The accompanying notes are an
integral part of these financial statements.
Except for our holding of shares of
MVC, substantially all of our portfolio securities are restricted from public sale without prior registration under the Securities
Act or other relevant regulatory authority. We negotiate certain aspects of the method and timing of the disposition of our investment
in each portfolio company, including registration rights and related costs.
As a BDC, we may invest up to 30% of
our assets in non-qualifying portfolio investments, as permitted by the 1940 Act. Specifically, we may invest up to 30% of our
assets in entities that are not considered “eligible portfolio companies” (as defined in the 1940 Act), including companies
located outside of the United States, entities that are operating pursuant to certain exceptions under the 1940 Act, and publicly-traded
entities with a market capitalization exceeding $250 million. As of December 31, 2016, we had invested 86.4% of our assets in securities
of portfolio companies that constituted qualifying investments under the 1940 Act. As of December 31, 2016, except for our shares
of MVC, all of our investments are in enterprises that are considered eligible portfolio companies under the 1940 Act. We provide
significant managerial assistance to portfolio companies that comprise 31.8% of the total value of the investments in portfolio
securities as of December 31, 2016.
We are classified as a “non-diversified”
investment company under the 1940 Act, which means we are not limited in the proportion of our assets that may be invested in the
securities of a single user. The value of one segment called “Shipping products and services” includes one portfolio
company and was 37.9% of our net asset value, 22.1% of our total assets and 54.6% of our investments in portfolio company securities
(at fair value) as of December 31, 2016. The value of one segment called “Energy” includes one portfolio company and
was 14.6% of our net asset value, 8.5% of our total assets and 21.1% of our investments in portfolio company securities (at fair
value) as of December 31, 2016. Changes in business or industry trends or in the financial condition, results of operations, or
the market’s assessment of any single portfolio company will affect the net asset value and the market price of our common
stock to a greater extent than would be the case if we were a “diversified” company holding numerous investments.
Our investments in portfolio securities
consist of the following types of securities as of December 31, 2016 (in thousands):
The following is a summary by industry
of the Fund’s investments in portfolio securities as of December 31, 2016 (in thousands):
The accompanying notes are an integral
part of these financial statements.
NOTES TO FINANCIAL STATEMENTS
DECEMBER 31, 2017, 2016 AND 2015
(1) ORGANIZATION AND BUSINESS PURPOSE
Equus Total Return, Inc. (“we,”
“us,” “our,” “Equus” the “Company” and the “Fund”), a Delaware corporation,
was formed by Equus Investments II, L.P. (the “Partnership”) on August 16, 1991. On July 1, 1992, the Partnership was
reorganized and all of the assets and liabilities of the Partnership were transferred to the Fund in exchange for shares of common
stock of the Fund. Our shares trade on the NYSE under the symbol ‘EQS’. On August 11, 2006, our shareholders approved
the change of the Fund’s investment strategy to a total return investment objective. This strategy seeks to provide the highest
total return, consisting of capital appreciation and current income. In connection with this strategic investment change, our shareholders
also approved the change of our name from Equus II Incorporated to Equus Total Return, Inc.
We attempt to maximize the return to
stockholders in the form of current investment income and long-term capital gains by investing in the debt and equity securities
of companies with a total enterprise value between $5.0 million and $75.0 million, although we may engage in transactions with
smaller or larger investee companies from time to time. We seek to invest primarily in companies pursuing growth either through
acquisition or organically, leveraged buyouts, management buyouts and recapitalizations of existing businesses or special situations.
Our income-producing investments consist principally of debt securities including subordinated debt, debt convertible into common
or preferred stock, or debt combined with warrants and common and preferred stock. Debt and preferred equity financing may also
be used to create long-term capital appreciation through the exercise and sale of warrants received in connection with the financing.
We seek to achieve capital appreciation by making investments in equity and equity-oriented securities issued by privately-owned
companies in transactions negotiated directly with such companies. Given market conditions over the past several years and the
performance of our portfolio, our Management and Board of Directors believe it prudent to continue to review alternatives to refine
and further clarify the current strategies.
We elected to be treated as a BDC under
the 1940 Act, although our shareholders have twice authorized us to withdraw this election during 2017 and are expected to provide
such an authorization again in 2018 (see “
Significant Developments – Authorization to Withdraw BDC Election”
above). We currently qualify as a regulated investment company RIC for federal income tax purposes and, therefore, are not
required to pay corporate income taxes on any income or gains that we distribute to our stockholders. We have certain wholly owned
taxable subsidiaries (“Taxable Subsidiaries”) each of which holds one or more portfolio investments listed on our Schedules
of Investments. The purpose of these Taxable Subsidiaries is to permit us to hold certain income-producing investments or portfolio
companies organized as limited liability companies, or LLCs, (or other forms of pass-through entities) and still satisfy the RIC
tax requirement that at least 90% of our gross revenue for income tax purposes must consist of investment income. Absent the Taxable
Subsidiaries, a portion of the gross income of these income-producing investments or of any LLC (or other pass-through entity)
portfolio investment, as the case may be, would flow through directly to us for the 90% test. To the extent that such income did
not consist of investment income, it could jeopardize our ability to qualify as a RIC and, therefore, cause us to incur significant
federal income taxes. The income of the LLCs (or other pass-through entities) owned by Taxable Subsidiaries is taxed to the Taxable
Subsidiaries and does not flow through to us, thereby helping us preserve our RIC status and resultant tax advantages. We do not
consolidate the Taxable Subsidiaries for income tax purposes and they may generate income tax expense because of the Taxable Subsidiaries’
ownership of the portfolio companies. We reflect any such income tax expense on our Statements of Operations.
(2) LIQUIDITY AND FINANCING ARRANGEMENTS
As of December 31, 2017, we had cash
and cash equivalents of $10.8 million. We had $31.1 million of our net assets of $43.0 million invested in portfolio securities.
We also had $18.2 million of temporary cash investments and restricted cash, including primarily the proceeds of a quarter-end
margin loan that we incurred to maintain the diversification requirements applicable to a RIC. Of this amount, $18.0 million was
invested in U.S. Treasury bills and $0.2 million represented a required 1% brokerage margin deposit. These securities were held
by a securities brokerage firm and pledged along with other assets to secure repayment of the margin loan. The U.S. Treasury bills
matured January 4, 2018 and we subsequently repaid this margin loan. The margin interest was paid on February 5, 2018.
As of December 31, 2016, we had cash
and cash equivalents of $12.0 million. We had $30.0 million of our net assets of $42.7 million invested in portfolio securities.
We also had $30.3 million of temporary cash investments and restricted cash, including primarily the proceeds of a quarter-end
margin loan that we incurred to maintain the diversification requirements applicable to a RIC. Of this amount, $30.0 million was
invested in U.S. Treasury bills and $0.3 million represented a required 1% brokerage margin deposit. These securities were held
by a securities brokerage firm and pledged along with other assets to secure repayment of the margin loan. The U.S. Treasury bills
were sold on January 3, 2017 and we subsequently repaid this margin loan. The margin interest was paid on February 3, 2017.
During 2017 and 2016, we borrowed sufficient
funds to maintain the Fund’s RIC status by utilizing a margin account with a securities brokerage firm. There is no assurance
that such arrangement will be available in the future. If we are unable to borrow funds to make qualifying investments, we may
no longer qualify as a RIC. We would then be subject to corporate income tax on the Fund’s net investment income and realized
capital gains, and distributions to stockholders would be subject to income tax as ordinary dividends. If we continue to be a BDC,
failure to continue to qualify as a RIC could be material to us and our stockholders.
(3) SIGNIFICANT ACCOUNTING POLICIES
The following is a summary of significant
accounting policies followed by the Fund in the preparation of its financial statements:
Use of Estimates
—The preparation
of financial statements in accordance with GAAP requires us to make estimates and assumptions that affect the reported amounts
and disclosures in the financial statements. Although we believe the estimates and assumptions used in preparing these financial
statements and related notes are reasonable in light of known facts and circumstances, actual results could differ from those estimates.
