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, 2018, we had
invested 87.5% of our assets in securities of portfolio companies that constituted qualifying investments under the 1940 Act. As
of December 31, 2018, 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 84.6% of the total
value of the investments in portfolio securities as of December 31, 2018.
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 issuer. The value of one segment called “Shipping products and
services” includes one portfolio company and was 47.1% of our net asset value, 28.9% of our total assets and 58.5% of our
investments in portfolio company securities (at fair value) as of December 31, 2018. The value of one segment called “Energy”
includes one portfolio company and was 20.7% of our net asset value, 12.7% of our total assets and 25.7% of our investments in
portfolio company securities (at fair value) as of December 31, 2018. 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, 2018 (in thousands):
The following is
a summary by industry of the Fund’s investments in portfolio securities as of December 31, 2018 (in thousands):
The accompanying notes are an integral
part of these financial statements.
NOTES TO CONDENSED FINANCIAL STATEMENTS
JUNE 30, 2019
(Unaudited)
|
(1)
|
Description of Business and Basis of Presentation
|
Description
of Business
—Equus Total Return, Inc. (“we,” “us,” “our,” “Equus” 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 New York Stock Exchange 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, the shareholders also approved the change of name from Equus II Incorporated
to Equus Total Return, Inc.
So long as we remain
an investment company and not an operating company as contemplated in our
Plan of Reorganization
described in Note 6 below,
we will attempt to maximize the return to our 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 of 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 may include debt securities including subordinate
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 (or smaller public 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. 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.
Basis of Presentation
—In
accordance with Article 6 of Regulation S-X under the Securities Act and the Securities Exchange Act of 1934, as amended (“Exchange
Act”), we do not consolidate portfolio company investments, including those in which we have a controlling interest. Our
interim unaudited financial statements were prepared in accordance with accounting principles generally accepted in the United
States of America (“GAAP”), for interim financial information and in accordance with the requirements of reporting
on Form 10-Q and Article 10 of Regulation S-X, under the Exchange Act. Accordingly, they are unaudited and exclude some disclosures
required for annual financial statements. We believe that we have made all adjustments, consisting solely of normal recurring accruals,
necessary for the fair presentation of these interim financial statements.
The results of
operations for the three months ended June 30, 2019 are not necessarily indicative of results that ultimately may be achieved for
the remainder of the year. The interim unaudited financial statements and notes thereto should be read in conjunction with the
financial statements and notes thereto included in the Fund’s Annual Report on Form 10-K for the fiscal year ended December
31, 2018, as filed with the Securities and Exchange Commission (“SEC”).
|
(2)
|
Liquidity and Financing Arrangements
|
Liquidity
—There
are several factors that may materially affect our liquidity during the reasonably foreseeable future. We are evaluating the impact
of current market conditions on our portfolio company valuations and their ability to provide current income. We have followed
valuation techniques in a consistent manner; however, we are cognizant of current market conditions that might affect future valuations
of portfolio securities. We believe that our operating cash flow and cash on hand will be sufficient to meet operating requirements
and, to the extent we remain a BDC, to finance routine follow-on investments, if any, through the next twelve months.
Cash and Cash
Equivalents
—As of June 30, 2019, we had cash and cash equivalents of $5.4 million. We had $41.0 million of our net assets
of $47.9 million invested in portfolio securities.
As of December
31, 2018, we had cash and cash equivalents of $7.4 million. We had $35.0 million of our net assets of $43.5 million invested in
portfolio securities
We exclude “Restricted
Cash and Temporary Cash Investments” used for purposes of complying with RIC requirements from cash equivalents.
Restricted Cash
and Temporary Cash Investments
— As of June 30, 2019, we had $27.2 million of restricted cash and temporary cash investments,
including primarily the proceeds of a quarter-end margin loan that we incurred to maintain the diversification requirements applicable
to a RIC to maintain our pass-through tax treatment. Of this amount, $27.3 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 matured on July 5, 2019 and we subsequently
repaid this margin loan, plus interest.
As of December
31, 2018, we had $27.3 million of restricted cash and of temporary cash investments, 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, $27.0 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 2, 2019 and we subsequently repaid this margin loan, plus interest.
Dividends
—So
long as we remain a BDC, we will pay out net investment income and/or realized net capital gains, if any, on an annual basis as
required under the 1940 Act.
