Harris & Harris Group Management Discusses Q2 2013 Results - Earnings Call Transcript

Aug.13.13 | About: Harris&Harris Group (TINY)

Harris & Harris Group (NASDAQ:TINY)

Q2 2013 Earnings Call

August 13, 2013 10:00 am ET


Patricia N. Egan - Chief Financial Officer, Chief Accounting Officer and Treasurer

Douglas W. Jamison - Chairman, Chief Executive Officer, Managing Director and Chairman of Executive Committee

Daniel B. Wolfe - President, Chief Operating Officer and Managing Director


Edward M. Woo - Ascendiant Capital Markets LLC, Research Division

Jerry Tweddell


Good day, ladies and gentlemen, and welcome to the Harris & Harris Group Second Quarter 2013 Shareholder Update Conference Call. [Operator Instructions] As a reminder, this call may be recorded. I would now like to introduce your host for today's conference, Patty Egan, CFO. Please go ahead.

Patricia N. Egan

I'll start by reading the Safe Harbor statement. This presentation may contain 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 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'll now turn the call over to our CEO, Doug Jamison.

Douglas W. Jamison

Thank you, Patty. Good morning. This is Doug. Welcome to our call reporting on the second quarter of 2013. Patty Egan, our CFO; and Daniel Wolfe, our President and Chief Operating Officer, are joining me on the call today.

Harris & Harris Group is an early-stage active investor in transformative companies. We invest in early-stage companies because we believe company-building is the best way to deliver outsized returns regardless of the market conditions, so-called alpha in the finance filings. Our team has the right expertise for this early-stage company-building, and we have been successful where others have faltered over the past decade. Most importantly, we believe we now have the portfolio and a position where our success can be meaningful to NAV growth as we experience greater success over the coming years.

There are few experienced investors involved in deep science innovation that has been the cornerstone to our success. Astronaut Buzz Aldrin has been attributed with the quote, "You promised me Mars colonies. Instead, I got Facebook." We build companies that solve big problems. We believe venture capital has reached the nadir on its cyclicality, and the next decade is going to be a good climate for building these types of companies, especially since there's now less competition.

The first half of 2013 has been productive for Harris & Harris Group. Net asset value per share has increased from $4.13 as of December 31, 2012 to $4.24 as of June 30, 2013. There have been positive third-party new stories and public releases about the accomplishments of many of our portfolio companies. We monetized more of our public position in Solazyme, providing us with $26 million in cash, U.S. treasuries and receivables as of June 30, 2013 with an additional $10 million in secondary liquidity comprised of our publicly-traded securities. The sale of Xradia provided additional cash in July.

Our strategic priorities remain focused on growing our NAV and generating returns for shareholders by: one, working closely with our best portfolio companies to maintain or increase our ownership to provide more meaningful returns upon exit; two, organizing the company to manage third-party capital; and three, investing for growth in sectors that we believe have the opportunity to provide outsized investment returns. We believe it is our existing portfolio that will provide the potential for growth over the next 5 years, while this partnering and investing in new portfolio companies to provide the growth from years 5 to 15, and beyond.

I would like to take a moment and focus on our existing portfolio as a whole. We currently believe this portfolio has the potential to provide outsized growth of our NAV and will drive value for our shareholders over the next 5 years. Not including Solazyme and Xradia, there are 26 companies in our equity-focused venture capital portfolio. As of June 30, 2013, we value these 26 equity companies at $82.8 million. Since 1983, including the gains from Xradia and the gains on our remaining investment in Solazyme,, if those shares were sold or called under outstanding in-the-money option contracts as of June 30, we generated aggregate net realized gains of $88.9 million on invested capital of $112.4 million, or a multiple of 1.8x invested capital. As of June 30, we have approximately $100 million invested in these 26 portfolio companies. We expect to invest additional capital in these companies prior to the realization of our investments. If our current portfolio returns capital at a similar rate to our current historical multiple to invested capital, including currently projected future follow-on investments in these companies, we currently believe this portfolio has the potential to yield significant cash returns to Harris & Harris Group over the coming year. We do note that future return multiples on invested capital may be materially different from historical multiples, and we cannot assure you when or if any of these above-discussed investments will be monetized.

