180 Degree Capital Corp (TURN) 2012 Q4 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the Harris & Harris fourth-quarter 2012 financial results conference call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. (Operator instructions). As a reminder, this conference call may be recorded. I would now like to introduce your host for today's conference, Patty Egan, Chief Financial Officer. Ma'am, you may begin.

Thank you. This presentation contains statements of a forward-looking nature relating to future events. Statements contained in this presentation that are forward-looking statements are intended to be made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to the inherent uncertainties in predicting future results and conditions. These statements reflect the Company's current beliefs and a number of important factors could cause actual results to differ materially from those expressed herein. Please see the Company's annual report on Form 10-K as well as subsequent filings filed with the Securities and Exchange Commission for a more detailed discussion of the risks and uncertainties associated with the Company's business, including but not limited to the risks and uncertainties associated with venture capital investing and other significant factors that could affect the Company's actual results. Except as otherwise required by federal securities laws, Harris & Harris Group, Inc. undertakes no obligation to update or revise these forward-looking statements to reflect new events or uncertainties. I will now turn the call over to Doug.

Thank you, Patty. Good morning. This is Doug, and welcome to our call reporting on the year end 2012.

Harris & Harris Group is an early-stage active investor in transformative companies. I will begin this call this morning making a few remarks on our business. I will then turn it over to Patty Egan to provide a brief summary of our December 31, 2012 financials. Patty will then turn it over to Daniel to make a few additional comments, and then we will open it up for questions. We expect the call to last approximately 45 minutes.

One note for anybody that has just dialed in -- we do plan to show two videos during this presentation. To be able to see those videos, you need to log on to the webcast. Additionally, after the presentation today, you won't be able to access those videos on the webcast but you will be able to access them on our website. They will be embedded under the portfolio company section under the two respective companies, D-Wave and SiOnyx. Give us a day or two to get them up there.

The economic conditions have not changed drastically since I made the statement during the third quarter call that the current market conditions and trends do not favor Harris & Harris Group. American capitalism is not embraced risk, is no long-term vision. But I also said that over the coming years I believe, quote, we will see a return to scientific innovation to remain competitive. I believe this return to innovation will be led by corporations and not by the financial sector.

Harris & Harris Group is well positioned for the future. We've identified the investment sectors that we believe have the opportunity to provide outsized investment returns over the coming decade and we continue to make investments in these areas. We believe there are opportunities to partner with third-party capital within these areas to provide greater opportunities for growth for Harris & Harris Group. Our existing portfolio is generating a tremendous amount of excitement. Finally, we see in the dismal state of support for American scientific innovation an opportunity to continue and to strengthen our leadership in bringing early-stage scientific discoveries to market.

As I mentioned in the annual letter to shareholders, we have identified the investment sectors that we believe have the opportunity to provide outsized investment returns over the coming decade and we are making investments in these areas. In 2012, we made two new investments. In both cases, we invested more dollars and took a greater ownership position than our historic norm. This is a strategy we implemented over the past two years. Daniel will discuss both new investments in a bit.

Our existing portfolio is generating a tremendous amount of excitement. We currently have 24 companies in our equity-focused venture capital portfolio that generate revenue as of today. In aggregate, our portfolio of companies had approximately $532 million in revenue in 2012, which is a 25% increase from aggregate 2011 revenue. It's a 40% increase from aggregate 2010 revenue and approximately a 99% increase from aggregate 2009 revenue. Companies incorporating nanotechnology are finding resounding commercial success.

Currently, D-Wave is the company generating some of the greatest excitement. The progress made by D-Wave since our initial investment is evidenced by scaling its chips from 2 cubits to over 500 cubits is remarkable. The company raised additional capital in an oversubscribed round of financing from currently new investors, including a personal investment by Jeff Bezos of Amazon. It has secured multiple orders for its computers -- that's multiple orders -- and it recently expanded its management team with experience in public market companies. The new CFO, Steve Cakebread, brought Pandora public, he was President of salesforce.com and he was CFO of Autodesk.

In a recent article in New Scientist magazine on March 6, 2013, D-Wave reported that it found evidence of quantum entanglement in experiments with systems of 2 and 8 cubits within its computers. Entanglement is a key component when determining whether quantum effects are occurring.

This recent news provides further validation from the scientific community that D-Wave's capabilities are transformational and are solving some of the most challenging computational problems that exist. We recommend that interested shareholders read the article from the New Scientist magazine. It discusses quantum computing far better than I could and some of the problems D-Wave's computers have already solved. A link to the letter can be found in our annual letter to shareholders which is posted on our website.

