UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
Form 10-K
Annual Report Pursuant to Section 13
or 15(d) of the Securities Exchange Act of 1934
For the fiscal year ended December 31, 2001 Commission File No. 0-11576
HARRIS & HARRIS GROUP, INC.
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(Exact Name of Registrant Specified in Its Charter)
New York 13-3119827
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(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
One Rockefeller Plaza, Rockefeller Center, New York, New York 10020
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(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code (212) 332-3600
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Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $ .01 par value
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(Title of class)
Indicate by check mark whether the registrant (1) has filed
all reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months
(or for such shorter period that the registrant was required to
file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [ X ] No [ ]
Indicate by check mark if disclosure of delinquent filers
pursuant to Item 405 of Regulation S-K is not contained herein,
and will not be contained, to the best of registrant's knowledge,
in definitive proxy or information statements incorporated by
reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ X ]
The aggregate market value of the common stock held by non-
affiliates of Registrant as of March 12, 2002 was $18,800,156
based on the last sale price as quoted by the Nasdaq National
Market on such date (only officers and directors are considered
affiliates for this calculation).
As of March 12, 2002, the registrant had 8,864,231 shares of
common stock, par value $.01 per share, outstanding.
TABLE OF CONTENTS
Page
PART I
Item 1. Business.................................................. 1
Item 2. Properties................................................ 14
Item 3. Legal Proceedings......................................... 14
Item 4. Submission of Matters to a Vote of Security Holders....... 14
PART II
Item 5. Market for Company's Common Equity and Related
Stockholder Matters..................................... 15
Item 6. Selected Financial Data .................................. 17
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations..................... 18
Item 7a.Quantitative and Qualitative Disclosures About
Market Risk............................................. 27
Item 8. Consolidated Financial Statements and Supplementary Data.. 28
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure..................... 51
PART III
Item 10. Directors and Executive Officers of the Company.......... 51
Item 11. Executive Compensation................................... 56
Item 12. Security Ownership of Certain Beneficial Owners
and Management......................................... 60
Item 13. Certain Relationships and Related Transactions........... 61
PART IV
Item 14. Exhibits, Consolidated Financial Statement, Schedules
and Reports on Form 8-K................................ 62
Signatures........................................................ 64
Exhibit Index..................................................... 66
PART I
Item 1. Business
Harris & Harris Group, Inc. (the "Registrant" or "Company")
is a venture capital investment company, operating as a Business
Development Company ("BDC") under the Investment Company Act of
1940 (the "1940 Act"). The Company's objective is to achieve
long-term capital appreciation, rather than current income, from
its investments. The Company has invested a substantial portion
of its assets in private development stage or start-up companies
and in the development of new technologies in a broad range of
industry segments. These private businesses tend to be thinly
capitalized, unproven, small companies based on risky
technologies that lack management depth and have not attained
profitability or have no history of operations. Recently the
Company decided to focus its new business activities exclusively
on small technology (small tech), including but not limited to
nanotechnology, microsystems and microelectromechanical systems
(MEMS) technology. Although small tech is multidisciplinary and
theoretically applicable to a wide variety of fields, small tech
in general is new and has significant science and engineering
risk as well as commercialization risk. The Company may also
invest, to the extent permitted under the 1940 Act, in publicly
traded securities, including high risk securities as well as
investment grade securities. The Company may participate in
expansion financing and leveraged buyout financing of more
mature operating companies as well as other investments. As a
venture capital company, the Company invests in and provides
managerial assistance to its portfolio companies which, in its
opinion, have significant potential for growth. There is no
assurance that the Company's investment objective will be
achieved.
Since July 26, 1995, the Company has operated as a BDC
subject to the provisions of Sections 55 through 65 of the 1940
Act. As a BDC, the Company operates as an internally managed
investment company whereby its officers and employees, under the
general supervision of its Board of Directors, conduct its
operations.
Venture Capital Investments
The Company has invested a substantial portion of its
assets in private development stage or start-up companies. The
Company may initially own 100 percent of the securities of a
start-up portfolio company for a period of time and may control
such company for a substantial period. In connection with its
venture capital investments, the Company may be involved in
recruiting management, formulating operating strategies, product
development, marketing and advertising, assisting in financial
plans, as well as providing management in the initial start-up
stages and establishing corporate goals. The Company may assist
in raising additional capital for such companies from other
potential investors and may subordinate its own investment to
that of other investors. The Company may introduce such
companies to potential joint-venture partners, suppliers and
customers. In addition, the Company may assist in establishing
relationships with investment bankers and other professionals.
The Company may also assist in providing advice and other
1
services in connection with mergers and acquisitions. The
Company may also find it necessary or appropriate to provide
additional capital of its own. The Company may derive income
from such companies for the performance of any of the above
services. Because of the speculative nature of these investments
and the lack of any market for such securities, there is
significantly greater risk of loss than is the case with
traditional investment securities. The Company expects that
some of its venture capital investments will be a complete loss
or will be unprofitable and that some will appear likely to
become successful, but never realize their potential. The
Company has in the past sought, and will continue in the future
to seek, investments that offer the potential for significantly
higher returns but that involve a significantly greater degree
of risk than other investments.
The Company may control a portfolio company for which it
has provided venture capital, or it may be represented on the
company's board of directors by one or more of its officers or
directors, who may also serve as officers of such company.
Particularly during the early stages of an investment, the
Company may in effect be conducting the operations of the
portfolio company. As a venture company emerges from the
developmental stage with greater management depth and
experience, the Company expects that its role in the company's
operations will diminish. The Company seeks to assist each
portfolio company in establishing its own independent
capitalization, management and board of directors. The Company
expects to be able to reduce its active involvement in the
management of its investment in those start-up companies that
become successful by a liquidity event, such as a public
offering or the sale of the company.
The Company has invested a substantial portion of its
assets in securities that do not pay interest or dividends and
that are subject to legal or contractual restrictions on resale
that may adversely affect the liquidity and marketability of
such securities.
In addition to the information discussed above, please see
Item 8. "Consolidated Financial Statements and Supplementary
Data."
Intellectual Property
The Company believes there is a role for organizations like
itself that can assist in technology transfer. Scientists and
institutions that develop and patent intellectual property
increasingly seek the rewards of entrepreneurial
commercialization of their inventions. The Company believes
that given its years of relevant experience it has a value-
added role to play in the commercialization of technology. The
Company interacts with institutions such as research
universities that are sources of intellectual property.
The Company invests principally but not exclusively in
securities issued by companies involved in: 1) research and
development of a technology and/or obtaining licensing rights to
intellectual property or patents; 2) outright acquisition of
intellectual property or patents; and 3) formation and funding
of companies or joint ventures to commercialize intellectual
property. Income from the Company's investments in intellectual
property or its development could take the form of participation
2
in licensing or royalty income or some other form of
remuneration. At some point during the commercialization of a
technology, the Company's investment may be transformed into
ownership of securities of a development stage or start-up
company as discussed above. Investing in intellectual property
is highly risky.
Illiquidity of Investments
Many of the Company's investments consist of securities
acquired directly from the portfolio company in private
transactions. These investments may be subject to restrictions
on resale or otherwise be illiquid. The Company does not
anticipate that there will be any established trading market for
such securities. Additionally, many of the securities that the
Company may invest in will not be eligible for sale to the
public without registration under the Securities Act of 1933,
which could prevent or delay any sale by the Company of such
investments or reduce the amount of proceeds that might
otherwise be realized therefrom. Restricted securities
generally sell at a price lower than similar securities not
subject to restrictions on resale. Further, even if a portfolio
company registers its securities and becomes a reporting company
under the Securities Exchange Act of 1934 (the "Exchange
Act"), the securities are typically subject to a lock-up
provision for a period of time, and the Company may be
considered an insider by virtue of its board representation or
otherwise and would be restricted in sales of such company's
securities. Although the Company's officers have never served
on the board of a publicly held company on which the Company had
an investment, the Company may permit such service.
Managerial Assistance
The Company generally is required by the 1940 Act to make
significant managerial assistance available with respect to
portfolio companies that the Company treats as qualifying assets
for purposes of the 70 percent test (see "Regulation"). "Making
available significant managerial assistance" as defined in the
1940 Act with respect to a BDC such as the Company means (a) any
arrangement whereby a BDC, through its directors, officers,
employees or general partners, offers to provide, and if
accepted, does so provide, significant guidance and counsel
concerning the management, operations, or business objectives
and policies of a portfolio company; or (b) the exercise by a
BDC of a controlling influence over the management or policies
of a portfolio company by a BDC acting individually or as a part
of a group acting together which controls such portfolio
company. The Company believes that providing managerial
assistance to its portfolio companies is critical to its
business development activities. The nature, timing and amount
of managerial assistance provided by the Company vary widely
depending upon the particular requirements of each portfolio
company.
The Company may be involved with its portfolio companies in
recruiting management, product planning, marketing and
advertising and the development of financial controls and plans,
operating strategies and corporate goals. The Company also
seeks capital for its portfolio companies from other potential
investors and may subordinate its own investment to those of
3
other investors. The Company may introduce its portfolio
companies to potential suppliers, customers and joint venture
partners and may assist its portfolio companies in establishing
relationships with commercial and investment bankers and other
professionals, including consultants, recruiters, legal counsel
and independent accountants. The Company may also assist with
joint ventures, acquisitions and mergers.
In connection with its managerial assistance, the Company
may be represented by one or more of its officers or directors
on the board of directors of a portfolio company. As an
investment matures and the portfolio company develops management
depth and experience, the Company's role ordinarily will become
progressively less active. However, when the Company owns or
acquires a substantial proportion of a more mature portfolio
company's equity, the Company may remain active and influential
in major decisions by the portfolio company. The Company
typically seeks to assist each portfolio company in establishing
its own independent and effective board of directors and
management.
Need for Follow-On Investments
Following an initial investment in portfolio companies, the
Company may make additional investments in such portfolio
companies as "follow-on" investments, in order to: (1) increase
or maintain in whole or in part its ownership percentage; (2)
exercise warrants, options or convertible securities that were
acquired in the original or subsequent financing; (3) preserve
the Company's proportionate ownership in a subsequent financing;
or (4) attempt to preserve or enhance the value of the Company's
investment. Recently, "pay to play" provisions have become
common in venture capital transactions; such provisions require
proportionate investment in subsequent rounds of financing in
order to preserve certain preferred rights such as anti-dilution
protection.
There can be no assurance that the Company will make
follow-on investments or have sufficient funds to make such
investments; the Company has the discretion to make any follow-
on investments as it determines, subject to the availability of
capital resources. The failure to make such follow-on
investments may, in certain circumstances, jeopardize the
continued viability of a portfolio company and the Company's
initial investment, or may result in a missed opportunity for
the Company to increase its participation in a successful
operation, or may cause the Company to lose certain preferred
rights pursuant to "pay to play" provisions. Even if the
Company has sufficient capital to make a desired follow-on
investment, it may elect not to make a follow-on investment
because it does not want to increase its concentration of risk,
because it prefers other opportunities or because it is
inhibited by compliance with BDC or regulated investment company
("RIC") requirements, even though the follow-on investment
opportunity appears attractive or would preserve rights pursuant
to "pay to play" provisions. For a discussion of RIC status
and related regulatory requirements, see "Regulation -- Sub-
Chapter M Status."
4
Competition
Numerous companies and individuals are engaged in the
venture capital business and such business is intensely
competitive. Many of the competitors have significantly greater
financial and other resources and managerial capabilities than
the Company and are therefore in a better position than the
Company to obtain access to attractive venture capital
investments. There can be no assurance that the Company will be
able to compete against these competitors for attractive
investments.
Regulation
The Small Business Investment Incentive Act of 1980 added
the provisions of the 1940 Act applicable to BDCs, which are a
special type of closed-end investment company. After filing its
election to be treated as a BDC, a company may not withdraw its
election without first obtaining the approval of holders of a
majority of its outstanding voting securities. The following is
a brief description of the 1940 Act provisions applicable to
BDCs, and is qualified in its entirety by reference to the full
text of the 1940 Act and the rules issued thereunder by the SEC.
Generally, to be eligible to elect BDC status, a company
must primarily engage in the business of furnishing capital and
managerial expertise to companies which do not have ready access
to capital through conventional financial channels. Such
portfolio companies are termed "eligible portfolio companies."
In general, in order to qualify as a BDC, a company must (i) be
a domestic company; (ii) have registered a class of its
securities pursuant to Section 12 of the 1934 Act; (iii) operate
for the purpose of investing in the securities of certain types
of portfolio companies, namely, early stage or emerging
companies and businesses suffering or just recovering from
financial distress (see following paragraph); (iv) make
available significant managerial assistance to such portfolio
companies; (v) have a majority of "disinterested" directors (as
defined in the 1940 Act); and (vi) file a proper notice of
election with the SEC.
An eligible portfolio company generally is a domestic
company that is not an investment company and that (i) does not
have a class of equity securities on which "margin" credit can
be extended or (ii) is controlled by a BDC (control under the
1940 Act is presumed to exist where a BDC owns at least 25
percent of the outstanding voting securities of the portfolio
company).
The 1940 Act prohibits or restricts companies subject to
the 1940 Act from investing in certain types of companies, such
as brokerage firms, insurance companies, investment banking
firms and investment companies. Moreover, the 1940 Act requires
that at least 70 percent of the value of the Company's assets
consist of qualifying assets. Qualifying assets include: (i)
securities of companies that were eligible portfolio companies
at the time the Company acquired their securities; (ii)
securities of bankrupt or insolvent companies that were eligible
at the time of the Company's initial investment in those
companies; (iii) securities received in exchange for or
distributed in or with respect to any of the foregoing; and (iv)
cash items, government securities and high quality short-term
5
debt. The 1940 Act also places restrictions on the nature of
the transactions in which, and the persons from whom, securities
can be purchased in order for the securities to be considered
qualifying assets.
The Company is permitted by the 1940 Act, under specified
conditions, to issue multiple classes of senior debt and a
single class of preferred stock if its asset coverage, as
defined in the 1940 Act, is at least 200 percent after the
issuance of the debt or the preferred stock (i.e., such senior
securities may not be in excess of its net assets). Under
specific conditions, the Company is also permitted by the 1940
Act to issue warrants.
Except under certain conditions, the Company may sell its
securities at a price that is below the prevailing net asset
value per share only after a majority of its disinterested
directors has determined that such sale would be in the best
interest of the Company and its stockholders and upon the
approval by the holders of a majority of its outstanding voting
securities, including a majority of the voting securities held
by non-affiliated persons. If the offering of the securities is
underwritten, a majority of the disinterested directors must
determine in good faith that the price of the securities being
sold is not less than a price which closely approximates market
value of the securities, less any distribution discount or
commission. As defined by the 1940 Act, the term "majority of
the Company's outstanding voting securities" means the vote of
(i) 67 percent or more of the Company's common stock present at
the meeting, if the holders of more than 50 percent of the
outstanding Common Stock are present or represented by proxy or
(ii) more than 50 percent of the Company's outstanding common
stock, whichever is less.
Certain transactions involving certain closely related
persons of the Company, including its directors, officers and
employees, may require the prior approval of the SEC. However,
the 1940 Act ordinarily does not restrict transactions between
the Company and its portfolio companies.
Sub-Chapter M Status
On September 25, 1997, the Company's Board of Directors
approved a proposal to seek qualification of the Company as a
Regulated Investment Company ("RIC") under Sub-Chapter M of the
Internal Revenue Code (the "Code"). At that time, the Company
was taxable under Sub-Chapter C of the Code (a "C Corporation").
In order to qualify as a RIC, the Company must, in general, (1)
annually derive at least 90 percent of its gross income from
dividends, interest and gains from the sale of securities and
similar sources; (2) quarterly meet certain investment
diversification requirements; and (3) annually distribute at
least 90 percent of its investment company taxable income as a
dividend. In addition to the requirement that the Company must
annually distribute at least 90 percent of its investment
company taxable income, the Company may either distribute or
retain its realized net capital gains from investments, but any
net capital gains not distributed may be subject to corporate
level tax. Further, the Company could be subject to a four
percent excise tax if it fails to distribute 98 percent of its
annual taxable income and would be subject to income tax if it
fails to distribute 100 percent of its taxable income.
6
Because of the specialized nature of its investment
portfolio, the Company could satisfy the diversification
requirements under Sub-Chapter M of the Code only if it received
a certification from the SEC under section 851(e) of the Code
that it is "principally engaged in the furnishing of capital to
other corporations which are principally engaged in the
development or exploitation of inventions, technological
improvements, new processes, or products not previously
generally available." On April 8, 1998, the Company announced
that it had received a certification from the Securities and
Exchange Commission ("SEC") for 1997 relating to the Company's
status under section 851(e) of the Code. That certification was
necessary for the Company to qualify as a RIC for 1998 and
subsequent taxable years.
Pursuant to the Company's receipt of the section 851(e)
certification and its intention to qualify as a RIC , in 1998
the Company's Board of Directors declared and paid a one-time
cash dividend of $0.75 per share, for a total of $8,019,728, to
meet one of the Company's requirements for qualification for
Sub-Chapter M tax treatment.
As noted above, the qualification of the Company as a RIC
under Sub-Chapter M of the Code depends on it satisfying certain
technical requirements regarding its income, investment
portfolio and distributions. The Company was unable to satisfy
these requirements for the 1998 tax year owing to the nature of
the Company's ownership interest in one of its portfolio
companies, and therefore it did not elect Sub-Chapter M status
for 1998. In addition, because the Company realized taxable
losses in 1998, it was not strategically advantageous for the
Company to elect Sub-Chapter M tax status for 1998.
The Company changed the nature of its ownership interest in
the non-qualifying portfolio company effective January 1, 1999 in
order to meet the Sub-Chapter M requirements. Since 1999, the
Company has received SEC certification and qualification for RIC
treatment. Although the SEC certification for 1999, 2000 and
2001 was issued, there can be no assurance that the Company will
receive such certification for subsequent years (to the extent it
needs additional certification as a result of changes in its
portfolio) or that it will actually qualify for Sub-Chapter M
treatment in subsequent years. In addition, under certain
circumstances, even if the Company qualified for Sub-Chapter M
treatment in a given year, the Company might take action in a
subsequent year to ensure that it would be taxed in that
subsequent year as a C Corporation, rather than as a RIC.
