securities issued by our portfolio companies.  The equity securities that we acquire directly from an issuer are typically the issuer’s most senior preferred stock at the time of our investment or, in cases where we acquire common shares, the issuer typically has only common stock outstanding.  The equity securities that we acquire directly from selling stockholders in private secondary transactions are typically common stock and may not represent the most senior equity securities of the issuer.  The portfolio companies may be permitted to issue additional securities or incur other debt that ranks equally with, or senior to, the equity securities in which we invest.  By their terms, such other securities (especially if they are debt securities) may provide that the holders are entitled to receive payment of interest or principal before we are entitled to receive any distribution from the portfolio companies.  Also, in the event of insolvency, liquidation, dissolution, reorganization, or bankruptcy of a portfolio company, holders of debt instruments would typically be entitled to receive payment in full before equity investors like us may receive any distribution in respect of our investment, and holders of more senior classes of preferred stock (if any are issued) would typically be entitled to receive full or partial payment in preference to any distribution to us.  After repaying such senior creditors or preferred stockholders, the portfolio company may not have any remaining assets to distribute to us, and we may experience a complete loss on our investment.

We may be limited in our ability to make follow-on investments, and our failure to make follow-on investments in our portfolio companies could impair the value of our portfolio.

Following an initial investment in a portfolio company, we may make additional investments in that portfolio company as “follow-on” investments, in order to: (i) increase or maintain in whole or in part our equity ownership percentage; (ii) exercise warrants, options or convertible securities that were acquired in the original or subsequent financing; or (iii) attempt to preserve or enhance the value of our investment.

We may elect not to make follow-on investments, or may otherwise lack sufficient funds to make those investments or lack access to desired follow-on investment opportunities.  We have the discretion to make any follow-on investments, subject to the availability of capital resources and of the investment opportunity.  Even if we have sufficient capital to make a desired follow-on investment, we may elect not to make a follow-on investment because we may not want to increase our concentration of risk, because we prefer other opportunities, or because we are inhibited by compliance with business development company requirements or the desire to maintain our tax status or lack access to the desired follow-on investment opportunity.  Our failure to make follow-on investments may, in some circumstances, jeopardize the continued viability of a portfolio company and our initial investment, or may result in a missed opportunity for us to increase our participation in a successful operation.

We may be required to make additional investments in our portfolio companies, from time to time, to fund their operations.  If we elect not to fund our pro rata share of these additional investments, there may be adverse consequences to our initial investment including the forced conversion of our preferred stock into common stock at an unfavorable conversion rate and the corresponding loss of any liquation preferences or other rights and privileges that may be applicable to the securities we currently hold.
 
 
29

 
 
Because we likely will not hold controlling equity interests in our portfolio companies, we may not be in a position to exercise control over such portfolio companies or to prevent decisions by management of such portfolio companies that could decrease the value of our investments.
 
We typically do not seek board seats, observation rights or other control features in our investments.  As a result, our equity investments will typically be non-control investments, meaning we will not be in a position to control the management, operation and strategic decision-making of the companies we invest in.  As a result, we will be subject to the risk that a portfolio company may make business decisions with which we disagree, and the stockholders and management of such a portfolio company may take risks or otherwise act in ways that are adverse to our interests.  In addition, other stockholders, such as venture capital and private equity sponsors that have substantial investments in our portfolio companies, may have interests that differ from that of the portfolio company or its minority stockholders, which may lead them to take actions that could materially and adversely affect the value of our investment in the portfolio company.  Due to the lack of liquidity for the equity and equity-related investments that we will typically hold in our portfolio companies, we may not be able to sell our investments in the event that we disagree with the actions of a portfolio company or its substantial stockholders, and may therefore suffer a decrease in the value of our investments.
 
As a business development company, we may not acquire any asset other than qualifying assets, as defined under the 1940 Act, unless at the time the acquisition is made such qualifying assets represent at least 70% of the value of our total assets.  If we do not invest a sufficient portion of our assets in qualifying assets, we could be precluded from investing in assets that we deem to be attractive.

As a business development company, we generally may not acquire any asset other than qualifying assets, as defined under the 1940 Act, unless at the time the acquisition is made qualifying assets represent at least 70% of the value of our total assets. Qualifying assets include investments in U.S. operating companies whose securities are not listed on a national securities exchange and companies listed on a national securities exchange subject to a market capitalization limit of $250 million.  Qualifying assets also include cash, cash equivalents, U.S. government securities and high quality debt securities maturing in one year or less from the time of investment.

We believe that most of our portfolio company investments will constitute qualifying assets.  However, we may be precluded from investing in what we believe are attractive investments if such investments are not qualifying assets for purposes of the 1940 Act.  If we do not invest a sufficient portion of our assets in qualifying assets, we will be prohibited from making any additional investment that is not a qualifying asset and could be forced to forgo attractive investment opportunities.  Similarly, these rules could prevent us from making follow-on investments in existing portfolio companies (which could result in the dilution of our position).

We may expose ourselves to risks if we engage in hedging transactions.

If we engage in hedging transactions, we may expose ourselves to risks associated with such transactions.  We may utilize instruments such as futures, options, forward contracts, caps, collars, floors and interest rate swaps to seek to hedge against fluctuations in the relative values of our portfolio positions from changes in market prices and interest rates.  Hedging against a decline in the values of our portfolio positions does not eliminate the possibility of fluctuations in the values of such positions or prevent losses if the values of such positions decline.  However, such hedging can establish other positions designed to gain from those same developments, thereby offsetting the decline in the value of such portfolio positions.  Such hedging transactions may also limit the opportunity for gain if the values of the underlying portfolio positions increase.  Moreover, for a variety of reasons, we may not be able to establish a perfect correlation between such hedging instruments and the portfolio holdings being hedged.  Any such imperfect correlation, or basis risk, may prevent us from achieving the intended hedge and expose us to risk of loss.

Any unrealized losses we experience on our portfolio may be an indication of future realized losses, which could reduce our net realized gains available for distribution.

As a business development company, we are required to carry our investments at market value or, if no market value is ascertainable, at the fair value as determined in good faith by our Board of Directors.  Decreases in the market values or fair values of our investments will be recorded as unrealized depreciation.  Any unrealized losses in our portfolio could be an indication of a portfolio company’s inability to meet its obligations to us with respect to the affected investments or to continue as a going concern.  This could result in realized losses in the future and ultimately in reductions of our net realized gains available for distribution in future periods.

Investments in foreign companies may involve significant risks in addition to the risks inherent in U.S. investments.

While we invest primarily in U.S. companies, we may invest on an opportunistic basis in certain non-U.S. companies, including those located in emerging markets, that otherwise meet our investment criteria, subject to the requirements of the 1940 Act.  Investing in foreign companies, and particularly those in emerging markets, may expose us to additional risks not typically associated with investing in U.S. issues.  These risks include changes in exchange control regulations, political and social instability, expropriation, imposition of foreign taxes, less liquid markets and less available information than is generally the case in the United States, higher transaction costs, less government supervision of exchanges, brokers and issuers, less developed bankruptcy laws, difficulty in enforcing contractual obligations, lack of uniform accounting and auditing standards and greater price volatility.  Further, we may have difficulty enforcing our rights as equity holders in foreign jurisdictions.  In addition, to the extent we invest in non-U.S. companies, we may face greater exposure to foreign economic developments.
 
 
30

 
 
Although we expect that most of our investments will be U.S. dollar-denominated, any investments denominated in a foreign currency will be subject to the risk that the value of a particular currency will change in relation to one or more other currencies.  Among the factors that may affect currency values are trade balances, the level of short-term interest rates, differences in relative values of similar assets in different currencies, long-term opportunities for investment and capital appreciation, and political developments.

We are a non-diversified investment company within the meaning of the 1940 Act, and therefore we generally are not limited with respect to the proportion of our assets that may be invested in securities of a single issuer.

We are classified as a non-diversified investment company within the meaning of the 1940 Act, which means that we are not limited by the 1940 Act with respect to the proportion of our assets that we may invest in securities of a single issuer, excluding limitations on investments in other investment companies.  To the extent that we assume large positions in the securities of a small number of issuers, our net asset value may fluctuate to a greater extent than that of a diversified investment company as a result of changes in the financial condition or the market’s assessment of the issuer.  We may also be more susceptible to any single economic or regulatory occurrence than a diversified investment company.  Beyond our income tax diversification requirements, we do not have fixed guidelines for diversification, and our investments could be concentrated in relatively few portfolio companies.

Risks Relating to Our Business and Structure

Any failure on our part to maintain our status as a business development company would reduce our operating flexibility.
 
We intend to continue to qualify as a business development company under the 1940 Act.  The 1940 Act imposes numerous constraints on the operations of business development companies.  For example, business development companies are required to invest at least 70% of their total assets primarily in securities of eligible portfolio companies, cash, cash equivalents, U.S. government securities and other high quality debt investments that mature in one year or less.  Furthermore, any failure to comply with the requirements imposed on business development companies by the 1940 Act could cause the SEC to bring an enforcement action against us and/or expose us to claims of private litigants.  Upon approval of a majority of our stockholders, we may elect to withdraw our status as a business development company.  If we decide to withdraw our election, or if we otherwise fail to qualify, or maintain our qualification, as a business development company, we might be regulated as a closed-end investment company under the 1940 Act, which would subject us to substantially more regulatory restrictions under the 1940 Act and correspondingly decrease our operating flexibility and increase our costs of doing business.

We are dependent upon Keating Investments’ principals, Timothy J. Keating, Kyle L. Rogers and Frederic M. Schweiger, for our future success.  If we lose any of our investment adviser’s principals, our ability to implement our business strategy could be significantly harmed.

We depend on the diligence, skill and network of business contacts of Keating Investments’ principals.  The principals, together with other investment professionals employed by Keating Investments, identify, evaluate, negotiate, structure, close, monitor and service our investments.  Our future success will depend to a significant extent on the continued service and coordination of Keating Investments’ principals, Timothy J. Keating, Kyle L. Rogers and Frederic M. Schweiger.  Keating Investments has established an Investment Committee that must unanimously approve each new portfolio company investment that we make. Messrs. Keating, Rogers and Schweiger are the current members of the Investment Committee.  However, as the managing member of Keating Investments, Mr. Keating has sole control over the appointment and removal of the members of the Investment Committee and neither we nor our Board of Directors has any direct participation on the selection of members to the Investment Committee.  None of Messrs. Keating, Rogers and Schweiger is subject to an employment contract, and none receive any compensation directly from us.  While Messrs. Keating, Rogers and Schweiger currently devote substantially all of their business time to our operations, we expect that one of more of them will have other demands on their time as a result of Keating Investments’ contemplated launch of other entities to which they intend to provide investment advisory services.  We do not carry key-man life insurance on the lives of Messrs. Keating, Rogers or Schweiger.  The departure of any of these principals could have a material adverse effect on our ability to achieve our investment objective.
 
 
31

 
 
None of Keating Investments’ principals or other investment professionals, including Timothy J. Keating, Kyle L. Rogers and Frederic M. Schweiger, are subject to employment agreements, and there can be no assurance that our investment adviser will be successful in retaining its principals or other investment professionals.
 
None of Keating Investments’ principals or other investment professionals, Timothy J. Keating, Kyle L. Rogers and Frederic M. Schweiger, are subject to employment agreements. As a result, although Messrs. Keating, Rogers and Schweiger comprise the principals of Keating Investments, they are free to terminate their employment with Keating Investments at any time. In addition, none of our investment adviser’s principals or other investment professionals, including Messrs. Keating, Rogers and Schweiger, are subject to any non-compete agreements that would restrict their ability to provide investment advisory services to an entity with an investment objective similar to our own in the event they were to terminate their employment with Keating Investments, or if Keating Investments were to no longer serve as our investment adviser. Currently, Messrs. Keating, Rogers and Schweiger devote substantially all of their business time to our operations.  However, we expect that one or more of Keating Investments’ principals and investment professionals may in the future have other demands on their time as a result of Keating Investments providing investment advisory services to other entities.  Further, our investment adviser, its principals, investment professionals and employees and the members of its Investment Committee may serve as investment advisers, officers, directors or principals of entities or investment funds that operate in the same or a related line of business as us and/or of investment funds managed by our affiliates.  There can be no assurance that our investment adviser will be successful in retaining its principals and other investment professionals, including Messrs. Keating, Rogers and Schweiger. The departure of any of Messrs. Keating, Rogers and Schweiger could have a material adverse effect on our ability to achieve our investment objective.

Our growth will require that Keating Investments retain and attract new investment and administrative personnel in a competitive market. Its ability to attract and retain personnel with the requisite credentials, experience and skills will depend on several factors including, but not limited to, its ability to offer competitive wages, benefits and professional growth opportunities. Many of the entities with which Keating Investments will compete for experienced personnel, including investment funds (such as private equity funds and mezzanine funds) and traditional financial services companies, will have greater resources than it.

Our financial condition and results of operations will depend on our ability to achieve our investment objective.
 