Valuation of Investments—
For
most of our investments, market quotations are not available. With respect to investments for which market quotations are not readily
available or when such market quotations are deemed not to represent fair value, our Board has approved a multi-step valuation
process each quarter, as described below:
|
1.
|
Each portfolio company or investment is reviewed by our investment professionals;
|
|
2.
|
With respect to investments with a fair value exceeding $2.5 million that have been held for more than one year, we engage independent valuation firms to assist our investment professionals. These independent valuation firms conduct independent valuations and make their own independent assessments;
|
|
3.
|
Our Management produces a report that summarized each of our portfolio investments and recommends a fair value of each such investment as of the date of the report;
|
|
4.
|
The Audit Committee of our Board reviews and discusses the preliminary valuation of our portfolio investments as recommended by Management in their report and any reports or recommendations of the independent valuation firms, and then approves and recommends the fair values of our investments so determined to our Board for final approval; and
|
|
5.
|
The Board discusses valuations and determines the fair value of each portfolio investment in good faith based on the input of our Management, the respective independent valuation firm, as applicable, and the Audit Committee.
|
During the first twelve months after
an investment is made, we rely on the original investment amount to determine the fair value unless significant developments have
occurred during this twelve month period which would indicate a material effect on the portfolio company (such as results of operations
or changes in general market conditions).
Investments are valued utilizing a yield
analysis, enterprise value (“EV”) analysis, net asset value analysis, liquidation analysis, discounted cash flow analysis,
or a combination of methods, as appropriate. The yield analysis uses loan spreads and other relevant information implied by market
data involving identical or comparable assets or liabilities. Under the EV analysis, the EV of a portfolio company is first determined
and allocated over the portfolio company’s securities in order of their preference relative to one another (i.e., “waterfall”
allocation). To determine the EV, we typically use a market multiples approach that considers relevant and applicable market trading
data of guideline public companies, transaction metrics from precedent M&A transactions and/or a discounted cash flow analysis.
The net asset value analysis is used to derive a value of an underlying investment (such as real estate property) by dividing a
relevant earnings stream by an appropriate capitalization rate. For this purpose, we consider capitalization rates for similar
properties as may be obtained from guideline public companies and/or relevant transactions. The liquidation analysis is
intended to approximate the net recovery value of an investment based on, among other things, assumptions regarding liquidation
proceeds based on a hypothetical liquidation of a portfolio company’s assets. The discounted cash flow analysis uses valuation
techniques to convert future cash flows or earnings to a range of fair values from which a single estimate may be derived utilizing
an appropriate discount rate. The measurement is based on the net present value indicated by current market expectations about
those future amounts.
In applying these methodologies, additional
factors that we consider in fair value pricing our investments may include, as we deem relevant: security covenants, call protection
provisions, and information rights; the nature and realizable value of any collateral; the portfolio company’s ability to
make payments; the principal markets in which the portfolio company does business; publicly available financial ratios of peer
companies; the principal market; and enterprise values, among other factors. Also, any failure by a portfolio company to achieve
its business plan or obtain and maintain its financing arrangements could result in increased volatility and result in a significant
and rapid change in its value.
Our general intent is to hold our loans
to maturity when appraising our privately held debt investments. As such, we believe that the fair value will not exceed the cost
of the investment. However, in addition to the previously described analysis involving allocation of value to the debt instrument,
we perform a yield analysis assuming a hypothetical current sale of the security to determine if a debt security has been impaired. The
yield analysis considers changes in interest rates and changes in leverage levels of the portfolio company as compared to the market
interest rates and leverage levels. Assuming the credit quality of the portfolio company remains stable, the Fund will use the
value determined by the yield analysis as the fair value for that security if less than the cost of the investment.
We record unrealized depreciation on
investments when we determine that the fair value of a security is less than its cost basis, and will record unrealized appreciation
when we determine that the fair value is greater than its cost basis.
Fair Value Measurement—
Fair
value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market
participants at the measurement date and sets out a fair value hierarchy. The fair value hierarchy gives the highest priority to
quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level
3). Inputs are broadly defined as assumptions market participants would use in pricing an asset or liability. The three levels
of the fair value hierarchy are described below:
Level 1—Unadjusted quoted prices
in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date.
Level 2—Inputs other than quoted
prices within Level 1 that are observable for the asset or liability, either directly or indirectly; and fair value is determined
through the use of models or other valuation methodologies.
Level 3—Inputs are unobservable
for the asset or liability and include situations where there is little, if any, market activity for the asset or liability. The
inputs into the determination of fair value are based upon the best information under the circumstances and may require significant
management judgment or estimation.
In certain cases, the inputs used to
measure fair value may fall into different levels of the fair value hierarchy. In such cases, an investment’s level within
the fair value hierarchy is based on the lowest level of input that is significant to the fair value measurement. Our assessment
of the significance of a particular input to the fair value measurement in its entirety requires judgment, and considers factors
specific to the investment.
Investments for which prices are not
observable are generally private investments in the debt and equity securities of operating companies. The primary valuation method
used to estimate the fair value of these Level 3 investments is the discounted cash flow method (although a liquidation analysis,
option theoretical, or other methodology may be used when more appropriate). The discounted cash flow approach to determine fair
value (or a range of fair values) involves applying an appropriate discount rate(s) to the estimated future cash flows using various
relevant factors depending on investment type, including comparing the latest arm’s length or market transactions involving
the subject security to the selected benchmark credit spread, assumed growth rate (in cash flows), and capitalization rates/multiples
(for determining terminal values of underlying portfolio companies). The valuation based on the inputs determined to be the most
reasonable and probable is used as the fair value of the investment. The determination of fair value using these methodologies
may take into consideration a range of factors including, but not limited to, the price at which the investment was acquired, the
nature of the investment, local market conditions, trading values on public exchanges for comparable securities, current and projected
operating performance, financing transactions subsequent to the acquisition of the investment and anticipated financing transactions
after the valuation date.
To assess the reasonableness of the
discounted cash flow approach, the fair value of equity securities, including warrants, in portfolio companies may also consider
the market approach—that is, through analyzing and applying to the underlying portfolio companies, market valuation multiples
of publicly-traded firms engaged in businesses similar to those of the portfolio companies. The market approach to determining
the fair value of a portfolio company’s equity security (or securities) will typically involve: (1) applying to the portfolio
company’s trailing twelve months (or current year projected) EBITDA a low to high range of enterprise value to EBITDA multiples
that are derived from an analysis of publicly-traded comparable companies, in order to arrive at a range of enterprise values for
the portfolio company; (2) subtracting from the range of calculated enterprise values the outstanding balances of any debt or equity
securities that would be senior in right of payment to the equity securities we hold; and (3) multiplying the range of equity values
derived therefrom by our ownership share of such equity tranche in order to arrive at a range of fair values for our equity security
(or securities). Application of these valuation methodologies involves a significant degree of judgment by Management.
Due to the inherent uncertainty of determining
the fair value of Level 3 investments that do not have a readily available market value, the fair value of the investments may
differ significantly from the values that would have been used had a ready market existed for such investments and may differ materially
from the values that may ultimately be received or settled. Further, such investments are generally subject to legal and other
restrictions or otherwise are less liquid than publicly traded instruments. If we were required to liquidate a portfolio investment
in a forced or liquidation sale, we might realize significantly less than the value at which such investment had previously been
recorded. With respect to Level 3 investments, where sufficient market quotations are not readily available or for which no or
an insufficient number of indicative prices from pricing services or brokers or dealers have been received, we undertake, on a
quarterly basis, our valuation process as described above.
We assess the levels of the investments
at each measurement date, and transfers between levels are recognized on the subsequent measurement date closest in time to the
actual date of the event or change in circumstances that caused the transfer. There were no transfers among Level 1, 2 and 3 for
the years ended December 31, 2017 and 2016.
