Mount Logan Capital Inc (MLCI) 2009 Q4 法說會逐字稿

Good morning, ladies and gentlemen. Welcome to the Harris & Harris Group year-end 2009 shareholders conference call. At this time all participants are in a listen only mode. Following management's prepared remarks we will hold a Q&A session. (Operator Instructions) As a reminder this conference is being recorded March 19, 2010. I would now like to turn the conference over to Jody Burfening. Please go ahead, ma'am.

Thank you, Operator and thank you everyone for joining us this morning for the Harris & Harris Group year-end 2009 shareholders conference call. On this morning's call, Doug Jamison, Chairman and CEO, and Daniel Wolfe, President, Chief Operating Officer and Chief Financial Officer will lead a discussion about the Company's business and its Fourth Quarter and full year 2009 results.

This conference call and webcast is being accompanied by a slide presentation. To access the presentation please go to the Company's website at www.HHBC.com. A link to the presentation can be found in the Investor Relations section under, Events.

Before starting the call I will read the Safe Harbor statement. The matters being discussed on today's conference call may contain statements of a forward-looking nature relating to future events. These forward-looking statements are subject to the inherent uncertainties in future results and conditions. These statements reflect the Company's current beliefs and a number of important factors that could cause actual results to differ materially from those expressed in the forward-looking statements.

Please see the Company's annual report on Form 10-K for the year ended December 31, 2009, as well as subsequent SEC filings filed with the Securities and Exchange Commission for a more detailed discussion of the risks and uncertainties associated with the Company's business including but not limited to the risks and uncertainties associated with venture capital investing and other significant factors that could cause the Company's actual results. Except as otherwise required by Federal Securities laws, Harris & Harris Group, Inc. undertakes no obligations to update or revise these forward-looking statements to reflect new events or uncertainties.

With that, I would now like to turn the call over to Doug. Good morning, Doug.

Good morning and this is Doug Jamison and welcome to our first call. Many of you have known Harris & Harris Group for a long time but as this is our first call and some of you may be newer to the story I did want to provide some background on the firm briefly.

Harris & Harris Group is a venture capital firm. It invests in companies that apply nanotechnology and micro systems to large, high growth markets. We believe we are the only venture capital firm organized as we are, a public venture capital Company organized as a business development company under the 1940 Investment Company Act. The Company employs 11 people and has offices in New York and Palo Alto. Five members of our team make the venture capital investments.

We have 31 companies in our portfolio as of December 31, 2009, half of which are in California, with the rest primarily operating on the East Coast. We operate as a public Company because as a public Company, we allow public investors to participate in the emergence of nanotechnology while many of the leading companies are still private.

In our annual letter to shareholders we state transparency and liquidity will remain our guiding principles in 2010. This call is one way to provide greater transparency to our shareholders.

Throughout our opening 15 minute presentation, we will reference our recently filed 2009 annual report on Form 10-K, we will also refer to the page numbers for those of you that have it in front of you. Patty Egan, our Chief Accounting Officer will begin by briefly providing the highlights of our December 31, 2009 financials, then Daniel Wolfe, our President and CFO, will walk you through some of the additions to our management discussion and analysis or MD&A in the 2009 10-K that we believe help tells the story to shareholders more effectively. We will then discuss a few of the new investments and then we'll open it up to questions and we're expecting the call to last approximately 45 minutes. Patty, will you take us through the financials?

Yes, thank you, Doug. At December 31, 2009, we had total assets of $136 million on our balance sheet. Included in our total assets is our venture capital portfolio which was valued at $78 million at year-end. We also held $57.6 million in cash and US Treasuries as of December 31. We have no debt.

Our net assets at December 31, 2009, were approximately $134 million and our net asset value per share was $4.34 (sic - see Press Release). This is an increase from our net asset value per share at December 31, 2008, of $4.24 (sic - see Press Release).

Turning to our income statement, in 2009, we had investment income of approximately $248,000. This compares with almost $2 million in investment income during 2008. This decrease in our investment income is due to the significantly lower Treasury yields available in 2009.