A C Corporation that elects to qualify as a RIC and that
makes an appropriate election continues to be taxable as a C
Corporation on any gains realized within 10 years of its
qualification as a RIC from sales of assets that were held by the
corporation on the effective date of the election ("C Corporation
Assets") to the extent of any gain built into the assets on such
date ("Built-In Gain"). The Company had Built-In Gains at the
time of its qualification as a RIC. Prior to 1999, the Company
incurred ordinary and capital losses from its operations. After
the Company's election of RIC status, those losses remained
available to be carried forward to subsequent taxable years.
Recently issued Internal Revenue Service regulations (issued in
temporary and proposed form) confirm that such losses may be used
to offset realized Built-In Gains and, to the extent so used, to
7
eliminate C Corporation taxation of such gains. Notwithstanding
any such offset, however, the new regulations also provide that
all realized Built-In Gains (calculated without regard to the
offset, but net of any C Corporation tax imposed on the Built-In
Gains after application of the offset) must be included in
calculating a RIC's investment company taxable income or net
capital gains, as the case may be, and therefore appear to
require that such Built-In Gains must be distributed to avoid
Sub-Chapter M taxation of such investment company taxable income
or net capital gains (and, in the case of any Built-In Gains that
are includible in investment company taxable income, possible
loss of RIC status). The Company has previously used loss
carryforwards to offset Built-In Gains. As of January 1, 2002,
the Company had $501,640 of loss carryforwards remaining and
$4,663,457 of unrealized Built-In Gains.
If necessary for liquidity purposes or to fund investment
opportunities, in lieu of distributing its realized net capital
gains, the Company as a RIC may retain such net capital gains
and elect to be deemed to have made a distribution of the gains,
or part thereof, to the shareholders under the "designated
undistributed capital gain" rules of section 852(b)(3) of the
Code. In that case, the "deemed dividend" is taxable to the
shareholders, although the Company would pay tax, at the
corporate rate, on the distribution, and the shareholders would
receive a tax credit equal to their proportionate share of the
tax paid.
To the extent that the Company declares a deemed dividend,
each shareholder will receive an IRS Form 2439 which will
reflect receipt of the deemed dividend income and a tax credit
equal to the shareholder's proportionate share of the tax paid
by the Company. This tax credit, which is paid at the corporate
rate, is often credited at a higher rate than the actual tax due
by a shareholder on the deemed dividend income. The "residual"
credit can be used by the shareholder to offset other taxes due
in that year or to generate a tax refund to the shareholder.
(See "Note 6 of Notes to Consolidated Financial Statements"
contained in Item 8. "Consolidated Financial Statements and
Supplementary Data" and Item 7. "Management's Discussion and
Analysis of Financial Condition and Results of Operations --
Recent Developments - Sub-Chapter M Status.")
Tax Consequences of Net Capital Gains
The following simplified examples illustrate the tax
treatment under Sub-Chapter M of the Code for the Company and its
individual shareholders with regard to three possible
alternatives, assuming a net long-term capital gain of $1.00 per
share, consisting entirely of sales of non-real property assets
held for more than 12 months.
Under Alternative A: 100 percent of net capital gain
declared as a cash dividend and distributed to shareholders:
8
1. No federal taxation at the Company level.
2. Taxable shareholders receive a $1.00 per share
dividend and pay a maximum federal tax of 20 percent* or $.20
per share, retaining $.80 per share.
Under Alternative B: 100 percent of net capital gain
retained by the Company and designated as "undistributed capital
gain" or deemed dividend:
1. The Company pays a corporate-level federal income
tax of 35 percent on the undistributed gain or $.35 per share
and retains 65 percent of the gain or $.65 per share.
2. Taxable shareholders increase their cost basis in
their stock by $.65 per share. They pay a 20 percent* federal
capital gains tax on 100 percent of the undistributed gain of
$1.00 per share or $.20 per share in tax. Offsetting this tax,
shareholders receive a tax credit equal to 35 percent of the
undistributed gain or $.35 per share.
Under Alternative C: 100 percent of net capital gain
retained by the Company, with no designated undistributed
capital gain or deemed dividend:
1. The Company pays a corporate-level federal income
tax of 35 percent on the retained gain or $.35 per share plus an
excise tax of four percent of $.98 per share, or about $.04 per
share.
2. There is no tax consequence at the shareholder
level.
*Assumes all capital gains qualify for long-term rates of 20
percent.
Subsidiaries
Harris & Harris Enterprises, Inc. ("Enterprises") is a 100
percent wholly owned subsidiary of the Company and is
consolidated in the Company's financial statements. Enterprises
holds the lease for the Company's office space, which it
subleases to the Company and an unaffiliated party; operates a
financial relations and consulting firm; is a partner in Harris
Partners I, L.P. and is taxed as a C Corporation. Harris
Partners I, L.P. is a limited partnership and owns a 20 percent
limited partnership interest in PHZ Capital Partners L.P., which
organizes and manages investment partnerships. The partners of
Harris Partners I, L.P. are Harris & Harris Enterprises, Inc.
(sole general partner) and Harris & Harris Group, Inc. (sole
limited partner).
Employees
The Company currently employs directly four full-time
employees, and Enterprises employs two additional full-time
employees.
9
Risk Factors
Investing in the Company's stock is highly speculative and the
investor could lose some or all of the amount invested.
The value of the Company's common stock and of its public
and private holdings may decline and may be affected by numerous
market conditions, which could result in the loss of some or all
of the amount invested in the Company's shares. The securities
markets frequently experience extreme price and volume
fluctuation which affect market prices for securities of
companies generally and technology companies in particular,
especially when their capitalizations are small like the
Company's. Because of the Company's focus on the technology
sector, its stock price is likely to be impacted by these market
conditions. General economic conditions, and general conditions
in small tech and nanotechnology and information technology and
life sciences and other high technology industries, will also
affect the Company's stock price.
Investing in the Company's common stock may be inappropriate for
the investor's risk tolerance.
The Company's investments, in accordance with its
investment objective and principal strategies, may result in an
above average amount of risk and volatility or loss of
principal. The Company's investments in portfolio companies are
highly speculative and aggressive and, therefore, an investment
in its shares is not suitable for all investors.
The market for venture capital investments is highly
competitive. In some cases, the company's status as a regulated
business development company may hinder its ability to
participate in investment opportunities.
The Company faces substantial competition in its investing
activities from private venture capital funds, investment
affiliates of large industrial, technology, service and
financial companies, small business investment companies,
wealthy individuals and foreign investors. As a regulated
business development company, the Company is required to
disclose quarterly the name and business description of
portfolio companies and value of any portfolio securities. Most
of the Company's competitors are not subject to this disclosure
requirement. The Company's obligation to disclose this
information could hinder its ability to invest in certain
portfolio companies. Additionally, other regulations, current
and future, may make the Company less attractive as a potential
investor to a given portfolio company than a private venture
capital fund not subject to the same regulations. Also,
compliance with certain regulations applicable to the Company's
business may prevent the Company from making follow-on
investments that would be in the Company's and its investors'
best interest.
10
The Company operates in a regulated environment.
The Company is subject to substantive SEC regulations as a
BDC. Securities and tax laws and regulations governing the
Company's activities may change in ways adverse to the Company's
and its shareholders' interests and interpretations of such laws
and regulations may change with unpredictable consequences. Any
change in the law or regulations that govern the Company's
business could have an adverse impact on the Company or its
operations. Also, as business and financial practices continue
to evolve, they render the regulations under which the Company
operates less appropriate and more burdensome than they were
when they were originally imposed.
The Company is dependent upon key management personnel for
future success.
The Company is dependent for the selection, structuring,
closing and monitoring of its investments on the diligence and
skill of its senior management and other management members.
The Company also is dependent on consultants and lawyers for
assistance in conducting due diligence when evaluating potential
investments. The future success of the Company depends to a
significant extent on the continued service and coordination of
its senior management team, particularly Charles E. Harris, the
Company's Chairman and Chief Executive Officer. The departure
of any of the executive officers or key employees could
materially adversely affect the Company's ability to implement
its business strategy. The Company does not maintain key man
life insurance on any of its officers or employees.
Investing in small, private companies involves a high degree of
risk and is highly speculative.
There are significant risks inherent in the Company's
venture capital business. The Company has invested a
substantial portion of its assets in private development stage
or start-up companies. These private businesses tend to be
thinly capitalized, unproven, small companies with risky
technologies that lack management depth and have not attained
profitability or have no history of operations. Even if these
private businesses are progressing satisfactorily, they
typically have negative cash flow in their earlier stages of
development and may not have access to additional capital.
Because of the speculative nature and the lack of a public
market for these investments, there is significantly greater
risk of loss than is the case with traditional investment
securities. The Company expects that some of its venture
capital investments will be a complete loss or will be
unprofitable and that some will appear to be likely to become
successful but never realize their potential. The Company has
been risk seeking rather than risk averse in its approach to
venture capital and other investments. Neither the Company's
investments nor an investment in the Company is intended to
constitute a balanced investment program. The Company has in
the past relied, and continues to rely to a large extent, upon
proceeds from sales of investments rather than investment income
to defray a significant portion of its operating expenses.
11
The Company invests in securities that are illiquid and may not
be able to dispose of such securities when it is advantageous to
do so.
Most of the investments of the Company are or will be
equity securities acquired directly from small companies. The
Company's portfolio of equity securities are and will usually be
subject to restrictions on resale or otherwise have no
established trading market. The illiquidity of most of the
Company's portfolio of equity securities may adversely affect
the ability of the Company to dispose of such securities at
times when it may be advantageous for the Company to liquidate
such investments.
The inability of the Company's portfolio companies to market
successfully their products would have a negative impact on its
investment returns.
Even if the Company's portfolio companies are able to
develop commercially viable products, the market for new
products and services is highly competitive and rapidly
changing. Commercial success is difficult to predict and the
marketing efforts of the Company's portfolio companies may not
be successful.
Because there is generally no established market in which to
value the Company's investments, the Company's Investment and
Valuation Committee's determination of their values may differ
materially from the values that a ready market or third party
would attribute to these investments.
There is typically no public market for equity securities
of the small private companies in which the Company invests. As
a result, the valuation of the equity securities in the
Company's portfolio is subject to the good faith estimate of the
Company's Board of Directors. (See "Asset Valuation Policy
Guidelines" in "Footnote to Consolidated Schedule of
Investments" contained in Item 8. "Consolidated Financial
Statements and Supplementary Data.") In the absence of a
readily ascertainable market value, the estimated value of the
Company's portfolio of equity securities may differ
significantly from the values that would be placed on the
portfolio if a ready market for the equity securities existed.
The Company adjusts quarterly the valuation of its portfolio to
reflect the Investment and Valuation Committee's estimate of the
current fair value of each investment in its portfolio. Any
changes in estimated fair value are recorded in the Company's
consolidated statements of operations as a change in the "Net
(decrease) increase in unrealized appreciation on investments."
(See Item 7. "Management's Discussion and Analysis of
Financial Condition and Results of Operations.")
Quarterly results may fluctuate and may not be indicative of
future quarterly performance.
The Company's quarterly operating results fluctuate as a
result of a number of factors. These include, among others,
variations in and the timing of the recognition of realized and
unrealized gains or losses, the degree to which the Company and
its portfolio companies encounter competition in their markets
12
and general economic conditions. As a result of these factors,
results for any one quarter should not be relied upon as being
indicative of performance in future quarters. (See Item 7.
"Management's Discussion and Analysis of Financial Condition
and Results of Operations.")
Loss of pass-through tax treatment would substantially reduce
net assets and income available for dividends.
If the Company meets certain income, diversification and
distribution requirements under the Code, it may qualify as a
RIC under the Code for pass-through tax treatment. The Company
would cease to qualify for pass-through tax treatment if it were
unable to comply with these requirements, or if it ceased to
qualify as a BDC under the 1940 Act. The Company also could be
subject to a four percent excise tax (and, in certain cases,
corporate level income tax) if it failed to make certain
distributions. (See Item 7. "Management's Discussion and
Analysis of Financial Condition and Results of Operations
- -- Recent Developments -- Sub-Chapter M Status.")
The lack of RIC tax treatment could have a material adverse
effect on the total return, if any, obtainable from an
investment in the Company. If the Company fails to qualify as a
RIC, the Company would become subject to federal income tax as
if it were an ordinary C Corporation, which would result in a
substantial reduction in the Company's net assets and the amount
of income available for distribution to the Company's
stockholders.
During some periods, there are few opportunities to take early
stage companies public or sell them to established companies.
During some periods, there may be few opportunities to gain
liquidity or realize a gain on an otherwise successful
investment, as the market for initial public offerings may be
moribund, particularly for early stage, high technology
companies. During such periods as other periods, it may also be
difficult to sell such companies to established companies. The
lack of exit strategies during such periods also tends to have
an adverse effect on the ability of private equity companies to
raise capital privately.
Because the Company must distribute income, the Company will
continue to need additional capital to grow.
The Company will continue to need capital to fund
investments and to pay for operating expenses. The Company must
distribute at least 90 percent of its net operating income other
than realized net long-term capital gains to its stockholders to
maintain its RIC status. As a result, such earnings will not be
available to fund investments. If the Company fails to generate
realized net long-term capital gains or to obtain funds from
outside sources, it could have a material adverse effect on the
Company's financial condition and results. The Company does not
normally establish reserves for taxes on unrealized capital
gains. To the extent that the Company retains capital gains,
either as a C corporation or as a RIC, it will have to make
provisions for federal taxes and possibly state and local taxes.
In addition, as a BDC, the Company is generally required to
maintain a ratio of at least 200 percent of total assets to
total borrowings, which may restrict its ability to borrow in
certain circumstances. Regulations to which the Company, as a
13
BDC, are subject limit its financing alternatives in ways that
publicly traded operating companies and private entities are not
limited.
Item 2. Properties
The Company maintains its offices at One Rockefeller Plaza,
New York, New York 10020, where it leases approximately 4,700
square feet of office space pursuant to a lease agreement
expiring in 2003. A portion of this space is being sublet by an
unaffiliated party. (See "Note 7 of Notes to Consolidated
Financial Statements and Schedules" contained in Item 8.
"Consolidated Financial Statements and Supplementary Data.")
Item 3. Legal Proceedings
The Company is not a party to any legal proceedings.
Item 4. Submission of Matters to a Vote of Security Holders
The Company did not submit any matters to a vote of its
shareholders during the fourth quarter of the 2001 fiscal year.
14
PART II
Item 5. Market for Company's Common Equity and Related
Stockholder Matters
Stock Transfer Agent
The Bank of New York, 101 Barclay Street, Suite 12W, New
York, New York 10286 (Telephone 800-524-4458, Attention: Ms.
Annette Hogan) serves as transfer agent for the Company's
common stock. Certificates to be transferred should be mailed
directly to the transfer agent, preferably by registered mail.
Market Prices
The Company's common stock is traded on the Nasdaq
National Market under the symbol "HHGP." The following table
sets forth the range of the high and low selling price of the
Company's shares during each quarter of the last two years, as
reported by Nasdaq National Market. The quarterly stock prices
quoted represent interdealer quotations and do not include
markups, markdowns or commissions.
2001 Quarter Ending Low High
March 31 $2.063 $4.25
June 30 $2.01 $3.29
September 30 $1.60 $2.86
December 31 $1.55 $2.33
2000 Quarter Ending Low High
March 31 $9.25 $32.50
June 30 $5.25 $17.125
September 30 $5.75 $10.1875
December 31 $2.4375 $6.4375
Dividends
On September 20, 2000, the Company declared a cash
dividend of $0.02 per share, payable on November 15, 2000 to
shareholders of record on October 15, 2000.
On December 14, 2000, the Company declared a designated
undistributed capital gain dividend (also known as a "deemed
dividend") of $1.78 per share with a corresponding tax credit
of $0.62 per share to shareholders of record on December 29,
2000.
On January 22, 2002, the Company announced a designated
undistributed capital gain dividend of $0.0875 per share with a
corresponding tax credit of $0.030625 per share to shareholders
of record on December 31, 2001.
15
Recent Sales of Unregistered Securities
On January 27, 2000, the Company issued a one-year 12%
note in the principal amount of $3 million and a one-year
warrant to purchase 25,263 shares of the Company's common stock
at an exercise price of $11.8750 per share. The note and
warrant were issued to an unaffiliated third-party pursuant to
an exemption from the registration requirements of the 1933 Act
under Section 4(2) of the 1933 Act. The note was pre-paid, and
the warrant expired unexercised.
Shareholders
As of March 12, 2002, there were approximately 141 holders
of record of the Company's common stock which, the Company has
been informed, hold the Company's common stock for
approximately 6,000 beneficial owners.
16
Item 6. Selected Financial Data
The following tables should be read in conjunction with
the Consolidated Financial Statements and Supplementary Data
included in Item 8 of this Form 10-K.
BALANCE SHEET DATA
Financial Position as of December 31:
2001 2000 1999(1) 1998(1) 1997
Total assets $39,682,367 $43,343,423 $65,320,768 $25,358,859 $39,273,784
Total liabilities $15,347,597 $11,509,948 $11,685,963 $ 2,802,150 $ 5,618,850
Net assets $24,334,770 $31,833,475 $53,634,805 $22,556,709 $33,654,934
Net asset value per
outstanding share $ 2.75 $ 3.51 $ 5.80 $ 2.13 $ 3.15
Cash dividends paid $ 0.00 $ 0.02 $ 0.35 $ 0.75 $ 0.00
Shares outstanding 8,864,231 9,064,231 9,240,831 10,591,232 10,692,971
Operating Data for year ended December 31:
2001 2000 1999 1998 1997
Total investment income $ 510,661 $ 687,050 $ 287,684 $ 585,486 $ 561,546
Total expenses(2) $ 1,035,221 $(2,623,200) $ 9,924,020 $ 3,634,786 $ 3,045,290
Net operating income
(loss) $ (524,560) $ 3,310,250 $(9,636,336) $(2,815,112) $(1,550,641)
Net realized gain
(loss) on investments $ 1,276,366 $18,963,832 $ 8,615,670 $(1,718,528) $(2,027,177)
Net realized income
(loss) $ 751,806 $22,274,082 $(1,020,666) $(4,533,640) $(3,577,818)
Net (decrease) increase
in unrealized appreciation
on investments $(7,641,044) $(37,781,289)$38,102,047 $ 1,655,830 $ 969,243
Net (decrease) increase
in net assets resulting
from operations $(6,889,238) $(15,507,207)$37,081,381 $(2,877,810) $(2,608,575)
(Decrease) increase in
net assets resulting
from operations per
outstanding share $ (0.78) $ (1.71) $ 4.01 $ (0.27) $ (0.24)
(1) Certain reclassifications have been made to the December 31,
1998 and December 31, 1999 financial statements to conform to
the December 31, 2000 presentation. [Note: See
"Reclassifications" in Note 2 of Notes to Consolidated
Financials.]