Investment Commitments
—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.
As of June 30,
2019, we had no outstanding commitments to our portfolio company investments.
RIC Borrowings,
Restricted Cash and Temporary Cash Investments
—We may periodically borrow sufficient funds to maintain the Fund’s
RIC status by utilizing a margin account with a securities brokerage firm. We cannot assure you that any 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 remain a BDC and do not become an operating company
as described in Note 6 –
Plan of Reorganization
below, our failure to continue to qualify as a RIC could be materially
adverse to us and our stockholders.
As of June 30,
2019, we borrowed $27.0 million to maintain our RIC status by utilizing a margin account with a securities brokerage firm. We collateralized
such borrowings with restricted cash and temporary cash investments in U.S. Treasury bills of $27.3 million.
As of December
31, 2018, we borrowed $27.0 million to maintain our RIC status by utilizing a margin account with a securities brokerage firm.
We collateralized such borrowings with restricted cash and temporary cash investments in U.S. Treasury bills of $27.3 million.
Certain Risks
and Uncertainties
—Market and economic volatility which has become endemic in the past few years has constrained the availability
of debt financing for small and medium-sized companies such as Equus and its portfolio companies. Such debt financing generally
has shorter maturities, higher interest rates and fees, and more restrictive terms than debt facilities available in the past.
In addition, during these years and continuing into the first six months of 2019, the price of our common stock remained well below
our net asset value, thereby making it undesirable to issue additional shares of our common stock below net asset value. Because
of these challenges, our near-term strategies shifted from originating debt and equity investments to preserving liquidity necessary
to meet our operational needs. Key initiatives that we have previously undertaken to provide necessary liquidity include monetizations,
the suspension of dividends and the internalization of management. We are also evaluating potential opportunities that could enable
us to effect a change to our business and become an operating company as described in Note 6 –
Plan of Reorganization
below. We believe we have sufficient liquidity to meet our operating requirements for the remainder of 2019 and the first six months
of 2020.
|
(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. A 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. In the case of our investment in Equus Energy,
we also examine acreage values in comparable transactions and assess the impact upon the working interests held by Equus Energy.
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 six months ended June 30, 2019 and the year ended December 31, 2018.
As of June 30,
2019, 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 June 30, 2019
|
(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
|
|
$
|
10,500
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
10,500
|
|
Affiliate investments
|
|
|
24,500
|
|
|
|
—
|
|
|
|
—
|
|
|
|
24,500
|
|
Non-affiliate investments - related party
|
|
|
5,018
|
|
|
|
5,018
|
|
|
|
—
|
|
|
|
—
|
|
Non-affiliate investments
|
|
|
977
|
|
|
|
—
|
|
|
|
—
|
|
|
|
977
|
|
Total investments
|
|
|
40,995
|
|
|
|
5,018
|
|
|
|
—
|
|
|
|
35,977
|
|
Temporary cash investments
|
|
|
26,990
|
|
|
|
26,990
|
|
|
|
—
|
|
|
|
—
|
|
Total investments and temporary cash investments
|
|
$
|
67,985
|
|
|
$
|
32,008
|
|
|
$
|
—
|
|
|
$
|
35,977
|
|
As of December 31, 2018, 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, 2018
|
(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
|
|
$
|
9,210
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
9,210
|
|
|
Affiliate investments
|
|
|
20,500
|
|
|
|
—
|
|
|
|
—
|
|
|
|
20,500
|
|
|
Non-affiliate investments - related party
|
|
|
4,328
|
|
|
|
4,328
|
|
|
|
—
|
|
|
|
—
|
|
|
Non-affiliate investments
|
|
|
977
|
|
|
|
—
|
|
|
|
—
|
|
|
|
977
|
|
|
Total investments
|
|
|
35,015
|
|
|
|
4,328
|
|
|
|
—
|
|
|
|
30,687
|
|
|
Temporary cash investments
|
|
|
26,981
|
|
|
|
26,981
|
|
|
|
—
|
|
|
|
—
|
|
|
Total investments and temporary cash investments
|
|
$
|
61,996
|
|
|
$
|
31,309
|
|
|
$
|
—
|
|
|
$
|
30,687
|
|
|
The following table
provides a reconciliation of fair value changes during the six months ended June 30, 2019 for all investments for which we determine