Our total expenses were $9 million during 2008 -- during 2009 which is a decrease from $12.7 million in expenses during 2008. Both our cash is operating expenses and our non-cash expenses such as stock based compensation, decreased during the year. Our salaries, benefits and stock based compensation, administration and operation expenses and fees paid to our Board of Directors all decreased during 2009. This resulted in a net operating loss of $8.8 million at 2009 compared with a net operating loss of $10.7 million during 2008.

During 2009, we also realized $11.1 million of losses on the disposable investment. These investments had previously been written down and were valued at zero or close to zero in the periods prior to their disposal.

During 2009, there was a $19.7 million change in the value of our investment portfolio. Of this $19.7 million, $11.1 million relates to the investment that we disposed of which I just spoke about. The remaining $8.6 million represents the net increase in the value of the portfolio that was still held on our balance sheet at December 31, 2009.

Thank you, Patty. Daniel, will you take over?

Absolutely. Thank you, Doug. As Doug mentioned earlier, we have included some new disclosures in the management's discussion and analysis section of our annual report filed on Form 10-K that we believe helps tell our story to shareholders more effectively.

On Pages 39 & 40, we provide a rationale for maintaining the amount of available cash and treasuries we have on our balance sheet. We differentiate our operating structure from that of private venture capital firms and discuss why we believe this liquidity is required for achieving our principal objective of long term capital appreciation. We believe this information explains clearly why having approximately $57 million in cash and treasuries on our balance sheet is beneficial to our shareholders.

On pages 41 & 42, we provide a table detailing our Board seats and observer positions in 25 of our 31 venture capital companies. We provide substantial assistance to management in early stage companies. We expect this level of involvement to decrease as the companies mature or we may transition from one or more Board memberships to observer position. This progression allows us to focus on new early stage investment opportunities. We provide this information to illustrate our active involvement with the majority of our portfolio companies.

There are many inputs used by our valuation committee to value our privately held portfolio companies each quarter. On page 50, we provide a table that discusses examples of some of the quantitative input that contribute to changes in the value of our private venture capital portfolio during the past four quarters. These changes contribute significantly to move into our net asset value.

Our private venture capital portfolio increased in value by approximately $7.9 million from September 30 to December 31, 2009. Of this amount, new and follow-on financings where we invest cash from our balance of treasuries in our portfolio companies contributed approximately $4.7 million. Net change due to financing events contributed approximately $5.2 million due primarily to financings of our portfolio companies at increased valuations to their prior rounds of financing. The net change in value of the public market comparables to our most mature companies contributed approximately $1.9 million. The net decrease in value due to increases in non-performance risk contributed approximately $4.3 million.

We define non-performance risk on page 49 as the potential risk that a Company will not be able to raise capital or will raise capital at reduced valuation from the previous round of investment. We provide this information to help our shareholders identify and understand some of the quantitative factors that contributed to the change of value of our privately held companies from quarter to quarter.

On page 45, we provide a chart detailing three levels of maturity for our portfolio companies and delineating the value of our venture capital portfolio represented by each level. The aggregate value of each of these three levels increases with the maturity of the companies in our portfolio. Our most mature companies account for almost 50% of the value of our venture capital portfolio and many of these companies started as early stage companies in our portfolio.

We expect some of our early stage companies will mature over time and others will not meet their potential and will come out of the portfolio. We provide this chart to help our shareholders understand the current correlation between maturity and value and to track the maturation of our portfolio companies from quarter to quarter.

On page 51, we provide a list of our top 10 venture capital investments by value. These top 10 investments represent 69% of the value of our venture capital portfolio. We believe three of these companies need additional financing in 2010. One of these three closed a round of financing during the first quarter of 2010. We provide this table to show that a significant portion of the value of our venture capital portfolio is concentrated in a third of the companies of our portfolio, the majority of which currently do not require capital in 2010 and I'll turn it back to Doug.

Thank you, Daniel. So the final addition to the MD&A are two charts that identify the market domains and the enabling technologies of our portfolio companies. These are meant to complement the pie chart that identifies our nanotech for Clean Tech, our nanotech for Electronics and our nanotech for Healthcare Portfolios we've included in our documents for some time.