As of December 31, 2017, investments
measured at fair value on a recurring basis are categorized in the tables below based on the lowest level of significant input
to the valuations:
|
Fair Value Measurements as of December 31, 2017
|
(in thousands)
|
|
Total
|
|
Quoted
Prices in Active Markets for Identical Assets
(Level
1)
|
|
Significant
Other Observable Inputs
(Level
2)
|
|
Significant
Unobservable Inputs
(Level
3)
|
Assets
|
|
|
|
|
|
|
|
|
|
|
|
|
Investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
Control investments
|
$
|
8,212
|
|
$
|
—
|
|
$
|
—
|
|
$
|
8,212
|
|
Affiliate investments
|
|
16,686
|
|
|
—
|
|
|
—
|
|
|
16,686
|
|
Non-affiliate investments - related party
|
|
5,240
|
|
|
5,240
|
|
|
—
|
|
|
—
|
|
Non-affiliate investments
|
|
977
|
|
|
—
|
|
|
—
|
|
|
977
|
|
Total investments
|
|
31,115
|
|
|
5,240
|
|
|
—
|
|
|
25,875
|
|
Temporary cash investments
|
|
17,998
|
|
|
17,998
|
|
|
—
|
|
|
—
|
|
Total investments and temporary cash investments
|
$
|
49,113
|
|
$
|
23,238
|
|
$
|
—
|
|
$
|
25,875
|
|
As of December 31, 2016, investments
measured at fair value on a recurring basis are categorized in the tables below based on the lowest level of significant input
to the valuations:
|
Fair Value Measurements as of December 31, 2016
|
(in thousands)
|
|
Total
|
|
Quoted Prices in Active Markets for
Identical Assets
(Level 1)
|
|
Significant Other Observable Inputs
(Level 2)
|
|
Significant Unobservable Inputs
(Level 3)
|
Assets
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Control investments
|
|
$
|
6,462
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
6,462
|
|
Affiliate investments
|
|
|
16,200
|
|
|
|
—
|
|
|
|
—
|
|
|
|
16,200
|
|
Non-affiliate investments - related party
|
|
|
4,021
|
|
|
|
4,021
|
|
|
|
—
|
|
|
|
—
|
|
Non-affiliate investments
|
|
|
2,978
|
|
|
|
—
|
|
|
|
—
|
|
|
|
2,978
|
|
Total investments
|
|
|
29,661
|
|
|
|
4,021
|
|
|
|
—
|
|
|
|
25,640
|
|
Temporary cash investments
|
|
|
29,994
|
|
|
|
29,994
|
|
|
|
—
|
|
|
|
—
|
|
Total investments and temporary cash investments
|
|
$
|
59,655
|
|
|
$
|
34,015
|
|
|
$
|
—
|
|
|
$
|
25,640
|
|
The following table provides a reconciliation
of fair value changes during 2017 for all investments for which we determine fair value using significant unobservable (Level 3)
inputs:
|
|
Fair value measurements using significant unobservable
inputs (Level 3)
|
(in thousands)
|
|
Control Investments
|
|
Affiliate Investments
|
|
Non-affiliate Investments
|
|
Total
|
Fair value as of December 31, 2016
|
|
$
|
6,462
|
|
|
$
|
16,200
|
|
|
$
|
2,978
|
|
|
$25,640
|
Change in unrealized appreciation
|
|
|
1,750
|
|
|
|
486
|
|
|
|
—
|
|
|
2,236
|
Purchases of portfolio securities
|
|
|
—
|
|
|
|
—
|
|
|
|
12
|
|
|
12
|
Proceeds from sales/dispositions
|
|
|
—
|
|
|
|
—
|
|
|
|
(2,013
|
)
|
|
(2,013)
|
Fair value as of December 31, 2017
|
|
$
|
8,212
|
|
|
$
|
16,686
|
|
|
$
|
977
|
|
|
$25,875
|
The following table provides a reconciliation
of fair value changes during 2016 for all investments for which we determine fair value using significant unobservable (Level 3)
inputs:
|
|
Fair value measurements using significant unobservable inputs (Level 3)
|
(in thousands)
|
|
Control Investments
|
|
Affiliate Investments
|
|
Non-affiliate Investments
|
|
Total
|
Fair value as of December 31, 2015
|
|
$
|
5,715
|
|
|
$
|
9,600
|
|
|
$
|
915
|
|
|
$16,230
|
Change in unrealized appreciation
|
|
|
747
|
|
|
|
6,600
|
|
|
|
—
|
|
|
7,347
|
Purchases of portfolio securities
|
|
|
—
|
|
|
|
—
|
|
|
|
2,063
|
|
|
2,063
|
Fair value as of December 31, 2016
|
|
$
|
6,462
|
|
|
$
|
16,200
|
|
|
$
|
2,978
|
|
|
$25,640
|
Our investment portfolio is not composed
of homogeneous debt and equity securities that can be valued with a small number of inputs. Instead, the majority of our investment
portfolio is composed of complex debt and equity securities with distinct contract terms and conditions. As such, our valuation
of each investment in our portfolio is unique and complex, often factoring in numerous different inputs, including historical and
forecasted financial and operational performance of the portfolio company, project cash flows, market multiples comparable market
transactions, the priority of our securities compared with those of other investors, credit risk, interest rates, independent valuations
and reviews and other inputs.
The following table summarizes the significant
non-observable inputs in the fair value measurements of our level 3 investments by category of investment and valuation technique
as of December 31, 2017:
|
|
|
|
|
|
|
|
Range
|
(in thousands)
|
|
Fair Value
|
|
Valuation Techniques
|
|
Unobservable Inputs
|
|
Minimum
|
|
Maximum
|
Secured and subordinated debt
|
|
$
|
977
|
|
|
Yield analysis
|
|
Discount for lack of marketability
|
|
|
0
|
%
|
|
|
0
|
%
|
Common stock
|
|
|
16,686
|
|
|
Income/Market approach
|
|
EBITDA Multiple/Discount for lack of marketability/Control premium
|
|
|
10
|
%
|
|
|
32.5
|
%
|
Limited liability company investments
|
|
|
8,212
|
|
|
Asset approach
Discounted cash
flow; Guideline transaction method
|
|
Recovery rate
Reserve adjustment factors
|
|
|
75
|
%
|
|
|
100
|
%
|
|
|
$
|
25,875
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Because of the inherent uncertainty
of the valuation of portfolio securities which do not have readily ascertainable market values, amounting to $25.9 million and
$25.6 million as of December 31, 2017 and 2016, respectively, our fair value determinations may materially differ from the values
that would have been used had a ready market existed for the securities.
We adjust our net asset value for the
changes in the value of our publicly held securities, if applicable, and material changes in the value of private securities, generally
determined on a quarterly basis or as announced in a press release, and report those amounts to Lipper Analytical Services, Inc.
Our net asset value appears in various publications, including
Barron’s
and
The Wall Street Journal
.
Foreign Exchange—
We record
temporary changes in foreign exchange rates of portfolio securities denominated in foreign currencies as changes in fair value.
These changes are therefore reflected as unrealized gains or losses until realized.
Investment Transactions
—Investment
transactions are recorded on the accrual method. Realized gains and losses on investments sold are computed on a specific identification
basis.
We classify our investments in accordance
with the requirements of the 1940 Act. Under the 1940 Act, “Control Investments” are defined as investments in companies
in which the Fund owns more than 25% of the voting securities or maintains greater than 50% of the board representation. Under
the 1940 Act, “Affiliate Investments” are defined as those non-control investments in companies in which we own between
5% and 25% of the voting securities. Under the 1940 Act, “Non-affiliate Investments” are defined as investments that
are neither Control Investments nor Affiliate Investments.
Interest Income Recognition
—We
record interest income, adjusted for amortization of premium and accretion of discount, on an accrual basis to the extent that
we expect to collect such amounts. We accrete or amortize discounts and premiums on securities purchased over the life of the respective
security using the effective yield method. The amortized cost of investments represents the original cost adjusted for the accretion
of discount and/or amortization of premium on debt securities. We stop accruing interest on investments when we determine that
interest is no longer collectible. We may also impair the accrued interest when we determine that all or a portion of the current
accrual is uncollectible. If we receive any cash after determining that interest is no longer collectible, we treat such cash as
payment on the principal balance until the entire principal balance has been repaid, before we recognize any additional interest
income. We will write off uncollectible interest upon the occurrence of a definitive event such as a sale, bankruptcy, or reorganization
of the relevant portfolio interest.