fair value using unobservable (Level 3) factors:
|
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, 2018
|
|
|
|
|
|
$
|
9,210
|
|
|
$
|
20,500
|
|
|
$
|
977
|
|
|
$30,687
|
Realized losses
|
|
|
|
|
|
|
(2,790
|
)
|
|
|
—
|
|
|
|
—
|
|
|
(2,790)
|
Change in unrealized appreciation
|
|
|
|
|
|
|
4,291
|
|
|
|
4,000
|
|
|
|
—
|
|
|
8,291
|
Proceeds from sales/dispositions
|
|
|
|
|
|
|
(211
|
)
|
|
|
—
|
|
|
|
—
|
|
|
(211)
|
Transfers in (out) of Level 3
|
|
|
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
-
|
Fair value as of June 30, 2019
|
|
|
|
|
|
$
|
10,500
|
|
|
$
|
24,500
|
|
|
$
|
977
|
|
|
$35,977
|
The following table
provides a reconciliation of fair value changes during the three months ended June 30, 2018 for all investments for which we determine
fair value using unobservable (Level 3) factors:
|
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, 2017
|
|
|
|
|
|
$
|
8,212
|
|
|
$
|
16,686
|
|
|
$
|
977
|
|
|
$25,875
|
Change in unrealized appreciation
|
|
|
|
|
|
|
1,000
|
|
|
|
2,314
|
|
|
|
—
|
|
|
3,314
|
Fair value as of June 30, 2018
|
|
|
|
|
|
$
|
9,212
|
|
|
$
|
19,000
|
|
|
$
|
977
|
|
|
$29,189
|
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 June 30, 2019:
|
|
|
|
|
|
|
|
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
|
|
|
24,500
|
|
|
Income/
Market approach
|
|
EBITDA Multiple/Discount for lack of marketability/Control premium
|
|
|
10
|
%
|
|
|
32.5
|
%
|
Limited liability company investments
|
|
|
10,500
|
|
|
Asset approach
Discounted cash flow; Guideline transaction method
|
|
Recovery rate
Reserve
adjustment factors Market approach
|
|
|
75
|
%
|
|
|
100
|
%
|
|
|
$
|
35,977
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Because of the
inherent uncertainty of the valuation of portfolio securities which do not have readily ascertainable market values, amounting
to $36.0 million and $30.7 million as of June 30, 2019 and December 31, 2018, respectively, our fair value determinations may materially
differ from the values that would have been used had a ready market existed for these securities. As of June 30, 2019 and December
31, 2018, one of our portfolio investments, consisting of 544,813 and 527,138 common shares of MVC, respectively, was publicly
listed on the NYSE.
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
.
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.
See also Note 4 for discussion of related party
investment transactions.
As of June 30,
2019, 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 their debt.
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.
Net Realized Gains or Losses and Net Change in Unrealized Appreciation or Depreciation
—Realized
gains or losses are measured by the difference between the net proceeds from the sale or redemption of an investment or a financial
instrument and the cost basis of the investment or financial instrument, without regard to unrealized appreciation or depreciation
previously recognized, and includes investments written-off during the
period net of recoveries and realized gains or losses from in-kind redemptions. Net change in
unrealized appreciation or depreciation reflects the net change in the fair value of the portfolio company investments and financial
instruments and the reclassification of any prior period unrealized appreciation or depreciation on exited investments and financial
instruments to realized gains or losses.
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. 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. To the extent we remain BDC and a RIC, we will continue to pay out net investment
income and/or realized capital gains, if any, on an annual basis as required under the 1940 Act.
Share-Based
Compensation
—We account for our 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 and account for forfeitures as they occur.
Earnings Per
Share
—Basic and diluted per share calculations are computed utilizing the weighted-average number of shares of common
stock outstanding for the period. In accordance with ASC 260, Earnings Per Share, the unvested shares of restricted stock awarded
pursuant to our equity compensation plans are participating securities and, therefore, are included in the basic earnings per share
calculation. As a result, for all periods presented, there is no difference between diluted earnings per share and basic earnings
per share amounts.
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.
