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22-Sep-2008
Quarterly Report
Management's Discussion and Analysis of Financial Condition and Results of Operations
Introduction
The following discussion contains forward-looking statements. The words "anticipate," "believe," "expect," "plan," "intend," "estimate," "project," "will," "could," "may" and similar expressions are intended to identify forward-looking statements. Such statements reflect our Company's current views with respect to future events and financial performance and involve risks and uncertainties. Should one or more risks or uncertainties occur, or should underlying assumptions prove incorrect, actual results may vary materially and adversely from those anticipated, believed, expected, planned, intended, estimated, projected or otherwise indicated. Readers should not place undue reliance on these forward-looking statements.
The following discussion is qualified by reference to, and should be read in conjunction with our Company's financial statements and the notes thereto.
Our Company is a public venture capital company. Its primary business is to invest in emerging growth companies. Our Company intends to assist these companies in strategic and financial planning, in market strategies and to assist them in trying to achieve prudent and profitable growth. Management is devoting most of its efforts to general business planning, raising capital, and seeking appropriate investments.
Our Company's primary investment objective is to increase its net assets by adding value to the portfolio companies and thus, increasing stockholder value. Management believes that our Company will be able to achieve these objectives by concentrating on investments in companies which are most likely to benefit from management's expertise in finance, strategic planning, operations, and technology.
The income that our Company derives from investments in portfolio companies consists of management fees, interest income, and appreciation (net of depreciation) in the values of portfolio companies. At the time of disposition, the disposition proceeds of these portfolio securities will most likely make up most of our Company's cash revenues.
Consequently, our Company's success or failure will depend on investing in companies which appreciate in value more than other companies in which our Company invests depreciate in value. There is no assurance that our Company will be able to do so.
Pursuant to the requirements of the Investment Company Act of 1940, as amended ("1940 Act"), the Board of Directors is responsible for determining in good faith the fair value of the securities and assets held by our Company for which market quotations are not readily available. In making its determination, the Board of Directors may consider valuation appraisals provided by independent financial experts. Our Company expects to pay a professional fee each time such a valuation is provided. With respect to private equity securities, each investment is valued using industry valuation benchmarks, and then the value may be assigned a discount reflecting the particular nature of the investment.
The Board of Directors bases its determination of value on, among other things, applicable quantitative and qualitative factors. These factors may include, but are not limited to, the type of securities, the nature of the business of the portfolio company, the marketability of the securities, the market price of unrestricted securities of the same issue (if any), comparative valuation of securities of publicly traded companies in the same or similar industries, current financial conditions and operating results of the portfolio company, sales and earnings growth of the portfolio company, operating revenues of the portfolio company, competitive conditions, and current and prospective conditions in the overall economy and the equity markets.
Without a readily recognized market value, the estimated value of some portfolio securities may differ significantly from the values that would be placed on the portfolio if there existed a ready market for such equity securities.
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Financial Condition
Our Company's total assets, net assets, net asset value per share, unrealized
appreciation or depreciation are set forth in the following table:
| |
At the Quarter Ended |
At the Year Ended |
| |
July 31, 2008 |
April 30, 2008 |
| TOTAL ASSETS |
$ 7,111,026 |
$ 8,265,499 |
| NET ASSETS |
$ 4,959,096 |
$ 5,599,232 |
| NET ASSET VALUE PER SHARE |
$ 0.84 |
$ 0.98 |
| NET UNREALIZED |
$ (1,308,344) |
$ 1,498,262 |
APPRECIATION/(DEPRECIATION) ON INVESTMENTS
The changes in total assets, net assets and net asset value per share for the three months ended July 31, 2008 were primarily attributable to:
Lightwave Logic, Inc. ("LWLG"), average valuation on restricted and unrestricted shares decreased from $2.55 to $1.69 per share during the three months ended July 31, 2008. During the three months ended July 31, 2008, our Company sold 53,955 shares for a sales price of $103,430 with a cost of $31,294 for a realized gain of $72,136. Our Company's investment in LWLG common stock had a net unrealized appreciation of $860,884 for the three months ended July 31, 2008. Our Company's investment in LWLG warrants were valued at $1,488,000 at July 31, 2008 compared to $2,208,000 at April 30, 2008, for a net unrealized depreciation of $720,000 for the three months ended July 31, 2008.