Payment in Kind Interest (PIK)
—We
have loans in our portfolio that may pay PIK interest. We add PIK interest, if any, computed at the contractual rate specified
in each loan agreement, to the principal balance of the loan and recorded as interest income. Dividend income is recorded as dividends are declared by the portfolio company or at the point an obligation
exists for the portfolio company to make a distribution. In accordance with our valuation policies, we evaluate accrued interest
and dividend income periodically for collectability. To maintain our status as a RIC,
we must pay out to stockholders this non-cash source of income in the form of dividends even if we have not yet collected any cash
in respect of such investments.
Cash Flows
—For purposes
of the Statements of Cash Flows, we consider all highly liquid temporary cash investments purchased with an original maturity
of three months or less to be cash equivalents. We include our investing activities within cash flows from operations. We exclude
“Restricted Cash and Temporary Cash Investments” used for purposes of complying with RIC requirements from cash equivalents.
Taxes
—We intend to comply
with the requirements of the Code necessary to qualify as a RIC and, as such, will not be subject to federal income taxes on otherwise
taxable income (including net realized capital gains) which is distributed to stockholders. Therefore, no provision for federal
income taxes is recorded in the financial statements. We borrow money from time to time to maintain our tax status under the Code
as a RIC. See Note 1 for discussion of Taxable Subsidiaries and see Note 2 for further discussion of the Fund’s RIC borrowings.
All corporations incorporated in the
State of Delaware are required to file an Annual Report and to pay a franchise tax. As a result, we paid Delaware Franchise tax
in the amount of $0.02 million, for each of the years ended December 31, 2017, 2016 and 2015.
Texas margin tax applies to legal entities
conducting business in Texas. The margin tax is based on our Texas sourced taxable margin. The tax is calculated by applying a
tax rate to a base that considers both revenue and expenses and therefore has the characteristics of an income tax. As a result,
we paid $3 thousand in state income tax for the year ended December 31, 2017 and we did not owe state income tax for each of the
years ended December 31, 2016, and 2015.
Share-Based
Incentive Compensation
—On
June 13, 2016, our shareholders approved the adoption of our 2016 Equity Incentive Plan (“Incentive Plan”). On
January 10, 2017, the SEC issued an order approving the Incentive Plan and certain awards intended to be made thereunder.
The Incentive Plan is intended to promote the interests of the Fund by encouraging officers, employees, and directors of the
Fund and its affiliates to acquire or increase their equity interest in the Fund and to provide a means whereby they may
develop a proprietary interest in the development and financial success of the Fund, to encourage them to remain with and
devote their best efforts to the business of the Fund, thereby advancing the interests of the Fund and its stockholders. The
Incentive Plan is also intended to enhance the ability of the Fund and its affiliates to attract and retain the services of
individuals who are essential for the growth and profitability of the Fund. The Incentive Plan permits the award of
restricted stock as well as common stock purchase options. The maximum number of shares of common stock that are subject to
awards granted under the Incentive Plan is 2,434,728 shares. The term of the Incentive Plan will expire on June 13, 2026. On
March 17, 2017, we granted awards of restricted stock under the Plan to certain of our directors and executive officers in
the aggregate amount of 844,500 shares. The awards are each subject to a vesting requirement over a 3-year period unless the
recipient thereof is terminated or removed from their position as a director or executive officer without
“cause”, or as a result of constructive termination, as such terms are defined in the respective award agreements
entered into by each of the recipients and the Fund. As of December 31, 2017, 420,000 shares remain unvested. We account for
share-based compensation using the fair value method, as prescribed by ASC 718,
Compensation—Stock Compensation
.
Accordingly, for restricted stock awards, we measure the grant date fair value based upon the market price of our common
stock on the date of the grant and amortize the fair value of the awards as share-based compensation expense over the
requisite service period, which is generally the vesting term. For the year ended December 31, 2017, we recorded compensation
expense of $1.1 million in connection with these awards. There was no share-based compensation for the years ended December
2016 and 2015.
(4) RELATED PARTY TRANSACTIONS AND AGREEMENTS
MVC Capital, Inc. – Share Exchange.
On May 14, 2014, we announced that the Fund intended to effect a reorganization pursuant to Section 2(a)(33) of the 1940 Act (“Plan
of Reorganization”). As a first step to consummating the Plan or Reorganization, we sold to MVC 2,112,000 newly-issued shares
of the Fund’s common stock in exchange for 395,839 shares of MVC (such transaction is hereinafter referred to as the “Share
Exchange”). MVC is a BDC traded on the New York Stock Exchange that provides long-term debt and equity investment capital
to fund growth, acquisitions and recapitalizations of companies in a variety of industries. The Share Exchange was calculated based
on the Fund’s and MVC’s respective net asset value per share. At the time of the Share Exchange, the number of MVC
shares received by Equus represented approximately 1.73% of MVC’s total outstanding shares of common stock. During 2016,
we received 22,863 additional shares in the form of dividend payments. As of December 31, 2017, we valued our 496,208 MVC shares
at $5.2 million, an increase from $4.0 million at December 31, 2016. The value of our MVC shares was based on MVC’s closing
trading price on the NYSE as of such dates. Due to the ownership relationship between the Company and MVC, the investment and amounts
due to and from MVC have been identified and disclosed as “related party(ies)” in our Consolidated Financial Statements.
Agreement to Acquire Portfolio Company
of MVC
—On April 24, 2017, we entered into a Stock Purchase Agreement and Plan of Merger (“Merger Agreement”)
with ETR Merger Sub, Inc., a newly-formed wholly-owned subsidiary of Equus, certain shareholders of USG&E, and MVC as a selling
shareholder of U.S. Gas & Electric, Inc. (“USG&E”) and as representative of the selling USG&E shareholders.
On May 30, 2017, USG&E and MVC notified us that they had accepted a proposal from Crius Energy Trust, that was considered by
the respective boards of directors of USG&E and MVC to constitute a “Superior Proposal” (as such term is defined
in the Merger Agreement) to the terms and conditions of the Merger Agreement, and, accordingly, provided us with a notice of termination
pursuant to the Merger Agreement. Further, pursuant to the Merger Agreement, USG&E paid us a termination fee of $2.5 million.
Except as noted below, as compensation
for services to the Fund, each Independent Director receives an annual fee of $40,000 paid quarterly in arrears, a fee of $2,000
for each meeting of the Board of Directors or committee thereof attended in person, a fee of $1,000 for participation in each telephonic
meeting of the Board or committee thereof, and reimbursement of all out-of-pocket expenses relating to attendance at such meetings.
The chair of each of our standing committees (audit, compensation, and nominating and governance) also receives an annual fee of
$50,000, payable quarterly in arrears. We may also pay other one-time or recurring fees to members of our Board of Directors in
special circumstances. None of our interested directors receive annual fees for their service on the Board of Directors. We may
also pay other one-time or recurring fees to members of our Board of Directors in special circumstances. None of our interested
directors receive annual fees for their service on the Board of Directors.
In November 2011, Equus Energy, LLC
(“Equus Energy”), a wholly-owned subsidiary of the Fund, entered into a consulting agreement with Global Energy Associates,
LLC (“Global Energy”) to provide consulting services for energy related investments. Henry W. Hankinson, Director of
the Fund, is a managing partner and co-founder of Global Energy. For each of the years ended December 31, 2017, 2016, and 2015,
payments to Global Energy totaled $45,000, $75,000 and $75,000, respectively.
In
respect of services provided to the Fund by members of the Board not in connection with their roles and duties as directors, the
Fund pays a rate of $300 per hour for services rendered.
During 2017, 2016 and 2015, we paid Kenneth I. Denos, P.C.,
a professional corporation owned by Kenneth I. Denos, a director of the Fund, $0.6 million, $0.4 million and $0.3 million, respectively,
for services provided to the Fund during these years.
(5) PLAN OF REORGANIZATION
Share Exchange with MVC
—On May 14, 2014, we
announced that the Fund intended to effect a Plan of Reorganization. As a first step to consummating the Plan of Reorganization,
we executed a Share Exchange with MVC, wherein we sold to MVC 2,112,000 newly-issued shares of our common stock in exchange for
395,839 newly-issued shares of MVC. We also announced that, pursuant to the Plan of Reorganization, our intention was for Equus
to pursue a Consolidation with MVC or one of its portfolio companies.