There are 3 main drivers of our potential growth and value over the coming years: first, we have a larger portfolio of more mature companies than we've had historically; second, we believe the quality of our existing portfolio is stronger than it has been historically; and third, we own a larger percentage of the companies in the existing portfolio than we have owned historically.

This chart shows the change in our ownership of our portfolio companies from 2001 to 2013 as our assets have increased. Our investment weighted average ownership has increased from approximately 5% for investments initially made between 2001 and 2004, to approximately 14% for investments initially made between 2009 and 2013. This increasing ownership, which we have noted in previous shareholder communications, gives us more control over these companies to potentially affect outcomes beneficial to Harris & Harris Group. Over the coming 5 years, as companies where our initial investment was made between 2005 and the present continue to mature and exit, we believe our increased levels of ownership have the potential to provide greater returns than our historical investments.

Patty, will you walk us through the financials?

Patricia N. Egan

Yes. Thank you, Doug. At June 30, 2013, we had total assets of approximately $135.3 million on our balance sheet. Included in our total assets is our venture capital portfolio, which was valued at $108.7 million versus its cost basis of $110.4 million at June 30, 2013. Therefore, at June 30, our venture capital portfolio was in a depreciated state of $1.7 million. We also held $22.2 million in cash and U.S. treasuries and had no debt outstanding. We also had a receivable of $3.8 million from sale of a portion of our shares in Solazyme in June 30. We received these funds in [indiscernible] July. At June 30, 2013, our primary and secondary liquidity was $36.4 million. Not included in this $36.4 million are funds from the sale of Xradia, which was completed in the third quarter of 2013. In July, we received $12.8 million from this sale, which adds to our cash position. Our net assets at June 30, 2013 were approximately $132.1 million, and our net asset value per share was $4.24. This was an increase to our net asset value per share of $4.13 at December 31, 2012.

Turning to our income statement. For the 6 months ended June 30, 2013, we had investment income of approximately $375,000. This compares with approximately $132,000 in investment income during the same period in 2012. Our total expenses were approximately $4.3 million for the 6 months, compared with approximately $5.5 million during the same period in 2012. These total expense figures include both cash and noncash-based operating expenses, such as stock-based compensation. Stock-based compensation expense has no impact to our NAV. Our total cash base and accrued operating expenses for the 6 months ended June 30 were approximately $3.7 million as compared with $3.4 million during the comparable period in 2012. This yielded a net operating loss of $3.9 million through June 30, 2013, which is a decrease compared to our net operating loss of $5.4 million for the 6 months ended June 30, 2012.

I'll now turn the call over to Daniel.

Daniel B. Wolfe

Thank you, Patty. I'd like to begin by discussing our continued monetization of our position in publicly-traded Solazyme and the sale of Xradia to Carl Zeiss. During the first half of 2013, we continued to monetize our investment in Solazyme through the use of auction contracts and sales in the open market. As of today, we had sold approximately 1.7 million of our 2.3 million shares of Solazyme, generating realized proceeds, including option premiums, of $18.7 million or $10.86 per share, versus our cost basis of $5.4 million or $2.36 per share. We still hold 580,000 shares of Solazyme, and all of these shares are currently under option contract to be sold at varying prices and at varying expiration dates. If our in-the-money option contracts were called at June 30, 2013 and the remaining shares were sold at the closing price on that date, we would receive proceeds of $6.2 million.

On July 18, 2013, we announced the closing of the sale of Xradia to Carl Zeiss. Xradia designs and manufactures 3D x-ray microscopes for industrial and academic research application. Xradia's solutions offer high-contrast and high-resolution imaging capabilities for a large range of sample sizes and shapes. Harris & Harris Group invested in Xradia in 2006 and was the first and only institutional investor in the company. This sale provided an additional $12.8 million in cash at the close and the potential for an additional $2.4 million in future cash currently being held in escrow for up to 1 year from the date of acquisition. Since the close of the Xradia acquisition occurred after June 30, 2013, the $12.8 million is not included in our cash, U.S. Treasury securities and broker receivable as of June 30, 2013 of approximately $26 million. The Xradia sale will represent a 3.8x multiple on invested capital for Harris & Harris Group, assuming all escrow payments are received.

We continue to believe that we have a portfolio of high-quality investments that can generate future gains for shareholders. During the first half of 2013, many of our portfolio companies secured new partnerships and new corporate investors, launched new products and were the subject of articles and discussions in widely distributed media and academic journals. Shareholders can find more information about each of these announcements on our website and on the websites of our portfolio companies, the addresses of which are available on our website.