Since we have had only had limited sales of our investments, relating to interests in four portfolio company investments, as of December 31, 2013, we have limited financial information on which you can evaluate an investment in our company or the prior performance of us or our investment adviser.  As such, we are subject to the business risks and uncertainties associated with any new business enterprise.  Our ability to achieve our investment objective will depend on our investment adviser’s ability to identify, analyze and invest in companies that meet our investment criteria.  Accomplishing this result on a cost-effective basis is largely a function of our investment adviser’s proper structuring of the investment process and its ability to provide competent, attentive and efficient services to us.  We seek a specified number of investments in later stage, private pre-IPO companies, which may be extremely risky.  There can be no assurance that Keating Investments will be successful in identifying and investing in companies that meet our investment criteria, or that we will achieve our investment objective or be able to achieve our targeted return on our portfolio company investments if and when they go public.

Because the portfolio company securities that we acquire are typically illiquid until an IPO or sale/merger of the company, we generally cannot predict the regularity and time periods between sales of our portfolio company investments and the realizations of capital gains, if any, from such sales.  Sales of our portfolio company investments are discretionary and based on our investment adviser’s business judgment.  Since we do not expect to generate current income from our portfolio company investments, our annual operating expenses will be financed from our capital base during periods of time between realizations of capital gains on our investments.  In addition, if we are successful in selling a portfolio company investment, we intend to reinvest the principal amount of our investment in new portfolio company opportunities, with any gain that we may realize being distributed to our stockholders.  Consistent with applicable tax rules, our Board of Directors has determined that our distributions of net gains to our stockholders will be paid in cash or our common stock at the election of stockholders, subject to a limitation that no more than 25% of the aggregate distribution will be paid in cash with the remainder paid in shares of our common stock, which will allow us to retain cash to fund additional investments in portfolio companies.

Even if we are able to grow and build upon our investment operations, any failure to manage our growth effectively could have a material adverse effect on our business, financial condition, results of operations and prospects.  The results of our operations will depend on many factors, including the availability of opportunities for investment, our ability to access the capital markets to raise cash to fund additional investments once we are fully invested, and economic conditions.  Furthermore, if we cannot successfully operate our business or implement our investment policies and strategies as described herein, it could negatively impact our ability to pay distributions to our stockholders.

We may experience fluctuations in our periodic results, and if we fail to achieve our investment objective, the net asset value of our common stock may decline.
 
We could experience fluctuations in our periodic results due to a number of factors, some of which are beyond our control, including our ability to make investments in companies that meet our investment criteria, the level of our expenses (including the interest rates payable on our borrowings and the dividend rates on any preferred stock we may issue, to the extent applicable), variations in and the timing of the recognition of realized and gains or losses and unrealized appreciation and depreciation, the degree to which we encounter competition in our markets and general economic conditions.  Our periodic results will also be affected by the ability of our private portfolio companies to complete their IPOs in our targeted two-year time frame, the strength of the IPO market and the level of stock market volatility in general.  As a result of these factors, results for any period should not be relied upon as being indicative of performance in future periods.
 
 
32

 
 
Our business model depends upon the development and maintenance of strong referral relationships with venture capital firms and investment banks, and our direct outreach to private companies.
 
We are substantially dependent on our relationships with venture capital firms and investment banks, which we use to help identify and gain access to investment opportunities, and our outreach to private companies that meet our investment criteria.  If we fail to maintain our existing relationships, our relationships become strained as a result of enforcing our rights to protect our investments in certain portfolio companies, or we fail to develop new relationships with other firms or sources of investment opportunities, then we may not be able to grow our network of sources for new portfolio company investments and achieve our investment objective.  In addition, persons with whom our investment adviser has relationships are not obligated to inform us of investment opportunities, and therefore such relationships may not lead to the origination of equity investments.  Any loss or diminishment of such relationships could effectively reduce our ability to identify attractive portfolio companies that meet our investment criteria.

Our ability to grow will depend on our ability to raise capital, and a disruption in the capital markets or the credit markets could negatively affect our business.

As a business development company, we need the ability to raise additional capital for investment purposes on an ongoing basis.  Without sufficient access to the capital markets, we may be forced to curtail our business operations or we may not be able to pursue new investment opportunities.  An inability to raise equity capital or access debt financing could negatively affect our business, inhibit our ability to scale operations, and lead to an increase in our operating expenses as a percentage of our net assets.  Disruptive conditions in the financial industry and any new legislation in response to those conditions could restrict our business operations and could adversely impact our results of operations and financial condition.

We may borrow additional funds to make investments, to the extent we determine that additional capital would allow us to take advantage of additional investment opportunities, if the market for debt financing presents attractively priced debt financing opportunities, or if our Board of Directors determines that leveraging our portfolio would be in our best interests and the best interests of our stockholders.  We do not currently anticipate issuing any preferred stock, although we could do so if our Board of Directors determines that is was in our best interest and the best interests of our stockholders. The costs associated with any borrowing or preferred stock issuance will be indirectly borne by our common stockholders.

To the extent we do utilize leverage and the fair value of our assets declines substantially, we may fail to maintain the asset coverage ratios imposed upon us by the 1940 Act.  Any such failure would affect our ability to issue senior securities, including borrowings, and pay dividends, which could materially impair our business operations.  Our liquidity could be impaired further by an inability to access the capital markets.

We operate in a highly competitive market for investment opportunities.
 
A large number of entities compete with us to make the types of equity investments that we target as part of our business strategy.  We compete for such investments with a large number of venture capital funds, other equity and non-equity based investment funds, investment banks and other sources of financing, including traditional financial services companies such as commercial banks and specialty finance companies.  Many of our competitors are substantially larger than us and have considerably greater financial, technical and marketing resources than we do.  In addition, some of our competitors may have higher risk tolerances or different risk assessments, which could allow them to consider a wider variety of investments and establish more relationships than we can.  Furthermore, many of our competitors are not subject to the regulatory restrictions that the 1940 Act imposes on us as a business development company and, as a result, such companies may be more successful in completing their investments.  There can be no assurance that the competitive pressures we face will not have a material adverse effect on our business, financial condition, and results of operations.  Also, as a result of this competition, we may not be able to take advantage of attractive investment opportunities from time to time, and we can offer no assurance that we will be able to identify and make investments that are consistent with our investment objective.
 
 
33

 
 
The incentive fee may induce Keating Investments, our investment adviser, to make speculative investments or incur leverage.
 
The incentive fee payable by us to Keating Investments may create an incentive for Keating Investments to make investments on our behalf that are risky or more speculative than would be the case in the absence of such compensation arrangement.  The way in which the incentive fee payable to Keating Investments is determined, which is calculated as a percentage of the return on invested capital, may encourage Keating Investments to use leverage to increase the return on our investments.  In addition, the fact that our base management fee is payable based upon our gross assets, which would include any borrowings for investment purposes, may encourage Keating Investments to seek to use leverage to make additional investments.  We will be required, however, to obtain the approval of our Board of Directors before we incur any indebtedness.  Under certain circumstances, the use of leverage may increase the likelihood of default, which would disfavor holders of our common stock.  Such a practice could result in our investing in more speculative securities than would otherwise be the case, which could result in higher investment losses, particularly during cyclical economic downturns.

In addition, our investment adviser has control over the timing of the acquisition and sale of our investments, and therefore over when we realize gains and losses on our investments.  As a result, our investment adviser may face a conflict of interest in determining when it is appropriate to sell a specific investment, to the extent that doing so may serve to maximize its incentive fee at a point where selling such investment may not necessarily be in the best interests of our stockholders.  Our Board of Directors monitors such conflicts of interest in connection with its review of the performance of our investment adviser under our Investment Advisory and Administrative Services Agreement, as well as during its quarterly review of our financial performance and results of operations.

We may borrow money, which would magnify the potential for gain or loss on amounts invested and may increase the risk of investing in us.

Borrowings, also known as leverage, magnify the potential for gain or loss on amounts invested and, therefore, increase the risks associated with investing in our securities.  We may borrow funds to finance the purchase of our investments in portfolio companies, to the extent we determine that additional capital would allow us to take advantage of additional investment opportunities, if the market for debt financing presents attractively priced debt financing opportunities, or if our Board of Directors determines that leveraging our portfolio would be in our best interests and the best interests of our stockholders.  The costs associated with any borrowing will be indirectly borne by our common stockholders.  If we do incur leverage, we may borrow from and issue senior debt securities to banks, insurance companies and other lenders.  Lenders of such senior securities would have fixed dollar claims on our assets that are superior to the claims of our common stockholders.  If the value of our assets increases, then 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.  Leverage is generally considered a speculative investment technique.  Our ability to service any debt that we incur will depend largely on our financial performance and will be subject to prevailing economic conditions and competitive pressures.  Moreover, as the management fee payable to Keating Investments will be payable on our gross assets, including those assets acquired through the use of leverage, Keating Investments may have a financial incentive to incur leverage which may not be consistent with the interests of our stockholders.  To the extent we use debt to finance our investments, changes in interest rates will affect our cost of capital and increase our net investment loss.  In addition, our common stockholders will bear the burden of any increase in our expenses as a result of leverage, including any increase in the management fee payable to Keating Investments.
 
 Our use of borrowed funds to make investments may expose us to risks typically associated with leverage.

We may borrow funds to finance the purchase of our investments in portfolio companies, to the extent we determine that additional capital would allow us to take advantage of additional investment opportunities, if the market for debt financing presents attractively priced debt financing opportunities, or if our Board of Directors determines that leveraging our portfolio would be in our best interests and the best interests of our stockholders. To the extent we do utilize leverage:
 
 
a decrease in the value of our investments would have a greater negative impact on the value of our common shares than if we did not use leverage, therefore, shares of our common stock are exposed to incremental risk of loss;
     
 
adverse changes in interest rates could reduce or eliminate the incremental income we make with the proceeds of any leverage;
 
 
34

 
 
 
our ability to pay dividends on our common stock will be restricted if our asset coverage ratio is not at least 200% and any amounts used to service indebtedness may not be available for such dividends;
     
 
such indebtedness would be governed by an indenture or other instrument containing covenants restricting our operating flexibility;
     
 
we, and indirectly our stockholders, would bear the cost of issuing and paying interest on such debt securities; and
     
 
any convertible or exchangeable securities that we issue may have rights, preferences and privileges more favorable than those of our common stock.
 
Our base management fee may induce our investment adviser to incur leverage.

Our base management fee is calculated on the basis of our total assets, including assets acquired with the proceeds of leverage.  We may borrow additional funds to make investments, to the extent we determine that additional capital would allow us to take advantage of additional investment opportunities, if the market for debt financing presents attractively priced debt financing opportunities, or if our Board of Directors determines that leveraging our portfolio would be in our best interests and the best interests of our stockholders.  Our investment adviser may be encouraged to use leverage to increase the aggregate amount of and the return on our investments, even when it may not be appropriate to do so, and to refrain from delevering when it would otherwise be appropriate to do so.  Under certain circumstances, the use of increased leverage may increase the likelihood of default, which would impair the value of our common stock.  Given the subjective nature of the investment decisions made by our investment adviser on our behalf, we will not be able to monitor this conflict of interest.

There are significant potential conflicts of interest, which could impact our investment returns and limit the flexibility of our investment policies.
 
We have entered into an Investment Advisory and Administrative Services Agreement with Keating Investments.  Keating Investments is controlled by Timothy J. Keating, who is the Chairman of our Board of Directors and our Chief Executive Officer, Kyle L. Rogers, who is our Chief Investment Officer, and Frederic M. Schweiger, who is our Chief Financial Officer, Chief Operating Officer, Chief Compliance Officer, Treasurer and Secretary and a member of our Board of Directors.  Messrs. Keating, Rogers and Schweiger, as principals of Keating Investments, collectively manage the business and internal affairs of Keating Investments.  In addition, Keating Investments provides us with office facilities and administrative services pursuant to an Investment Advisory and Administrative Services Agreement, without any profit to Keating Investments.  Mr. Keating is the Managing Member of and controls Keating Investments.

In addition, our executive officers and directors, and the principals of our investment adviser, may serve as officers, directors or principals of other entities or investment funds that operate in a line of business similar to our own.  Accordingly, if this occurs, they will have obligations to investors in those entities, the fulfillment of which might not be in the best interests of us or our stockholders.

While we expect that the investment focus of each of these other entities will tend to be different from our investment objective, it is possible that new investment opportunities that meet our investment objective may come to the attention of one of these entities in connection with another investment advisory client or program, and, if so, such opportunity might not be offered, or otherwise made available, to us.  However, our executive officers, directors and investment adviser intend to treat us in a fair and equitable manner consistent with their applicable duties under law so that we will not be disadvantaged in relation to any other particular client.  In addition, Keating Investments does not anticipate that it will ordinarily identify investment opportunities that are appropriate for both Keating Capital and the other funds that in the future may be managed by Keating Investments.  However, to the extent it does identify such opportunities, Keating Investments will establish a procedure to ensure that such opportunities are allocated between Keating Capital and such other funds in a fair and equitable manner.  Our Board of Directors will monitor on a quarterly basis any such allocation of investment opportunities between Keating Capital and any such other funds.