Authorization to Withdraw BDC Election
—As a
consequence of our Plan of Reorganization, on January 6, 2017 and again on August 25, 2017, holders of a majority of the outstanding
common stock of the Fund approved our cessation as a BDC under the 1940 Act and authorized our Board of Directors to cause the
Fund’s withdrawal of its election to be classified as a BDC, each effective as of a date designated by the Board and our
Chief Executive Officer. Notwithstanding these authorizations to withdraw our BDC election, we will not submit any such withdrawal
unless and until we are reasonably confident that such Consolidation will be completed.
Agreement to Acquire U.S. Gas & Electric, Inc.
—On
April 24, 2017, we entered into the Merger Agreement with ETR Merger Sub, Inc., a newly-formed wholly-owned subsidiary of Equus,
certain shareholders of USG&E, and MVC as a selling shareholder of USG&E and as representative of the selling USG&E
shareholders. On May 30, 2017, USG&E and MVC notified us that they had accepted a proposal from Crius Energy Trust, that was
considered by the respective boards of directors of USG&E and MVC to constitute a “Superior Proposal” (as such
term is defined in the Merger Agreement) to the terms and conditions of the Merger Agreement, and, accordingly, provided us with
a notice of termination pursuant to the Merger Agreement. Further, pursuant to the Merger Agreement, USG&E paid us a termination
fee of $2.5 million.
Intention to Continue to Pursue Consolidation
—Notwithstanding
the termination of the Merger Agreement with USG&E described above, we intend to pursue a Consolidation and the completion
of our Plan of Reorganization with another operating company and withdraw our BDC election as authorized by our stockholders. While
we are presently evaluating various opportunities that could enable us to accomplish a Consolidation, we cannot assure you that
we will be able to do so within any particular time period or at all. Moreover, we cannot assure you that the terms of any such
transaction that would embody a potential Consolidation would be acceptable to us.
(6) FEDERAL INCOME
TAX MATTERS
As a RIC, our tax liability is dependent
upon whether an election is made to distribute taxable investment income and capital gains above any statutory requirement. As
we have incurred net investment losses and have had no realized gains after taking into account our capital loss carryforwards
in 2017, 2016 and 2015, no distributions were required or made.
Our year-end for determining capital
gains for purposes of Section 4982 of the Code is October 31.
There are no material book to tax
differences for net investment income/losses, realized gains or unrealized appreciation/depreciation. As of December
31, 2017, we had approximately $15.8 million in capital losses of which $7 thousand will begin expiring in 2018 and the
remaining $15.7 million can be carried forward indefinitely. $15.5 million of pre-Regulated Investment Company Modification
Act capital loss carryforwards expired during the year ended December 31, 2017. Pursuant to Statement of Position 93-2, the
expired capital loss has reduced additional-paid-in-capital.
Pursuant
to Statement of Position 93-2 (“SOP 93-2”) -
Determination, Disclosure and Financial Statement
Presentation of Income, Capital Gain and Return of Capital Distributions by Investment Companies
, the expired
capital loss has a reduced tax basis additional-paid-in capital
.
Reclassification of returns of capital
had no material book to tax differences for the three years ended December 31, 2017 and therefore has no material book to tax differences
impacting accumulated earnings.
We believe that any aggregate exposure
for uncertain tax positions should not have a material impact on our financial statements as of December 31, 2017 or December 31,
2016. An uncertain tax position is measured as the largest amount of tax return benefits that does not have a greater than 50%
likelihood of being realized upon ultimate settlement. We have not recorded an adjustment to our financial statements related to
any uncertain tax positions. We will continue to evaluate our tax positions and recognize any future impact of uncertain tax positions
as a charge to income in the applicable period in accordance with promulgated standards.
The Fund’s accounting policy
related to income tax penalties and interest assessments is to accrue for these costs and record a charge to expenses during the
period that the Fund takes an uncertain tax position through resolution with the taxing authorities or expiration of the applicable
statute of limitations.
All of the Fund’s federal and
state tax returns for 2014 through the current year remain open to examination. We believe that there are no tax positions taken
or expected to be taken that would significantly increase or decrease unrecognized tax benefits within 12 months of the reporting
date.
(7) COMMITMENTS AND CONTINGENCIES
Lease Commitments
. We had an
operating lease for office space that expired in September 2014. Our current office space lease as of December 31, 2016 is month-to-month.
Rent expense under the operating lease agreement, inclusive of common area maintenance costs, was $109,000, $89,000 and $91,000
for the years ended December 31, 2017, December 31, 2016 and December 31, 2015, respectively.
Portfolio Companies.
As of December
31, 2017 and 2016, we had no outstanding commitments to our portfolio company investments; however, under certain circumstances,
we may be called on to make follow-on investments in certain portfolio companies. If we do not have sufficient funds to make follow-on
investments, the portfolio company in need of the investment may be negatively impacted. Also, our equity interest in the estimated
fair value of the portfolio company could be reduced. Follow-on investments may include capital infusions which are expenditures
made directly to the portfolio company to ensure that operations are completed, thereby allowing the portfolio company to generate
cash flows to service the debt.
Legal Proceedings–Shareholder
Complaint. On November 16, 2016, Samuel Zalmanoff filed a lawsuit against the Fund and members of the Board of Directors in the
Court of Chancery in the State of Delaware. The lawsuit was filed in connection with the Fund’s 2016 Equity Incentive Plan
(“Incentive Plan”) which was adopted by the Board of Directors on April 15, 2016, approved by the Equus shareholders
on June 13, 2016, and approved, with certain standard exceptions, by the Securities and Exchange Commission on January 10, 2017.
Mr. Zalmanoff’s complaint, which purports to be on behalf of all non-affiliate Equus shareholders entitled to vote for the
Incentive Plan, alleges a breach by the Board of Directors of its fiduciary duties of disclosure in connection with the Incentive
Plan, and seeks an order from the court: (i) enjoining implementation of the Incentive Plan, (ii) requiring the Fund to revise
its disclosures relating to the Incentive Plan, and (iii) for an award of costs, attorneys’ fees, and expenses. We believe
this lawsuit is without merit and intend to vigorously dispute the claims made therein. Accordingly, on September 22, 2017, we
filed a motion for summary judgment regarding this action. Because the matter remains pending, we have concluded that the likelihood
of an unfavorable outcome is neither probable nor remote.
As of December 31, 2017, we have
not accrued any losses related to this matter.
From time to time, the Fund is also
a party to certain proceedings incidental to the normal course of our business including the enforcement of our rights under contracts
with our portfolio companies. While the outcome of these legal proceedings cannot at this time be predicted with certainty, we
do not expect that these proceedings will have a material effect upon the Fund’s financial condition or results of operations.
(8) PORTFOLIO SECURITIES
2017 Portfolio Activity
During the year ended December 31, 2017,
we received full payment of our senior secured promissory note (“Note”) issued by Biogenic Reagents, LLC (“Biogenic”),
in the amount of $2.4 million in cash, consisting of the original principal amount of the Note, together with approximately $0.4
million in interest as accrued thereon.
During the year ended December 31, 2017,
we had investment activity of $0.3 million in three portfolio companies. We received $0.04 million in semi-annual interest and
$13 thousand in PIK’d interest in respect of the Biogenic Note. During 2017, we received 20,253 shares of MVC in the form
of stock dividend payments. We received $12 thousand in PIK’d interest in respect to our loan to 5
th
Element Tracking,
LLC (“5
th
Element”).
The following table summarizes significant
investment activity during the year ended December 31, 2017 (in thousands):
|
|
Investment Activity
|
|
|
|
|
|
New
Investments
|
|
|
|
Existing
Investments
|
|
|
|
|
|
Portfolio Company
|
|
|
Cash
|
|
|
|
Non-Cash
|
|
|
|
Follow-On
|
|
|
|
PIK
|
|
|
|
Total
|
|
5
TH
Element
Tracking, LLC
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
12
|
|
|
$
|
12
|
|
MVC Capital, Inc.
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
265
|
|
|
|
265
|
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
277
|
|
|
$
|
277
|
|
During 2017, we realized net capital losses of $5 thousand
due to the disposition of temporary cash investments.