(2) Included in Total expenses are the following profit-sharing
(reversals) accruals: ($984,021) in 2001; ($4,812,675) in 2000;
$8,110,908 in 1999; $899,751 in 1998; $423,808 in 1997.
17
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations
The information contained in this section should be read in
conjunction with the Company's 2001 Consolidated Financial
Statements and notes thereto.
Forward-Looking Statements
The information contained herein contains certain forward-
looking statements. These statements include the plans and
objectives of management for future operations and financial
objectives, portfolio growth and availability of funds. These
forward-looking statements are subject to the inherent
uncertainties in predicting future results and conditions.
Certain factors that could cause actual results and conditions
to differ materially from those projected in these forward-
looking statements are set forth herein. (See "Risk Factors"
contained in Item 1. "Business.") Other factors that could cause
actual results to differ materially include the uncertainties of
economic, competitive and market conditions, and future business
decisions, all of which are difficult or impossible to predict
accurately and many of which are beyond the control of the
Company. Although the Company believes that the assumptions
underlying the forward-looking statements included herein are
reasonable, any of the assumptions could be inaccurate and
therefore there can be no assurance that the forward-looking
statements included or incorporated by reference herein will
prove to be accurate. Therefore, the inclusion of such
information should not be regarded as a representation by the
Company or any other person that the objectives and plans of the
Company will be achieved.
Statement of Operations
The Company accounts for its operations under accounting
principles generally accepted in the United States for
investment companies. On this basis, the principal measure of
its financial performance is captioned "Net increase (decrease)
in net assets resulting from operations," which is the sum of
three elements. The first element is "Net operating income
(loss)," which is the difference between the Company's income
from interest, dividends, fees and other income and its
operating expenses, net of applicable income tax benefit
(expense). The second element is "Net realized gain (loss) from
investments," which is the difference between the proceeds
received from dispositions of portfolio securities and their
stated cost, net of applicable income tax benefit (expense).
These two elements are combined in the Company's financial
statements and reported as "Net realized income (loss)." The
third element, "Net (decrease) increase in unrealized
appreciation on investments," is the net change in the fair
value of the Company's investment portfolio.
"Net realized gain (loss) from investments" and "Net
(decrease) increase in unrealized appreciation on investments"
are directly related. When a security is sold to realize a gain
(loss), net unrealized appreciation decreases (increases) and
net realized gain increases (decreases).
18
Financial Condition
The Company's total assets decreased by $3,661,056 or 8.4
percent to $39,682,367 and its net assets decreased by
$7,498,705 or 23.6 percent to $24,334,770 at December 31, 2001,
versus $43,343,423 and $31,833,475 at December 31, 2000.
Net asset value per share ("NAV") was $2.75 at December 31,
2001, versus $3.51 at December 31, 2000. NAV was reduced by
$0.02 in 2000 by the cash dividend paid by the Company.
Among the significant changes during the year ended December
31, 2001 were: (1) the payment of $5,709,884 in federal income
taxes as a result of the Company's deemed dividend distribution;
(2) decline in the value of the Company's holdings in Experion
Systems, Inc. of $480,000; (3) decline in the value of the
Company's holdings in Informio, Inc. of $353,221; (4) decline in
the value of the Company's holdings in Questech Corporation of
$245,843; (5) writeoff of the value of the Company's holdings in
Schwoo, Inc. of $1,248,827; (6) the sale of the Company's
holdings in Nanophase Technologies Corporation, Genomica
Corporation, SciQuest.com, Inc., Essential.com and MedLogic
Global Corporation; and (7) the payment of the 2000 realized gain
profit sharing awards of $2,320,938.
In accordance with SEC guidelines as of March 31, 2001, the
Company changed its valuation policy by no longer discounting
publicly held securities for liquidity considerations. (See
"Asset Valuation Policy Guidelines" in the "Footnote to
Consolidated Schedule of Investments" contained in Item 1.
"Consolidated Financial Statements.")
The Company's shares outstanding as of December 31, 2001
were 8,864,231, versus 9,064,231 at December 31, 2000, owing to
the Company's repurchase of shares in the open market.
The Company's financial condition is dependent on the
success of its investments. The Company has invested a
substantial portion of its assets in private, development stage
or start-up companies. These private businesses tend to be
thinly capitalized, unproven, small companies developing unproven
technologies that lack management depth and have little or no
history of operations. At December 31, 2001, $13,120,978 or 33.1
percent of the Company's total assets ( 53.9 percent of the
Company's net assets) consisted of non-publicly traded securities
at fair value, of which net unrealized appreciation was
$1,215,444.
At December 31, 2000, $10,240,018 or 23.6 percent of the
Company's total assets (32.2 percent of the Company's net assets)
consisted of investments in four publicly traded securities
(three of which were private businesses at the time the Company
made the investments), of which net unrealized appreciation was
$5,539,997; $16,782,438 or 38.7 percent of the Company's total
assets consisted of non-publicly traded securities at fair value
in private businesses, of which net unrealized appreciation was
$3,406,915.
19
The decrease in the value of publicly traded securities from
$10,240,018 at December 31, 2000 to $0 at December 31, 2001 is
primarily owing to the sale of shares of then publicly traded
SciQuest.com, Kana Communications, Nanophase Technologies
Corporation and Genomica Corporation. The value of the Company's
investments may vary significantly on a quarterly basis (see
"Risk Factors").
The net decrease in the value of the non-publicly traded
securities from $16,782,438 at December 31, 2000 to $13,120,978
at December 31, 2001 resulted primarily from the decreases in the
Company's valuation of its holdings in Informio, Experion Systems
and Essential.com of $353,221, $480,000 and $2,204,000,
respectively. These decreases in value were partially offset by
the Company's new investment in Nantero, Inc. Schwoo, a new
investment in 2001, decreased in value by $1,248,827 to $0 by
year end.
The changes in the values of SciQuest.com, Nanophase
Technologies and Kana Communications took place in the context of
the extreme volatility of publicly traded, small capitalization,
high technology stocks in the last few years.
A summary of the Company's investment portfolio is as
follows:
December 31, 2001 December 31, 2000
Investments, at cost $37,714,285 $33,620,631
Unrealized appreciation 1,216,420 8,947,928
----------- -----------
Investments, at fair value $38,930,705 $42,568,559
=========== ===========
__________________
The accumulated unrealized appreciation (depreciation) on
investments net of deferred taxes is ($148,049) at December 31,
2001, versus $7,317,422 at December 31, 2000.
Following an initial investment in a private company, the
Company may make additional investments in such portfolio
company in order to: (1) increase or maintain in whole or in
part its ownership percentage; (2) exercise warrants, options or
convertible securities that were acquired in the original or
subsequent financing; (3) preserve the Company's proportionate
ownership in a subsequent financing; or (4) attempt to preserve
or enhance the value of the Company's investment. There can be
no assurance that the Company will make follow-on investments or
have sufficient funds to make additional investments. The
Company has the discretion to make follow-on investments as it
determines, subject to the availability of capital resources.
The failure to make such follow-on investments may, in certain
circumstances, jeopardize the continued viability of the
portfolio company and the Company's initial investment or may
result in a missed opportunity for the Company to maintain or
increase its participation in a successful operation. Even if
the Company has sufficient capital to make a desired follow-on
investment, it may elect not to make a follow-on investment
because it does not want to increase its concentration of risk,
because it prefers other opportunities, or because it is
inhibited by compliance with BDC or RIC requirements, even
though the follow-on investment opportunity appears attractive
or would preserve rights pursuant to "pay to play" provisions.
20
The following table is a summary of the cash investments
and loans made by the Company in its private placement portfolio
during the year ended December 31, 2001:
New Investments: Amount
Schwoo, Inc. $888,577
Nantero, Inc. 489,999
Additional Investments:
Experion Systems, Inc. 80,000
Loans:
Schwoo, Inc. 360,250
----------
Total $1,818,826
==========
Results of Operations
Investment Income and Expenses:
The Company had net operating income (loss) of ($524,560)
in 2001, $3,310,250 in 2000 and ($9,636,336) in 1999. The net
operating income (loss) for 2001, 2000 and 1999 reflected a
(decrease) increase in the employee profit-sharing accrual that
resulted in a (credit) debit to expenses of ($984,021) in 2001,
($4,812,675) in 2000 and $8,110,908 in 1999. When unrealized
appreciation as of a certain date subsequently decreases or
increases, the profit-sharing accrual decreases or increases
accordingly, resulting in a credit or debit to expenses.
The Company's principal objective is to achieve capital
appreciation. Therefore, a significant portion of the investment
portfolio is structured to maximize the potential for capital
appreciation and provides little or no current yield in the form
of dividends or interest. The Company does earn interest income
from fixed-income securities, including U.S. Government and
Agency Obligations. The amount of interest income earned varies
with the average balance of the Company's fixed-income portfolio
and the average yield on this portfolio.
The Company had total investment income of $510,661 in
2001, $687,050 in 2000 and $287,684 in 1999. Total investment
income is comprised primarily of interest from fixed-income
securities, loans and debt securities of portfolio companies and
other income.
The Company had interest income from fixed-income
securities of $422,196 in 2001, $554,233 in 2000 and $234,347 in
1999. The decrease in interest income from 2000 to 2001 of
$132,037 or 23.8 percent reflects primarily the steep decline in
interest rates during the second half of 2001. The increase in
interest income from 1999 to 2000 of $319,886 or 136.5 percent
reflects additional funds invested in fixed-income securities as
a result of the sale of securities of SciQuest.com and Alliance
Pharmaceutical.
21
The Company had interest income from portfolio companies of
$9,616 in 2001, $64,950 in 2000 and $48,526 in 1999. The
decrease from 2000 to 2001 of $55,334 or 85.2 percent and the
increase from 1999 to 2000 of $16,424 or 33.8 percent is owing to
the change in amount of outstanding loans during the periods.
The amount of outstanding loans to portfolio companies varies.
Typically, loans made to portfolio companies are bridge loans and
are converted into equity at the next financing.
The Company had other income of $77,849 in 2001, $65,867 in
2000 and $3,911 in 1999. The other income primarily represents
rental income for subleasing office space to an unaffiliated
party.
Operating expenses were $1,035,221 in 2001, ($2,623,200) in
2000 and $9,924,020 in 1999. The operating expenses for the year
ended December 31, 2001 reflect a reversal of a prior expense
accrual in the employee profit-sharing plan of $984,021 owing to
decreases in unrealized appreciation of investments for the
current year. Salaries and benefits increased by $8,326 or one
percent. Administration and operations increased by $20,880 or
5.4 percent, and professional fees decreased by $49,019 or 15.8
percent in 2001. The remaining expenses are related to office and
rent expenses and director compensation.
The Company has in the past relied, and continues to rely
to a large extent, on proceeds from sales of investments, rather
than on investment income, to defray a significant portion of
its operating expenses. Because such sales are unpredictable,
the Company attempts to maintain adequate working capital to
provide for fiscal periods when there are no such sales.
Realized Gains and Losses on Sales of Portfolio Securities
During the three years ended December 31, 2001, 2000 and
1999, the Company sold various investments and received
distributions, realizing net gains of $1,394,781, $19,065,267
and $10,976,714, respectively.
During 2001, the Company recorded realized gain from
investments of $1,394,781. Gains of $2,762,696 and $1,022,905
resulted from the sale of the Company's entire position in
Nanophase Technologies Corporation and Genomica Corporation,
respectively; losses of $1,349,512, $1,258,679 and $1,033,765
resulted from the sale of its entire position in Essential.com,
Inc., SciQuest.com, Inc. and MedLogic Global Corporation,
respectively. The Company also recorded a gain of $1,266,729
from its partnership interest in PHZ Capital Partners L.P. As a
result of the gains and losses realized during 2001, unrealized
appreciation increased by $3,948,271.
During 2000, the Company recorded realized gain from
investments of $19,065,267, including: $9,693,446 on the sale of
its entire position in Alliance Pharmaceutical; $7,407,377 on
the sale of its original position in SciQuest.com (the Company
purchased an additional 350,000 shares during the year);
$1,054,818 on the sale of 61,043 shares of Kana Communications;
22
$241,025 on the sale of 85,100 shares of Nanophase Technologies;
$528,021 recorded gain from PHZ Capital Partners LP; and
$147,528 on the realization of the reserve relating to monies
placed in escrow in connection with the sale of NBX Corporation
to 3Com Corporation. (See Note 7 to Consolidated Financial
Statements.) The Company received in full the escrowed funds on
March 6, 2000. As a result of the gains and losses realized
during 2000, unrealized appreciation decreased by $21,400,036.
During 1999, the Company recorded realized gain from
investments of $10,976,714, including: $10,584,630 on the sale
of NBX Corporation to 3Com Corporation; $160,918 on the sale of
87,600 shares of Princeton Video Image, Inc. The Company also
incurred losses of approximately $381,004 on the sale of various
publicly traded investments. As a result of gains and losses
realized during 1999, unrealized appreciation decreased by
$4,234,794.
Unrealized Appreciation and Depreciation of Portfolio Securities
The Board of Directors values the portfolio securities on a
quarterly basis pursuant to the Company's Asset Valuation
guidelines in accordance with the 1940 Act. (See "Footnote to
Consolidated Schedule of Investments" contained in Item 8.
"Consolidated Financial Statements and Supplementary Data.")
In 2001, net unrealized appreciation on investments
decreased by $7,731,508 or 86.4 percent from $8,947,928 to
$1,216,420, primarily as a result of declines in the values of
the Company's holdings of Nanophase, Genomica, Essential.com,
Experion Systems, and Schwoo of $5,499,664, $1,540,375,
$854,467, $480,000 and $1,248,827, respectively. This decrease
was offset by an increase in unrealized appreciation of
$1,528,082 and $1,033,775 as a result of the realization of the
loss on the sale of the Company's positions in SciQuest.com and
MedLogic.
In 2000, net unrealized appreciation on investments
decreased by $37,934,593 or 80.9 percent from $46,882,521 to
$8,947,928, primarily as a result of declines in the values of
the Company's holdings in SciQuest.com, Kana Communications, and
Questech Corporation of $26,102,456 (net of gain realized on
sale), $3,816,204 (net of gain realized on sale) and $1,165,874,
respectively, offset by increases in the values of the Company's
holdings in Nanophase Technologies Corporation, Genomica
Corporation and Essential.com of $3,709,449, $1,330,949 and
$854,467, respectively. (See "Consolidated Schedule of
Investments" contained in Item 8. "Consolidated Financial
Statements and Supplementary Data.")
In 1999, net unrealized appreciation on investments
increased by $36,474,973 or 350.5 percent, from $10,407,548 to
$46,882,521. The most significant increases in valuation during
1999 were in: SciQuest.com, Inc., $31,981,750; Silknet Software,
Inc. (which acquired InSite Marketing Technology, Inc.),
$4,899,062; Alliance Pharmaceutical Corp., $3,839,000; and
Nanophase Technologies Corporation, $1,935,016. The increase in
valuations was offset by the reclassification of the Company's
gain in NBX Corporation of $4,716,062 from unrealized to
realized.
23
Liquidity and Capital Resources
The Company's net primary sources of liquidity are cash,
receivables and freely marketable securities, net of short-term
indebtedness. The Company's secondary sources of liquidity are
restricted securities of companies that are publicly traded. At
December 31, 2001, December 31, 2000 and December 31, 1999,
respectively, the Company's net primary liquidity was
$13,459,654, $23,039,736 and $6,622,216. On the corresponding
dates, the Company's secondary liquidity was $0, $3,040,679 and
$38,230,812. The Company's tertiary source of liquidity is its
holding in PHZ Capital Partners L.P., from which the Company
received cash distributions in 2001, 2000 and 1999 of $172,068,
$280,326 and $612,170, respectively.
On November 19, 2001, the Company established an asset
account line of credit of up to $12,700,000. The asset account
line of credit is secured by the Company's government agency
securities. Under the asset account line of credit, the Company
may borrow up to 95 percent of the current value of its
government agency securities. The Company's outstanding balance
under the asset line of credit at December 31, 2001 was
$12,495,777. The asset line of credit bears interest at a rate
of the Broker Call Rate plus 50 basis points. On January 3,
2002, the Company repaid the entire outstanding balance under
the asset line of credit.
The decrease in the Company's net primary source of
liquidity from December 31, 2000 to December 31, 2001 is
primarily owing to the (1) payment of income taxes, primarily
federal, of $5,795,916; (2) payment of the 2000 employee profit
sharing of approximately $2,320,939; (3) investment of $1,248,827
in Schwoo, Inc., $80,000 in Experion Systems, Inc. and $489,999
in Nantero, Inc.; and (4) the use of funds for operating
expenses. These decreases were offset by (1) the receipt of
approximately $2,000,000 of the funds from the liquidation of
Harris Newco, Inc., (2) the receipt of funds from the sales of
Nanophase Technologies Corporation and Genomica Corporation of
$4,263,242 and $2,523,274, respectively, and (3) the receipt of
$174,068 in cash distributions from PHZ Capital Partners L.P.
The decrease in the Company's secondary source of liquidity
from December 31, 2000 to December 31, 2001 reflects the sale of
all publicly traded restricted securities.
From December 31, 2000 to December 31, 2001, restricted
funds increased by $216,837 or 81.8 percent primarily as a
result of the Company's 2001 contribution to the Supplemental
Executive Retirement Plan or SERP account.
From December 31, 2000 to December 31, 2001, the Company's
liability for accrued profit sharing and current income tax
liability decreased significantly. Accrued profit sharing
decreased by $3,304,959 to $178,282 as a result of payment of
$2,320,939 of the 2000 profit sharing and the reversal of a
prior expense accrual of $984,020 owing to the decrease in
unrealized appreciation for the year ended December 31, 2001.
There was no payout under the Plan for the 2001 year.
24
The Company's current tax liability decreased by $5,496,498
to $255,068, primarily as a result of the federal income tax
paid in 2001 in connection with the 2000 deemed dividend
distribution. In 2000, the Company declared a designated
undistributed capital gain dividend for a total of $16,253,987
and paid a total of $5,688,896 in federal income taxes in
January 2001. For 2001, the Company declared a designated
undistributed capital gain dividend of $775,620 and recorded an
associated federal income tax accrual of $271,467. The taxes
were paid in January 2002. (See "Note 6 of Notes to
Consolidated Financial Statements" contained in Item 8.
"Consolidated Financial Statements and Supplementary Data.")