We pay Keating Investments 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 a portion of the rent and the compensation of our Chief Financial Officer and Chief Compliance Officer, and their respective staff, which creates conflicts of interest that our Board of Directors must monitor.

Finally, we also entered into a license agreement with our investment adviser, pursuant to which our investment adviser granted us a non-exclusive license to use the name “Keating.”  Under the license agreement, we have the right to use the “Keating” name and logo for so long as Keating Investments or one of its affiliates remains our investment adviser.
 
 
35

 
 
Our investment adviser and its affiliates, officers and employees have certain conflicts of interest.

Our investment adviser, its principals, investment professionals and employees and the members of its Investment Committee serve or may serve as investment advisers, officers, directors or principals of entities or investment funds that operate in the same or a related line of business as us and/or of investment funds managed by our affiliates.  Accordingly, these individuals may have obligations to investors in those entities or funds, the fulfillment of which might not be in our best interests or the best interests of our stockholders.  In addition, we note that any affiliated investment vehicle currently formed or formed in the future and managed by the adviser or its affiliates may have overlapping investment objectives with our own and, accordingly, may invest in asset classes similar to those targeted by us.  As a result, our investment adviser and/or its affiliates may face conflicts in allocating investment opportunities between us and such other entities.  Although our investment adviser and its affiliates will endeavor to allocate investment opportunities in a fair and equitable manner and consistent with applicable allocation procedures, it is possible that, in the future, we may not be given the opportunity to participate in investments made by investment funds managed by our investment adviser or its affiliates.  In any such case, if our investment adviser forms other affiliates in the future, we may co-invest on a concurrent basis with such other affiliates, subject to compliance with applicable regulations and regulatory guidance, as well as applicable allocation procedures.  In certain circumstances, negotiated co-investments may be made only if we receive an order from the SEC permitting us to do so.  There can be no assurance when any such order would be obtained or that one will be obtained at all.

Our investment adviser can resign on 120 days’ notice and we may be unable to find a suitable replacement within that time, resulting in a disruption in our operations that could adversely affect our financial condition, business and results of operations.
 
Our investment adviser has the right, under our current Investment Advisory and Administrative Services Agreement, to resign at any time upon not less than 120 days’ written notice, whether we have found a replacement or not.  If our investment adviser resigns, we may not be able to find a new investment adviser or hire internal management with similar expertise and ability to provide the same or equivalent services on acceptable terms within 120 days, or at all.  If we are unable to do so quickly, our operations are likely to experience a disruption, our financial condition, business and results of operations as well as our ability to pay distributions are likely to be adversely affected and the market price of our shares may decline.  In addition, the coordination of our internal management and investment activities is likely to suffer if we are unable to identify and reach an agreement with a single institution or group of executives having the expertise possessed by our investment adviser and its affiliates.  Even if we were able to retain comparable management, whether internal or external, the integration of such management and their lack of familiarity with our investment objective might result in additional costs and time delays that could adversely affect our financial condition, business and results of operations.

Operating under the constraints imposed on us as a business development company and a regulated investment company may hinder the achievement of our investment objectives.

The 1940 Act imposes numerous constraints on the operations of business development companies.  For example, business development companies are required to invest at least 70% of their total assets primarily in securities of U.S.-based private companies or public companies with market capitalizations of less than $250 million, cash, cash equivalents, U.S. government securities and other high quality debt instruments that mature in one year or less.  In addition, qualification for taxation as a regulated investment company, or RIC, requires satisfaction of source-of-income, diversification and distribution requirements.  These constraints, among others, may hinder Keating Investments’ ability to take advantage of attractive investment opportunities and to achieve our investment objective.

Regulations governing our operation as a business development company affect our ability to and the way in which we raise additional capital, which may expose us to risks, including the typical risks associated with leverage if we borrow funds to make additional investments.
 
We may borrow funds or issue senior securities, including preferred stock, to finance the purchase of our investments in portfolio companies, to the extent we determine that additional capital would allow us to take advantage of additional investment opportunities, if the market for debt financing presents attractively priced debt financing opportunities, or if our Board of Directors determines that leveraging our portfolio would be in our best interests and the best interests of our stockholders.  We do not currently anticipate issuing any preferred stock, although we could do so if our Board of Directors determines that is was in our best interest and the best interests of our stockholders.   We may issue debt securities or preferred stock and/or borrow money from banks or other financial institutions, which we refer to collectively as “senior securities,” up to the maximum amount permitted by the 1940 Act. Our Board of Directors is required under the 1940 Act to approve any issuance of senior securities.  Under the provisions of the 1940 Act, we will be permitted, as a business development company, to issue senior securities in amounts such that our asset coverage ratio, as defined in the 1940 Act, equals at least 200% of gross assets less all liabilities and indebtedness not represented by senior securities, after each issuance of senior securities. If the value of our assets declines, we may be unable to satisfy this test. If that were to happen, we might be required to sell a portion of our investments and, depending on the nature of our leverage, repay a portion of our indebtedness at a time when such sales may be disadvantageous. Furthermore, any amounts that we use to service our indebtedness would not be available for distributions to our common stockholders.
 
 
36

 
 
If in the future we issue debt or preferred stock, all of the costs of offering and servicing such debt or preferred stock, including interest or preferential dividend payments thereon, will be borne by our common stockholders. The interests of the holders of any debt or preferred stock we may issue will not necessarily be aligned with the interests of our common stockholders. In particular, the rights of holders of our debt or preferred stock to receive interest, dividends or principal repayment will be senior to those of our common stockholders. Also, in the event we were to issue preferred stock, the holders of such preferred stock may have the ability to elect two members of our Board of Directors. In addition, we may grant a lender a security interest in a significant portion or all of our assets, even if the total amount we may borrow from such lender is less than the amount of such lender’s security interest in our assets. In no event, however, will any lender to us have any veto power over, or any vote with respect to, any change in our, or approval of any new, investment objective or investment policies or strategies.

If our common stock trades below its net asset value per share, our ability to raise additional equity capital will be adversely affected, and any offering of our common stock at a price below net asset value will result in immediate dilution to existing stockholders upon the closing of any such offering.

Except for a rights offering, we are not generally able to issue and sell our common stock at a price below net asset value per share.  We may, however, sell our common stock, or warrants, options or rights to acquire our common stock, at a price below the then-current net asset value of our common stock if our Board of Directors determines that such sale is in our best interest and the best interest of our stockholders, and our stockholders approve such sale.  Since the listing of our common stock on Nasdaq on December 12, 2011, our shares have typically traded at a discount to our net asset value per share.  If our common stock persistently trades below net asset value, the prospect of dilution to our existing stockholders may result in it being unattractive to raise new equity, which may limit our ability to grow.  If our Board of Directors determines that a sale of common stock at a price below the current net asset value is in the best interests of the Company and our stockholders, our Board may consider a rights offering or it may seek approval from our stockholders for the authority to sell shares of our common stock below net asset value.  The risk of trading below net asset value is separate and distinct from the risk that our net asset value per share may decline.

If we were to issue shares at a price below net asset value, such sales would result in an immediate dilution to existing common stockholders, which would include a reduction in the net asset value per share as a result of the issuance. This dilution would also include a proportionately greater decrease in a stockholder’s interest in our earnings and assets and voting interest in us than the increase in our assets resulting from such issuance.

In addition, if we were to conduct additional offerings in the future there may be even greater discounts if we determine to conduct such offerings at prices below net asset value.  As a result, existing stockholders would experience further dilution and additional discounts to the price of our common stock.  Because the number of shares of common stock that could be so issued and the timing of any issuance is not currently known, the actual dilutive effect of any such offerings cannot be predicted.

We will be subject to corporate-level income tax if we are unable to qualify as a regulated investment company, or RIC.

Effective January 1, 2010, we elected to be treated for tax purposes as a regulated investment company, or RIC, under the Code.  We intend to operate so as to qualify as a RIC in future taxable years, however, no assurance can be given that we will be able to continue to qualify for and maintain RIC status in future years.  In order to qualify for the special treatment accorded to a RIC, we must meet certain income source, asset diversification and annual distribution requirements.  In order to satisfy the income source requirement, we must derive in each taxable year at least 90% of our gross income from dividends, interest, payments with respect to certain securities loans, gains from the sale of stock or other securities or foreign currencies, income from “qualified publicly traded partnerships” or other income derived with respect to our business of investing in such stock or securities.  To qualify as a RIC, we must also meet certain asset diversification requirements at the end of each quarter of our taxable year.  Failure to meet these tests may result in our having to sell certain investments quickly in order to prevent the loss of RIC status.  Because most of our investments will be in private companies, any such sales could be made at disadvantageous prices and may result in substantial losses.  In order to satisfy the annual distribution requirement for a RIC, we must distribute at least 90% of our investment company taxable income (which is generally our net ordinary income plus the excess, if any, of realized net short-term capital gains over realized net long-term capital losses), if any, to our stockholders on at least an annual basis.  In the event we borrow funds or issue senior securities, we may 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 annual distribution requirement.  If we are unable to obtain cash from other sources, we may fail to qualify for special tax treatment as a RIC and, thus, may be subject to corporate-level income tax on all our income.  If we fail to qualify as a RIC for any reason and remain or become subject to corporate income tax, the resulting corporate-level federal taxes could substantially reduce our net assets, the amount of income available for distribution, and the amount of our distributions.  Such a failure would have a material adverse effect on us and our stockholders.
 
 
37

 
 
We may have difficulty paying our required distributions if we recognize income before or without receiving cash representing such income, such as payment-in-kind interest on certain debt investments.

Although we focus on achieving capital gains from our equity investments, in certain limited cases we may receive current income, either through interest or dividend payments, on our investments.  While our preferred stock investments typically carry a dividend rate, in some cases with a payment preference over other classes of equity, we do not expect dividends (whether cumulative or non-cumulative) to be declared and paid on our preferred stock investments, or on our common stock investments, since our portfolio companies typically prefer to retain profits, if any, in their businesses.  In the event that dividends are declared and paid on our preferred stock investments, it is possible that such preferred dividends may be paid in the form of preferred or common shares of the portfolio company.  In addition, if we acquire debt obligations with payment-in-kind (“PIK”) provisions, under applicable tax rules, we must include in income each year a portion of the PIK interest earned in that year.  Because PIK interest will be included in our investment company taxable income in the year it is earned, we may be required to make a distribution to our stockholders in order to satisfy the Annual Distribution Requirement, even though we may not have received any corresponding cash amount.  As a result, we may have difficulty meeting the annual distribution requirement necessary to maintain our qualification for RIC tax treatment under the Code.  We may have to sell some of our investments at times and/or at prices we would not consider advantageous, raise additional debt or equity capital or forgo new investment opportunities for this purpose.  If we are not able to obtain cash from other sources, we may fail to continue to qualify for RIC tax treatment and thus become subject to corporate-level income tax.  However, since we do not expect to have investment company taxable income for our taxable year, we would generally not be required to distribute PIK interest from our available cash or the proceeds from the sale of our portfolio company investments to satisfy the annual distribution requirement.

Even in the event the value of your investment declines, the base management fee will still be payable.
 
The annual base management fee is calculated as 2% of the value of our gross assets, which we pay monthly in arrears.  The base management fee is payable regardless of whether the value of our gross assets or your investment declines.  As a result, we may owe Keating Investments a base management fee regardless of whether we incurred significant realized capital losses and unrealized capital depreciation (losses) during the period for which the base management fee is paid.
 
We incur significant costs as a result of being a public company.

As a public company, we incur legal, accounting and other expenses, including costs associated with the periodic reporting requirements applicable to a company whose securities are registered under the Exchange Act, as well as additional corporate governance requirements, including requirements under the Sarbanes-Oxley Act, and other rules implemented by the SEC.
 
Our Board of Directors is authorized to reclassify any unissued shares of our stock into one or more classes of preferred stock, which could convey special rights and privileges to its owners.