Year Ended December 31, 2017
During 2017, we recorded an increase
of $3.2 million in net unrealized appreciation, from $10.3 million at December 31, 2016 to $13.5 million at December 31, 2017,
in our portfolio securities. Such increase resulted primarily from the following changes:
(i)
|
|
Increase in the fair value of our shareholding in MVC of $1.0 million due to an increase in the MVC share price during 2017 and the receipt of dividend payments in the form of additional shares of MVC;
|
(ii)
|
|
Increase
in fair value of our shareholding in PalletOne, Inc. (“PalletOne”) of $0.5 million due to an overall improvement
in comparable industry sectors, as well as continued revenue increases and favorable growth prospects; and
|
(iii)
|
|
Increase in the fair value of our holdings in Equus Energy of $1.7 million, principally due to an increase in comparable transactions for mineral leases, a combination of increased production, and a continued increase in short- and long-term prices for crude oil and natural gas.
|
2016 Portfolio Activity
During the year ended December 31, 2016,
we had investment activity of $2.4 million in three portfolio companies. We invested $2.0 million in Biogenic in the form of a
senior secured Note, bearing cash and PIK interest at the combined rate of 16% per annum. During 2016, we received $0.04 million
in semi-annual interest and $13 thousand in PIK’d interest in respect of our note with 5
th
Element. During 2016,
we also received 22,863 shares of MVC in the form of dividend payments.
The following table summarizes significant investment
activity during the year ended December 31, 2016 (in thousands):
|
|
Investment Activity
|
|
|
|
|
New Investments
|
|
Existing Investments
|
|
|
Portfolio Company
|
|
|
Cash
|
|
|
|
Non-Cash
|
|
|
|
Follow-On
|
|
|
|
PIK
|
|
|
|
Total
|
|
Biogenic Reagents, LLC
|
|
$
|
2,000
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
13
|
|
|
$
|
2,013
|
|
MVC Capital, Inc.
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
313
|
|
|
|
313
|
|
5
th
Element Tracking, LLC
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
50
|
|
|
|
50
|
|
|
|
$
|
2,000
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
376
|
|
|
$
|
2,376
|
|
During 2016, we realized net capital
losses of $13 thousand due to the disposition of temporary cash investments.
During 2016, we recorded an increase
of $7.9 million in net unrealized appreciation, from $2.4 million at December 31, 2015 to $10.3 million at December 31, 2016, in
our portfolio securities. Such increase resulted primarily from the following changes:
(i)
|
|
Increase in the fair value of our shareholding in MVC of $0.5 million due to an increase in the MVC share price during 2016 and the receipt of dividend payments in the form of additional shares of MVC;
|
(ii)
|
|
Increase in fair value of our shareholding in PalletOne of $6.6 million due to continued strong revenue and earnings growth, and an overall improvement in comparable industry sectors;
|
(iii)
|
|
Increase in the fair value of our holdings in Equus Energy of $0.8 million, principally due to a combination of an increase in comparable transactions for mineral leases, increased production, and a continued increase short- and long-term prices for crude oil and natural gas.
|
2015 Portfolio Activity
During the year ended December 31,
2015, we received a one-year subordinated note from 5
th
Element in the original principal amount of $0.9 million, bearing
interest at the rate of 14% per annum in connection with the sale of our interest in Spectrum. We also received 23,694 shares
of MVC in the form of dividend payments.
The following table includes significant
investment activity during the year ended December 31, 2015 (in thousands):
|
|
Investment Activity
|
|
|
|
|
New Investments
|
|
Existing Investments
|
|
|
Portfolio Company
|
|
Cash
|
|
Non-Cash
|
|
Follow-On
|
|
PIK
|
|
Total
|
MVC Capital, Inc.
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
222
|
|
|
$
|
222
|
|
5
th
Element Tracking, LLC
|
|
|
—
|
|
|
|
915
|
|
|
|
—
|
|
|
|
—
|
|
|
|
915
|
|
|
|
$
|
—
|
|
|
$
|
915
|
|
|
$
|
—
|
|
|
$
|
222
|
|
|
$
|
1,137
|
|
During 2015,we realized capital losses
of $2.5 million, including the following significant transactions:
Portfolio Company
|
|
Industry
|
|
Type
|
|
Transaction Type
|
|
Realized Gain (Loss)
|
Spectrum Management, LLC
|
|
Business products and services
|
|
|
Control
|
|
|
Disposition
|
|
$
|
(2,850
|
)
|
Orco Property Group S. A.
|
|
Real estate
|
|
|
Non-affiliate
|
|
|
Disposition
|
|
|
372
|
|
Various others
|
|
|
|
|
|
|
|
Disposition
|
|
|
(5
|
)
|
|
|
|
|
|
|
|
|
|
|
$
|
(2,483
|
)
|
During 2015, we recorded a net decrease
in unrealized depreciation of $5.9 million, to arrive at a net unrealized appreciation of our portfolio securities of $2.4 million,
resulting principally from the following:
(i)
|
|
Decrease in the fair value of our holdings in Equus Energy of $4.3 million, principally due to a combination of production without a corresponding increases in proved reserves and declining short- and long-term prices for crude oil and natural gas;
|
(ii)
|
|
Decrease in the fair value of our shareholding in MVC of $0.8 million due to a decrease in the MVC share price during the period, which was partially offset by $0.2 million in dividends received in the form of additional MVC shares and $0.2 million in purchase price adjustment;
|
(iii)
|
|
Increase in fair value of our shareholding in PalletOne of $8.6 million due to an overall improvement in the industry sector for packaging companies, as well as continued revenue and earnings growth for the company;
|
(iv)
|
|
Transfer of unrealized depreciation to realized gain on our holding of Orco Property Group, S. A. notes of $0.4 million in connection with the sale of our interest in these notes; and
|
(iv)
|
|
Transfer of unrealized depreciation to realized loss of $2.9 million in connection with our holdings in Spectrum Management, LLC and the sale of our interest therein.
|
(9) EQUUS ENERGY, LLC
Equus Energy, LLC (“Equus Energy”)
was formed in November 2011 as a wholly-owned subsidiary of the Fund to make investments in companies in the energy sector, with
particular emphasis on income-producing oil & gas properties. In December 2011, we contributed $250,000 to the capital of Equus
Energy. On December 27, 2012, we invested an additional $6.8 million in Equus Energy for the purpose of additional working capital
and to fund the purchase of $6.6 million in working interests presently consisting of 111 producing and non-producing oil and gas
wells. The working interests include associated development rights of approximately 22,360 acres situated on 12 separate properties
in Texas and Oklahoma. The working interests range from a
de minimus
amount to 50% of the leasehold that includes these
wells.
The wells are operated by a number of
operators, including Chevron USA, Inc., which has operating responsibility for all of Equus Energy’s 22 producing well interests
located in the Conger Field, a productive oil and gas field on the edge of the Permian Basin that has experienced successful gas
and hydrocarbon extraction in multiple formations. Equus Energy, which holds a 50% working interest in each of these Conger Field
wells, is working with Chevron in a recompletion program of existing Conger Field wells to the Wolfcamp formation, a zone containing
oil as well as gas and natural gas liquids. Part of Equus Energy’s acreage rights described above also includes a 50% working
interest in possible new drilling to the base of the Canyon formation (appx. 8,500 feet) on 2,400 acres in the Conger Field. Also
included in the interests acquired by Equus Energy are working interests of 7.5% and 2.5% in the Burnell and North Pettus Units,
respectively, which collectively comprise approximately 13,000 acres located in the area known as the “Eagle Ford Shale”
play.