On October 12, 2000, the Company announced that the Board
of Directors had authorized a repurchase program in the open
market of up to $2 million of the Company's stock. Through
December 31, 2001, the Company had purchased a total of 376,600
shares for a total of $868,051.
The Company's net primary sources of liquidity are more
than adequate to cover the Company's gross cash operating
expenses over the next 12 months. Such gross cash operating
expenses totaled $1,992,341, $2,051,086 and $1,777,657 in 2001,
2000 and 1999, respectively. The Company cannot predict the
amount, if any, of cash distributions that it might receive from
its holding in PHZ Capital Partners L.P., in the year 2002.
Recent Developments -- Portfolio Companies
On January 29, 2002, the Company invested an additional
$100,000 in Series B preferred stock of Experion Systems, Inc.
On February 12, 2002, the Company announced that it had
purchased for $700,000 a Series A preferred stock which
represented an approximate 15 percent fully diluted equity
interest in Nanopharma Corp. Nanopharma is a privately held
company spun off from Massachusetts General Hospital.
Nanopharma, which is based in Massachusetts, is a research
company founded to develop advanced drug delivery systems based
on patented technology.
On February 20, 2002, Schwoo, Inc. filed for Chapter 7
bankruptcy. The Company wrote off its investment in Schwoo in
2001.
On March 7, 2002, the Company invested approximately
$625,000 in Series A-1 preferred stock of a privately held
company engaged in the production of nanoscale components
based on patented technolgoy. Under certain conditions,
the Company will be obligated to invest an additional
$375,000 in the Series A-1 preferred.
On March 8, 2002, the Company invested $1,000,000 in Series
D preferred stock of privately held NEO Photonics Corporation.
NEO Photonics has developed patented technology that enables the
manufacture of unique nanoscale optical compositions for the
telecommunications industry.
25
Recent Developments -- Sub-Chapter M Status
The qualification of the Company as a RIC under Sub-Chapter
M of the Code depends on it satisfying certain technical
requirements regarding its income, investment portfolio and
distributions. (See "Sub-Chapter M Status" contained in Item
1. "Business"). The Company was unable to satisfy these
requirements for the 1998 tax year owing to the nature of the
Company's ownership interest in one of its portfolio companies.
In addition, because it realized taxable losses in 1998, it was
not strategically advantageous for the Company to elect Sub-
Chapter M tax status for 1998. The Company changed the nature
of its ownership interest in the non-qualifying portfolio
company effective January 1, 1999 in order to meet the Sub-
Chapter M requirements.
In 1999, the Company requested and received certification
from the SEC relating to the Company's status under section
851(e) of the Code, and the Company elected Sub-Chapter M tax
treatment. During 1999, the Company declared a cash dividend of
$0.35 per share (for a total of $3,647,017), thereby distributing
part of the long-term capital gain generated in 1999 by the sale
of NBX Corporation to 3Com Corporation. Approximately $143,261 of
the long-term capital gain for 1999 was not distributed during
1999. Accordingly, on September 20, 2000, the Company declared a
$0.02 dividend (for a total of $184,817). For the year ended
December 31, 1999, the Company incurred approximately $20,000 in
excise taxes.
Since 1999, the Company has received SEC certification and
qualification for RIC treatment. Although the SEC certification
for 1999, 2000 and 2001 was issued, there can be no assurance
that the Company will receive such certification for subsequent
years (to the extent it needs additional certification as a
result of changes in its portfolio) or that it will actually
qualify as a RIC for subsequent years. In addition, under certain
circumstances, even if the Company qualified for Sub-Chapter M
treatment in a given year, the Company might take action in a
subsequent year to ensure that it would be taxed in that
subsequent year as a C Corporation, rather than as a RIC.
On December 14, 2000, the Company announced that its Board
of Directors, in accordance with rules governing a RIC under Sub-
Chapter M of the Code, declared a designated undistributed
capital gain dividend (also known as a deemed dividend) of $1.78
per share, for a total of $16,253,987 and paid corporate taxes on
behalf of shareholders of $0.62 per share, for a total of
$5,688,896. On January 22, 2002, the Company announced that its
Board of Directors had declared a deemed dividend of $0.0875 per
share, for a total of $775,620 and paid corporate taxes on behalf
of shareholders of $0.030625 per share, for a total of $271,467.
This information will be reported to shareholders on IRS Form
2439 which will reflect receipt of the deemed dividend income and
a tax credit equal to the shareholder's proportionate share of
the tax paid by the Company.
26
Item 7a. Quantitative and Qualitative Disclosures About Market
Risk
The Company's business activities are highly risky. The
Company considers a principal type of market risk to be
valuation risk. Investments are stated at "fair value" as
defined in the 1940 Act and in the applicable regulations of the
Securities and Exchange Commission. All assets are valued at
fair value as determined in good faith by, or under the
direction of, the Board of Directors. (See "Asset Valuation
Policy Guidelines" in the "Footnote to Consolidated Schedule of
Investments" contained in Item 8. "Consolidated Financial
Statements and Supplementary Data.")
Neither the Company's investments nor an investment in the
Company is intended to constitute a balanced investment program.
The Company has exposure to public-market price fluctuations to
the extent of its publicly traded portfolio.
The Company has invested a substantial portion of its
assets in private development stage or start-up companies.
These private businesses tend to be thinly capitalized,
unproven, small companies developing new technologies that lack
management depth and have not attained profitability or have no
history of operations. Because of the speculative nature and
the lack of public market for these investments, there is
significantly greater risk of loss than is the case with
traditional investment securities. The Company expects that
some of its venture capital investments will be a complete loss
or will be unprofitable and that some will appear to be likely
to become successful but never realize their potential. Even
when the Company's private equity investments complete initial
public offerings (IPOs), the Company is normally subject to
lock-up agreements for a period of time.
Because there is typically no public market for the equity
interests of the small companies in which the Company invests,
the valuation of the equity interests in the Company's portfolio
is subject to the estimate of the Company's Board of Directors
in accordance with the Company's Asset Valuation Policy
Guidelines. In the absence of a readily ascertainable market
value, the estimated value of the Company's portfolio of equity
interests may differ significantly from the values that would be
placed on the portfolio if a ready market for the equity
interests existed. Any changes in valuation are recorded in the
Company's consolidated statements of operations as "Net
(decrease) increase in unrealized appreciation on investments."
27
Item 8. Consolidated Financial Statements and Supplementary
Data
HARRIS & HARRIS GROUP, INC.
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS AND SCHEDULES
The following reports and consolidated financial schedules
of Harris & Harris Group, Inc. are filed herewith and included
in response to Item 8.
Documents Page
Report of Independent Public Accountants..............29
Consolidated Financial Statements
Consolidated Statements of Assets and Liabilities
as of December 31, 2001 and 2000....................30
Consolidated Statements of Operations for the
years ended December 31, 2001, 2000 and 1999........31
Consolidated Statements of Cash Flows for the
years ended December 31, 2001, 2000 and 1999........32
Consolidated Statements of Changes in Net Assets
for the years ended December 31, 2001, 2000 and
1999................................................33
Consolidated Schedule of Investments as of December
31, 2001............................................34-37
Footnote to Consolidated Schedule of Investments......38-40
Notes to Consolidated Financial Statements............41-49
Selected Per Share Data and Ratios for the
years ended December 31, 2001, 2000, 1999, 1998
and 1997............................................50
Schedules other than those listed above have been omitted
because they are not applicable or the required information is
presented in the consolidated financial statements and/or
related notes.
28
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Harris & Harris Group, Inc.:
We have audited the accompanying consolidated statements of
assets and liabilities of Harris & Harris Group, Inc. (a New York
corporation) as of December 31, 2001 and 2000, including the
consolidated schedule of investments as of December 31, 2001, and
the related consolidated statements of operations, cash flows and
changes in net assets for each of the three years ended December
31, 2001, and the selected per share data and ratios for each of
the five years ended December 31, 2001. These consolidated
financial statements and selected per share data and ratios are
the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated
financial statements and selected per share data and ratios based
on our audits.
We conducted our audits in accordance with auditing
standards generally accepted in the United States. Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial
statements and selected per share data and ratios are free of
material misstatement. An audit includes examining, on a test
basis, evidence supporting the amounts and disclosures in the
financial statements. Our procedures included confirmation of
securities owned as of December 31, 2001 and 2000, by
correspondence with the custodian and brokers. An audit also
includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.
As explained in Note 2, the consolidated financial
statements include securities valued at $13,120,978 (53.92
percent of net assets), whose values have been estimated by the
Board of Directors in the absence of readily ascertainable market
values. However, because of the inherent uncertainty of
valuation, those estimated values may differ significantly from
the values that would have been used had a ready market for the
securities existed, and the differences could be material.
In our opinion, the consolidated financial statements and
selected per share data and ratios referred to above present
fairly, in all material respects, the financial position of
Harris & Harris Group, Inc. as of December 31, 2001 and 2000, the
results of their operations, their cash flows and the changes in
their net assets for the three years ended December 31, 2001, and
the selected per share data and ratios for each of the five years
ended December 31, 2001 in conformity with accounting principles
generally accepted in the United States.
/s/ Arthur Andersen LLP
-------------------------
New York, New York
March 21, 2002
29
CONSOLIDATED STATEMENTS OF ASSETS AND LIABILITIES
ASSETS
December 31, 2001 December 31, 2000
Investments, at value (See
accompanying consolidated
schedule of investments
and notes)....................... $ 38,930,705 $ 42,568,559
Cash and cash equivalents.......... 135,135 253,324
Restricted funds (Note 5).......... 482,020 265,183
Interest receivable................ 82 30,082
Prepaid expenses................... 14,833 82,615
Note receivable.................... 10,487 10,888
Other assets....................... 109,105 132,772
--------------- ---------------
Total assets....................... $ 39,682,367 $ 43,343,423
=============== ===============
LIABILITIES & NET ASSETS
Accounts payable and accrued
liabilities...................... $ 1,039,350 $ 771,763
Payable to broker for unsettled
trade............................ 0 115,005
Bank loan payable (Note 8)......... 12,495,777 0
Accrued profit sharing (Note 3).... 178,282 3,483,241
Deferred rent...................... 14,650 23,903
Current income tax liability
(Note 6)......................... 255,068 5,751,566
Deferred income tax liability
(Note 6)......................... 1,364,470 1,364,470
--------------- ---------------
Total liabilities.................. 15,347,597 11,509,948
--------------- ---------------
Commitments and contingencies (Note 7)
Net assets......................... $ 24,334,770 $ 31,833,475
=============== ===============
Net assets are comprised of:
Preferred stock, $0.10 par value,
2,000,000 shares authorized;
none issued...................... $ 0 $ 0
Common stock, $0.01 par value,
25,000,000 shares authorized;
10,692,971 issued at 12/31/01
and at 12/31/00.................. 106,930 106,930
Additional paid in capital
(Note 4)......................... 27,228,748 26,724,595
Additional paid in capital -
common stock warrants............ 109,641 109,641
Accumulated net realized gain
(loss)........................... 618,606 642,418
Accumulated unrealized
appreciation of investments,
net of deferred tax liability
of $1,540,044 at 12/31/01
and $1,630,506 at 12/31/00....... (323,624) 7,317,422
Treasury stock, at cost (1,828,740
shares at 12/31/01 and 1,628,740
at 12/31/00)..................... (3,405,531) (3,067,531)
--------------- ---------------
Net assets......................... $ 24,334,770 $ 31,833,475
=============== ===============
Shares outstanding................. 8,864,231 9,064,231
=============== ===============
Net asset value per outstanding
share............................ $ 2.75 $ 3.51
=============== ===============
The accompanying notes are an integral
part of these consolidated financial statements.
30
CONSOLIDATED STATEMENTS OF OPERATIONS
Year Ended Year Ended Year Ended
December 31, 2001 December 31, 2000 December 31, 1999
Investment income:
Interest from:
Fixed-income
securities........$ 422,196 $ 554,233 $ 234,347
Portfolio
companies......... 9,616 64,950 48,526
Dividend income..... 1,000 2,000 900
Other income........ 77,849 65,867 3,911
Total investment
income............ 510,661 687,050 287,684
Expenses:
Profit-sharing
(reversal) accrual
(Note 3)........... (984,021) (4,812,675) 8,110,908
Salaries and
benefits........... 1,045,063 1,036,737 834,700
Professional fees... 261,582 310,601 331,889
Administration
and operations..... 406,488 385,608 319,167
Rent................ 166,312 166,816 162,987
Directors' fees
and expenses....... 90,047 100,469 120,328
Depreciation........ 26,901 28,748 35,455
Custodian fees...... 14,518 14,355 8,586
Interest expense
(Note 4)........... 8,331 146,141 0
---------------- ----------------- -----------------
Total expenses... 1,035,221 (2,623,200) 9,924,020
---------------- ----------------- -----------------
Operating income
(loss) before
income taxes....... (524,560) 3,310,250 (9,636,336)
Income tax benefit
(Note 6)........... 0 0 0
---------------- ----------------- -----------------
Net operating
income (loss)........ (524,560) 3,310,250 (9,636,336)
Net realized gain (loss) from investments:
Realized gain (loss)
from investments... 1,394,781 19,065,267 10,976,714
---------------- ----------------- ----------------
Total realized
gain (loss)..... 1,394,781 19,065,267 10,976,714
Income tax expense
(Note 6)........... (118,415) (101,435) (2,361,044)
---------------- ----------------- ----------------
Net realized gain
(loss) from
investments........ 1,276,366 18,963,832 8,615,670
Net realized income
(loss).............. 751,806 22,274,082 (1,020,666)
Net (decrease) increase
in unrealized appreciation
on investments:
Increase as a result
of investment
sales.............. 4,802,738 0 704,801
Decrease as a result
of investment
sales.............. (854,467) (21,400,036) (4,939,595)
Increase on
investments held... 3,232,919 26,741,283 43,186,960
Decrease on
investments held... (14,912,698) (43,275,840) (2,477,193)
--------------- ------------------ ------------------
Change in
unrealized
appreciation
on investments. (7,731,508) (37,934,593) 36,474,973
Income tax benefit
(Note 6)........... 90,464 153,304 1,627,074
--------------- ----------------- ------------------
Net (decrease) increase
in unrealized appreciation
on investments..... (7,641,044) (37,781,289) 38,102,047
--------------- ----------------- ------------------
Net (decrease) increase in net assets resulting from operations:
Total............... $ (6,889,238) $ (15,507,207) $ 37,081,381
=============== ================= ==================
Per outstanding
share.............. $ (0.78) $ (1.71) $ 4.01
=============== ================= ==================
The accompanying notes are an integral
part of these consolidated financial statements.
31
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended Year Ended Year Ended
December 31, 2001 December 31, 2000 December 31, 1999
Cash flows used in operating activities:
Net (decrease) increase
in net assets resulting
from operations............ $ (6,889,238) $(15,507,207) $ 37,081,381
Adjustments to reconcile
net (decrease) increase in
net assets resulting from
operations to net cash used
in operating activities:
Net realized and
unrealized loss (gain)
on investments............ 5,950,398 18,869,326 (47,451,687)
Deferred income taxes...... 90,464 (153,304) 586,710
Depreciation............... 26,901 28,748 35,455
Other...................... 2,010 109,641 0
Interest received in stock. 0 (27,009) 0
Changes in assets and liabilities:
Restricted funds........... (216,837) (265,183) 0
Receivable from broker
for unsettled trades...... 0 0 380,707
Funds in escrow............ 0 1,327,748 (1,327,748)
Interest receivable........ 30,000 14,107 (43,523)
Prepaid expenses........... 67,782 (8,287) 16,321
Notes receivable........... 401 0 0
Other assets............... 23,667 18,384 (41,281)
Accounts payable and
accrued liabilities...... 267,587 71,197 195,448
Payable to broker for
unsettled trade.......... (115,005) 115,005 0
Accrued profit sharing..... (3,304,959) (5,951,226) 8,110,908
Deferred rent.............. (9,253) (9,253) (9,253)
Current income tax
liability................. (5,496,498) 62,670 0
------------ ------------- -------------
Net cash used in
operating activities...... (9,572,580) (1,304,643) (2,466,562)
Cash provided by investing activities:
Net (purchase) sale of
short-term investments
and marketable securities. (10,263,667) (14,480,590) 240,590
Investment in private
placements and loans...... (1,818,826) (6,417,500) (4,077,001)
Proceeds from sale of
investments............... 9,385,615 23,022,868 12,274,632
Purchase of fixed assets... (6,508) (6,974) (9,261)
----------- ----------- -----------
Net cash (used in) provided
by investing activities... (2,703,386) 2,117,804 8,428,960
Cash flows used in financing activities:
Payment of dividend........ 0 (184,817) (3,647,017)
Purchase of treasury
stock (Note 4)............ (338,000) (530,051) (2,373,551)
Proceeds from note payable. 12,495,777 3,000,000 0
Payment of note payable
(Note 4).................. 0 (3,000,000) 0
Proceeds from sale of
stock (Note 4)............ 0 0 17,283
Collection on notes
receivable................ 0 21,775 10,000
----------- ----------- -----------
Net cash provided by
(used in) financing
activities................ 12,157,777 (693,093) (5,993,285)
----------- ----------- -----------
Net increase (decrease) in cash
and cash equivalents:
Cash and cash equivalents
at beginning of the year.. 253,324 133,256 164,143
Cash and cash equivalents
at end of the year........ 135,135 253,324 133,256
----------- ----------- -----------
Net increase (decrease)
in cash and cash
equivalents............... $ (118,189) $ 120,068 $ (30,887)
Supplemental disclosures of
cash flow information:
Income taxes paid.......... $ 5,795,916 $ 117,134 $ 122,560
Interest paid.............. $ 0 $ 36,500 $ 0
The accompanying notes are an integral
part of these consolidated financial statements.