Our charter permits our Board of Directors to reclassify any authorized but unissued shares of stock into one or more classes of preferred stock.  Our Board of Directors will generally have broad discretion over the size and timing of any such reclassification, subject to a finding that the reclassification and issuance of such preferred stock is in the best interests of Keating Capital and our existing common stockholders.  Any issuance of preferred stock would be subject to certain limitations imposed under the 1940 Act, including the requirement that such preferred stock have equal voting rights with our outstanding common stock.  We are authorized to issue up to 200,000,000 shares of common stock and, as of December 31, 2013, we had 9,548,902 shares of common stock issued and outstanding, including our issuance of 713,562 shares of common stock in our rights offering which was completed on December 17, 2013.  In the event our Board of Directors opts to reclassify a portion of our unissued shares of common stock into a class of preferred stock, those preferred shares would have a preference over our common stock with respect to dividends and liquidation.  The cost of any such reclassification would be borne by our existing common stockholders.  In addition, the 1940 Act provides that holders of preferred stock are entitled to vote separately from holders of common stock to elect two directors.  As a result, our preferred stockholders would have the ability to reject a director that would otherwise be elected by our common stockholders.  In addition, while Maryland law generally requires directors to act in the best interests of all of a corporation’s stockholders, there can be no assurance that a director elected by our preferred stockholders would not chose to act in a manner that tends to favors our preferred stockholders, particularly where there was a conflict between the interests of our preferred stockholders and our common stockholders.  The class voting rights of any preferred shares we may issue could make it more difficult for us to take some actions that may, in the future, be proposed by the Board of Directors and/or the holders of our common stock, such as a merger, exchange of securities, liquidation, or alteration of the rights of a class of our securities, if these actions were perceived by the holders of preferred shares as not in their best interests.  The issuance of preferred shares convertible into shares of common stock might also reduce the net income and net asset value per share of our common stock upon conversion.  These effects, among others, could have an adverse effect on your investment in our common stock.
 
 
38

 
 
Our Board of Directors may change our investment objective, operating policies and strategies without prior notice or stockholder approval, the effects of which may be adverse.
 
Our Board of Directors has the authority to modify or waive certain of our investment objective, current operating policies, investment criteria and strategies without prior notice and without stockholder approval (except as required by the 1940 Act).  We cannot predict the effect any changes to our investment objective, current operating policies, investment criteria and strategies would have on our business, net asset value, operating results and value of our stock.  However, the effects might be adverse, which could negatively impact our ability to pay you distributions and cause you to lose all or part of your investment.
 
Provisions of the Maryland General Corporation Law and of our charter and bylaws could deter takeover attempts and have an adverse impact on the price of our common stock.
 
Our charter and bylaws, as well as certain statutory and regulatory requirements, contain certain provisions that may have the effect of discouraging a third party from making an acquisition proposal for us.  Our bylaws contain a provision exempting any and all acquisitions by any person of our shares of stock from the Control Share Act under the Maryland General Corporation Law.  If our Board of Directors does not otherwise approve a business combination, the Control Share Act (if we amend our bylaws to be subject to that Act) may discourage others from trying to acquire control of us and increase the difficulty of consummating any offer.  Although our bylaws include such a provision, such a provision may also be amended or eliminated by our Board of Directors at any time in the future, provided that we will notify the Division of Investment Management at the SEC prior to amending or eliminating this provision.  However, the SEC has recently taken the position that the Control Share Act is inconsistent with the 1940 Act and may not be invoked by a BDC.  It is the view of the staff of the SEC that opting into the Control Share Act would be acting in a manner inconsistent with section 18(i) of the 1940 Act.  Additionally, under our charter, our Board of Directors may, without stockholder action, authorize the issuance of shares of stock in one or more classes or series, including preferred stock; and our Board of Directors may, without stockholder action, amend our charter to increase the number of shares of stock of any class or series that we have authority to issue.  These antitakeover provisions may inhibit a change of control in circumstances that could give the holders of our common stock the opportunity to realize a premium over the market price for our common stock.

Risks Related to Our Common Stock
 
Investing in shares of our common stock is highly speculative and an investor could lose all or some of the amount invested.

We are focused on capital appreciation and growth, which we seek to achieve through investments in the equity securities of later stage, private, pre-IPO companies.  By design, our fund has been structured as a high risk/high return investment vehicle.  Our investment objective and strategies result in a high degree of risk in our investments and may result in losses in the value of our investment portfolio.  Our investments in portfolio companies are highly speculative and, therefore, an investor in our common stock may lose his entire investment.  Write-downs of securities of our privately held companies will always be a by-product and risk of our business, and there can be no assurance that we will be able to achieve our targeted return on our portfolio company investments if, as and when they go public.  An investment in our common stock would not be suitable for investors with lower risk tolerance.

Our common stock price may be volatile and may decrease substantially.

Since shares of our common stock were listed on the Nasdaq Capital Market beginning December 12, 2011, the trading price of our common stock has fluctuated substantially.  We expect that the trading price of our common stock will continue to fluctuate substantially.  The price of our common stock in the market on any particular day depends on many factors, some of which are beyond our control and may not be directly related to our operating performance.  These factors include, but are not limited to, the following:
 
 
price and volume fluctuations in the overall stock market from time to time;
     
 
investor demand for our shares;
     
 
significant volatility in the market price and trading volume of securities of regulated investment companies, business development companies or other financial services companies;
 
 
39

 
 
 
changes in regulatory policies or tax guidelines with respect to regulated investment companies or business development companies;
     
 
failure to qualify as a RIC for a particular taxable year, or the loss of RIC status;
     
 
actual or anticipated changes in our earnings, fluctuations in our operating results and net asset  value, or changes in the expectations of securities analysts;
     
 
general economic conditions and trends;
     
 
fluctuations in the valuation of our portfolio investments;
     
 
public perception of the value of our portfolio companies;
     
 
operating performance of companies comparable to us;
     
 
market sentiment in the technology sector in which we invest; or
     
 
departures of any of the principals or other investment professionals of Keating Investments.
 
If we are unable to increase the institutional ownership of our stock and the number of analysts covering our stock, the trading volume of our stock is likely to remain low which could, in turn, increase the volatility of our stock price.

In the past, following periods of volatility in the market price of a company’s securities, securities class action litigation has often been brought against that company.  Due to the potential volatility of our stock price, we may therefore be the target of securities litigation in the future.  Securities litigation could result in substantial costs and divert management’s attention and resources from our business.

Our shares might trade at premiums that are unsustainable or at discounts from net asset value, and since the listing of our common stock on Nasdaq on December 12, 2011, our shares have typically traded at a discount to our net asset value per share.

Shares of closed-end funds, including business development companies like us, may, during some periods, trade at prices higher than their net asset value per share and, during other periods, as frequently occurs with closed-end investment companies, trade at prices lower than their net asset value per share.  The perceived value of our investment portfolio may be affected by a number of factors including perceived prospects for individual companies we invest in, market conditions for common stock investments generally, for initial public offerings and other exit events for venture capital-backed companies, and the mix of companies in our investment portfolio over time.  Because accurate financial and other data on our portfolio companies may be limited and not publicly disseminated, the public perception of their value may be unduly influenced by trading levels on secondary marketplaces, speculation about their prospects, market conditions, uninformed investor sentiment or other factors.  Negative or unforeseen developments affecting the perceived value of companies in our investment portfolio could result in a decline in the trading price of our common stock relative to our net asset value per share.  We cannot ever predict whether shares of our common stock will trade above, at or below our net asset value.

The possibility that our shares will trade at a discount from net asset value or at premiums that are unsustainable are risks separate and distinct from the risk that our net asset value per share will decrease.  The risk of purchasing shares of a business development company that might trade at a discount or unsustainable premium is more pronounced for investors who wish to sell their shares in a relatively short period of time because, for those investors, realization of a gain or loss on their investments is likely to be more dependent upon changes in premium or discount levels than upon increases or decreases in net asset value per share.

There is a risk that you may not receive dividends or that our dividends may not grow over time or may be reduced over time, particularly since we invest primarily in securities that do not produce current income, and any dividends we do pay are expected to vary significantly from year-to-year based on our actual and estimated net capital gains.

We cannot assure you that we will achieve investment results or maintain a tax status that will allow or require any specified level of distributions or year-to-year increases in distributions.  On February 20, 2014, our Board of Directors adopted a quarterly distribution policy where we intend to pay regular quarterly distributions to our stockholders based on our estimated net capital gains (which are defined as our realized capital gains in excess of realized capital losses during the year, without regard to the long-term or short-term character of such gains or losses) for the year.  Since our portfolio company investments typically do not generate current income (i.e., dividends or interest income), we do not expect the quarterly distributions to represent earnings from net investment income, which makes us different from other business development companies that primarily make debt investments and may pay dividends from their recurring interest income.
 
 
40

 
 
Under our quarterly distribution policy, we seek to maintain a consistent distribution level that may be paid in part or in full from net capital gains or a return of capital, or a combination thereof.  If our actual net capital gains are less than the total amount of our regular quarterly distributions for the year, the difference will be distributed from our capital and will constitute a return of capital to our stockholders.  Alternatively, if our actual net capital gains exceed the total amount of our regular quarterly distributions for a given year, our Board of Directors currently intends to adjust or make an additional distribution in December of each year so that our total distributions for any given year represent 100% of our actual net capital gains in that year.  A return of capital is generally not taxable and, instead, reduces a stockholder's tax basis in his shares of Keating Capital.  A return of capital does also not necessarily reflect our investment performance and generally does not reflect income earned. The tax character of a distribution is determined based upon our total net capital gains and distributions made with respect to a taxable year and, therefore, cannot be finally determined until after the close of the relevant taxable year.

Due to the uncertainty of our portfolio companies achieving a liquidity event through either an IPO or sale/merger and our ability to sell our positions at a gain following a liquidity event, we can give no assurance that we will be able to realize net capital gains during the year equal to the amount of our regular quarterly distributions.  Furthermore, we can give no assurance that we will achieve our projected investment results that will allow us to pay a specified level of distributions, previously projected distributions for future periods, or year-to-year increases in distributions.   Our ability to pay distributions will be based on our ability to invest our capital in securities of suitable portfolio companies in a timely manner, our portfolio companies achieving a liquidity event, and our ability to sell our publicly traded portfolio positions at a gain.  There is no assurance that our portfolio companies will complete an IPO, sale/merger or other liquidity event or that we will be able to realize any net capital gains from the sale of our publicly traded portfolio company investments.  Our ability to pay distributions may also be adversely affected by, among other things, the impact of one or more risk factors described herein.  Our distributions will also depend on our financial condition, maintenance of our RIC status, corporate-level income and excise tax planning, compliance with applicable business development company regulations and such other factors as our Board of Directors may deem relevant from time to time.  Accordingly, no assurances can be made that we will make distributions to our stockholders in the future.
 
In addition, any unrealized depreciation in our investment portfolio could be an indication that we will be unable to recover the cost of our investment when we sell it in the future.  This could result in realized capital losses in the future and ultimately in reductions of our net capital gains available for distribution in future periods.

A portion of our distributions may constitute a return of capital and affect our stockholders’ tax basis in our shares.

We plan to make distributions from any assets legally available for distribution and will be required to determine the extent to which such distributions are paid out of current or accumulated earnings, realized capital gains or are returns of capital.  To the extent there is a return of capital, investors will be required to reduce their cost basis in our stock for federal tax purposes, which will result in higher tax liability when the shares are sold, even if they have not increased in value or have lost value.

We currently intend to pay a portion of our dividends using shares of our common stock, in which case you may be required to pay tax in excess of the cash portion of the dividend you receive and, in the event our stock price at the time is less than our net asset value, such stock distribution will result in an immediate dilution of net asset value per share for all of our stockholders.

On February 20, 2014, our Board of Directors determined that it intends to pay the regular quarterly distributions under our quarterly distribution policy in cash or our common stock at the election of stockholders, subject to a limitation that no more than 25% of the aggregate distribution will be paid in cash with the remainder paid in shares of our common stock.  As a result of our stock distributions, you may be required to pay tax in excess of the cash portion of the dividend you receive.  In accordance with certain applicable Treasury regulations and private letter rulings issued by the Internal Revenue Service, a RIC may treat a distribution of its own stock as fulfilling its RIC distribution requirements if each stockholder may elect to receive his entire distribution in either cash or stock of the RIC, subject to a limitation that the aggregate amount of cash to be distributed to all stockholders must be at least 20% of the aggregate declared distribution.  If too many stockholders elect to receive cash, each stockholder electing to receive cash must receive a pro rata amount of cash (with the balance of the distribution paid in stock).  In no event will any stockholder, electing to receive cash, receive less than 20% of his entire distribution in cash.  If these and certain other requirements are met, for U.S. federal income tax purposes, the amount of the dividend paid in stock will be equal to the amount of cash that could have been received instead of stock.  Accordingly, any distributions consistent with these rulings that are payable in part in our stock, taxable stockholders receiving such dividends will be required to include the full amount of the dividend (whether received in cash, our stock, or combination thereof) as ordinary income (or as long-term capital gain to the extent such distribution is properly reported as a capital gain dividend) to the extent of our current and accumulated earnings and profits for United States federal income tax purposes.  As a result, a U.S. stockholder may be required to pay tax with respect to such dividends in excess of any cash received.  If a U.S. stockholder sells the stock it receives as a dividend in order to pay this tax, the sales proceeds may be less than the amount included in income with respect to the dividend, depending on the market price of our stock at the time of the sale.  Furthermore, with respect to non-U.S. stockholders, we may be required to withhold U.S. tax with respect to such dividends, including in respect of all or a portion of such dividend that is payable in stock.  In addition, if a significant number of our stockholders determine to sell shares of our stock in order to pay taxes owed on dividends, it may put downward pressure on the trading price of our stock.  Further, based on our current stock price, we expect that stock distributions for the foreseeable future will be made at a price per share that is less than our net asset value per share, which will result in an immediate dilution of net asset value per share for all of our stockholders.