We believe we have a good balance between companies bringing exciting products to existing markets and companies developing products for emerging market domains. In theory, existing market domains should be easier to penetrate and thus faster to market while emerging market domains provide the opportunity and the potential to quite literally change the world.

We would like to end by discussing some recent new investments. In the second half of 2009 and in the first quarter of 2010, we made two new investments in micro capitalization public companies and two new private investments. On page 38 and 39 of our MD&A, and in our annual letter to shareholders, we outline our strategy for investing in nanotechnology enabled micro capitalization public companies.

The fact that many of these companies are early stage companies just beginning to launch exciting products into large markets makes these investment opportunities a logical extension of our venture capital expertise. We believe the liquidity of these investments and our intention to hold them from one to three years rather than from five to 10 years as in our private investments increases the liquidity of our venture capital portfolio and allows us to ring the cash register more frequently for our shareholders.

Our public company investments have been in Orthovita, NASDAQ VITA, and Satcon Technology Corporation, NASDAQ SATC. Both companies are introducing interesting new products into exciting markets, the former into the orthopedic implant market and the latter into the solar market. We are looking for them to execute on their strategies over the next few years. We welcome you to visit their websites and read their financials.

On the private investment side, in January 2010, we made a $250,000 investment in ABS Materials as part of a $2.4 million Series A financing. We co-led this financing and we are the first institutional investor in the Company.

ABS Materials developed a Sol-Gel chemistry to make what it refers to as swellable glass. This swellable glass is capable of capturing volatile organic compounds and hydrocarbons and the swelling is enabled by the nanoscale assembly of the organosilicate particles.

To paint an oversimplified picture but one I think everybody can understand over the phone, imagine a fish bowl filled with water and imagine if you poured oil into that fish bowl, of course the oil would float on top of the water. If you poured ABS Materials glass into this, within 10 seconds, similar to the vials you see on the bottom of your screen, it would swell up absorbing the oil. You could then actually take a fish net, scoop out the glass, and you would be left with the water that you could actually drink. The fish net full of glass you could put heat up and you would release the oil from it. That presents a simple picture of what this material and what this technology does.

Although the Company was only recently founded, it is generating revenue at the Ohio EPA, the Ohio EPA is actually pumping this material into the ground to remove PCE contaminations from groundwater. We are actually more interested in the produced water applications, an application that requires oil service providers to separate the water from the oil on near shore oil rigs. ABS Materials already has two early development agreements with two leading oil or oil service companies. Daniel, will you discuss Enumeral?

Definitely, thank you, Doug. Enumeral Technologies is a spin-out from MIT based on technology developed in the lab of Professor Chris Love. Professor Love's technology enables the capture and study of molecules and proteins that are produced by almost any type of cell on an individual cell basis. These molecules and proteins are indicators of types and states of disease and can lead to the discovery of biomarkers for diagnostics, of therapeutics and of vaccines.

Individual cells are isolated from one another in small compartments on a plastic chip. Each chip has approximately 250,000 of these compartments. This large number of compartments allows for the rapid, high throughput capture of molecules and proteins produced by a large number of individual cells simultaneously.

The Company plans to use this technology to study high value opportunities in immunology including therapeutic discovery, immune profiling, and personalized medicine. Harris & Harris Group invested $250,000 in a bridge note in the fourth quarter of 2009. The Company is currently pursuing additional capital, hiring a management team, and establishing facilities in the Boston area. Doug?

Great. So, in summary as we look forward to 2010, we, like many of you, see the risks inherent in the general economy and for the US specifically; however we are excited by the direction of our venture capital portfolio.

Our number one priority will be to look for opportunities to realize gains in our venture capital portfolio over the next two years. We will reinvest those gains back into Harris & Harris Group to grow the Company organically. We will continue to look for quality investments that fit the strategy we laid out in our MD&A and our shareholder letter. We believe this is important as our continued growth will require a portfolio approach to investment.

Lastly, we will continue to spend time reaching out and telling our story to the investment community both institutional and retail and certainly to our shareholders as well. Thank you, and I'd now like to open it up to questions.

(Operator Instructions) Our first question comes from the line of Ted Kundtz from Needham.