Theater Xtreme Entertainment Group, Inc. ("TXEG") average valuation on restricted and unrestricted shares decreased from $0.15 to $0.07 per share during the three months ended July 31, 2008. During July 2008, our Company received 2,500,000 shares pursuant to one year management services contract with a cost of $175,000. Our Company's investment in TXEG common stock had a net unrealized appreciation of $116,932 for the three months ended July 31, 2008.
Our Company's investment in TXEG warrants were valued at $37,000 at July 31, 2008 compared to $75,000 at April 30, 2008, for a net unrealized depreciation of $38,000 for the three months ended July 31, 2008.
SIVOO Holdings, Inc. ("SIVOO") average valuation on restricted and unrestricted shares decreased from $0.21 to $0.15 per share during the three months ended July 31, 2008. During the three months ended July 31, 2008, our Company sold 300,000 shares of SIVOO for a sales price of $96,000 with a cost of $98,900 for a realized loss of $2,900. Our Company's investment in SIVOO common stock had a net unrealized depreciation of $107,320 for the three months ended January 31, 2008. Our Company's investment in SIVOO warrants were valued at $126,000 at July 31, 2008 compared to $241,000 at April 30, 2008 for a net unrealized depreciation of $115,000 for the three months ended July 31, 2008.
Our Company's investment in Vystar warrants were valued at $2,302,000 at July 31, 2008 compared to $1,854,000 at April 30, 2008 for a net unrealized appreciation of $448,000 for the three months ended July 31, 2008.
During the three months ended July 31, 2008, our Company signed a management services agreement with a new portfolio company, Multi-View Technologies ("MVT"). Our Company received 2,000,000 shares of MVT common stock valued at $20,000. Our Company also received a warrant to purchase 500,000 shares of MVT common stock, valued at $1,000.
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During the three months ended July 31, 2008, our Company signed a management services agreement with Dominion Capital Management Corporation ("DCMC") for a warrant to purchase 500,000 shares of DCMC common stock valued at $1,000.
During the three months ended July 31, 2008, our Company signed a management services agreement with a new portfolio company, Constellation Group ("CG").
Our Company received a warrant to purchase 1,000,000 shares of CG common stock valued at $6,000 and a warrant to purchase 500,000 shares of CG common stock, valued at $0.
During the three months ended July 31, 2008, our Company signed a management services agreement with a new portfolio company, iVolution Medical Systems ("IMS"). Our Company received a warrant to purchase 1,000,000 shares of IMS common stock valued at $112,000 and a warrant to purchase 500,000 shares of IMS common stock, valued at $17,000.
During the three months ended July 31, 2008, our Company sold 47,619 shares of Neptune Industries for a sales price of $9,493 with a cost of $20,000 for a realized loss of $10,507.
Gelstat Corporation ("GSAC") average valuation on restricted and unrestricted shares decreased from $0.03 to $0.012 per share during the three months ended July 31, 2008. Our Company's investment in GSAC common stock has a net unrealized depreciation of $3,986 for the three months ended July 31, 2008.
During the three months ended July 31, 2008, our Company wrote off its investment in IPI Fundraising, Inc. for a realized loss of $6,625. IPI has been out of business since December 2005 and is no longer a valid portfolio company.
The decrease in cash of $12,588.
The increase in accounts payable and accrued expenses of $9,253.
The decrease in deferred tax liability of $511,000.