 
41

 
 
The market price of our shares of common stock may be adversely affected by the sale of shares by our management or large stockholders.

Sales of our shares of common stock by our officers through 10b5-1 plans or by large stockholders could adversely and unpredictably affect the price of those securities.  Additionally, the price of our shares of common stock could be affected even by the potential for sales by these persons.  We cannot predict the effect that any future sales of our common stock, or the potential for those sales, will have on our share price.  Furthermore, due to relatively low trading volume of our stock, should one or more large stockholders seek to sell a significant portion of its stock in a short period of time, the price of our stock may decline.  Each of our current officers and directors has agreed to a lockup on the sale or disposition of his shares for a one-year period following the date of our rights offering which was completed on December 17, 2013.
 
Item 1B.  Unresolved Staff Comments

Not applicable.

Item 2.     Properties
 
We do not own any real estate or other physical properties materially important to our operation.  Our headquarters are located at 5251 DTC Parkway, Suite 1100, Greenwood Village, Colorado, 80111, where we occupy our office space pursuant to our Investment Advisory and Administrative Services Agreement with Keating Investments.  We believe that our office facilities are suitable and adequate for our business as it is presently conducted.  Our investment adviser also maintains an office in Palo Alto, California for the origination of portfolio company investment opportunities.

Item 3.     Legal Proceedings
 
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.
 
Item 4.     Mine Safety Disclosures

Not applicable.
 
 
42

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

Price Range of Common Stock
 
Our common stock was listed and began trading on the Nasdaq Capital Market on December 12, 2011.  Our shares of common stock are traded under the symbol “KIPO.” The following table sets forth the range of high and low sales prices of our common stock as reported on the Nasdaq Capital Market for the period beginning December 12, 2011, our initial listing date, through December 31, 2013.
 
 
  
Price Range
Quarter Ended
  
High
 
Low
             
2013
           
December 31, 2013
 
$
7.70
 
$
5.81
September 30, 2013
 
$
8.05
 
$
5.85
June 30, 2013
 
$
6.85
 
$
5.65
March 31, 2013
 
$
6.87
 
$
6.10
             
2012
           
December 31, 2012
 
$
7.40
 
$
6.08
September 30, 2012
 
$
7.80
 
$
6.16
June 30, 2012
 
$
7.96
 
$
5.72
March 31, 2012
 
$
9.69
 
$
6.51
             
2011
           
December 31, 2011
  
$
10.73
  
$
8.00

 
The last reported price for our common stock on February 21, 2014 was $5.94 per share.

As of February 21, 2014, we had approximately 830 stockholders of record.  Approximately 80% of the outstanding shares of our common stock are held by brokers and other institutions on behalf of stockholders. We believe that there are currently approximately 2,800 additional beneficial holders of our common stock.

Shares of business development companies may trade at a market price that is less than the value of the net assets attributable to those shares.  The possibility that our shares of common stock will trade at a discount from net asset value or at premiums that are unsustainable over the long term are separate and distinct from the risk that our net asset value will decrease.  It is not possible to predict whether the shares offered hereby will trade at, above, or below net asset value.  However, since the listing of our common stock on Nasdaq on December 12, 2011, our shares have typically traded at a discount to our net asset value per share.

Stock Repurchases

On May 9, 2012, our Board of Directors authorized a stock repurchase program of up to $5 million for a period of six months, which was subsequently extended until May 8, 2013.  On April 25, 2013, our Board of Directors further extended our stock repurchase program until November 8, 2013.  Under the repurchase program, we are authorized to repurchase shares of our common stock up to $5 million in open market transactions, including through block purchases, depending on prevailing market conditions and other factors.  The repurchase program may be extended, modified or discontinued at any time for any reason.  The repurchase program does not obligate us to acquire any specific number of shares, and all repurchases will be made in accordance with Rule 10b-18 under the Exchange Act, which sets certain restrictions on the method, timing, price and volume of stock repurchases.

During the year ended December 31, 2013, we repurchased 339,445 shares of our common stock at an average price of $6.48 per share, including commissions, with a total cost of $2,198,415.  Our net asset value per share increased by $0.05 per share as a result of the share repurchases during the year ended December 31, 2013.  The weighted average discount to net asset value per share of the shares repurchased during the year ended December 31, 2013 was 18%.

During the year ended December 31, 2012, we repurchased 108,996 shares and of our common stock at an average price of $7.01 per share, including commissions, with a total cost of $764,179.  Our net asset value per share increased by $0.01 per share as a result of the share repurchases during the year ended December 31, 2012.  The weighted average discount to net asset value per share of the shares repurchased during the year ended December 31, 2012 was 14%.

 
43

 
 
Since inception of the stock repurchase program, we repurchased a total of 448,441 shares of common stock, which shares have not been retired or cancelled, remain issued but not outstanding shares, and were held in treasury as of December 31, 2013.

On October 24, 2013, our Board of Directors discontinued the stock repurchase program in order to make additional capital available for potential new investment opportunities.  No repurchases were made under our stock repurchase program after September 30, 2013.  As and when we have access to additional capital that does not impair our ability to make additional portfolio company investments, our Board of Directors may consider reauthorizing a stock repurchase program.

Distribution Policy

Quarterly Distribution Policy

On February 20, 2014, our Board of Directors adopted a quarterly distribution policy where we intend to pay regular quarterly distributions to our stockholders out of assets legally available for distribution.  Under the quarterly distribution policy, our Board of Directors intends to pay regular quarterly distributions to our stockholders based on our estimated net capital gains (which are defined as our realized capital gains in excess of realized capital losses during the year, without regard to the long-term or short-term character of such gains or losses) for the year.  Since our portfolio company investments typically do not generate current income (i.e., dividends or interest income), we do not expect the quarterly distributions to represent earnings from net investment income, which makes us different from other business development companies that primarily make debt investments and may pay dividends from their recurring interest income.

Under our quarterly distribution policy, we seek to maintain a consistent distribution level that may be paid in part or in full from net capital gains or a return of capital, or a combination thereof.  If our actual net capital gains are less than the total amount of our regular quarterly distributions for the year, the difference will be distributed from our capital and will constitute a return of capital to our stockholders.  Alternatively, if our actual net capital gains exceed the total amount of our regular quarterly distributions for a given year, our Board of Directors currently intends to adjust or make an additional distribution in December of each year so that our total distributions for any given year represent 100% of our actual net capital gains in that year.  A return of capital is generally not taxable and, instead, reduces a stockholder's tax basis in his shares of Keating Capital.  A return of capital does also not necessarily reflect our investment performance and generally does not reflect income earned.  The tax character of a distribution is determined based upon our total net capital gains and distributions made with respect to a taxable year and, therefore, cannot be finally determined until after the close of the relevant taxable year.

The quarterly distribution policy reflects our commitment to stockholders to provide a predictable, but not assured, level of quarterly distributions based on the estimated amount of net capital gains we project to realize during the year. Due to the uncertainty of our portfolio companies achieving a liquidity event through either an IPO or sale/merger and our ability to sell our positions at a gain following a liquidity event, we can give no assurance that we will be able to realize net capital gains during the year equal to the amount of our regular quarterly distributions. Furthermore, we can give no assurance that we will achieve our projected investment results that will allow us to pay a specified level of distributions, previously projected distributions for future periods, or year-to-year increases in distributions. Our ability to pay distributions will be based on our ability to invest our capital in securities of suitable portfolio companies in a timely manner, our portfolio companies achieving a liquidity event, and our ability to sell our publicly traded portfolio positions at a gain. There is no assurance that our portfolio companies will complete an IPO, sale/merger or other liquidity event or that we will be able to realize any net capital gains from the sale of our publicly traded portfolio company investments. Our ability to pay distributions may also be adversely affected by, among other things, the impact of one or more risk factors described herein. Our distributions will also depend on our financial condition, maintenance of our RIC status, corporate-level income and excise tax planning, compliance with applicable business development company regulations and such other factors as our Board of Directors may deem relevant from time to time. Accordingly, no assurances can be made that we will make distributions to our stockholders in the future.
 
On February 20, 2014, consistent with our quarterly distribution policy, on February 20, 2014, our Board of Directors declared a regular distribution for the first, second and third quarter of 2014 each in the amount of $0.10 per share. The record and payment dates for these distributions are as follows:
 
Regular
Distributions
 
Amount
Per Share
 
Record Date
 
Payment Date
First Quarter
  $ 0.10  
March 6, 2014
 
April 14, 2014
Second Quarter
  $ 0.10  
May 8, 2014
 
June 17, 2014
Third Quarter
  $ 0.10  
August 11, 2014
 
September 18, 2014
 
 Each of these quarterly distributions will be paid in cash or our common stock at the election of stockholders, subject to a limitation that no more than 25% of the aggregate distribution will be paid in cash with the remainder paid in shares of our common stock.
 
44

 
 
Section 19 of the 1940 Act requires us to accompany each distribution payment with a notice if any part of that payment is from a source other than ordinary income.  This Section 19(a) notice is not for tax reporting purposes and is provided for informational purposes.  The Section 19(a) notice provides details on the anticipated source(s) of our distributions and will be posted to our website and to the Depository Trust & Clearing Corporation so that brokers can distribute such notices. The amounts and sources of distributions reported in Section 19(a) notices are only estimates and the actual amounts and sources of the amounts for tax reporting purposes will depend upon our investment experience during the year and may be subject to changes based on tax regulations.  Distributions in excess of our accumulated earnings and profits would generally be treated first as a return of capital to the extent of the stockholder’s tax basis, and any remaining distributions would be treated as a capital gain.  We, or the applicable withholding agent, will send stockholders a Form 1099-DIV for the calendar years that will report to stockholders the tax characterization of these distributions for federal income tax purposes.

Since distributions under our quarterly distribution policy are intended to be made from our net capital gains or, if necessary, represent a return of capital, stockholders should not draw any conclusions about our investment performance from the amount of our quarterly distributions or the terms of our quarterly distribution policy.   Our total return in relation to changes in our net asset value and our stock price is presented in the Financial Highlights.

Our Board of Directors may amend or terminate the quarterly distribution policy at any time.

Stock Distributions

On February 20, 2014, consistent with applicable tax rules, our Board of Directors determined that it intends to pay the regular quarterly distributions under our quarterly distribution policy in cash or our common stock at the election of stockholders, subject to a limitation that no more than 25% of the aggregate distribution will be paid in cash with the remainder paid in shares of our common stock.  As a result of our stock distributions, you may be required to pay tax in excess of the cash portion of the dividend you receive.   Under certain applicable provisions of the Code and the Treasury regulations, distributions payable in cash or in shares of stock at the election of stockholders are treated as taxable dividends. The Internal Revenue Service has issued private rulings indicating that this rule will apply even where the total amount of cash that may be distributed is limited to no more than 20% of the total distribution. Under these rulings, up to 80% of any taxable dividend declared by us could be payable in our stock.  If too many stockholders elect to receive their distributions in cash, each such stockholder would receive a pro rata share of the total cash to be distributed and would receive the remainder of their distribution in shares of stock.  For any distributions consistent with these rulings that are payable in part in our stock, taxable stockholders receiving such dividends will be required to include the full amount of the dividend (whether received in cash, our stock, or a combination thereof) as ordinary income (or as long-term capital gain to the extent such distribution is properly reported as a capital gain dividend) to the extent of our current and accumulated earnings and profits for United States federal income tax purposes.  As a result, a U.S. stockholder may be required to pay tax with respect to such dividends in excess of any cash received.  If a U.S. stockholder sells the stock it receives as a dividend in order to pay this tax, the sales proceeds may be less than the amount included in income with respect to the dividend, depending on the market price of our stock at the time of the sale.  Furthermore, with respect to non-U.S. stockholders, we may be required to withhold U.S. tax with respect to such dividends, including in respect of all or a portion of such dividend that is payable in stock.  In addition, if a significant number of our stockholders determine to sell shares of our stock in order to pay taxes owed on dividends, it may put downward pressure on the trading price of our stock.

Our Board believes there are a number of benefits from paying stock distributions and retaining cash for additional portfolio company investments,  including the following:  (i) that our increased cash resources would allow us to make investments in a greater number of portfolio companies at potentially larger investment amounts, (ii) that our increased capital base would have the effect of reducing our operating expenses as a percent of our net assets, and (iii) that a higher market capitalization and potentially greater liquidity may make our common stock more attractive to investors and help reduce or eliminate our stock price discount to net asset value over time.  Based on our current stock price, we expect that stock distributions for the foreseeable future will be made at a price per share that is less than our net asset value per share, which will result in an immediate dilution of net asset value per share for all of our stockholders.  We expect to continue to pay a portion of our distributions in shares of our common stock until such time as we have eliminated our stock price discount to net asset value and can successfully access the equity capital markets, or on an ongoing basis.