32
CONSOLIDATED STATEMENTS OF CHANGES IN NET ASSETS
Year Ended Year Ended Year Ended
December 31, 2001 December 31, 2000 December 31, 1999
Changes in net assets from operations:
Net operating income
(loss)................ $ (524,560) $ 3,310,250 $ (9,636,336)
Net realized gain
(loss) on investments. 1,276,366 18,963,832 8,615,670
Net (decrease) increase
in unrealized
appreciation on
investments as a
result of sales....... 4,038,735 (21,246,732) (2,607,720)
Net (decrease)
increase in unrealized
appreciation on
investments held...... (11,679,779) (16,534,557) 40,709,767
------------ ------------ --------------
Net (decrease) increase in
net assets resulting from
operations............... (6,889,238) (15,507,207) 37,081,381
Changes in net assets from
capital stock transactions:
Payment of dividend.... 0 (184,817) (3,647,017)
Purchase of treasury
stock................. (338,000) (530,051) (2,373,551)
Proceeds from sale
of stock.............. 0 0 17,283
Deemed dividend
shareholder tax
credit................ (271,467) (5,688,896) 0
Additional paid in
capital warrants...... 0 109,641 0
----------- ------------ -------------
Net decrease in net assets
resulting from capital
stock transactions....... (609,467) (6,294,123) (6,003,285)
----------- ------------- -------------
Net (decrease) increase
in net assets............ (7,498,705) (21,801,330) 31,078,096
----------- ------------- -------------
Net Assets:
Beginning of the year.. 31,833,475 53,634,805 22,556,709
----------- ------------- -------------
End of the year........ $24,334,770 $ 31,833,475 $ 53,634,805
=========== ============= =============
The accompanying notes are an integral part of these
consolidated financial statements.
33
CONSOLIDATED SCHEDULE OF INVESTMENTS AS OF DECEMBER 31, 2001
Method of Shares/
Valuation (3) Principal Value
Investments in Unaffiliated Companies (10)(11)(12) -- 4.3% of total
investments
Private Placement Portfolio (Illiquid) -- 4.3% of total investments
AlphaSimplex Group, LLC (1)(2) --
Investment advisory firm headed
by Dr. Andrew W. Lo, holder of
the Harris & Harris Group Chair
at MIT...........................................(D) -- $ 784
Exponential Business Development Company
(1)(2)(5) -- Venture capital
partnership focused on early stage
companies
Limited partnership interest.....................(A) -- 25,000
Informio, Inc. (1)(2)(6)(7) -- Develops
audio web portal technology --0.86% of
fully diluted equity
Series A Convertible Preferred Stock.............(D) 229,364 151,380
Kriton Medical, Inc. (1)(2)(5)(6) --
Develops ventricular assist devices --
1.83% of fully diluted equity
Series B Convertible Preferred Stock.............(A) 476,191 1,000,001
Nantero, Inc. (1)(2)(4)(6) -- Develops a
high density nonvolatile random access
memory chip using nanotechnology -- 4.18%
of fully diluted equity
Series A Convertible Preferred Stock.............(A) 345,000 489,999
----------
Total Private Placement Portfolio (cost: $2,019,601)................$1,667,164
----------
Total Investments in Unaffiliated Companies
(cost: $2,019,601)................................................$1,667,164
----------
The accompanying notes are an integral
part of this consolidated schedule.
34
CONSOLIDATED SCHEDULE OF INVESTMENTS AS OF DECEMBER 31, 2001
Method of Shares/
Valuation (3) Principal Value
Investments in Non-Controlled Affiliated Companies (16)(19) -- 29.4% of
total investments
Private Placement Portfolio (Illiquid) -- 29.4% of total investments
Experion Systems, Inc. (1)(2)(6)(8)
-- Develops and sells software to
credit unions -- 10.77% of fully
diluted equity
Convertible Preferred Stock....................(D) 197,500 $1,100,000
NeuroMetrix, Inc. (1)(2)(5)(6) --
Develops and sells medical devices
for monitoring neuromuscular disorders
-- 13.40% of fully diluted equity
Series A Convertible Preferred Stock...........(D) 875,000
Series B Convertible Preferred Stock...........(D) 625,000
Series C-2 Convertible Preferred Stock.........(D) 1,148,100
Series E Convertible Preferred.................(D) 266,665 6,708,225
PHZ Capital Partners Limited Partnership
(2)(9) -- Organizes and manages
investment partnerships utilizing its
proprietary algorithms -- 20.0% of
fully diluted equity
Limited partnership interest...................(D) -- 2,921,001
Questech Corporation (1)(2)(6) --
Manufactures and markets proprietary
metal decorative tiles -- 7.35% of
fully diluted equity
Common Stock...................................(B) 646,954
Warrants at $5.00 expiring 11/15/04............(B) 1,965
Warrants at $1.50 expiring 11/16/05............(B) 1,250 724,588
Schwoo, Inc. (1)(2)(4) -- Develops
software that automatically manages
e-commerce security infrastructure --
14.88% of fully diluted equity
Series B Convertible Stock.....................(D) 2,306,194
Convertible Bridge Loans.......................(D) $360,250
Series B Convertible Preferred Warrants........(D) 934,985 0
-----------
Total Private Placement Portfolio (cost: $9,885,933)..............$11,453,814
-----------
Total Investments in Non-Controlled Affiliated Companies
(cost: $9,885,933)................................................$11,453,814
-----------
The accompanying notes are an integral
part of this consolidated schedule.
35
CONSOLIDATED SCHEDULE OF INVESTMENTS AS OF DECEMBER 31, 2001
Method of Shares/
Valuation (3) Principal Value
U.S. Government and Agency Obligations -- 66.3% of total investments
U.S. Treasury Bills -- due
date 01/03/02...............................(K) $12,615,000 $12,614,495
U.S. Treasury Bills -- due
date 01/10/02...............................(K) $ 2,000,000 $ 1,999,260
U.S. Treasury Bills -- due
date 01/17/02...............................(K) $ 894,000 $ 893,374
U.S. Treasury Bills -- due
date 02/07/02...............................(K) $ 3,150,000 $ 3,144,897
U.S. Treasury Bills -- due
date 02/14/02...............................(K) $ 1,700,000 $ 1,696,651
U.S. Treasury Bills -- due
date 02/28/02...............................(K) $ 580,000 $ 578,422
U.S. Treasury Bills -- due
date 03/07/02...............................(K) $ 1,030,000 $ 1,026,869
U.S. Treasury Bills -- due
date 03/21/02...............................(K) $ 3,870,000 $ 3,855,759
-----------
Total Investments in U.S. Government (cost: $25,808,751)............$25,809,727
-----------
Total Investments -- 100% (cost: $37,714,285).......................$38,930,705
===========
The accompanying notes are an integral
part of this consolidated schedule.
36
CONSOLIDATED SCHEDULE OF INVESTMENTS AS OF DECEMBER 31, 2001
Notes to Consolidated Schedule of Investments
(1) Represents a non-income producing security. Equity investments
that have not paid dividends within the last 12 months are
considered to be non-income producing.
(2) Legal restrictions on sale of investment.
(3) See Footnote to Schedule of Investments for a description of
the Methods of Valuation A to L.
(4) Initial investment was made during 2001. The amounts shown
on the schedule as cost represent the gross additions in 2001.
(5) No changes in valuation occurred in these investments during
the 12 months ended December 31, 2001.
(6) These investments are development stage companies. A
development stage company is defined as a company that is
devoting substantially all of its efforts to establishing a
new business, and either it has not yet commenced its planned
principal operations or it has commenced such operations but
has not realized significant revenue from them.
(7) Previously named iPacer Corporation.
(8) Previously named MyPersonalAdvocate.com, Inc.
(9) Harris Partners I, L.P. owns a 20 percent limited partnership
interest in PHZ Capital Partners L.P. The partners of Harris
Partners I, L.P. are Harris & Harris Enterprises, Inc. (sole
general partner) and Harris & Harris Group, Inc. (sole
limited partner). Harris & Harris Enterprises, Inc. is a 100
percent owned subsidiary of Harris & Harris Group, Inc.
(10) Investments in unaffiliated companies consist of investments
in which the Company owns less than five percent of the
portfolio company. Investments in non-controlled affiliated
companies consist of investments in which the Company owns
more than five percent but less than 25 percent of the
portfolio company. Investments in controlled affiliated
companies consist of investments in which the Company owns
more than 25 percent of the portfolio company.
(11) The aggregate cost for federal income tax purposes of
investments in unaffiliated companies is $2,019,601. The
gross unrealized depreciation based on the tax cost for these
securities is $353,221. The gross unrealized appreciation
based on the tax cost for these securities is $784.
(12) The percentage ownership of each portfolio company disclosed
in the Consolidated Schedule of Investments expresses the
potential common equity interest in each such portfolio. The
calculated percentage represents the amount of the issuer's
common stock the Company owns or can acquire as a percentage
of the issuer's total outstanding common stock plus common
shares reserved for issued and outstanding warrants,
convertible securities and stock options.
The accompanying notes are an integral
part of this consolidated schedule.
37
FOOTNOTE TO CONSOLIDATED SCHEDULE OF INVESTMENTS
ASSET VALUATION POLICY GUIDELINES
The Company's investments can be classified into five broad
categories for valuation purposes:
1) EQUITY-RELATED SECURITIES
2) INVESTMENTS IN INTELLECTUAL PROPERTY OR PATENTS OR
RESEARCH AND DEVELOPMENT IN TECHNOLOGY OR PRODUCT
DEVELOPMENT
3) LONG-TERM FIXED-INCOME SECURITIES
4) SHORT-TERM FIXED-INCOME INVESTMENTS
5) ALL OTHER INVESTMENTS
The Investment Company Act of 1940 (the "1940 Act") requires
periodic valuation of each investment in the Company's portfolio
to determine net asset value of the Company. 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 Company's Board of Directors is responsible for 1)
determining overall valuation guidelines and 2) ensuring the
valuation of investments within the prescribed guidelines.
The Company's Investment and Valuation Committee is
responsible for reviewing and approving the valuation of the
Company's assets within the guidelines established by the Board
of Directors.
Fair value is generally defined as the amount that an
investment could be sold for in an orderly disposition over a
reasonable time. Generally, to increase objectivity in valuing
the assets of the Company, external measures of value, such as
public markets or third-party transactions, are utilized 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.
Valuation assumes that, in the ordinary course of its
business, the Company will eventually sell its investment.
The Company's valuation policy with respect to the five
broad investment categories is as follows:
EQUITY-RELATED SECURITIES
Equity-related securities are carried at fair value using
one or more of the following basic methods of valuation:
A. Cost: The cost method is based on the original cost to
the Company. This method is generally used in the early stages
of a company's development until significant positive or negative
events occur subsequent to the date of the original investment
that dictate a change to another valuation method. Some examples
of such 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 the company's
common stock; (5) significant positive or negative changes in the
company's business.
38
B. Private Market: The private market method uses actual
third-party transactions in the company's securities as a basis
for valuation, using actual, executed, historical transactions in
the company's securities by responsible third parties. The
private market method may also use, where applicable,
unconditional firm offers by responsible third parties as a basis
for valuation.
C. Public Market: The public market method is used when
there is an established public market for the class of the
company's securities held by the Company. The Company discounts
market value for securities that are subject to significant
legal, contractual or practical restrictions. Other 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
or on the Nasdaq National Market 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 that day, market value is the mean of the closing
bid price and asked price on that day.
This method is the preferred method of valuation when there
is an established public market for a company's securities, as
that market provides the most objective basis for valuation.
D. Analytical Method: The analytical method is generally
used to value an investment position when there is no established
public or private market in the company's securities or when the
factual information available to the 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 the Company's Investment and Valuation Committee members,
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 company, the long-term potential of the
business of the company, the values of similar securities issued
by companies in similar businesses, the proportion of the
company's securities owned by the Company and the nature of any
rights to require the company to register restricted securities
under applicable securities laws.
INVESTMENTS IN INTELLECTUAL PROPERTY OR PATENTS OR RESEARCH AND
DEVELOPMENT IN TECHNOLOGY OR PRODUCT DEVELOPMENT
Such investments are carried at fair value using the
following basic methods of valuation:
E. Cost: The cost method is based on the original cost to
the Company. Such method is generally used in the early stages
of commercializing or developing intellectual property or
patents or research and development in technology or product
development until significant positive or adverse events occur
subsequent to the date of the original investment that dictate a
change to another valuation method.
F. Private Market: The private market method uses actual
third-party investments in intellectual property or patents or
research and development in technology or product development as
a basis for valuation, using actual executed historical
transactions by responsible third parties. The private market
method may also use, where applicable, unconditional firm offers
by responsible third parties as a basis for valuation.
G. Analytical Method: The analytical method is used to
value an investment after analysis of the best available outside
information where the factual information available to the
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
39
reconciling the judgments of the Company's Investment and
Valuation Committee members. 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 results of research and development,
product development progress, commercial prospects, term of
patent and projected markets.
LONG-TERM FIXED-INCOME SECURITIES
H. Fixed-Income Securities for which market quotations are
readily available are carried at market value as of the time of
valuation using the most recent bid quotations when available.
Securities for which market quotations are not readily
available are carried at fair value using one or more of the
following basic methods of valuation:
I. Fixed-Income Securities are valued by independent
pricing services that provide market quotations based primarily
on quotations from dealers and brokers, market transactions, and
other sources.
J. Other Fixed-Income Securities that are not readily
marketable are valued at fair value by the Investment and
Valuation Committee.
SHORT-TERM FIXED-INCOME INVESTMENTS
K. Short-Term Fixed-Income Investments are valued at market
value at the time of valuation. Short-term debt with remaining
maturity of 60 days or less is valued at amortized cost.
ALL OTHER INVESTMENTS
L. All Other Investments are reported at fair value as
determined in good faith by the Investment and Valuation
Committee.
The reported values of securities for which market
quotations are not readily available and for other assets reflect
the Investment and Valuation Committee's judgment of fair values
as of the valuation date using the outlined basic methods of
valuation. They do not necessarily represent an amount of money
that would be realized if the securities had to be sold in an
immediate liquidation. The Company makes many of its portfolio
investments with the view of holding them for a number of years,
and the reported value of such investments may be considered in
terms of disposition over a period of time. Thus valuations as of
any particular date are not necessarily indicative of amounts
that may ultimately be realized as a result of future sales or
other dispositions of investments held.
40
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. THE COMPANY
Harris & Harris Group, Inc. (the "Company") is a venture
capital investment company operating as a business development
company ("BDC") under the Investment Company Act of 1940 ("1940
Act"). A BDC is a specialized type of investment company under
the 1940 Act. The Company operates as an internally managed
investment company whereby its officers and employees, under the
general supervision of its Board of Directors, conduct its
operations.
The Company elected to become a BDC on July 26, 1995, after
receiving the necessary approvals. From September 30, 1992 until
the election of BDC status, the Company operated as a closed-end,
non-diversified, investment company under the 1940 Act. Upon
commencement of operations as an investment company, the Company
revalued all of its assets and liabilities at fair value as
defined in the 1940 Act. Prior to such time, the Company was
registered and filed under the reporting requirements of the
Securities and Exchange Act of 1934 as an operating company and,
while an operating company, operated directly and through
subsidiaries.
Harris & Harris Enterprises, Inc. ("Enterprises") is a 100
percent wholly owned subsidiary of the Company. Enterprises
holds the lease for the office space, which it subleases to the
Company and an unaffiliated party; operates a financial relations
and consulting firm; is a partner in Harris Partners I, L.P. and
is taxed as a C corporation. Harris Partners I, L.P. is a
limited partnership and owns a 20 percent limited partnership
interest in PHZ Capital Partners L.P. The partners of Harris
Partners I, L.P. are Enterprises (sole general partner) and
Harris & Harris Group, Inc. (sole limited partner).
The Company filed for 1999 to elect treatment as a Regulated
Investment Company ("RIC") under Sub-Chapter M of the Internal
Revenue Code of 1986 (the "Code") and qualified for the same
treatment for 2000 and 2001. There can be no assurance that the
Company will qualify as a RIC in subsequent years or that if it
does qualify, it will continue to qualify for subsequent years.
In addition, even if the Company were to qualify as a RIC for a
given year, the Company might take action in a subsequent year to
ensure that it would be taxed in that subsequent year as a C
Corporation, rather than as a RIC. As a RIC, the Company must,
among other things, distribute at least 90 percent of its taxable
net income and may either distribute or retain its realized net
capital gains on investments.
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The following is a summary of significant accounting
policies followed in the preparation of the consolidated
financial statements:
Principles of Consolidation. The consolidated financial
statements have been prepared in accordance with accounting
principles generally accepted in the United States for investment
companies and include the accounts of the Company and its wholly
owned subsidiaries. All significant intercompany accounts and
transactions have been eliminated in consolidation.
Cash and Cash Equivalents. Cash and cash equivalents
include money market instruments with maturities of less than
three months.
41
Portfolio Investment Valuations. Investments are stated at
"fair value" as defined in the 1940 Act and in the applicable
regulations of the Securities and Exchange Commission. All
assets are valued at fair value as determined in good faith by,
or under the direction of, the Board of Directors. (See "Asset
Valuation Policy Guidelines" in the "Footnote to Consolidated
Schedule of Investments.")
Securities Transactions. Securities transactions are
accounted for on the date the securities are purchased or sold
(trade date); dividend income is recorded on the ex-dividend
date; and interest income is accrued as earned. Realized gains
and losses on investment transactions are determined on specific
identification for financial reporting and tax reporting.
Income Taxes. Prior to January 1, 1999, the Company
recorded income taxes using the liability method in accordance
with the provision of Statement of Financial Accounting Standards
No. 109. Accordingly, deferred tax liabilities had been
established to reflect temporary differences between the
recognition of income and expenses for financial reporting and
tax purposes, the most significant difference of which relates to
the Company's unrealized appreciation on investments.
The December 31, 2001 consolidated financial statements
include a provision for deferred taxes on the remaining net
built-in gains as of December 31, 1998, net of the unutilized
operating and capital loss carryforwards incurred by the Company
through December 31, 1998.
These statements also reflect a tax liability on realized
net long-term capital gains which the Company intends to retain
for liquidity and to fund investment opportunities, rather than
distribute to shareholders as a cash distribution. Accordingly,
the Company declared a designated undistributed capital gain
dividend for the year. (See "Note 6 Income Taxes" and Item 2.
"Management's Discussion and Analysis of Financial Condition and
Results of Operation -- Recent Developments -- Sub-Chapter M
Status.")
The Company pays federal, state and local income taxes on
behalf of its wholly owned subsidiary, Harris & Harris
Enterprises, which is a C corporation. (See "Note 6 Income
Taxes.")
Reclassifications. Certain reclassifications have been made
to the December 31, 1998 and December 31, 1999 financial
statements to conform to the December 31, 2000 presentation.
Estimates by Management. The preparation of the
consolidated financial statements in conformity with accounting
principles generally accepted in the United States requires
management to make estimates and assumptions that affect the
reported amounts of assets and liabilities as of December 31,
2001 and 2000, and the reported amounts of revenues and expenses
for the three years ended December 31, 2001. Actual results
could differ from these estimates.