Taxes
—So
long as we remain a BDC, we intend to comply with the requirements of the Internal Revenue Code necessary to qualify as a regulated
investment company 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 Internal Revenue 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
organized 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 the year ended December 31, 2018.
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 have no provision for margin tax expense for the six months ended June 30, 2019, respectively, and
we paid $3 thousand in state income tax for the year ended December 31, 2018.
Accounting Standards
Recently Adopted
— 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 and the use of practical expedient for leases less 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 was permitted. The adoption of ASU 2016-02 did not have an impact on our
financial statements as we currently have no operating leases as our principal offices are under a month-to-month lease arrangement
for annual periods beginning after December 15, 2018, and interim periods therein. Early application is permitted. There was no
impact on the financial position or financial statement disclosures.
Accounting Standards
Not Yet Adopted
—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.
There was no impact on the financial position or financial statement disclosures.
On August 28, 2018,
the FASB issued ASU 2018-13, which changes the fair value measurement disclosure requirements of ASC 820. The amendments remove
certain disclosure requirements and modify certain others. The amendments remove the requirement to disclose (1) the amount of
and reasons for transfers between Level 1 and Level 2 of the fair value hierarchy, (2) the policy for timing of transfers between
levels, (3) the valuation processes for Level 3 fair value measurements and (4) the changes in unrealized gains and losses for
the period included in earnings for recurring Level 3 fair value measurements held at the end of the reporting period. Also, (1)
in lieu of a roll-forward for Level 3 fair value measurements, an entity is required to disclose transfers into and out of Level
3 of the fair value hierarchy and purchases and issues of Level 3 assets and liabilities, (2) for investments in certain entities
that calculate net asset value, an entity is required to disclose the timing of liquidation of an investee’s assets and the
date when restrictions from redemption might lapse only if the investee has communicated the timing to the entity or announced
the timing publicly, and (3) the amendments clarify that the measurement uncertainty disclosure is to communicate information about
the uncertainty in measurement as of the reporting date. Early adoption is permitted. We are currently evaluating the impact of
ASU 2018-13 on our financial statements and will make any disclosure adjustments in year-end financial statements.
|
(4)
|
Related Party Transactions and Agreements
|
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. 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.
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.
During each of the six months ended June 30, 2019 and June 30, 2018,
we paid Kenneth I. Denos, P.C., a professional corporation owned by Kenneth I. Denos, a director of the Fund, $0.2 million for
services provided to the Fund.
During the six
months ended June 30, 2019, we received dividends in the form of additional shares of $0.2 million relating to our shareholding
in MVC.
Also during the
six months ended June 30, 2019, we dissolved Equus Media Development Company, LLC (“EMDC”), a wholly-owned subsidiary
of the Fund and transferred EMDC’s assets, consisting of approximately $210,000 in cash and various creative entertainment
properties, to the Fund.
During the six
months ended June 30, 2019, we recorded a net change in unrealized appreciation of $8.8 million, to a net unrealized appreciation
of $25.9 million. Such change in unrealized appreciation resulted primarily from the following changes:
|
(i)
|
Increase in the fair value of our shareholding in MVC of $0.7 million due to an increase in the share price of MVC and the receipt of dividend payments in the form of additional shares of MVC during the period;
|
|
|
|
|
(ii)
|
Increase in fair value of our shareholding in PalletOne, Inc. of $4.0 million due to improved operating performance and overall improvement in comparable industry sectors;
|
|
|
|
|
(iii)
|
Transfer of unrealized depreciation to realized loss of our holdings in EMDC of $2.8 million in connection with the dissolution of EMDC and the transfer of its assets to the Fund; and
|
|
|
|
|
(iv)
|
Increase in the fair value of our holdings in Equus Energy, LLC of $1.5 million, principally due to increases in mineral acreage prices proximate to the company’s leasehold interests and an increase in the short- and long-term prices for crude oil during the first half of 2019.
|
During the six
months ended June 30, 2018, we received dividends in the form of additional shares of $0.1 million relating to our shareholding
in MVC.