Dividend Reinvestment Plan

We also maintain a dividend reinvestment plan (“DRIP”) that provides for the reinvestment of dividends on behalf of our stockholders, unless a stockholder has elected to receive dividends in cash.  As a result, if we declare a dividend, stockholders who have not “opted out” of the DRIP by the dividend record date will have their dividend automatically reinvested into additional shares of our common stock.  Although we have a number of options to satisfy the share requirements of the DRIP, we currently expect that the shares required to be purchased under the DRIP will be acquired through open market purchases of our common stock by our DRIP administrator.  The shares purchased in the open market to satisfy the DRIP requirements will be valued based upon the average price of the applicable shares purchased by the DRIP administrator.

 
45

 
 
We intend to suspend our DRIP with respect to the entirety of any distribution which is paid in cash and shares of our common stock at the election of stockholders. Accordingly, our Board of Directors suspended our DRIP for the regular distributions declared for the first, second and third quarter of 2014.
 
Dividend History

The cash distribution amounts, and the record and payment dates, for our distributions for the years ended December 31, 2013, 2012 and 2011 are set forth in the table below.
 
Date Declared
Record Date
Payment Date
 
Amount
Per Share
 
Source of
Distribution
             
2013 Dividends:
           
May 28, 2013
June 14, 2013
June 26, 2013
  $ 0.24  
Capital Gains
May 28, 2013
September 13, 2013
September 25, 2013
    0.24  
Capital Gains
December 19, 2013
   December 30, 2013
January 13, 2014
    0.01  
Capital Gains (1)
Total - 2013 Dividends
      0.49    
               
2012 Dividends:
             
December 6, 2012
   December 14, 2012
December 26, 2012
    0.03  
Capital Gains
Total - 2012 Dividends
      0.03    
               
2011 Dividends:
             
February 11, 2011
  February 15, 2011
February 17, 2011
    0.13  
Return of Capital (2)
Total - 2011 Dividends
      0.13    
               
Total - Cumulative
      $ 0.65    
 
(1)
Although the dividend of $0.01 per share was paid on January 13, 2014, this dividend will be taxable to stockholders as if paid in 2013.  For income and excise tax purposes, this dividend will be eligible for the dividends paid deduction by us in 2013.
 
(2)
The February 2011 distribution was a special cash distribution based on the unrealized appreciation we had recorded on our NeoPhotonics investment at the time of the distribution, following NeoPhotonics’ completion of its IPO.
 
 
46

 

Performance Graph

Our common stock was listed and began trading on Nasdaq on December 12, 2011.  Accordingly, we do not have five years of performance history and will present cumulative stockholder return for the period beginning December 12, 2011 and ending December 31, 2013.

The following stock performance graph compares the cumulative stockholder return assuming that, at the beginning of the period, a person invested $100 in each of our common stock, the Russell 2000 Index, and each component of the selected peer issuer index.  The graph measures total stockholder return, which takes into account both changes in stock price and dividends. It assumes that dividends paid are reinvested in like securities.

The Russell 2000 Index is a broad equity market index that includes companies whose equity securities are traded on the same exchange as us.  Our selected peer issuer index consists of three business development companies (with relatively comparable market capitalizations to us) whose investment objective is to maximize capital appreciation with a focus on making equity investments in private portfolio companies.  The selected peer issuer index includes: Firsthand Technology Value Fund (Nasdaq: SVVC), GSV Capital Corp. (Nasdaq:  GSVC) and Harris & Harris Group, Inc. (Nasdaq: TINY).

Graphic
 
This graph and other information furnished under Part II. Item 5 of this Form 10-K shall not be deemed to be “soliciting material” or to be “filed” with the SEC or subject to Regulation 14A or 14C, or to the liabilities of Section 18 of the 1934 Act.  The stock price performance included in the above graph is not necessarily indicative of future stock price performance.

Item 6.  Selected Financial Data

The following selected financial data for the years ended December 31, 2013, 2012, 2011, 2010 and 2009 is derived from our financial statements which have been audited by Grant Thornton LLP, our independent registered public accounting firm.  The data should be read in conjunction with our financial statements and related notes thereto and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this annual report.
 
 
47

 

 
   
At and for the Years Ended
 
   
December
 31, 2013
 
December
 31, 2012
   
December
 31, 2011
   
December
 31, 2010
   
December
 31, 2009
 
                               
Statement of Operations Data:
                             
Total investment income
  $ 39,953     $ 3,870     $ 54,348     $ 54,009     $ 10,637  
Operating expenses:
                                       
Base management fees
    1,462,495       1,533,808       1,153,058       218,876       90,904  
Incentive fees
    1,523,189       425,519       152,757       115,423       -  
   Administrative expenses allocated from investment adviser     651,811
  
    633,997       450,019       404,633       269,384  
Total operating expenses
    5,352,788       4,056,856       3,764,370       2,031,002       1,006,615  
Net investment loss
    (5,312,835 )     (4,052,986 )     (3,710,022 )     (1,976,993 )     (995,978 )
   Net increase in unrealized appreciation on investments
     3,215,772
 
    1,845,390       763,784       577,116       -  
Net realized gain on investments
    4,400,178       282,203       -       -       -  
   Net increase (decrease) in net assets resulting from operations
     2,303,115
 
    (1,925,393 )     (2,946,238 )     (1,399,877 )     (995,978 )
                                         
Per Share Data:
                                       
Net asset value per common share
  $ 7.65     $ 8.00     $ 8.23     $ 7.85     $ 6.53  
Net investment loss (1)
    (0.59 )     (0.44 )     (0.54 )     (1.43 )     (1.75 )
   Net increase (decrease) in net assets resulting from operations (1)
     0.25
 
    (0.21 )     (0.43 )     (1.01 )     (1.75 )
Distributions declared (2)
    0.49       0.03       0.06       -       -  
                                         
Balance Sheet Data at Period End:
                                       
   Investment in portfolio company securities at fair value
  $ 61,976,805
 
  $ 65,023,706     $ 37,273,980     $ 4,177,607     $ -  
Short-term investments at fair value
    -       -       -       13,500,000       3,000,000  
Cash and cash equivalents
    13,537,328       8,934,036       39,606,512       4,753,299       367,918  
Total assets
    75,616,554       74,385,077       76,943,238       22,856,713       3,903,387  
Total liabilities
    2,577,084       972,137       558,523       400,313       183,891  
Net assets
    73,039,470       73,412,940       76,384,715       22,456,400       3,719,496  
Common shares outstanding
    9,548,902       9,174,785       9,283,781       2,860,299       569,900  
 
(1) Per share amounts are calculated using weighted average shares outstanding during the period.
 
(2) The distributions declared per share for the year ended December 31, 2011 is calculated using weighted average shares outstanding during the year ended December 31, 2011.
 
 
48

 


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

FORWARD-LOOKING STATEMENTS AND PROJECTIONS

This annual report on Form 10-K contains forward-looking statements that involve substantial risks and uncertainties.  These forward-looking statements are not historical facts, but are based on current management expectations that involve substantial risks, uncertainties, and other factors, some of which are beyond our control and difficult to predict and could cause actual results to differ materially from those expressed in, or implied by, these forward-looking statements.  Forward-looking statements relate to future events or our future financial performance. We generally identify forward-looking statements by terminology such as “may,” “will,” “should,” “expects,” “plans,” “anticipates,” “could,” “intends,” “target,” “projects,” “contemplates,” “believes,” “estimates,” “predicts,” “potential” or “continue” or the negative of these terms or other similar words. Important assumptions include our ability to originate new portfolio company investment opportunities, the success of our portfolio companies in completing an initial public offering within our targeted timeframes, our ability to achieve certain returns on our investments, and our ability to access additional capital. The forward-looking statements contained in this annual report on Form 10-K include statements as to:
 
 
our future operating results;
 
 
our business prospects and the prospects of our existing and prospective portfolio companies;

 
the impact of the investments we expect to make;

 
our ability to identify future portfolio companies that meet our investment criteria;
 
 
the impact of a protracted decline in the market for IPOs on our business;
 
 
our relationships with venture capital firms and investment banks that are the primary sources of our investment opportunities;
 
 
the expected market for venture capital investments in later stage, private, pre-IPO companies;
 
 
the dependence of our future success on the general economy and its impact on the industries in which we invest;
 
 
our ability to access the equity markets to raise capital to fund future portfolio company investments;
 
 
the ability of our portfolio companies to achieve their operating performance objectives and complete an IPO within our targeted timeframe;
 
 
our ability to invest at valuations which allow us to achieve our targeted returns within our expected holding periods;
 
 
our regulatory structure and tax status, including any changes in laws and regulations;
 
 
our ability to operate as a business development company and a regulated investment company;
 
 
the adequacy of our cash resources and working capital;
  
 
our ability to generate realized capital gains from the disposition of our  portfolio company interests after they have completed an IPO;
 
 
the timing, form and amount of any dividend distributions;
 
 
the valuation of any investments in portfolio companies, particularly those having no liquid trading market; and
 
 
our ability to recover unrealized losses.

Although we believe that the assumptions on which these forward-looking statements are based are reasonable, any of those assumptions could prove to be inaccurate, and as a result, the forward-looking statements based on those assumptions also could be inaccurate.  In light of these and other uncertainties, the inclusion of a projection or forward-looking statement in this annual report on Form 10-K should not be regarded as a representation by us that our plans and objectives will be achieved.  These risks and uncertainties include those described or identified in “Risk Factors” in this annual report on Form 10-K.  You should not place undue reliance on these forward-looking statements, which apply only as of the date of this annual report on Form 10-K.  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, to reflect events or circumstances occurring after the date of this annual report on Form 10-K.  The forward-looking statements and projections contained in this annual report on Form 10-K are excluded from the safe harbor protection provided by Section 27A of the Securities Act.
 
 
49

 
 
MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion should be read in conjunction with our financial statements and related notes and other financial information appearing elsewhere in this annual report.  In addition to historical information, the following discussion and other parts of this annual report contain forward-looking information that involves risks and uncertainties.  Our actual results could differ materially from those anticipated by such forward-looking information due to the factors discussed under “Risk Factors” and “Forward-Looking Statements and Projections” appearing elsewhere herein.

Overview

Since our first investment in January 2010 through December 31, 2013, we have invested $67.6 million in a total of 21 portfolio companies, and we were the lead investor in seven of those transactions.  Of those 21 investments, four companies have successfully priced IPOs, one portfolio company publicly filed a registration statement for an IPO but was sold to a private equity firm, and one portfolio company was acquired in a merger with a publicly traded company.  We believe a number of our other portfolio companies are achieving key operating milestones as they progress toward an expected IPO, and we believe that several of these companies may complete an IPO in the second or third quarter of this year.  Further, we expect a majority of our private portfolio companies to complete an IPO or strategic sale/merger over the course of the next four to eight quarters.  However, the timing of the completion of an IPO or strategic sale/merger by any of our private portfolio companies is highly uncertain and can be affected by a number of factors including the portfolio company’s performance, equity market trends, market volatility, recent IPO performance, and sectors that may be in or out of favor with IPO investors.  Accordingly, there can be no assurances that any of these private portfolio companies will complete an IPO or strategic sale/merger.

Portfolio Company Characteristics and Investment Features

We focus on acquiring equity securities that are typically the issuer’s most senior preferred stock at the time of our investment or, in cases where we acquire common shares, the issuer typically has only common stock outstanding.  We may also invest in convertible debt securities, which we refer to as equity-linked securities, issued by a portfolio company typically seeking to raise capital to fund their operations until an IPO, sale/merger or next equity financing event.  As of December 31, 2013, our portfolio company investments were composed of investments in the form of preferred stock that is convertible into common stock, common stock, subordinated convertible bridge notes, and warrants exercisable into preferred or common stock.  We made our first investments in convertible bridge notes of BrightSource Energy, Inc. (“BrightSource”) and SilkRoad, Inc. (“SilkRoad”) in the third quarter of 2013.  BrightSource and SilkRoad were both existing portfolio companies.

Interest accrued under convertible bridge notes does not generate current cash payments to us, nor are the convertible bridge notes held for that purpose.  Our convertible bridge notes are generally held for the purpose of potential conversion into equity at a future date.  Accordingly, our equity and equity-linked investments are not expected to generate current income (i.e., dividends or interest income), which makes us different from other business development companies that primarily make debt investments from which they receive current yield in the form of interest income.

Our preferred and common stock, warrants, and equity interests are generally non-income producing.  Except for our convertible preferred stock investments in SilkRoad, all convertible preferred stock investments carry a non-cumulative, preferred dividend payable when and if declared by the portfolio company's board of directors.  In the case of SilkRoad, the shares of convertible preferred stock carry a cumulative preferred dividend, which is payable only when and if declared by SilkRoad’s board of directors or upon a qualifying liquidation event.  Since no dividends have been declared or paid, or are expected to be declared or paid, with respect to these convertible preferred stock investments, these investments are considered to be non-income producing.