The increase in deferred revenue of approximately $83,500, which is due mainly to an increase in deferred revenue of $332,000 ($175,000 for TXEG, which our Company is to earn over a twelve month period beginning July 2008, $1,000 for DCMC, which our Company is to earn over a twelve month period beginning July 2008, $6,000 for CG, which is to be earned over a twelve month period beginning July 2008, $112,000 for IMS, which is to be earned over a three month period beginning July 2008 and $17,000 for IMS, which is to be earned over a twelve month period beginning July 2008, and $20,000 for MVT, which is to be earned over a three month period beginning July 2008 and $1,000 for MVT, which is to be earned over a twelve month period beginning July 2008) offset by $248,500
($83,000 for LWLG, $112,250 for TXEG, $5,000 for DCMC. and $48,250 for Vystar)
which was earned during the three months ended July 31, 2008.
The decrease in current income taxes payable of approximately $29,000.
The addition to Net Capital of $245,148 which consists of the issuance of 210,000 shares of common stock per a private placement memorandum of $157,500 and share-based compensation expense of $87,648.
Our Company's unrealized appreciation (depreciation) varies significantly from period to period as a result of the wide fluctuation in the value of our Company's portfolio securities, as well as the acquisition and sale of shares during the period.
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Our Company had unrealized depreciation of $1,308,344 at July 31, 2008 compared to unrealized depreciation of $1,473,463 at July 31, 2007 and unrealized appreciation of $1,498,262 at April 30, 2008.
Our Company's financial condition is dependent on a number of factors including the ability of each portfolio company to effectuate its respective strategies with our Company's help. Our Company has invested a substantial portion of its assets in development stage or start-up companies. These businesses are frequently thinly capitalized, unproven, small companies that may lack management depth, and may be dependent on new or commercially unproven technologies, and may have no operating history.
At July 31, 2008, $6,869,632 or 97% of our Company's assets consisted of investments, of which net unrealized gains before the income tax effect were $574,986. A deferred tax liability on account of unrealized gains has been estimated at approximately $229,000. At July 31, 2008, our Company's holdings of Lightwave Logic, Inc., Vystar Corporation and Creative Energy Solutions, Inc. were valued at $2,909,366, $2,302,000 and $1,000,000, respectively, which represented in the aggregate approximately 90% of the total Company portfolio at that date. Both Vystar Corporation and Creative Energy Solutions, Inc. are privately held companies. Vystar Corporation's valuation was determined by an independent valuation firm. Creative Energy Solutions, Inc.'s valuation was determined in good faith by our Company's Board of directors.
Because the portfolio companies tend to be at early stages of their business development, and because there are no markets for the securities of some portfolio companies, our Company may find it difficult to liquidate any of its investments in the near future. See "Liquidity and Capital Resources" below.
Results of Operations
Our Company's financial statements have been prepared in conformity with the United States generally accepted accounting principles. On this basis, the principal measure of an investment company's financial performance during a time period is the net change in net assets during such period. Such change results from (i) income from operations, net of operating expenses, (ii) net realized gain or loss on investment, which is the difference between the proceeds received from dispositions of portfolio securities and their stated cost, and
(iii) increase (decrease) in unrealized appreciation or depreciation on investments.
Company expenses include salaries and wages, professional fees, office expenses and supplies, rent, travel, and other normal business expenses. General and administrative costs include depreciation, investor relations and other overhead costs.
Three months ended July 31, 2008 compared to the three months ended July 31, 2007
For the three months ended July 31, 2008 our Company had revenue for services in the amount of $262,653 compared to $508,934 for the three months ended July 31, 2007. During the three months ended July 31, 2008, 95% of our Company's revenue for services was received in the form of equity securities compared to 96% for the three months ended July 31, 2007.
Total operating expenses for the three months ended July 31, 2008 were $419,563, the principal components of which were professional fees of $211,406, consisting primarily of $147,722 investor relations expense, approximately $52,735 legal expense and approximately $5,500 of audit fees, payroll of $145,168 (which includes $87,648 of share based compensation expense), $24,359 of insurance expense and $5,009 of interest expense. By comparison, total operating expenses for the three months ended July 31, 2007 were $496,505, the principal components of which were professional fees of $420,269, payroll of $23,732, insurance of $23,255 and interest of $10,826.