During the six
months ended June 30, 2018, we recorded a net change in unrealized appreciation of $2.9 million, to a net unrealized appreciation
of $16.2 million. Such change in unrealized appreciation resulted primarily from the following changes:
|
(i)
|
Decrease in the fair value of our shareholding in MVC of
$0.4 million due to a decrease in the share price of MVC, offset by the receipt of dividend payments in the form of additional
shares of MVC during the period;
|
|
(ii)
|
Increase in fair value of our shareholding in PalletOne, Inc.
of $2.3 million due to increases in revenue and EBITDA, as well as promising acquisition and growth prospects; and
|
|
(iii)
|
Increase in the fair value of our holdings in Equus Energy,
LLC of $1.0 million, principally due to increases in mineral acreage prices proximate to the company’s leasehold interests
and a moderate increase in the short- and long-term prices for crude oil and natural gas.
|
|
(6)
|
Plan of Reorganization
|
Plan of Reorganization
and Share Exchange with MVC Capital
—On May 14, 2014, we announced that the Fund intended to effect a reorganization
pursuant to Section 2(a)(33) of the 1940 Act (hereinafter, the “Plan of Reorganization”). As a first step to consummating
the Plan of Reorganization, we sold to MVC Capital, Inc. (“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 business development company traded on the NYSE 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.
Pursuant to the
terms of a Share Exchange Agreement, dated May 12, 2014, entered into by Equus and MVC which memorialized the Share Exchange, we
intend to finalize the Plan of Reorganization by pursuing a merger or consolidation with MVC or an operating company, which operating
company may be a subsidiary or portfolio company of MVC (such transaction is hereinafter referred to as a “Consolidation”).
Absent Equus merging or consolidating with/into MVC or a subsidiary thereof, our current intention is for Equus to (i) terminate
its election to be classified as a BDC under the 1940 Act, and (ii) be restructured as a publicly-traded operating company focused
on the energy, natural resources, technology, and/or financial services sector. 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 Consolidation would
be acceptable to us.
Authorization
to Withdraw BDC Election
—On January 21, 2019, 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 to cause the Fund’s withdrawal of its election to be classified
as a BDC, effective as of a date designated by the Board and our Chief Executive Officer. Although this authorization, which was
given as a consequence of our Plan of Reorganization, expired on July 31, 2019, we expect to receive an additional authorization
from our stockholders in the future. Notwithstanding any such authorization to withdraw our BDC election, we will not submit any
such withdrawal unless and until Equus has entered into a definitive agreement to effect a “Consolidation”. Further,
even if we are again authorized to withdraw our election as a BDC, we will require a subsequent affirmative vote from holders of
a majority of our outstanding voting shares to enter into any such definitive agreement or change the nature of our business.
|
(7)
|
2016 Equity Incentive Plan
|
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 Incentive 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 March 31,
2019, 280,000 shares of restricted stock which were granted pursuant to the Incentive Plan, remained unvested. We account for share-based
compensation using the fair value method, as prescribed by ASC 718. 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 six months
ended June 30, 2019 and 2018, we recorded compensation expense of $0.2 million and $0.3 million, respectively, in connection with
these awards.
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, which presently comprise 141 producing and non-producing oil and gas
wells. The working interests include associated development rights of approximately 21,520 acres situated on 11 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 experienced operators, including Chevron USA, Inc., which has operating responsibility for all of Equus Energy’s
40 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 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.
Revenue and
Income
—During the three months ended June 30, 2019, Equus Energy’s revenue, operating revenue less direct operating
expenses, and net loss were $0.2 million, $0.02 million, and ($0.08) million, respectively, as compared to revenue, operating revenue
less direct operating expenses, and net loss which $0.3 million, $0.05 million, and ($0.1) million, respectively, for the three
months ended June 30, 2018.
Capital Expenditures
—During
the three months ended June 30, 2019 and June 30, 2018, Equus Energy’s investment, respectively, in capital expenditures
for small repairs and improvements was not significant. The operators of the various working interest communicated their intent
to wait until 2019, commensurate with an anticipated gradual rise in the price of crude oil, to commence new drilling and recompletion
projects.
We do not consolidate
Equus Energy or its wholly-owned subsidiaries and accordingly only the value of our investment in Equus Energy is included on our
balance sheets. Our investment in Equus Energy is valued in accordance with our normal valuation procedures and is based in part
on using a discounted cash flow analysis based on a reserve report prepared for Equus Energy by Lee Keeling & Associates, Inc.,
an independent petroleum engineering firm, the transactions and values of comparable companies in this sector, and the estimated
value of leasehold mineral interests associated with the acreage held by Equus Energy. A valuation of Equus Energy was performed
by a third-party valuation firm, who recommended a value range of Equus Energy consistent with the fair value determined by our
Management (See
Schedule of Investments
)
.