During the year ended December 31, 2013, we invested in one new portfolio company, a $3,000,000 preferred stock investment in Deem, Inc. (“Deem”).  As a result, of the 21 portfolio company investments we have made through December 31, 2013, at the time of our initial investment in these companies, 18 of these initial investments represented the portfolio company’s most senior preferred stock, two of these initial investments represented common shares where the portfolio company had only common stock outstanding, and in one initial investment in common stock which we acquired from the portfolio company’s employees, the company had preferred stock outstanding at the time of our initial investment.

Our portfolio companies are generally permitted to undertake subsequent financings in which they may issue equity securities or incur debt that ranks equally with, or senior to, the equity securities in which we invest.  In such cases, debt securities may provide that the holders are entitled to receive payment of interest or principal before we are entitled to receive any distribution from the portfolio companies, and the holders of more senior classes of preferred stock would typically be entitled to receive full or partial payment in preference to any distribution to us.  As of December 31, 2013, and as a result of subsequent financings, of our 15 private portfolio companies, we hold the most senior preferred equity in eight of these companies (of which two of our investments have a pari passu preference with a subsequently issued series of preferred stock).

 
50

 
 
We target our pre-IPO investing activities in later-stage, emerging growth, technology companies.  The financing round in which we made our initial investment represented, on average, the portfolio company’s fifth, or Series E, financing round.  In addition, we have been the lead investor in seven of our 21 portfolio company investments.

Five of our portfolio companies that we held at December 31, 2013 had 2012 revenue in excess of $100 million, and the median company in our portfolio as of December 31, 2013 had 2012 revenue of approximately $64 million.  The median trailing 12-month revenue for venture capital-backed companies at the time of their IPO was $60 million in the year ended December 31, 2013, $104 million in 2012 and $74 million in 2011.  The 2012 revenue figures are based on the audited, estimated or unaudited financial results for the fiscal year ending in 2012.  As of December 31, 2013, 11 portfolio companies have provided us with audited financial results for their fiscal year ending in 2012.

In each of our investments, we may seek to negotiate structural protections such as conversion rights which would result in our receiving shares of common stock at a discount to the IPO price upon conversion at the time of the IPO, or warrants that would result in our receiving additional shares for a nominal exercise price at the time of an IPO.  In some circumstances, these structural protections will apply only if the IPO price is below stated levels.  In some cases, our decision to pursue an investment opportunity will be dependent on obtaining some structural protections that are expected to enhance our ability to meet our targeted return on the investment.  At the time of initial investment, we had negotiated some form of structural protection in 11 of our 21 total portfolio companies made through December 31, 2013, which represented an aggregate of $40.5 million in initial investments.

Three portfolio companies in which we had structural protection, NeoPhotonics, LifeLock and Tremor Video, have completed IPOs, one portfolio company in which we had structural protection, Corsair Components, Inc. (“Corsair”) was sold to a private equity firm, and one portfolio company in which we had structural protection, Jumptap, Inc. (“Jumptap”), completed a merger with Millennial Media, Inc. (NYSE: MM) (“Millennial Media”).  Of our investments in 15 private portfolio companies as of December 31, 2013, we continue to have some structural protection with respect to investments in five of these portfolio companies, which represented $19 million in initial investments.  However, there is no assurance that the structural protection in these five investments will remain intact or will not be compromised by either a subsequent financing or sale/merger transaction, or other considerations.

There can be no assurance that our investment adviser will succeed in negotiating structural protections for our future investments.  Even if it succeeds in obtaining such protections, our ability to realize the potential value associated with these structural protections at the time of the IPO will depend on a number of factors including each portfolio company’s completion of an IPO, any adjustment to the special IPO conversion price that may be negotiated prior to or during the IPO process, the possible subsequent issuance of more senior securities that may impact the relative value of the structural protection, and fluctuations in the market price of each portfolio company’s common shares until such time as the common shares received upon conversion can be disposed of following the expiration of a customary 180-day post-IPO lockup period.  Accordingly, the potential value associated with these structural protections would not be available unless each portfolio company completes an IPO.  Further, even if an IPO is completed, the potential value associated with these structural protections would not be realized unless the market price of each portfolio company’s common shares equals or exceeds the IPO price at the time such shares are disposed of following the post-IPO lockup period.

Targeted Holding Periods and Portfolio Company Exits

While NeoPhotonics and Solazyme were each able to complete their IPOs within approximately one year from the date of our initial investment, LifeLock was able to complete its IPO within 0.6 years from the date of our initial investment, and Tremor Video was able to complete its IPO within 1.8 years from the date of our initial investment, a number of our portfolio companies are, on average, taking longer than we initially expected to complete their IPOs.  We generally expect that our portfolio companies will be able to complete an IPO, on average, within approximately two years after the closing of our initial investment.  After a typical lockup restriction which prohibits us from selling our investment during a customary 180-day period following the IPO, we expect that, on average, the holding period for our portfolio company investments will be approximately four years, compared to private equity and venture capital funds which we believe typically take seven to 10 years.  However, as our recent dispositions indicate, there may be instances where we can exit a portfolio company position prior to our anticipated four-year holding period in cases where a portfolio company completes an IPO sooner than we expected.
 
 
51

 
 
We also believe that some of our portfolio companies may elect to complete a strategic merger or sale in lieu of an IPO.  For instance, Corsair filed a registration statement for an IPO and attempted to complete an IPO, but was eventually sold to a private equity firm in the second quarter of 2013.  We were able to fully dispose of our interest in Corsair, which we acquired in July 2011, as part of this sale transaction.  In addition, Jumptap, which we acquired in June 2012, completed a merger with Millennial Media, a publicly traded company, on November 6, 2013.  At the closing of the merger, in exchange for our Jumptap Series G preferred stock and after certain share adjustments, we received 1,247,893 shares of Millennial Media’s common stock, which shares are restricted securities.  Millennial Media is required to register these shares for resale in accordance with a registration rights agreement.  Pursuant to a contractual lockup agreement, we may not sell any shares of Millennial Media common stock for the initial 90-day period following the closing.  Beginning on February 5, 2014, we were able to sell up to 415,964 shares.  Beginning on or about May 5, 2014, we may sell an additional 696,735 shares.  At the closing of the merger, we were required to set aside in escrow a total of 135,194 shares of Millennial Media for a one-year period following the closing as partial security for potential stockholder indemnification obligations.  In the case of a strategic sale or merger involving one of our portfolio companies, it is possible that we may be able to dispose of our positions before our targeted four-year holding period. See “—Recent Developments” below for our sales of Millennial Media shares after December 31, 2013.

As of December 31, 2013, the average holding period of our 17 portfolio companies was 2.2 years from our initial investment date, and the weighted-average holding period (based on the investment cost and holding period of each of our portfolio company securities as of December 31, 2013) was 2.0 years.

The following table presents the total invested capital (including any follow-on investments) and the net invested capital (after reduction for any dispositions) of our portfolio company investments since inception, based on the year we made our initial investment in the portfolio company, or the vintage year, as of December 31, 2013.  As of December 31, 2013, 89.9% of our $55.5 million of net invested capital was made in the 2011 and 2012 vintage years.

                      Dispositions              
    Number         Percent of     of Portfolio           Percent of  
   
of Portfolio
 
Total
   
Total
   
Company
   
Net
   
Net
 
   
Company
  Invested
      
 
Invested
   
Positions
   
Invested
   
Invested
 
Vintage Year1
 
Investments
 
Capital2
   
Capital
   
(Cost Basis)
   
Capital
   
Capital
 
                                     
    2010
  4     $ 5,686,936     8.4%     $ (3,080,750 )   $ 2,606,186     4.7%  
                                                 
    Average Investment per Portfolio Company           $ 1,421,734                                  
                                                 
    2011
  10     $ 31,431,268     46.5%     $ (4,000,080 )   $ 27,431,188     49.4%  
                                 
    Average Investment per Portfolio Company           $ 3,143,127                                  
                                                 
    2012
  6     $ 27,499,993     40.7%     $ (5,000,000 )   $ 22,499,993     40.5%  
                                                 
    Average Investment per Portfolio Company           $ 4,583,332                                  
                                                 
    2013
  1     $ 3,000,000     4.4%     $ -     $ 3,000,000     5.4%  
                                 
    Average Investment per Portfolio Company           $ 3,000,000                                  
                                                 
    Total
  21     $ 67,618,198     100.0%     $ (12,080,830 )   $ 55,537,368     100.0%  
                                                 
    Average Investment per Portfolio Company           $ 3,219,914                                  
                                                 
1Vintage year is based on the initial investment date of each portfolio company.
 
2Includes follow-on investments in a portfolio company that may have been made after the vintage year.
 

There can be no assurances that any of our private portfolio companies will complete an IPO within our targeted two-year time frame, or at all.  Even if these portfolio companies are able to complete an IPO, we may not be able to dispose of our interests in these publicly traded portfolio companies within our targeted four-year holding period or at prices that would allow us to achieve our targeted 2x return on our investment, or any return at all.  In cases where we have reduced our targeted return due to a shorter expected investment horizon, there can be no assurance that our portfolio company will be able to complete an IPO, or that we will be able to dispose of our investment, in this shorter time frame at our targeted return.  There can be no assurance that we will be able to achieve our targeted return on our portfolio company investments if, as and when they go public.

Net Realized Gains

We did not dispose of any of our portfolio company positions during the three months ended December 31, 2013.  The following table summarizes the realized gains and losses from our disposition of portfolio company investments from inception through December 31, 2013 and the related portfolio company returns.  Portfolio company returns are calculated at the portfolio company level (net of any selling expenses, including broker commissions); however, the portfolio company returns set forth below do not reflect any of our operating expenses.

 
52

 
 
   
Quarter of
   
Weighted
                               
   
Complete
   
Average
               
Total
   
Total
   
Internal
 
Portfolio
 
Disposition of
   
Holding Period
   
Investment
   
Realized
   
Return
   
Rate of
   
Rate of
 
Company
 
Interest
   
(Years)1
   
Amount
   
Gain (Loss)
   
Multiple2
   
Return3
   
Return (IRR)4
 
                                           
Corsair Components, Inc.
  Q2 2013     1.8     $ 4,000,080     $ 675,317     1.17x     17%     9%  
                                                         
LifeLock, Inc.
  Q2 2013     1.1     $ 5,000,000     $ 3,675,041     1.74x     74%     66%  
                                                         
Solazyme, Inc.
  Q2 2013     1.8     $ 2,080,750     $ 453,452     1.22x     22%     12%  
                                                         
NeoPhotonics Corp.
  Q3 2012     2.6     $ 1,000,000     $ (121,428 )   0.88x     -12%     -5%  
                                                         
Total
          1.6     $ 12,080,830     $ 4,682,381     1.39x     39%     22%  
                                   
Weighted-Average Return Multiple and Rates of Return
 
 
1The weighted-average holding period is calculated based on the total investment amount and holding period of each disposition of shares.
 
                             
2Total return multiple on a portfolio company investment is determined by dividing the net proceeds realized from the disposition of such investment by the aggregate cost of such investment.   The weighted-average total return multiple is determined by dividing the aggregate net proceeds from the disposition of all disposed portfolio companies by the aggregate investment cost of all disposed portfolio companies.
                             
3Total rate of return on a portfolio company investment is determined by dividing the net gain or loss realized from the disposition of such investment by the aggregate cost of such investment.  The total rate of return is not annualized.  The weighted-average total rate of return is determined by dividing the aggregate net gains and losses realized from the disposition of all disposed portfolio company investments by the aggregate cost of all disposed portfolio company investments.  The weighted-average total rate of return is not annualized.
                             
4Internal rate of return is the annualized rate of return on a portfolio company investment taking into account the amount and timing of all cash flows related to such portfolio company investment including the initial investment, any follow-on investment and the net proceeds from the disposition of such investment.  The weighted-average internal rate of return is the annualized rate of return on all disposed portfolio company investments taking into account the amount and timing of the cash flows related to all disposed portfolio company investments (as a group).
 
These returns represent historical results.  Past performance is not a guarantee of future results.
Distributions

On February 20, 2014, our Board of Directors adopted a quarterly distribution policy where we intend to pay regular quarterly distributions to our stockholders based on our estimated net capital gains for the year.  Under our quarterly distribution policy, we seek to maintain a consistent distribution level that may be paid in part or in full from net capital gains or a return of capital, or a combination thereof.  If our actual net capital gains are less than the total amount of our regular quarterly distributions for the year, the difference will be distributed from our capital and will constitute a return of capital to our stockholders.  Alternatively, if our actual net capital gains exceed the total amount of our regular quarterly distributions for a given year, our Board of Directors currently intends to adjust or make an additional distribution in December of each year so that our total distributions for any given year represent 100% of our actual net capital gains in that year.  A return of capital is generally not taxable and, instead, reduces a stockholder's tax basis in his shares of Keating Capital.