Yes, good morning everyone. A couple of questions for you. One, could you -- there's a comment in your letter on page two where you talked about the expectations that some of the values in the companies could decrease over the year -- over the course of 2010 as you may not invest in them and you said some of them companies have significant investments and our decision may cause us to lose most or all of our investment. Could you -- is that just a standard clause you're putting in or -- because I thought if you would have identified what you might be writing off you would have written it off, so I'm a little puzzled by the phrasing of that language.

Certainly. So some of that is standard language; however, every -- if you look at historically Harris & Harris Group, values will move up and down within the venture capital portfolio as these companies mature. I think one of the pictures we've tried to paint especially with conditions in the current venture market is that in addition to execution risks for these early stage companies, financing risk is probably as high as it's ever been in the venture capital community and as such, any companies that need to seek financing face that financing risk.

As we've looked forward and as we've tried to portray in that new chart that tracks valuations and non-performance risk, and also just tracking where the companies actually consummate their financings, you see that some in this environment are still able to finance at or above the prior round of financing but many have to finance below that and I think as we look forward, certainly over the next 12 months, we expect that trend to continue.

Another thing that we've tried to communicate to our shareholders is that in the current environment, we are looking very carefully at the companies that we believe have the greatest opportunity to produce the greatest value for our shareholders, and because of the difficult financing environment, some companies that in a different environment may have been marginal, may have been able to get financing, may have gone on to be successful, but may have returned us just one times our money or two times our money, we believe that in the current environment, the best strategy is to put our resources in the companies we think are the most successful executing on their strategies, raising financings and that can present the greatest return.

At the bottom of that paragraph we also put a sentence that says we do expect some of our companies to potentially execute on their strategies and actually consummate financings and increase in value over that time period, and I think really what in summary we're trying to say is some valuations are going to go up and some valuations are going down. At December 31, what you saw in our 10-K is what we know but over the coming year, some of them may still move.

Got it. Just a -- it's more of a standard cautionary thing as opposed to anything specific that you've identified at this point?

We don't have any specific information. If we did it would be in either the valuations done by the valuation committee or it would be in the subsequent event.

Right, okay. Just on that other note, you talked also about a potential IPO this year that one of the firms have hired an investment bank. Do you have any sense of timing of that that you could share at this point or not?

I don't think we can give you any specifics as we are governed by confidentiality agreements but in general, from the time that these companies hire investment bankers to when they file is often a couple months and then usually it's somewhere between three and six months before they start their road shows. I don't see anything different in this case that would change that historical timing for most of them but again, I think the bankers and the company will certainly be looking at the economic environment and the environment for IPOs.

Okay, terrific. Expectations for cash costs this year? Are they around $6 million roughly sort of comparable with where you were this past year? I think you were a little under that in cash costs.

Yes, our cash expenses this year we're looking to be approximately $6.2 million.

Cash? Okay.

Cash expense.

Right, got it, okay, and then maybe, Doug, if you could maybe just touch on a few of the companies that showed some nice increases in value over the quarter and maybe some of the reasons why and the ones I had highlighted were BioVex and Molecular Imprints and NeoPhotonics, Xradia, and Ensemble. There's a couple others, there's three others that went up or four others that went up as well but could you add a little more color on some of those companies for us as to what's moving the valuations?

I think I can. Again, we're tied with confidentiality for some of them but I'll start with BioVex. BioVex is in Phase III clinical trials. BioVex has now completed its financing for its Phase III clinical trials and the valuation is a reflection of the capital they have raised to be able to execute on their strategy.

I'll comment on NeoPhotonics and Xradia as well in a general sense. Both those companies are more mature companies. Xradia as we said is actually cash flow positive and NeoPhotonics as of the last quarter is net income positive as well. In both those cases we use comparables to value them and so we look at both their revenues and then we look at comparable market valuations of other companies as well and in both cases, you had good revenue years for both NeoPhotonics and Xradia, but if you look from quarter to quarter you've also seen the comparables increase as well in value and so our value reflects that -- call it a general increase in the value in the market in general. Daniel, do you want to comment on -- or Misti, on Ensemble?