Additionally Lockheed Martin -- not us, but a major American corporation, Lockheed Martin -- created a video that explains the power of D-Wave's computer and discusses how Lockheed is using it to approach problems that are too difficult for existing computational systems. I think it is worth taking a few minutes to watch this video, and we will show it at the end of the presentation today.

I would like to take a few minutes to discuss valuations as well. Harris & Harris Group has historically had the discipline to write down valuations when we believe there is a dislocation between what we witness in the public markets in the type of companies we invest in, and what we see in the venture capital markets. We practiced this discipline again during the fourth quarter of 2012. Of the decrease in value over the fourth quarter, $11.8 million was a result of decreases in the value of our privately held venture capital portfolio offset by an increase of $4.3 million in the value of Xradia. Each company whose valuations changed had specific events and reasons for its valuation change, but there were two general reasons for such a large change in valuation during the fourth quarter of 2012.

First, we experience write-downs in several of our early-stage companies. These write-downs are not unusual. As we have discussed historically, some of these early-stage companies will be unsuccessful investments. To be successful, it is important for us to feed the fat hogs and starved the lean ones. That is why we continue to make new investments and we continue to make early-stage investments.

But, historically, we have also taken intermediate write-downs in investments that later proved profitable. Sometimes we have the opportunity to reset the valuations to better represent the risks we see going forward. Sometimes this reset may benefit our ownership, thereby permitting us to realize greater value later as the company executes on its business plan. We believe that some of the decreases will be offset later by increases as these companies begin to execute on their plans.

Historic examples of this would be NeuroMetrix and BioVex, both of which decreased in value before providing very good returns for Harris & Harris Group.

The second general reason driving changes in our private portfolio is our recognition that the public markets are currently ascribing lower than historical valuations to the type of companies in which we invest. We believe that public markets are undervaluing innovation and growth. Over time, we believe there will be some regression to the mean, driven by a return in the demand for investing in innovation and growth companies. Write-downs in the values of more mature companies in our portfolio such as Adesto, Bridgelux, Cambrios, are in part representative of this recognition of the mismatch between venture capital pricing and values ascribed to companies at similar stages of development in the public markets. Adesto, Bridgelux and Cambrios all had record years of revenue in 2012. In spite of decreases in our value of our holdings in each company as of the end of 2012, we remain excited about the prospects for all three companies and for the potential future returns from these investments to Harris & Harris Group above where we value these investments as of December 31, 2012. In all three cases, present value may not be indicative of future value.

Patty, will you now take us through the financials?

Thank you, Doug. At December 31, 2012 we had total assets of approximately $132 million on our balance sheet. Included in our total assets is our venture capital portfolio, which was valued at $108 million versus its cost basis of $111.7 million. Therefore, at December 31, 2012 our venture capital portfolio was in a depreciated state of $3.7 million.

We also held $22.8 million in cash and US treasuries and had no debt outstanding as of December 31. Included in our cash balance is $1.6 million of premiums from call options that we have collected during the year 2012.

At December 31, 2012, our primary and secondary liquidity was $38.2 million. Our net assets at December 31 were approximately $128.4 million and our net asset value per share was $4.13. This is a decrease from our net asset value per share of $4.70 at December 31, 2011.

Turning to our income statement, for the year ended December 31, 2012 we had investment income of approximately $722,000. This compares with approximately $703,000 in investment income during the same period in 2011.

Our total expenses were approximately $9.5 million for the year compared with $9 million during 2012. These expense figures include both cash and non-cash-based operating expenses such as stock-based compensation. Our total cash-based and accrued operating expenses for the year ended December 31, 2012 were approximately $6.3 million, which is flat compared to our cash-based expenses of $6.3 million in 2011.

This yielded a net operating loss of $8.8 million through December 31, 2012, which is an increase to our net operating loss of $8.3 million during 2011. During 2012, we had total non-cash stock-based compensation costs of approximately $2.9 million. In May of 2012, the senior officers of the Company voluntarily canceled all of their outstanding stock options. So, included in the $2.9 million compensation cost for the year is a one-time non-cash charge of $1.4 million related to the voluntary cancellation of these options. This expense would have been recognized as these options vested over dates extending out to June 2014. We will not incur any additional compensation expense related to these canceled options in the future. This charge has no impact to NAV.

The remaining stock-based compensation expense relates to outstanding stock options for nonexecutive employees and for restricted stock. These expenses also have no impact to NAV.

I will now hand the call over to Daniel.