As we have discussed in previous shareholder communications and in Management Discussion and Analysis section in our quarterly report on form 10-Q, we believe there are a number of macro and micro trends generating disruptive investment opportunities, particularly in life sciences. Our distinctive approach to these investments centers on the use of interdisciplinary innovation, often enabled by micro and nanotechnology, that we described as the combination of biology with advances in other areas of science and technology that has historically not been employed to address such needs. We call this distinctive approach BIOLOGY+. Examples of this approach included the use of standard semiconductor manufacturing techniques to more rapidly synthesized, sequenced and analyzed genetic material for personalized diagnosis and treatment; the use of new computing approaches to more quickly analyze proteins and other biological material to identify new targets for design of treatments for disease; and the use of nontraditional -- traditional noninvasive inspection technologies to image biological material in 3 dimensions and at high resolution.

We have a long and successful history of investing in BIOLOGY+ companies. We characterize 15 of our 26 current portfolio companies, discussed previously as BIOLOGY+ companies, using interdisciplinary innovation to address life science and healthcare-related needs. One of these companies, EchoPixel, is a new portfolio company that we invested in during the second quarter of 2013. EchoPixel is a data visualization company helping various groups of users to make better sense of data coming from advanced scientific and medical equipment. It uses proprietary algorithms and off-the-shelf hardware to render and analyze information, amplifying human experience with machine-learning capabilities. Harris & Harris Group led the round of investments and is currently the only institutional investor in the company. Harris & Harris Group purchased between 10% and 20% of EchoPixel with its initial investment of $750,000.

I'll now turn the call back over to Doug.

Douglas W. Jamison

Thank you, Daniel. Over the remainder of the year, we will issue a series of communications aimed at informing the market and our shareholders about our corporate strategy, about our BIOLOGY+ strategy as we continue to invest for future growth and about the uniqueness of our current portfolio companies. Additionally, as some of our most mature portfolio companies continue to execute on their business plans and begin to plan for potential initial public offerings or sales, we will host our fourth Meet the Portfolio Day to highlight the exciting businesses of these companies. Currently, we plan to host this Meet the Portfolio Day during the first quarter of 2014.

We will now open the lines to any questions. Thank you.

Question-and-Answer Session


[Operator Instructions] And our first question comes from Ed Woo from Ascendiant.com.

Edward M. Woo - Ascendiant Capital Markets LLC, Research Division

You mentioned a little bit about the IPO market. I was wondering if you could give me any specific colors on the certain sectors that you feel are outperforming other sectors.

Douglas W. Jamison

Certainly. Thank you, Ed. I think clearly, in the life sciences, there is an active IPO market going on. I think that started with some of the biotech therapeutic companies last year. It also started with some of the micro-cap public companies last year and has now extended, I would argue, into some of the molecular diagnostic space as well. I think that the best companies in those categories are finding the public markets receptive to their stories and are trading positively in the aftermarket as well. So I think you will continue to see companies in that space file for IPO. Clearly, we have at least 1 company that plays in that space as well that you've heard us talk about going forward that, as of this point in time, has done nothing but clearly would look to the opportunity in the future. That company's Metabolon.

Edward M. Woo - Ascendiant Capital Markets LLC, Research Division

Great. What about the other sectors? Do you feel that it's going to playing catch up to the life sciences, or do you think life sciences will continue to be stronger?

Douglas W. Jamison

I think that -- again, I'm probably speaking to areas that we invest in, so electronics, energy and the life sciences. Clearly, there are other very active areas in the IPO market going on currently. I think that -- look, in other markets, I think the highest-quality companies are finding receptive investors if they have a good growth story, and I think that that is often the case in what I would consider an open IPO market currently. So I think that the best-in-class companies are finding that. I think that the life sciences is probably heated up more than some of those other areas that we currently invest in, compared to the clean energy and compared to the electronics space.


And our next question comes from Jerry Tweddell from Tweddell Goldberg Investment Management.

Jerry Tweddell

I noticed in your latest letter, you talked about you're in the process of organizing the company to manage third-party capital. Seems to me you announced, it must have been maybe almost 2 years ago, that you were starting that effort. And in my opinion, that would be quite a game-changer as far as stemming the erosion of NAV from your expenses, and the fact that you're talking now about organizing the company to do that 1.5 years or 2 years later is sort -- well, not sort of, very disappointing.