Sure. This is Misti Ushio. At the end of '09, Ensemble closed their second discovery deal, this one with Pfizer and as such have extended their cash position and this is the primary input as to why that value increased.

Okay. Could you -- last question and I'll jump off. Could you comment on the revenue numbers for some of the companies? You gave an aggregate number in your 10-K about the revenue of the companies combined. Could you talk about any revenue specific to the particular companies that are generating revenues?

We really can't because most of it is private; however I'll try to reflect back for some of you that were at the Meet the Portfolio Day where there were some public announcements of revenue and then what is also public. I'll also try to just parse it so that you understand what drives that revenue.

So first of all, there was talk of BridgeLux revenue. BridgeLux did increase their revenue in 2009. That they said they were going to do in an article in Business Week and they did increase their revenue. Molecular Imprints in an article in the Summer in the Austin American-Statesman had predicted that they would do $24 million in revenue and they indeed did that. NeoPhotonics I believe at our Meet the Portfolio Day said they were going to do in excess of $150 million in revenue publicly there and they did as well.

If you look in general at the revenue, a couple things to note in those revenue numbers. First of all, companies like Starfire that we actually realized a loss in this year actually were revenue that was contributing to our revenue number, they are often no longer in that so some of the revenue comes off. New revenue is added.

If you look at our aggregate revenue number, you'll see that really, a few companies, NeoPhotonics and then probably three or four more companies really dominate that revenue and we think that is fairly standard in venture capital investments. First of all different companies are at different levels of maturity but a few of these companies are going to go on to really be successful and grow and you're starting to see that. Other ones will either take a little bit longer to grow or they hit $10 million in revenue and then stagnate there and then again, our idea is and our focus is to get our money into the companies that we think have the best opportunities to go forward. One last note is that in the healthcare space of course they don't have revenue.

Right, right. Terrific. Thanks a lot.

Our next question comes from [Robert Littlehill] from JPMorgan.

Good morning. Could you perhaps delineate a little further as it relates to your strategies in taking positions in publicly traded companies in terms of the blueprint or screening process by which you filter companies down to a moment of decision as it relates to taking a position?

Certainly. So I think we look at these public companies no differently than we look at our private venture capital investments. Most of them are early stage companies.

The process we go through is similar in our diligence. Most of the companies we come in contact with in the public world are companies that we actually know from diligencing similar industry verticals in our private investments as well, so we're looking for the same traits. We're looking for top notch managements, we're looking for companies introducing products into large growing exciting markets.

The only difference is in our private investments usually there's a term sheet by a syndicate of venture investors that are involved in the deal and it takes a little bit more time to develop. In the public companies we get to a decision that we would like to take a position in the company and then we decide the best method to do that and that may be just to purchase the shares on the open market. It may be that if the Company is going to raise capital to participate in a private transaction in those companies as well, so the only difference I think is actually how we buy them, our diligence is very similar across-the-board.

Great. Thank you, Doug.

Our next question comes from Greg Greenberg from Wells Fargo Advisors LLC.

I was wondering if you could talk a little bit about deal flow, specifically sort of where the pipeline of these companies or these opportunities come from and then I know last year there weren't too many new additions but as far as how many opportunities would you guess you saw last year versus how many you took advantage of as far as new investments go?

Daniel, would you like to answer that?

Sure. So our deal flow comes from a variety of sources including other venture capital firms. We're very active at looking at universities and roaming the halls of universities speaking with professors. We also get introductions from our CEOs and other employees of our current portfolio companies to potentially exciting opportunities that they know about and the general place where we will make investments come from those, we do get a significant number of non-solicited investment opportunities as well.

We see approximately a deal per every business day and that pace continued last year at least at that amount. We ended up as you know doing, investing in one privately held company and one publicly held company by the end of 2009, invested in another privately held company in the beginning of 2010 and so the pipeline is very robust. The number of opportunities and the valuations are very low and it's a great time to be able to put money to work.

I might just add that there's far fewer venture capitalists putting money to work now than there were a few years ago and we've really tried to position ourselves to be opportunistic. When that happens usually the valuations are lower and it also gives you an opportunity to continue to invest with some of the best firms, so we've really tried to position ourselves to be opportunistic to do that in the current environment.