NOTE 3. EMPLOYEE PROFIT SHARING PLAN
On August 3, 1989, the shareholders of the Company approved
the 1988 Long Term Incentive Compensation Plan. The Company's
1988 Plan was cancelled as of December 31, 1997, canceling all
outstanding stock options and eliminating all potential stock
option grants. As a substitution for the 1988 Stock Option Plan,
the Company adopted an employee profit-sharing plan.
As of January 1, 1998, the Company began implementing the
Harris & Harris Group, Inc. Employee Profit Sharing Plan (the
"1998 Plan") that provides for profit sharing equal to 20 percent
of the net realized income of the Company as reflected on the
Consolidated Statements of Operations for such year, less the
nonqualifying gain, if any. The 1998 Plan was terminated by the
Company as of December 31, 1999, subject to the payment of any
amounts owed on the 1999 realized gains under the 1998 Plan.
42
In March 2000, the Company paid out, under the 1998 Plan, 90
percent of the profit sharing in the amount of $1,024,696 on the
1999 realized gains; the remaining 10 percent or $113,855 was
paid out in September 2000, upon the completion and filing of the
Company's 1999 federal tax return.
As of January 1, 2000, the Company implemented the Harris &
Harris Group, Inc. Employee Profit-Sharing Plan (the "Plan") that
provides for profit sharing equal to 20 percent of the net
realized income of the Company as reflected on the Consolidated
Statements of Operations of the Company for such year, less the
nonqualifying gain, if any.
Under the Plan, net realized income of the Company includes
investment income, realized gains and losses, and operating
expenses (including taxes paid or payable by the Company), but is
calculated without regard to dividends paid or distributions made
to shareholders, payments under the Plan, unrealized gains and
losses, and loss carry-overs from other years ("Qualifying
Income"). The portion of net after-tax realized gains
attributable to asset values as of September 30, 1997 is
considered non-qualifying gain, which reduces Qualifying Income.
As soon as practicable following the year-end audit, the
Board of Directors will determine whether, and if so how much,
Qualifying Income exists for a plan year, and 90 percent of the
Qualifying Income will be paid out to Plan participants pursuant
to the distribution percentages set forth in the Plan. The
remaining 10 percent will be paid out after the Company has filed
its federal tax return for that year in which Qualifying Income
exists. Currently, the distribution amounts for each officer and
employee are as follows: Charles E. Harris, 13.790 percent; Mel
P. Melsheimer, 4.233 percent; Helene B. Shavin, 1.524 percent;
and Jacqueline M. Matthews, 0.453 percent. If a participant
leaves the Company for other than cause, the amount earned will
be accrued and may subsequently be paid to such participant.
Notwithstanding any provisions of the Plan, in no event may
the aggregate amount of all awards payable for any Plan year
during which the Company remains a "business development
company" within the meaning of 1940 Act be greater than 20
percent of the Company's "net income after taxes" within the
meaning of Section 57(n)(1)(B) of the 1940 Act. In the event the
awards exceed such amount, the awards will be reduced pro rata.
The Plan may be modified, amended or terminated by the
Company's Board of Directors at any time with the stipulation
that no such modification, amendment or termination may
adversely affect any participant that has not consented to such
modification, amendment or termination. Nothing in this Plan
shall preclude the Committee from, for any Plan Year subsequent
to the current Plan Year, naming additional Participants in the
Plan or changing the Award Percentage of any Full Participant
or New Participant (subject to the overall percentage
limitations contained herein).
The Company calculates the Plan accrual at each quarter end
based on the realized and unrealized gains at that date, net of
operating expenses and income taxes for the year. Any
adjustments to the Plan accrual are then reflected in the
Consolidated Statements of Operations for that quarter. The Plan
accrual is not paid out until the gains are realized. During
2000, the Company, as a result of a net decrease in the
unrealized appreciation, decreased the profit-sharing accrual by
$4,812,675 and paid out the 1999 profit sharing in the amount of
$1,138,551, which decreased the cumulative accrual under the Plan
to $3,483,241 at December 31, 2000.
The amounts payable under the Plan of $2,320,939 for the
gains realized during the year ended December 31, 2000 were paid
out as follows: 90 percent in February 2001; the remaining 10
percent upon the completion and filing of the Company's 2000
federal tax return. Additionally, during 2001, the Company
decreased the profit-sharing accrual by $984,021, bringing the
cumulative accrual under the Plan to $178,282 at December 31,
2001.
43
On April 26, 2000, the shareholders of the Company
approved the performance goals under the Plan in accordance
with Section 162(m) of the Code. The Code generally provides
that a public company such as the Company may not deduct
compensation paid to its chief executive officer or to any of
its four most highly compensated officers to the extent that
the compensation paid to any such officer/employee exceeds $1
million in any tax year, unless the payment is made upon the
attainment of objective performance goals that are approved by
the Company's shareholders.
NOTE 4. CAPITAL TRANSACTIONS
In 1998, the Board of Directors approved that, effective
January 1, 1998, 50 percent of all Directors' fees be used to
purchase Company common stock from the Company. However,
effective March 1, 1999, the directors may purchase the Company's
common stock in the open market, rather than from the Company.
During 1999, the Directors bought directly from the Company 5,816
shares.
On July 14, 1999, the Board of Directors announced a tender
offer to purchase up to 1,100,000 shares of its common stock for
cash at a price equal to $1.63 per share. A total of 1,080,569
shares were tendered for a total cost, including related expenses
of approximately $71,500, of $1,832,831. Of these shares,
1,075,269 were tendered by one shareholder, which tendered all of
its holdings.
On January 27, 2000, the Company placed privately, with an
unaffiliated investor, for $3 million in cash, a one-year, 12
percent note with one-year warrants to purchase 25,263 shares of
the Company's common stock at $11.8750 per share. Unless the
note was prepaid, six months after its issuance, the investor
would have received additional one-year warrants to purchase an
additional $300,000 worth of the Company's common stock at the
then-current market price. During March 2000, with part of the
proceeds from the sale of SciQuest.com stock, the Company prepaid
the Note. The Company incurred total interest costs of $146,141:
$36,500 in interest paid on the note and $109,641 on warrants.
The warrants expired unexercised.
On October 12, 2000, the Company announced that the Board of
Directors had authorized a repurchase program in the open market
of up to $2 million of the Company's stock, at the discretion of
management. As of December 31, 2001, the Company had repurchased
a total of 376,600 shares in the open market, at approximately
$2.30 per share, for a total of $868,051.
Since 1998, the Company has repurchased a total of 1,859,047
of its shares for a total of $3,496,388, including commissions
and expenses, at an average price of $1.88 per share. These
treasury shares were reduced by the purchases made by the
Directors.
On December 14, 2000, the Company declared a deemed dividend
of $1.78 per share for a total of $16,253,987, and in 2001, the
Company paid federal income taxes on behalf of shareholders of
$0.62 per share for a total of $5,688,896. The Company paid the
tax at the corporate rate on the distribution, and the
shareholders received a tax credit equal to their proportionate
share of the tax paid.
On January 22, 2002, the Company declared a deemed dividend
of $0.0875 per share for a total of $775,620, and in 2002 the
Company paid federal income taxes on behalf of shareholders of
$0.030625 per share for a total of $271,467. The Company paid
the tax at the corporate rate on the distribution, and the
shareholders received a tax credit equal to their proportionate
share of the tax paid.
The net of the total deemed dividends declared in 2000
($16,253,987) and 2001 ($775,620) and the taxes paid on behalf of
shareholders in 2000 ($5,688,896) and 2001 ($271,467) is
considered to be reinvested by the shareholders; therefore,
during 2000 and 2001, additional paid in capital has increased by
$10,565,091 and $504,153, respectively.
44
The tax character of the 2001 deemed dividend is long-term
capital gain.
As of December 31, 2001, there are no distributable
earnings. The difference between the book basis and tax basis
components of distributable earnings is attributed to Built-In
Gains generated at the time of the Company's qualification as a
RIC (see Note 6. "Income Taxes") and after tax earnings that
are not required to be distributed.
NOTE 5. EMPLOYEE BENEFITS
On October 19, 1999, Charles E. Harris signed an Employment
Agreement with the Company (disclosed in a Form 8-K filed on
October 27, 1999) (the "Employment Agreement"), which superseded
an employment agreement that was about to expire on December 31,
1999. The Employment Agreement shall terminate on December 31,
2004 ("Term") subject to either an earlier termination or an
extension in accordance with the terms; on January 1, 2000 and on
each day thereafter, the Term extends automatically by one day
unless at any time the Company or Mr. Harris, by written notice,
decides not to extend the Term, in which case the Term will
expire five years from the date of the written notice.
During the period of employment, Mr. Harris shall serve as
the Chairman and Chief Executive Officer of the Company; be
responsible for the general management of the affairs of the
Company and all its subsidiaries, reporting directly to the Board
of Directors of the Company; serve as a member of the Board for
the period of which he is and shall from time to time be elected
or reelected; and serve, if elected, as President of the Company
and as an officer and director of any subsidiary or affiliate of
the Company.
Mr. Harris is to receive compensation under his Employment
Agreement in the form of base salary of $208,315 for 2000, with
automatic yearly adjustments to reflect inflation. In addition,
the Board may increase such salary, and consequently decrease it,
but not below the level provided for by the automatic adjustments
described above. Mr. Harris is also entitled to participate in
the Company's Profit-Sharing Plan as well as in all compensation
or employee benefit plans or programs, and to receive all
benefits, perquisites, and emoluments for which salaried
employees are eligible. Under the Employment Agreement, the
Company is to furnish Mr. Harris with certain perquisites which
include a company car, membership in certain clubs and up to a
$5,000 annual reimbursement for personal, financial or tax
advice.
The Employment Agreement provides Mr. Harris with life
insurance for the benefit of his designated beneficiaries in the
amount of $2,000,000; provides reimbursement for uninsured
medical expenses, not to exceed $10,000 per annum, adjusted for
inflation, over the period of the contract; provides Mr. Harris
and his spouse with long-term care insurance; and disability
insurance in the amount of 100 percent of his base salary. These
benefits are for the term of the Employment Agreement.
The Employment Agreement provides for the Company to adopt a
supplemental executive retirement plan (the "SERP") for the
benefit of Mr. Harris. Under the SERP, the Company will cause an
amount equal to one-twelfth of the Mr. Harris's current base
salary to be credited each month (a "Monthly Credit") to a
special account maintained for this purpose on the books of the
Company for the benefit of Mr. Harris (the "SERP Account"). The
amounts credited to the SERP Account will be deemed invested or
reinvested in such mutual funds or U.S. Government securities as
determined by Mr. Harris. The SERP Account will be credited and
debited to reflect the deemed investment returns, losses and
expenses attributed to such deemed investments and reinvestments.
Mr. Harris' benefit under the SERP will equal the balance in the
SERP Account and such benefit will always be 100 percent vested
(i.e., not forfeitable). Mr. Harris will determine the form and
timing of the distribution of the balance in the SERP Account;
provided, however, in the event of the termination, the balance
in the SERP Account will be distributed to Mr. Harris or his
beneficiary, as the case may be, in a lump-sum payment within 30
days of such termination. The Company will establish a rabbi
trust for the purpose of accumulating funds to satisfy the
obligations incurred by the Company under the SERP. The
45
restricted funds for the SERP Plan total $482,020 as of December
31, 2001. Mr. Harris' rights to benefits pursuant to this SERP
will be no greater than those of a general creditor of the
Company.
The Employment Agreement provides severance pay in the event
of termination without cause or by constructive discharge and
also provides for certain death benefits payable to the surviving
spouse equal to the executive's base salary for a period of two
years.
In addition, Mr. Harris is entitled to receive severance pay
pursuant to the severance compensation agreement that he entered
into with the Company, effective August 15, 1990. The severance
compensation agreement provides that if, following a change in
control of the Company, as defined in the agreement, such
individual's employment is terminated by the Company without
cause or by the executive within one year of such change in
control, the individual shall be entitled to receive compensation
in a lump sum payment equal to 2.99 times the individual's
average annualized compensation and payment of other welfare
benefits. If Mr. Harris' termination is without cause or is a
constructive discharge, the amount payable under the Employment
Agreement will be reduced by the amounts paid pursuant to the
severance compensation agreement.
As of January 1, 1989, the Company adopted an employee
benefits program covering substantially all employees of the
Company under a 401(k) Plan and Trust Agreement. As of January
1, 1999, the Company adopted the Harris & Harris Pension Plan and
Trust, a money purchase plan which would allow the Company to
stay compliant with the 401(k) top-heavy regulations and
deduction limitation regulations. In 2001, Congress enacted the
Economic Growth and Tax Relief Reconciliation Act of 2001 which
has increased the deduction limits for plans such as the 401(k)
Plan. This Act eliminates the need for the Company to maintain
two separate plans. Effective December 31, 2001, the Pension
Plan merged into the 401(k) Plan, with the 401(k) Plan being the
surviving plan. Contributions to the plan are at the discretion
of the Company. During 2001, contributions to the plan that have
been charged to salaries and benefits totaled approximately
$40,000.
On June 30, 1994, the Company adopted a plan to provide
medical and health insurance for retirees, their spouses and
dependents who, at the time of their retirement, have ten years
of service with the Company and have attained 50 years of age or
have attained 45 years of age and have 15 years of service with
the Company. On February 10, 1997, the Company amended this plan
to include employees who "have seven full years of service and
have attained 58 years of age." The coverage is secondary to any
government provided or subsequent employer provided health
insurance plans. Based upon actuarial estimates, the Company
provided an original reserve of $176,520 that was charged to
operations for the period ending June 30, 1994. As of December
31, 2001 the Company had a reserve of $385,935 for the plan.
NOTE 6. INCOME TAXES
On September 25, 1997, the Company's Board of Directors
approved a proposal to seek qualification as a RIC under Sub-
Chapter M of the Code. As a RIC, the Company annually must
distribute at least 90 percent of its investment company taxable
income as a dividend and may either distribute or retain its
realized net capital gains from investments. To initially
qualify as a RIC, among other requirements, the Company had to
pay a dividend to shareholders equal to the Company's cumulative
realized earnings and profits ("E&P"). On April 9, 1998, the
Company declared a one-time cash dividend of $0.75 per share to
meet this requirement (for a total of $8,019,728). The cash
dividend was paid on May 12, 1998.
The Company elected Sub-Chapter M status for the year ended
December 31, 1999. On February 23, 1999, the Company declared a
cash dividend of $0.35 per share (for a total of $3,647,017),
thereby distributing part of the long-term capital gain generated
in 1999 by the sale of NBX Corporation to 3Com Corporation.
Approximately $143,261 of the long-term capital gain for 1999 was
46
not distributed during 1999. Accordingly, on September 20, 2000,
the Company declared a $0.02 dividend (for a total of $184,817).
For the year ended December 31, 1999, the Company incurred
approximately $20,000 in excise taxes.
A corporation that elects to qualify as a RIC continues to
be taxable as a C Corporation on any gains realized within 10
years of its qualification as a RIC from sales of assets that
were held by the corporation on the effective date of the
election ("C Corporation Assets") to the extent of any gain
built into the assets on such date ("Built-In Gain"). The
Company had Built-In Gains at the time of its qualification as a
RIC. Prior to 1999, the Company incurred ordinary and capital
losses from its operations. After the Company's election of RIC
status, those losses remained available to be carried forward to
subsequent taxable years. Recently issued Internal Revenue
Service regulations (issued in temporary and proposed form)
confirm that such losses may be used to offset realized Built-In
Gains and, to the extent so used, to eliminate C Corporation
taxation of such gains. Notwithstanding any such offset,
however, the new regulations also provide that all realized
Built-In Gains (calculated without regard to the offset, but net
of any C Corporation tax imposed on the Built-In Gains after
application of the offset) must be included in calculating a
RIC's investment company taxable income or net capital gains, as
the case may be, and therefore appear to require that such Built-
In Gains must be distributed to avoid Sub-Chapter M taxation of
such investment company taxable income or net capital gains (and,
in the case of any Built-In Gains that are includible in
investment company taxable income, possible loss of RIC status).
The Company has previously used loss carryforwards to offset
Built-In Gains. As of January 1, 2002, the Company had $501,640
of loss carryforwards remaining and $4,663,457 of unrealized
Built-In Gains.
Continued qualification as a RIC requires the Company to
satisfy certain portfolio diversification requirements in future
years. The Company's ability to satisfy those requirements may
not be controllable by the Company. (See Item 7. "Management's
Discussion and Analysis of Financial Condition and Results of
Operation -- Sub-Chapter M Status.") There can be no assurance
that the Company will qualify as a RIC in subsequent years.
To the extent that the Company retains capital gains, and
declares a deemed dividend to shareholders, the dividend is
taxable to the shareholders. The Company would pay tax, at the
corporate rate, on the distribution, and the shareholders would
receive a tax credit equal to their proportionate share of the
tax paid. The Company took advantage of this rule for 2000 and
2001. Accordingly, the Company's financial statements for 2000
and 2001 include a tax liability of $5,709,884 and $290,748,
respectively. The taxes paid by the Company's shareholders as a
result of its deemed dividend declaration for 2000 ($5,688,896)
and 2001 ($271,467) are reflected as a deduction to the
additional paid-in capital in the Company's Consolidated
Statement of Assets and Liabilities rather than an expense in the
Consolidated Statement of Operations.
The Company also realized short-term capital gains of
approximately $2,111,865 in 2000, primarily on sales of shares of
Alliance Pharmaceutical Corp. The Company offset the realized
short-term gain with 2000 expenses and neither owed federal
income taxes on the gain nor was required to distribute any
portion of this gain to shareholders.
For the years ended December 31, 2001, 2000 and 1999, the
Company's income tax (benefit) expense was allocated as follows:
2001 2000 1999
Investment operations $ 0 $ 0 $ 0
Realized loss on investments 118,415 101,435 2,361,044
Decrease in unrealized
appreciation on investments (90,464) (153,304) (1,627,074)
---------- --------- -----------
Total income tax (benefit)
expense $ 27,951 $ (51,869) $ 733,970
========= ========= ===========
47
The above tax (benefit) expense consists of the following:
2001 2000 1999
Current $ 118,415 $ 101,435 $2,361,044
Deferred -- Federal (90,464) (153,304) (1,627,074)
---------- ---------- ----------
Total income tax (benefit)
expense $ 27,951 $ (51,869) $ 733,970
========== ========== ==========
The Company's net deferred tax liability at December 31,
2001 and 2000 consists of the following:
2001 2000
Unrealized appreciation on investments $1,540,044 $1,630,506
Net operating and capital loss
carryforward (175,574) (266,036)
---------- ----------
Net deferred income tax liability $1,364,470 $1,364,470
========== ==========
NOTE 7. COMMITMENTS AND CONTINGENCIES
During 1993, the Company signed a ten-year lease with sublet
provisions for office space. In 1995, this lease was amended to
include additional office space. During 1999, the Company sublet
this additional space to an unaffiliated party. Rent expense
under this lease for the year ended December 31, 2001 was
$178,561. Future minimum lease payments in each of the following
years are: 2002 -- $178,561; 2003 -- $101,946.