Our Company realized a loss from operations of $156,910 for the three months ended July 31, 2008 compared to a gain from operations of $12,429 three months ended July 31, 2007.
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Liquidity and Capital Resources
From inception, our Company has relied upon the infusion of capital through capital share transactions for liquidity. Our Company had approximately $8,100 of cash at July 31, 2008. Consequently, payment of operating expenses and cash with which to make investments will similarly have to come from equity capital to be raised from investors or from borrowed funds. During the three months ended July 31, 2008 our Company issued 210,000 shares of its common stock for proceeds of $157,500. There is no assurance that our Company will be successful in raising such additional equity capital or additional borrowings or if it can, that it can do so at a price that management believes to be appropriate. Under the Investment Company Act of 1940, as amended ("1940 Act"), our Company may not sell shares of common stock at less than its net asset value except in certain limited circumstances.
Our Company may be forced to dispose of a portion of its current portfolio securities if it ever becomes short of cash. Any such dispositions may have to be made at inopportune times, which may have a material adverse effect on the proceeds received from such dispositions.
Critical Accounting Estimates
Valuation
The 1940 Act requires periodic valuation of each investment in our Company's portfolio to determine our Company's net asset value. Under the 1940 Act, unrestricted securities with readily available market quotations are to be valued at the current market value; all other assets must be valued at "fair value" as determined in good faith by or under the direction of the Board of Directors.
The Board of Directors is responsible for (1) determining overall valuation guidelines and (2) ensuring the valuation of investments within the prescribed guidelines.
Fair value is generally defined as the amount for which an investment could be sold in an orderly disposition over a reasonable time. Generally, to increase objectivity in valuing assets, external measures of value, such as public markets or third-party transactions, are used whenever possible. Valuation is not based on long-term work-out value, nor immediate liquidation value, nor incremental value for potential changes that may take place in the future. The values assigned to Company investments are based on available information and do not necessarily represent amounts that might ultimately be realized, as such amounts depend on future circumstances and cannot reasonably be determined until the individual investments are actually liquidated.
Our Company's valuation policy and methodology with respect to its portfolio companies are as follows:
Cost: The cost method is based on our Company's original cost. This method is generally used in the early stages of a portfolio company's development until significant events occur subsequent to the date of the original investment that dictate a change to another valuation method. Some examples of these events are:
(1) a major recapitalization; (2) a major refinancing; (3) a significant third-party transaction; (4) the development of a meaningful public market for such company's common stock; and (5) significant changes in such company's business.
Private Market: The private market method uses actual, executed, historical transactions in a company's securities by responsible third parties as a basis for valuation. The private market method may also use, where applicable, unconditional firm offers by responsible third parties as a basis for valuation.
Public Market: The public market method is used when there is an established public market for the class of the portfolio company's securities held by our Company and the shares held by our Company bear no legal or contractual restrictions. Securities for which market quotations are readily available are carried at market value as of the time of valuation. Market value for securities traded on securities exchanges is the last reported sales price on the day of valuation. For other securities traded in the over-the-counter market and listed securities for which no sale was reported on a day, market value is the last quoted bid price on such day.
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Public Market/Restricted Securities: When our Company holds securities which are publicly traded but under significant legal or contractual restrictions, the Board of Directors starts with the public market value of the shares as set forth in the paragraph above and applies an appropriate discount based on the nature and remaining duration of the restrictions.
Analytical Method: The analytical method is generally used to value an investment position when there is no established public or private market in our Company's securities or when the factual information available to our Company dictates that an investment should no longer be valued under either the cost or private market method. This valuation method is inherently imprecise and, ultimately, the result of reconciling the judgments of our directors based on the data available to them. The resulting valuation, although stated as a precise number, is necessarily within a range of values that vary depending upon the significance attributed to the various factors being considered. Some of the factors considered may include the financial condition and operating results of the portfolio company, the long-term potential of the business of our Company, the values of similar securities issued by companies in similar businesses, the proportion of the portfolio company's securities owned by our Company and the nature of any rights to require the portfolio company to register restricted securities under applicable securities laws.
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