Douglas W. Jamison

So maybe a couple of notes on that. I think that every quarter, we get asked a similar question, and our response is unfortunately, we're not allowed to say that much at this point in time because of public security laws. I think that the language we tend to use, as you know, is always sent through the account from the lawyers as well. We're actively engaged in that process. We're actively -- it takes a lot of the time of the managing directors. I think we have said historically that we expect that process to be a 12- to 24-month process if we are successful. And I think the first time we announced it was May of 2012. So we're ongoing on that process. What we're trying to do, I think we've been public about as well, which is deeper partnerships with these corporations. And so those are bigger discussions that enter into their strategic timelines as well. It's not a discussion for a couple million dollars that can be made at a mid-level overnight. So it's a longer process, but we think, if we can be successful, it is a good thing for the future, not just from an expense perspective but also for the intelligence one gets from these corporations and the fact that we think that a lot of the power structure and a lot of the capital over the next decade resides within some of the leading corporations around the world.

Jerry Tweddell

Okay. You've had some success with your exit -- exits recently and raising cash, but from the shareholders' standpoint, your most recent, I believe, you got $15 million in cash and your original cost was $4 million, which sounds very good on the surface, but you were carrying the position at something like $13.5 million. So as far as moving the needle for shareholders, it didn't do anything, and we're looking at a stock that's the same place it was in the bottom of the market crash in 2009; when we got the S&P up, I don't know, up 120%, the NASDAQ, which is more of a comparable indicator, was up well over 100%. It just seems, from the shareholders' standpoint, that we're on this treadmill, and the treadmill is winning.

Douglas W. Jamison

Point taken. I think that, to be blunt, clearly, we're not proud of where the stock price is today. I think that the solution to that is to, as you mentioned, to put NAV in a growth type of position. If you look, NAV has bounced around a bit but primarily been in the same position as well, and from management's perspective, I think that the growth in stock price should follow the growth in the value of the company. So as I try to highlight here, as I think we tried to highlight in the shareholder letter as publicly as we can, we believe that growth is coming. We believe that shareholders should look to and hold us accountable over the next 5 years to seeing that NAV grow at a market-acceptable rate, and I think if we're able to do that, the stock price should follow. Again, it's interesting to us to see Xradia announcement, and literally, I think the stock goes down when the market's actually trading higher that day. But again, I think your point is well taken, right? I mean, fair value accounting means that Xradia has executed over time. It's not like someone came along and took a company that was cash flow negative with $1 million in revenue and paid over $100 million for it, right? Xradia had been executing on its business. We've been building a solid company. And fortunately or unfortunately, that's reflected in fair value accounting. So you don't see the leap. You don't even see the leap that you saw, for instance, when Solazyme went public and you have, perhaps, more momentum placed going on in the market, at least for a short period of time. But I think what we need to do is we need to grow NAV per share. We are fully focused on that. We have a portfolio of companies now where we actually own meaningful ownership so that when they exit, we own up north towards 10%, and more percent of these companies. And we think that that can create the type of growth that both offsets expenses, offsets the pressure of expenses and actually turns into meaningful growth for NAV per share. And I think that is what shareholders should expect and look for over the next 5 years.


[Operator Instructions] And I'm not showing any further questions at this time. I would now like to turn the call back to Doug Jamison for any further remarks.

Douglas W. Jamison

Thanks. We certainly appreciate your involvement on the call today. Look for letters. I think you're going to see probably 3 or 4 letters ahead of the next quarterly report, just informing shareholders and the market of some of the strategic things we're doing and some of the opportunities that exist out there. I think that there are some exciting companies in the portfolio that had been very public. I mean, you've seen a tremendous amount of information about a very exciting company, D-Wave, in the quantum computing space that the market is not thinking about when it comes to Harris & Harris Group. And look, as we go forward, I think you'll continue to see management buy shares. The beauty of this current stock price is it provides a very nice buying opportunity for those that believe in the story, and the management is certainly putting its money where its mouth is. So thank you very much, and we look forward to reporting in future quarters. And again, we look forward to managing the company to grow NAV over the next 5 years. Thank you. Bye.


Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program. You may all disconnect. Everyone, have a great day.

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