The Company had a total of $1,475,276 of funds in escrow as
of December 31, 1999 as a result of the sale of NBX Corporation
to 3Com Corporation. These funds were in a one-year interest-
bearing escrow account for the benefit of the Company, subject to
any 3Com Corporation warranty claims associated with its
acquisition of NBX Corporation. The Company set up a reserve of
10 percent for any potential claims, therefore the funds in
escrow reflected $1,327,748 net of the reserve of $147,528. The
Company received the full escrow monies including interest of
$65,860 for a total of $1,541,136 on March 6, 2000, and
accordingly realized the $147,528 in 2000.
NOTE 8. ASSET ACCOUNT LINE OF CREDIT
On November 19, 2001, the Company established an asset
account line of credit of up to $12,700,000. The asset account
line of credit is secured by the Company's government agency
securities. Under the asset account line of credit, the Company
may borrow up to 95 percent of the current value of its
government agency securities. The Company's outstanding balance
under the asset line of credit at December 31, 2001 was
$12,495,777. The asset line of credit bears interest at a rate
of the Broker Call Rate plus 50 basis points. On January 3,
2002, the Company repaid the entire outstanding balance under
the asset line of credit.
NOTE 9. SUBSEQUENT EVENTS
On January 3, 2002, the Company paid the balance due on the
credit line of $12,495,777.
On January 29, 2002, the Company invested an additional
$100,000 in Series B preferred stock of Experion Systems, Inc.
On February 12, 2002, the Company announced that it had
purchased for $700,000 a Series A preferred stock which
represented an approximate 15 percent fully diluted equity
interest in Nanopharma Corp. Nanopharma is a privately held
company spun off from Massachusetts General Hospital.
48
Nanopharma, which is based in Massachusetts, is a research
company founded to develop advanced drug delivery systems based
on patented technology.
On February 20, 2002, Schwoo, Inc. filed for Chapter 7
bankruptcy. The Company wrote off its investment in Schwoo in
2001.
On March 7, 2002, the Company invested approximately
$625,000 in Series A-1 preferred stock of a privately held
company engaged in the production of nanoscale components
based on patented technolgoy. Under certain conditions,
the Company will be obligated to invest an additional
$375,000 in the Series A-1 preferred.
On March 8, 2002, the Company invested $1,000,000 in Series
D preferred stock of privately held NEO Photonics Corporation.
NEO Photonics has developed patented technology that enables the
manufacture of unique nanoscale optical compositions for the
telecommunications industry.
On March 8, 2002, the Company announced that its Board of
Directors has expanded its size from eight to nine and has
elected Kelly S. Kirkpatrick, a consulting materials scientist,
as a member of its board of directors.
On March 22, 2002, the Company announced that its Board of
Directors has expanded its size from nine to ten and has elected
Lori D. Pressman, a business consultant, as a member of its board
of directors.
49
SELECTED PER SHARE DATA AND RATIOS
Per share operating performance:
Year Ended Year Ended Year Ended Year Ended Year Ended
December December December December December
31,2001 31, 2000 31, 1999 31, 1998 31, 1997
---------- ---------- ---------- ---------- ----------
Net asset value,
beginning of period $ 3.51 $ 5.80 $ 2.13 $ 3.15 $ 3.44
Net operating
income (loss) (0.06) 0.37 (1.04) (0.26) (0.14)
Net realized gain (loss)
on investments 0.14 2.09 0.93 (0.16) (0.19)
Net (decrease) increase
in unrealized
appreciation as
a result of sales 0.45 (2.35) (0.46) 0.11 (0.17)
Net decrease (increase)
in unrealized
appreciation on
investments held (1.30) (1.82) 4.58 0.05 0.26
Net decrease as a result
of cash dividend 0.00 (0.02) (0.35) (0.75) 0.0
Net decrease as a result
of deemed dividend (0.03) (0.62) 0.00 0.00 0.00
Net increase (decrease)
from capital stock
transactions 0.04 0.06 0.01 (0.01) (0.05)
---------- ----------- ----------- ----------- -----------
Net asset value, end
of period* $ 2.75 $ 3.51 $ 5.80 $ 2.13 $ 3.15
========== =========== =========== =========== ===========
Cash dividends paid
per share $ 0.00 $ 0.02 $ 0.35 $ 0.75 $ 0.00
Deemed dividend per share $ 0.0875 $ 1.78 $ 0.00 $ 0.00 $ 0.00
Market value per share,
end of period $ 1.90 $ 2.4375 $ 11.50 $ 1.50 $ 3.50
Total income tax
liability per share $ 0.18 $ 0.78 $ 0.16 $ 0.09 $ 0.06
Ratio of expenses to
average net assets 3.45% (6.21)% 34.08% 10.9% 9.1%
Ratio of net operating
gain (loss) to
average net assets (1.75)% 52.7% (3.50)% (10.4)% (4.5)%
Investment return based on:
Stock price (22.1)% (78.8)% 666.7% (45.5)% (6.7)%
Net asset value (21.7)% (39.5)% 188.7% (8.3)% (8.4)%
Portfolio turnover 9.00% 20.56% 53.54% 19.71% 77.2%
Net assets, end of period $24,334,770 $31,833,475 $53,634,805 $22,556,709 $33,654,934
Number of shares
outstanding 8,864,231 9,064,231 9,240,831 10,591,232 10,692,971
*Reflects the decline in net asset value as a result of the $0.02
dividend paid in 2000, the $0.35 dividend paid in 1999 and the
$0.75 dividend paid in 1998.
The accompanying notes are an integral part of this schedule.
50
Item 9. Changes in and Disagreements With Accountants on Accounting
and Financial Disclosure
On February 26, 2002, the Company appointed the accounting
firm of PricewaterhouseCoopers LLP as independent public
accountants for the Company for the fiscal year ending December
31, 2002. Arthur Andersen LLP will be dismissed effective upon
completion of the December 31, 2001 audit. The decision to
change accountants was approved by the Company's Audit Committee
and is subject to ratification by its stockholders.
In connection with its audits for the two most recent fiscal
years, (1) there were no disagreements with Arthur Andersen on
any matter of accounting principle or practice, financial
statement disclosure, auditing scope or procedure, whereby such
disagreements, if not resolved to the satisfaction of Arthur
Andersen, would have caused them to make reference thereto in
their report on the financial statements for such years; and (2)
there have been no reportable events (as defined in Item
304(a)(1)(v) of Regulation S-K).
The reports of Arthur Andersen on the financial statements
of the Company for the past two years contained no adverse
opinion or disclaimer of opinion and were not qualified or
modified as to uncertainty, audit scope or accounting principle.
The Company has not consulted with PricewaterhouseCoopers
LLP during the last two years or subsequent interim periods on
either the application of accounting principles to a specified
transaction either completed or proposed or the type of audit
opinion PricewaterhouseCoopers LLP might issue on the Company's
financial statements.
The Company requested that Arthur Andersen furnish a letter
addressed to the Securities and Exchange Commission stating
whether or not Arthur Andersen agrees with the above statements.
A copy of such letter to the SEC, dated March 1, 2002, was filed
as Exhibit 16.1 to the Form 8-K filed with the SEC on March 1,
2002.
PART III
Item 10. Directors and Executive Officers of the Company
Executive Officers
Set forth below is certain information with respect to the
executive officers of the Company:
Charles E. Harris, Chairman and Chief Executive Officer. For
additional information about Mr. Harris, please see the
Directors' biographical information section.
51
Mel P. Melsheimer, age 62, has served as President, Chief
Operating Officer and Chief Financial Officer since February
1997, Chief Compliance Officer since February 2001 and Treasurer
since July 2001. Previously, Harris & Harris Group utilized Mr.
Melsheimer as a nearly full-time consultant or officer of a
portfolio company since March 1994. Mr. Melsheimer has had
extensive entrepreneurial experience as well as senior
operational and financial management responsibilities with
publicly and privately owned companies. From November 1992 to
February 1994, he served as Executive Vice President, Chief
Operating Officer and Secretary of Dairy Holdings, Inc. From
June 1991 to August 1992, he served as President and Chief
Executive Officer of Land-O-Sun Dairies as well as Executive Vice
President of Finevest Foods, Inc. From March 1989 to May 1991,
he served as Vice President, Chief Financial Officer and
Treasurer of Finevest Foods, Inc. From January 1984 to February
1989, he served as Chairman, Chief Executive Officer and Founder
of PHX Pacific, Inc. and from August 1987 to February 1989
President, Chief Executive Officer and Founder of MPM Capital
Corp. From January 1981 to December 1983, he served as Executive
Vice President and Chief Operating Officer of AZL Resources.
From November 1975 to December 1980, he served as Executive Vice
President and Chief Financial Officer of AZL Resources. From
January 1968 to November 1975, he served in a financial capacity
before becoming Vice President and Chief Financial Officer of
Pepsi-Cola Company, PepsiCo, Inc., in 1972. He was graduated
from the University of Southern California (MBA) and Occidental
College (B.A.).
Helene B. Shavin, age 48, has served as Vice President and
Controller since November 2001. From 1986 to 2000, Ms. Shavin
was employed at Citicorp Venture Capital Ltd. She was a Vice
President at Citicorp Venture Capital from 1999 to 2000. From
1984 to 1986, she was employed by KPMG Peat Marwick as a Senior
Accountant. Ms. Shavin was graduated from Queens College (B.A.)
and Baruch College (MBA) and is a certified public accountant.
Susan T. Harris, 57, has been employed by Harris & Harris
Enterprises, Inc. since July 1999, working primarily in financial
public relations. Since July 2001, she has served as its
Secretary and Treasurer. Harris & Harris Enterprises, Inc. is a
wholly owned subsidiary of Harris & Harris Group, Inc. engaged in
financial services. Also since July 2001, Ms. Harris has served
as Secretary of Harris & Harris Group, Inc. She has been an
investor relations consultant since 1972, operating as a sole
proprietor prior to 1999. From 1966 to 1972, she was a
securities analyst with several securities firms, including
Eastman Dillion, Union Securities, Inc., where she was Vice
President and Senior Consumer Products Analyst. She was
graduated from Wellesley College with a B.A. in economics. Ms.
Harris's husband serves as the Chairman and Chief Executive
Officer of the Company.
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Securities Exchange Act of 1934, as
amended, requires the Company's officers and directors, and
persons who own more than 10 percent of the Company's common
stock, to file reports (including a year-end report) of ownership
52
and changes in ownership with the Securities and Exchange
Commission (the "SEC") and to furnish the Company with copies
of all reports filed.
Based solely on a review of the forms furnished to the
Company, or written representations from certain reporting
persons, the Company believes that all persons who were subject
to Section 16(a) in 2001 complied with the filing requirements.
Directors
Independent Directors
Dr. C. Wayne Bardin, age 67, was elected to the Company's
Board of Directors in 1994. He is currently President of
Thyreos Corp., a privately held, start-up pharmaceutical
company. From 1978 through 1996, Dr. Bardin was Vice President
of The Population Council. His recent professional appointments
have included: Professor of Medicine, Chief of the Division of
Endocrinology, The Milton S. Hershey Medical Center of
Pennsylvania State University; and Senior Investigator,
Endocrinology Branch, National Cancer Institute. Dr. Bardin
also serves as a consultant to several pharmaceutical companies.
He has directed basic and clinical research leading to over 500
publications and patents. He has negotiated 15 licensing and
manufacturing agreements. He has directed clinical R&D under 18
investigational new drug applications filed with the U.S. FDA.
Dr. Bardin has been appointed to the editorial boards of 15
journals. He has also served on national and international
committees and boards for National Institute of Health, World
Health Organization, The Ford Foundation, and numerous
scientific societies. Dr. Bardin received a B.A. from Rice
University; an M.S. and M.D. from Baylor University and a Doctor
Honoris Causa from the University of Caen, the University of
Paris, and the University of Helsinki.
Dr. Phillip A. Bauman, age 46, was elected to the Company's
Board of Directors in 1998. Dr. Bauman is an orthopedic surgeon
who is in practice in New York City and has held an academic
appointment at Columbia University since 1988. He is a
principal and Vice President of Orthopedic Associates of New
York since 1994. He holds bachelor's and master's degrees in
biology from Harvard University and a medical degree from
Columbia University. Dr. Bauman was elected a fellow of the
American Academy of Orthopedic Surgeons in 1991, is affiliated
with the New York Academy of Medicine and is on the advisory
board of a medical research foundation.
G. Morgan Browne, age 67, was elected to the Company's Board
of Directors in 1992. Since January 1, 2001, Mr. Browne has
been the Chief Financial Officer and from 1985-2000 was the
Administrative Director of the Cold Spring Harbor Laboratory, a
private not-for-profit institution that conducts research and
education programs in the fields of molecular biology and
genetics. In prior years, he was active in the management of
numerous scientifically based companies as an officer, as an
individual consultant and as an associate of Laurent Oppenheim
Associates, Industrial Management Consultants. He is a director
of OSI Pharmaceuticals, Inc. (a publicly held company
principally engaged in drug discovery based on gene
transcription), a founding director of the New York
53
Biotechnology Association, and a founding director of the Long
Island Research Institute. He is a graduate of Yale University
and attended New York University Graduate School of Business.
Harry E. Ekblom, age 74, was elected to the Company's Board
of Directors in 1984. Mr. Ekblom is an investor. He is former
Chairman and CEO of European American Bank and former Vice
Chairman of A.T. Hudson & Co. Inc. He is a graduate of Columbia
College and the New York University School of Law, a member of
the New York Bar, and holds honorary degrees from Hofstra
University and Pace University.
Dugald A. Fletcher, age 72, was elected to the Company's
Board of Directors in 1996. Mr. Fletcher has been President of
Fletcher & Company, Inc., a management consulting firm, for the
past five years. He was also Chairman of Binnings Building
Products Company, Inc. until the end of 1997, and is a Trustee
of the Gabelli Growth Fund and a Director of the Gabelli
Convertible Securities Fund. His previous business appointments
include: advisor to Gabelli/Rosenthal LP, a leveraged buyout
fund; Chairman of Keller Industries (building and consumer
products); Director of and investor in Mid-Atlantic Coca-Cola
Bottling Company; Senior Vice President of Booz-Allen & Hamilton
and President of Booz-Allen Acquisition Services; Executive Vice
President and a Director of Paine Webber, Inc.; and President of
Baker, Weeks and Co., Inc., a New York Stock Exchange member
firm. He is a graduate of Harvard College and of Harvard
Business School.
Kelly S. Kirkpatrick, age 35, was elected to the Company's
Board of Directors in March 2002. Ms. Kirkpatrick is a
consulting materials scientist. From 2000 to 2002, she served
in the Office of the Executive Vice Provost of Columbia
University as Director, Columbia Nanotechnology Initiative and
Director for Research and Technology Initiatives. From 1998 to
2000, she served in the White House Office of Science and
Technology Policy as a Senior Policy Analyst, where her
responsibilities for the National Nanotechnology Initiative
included managing representatives from six federal agencies in
strategies research and development plan, implementation plan
and a $495 million budget, organizing the Presidential review
panel and co-writing the panel report. From 1997 to 1998, she
was a Science Policy Coordinator for Sandia National
Laboratories. From 1995 to 1996, she served in the Office of
Senator Joseph J. Lieberman as Legislative Assistant,
Congressional Science and Engineering Fellow. She is a graduate
of the University of Richmond and received her Ph.D. in
Materials Science and Engineering from Northwestern University.
Glenn E. Mayer, age 76, has been a director of the Company
since 1981. In May 2001, Mr. Mayer re-joined Jesup & Lamont
Securities Corporation as Senior Vice President. From December
1991 until May 2001, Mr. Mayer was a Senior Vice President of
Reich & Company, a division of Fahnestock & Company, Inc., a
member firm of the New York Stock Exchange. For 15 years prior
to that, he was employed by Jesup & Lamont Securities Co. and its
successor firms, in the Corporate Finance department. Mr. Mayer
is a graduate of Indiana University.
54
Lori D. Pressman, age 44, was elected to the Company's
Board of Directors in March 2002. Ms. Pressman, a self-employed
business consultant, provides advisory services to start-ups and
venture capital companies. Among other projects for Harris &
Harris Group, she has served as a consultant to the Company in
its due diligence work on Nantero, Inc., Nanopharma Corp. and
NEO Photonics Corporation. From September 1989 to July 2000,
she was employed by the Massachusetts Institute of Technology
in the Technology Licensing Office, serving as Technology
Licensing Officer from 1989 to 1995 and Assistant Director
from 1996 to 2000. From September 1984 to September 1989,
she was Senior Development Engineer at Lasertron, Inc.
From November 1983 to September 1984, she was employed by
the American Lung Association. From 1980 to 1982, she was
a Member of Solid State Materials Research Laboratory at
Bell Laboratories. She is Chair of the Survey Statistics and
Metrics Committee of the Association of University Technology
Managers for which she edited the recent report on Academic
Technology Transfer of 190 U.S. and Canadian Institutions. Ms.
Pressman was graduated from the Massachusetts Institute of
Technology, Physics (S.B.), and the Columbia School of
Engineering (MSEE).
James E. Roberts, age 56, was elected to the Company's Board
of Directors in 1995. Since October 1999, Mr. Roberts has been
Chairman and Chief Executive Officer of The Insurance Corporation
of New York, Dakota Specialty Insurance Company, and ReCor
Insurance Company Inc., all of which are members of Trenwick
Group, Ltd. In addition, since March 2000, Mr. Roberts has been
Chairman of and Chief Executive Officer of Chartwell Insurance
Company, also a member of Trenwick Group, Ltd. From October 1999
to March 2000, he served as Vice Chairman of Chartwell
Reinsurance Company. Prior to assuming his present positions,
Mr. Roberts was Vice Chairman of Trenwick America Reinsurance
Corporation from May 1995 to March 2000. Mr. Roberts is a
graduate of Cornell University.
Interested Director
Charles E. Harris, age 59, has been a director of the
Company and Chairman of its Board of Directors since April 1984.