Below is selected
financial information from the audited financial statements of Equus Energy as of December 31, 2017 and 2016, and for the
years ended December 31, 2017, 2016 and 2015 (in thousands):
EQUUS ENERGY, LLC and SUBSIDIARY
Condensed Consolidated Balance Sheets
|
|
December 31,
|
|
December 31,
|
|
|
2017
|
|
2016
|
Assets
|
|
|
|
|
|
|
|
|
Current assets:
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
307
|
|
|
$
|
291
|
|
Accounts receivable
|
|
|
101
|
|
|
|
91
|
|
Other current assets
|
|
|
33
|
|
|
|
32
|
|
Total current assets
|
|
|
441
|
|
|
|
414
|
|
Oil and gas properties
|
|
|
8,064
|
|
|
|
8,055
|
|
Less: accumulated depletion, depreciation and amortization
|
|
|
(7,434
|
)
|
|
|
(7,145
|
)
|
Net oil and gas properties
|
|
|
630
|
|
|
|
910
|
|
Total assets
|
|
$
|
1,072
|
|
|
$
|
1,324
|
|
|
|
|
|
|
|
|
|
|
Liabilities and member's equity
|
|
|
|
|
|
|
|
|
Current liabilities:
|
|
|
|
|
|
|
|
|
Accounts payable and other
|
|
$
|
107
|
|
|
$
|
75
|
|
Due to affiliate
|
|
|
586
|
|
|
|
611
|
|
Total current liabilities
|
|
|
693
|
|
|
|
686
|
|
Asset retirement obligations
|
|
|
190
|
|
|
|
184
|
|
Total liabilities
|
|
|
883
|
|
|
|
870
|
|
|
|
|
|
|
|
|
|
|
Total member's equity
|
|
|
188
|
|
|
|
454
|
|
Total liabilities and member's equity
|
|
$
|
1,071
|
|
|
$
|
1,324
|
|
EQUUS ENERGY, LLC and SUBSIDIARY
Condensed Consolidated Statements
of Operations
|
|
Year Ended December 31
|
|
|
2017
|
|
2016
|
|
2015
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating revenue
|
|
$
|
861
|
|
|
$
|
683
|
|
|
$
|
1,091
|
|
Operating expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
Direct operating expenses
|
|
|
554
|
|
|
|
632
|
|
|
|
1,103
|
|
General and administrative
|
|
|
278
|
|
|
|
392
|
|
|
|
356
|
|
Depletion, depreciation, amortization and accretion
|
|
|
295
|
|
|
|
369
|
|
|
|
771
|
|
Impairment
|
|
|
—
|
|
|
|
265
|
|
|
|
3,978
|
|
Total operating expenses
|
|
|
1,127
|
|
|
|
1,658
|
|
|
|
6,208
|
|
Operating loss before income tax expense
|
|
|
(266
|
)
|
|
|
(975
|
)
|
|
|
(5,117
|
)
|
Income tax benefit (expense)
|
|
|
—
|
|
|
|
—
|
|
|
|
61
|
|
Net loss
|
|
$
|
(266
|
)
|
|
$
|
(975
|
)
|
|
$
|
(5,056
|
)
|
EQUUS ENERGY, LLC and SUBSIDIARY
Condensed Consolidated Statements
of Cash Flows
|
|
Year ended December 31,
|
|
|
2017
|
|
2016
|
|
2015
|
|
|
|
|
|
|
|
Cash flows from operating activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net loss
|
|
$
|
(266
|
)
|
|
$
|
(975
|
)
|
|
$
|
(5,056
|
)
|
Adjustments to reconcile net loss to
|
|
|
|
|
|
|
|
|
|
|
|
|
net cash (used in) provided by operating activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Impairment
|
|
|
—
|
|
|
|
265
|
|
|
|
3,978
|
|
Depletion, depreciation and amortization
|
|
|
289
|
|
|
|
369
|
|
|
|
766
|
|
Accretion expense
|
|
|
6
|
|
|
|
—
|
|
|
|
5
|
|
Changes in operating assets and liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts receivable
|
|
|
(10
|
)
|
|
|
31
|
|
|
|
188
|
|
Prepaid expenses and other current assets
|
|
|
(1
|
)
|
|
|
—
|
|
|
|
4
|
|
Affiliate payable/receivable
|
|
|
(25
|
)
|
|
|
—
|
|
|
|
—
|
|
Accounts payable and other
|
|
|
32
|
|
|
|
(131
|
)
|
|
|
95
|
|
Net cash (used in) provided by operating activities
|
|
|
25
|
|
|
|
(441
|
)
|
|
|
(20
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from investing activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Investment in oil & gas properties
|
|
|
(9
|
)
|
|
|
(35
|
)
|
|
|
(76
|
)
|
Sale of oil & gas properties
|
|
|
—
|
|
|
|
250
|
|
|
|
—
|
|
Net cash provided by (used in) investing activities
|
|
|
(9
|
)
|
|
|
215
|
|
|
|
(76
|
)
|
Net (decrease) increase in cash
|
|
|
16
|
|
|
|
(226
|
)
|
|
|
(96
|
)
|
Cash and cash equivalents at beginning of period
|
|
|
291
|
|
|
|
517
|
|
|
|
613
|
|
Cash and cash equivalents at end of period
|
|
$
|
307
|
|
|
$
|
291
|
|
|
$
|
517
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Non-cash investing and financing activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Revision of net asset retirement obligation
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
(11
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental disclosure of cash flow information
|
|
|
|
|
|
|
|
|
|
|
|
|
Income taxes refunded (paid)
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
21
|
|
Equus Energy did not record any impairment during the year ended December 31, 2017. Based on calculated reserves
at December 31, 2016 and December 31, 2015, the unamortized costs of the Company’s oil and natural gas properties exceeded
the ceiling test limit by $264,591 and $3,978,437, respectively.
(10) RECENT ACCOUNTING PRONOUNCEMENTS
Accounting Standards Recently Adopted
—In
January 2017, the FASB issued ASU 2017-03,
Accounting Changes and Error Corrections (Topic 250) and Investments - Equity Method
and Joint Ventures (Topic 323)
—
Amendments to SEC Paragraphs Pursuant to Staff Announcements at the September 22,
2016 and November 17, 2016 EITF Meetings (SEC Update).
Among other things, this ASU incorporates into the FASB ASC Topic 250,
SEC guidance about disclosing, under SEC SAB Topic 11.M, the effect on the financial statements of recently issued accounting
standards when adopted, and specifically for ASU 2014-09, ASU 2016-02, and ASU 2016-03. If a registrant does not know or cannot
reasonably estimate the impact of adoption of the above standards, the SEC staff expects the registrant to make a statement to
that effect. Consistent with SAB Topic 11.M, the SEC staff also expects the registrant to provide qualitative disclosures to help
users assess the significance the adoption will have on the financial statements. Other than our continued assessment of ASU 2014-09
through the date of adoption, the adoption of ASU 2017-03 did not have an impact on our financial statements.
In November 2016, the FASB issued
ASU No. 2016-18,
Statement of Cash Flows (Topic 230)
—
Restricted Cash
. This standard provides guidance
on the presentation of restricted cash and restricted cash equivalents in the statement of cash flows. Restricted cash and
restricted cash equivalents should be included with cash and cash equivalents when reconciling the beginning-of-period and
end-of-period amounts shown on the statements of cash flows. The amendments of this ASU should be applied using a
retrospective transition method and are effective for reporting periods beginning after December 15, 2017, with early
adoption permitted. We adopted ASU 2016-18 in the fourth quarter of 2017 and applied the guidance retrospectively to our
prior period consolidated statement of cash flows. Other than the revised statement of cash flows presentation of restricted cash, the adoption of ASU 2016-18
did not have an impact on our consolidated financial statements.
In March 2016, the FASB issued ASU 2016-09,
Compensation-Stock Compensation (Topic 718)
—
Improvements to Employee Share-Based Payment Accounting
, which
is intended to improve the accounting for share-based payments and affects all organizations that issue share-based payment awards
to their employees. ASU 2016-09 primarily simplifies the accounting for and classification of, income taxes related to share-based
payment awards, including the impact of income taxes withheld on the classification of awards as equity or liabilities and the
classification of income taxes on the statement of cash flows. ASU 2016-09 also permits an entity to elect a forfeiture rate assumption
based on the estimated number of awards expected to vest or to account for forfeitures when they occur ASU 2016-09 is effective
for fiscal years beginning after December 15, 2016, and interim periods within those fiscal years. Early adoption is permitted,
including adoption in an interim period. We have adopted ASU 2016-09 as of January 1, 2017. The provisions of ASU 2016-09 should
be adopted on a modified retrospective, retrospective or prospective basis, depending on the provision. We recently adopted an
incentive plan for our directors and management and issued awards under the plan during the quarter ended March 31, 2017. Our adoption
of ASU 2016-09 did not have a material effect on our financial statements.