Thank you, Patty. As Doug mentioned earlier in the call, we have identified the life science and energy investment sectors as ones that we currently believe have the opportunity to provide outsized investment returns. In our most recent financial statements filed on Form 10-K, we began using the term life sciences rather than healthcare to reflect that portion of our portfolio. We believe life sciences is a more appropriate term than healthcare, owing to the scope of applications of life science-related companies outside of the traditional healthcare markets such as agriculture, food and industrial biotechnology.

Trends generating disruptive investment opportunities in life sciences include healthcare budgets are out of balance globally, with the aging population jeopardizing the financial viability of the leading economies of the world. Life science innovations in diagnostics, treatment and monitoring of disease must simultaneously reduce costs and improve the quality of life.

Continuing global growth in population and improvements in quality of life substantially increase the demand for raw materials water, food and energy. This demand cannot be adequately met with conventional methods of manufacturing, generation, mining or harvesting. And the ubiquity of data and Internet access, while stationary and increasingly while mobile, enable handheld devices to become a natural access point for communication and data sharing between healthcare service providers and their patients.

Trends generating disruptive investment opportunities in energy include identification and extraction of natural resources is becoming more of a science and less of an art. Such a shift in approach is driven in part by the need to manage the significant costs associated with energy-related projects and the availability of new methods of using data that were heretofore not available. Governments and industry worldwide are looking for new and clear forms of energy. This has increased interest in the ability to produce chemicals and fuels from renewable resources. Additionally, governments and corporations and individuals worldwide also seek to translate significant amounts of data generated by today's monitoring capabilities into ways to optimize the use of energy and resources.

Our interest in life sciences and energy will continue to be multi-disciplinary. For example, analytical, modeling and data acquisition techniques accelerated drastically during the first decade of the century, rapidly increasing the development of new diagnostic testing. We believe that this trend will continue, owing to the successful migration of well-developed semiconductor manufacturing and computational technologies into the life science applications.

Tools that are commonly used for inspection and certification of electronic devices could find use in analyzing soil and rock samples in oil and gas exploration. Organisms that are used to manufacture therapeutics could find use in the producing of renewable chemicals and fuels. These multi-disciplinary products and services will seek to improve performance, productivity and efficiency and to reduce environmental impact, waste, cost, energy consumption and raw materials.

We encourage you to read more about our thoughts on these sectors as well as the electronics sector beginning on page 43 of the Management's Discussion and Analysis section of our financial statements as of December 31, 2012, filed on Form 10-K.

During 2012, we added two new companies to our pipeline of portfolio companies. These two new investments are AgBiome and OpGen.

In December 2012, we made a $2 million investment in AgBiome. We are a founding investor in AgBiome. AgBiome is a provider of early-stage research and discovery for agriculture. It is utilizing the crop microbiome to identify products that reduce risk and improve yield. The founding team has a successful history of building and exiting companies that address agriculture-related needs. The company is currently in stealth mode. We look forward to being able to share more about the company in the future, once it emerges from this status.

During 2012 we invested $3.26 million in a company called OpGen. OpGen is an innovator in providing rapid, accurate DNA analysis products and services. The company's proprietary whole genome mapping technology provides high-resolution whole genome maps for sequence assembly and validation, strain typing and comparative genomics. The company is dedicated to positively influencing individual healthcare outcomes, advancing scientific research and enhancing public health by delivering precise, actionable information and results to customers in the life science and healthcare communities. OpGen's customers include genomic research centers, public health agencies, biodefense organizations, academic institutions, clinical research organizations and biotechnology companies.

Each of these investments represents our strategy to invest and own more of our portfolio companies than we have historically, as we believe doing so could provide more meaningful returns upon our exit from these investments.

In addition to these new investments, we wanted to highlight a maturing company in our electronics portfolio, SiOnyx, which is another example of a company where we have substantial ownership. We originally invested in SiOnyx in 2006 based on its proprietary technology for improving the performance of light-sensing devices commonly used in consumer, commercial and defense-related applications. SiOnyx's image sensors are able to detect light that other similar sensors are unable to detect, particularly infrared light. The performance of SiOnyx's image sensors, as shown in this video that we will show in a second, has led to the company securing opportunities and interest from market-leading companies in mobile computing, perceptual computing, mobile biometrics mobile and gesture user interface control.

I believe the video will start. (plays video).

Lastly, I would like to discuss our strategy and execution for managing our publicly traded portfolio company positions in Solazyme and NeoPhotonics. We continue to use option contracts to generate income from premium payments and to facilitate the orderly monetization of our publicly traded portfolio of investments. We began the orderly monetization of our investment in NeoPhotonics during the fourth quarter of 2012 and completed this monetization in the first quarter of 2013. Our average sale price, including option premiums was $5.52 per share. As of the date of this call, we no longer hold any shares of NeoPhotonics Corporation.