As we've explained in some of our documents as well, there's also a wonderful opportunity in late stage private companies because of issues with syndicates and so we continue to look at those opportunities to get fairly mature companies at valuations that are much below what they've been historically.

(Operator Instructions) Our next question comes from [Jim Fanaska], Private Investor.

I'm just wondering why I'm not seeing more insider buying from you guys?

So I think -- I mean, I'll try to answer that. I'm not sure I can speak for everybody. Two things. We get a question often both inside management and inside Board members as well. I'll talk to management first.

I think you have seen some management buying over the last year. We are restricted to periods we can buy so for instance, we're closed and not able to buy from January 1 through midway through March and so we are restricted to when we can buy. When we've had open windows especially in the second half of this year, we have.

Most of this management team is a young management team. I don't think there is a lot of free capital to be investing but what is is being invested. Many of management also have options and so the options are an opportunity for them to ultimately purchase and hold that stock.

From the Board's perspective, the Board is buying. Most of them voluntarily take half of their fees and invest it in Harris & Harris Group stock and remember that the Board does not, is not able to sell their stock while they are on the Board of Harris & Harris Group.

Okay, thanks.

Our next question comes from the line of Steven Farber from Aetas Advisors LLC.

Good morning.

Good morning. I had a question with respect to any liquidity events which may occur in the near future, have you determined yet if you're going to employ the deemed dividend process as you have in the past?

Yes, our plan is to employ the deemed dividend as we have in the past. As we stated really beginning back in 2001, 2002, our intent was to position Harris & Harris Group to be a leader investing in nanotechnology enabled companies and to fund that growth through the long term reinvestment of our capital gains. It continues to be that that is our strategy at this time.

Okay, thank you.

Our next question comes from the line of [Ward Morgenthal] from [R.F. Lafferty].

Good morning. In reference to the last question that was asked, I think the deemed dividend was a disaster for a lot of us. Claiming the dividend, getting the paperwork, et cetera. So I would really consider that to be a negative; however, I just have a question. Do you have any idea as to the break down between institutional holdership and normal retail clientele?

We do. I believe it is approximately a little over 30% institutionally held and a little under 70% retail held.

Okay, thank you very much. Appreciate it.

And we have a follow-up from Greg Greenberg from Wells Fargo.

Annual letter, you'd mentioned that could have done a little bit better at raising the capital maybe earlier. Did you or would you consider doing a rights offering instead?

Interesting as we've talked to our shareholders, some of them had communicated to us that they wish we had done a rights offering. I think the strategy we employed was the right strategy in October of 2009. I'll also say currently we don't have intentions to raise -- to sell additional shares. We are really focused on getting to exits and using that capital to grow the firm which we think is the best way non-dilutively to grow Harris & Harris Group.

I'm showing no further questions. I'd like to turn the call back over to Doug.

Great. Thank you very much. (multiple speakers)

Operator, there's one person in the queue we would like to take that question.

We'll take that question from Larry Deraney from Raymond James & Associates.

Doug I was a little late joining the call, busy, but there's a Company that you have, BridgeLux. Is it similar to Cree? That's all I have. Thanks.

Dan, do you want to take that?

Sure. It's -- so BridgeLux is an LED Company. They are like Cree in that they have their own proprietary process for being able to make the LED chips themselves. They actually also move up the value chain whereas Cree only sells chips, BridgeLux actually sells the arrays of the LED chips as well which allows them to move up the value chain.

(Operator Instructions) I'm showing no questions in the queue.

Great. So again this is Doug Jamison. I'd like to thank everyone for attending our first call. I'd like to remind everybody that on May 6, 2010, we have our annual shareholder meeting. That will be followed the next day on May 7 with our second Meet the Portfolio Day. This one will be in New York City, we'll have the CEOs of nine of our companies focused on the healthcare markets presenting their companies and it's going to take place at NASDAQ market site right here, and then finally our next shareholder call will be in August.

Again, thank you for your time, certainly if you have questions always feel free to reach out to management. Thank you.

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the program. You may all disconnect. Everyone have a great day.