He has served as Chief Executive Officer of the Company since
July 1984. He has served as a director, trustee, control
person, chairman and/or chief executive officer of various
publicly and privately held corporations and not-for-profit
institutions. Prior to 1984, he was Chairman of Wood, Struthers
and Winthrop Management Corp., the investment advisory
subsidiary of Donaldson, Lufkin & Jenrette. He was a member of
the Advisory Panel for the Congressional Office of Technology
Assessment. He is a member of the New York Society of Security
Analysts. Among his eleemosynary activities, he is currently a
Trustee of, and a member of the President's Council of, the Cold
Spring Harbor Laboratory; a Trustee of the Nidus Center, a life
sciences business incubator in St. Louis, Missouri; and a life-
sustaining fellow of the Massachusetts Institute of Technology
and a shareholder of its Entrepreneurship Center. He was
graduated from Princeton University (A.B., 1964) and Columbia
University Graduate School of Business (MBA, 1967). Mr. Harris
is an "interested person" of the Company, as defined in the
Investment Company Act of 1940, as a beneficial owner of more
than five percent of the Company's stock, as a control person
and as an officer of the Company. In addition, Mr. Harris' wife
56
serves as the Company's Secretary and is employed by Harris &
Harris Enterprises, Inc., a wholly owned subsidiary of the
Company.
Set forth below is the dollar range of equity securities
beneficially owned by each director as of March 12, 2002.
Dollar Range of Equity
Name of Director Securities Beneficially Owned (1)(2)
- --------------------- ------------------------------------
Dr. C. Wayne Bardin $10,001 - $50,000
Dr. Phillip A Bauman $10,001 - $50,000
G. Morgan Browne $10,001 - $50,000
Harry E. Ekblom $10,001 - $50,000
Dugald A. Fletcher $10,001 - $50,000
Glenn E. Mayer Over $100,000
James E. Roberts $10,001 - $50,000
Charles E. Harris (3) Over $100,000
(1) Beneficial ownership has been determined in accordance with
Rule 16a-1(a)(2) of the Securities Exchange Act of 1934.
(2) The dollar ranges are: None, $1-$10,000, $10,001-$50,000,
$50,001-$100,000.
(3) Denotes an individual who is an "interested person" as
defined in the Investment Company Act of 1940.
Item 11. Executive Compensation
Executive Compensation
Summary Compensation Table
The following table sets forth a summary for each of the
last three years of the cash and non-cash compensation awarded
to, earned by, or paid to the Chief Executive Officer of the
Company and the other executive officers of the Company for the
year ended December 31, 2001.
Annual Compensation
--------------------------------
Name and Principal Other Annual All Other
Position Year Salary Bonus Compensation Compensation
($) ($)(1) ($)(2) ($)(3)
- ------------------ ---- ------ --------- ------------ ------------
Charles E. Harris 2001 215,510 0 48,453 232,000
Chairman, CEO (4) 2000 208,315 1,600,287 43,267 224,805
1999 202,980 785,031 40,674 63,422
Mel P. Melsheimer 2001 243,869 0 - - 10,500
President, COO, CFO, 2000 235,727 491,227 - - 10,500
Treasurer & Chief 1999 229,690 240,974 - - 10,000
Compliance Officer
Helene B. Shavin 2001 13,333 - - - - 1,867
Controller
Susan T. Harris 2001 12,376 - - - - 1,578
Secretary
56
(1) For 1999 and 2000, these amounts represent the actual
amounts earned for the years ended December 31, 1999 and
December 31, 2000 and paid out in 2000 and 2001, respectively.
The Harris & Harris Group Employee Profit-Sharing Plan is
described in Employee Benefits.
(2) Other than Mr. Harris, amounts of "Other Annual
Compensation" earned by the named executive officers for the
periods presented did not meet the threshold reporting
requirements.
(3) Except for Mr. Harris, amounts reported represent the
Company's contributions on behalf of the named executive to
the Harris & Harris Group, Inc. 401(k) Plan described below.
Mr. Harris's 2001 "All Other Compensation" consists of:
$10,500 401(k) Plan employer contribution; $215,510 for his
2001 SERP contribution; and $5,990 in life insurance premiums
for the benefit of his beneficiaries.
(4) Mr. Harris has an employment agreement which is discussed
below under "Employment Agreement."
Employment Agreement
On October 19, 1999, Charles E. Harris signed an Employment
Agreement with the Company (the "Employment Agreement"), which
superseded an employment agreement that was about to expire on
December 31, 1999. The Employment Agreement expires on December
31, 2004 ("Term"); provided, on January 1, 2000 and on each day
thereafter, the Term extends automatically by one day unless at
any time the Company or Mr. Harris, by written notice, decides
not to extend the Term, in which case the Term will expire five
years from the date of the written notice.
During the period of employment, Mr. Harris shall serve as
the Chairman and Chief Executive Officer of the Company; be
responsible for the general management of the affairs of the
Company and all its subsidiaries, reporting directly to the Board
of Directors of the Company; serve as a member of the Board for
the period of which he is and shall from time to time be elected
or reelected; and serve, if elected, as President of the Company
and as an officer and director of any subsidiary or affiliate of
the Company.
Mr. Harris is to receive compensation under his Employment
Agreement in the form of base salary of $208,315 for 2000, with
automatic yearly adjustments to reflect inflation. In addition,
the Board may increase such salary, and consequently decrease it,
but not below the level provided for by the automatic adjustments
described above. Mr. Harris is also entitled to participate in the
Company's Profit-Sharing Plan as well as in all compensation or
employee benefit plans or programs, and to receive all benefits,
perquisites, and emoluments for which salaried employees are
eligible. Under the Employment Agreement, the Company is to
furnish Mr. Harris with certain perquisites which include a company
car, membership in certain clubs and up to a $5,000 annual
reimbursement for personal, financial or tax advice.
The Employment Agreement provides Mr. Harris with life
insurance for the benefit of his designated beneficiaries in the
amount of $2,000,000; provides reimbursement for uninsured
medical expenses, not to exceed $10,000 per annum, adjusted for
57
inflation, over the period of the contract; provides Mr. Harris
and spouse with long-term care insurance; and disability
insurance in the amount of 100 percent of his base salary.
These benefits are for the term of the contract.
The Employment Agreement provides severance pay in the event
of termination without cause or by constructive discharge as
discussed below and also provides for certain death benefits
payable to the surviving spouse equal to the executive's base
salary for a period of two years.
In addition, Mr. Harris is entitled to receive severance
pay pursuant to the severance compensation agreement that he
entered into with the Company, effective August 15, 1990. The
severance compensation agreement provides that if, following a
change in control of the Company, as defined in the agreement,
such individual's employment is terminated by the Company
without cause or by the executive within one year of such
change in control, the individual shall be entitled to receive
compensation in a lump sum payment equal to 2.99 times the
individual's average annualized compensation and payment of
other welfare benefits. If Mr. Harris's termination is without
cause or is a constructive discharge, the amount payable under
the Employment Agreement will be reduced by the amounts paid
pursuant to the severance compensation agreement.
SERP
The Employment Agreement provides for the Company to adopt
a supplemental executive retirement plan (the "SERP") for the
benefit of Mr. Harris. Under the SERP, the Company will cause
an amount equal to one-twelfth of Mr. Harris's current base
salary to be credited each month (a "Monthly Credit") to a
special account maintained for this purpose on the books of the
Company for the benefit of Mr. Harris (the "SERP Account"). The
amounts credited to the SERP Account will be deemed invested or
reinvested in such mutual funds or U.S. Government securities
as determined by Mr. Harris. The SERP Account will be credited
and debited to reflect the deemed investment returns, losses
and expenses attributed to such deemed investments and
reinvestments. Mr. Harris's benefit under the SERP will equal
the balance in the SERP Account and such benefit will always be
100 percent vested (i.e., not forfeitable). Mr. Harris will
determine the form and timing of the distribution of the
balance in the SERP Account; provided, however, in the event of
the termination, the balance in the SERP Account will be
distributed to Mr. Harris or his beneficiary, as the case may
be, in a lump-sum payment within 30 days of such termination.
The Company established a rabbi trust for the purpose of
accumulating funds to satisfy the obligations incurred by the
Company under the SERP. During 2001, the Company accrued
$215,510 in accordance with this provision of the SERP
increasing the cumulative accrual to $482,020 as of December
31, 2001. Mr. Harris's rights to benefits pursuant to this
SERP will be no greater than those of a general creditor of the
Company.
58
On April 26, 2000 the shareholders of the Company approved
the performance goals under the Plan in accordance with Section
162(m) of the Internal Revenue Code of 1986 ("Code"). The Code
generally provides that a public company such as the Company may
not deduct compensation paid to its chief executive officer or to
any of its four most highly compensated officers to the extent
that the compensation paid to any such officer/employee exceeds
$1 million in any tax year, unless the payment is made upon the
attainment of objective performance goals that are approved by
the Company's shareholders.
Compensation of Directors
Pension Or
Retirement
Benefits Estimated
Accrued Annual Total
As Part Of Benefits Compensation
Aggregate Company's Upon Paid To
Name of Director Compensation Expenses Retirement Directors
- ------------------- ------------ ---------- ---------- ------------
Dr. C. Wayne Bardin $13,000 - - - - $13,000
Dr. Phillip A. Bauman $11,000 - - - - $11,000
G. Morgan Browne $14,172 (1) - - - - $14,172
Harry E. Ekblom $12,875 (2) - - - - $12,875
Dugald A. Fletcher $14,000 - - - - $14,000
Glenn E. Mayer $11,000 - - - - $11,000
James E. Roberts $14,000 - - - - $14,000
(1) Includes $172 paid to Mr. Browne to reimburse him for travel
expenses to attend Board meetings.
(2) Includes $1,875 paid to Mr. Ekblom to reimburse him for travel
expenses to attend Board meetings.
Effective June 18, 1998, directors who were not officers
of the Company received $1,000 for each meeting of the Board
of Directors and $1,000 for each committee meeting they
attended in addition to a monthly retainer of $500. Prior to
June 18, 1998, the directors were paid $500 for Committee
meetings and no monthly retainer. The Company also reimburses
its directors for travel, lodging and related expenses they
incur in attending Board and committee meetings. The total
compensation and reimbursement for expenses paid to all
directors in 2001 was $90,047.
In 1998, the Board of Directors approved that effective
January 1, 1998, 50 percent of all Director fees be used to
purchase Company common stock from the Company. However,
effective on March 1, 1999, the Directors began purchasing the
Company's common stock in the open market, rather than from
the Company. During 2000 and 2001, the Directors bought a
total of 15,818 and 7,944 shares in the open market,
respectively.
59
Item 12. Security Ownership of Certain Beneficial Owners and Management
Security ownership of Directors and Executive Officers and other
principal holders of the Company's voting securities
The following table sets forth certain information with
respect to beneficial ownership (as that term is defined in the
rules and regulations of the Securities and Exchange Commission)
of the Company's common stock as of March 12, 2002 by (1) each
person who is known by the Company to be the beneficial owner of
more than five percent of the outstanding common stock, (2) each
director of the Company, (3) each current executive officer
listed in the Summary Compensation Table and (4) all directors
and executive officers of the Company as a group. Except as
otherwise indicated, to the Company's knowledge, all shares are
beneficially owned and investment and voting power is held as
stated by the persons named as owners. At this time, the
Company is unaware of any shareholder owning five percent or
more of the outstanding shares of common stock other than the
ones noted below.
Name and Address of Number of Shares
Beneficial Owner of Common Stock Owned Percent of Class
- ------------------------------ --------------------- ----------------
Charles E. and Susan T. Harris 791,919 (1) 8.93%
One Rockefeller Plaza,
Suite 1430
New York, NY 10020
Dr. C. Wayne Bardin 15,711 (2) *
Dr. Phillip A. Bauman 16,686 (3) *
G. Morgan Browne 25,629 *
Harry E. Ekblom 13,542 *
Dugald A. Fletcher 7,335 *
Glenn E. Mayer 83,000 (4) *
Mel P. Melsheimer 35,000 (5) *
James E. Roberts 9,235 *
Helene B. Shavin -- *
All Directors and Executive
Officers as a group (10
persons) 998,057 11.26%
*Less than one percent of issued and outstanding stock.
(1) Includes 783,419 shares for which Mrs. Harris has sole power
to vote and dispose of; 8,500 shares for which Mr. Harris has
sole power to vote and dispose of.
(2) Includes 2,840 shares owned by Bardin LLC for the Bardin LLC
Profit-Sharing Keogh.
(3) Includes 5,637 shares owned by Ms. Milbry C. Polk, Dr.
Bauman's wife; 100 shares owned by Adelaide Polk-Bauman,
daughter; 100 shares owned by Milbry Polk-Bauman, daughter;
100 shares owned by Mary Polk-Bauman, daughter. Ms. Milbry C.
Polk is the custodian for the accounts of the three children.
(4) Includes 2,000 shares owned by Mrs. Mayer.
(5) 10,000 shares are held jointly by Mel P. Melsheimer and his
wife.
60
Item 13. Certain Relationships and Related Transactions
There were no relationships or transactions within the
meaning of this item during the year ended December 31, 2001.
61
PART IV
Item 14. Exhibits, Consolidated Financial Statements, Schedules
and Reports on Form 8-K
(a) The following documents are filed as a part of this report:
(1) Listed below are the financial statements which are
filed as part of this report:
o Consolidated Statements of Assets and Liabilities as of
December 31, 2001 and 2000;
o Consolidated Statements of Operations for the years ended
December 31, 2001, 2000 and 1999;
o Consolidated Statements of Cash Flows for the years ended
December 31, 2001, 2000 and 1999;
o Consolidated Statements of Changes in Net Assets for the
years ended December 31, 2001, 2000 and 1999;
o Consolidated Schedule of Investments as of December 31,
2001;
o Footnote to Consolidated Schedule of Investments;
o Notes to Consolidated Financial Statements; and
o Selected Per Share Data and Ratios for the years ended
December 31, 2001, 2000, 1999, 1998 and 1997.
(2) No financial statement schedules are required to be
filed herewith because (i) such schedules are not required
or (ii) the information has been presented in the above
financial statements.
(3) The following exhibits are filed with this report or
are incorporated herein by reference to a prior filing, in
accordance with Rule 12b-32 under the Securities Exchange
Act of 1934.
3.1(a) Restated Certificate of Incorporation of the
Company, as amended, incorporated by reference to
Exhibit 3.1 (a) to the Company's Form 10-K for the year
ended December 31, 1995.
3.1(b) Restated By-laws of the Company, incorporated by
reference to Exhibit 3.1(b) to the Company's Form 10-K
for the year ended December 31, 1995 and the Company's
Form 10-Q for the quarter ended September 30, 1998.
4.1 Specimen certificate of common stock certificate,
incorporated by reference to Exhibit 4 to Company's
Registration Statement on Form N-2 filed October 29,
1992.
9.1 Harris & Harris Group, Inc. Custodian Agreement with JP
Morgan, incorporated by reference to Exhibit 9.1 to the
Company's Form 10-K for the year ended December 31,
1995.
63
10.1 Severance Compensation Agreement by and between the
Company and Charles E. Harris dated August 15, 1990,
incorporated by reference as exhibit 10 (s) to the
Company's Annual Report on Form 10-K for the year ended
December 31, 1990.
10.2 Form of Indemnification Agreement which has been
established with all directors and executive officers of
the Company, incorporated by reference as Exhibit 10.14
to the Company's Form 10-K for the year ended December
31, 1995.
10.3 Employment Agreement Between Harris & Harris Group, Inc.
and Charles E. Harris, dated October 19, 1999,
incorporated by reference as Exhibit (C) to the
Company's Form 8-K filed on October 27, 1999.
10.4 Deferred Compensation Agreement Between Harris & Harris
Group, Inc. and Charles E. Harris, incorporated by
reference as Exhibit 10.19 to the Company's Form 10-K
for the year ended December 31, 1999.
10.5 Trust Under Harris & Harris Group, Inc. Deferred
Compensation Agreement, incorporated by reference as
Exhibit 10.20 to the Company's Form 10-K for the year
ended December 31, 1999.
10.6 Harris & Harris Group, Inc. Employee Profit-Sharing
Plan, incorporated by reference as Exhibit 10.22 to the
Company's Form 10-K for the year ended December 31,
1999.
10.7 Harris & Harris Group, Inc. Directors Stock Purchase
Plan 2001.
11.0* Computation of Per Share Earnings is set forth under
Item 8.
23* Consent of Arthur Andersen LLP.
99.1* Letter to SEC Regarding Arthur Andersen LLP
(b) Reports on Form 8-K. None
*Exhibits attached.
63
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the
Securities Exchange Act of 1934, the Company has duly caused this
report to be signed on its behalf by the undersigned, thereunto
duly authorized.
HARRIS & HARRIS GROUP, INC.
Date: March 21, 2002 By:/s/ Charles E. Harris
---------------------------
Charles E. Harris
Chairman of the Board
Pursuant to the requirements of the Securities Exchange Act
of 1934, this report has been signed below by the following
persons on behalf of the Company and in the capacities and on the
dates indicated.
Signatures Title Date
/s/ Charles E. Harris Chairman of the Board March 21, 2002
- -------------------- and Chief Executive Officer
Charles E. Harris
/s/ Mel P. Melsheimer President, Chief Operating March 21, 2002
- --------------------- Officer, Chief Financial Officer,
Mel P. Melsheimer Treasurer and Chief Compliance
Officer
/s/ Helene B. Shavin Vice President and Controller March 21, 2002
- --------------------
Helene B. Shavin
/s/ C. Wayne Bardin Director March 21, 2002
- --------------------
C. Wayne Bardin
/s/ Phillip A. Bauman Director March 21,2002
- ---------------------
Phillip A. Bauman
64
/s/ G. Morgan Browne Director March 21, 2002
- ---------------------
G. Morgan Browne
/s/ Harry E. Ekblom Director March 21, 2002
- --------------------
Harry E. Ekblom
/s/ Dugald A. Fletcher Director March 21, 2002
- ----------------------
Dugald A. Fletcher
/s/ Glenn E. Mayer Director March 21, 2002
- ----------------------
Glenn E. Mayer
/s/ James E. Roberts Director March 22, 2002
- ----------------------
James E. Roberts
65
EXHIBIT INDEX
The following exhibits are filed with this report in
accordance with Rule 12b-32 under the Securities Exchange Act of
1934.
Exhibit No. Description
11.0 Computation of Per Share Earnings is set forth under Item 8.
23 Consent of Arthur Andersen LLP.
99.1 Letter to SEC Regarding Arthur Andersen LLP.
66