Consistent with applicable tax rules, our Board of Directors also determined that it intends to pay the regular quarterly distributions under our quarterly distribution policy in cash or our common stock at the election of stockholders, subject to a limitation that no more than 25% of the aggregate distribution will be paid in cash with the remainder paid in shares of our common stock.

Consistent with our quarterly distribution policy, on February 20, 2014, our Board of Directors declared a regular distribution for the first, second and third quarter of 2014 each in the amount of $0.10 per share. The record and payment dates for these distributions are as follows:
 
Regular
Distributions
 
Amount
per Share
 
Record Date
 
Payment Date
First Quarter
  $ 0.10  
March 6, 2014
 
April 14, 2014
Second Quarter
  $ 0.10  
May 8, 2014
 
June 17, 2014
Third Quarter
  $ 0.10  
August 11, 2014
 
September 18, 2014
 
 Each of these quarterly distributions will be paid in cash or our common stock at the election of stockholders, subject to a limitation that no more than 25% of the aggregate distribution will be paid in cash with the remainder paid in shares of our common stock.
 
Based on our current stock price, we expect that stock distributions for the foreseeable future will be made at a price per share that is less than our net asset value per share, which will result in an immediate dilution of net asset value per share for all of our stockholders.  We expect to continue to pay a portion of our distributions in shares of our common stock until such time as we have eliminated our stock price discount to net asset value and can successfully access the equity capital markets, or on an ongoing basis.

 
53

 
 
During the year ended December 31, 2013, we declared dividends of $0.49 per share, totaling $4,400,178, which represented 100% of our 2013 net gains realized.  All these dividends were characterized as long-term capital gains.

See “Item 5.  Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities – Distribution Policy” above for additional information on our quarterly distribution policy, stock distributions, dividend reinvestment plan, and dividend history.

Stock Repurchase Program

During the year ended December 31, 2013, we repurchased 339,445 shares of our common stock at an average price of $6.48 per share, including commissions, with a total cost of $2,198,415.  Our net asset value per share increased by $0.05 per share as a result of the share repurchases during the year ended December 31, 2013.  The weighted average discount to net asset value per share of the shares repurchased during the year ended December 31, 2013 was 18%.

On October 24, 2013, our Board of Directors discontinued the stock repurchase program in order to make additional capital available for potential new investment opportunities.  No repurchases were made under our stock repurchase program after September 30, 2013.

Since inception of the stock repurchase program in 2012, we repurchased a total of 448,441 shares of common stock at an average price of $6.61 per share, including commissions, with a total cost of $2,962,594.  The weighted average discount to net asset value per share of the shares repurchased since inception was December 31, 2013 was 17%.  The shares we repurchased under our stock repurchase program have not been retired or cancelled, remain issued but not outstanding shares, and were held in treasury as of December 31, 2013.

Although we discontinued our stock repurchase program in October 2013, as and when we have access to additional capital that does not impair our ability to make additional portfolio company investments, our Board of Directors may consider reauthorizing a stock repurchase program.

See “Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities – Stock Repurchases” above for additional information on our stock repurchase program.

Business Development Company Industry and Our Equity Focus

Based on our research, as of December 31, 2013, there were 43 publicly traded business development companies (“BDCs”), 38 of which were income oriented, and five of which were focused on capital appreciation.  In addition to us, the other BDCs focused on capital appreciation with relatively comparable market capitalizations are Firsthand Technology Value Fund (Nasdaq:  SVVC), GSV Capital Corp. (Nasdaq:  GSVC) and Harris & Harris Group, Inc. (Nasdaq:  TINY).  Of the 43 publicly traded BDCs, as of December 27, 2013, the average price/NAV was 102% and the median price/NAV was 100%, and 22 BDCs (or 51%) were either trading at parity or above net asset value (“NAV”).  Of the four comparable capital appreciation-focused BDCs including us, the price/NAV ranged from 71% to 93%, with an average price/NAV of 82%, and 75% price/NAV for us, based on a December 27, 2013 closing price of $5.96 and a September 30, 2013 NAV of $7.93.  We had a price/NAV of 80% based on our December 31, 2013 closing price and NAV of $6.15 and $7.65, respectively.

Across the entire BDC category as of December 27, 2013, the average dividend yield over the preceding 12 months was 7.8%, and the median yield was 8.6%.  We are one of two BDCs among the four comparable ones focused on capital appreciation that paid a distribution to stockholders in the 12 months ended December 31, 2013.  As of December 31, 2013, the dividend yield on our common stock for the 12 months ended December 31, 2013 was 8.0%, which is calculated as the total dividends of $0.49 per share declared by us during such period divided by our $6.15 per share closing stock price as of December 31, 2013.

We believe that both individual and institutional investors are willing to accept the risks of investing in BDCs primarily on the expectation of earning attractive yields and acceptable returns on a risk-adjusted basis.  Most BDCs invest in fixed income securities that pay current income, resulting in net investment income that is typically passed through to stockholders as a dividend on a quarterly (or in certain cases, monthly) basis and generating a consistent dividend yield.  BDCs that are focused on capital appreciation, including us, are designed to generate capital gains based on successful exits of positions in equity securities.  Because these equity securities typically do not generate any current income, and the exits are episodic, there is limited consistency or predictability to the pattern of expected distributions to stockholders.

 
54

 

Recent Portfolio Activity and Discount to Net Asset Value

As of December 31, 2013, we have disposed of our entire position in three of our four portfolio companies that have completed IPOs.  We also own shares of common stock of Millennial Media, a publicly traded company, as a result of its acquisition of Jumptap in a merger transaction which was completed November 6, 2013.  Our shares in Millennial Media are subject to certain lockup restrictions.  On February 5, 2014, approximately 33% of our shares in Millennial Media, or a total of 415,964 shares, were released from the lockup restriction.  Our remaining shares in Millennial Media are subject to lockup restrictions and a one-year indemnity escrow holdback, as discussed above.  The other publicly traded company in our portfolio as of December 31, 2013 is Tremor Video, which completed its IPO on June 26, 2013.  The lockup restrictions on our shares of Tremor Video’s common stock expired in late December 2013.  We have not sold any of our shares of Tremor Video.  See “—Recent Developments” below for information regarding sales of our shares of Millennial Media after December 31, 2013.  We also sold our entire position in Corsair in connection with Corsair’s sale of a majority interest to a private equity firm.  Accordingly, as of December 31, 2013, approximately 31% of our 21 portfolio company investments (measured by our cost) have been sold by us or have completed an IPO or merger/sale.  Because of the inherent uncertainty associated with completing IPOs, there is little that we can do to forecast if and when any of our private portfolio companies will be able to successfully complete IPOs, if at all.  In addition, we may not be advised by our portfolio companies of specific sale or merger plans and, in the event we are so advised, we are generally prohibited from disclosing such merger or sale plans until they are publicly disclosed by our portfolio company.

We believe a combination of factors has put selling pressure on our stock, including:  (i) the market response to our recent rights offering which caused our stock price to fall from $7.05 per share on November 5, 2013, the date the rights offering was announced, to $5.95 per share on December 16, 2013, the expiration date of the rights offering, (ii) the fact that 54% of our net invested capital as of December 31, 2013 represents investments in vintage year 2010 and 2011 portfolio companies—or holding periods of three and two years, respectively, (iii) the fact we have experienced write downs in some of our investments, particularly aggregate net unrealized depreciation of $4.9 million on our energy and recycling-focused portfolio companies,  (iv) the fact that we have been unable to generate net realized gains in either 2012 or 2013 at levels which exceed our operating expenses for such years, (v) as a result of repurchases of our own shares under our stock repurchase program, our net assets decreased and our operating expense ratio correspondingly increased, (vi) the fact that most of our private companies are under $1 billion in enterprise value and therefore not highly publicized, and (vii) to date there has been limited public visibility with respect to our private portfolio companies completing an IPO or sale/merger in the future.  We believe our private-to-public valuation arbitrage strategy requires further patience in light of the fact that our vintage year 2011 and 2012 portfolio companies, which represent 90% of our $55.5 million in invested capital as of December 31, 2013, continue to make progress towards IPOs, which if they are successful in doing so, would potentially allow us to dispose of these positions, on average, at our targeted 2x return and within our anticipated four-year holding period.

Our Board of Directors is focused on the current discount between our stock price and net asset value, and we have taken, and continue to take, active steps to try to eliminate this discount to net asset value over time.  These steps include an investor relations program and corporate branding campaign designed to increase awareness and visibility for our stock, continuing to present the Company to the investment community at various investor conferences, and holding one-on-one meetings with institutional investors.  During 2012 and 2013, we also made $3.0 million of repurchases of shares our common stock that were accretive to net asset value.  Although we discontinued our stock repurchase program in October 2013, as and when we have access to additional capital that does not impair our ability to make additional portfolio company investments, our Board of Directors may consider reauthorizing a stock repurchase program.

On February 20, 2014, our Board of Directors adopted a quarterly distribution policy and determined to pay our distributions in cash or our common stock at the election of stockholders, subject to a limitation that no more than 25% of the aggregate distribution will be paid in cash with the remainder paid in shares of our common stock.    By adopting a policy to provide quarterly distributions based on our estimated net capital gains, we believe that our shares may trade at smaller discounts or even premiums to our net asset value.  Further, we believe our quarterly distribution policy will provide a measurable performance target for our investment adviser to generate net capital gains greater than the quarterly distribution amount, which we intend to monitor quarterly.  We also believe that by paying a portion of dividends in shares of our common stock, while potentially being dilutive to our net asset value, will allow us to make additional portfolio company investments with the potential to achieve our targeted returns, increase our capital base and lower our operating expenses per share, and potentially achieve a higher market capitalization with potentially greater liquidity.  We believe both our quarterly distribution policy and our stock distributions may make our common stock more attractive to investors and help reduce or eliminate our discount to net asset value.

Our investment adviser and our Board of Directors recognize that one of their responsibilities is to enhance stockholder value by consistently growing our net asset value.  Based on our current discount to net asset value, our investment adviser and our Board of Directors have been, and will continue to be, committed to instituting policies designed to narrow, or ideally eliminate, any discount to net asset value.  We will continue to initiate policies such as our stock repurchase program, quarterly distribution policy and stock distributions in an effort to have our stock price more closely track our net asset value.  In spite of these efforts, we believe that  in order to generate interest among potential investors, we need to achieve the following key milestones:  (i) have more companies publicly file registration statements for and complete IPOs, or complete a strategic sale or merger, (ii) complete more successful sales of our investments and generate realized gains, (iii) continue to distribute these net realized gains to our stockholders in an amount that is comparable to the yield of other BDCs, and (iv) demonstrate, in some manner, that although our portfolio company IPOs and the corresponding sale of our investments are episodic and unpredictable, that the overall return potential of our stock is sufficiently attractive on a risk-adjusted basis to warrant an investment in our stock.

 
55

 
 
Current Business Environment

Capital markets volatility and the overall market environment may preclude our portfolio companies from completing an IPO and impede our exit from these investments.  Since 1998, the number of venture capital-backed companies that have been able to complete IPOs has fallen, while the median time from initial funding to IPO completion has risen.

In the fourth quarter of 2013, there were 70 IPOs priced in the U.S. that raised an aggregate of $23.0 billion in gross proceeds (or a median IPO size of $178 million), compared to 60 IPOs in the third quarter of 2013 that raised an aggregate of $11.3 billion in gross proceeds (or a median IPO size of $116 million) and 29 IPOs in the fourth quarter of 2012 that raised an aggregate of $7.6 billion in gross proceeds (or a median IPO size of $145 million).

There were 25 venture capital-backed IPOs in the fourth quarter of 2013 that raised an aggregate of $4.6 billion in gross proceeds (or an average of $182 million), compared to 27 venture capital-backed IPOs in the third quarter of 2013 that raised an aggregate of $2.5 billion in gross proceeds (or an average of $93 million).  Venture capital-backed IPO activity in the fourth quarter of 2013 was up from the fourth quarter of 2012 when seven venture capital-backed IPOs were completed raising an aggregate of $1.2 billion in gross proceeds for an average of $168 million.

The U.S. IPO market in 2013 was the best year since 2000, when 406 IPOs were completed.  In 2013, a total of 222 companies completed IPOs in U.S., compared to a total of 128 IPOs completed in all of 2012.  The 222 IPOs completed in 2013 exceeded the 216 IPOs completed in 2004, the highest level of completed IPOs in the last 10 years.

We believe there are three primary technical drivers that determine the overall number of completed IPOs:  (i) volatility, (ii) recent IPO performance, and (iii) equity market trends.  There is typically a strong inverse relationship between volatility and the number of IPO pricings.  IPO market expansion has historically taken place in modest volatility environments, where the CBOE Volatility Index (or “VIX Index”) has been in the range of 10.0 to 20.0.  By contrast, there are typically strong positive relationships between both recent IPO performance and equity market trends and the number of IPO pricings.

As of December 31, 2013, the VIX Index closed at 13.7, with a high and low during the year ended D