Accounting Standards Not Yet Adopted
—In
August 2016, the FASB issued ASU 2016-15,
Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and
Cash Payments (a consensus of the Emerging Issues Task Force),
which addresses the diversity in practice in how certain cash
receipts and cash payments are presented and classified in the statement of cash flows under ASC 230, Statement of Cash Flows,
and other topics. ASU 2016-15 provides guidance on eight specific cash flow issues including the statement of cash flows treatment
of beneficial interests in securitized financial transactions as well as the treatment of debt prepayment and extinguishment costs.
ASU 2016-15 also provides guidance on the predominance principle to clarify when cash receipts and cash payments should be separated
into more than one class of cash flows. ASU 2016-15 is effective for public business entities for fiscal years beginning after
December 15, 2017, including interim periods within those fiscal years. Early adoption is permitted, including adoption in an
interim period. We are currently evaluating the impact of ASU 2016-15 on our statements of cash flows.
In June 2016, the FASB issued ASU 2016-13,
Financial Instruments-Credit Losses (Topic 326)
—
Measurement of Credit Losses on Financial Instruments
, which
amends the financial instruments impairment guidance so that an entity is required to measure expected credit losses for financial
assets based on historical experience, current conditions and reasonable and supportable forecasts. As such, an entity will use
forward-looking information to estimate credit losses. ASU 2016-13 also amends the guidance in FASB ASC Subtopic 325-40, Investments
-Other, Beneficial Interests in Securitized Financial Assets, related to the subsequent measurement of accretable yield recognized
as interest income over the life of a beneficial interest in securitized financial assets under the effective yield method. ASU
2016-13 effective for public business entities that meet the U.S. GAAP definition of an SEC filer, for fiscal years beginning after
December 15, 2019, including interim periods within those fiscal years. Early adoption is permitted as of the fiscal years beginning
after December 15, 2018, including interim periods within those fiscal years. We are currently evaluating the impact of ASU 2016-13
on our financial statements.
In February 2016, the FASB issued ASU
2016-02,
Leases,
which requires lessees to recognize on the balance sheet a right of use asset, representing its right to
use the underlying asset for the lease term, and a lease liability for all leases with terms greater than 12 months. The guidance
also requires qualitative and quantitative disclosures designed to assess the amount, timing, and uncertainty of cash flows arising
from leases. The standard requires the use of a modified retrospective transition approach, which includes a number of optional
practical expedients that entities may elect to apply. The new guidance is effective for annual periods beginning after December
15, 2018, and interim periods therein. Early application is permitted. The adoption of ASU 2016-02 will not have an impact of our
financial statements as we currently have no operating leases and our principal offices are under a month-to-month lease arrangement.
In January 2016, the FASB issued ASU 2016-01,
Recognition and Measurement of Financial Assets and Financial
Liabilities.
Among other things, this ASU requires that public business entities use the exit price notion when measuring
the fair value of financial instruments for disclosure purposes. ASU 2016-01 is effective for public entities for fiscal years,
and interim periods within those fiscal years, beginning after December 15, 2017. Our adoption of ASU 2016-01 is not anticipated
to have a material effect on our financial statements.
Accounting Standards Related to
Revenue from Contracts with Customers (Topic 606)—In May 2014, the FASB issued ASU 2014-09,
Revenue from Contracts with
Customers (Topic 606)
. ASU 2014-09 supersedes the revenue recognition requirements under ASC 605,
Revenue Recognition
,
and most industry-specific guidance throughout the Industry Topics of the ASC. The core principle of the guidance is that an entity
should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration
to which an entity expects to be entitled in exchange for those goods or services. Under the new guidance, an entity is required
to perform the following five steps: (1) identify the contract(s) with a customer; (2) identify the performance obligations in
the contract; (3) determine the transaction price; (4) allocate the transaction price to the performance obligations in the contract,
and (5) recognize revenue when (or as) the entity satisfies a performance obligation. The new guidance will significantly enhance
comparability of revenue recognition practices across entities, industries, jurisdictions and capital markets. Additionally, the
guidance requires improved disclosures as to the nature, amount, timing and uncertainty of revenue that is recognized.
In March 2016, the FASB issued ASU 2016-08,
Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net),
which clarified the implementation guidance on principal versus agent considerations. In April 2016, the FASB issued ASU 2016-10,
Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing,
which clarified the
implementation guidance regarding performance obligations and licensing arrangements.
In May 2016, the FASB issued ASU No. 2016-12,
Revenue from Contracts with Customers (Topic 606)—Narrow-Scope Improvements and Practical Expedients
, which clarified
guidance on assessing collectability, presenting sales tax, measuring noncash consideration, and certain transition matters.
In December 2016, the FASB issued ASU
No. 2016-20,
Revenue from Contracts with Customers (Topic 606)—Technical Corrections and Improvements
, which provided
disclosure relief, and clarified the scope and application of the new revenue standard and related cost guidance. The new guidance
for Topic 606 will be effective for the annual reporting period beginning after December 15, 2017, including interim periods within
that reporting period. Early adoption would be permitted for annual reporting periods beginning after December 15, 2016.
We completed our initial assessment in evaluating the potential impact of Topic 606 on our financial statements
and based on our initial assessment, determined that our financial instruments are excluded from the scope of ASC
606. As a result of the scope exception for financial instruments, our management has determined that there will be no material
changes to the recognition timing and classification of revenue and expenses.
(11) SELECTED QUARTERLY DATA (UNAUDITED)
(in thousands, except per share amounts)
|
|
Year Ended December 31, 2017
|
|
|
Quarter Ended
|
|
Quarter Ended
|
|
Quarter Ended
|
|
Quarter Ended
|
|
|
|
|
March 31,
|
|
June 30,
|
|
September 30,
|
|
December 31,
|
|
Total
|
Total investment income
|
|
$
|
190
|
|
|
$
|
137
|
|
|
$
|
112
|
|
|
$
|
121
|
|
|
$
|
560
|
|
Net investment loss
|
|
|
(2,480
|
)
|
|
|
(333
|
)
|
|
|
(441
|
)
|
|
|
(765
|
)
|
|
|
(4,014
|
)
|
Increase in net assets resulting
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
from operations
|
|
|
(1,802
|
)
|
|
|
87
|
|
|
|
(121
|
)
|
|
|
1,007
|
|
|
|
(829
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted earnings per share
(1)
|
|
|
(0.14
|
)
|
|
|
0.01
|
|
|
|
(0.01
|
)
|
|
|
0.07
|
|
|
|
(0.07
|
)
|
(in thousands,
except per share amounts)
|
|
Year
Ended December 31, 2016
|
|
|
Quarter
Ended
|
|
Quarter
Ended
|
|
Quarter
Ended
|
|
Quarter
Ended
|
|
|
|
|
March
31,
|
|
June
30,
|
|
September
30,
|
|
December
31,
|
|
Total
|
Total investment income
|
|
$
|
138
|
|
|
$
|
227
|
|
|
$
|
191
|
|
|
$
|
192
|
|
|
$
|
748
|
|
Net investment loss
|
|
|
(733
|
)
|
|
|
(452
|
)
|
|
|
(570
|
)
|
|
|
(696
|
)
|
|
|
(2,451
|
)
|
Increase in net assets resulting
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
from operations
|
|
|
242
|
|
|
|
2,067
|
|
|
|
1,889
|
|
|
|
1,234
|
|
|
|
5,432
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted earnings per share
(1)
|
|
|
0.02
|
|
|
|
0.17
|
|
|
|
0.16
|
|
|
|
0.08
|
|
|
|
0.43
|
|
(
1)
The sum of quarterly per
share amount may not equal per share amounts reported for year-to-date periods due to changes in the number of weighted average
shares outstanding and the effects of rounding.
(12) SUBSEQUENT EVENT
Our Management performed an evaluation
of the Fund’s activity through the date the financial statements were issued, noting the following subsequent event:
On January 4, 2018, our holding in $18.0
million in U. S. Treasury Bills matured and we repaid our year-end margin loan, together with interest, as accrued