We continued monetizing a small portion of our investments in Solazyme during the fourth quarter of 2012 and the first quarter of 2013. As of today, we have sold approximately 758,000 of our 2.3 million shares of Solazyme, generating total proceeds including option premiums of $9.1 million or $11.94 per share versus our cost basis of our total investment in Solazyme of $5.4 million or $2.36 per share. $1.5 million of our realized returns were generated from premiums received on options that expired on exercise.

We still hold approximately 1.55 million shares of Solazyme that currently have a market value of approximately $13 million. We currently have 390,000 of these 1.55 million shares under call option contracts that expire in June 2013 to sell at $10 per share. Our strategy of using options to monetize our investments in publicly traded companies has thus far generated approximately $2.2 million in cash proceeds to the Company.

I will now hand the call back over to Doug.

Thank you, Daniel. Again, we encourage our shareholders and those interested in learning more about our portfolio of companies to go to our website or to our Facebook page, where we have posted links to announcements made by more of our portfolio of companies than we have time to discuss on today's call or in the shareholder letters. Good things are happening at many of these companies.

In closing, we believe we have found the solution necessary to make us successful in what has been a very difficult and changing venture capital environment over the last decade. We continue to execute on our priorities. It will take time, but we are excited by the performance of our portfolio and the receptivity to our story outside the financial sector.

What we will do now is we will open the line for questions and then we will follow up the question period with the D-Wave video. So if we could open line to questions now?

(Operator instructions) Ed Woo, Ascendiant Capital Markets.

I had a question in terms of the industry performance currently. Do you think that you will be continuing down in making investments in both healthcare and technology, or do you think that there is one sector that you think will do better in the near-term?

So it's a good question. I think that, as we look forward -- as you know, historically we have talked about life sciences, energy and electronics. If you look over at least just the past decade since we focused on nanotechnology, our life science investments and our energy investments have been the best performers and our electronics thus far have been a laggard. But as you heard from Daniel, there's a lot of interesting things happening in even electronics that can impact the life science market. So for instance, HZO that can cope electronics to make them waterproof has applications in medical devices that could become very important.

So I think if you just look historically, we've looked at -- I think our number of life science investments has been increasing and our two investments in 2012 were in the life sciences. But also, our investment in ABS and PWA, which is really in the produced water and traditional oil and gas. It has a fantastic opportunity and are currently preparing to test in Southeast Asia our other areas we are investing.

So I think that you'll see us investing in both areas, and I think the thing to watch for is our investments will still continue to be multi-disciplinary. So they will be moving across different industry sectors as well.

Great. And I think in the 10-K, there was a mention of one of your companies being approached for a potential acquisition. What is your outlook this year in terms of possibly any exit events?

So I think that we will have an exit event this year. Of course, as we say in all of our disclosures that we cannot, of course, guarantee that, and that may not occur. But I think that we will see exits in 2012 -- I'm sorry -- in 2013. As often happens, 2011, we had five exits (inaudible) by one of the best years in the history of Harris & Harris Group for exit. 2012, we saw that push back. I think I addressed some of that in the shareholder letter, where there are groups that are being approached that have been talking about exits. But the exit environment in the public markets is just not a good environment for companies that have control over their future. Right? If you need the capital, you may have to exit in this environment. A lot of our companies are in such a position where they don't need to do that. So why would you subject yourself in the public market, especially if you were going to be a sub-$1 billion, sub-$500 million market cap company?

In the acquisition space, I think the environment has been better. We talked about that historically with BioVex. I think that potential exit you will see in 2013 will be on the acquisition side, rather than the IPO side. I think we will have better visibility into other potential exits looking through 2013 into early 2014, over the coming six months as well.

Daniel, would you add anything to that?

No.

Great. Thank you and good luck.

Jerry Tweddell, Tweddell Goldberg LLC

Good morning. Gentlemen, how long ago was it you made the announcement that you were seeking to acquire private money, to run that money in a joint venture in some of your investments? It seems to me that's quite a while ago, and I'm wondering if you have made any progress in that direction.

I think we made the announcement really starting at the year-end reporting in 2012, so the beginning of -- I'm sorry -- year-end reporting 2011, so beginning in 2012. We really began that process, I would say, in May of 2012. As we -- there's not a lot we can say, unfortunately, as a public company looking to raise private capital. But as we've said historically, we believe that's a 12-to-18-month process if you look at what it takes to raise a venture capital fund. And historically, for a company like us that has never had limited partners or those partnerships, it takes a while to build those relationships. Those groups are not writing $500,000 checks or $1 million checks; they are writing $10 million, $15 million, $25 million, $50 million checks. So it takes some time to build that. We are actively making progress. But I think, as I've said in the letter, that really we will monitor the progress through 2013.

Well, my question stems from -- it sounds like your annual expenses are running 8%, maybe 9%. And without some new source of revenues, that's a heck of a drain on any investment vehicle, and that's of real concern to me.

So just to be clear, the expenses that you are referencing include a fair number of non-cash, stock-based compensation. Our expenses actually, from a cash base perspective, run about -- this past year, it's about --

$6.3 million.

-- it's $6.3 million, or 4.6% of our net assets.

So if you go back and look, we clearly understand, right, the difficulties Harris & Harris Group has faced historically is to be a public company with our asset size, investing in venture capital, our asset size is too small. We need to grow that asset size. You have heard us also so we are capital constrained, and that is something we are working to address.

I think that, if you look at us compared to traditional venture capital firms and you remove the expenses of being public, I mean the incredible amount of director and officer insurance that one needs to cover, the accounting expenses that took off in 2005 from under $100,000 to greater than $400,000, you remove those public expenses, and I would argue we run this Company more efficiently than most or all other venture capital firms across the country that are private.

We have been addressing that. We did some venture debt. The income coming in from the call options of our public companies has helped offset those expenses annually in a more predictable pattern than our exits have. But our strategy going forward is really to address that. The position we would like to be in that we have said publicly is to really begin removing the expenses annually and having the vehicle be a clear option on the venture capital returns, which are difficult to predict and take some time, but also can be very large exits when they occur.

So your point is well taken. We understand that. I think we have done a lot to address it. We have looked at management. I don't think drastically cutting expenses is going to do anything to change our vehicle. At this point in time, I think we run it very leanly. I think we need to get to exits and monetization events that provide growth in capital. And, again, I think the strategy of managing third-party capital that actually brings in income and also brings in carry goes a long way to address that. And that's what we're working on executing on currently.

So you can't give any guidance about how long we can expect before something materializes or doesn't materialize?

So I think -- I mean, 12 to 18 months is what we talked about normally to raise these funds. I think that that is probably indicative of most venture capital firms, and so I can't give you any guidance other than general in the industry.

Unfortunately, that's all -- the SEC solicitation rules prevents you from -- prevents anyone raising private money from discussing any details publicly before it's actually completed.

Well, you had five exit events in 2011, and your investors are no better off now than they were at the bottom of the market crash in March of 2009. And I have been a long-time investor, but I wonder about the business plan. Without an infusion of this private capital -- that's why I emphasize it -- it doesn't seem to me that it's proving to be a very sustainable business model. It probably was when the Company was founded, but the investment world, as you mentioned, is radically different than it was then. So that's my concern.

Well, understood. I think that, look, we don't disagree with you that the investment community has changed dramatically during that period of time. We think that we have articulated a strategy that allows us to move into this new world. Again, we went out to the market and raised capital, significant amounts of capital, from 2003 through 2009. We have not been back to the market since, which means that we funded the Company through the realized exits in the portfolio. We believe more are coming and we believe that with the exits that are coming and with the strategy we have discussed that we have built the Company to be successful moving forward.

Thank you.

(Operator instructions). At this time, I'm not showing any further questions. I would like to turn the call back to management for any further remarks.

That's great. Thank you very much. What we would like to do is just a couple of announcements, and then we would like you to stay online to see the D-Wave video. I will note, the D-Wave video -- not prepared by us. This is prepared by the first customer of D-Wave's computers, Lockheed Martin. It is a video that they put together talking about the power of quantum computing, and I think it really does a great job of discussing why D-Wave is very unique and why this ability to do quantum computing can dramatically change how we think about complex problems going forward.

I would also like to note, yesterday afternoon, I believe that Amgen announced top-line results from the Phase III trial in melanoma for the drug originally developed by our portfolio company, BioVex. I note that because that was successful with a 16% response rate as compared to a 2% response rate in best-of-class therapy to date, so dramatically different, matches I think what we have seen historically in the Phase II data as well. I think it's interesting to follow because it will certainly impact our milestone payments, potentially, as well. So that's available publicly if anybody wants to see it.

Again, we would like to thank everyone for their support of Harris & Harris Group. We believe we are taking the right steps to make this Company successful for shareholders. I hope you enjoy the D-Wave video. We invest in transformational companies that have the opportunity really to change the world. We think that BioVex with the first-in-class oncolytic virus now moving through Phase III clinical trials, we think companies like Solazyme, we think companies like D-Wave really fit this vision well. Enjoy the video. Thank you.

(plays video -- audio ends)