Below is summarized
consolidated financial information for Equus Energy as of June 30, 2019 and December 31, 2018 and for the six months June 30, 2019
and 2018, respectively, (in thousands):
EQUUS ENERGY, LLC
Unaudited Condensed Consolidated Balance
Sheets
|
|
June 30,
|
|
December 31,
|
|
|
2019
|
|
2018
|
|
|
|
|
|
|
|
|
|
|
Assets
|
|
|
|
|
Current assets:
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
832
|
|
|
$
|
966
|
|
Accounts receivable
|
|
|
112
|
|
|
|
127
|
|
Other current assets
|
|
|
34
|
|
|
|
34
|
|
Total current assets
|
|
|
978
|
|
|
|
1,127
|
|
Oil and gas properties
|
|
|
8,008
|
|
|
|
8,008
|
|
Less: accumulated depletion, depreciation and amortization
|
|
|
(7,854
|
)
|
|
|
(7,772
|
)
|
Net oil and gas properties
|
|
|
154
|
|
|
|
236
|
|
Total assets
|
|
$1,132
|
|
|
|
$1,363
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities and member's equity
|
|
|
|
|
|
|
|
|
Current liabilities:
|
|
|
|
|
|
|
|
|
Accounts payable and other
|
|
$
|
170
|
|
|
$
|
131
|
|
Due to affiliate
|
|
|
561
|
|
|
|
561
|
|
Total current liabilities
|
|
|
731
|
|
|
|
692
|
|
Asset retirement obligations
|
|
|
198
|
|
|
|
195
|
|
Total liabilities
|
|
929
|
|
|
|
887
|
|
|
|
|
|
|
|
|
|
|
|
Total member's equity
|
|
|
203
|
|
|
|
476
|
|
|
|
|
|
|
|
|
|
|
Total liabilities and member's equity
|
|
$1,131
|
|
|
|
$1,363
|
1
|
|
Revenue and direct
operating expenses for the various oil and gas assets included in the unaudited condensed consolidated statements of operations
below represent the net collective working and revenue interests acquired by Equus Energy. The revenue and direct operating expenses
presented herein relate only to the interests in the producing oil and natural gas properties and do not represent all of the oil
and natural gas operations of all of these properties. Direct operating expenses include lease operating expenses and production
and other related taxes. General and administrative expenses, depletion, depreciation and amortization (“DD&A”)
of oil and gas properties and federal and state taxes have been excluded from direct operating expenses in the accompanying statements
of operations because the allocation of certain expenses would be arbitrary and would not be indicative of what such costs would
have been had Equus Energy been operated as a stand-alone entity. The statements of operations presented are not indicative of
the financial condition or results of operations of Equus Energy on a go forward basis due to changes in the business and the omission
of various operating expenses.
EQUUS ENERGY, LLC
Unaudited Condensed Consolidated Statements
of Operations
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended June
30,
|
|
Six
Months Ended June 30,
|
|
|
2019
|
|
2018
|
|
2019
|
|
2018
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating revenue
|
|
$
|
217
|
|
|
$
|
282
|
|
|
$
|
361
|
|
|
$
|
577
|
|
Operating expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Direct operating expenses
|
|
|
198
|
|
|
|
231
|
|
|
|
393
|
|
|
|
394
|
|
General and administrative
|
|
|
73
|
|
|
|
59
|
|
|
|
156
|
|
|
|
153
|
|
Depletion, depreciation, amortization and accretion
|
|
|
31
|
|
|
|
104
|
|
|
|
85
|
|
|
|
186
|
|
Total operating expenses
|
|
|
302
|
|
|
|
394
|
|
|
|
634
|
|
|
|
733
|
|
Operating loss before income tax expense
|
|
|
(85
|
)
|
|
|
(112
|
)
|
|
|
(273
|
)
|
|
|
(156
|
)
|
Income tax benefit (expense)
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
Net loss
|
|
$
|
(85
|
)
|
|
$
|
(112
|
)
|
|
$
|
(273
|
)
|
|
$
|
(156
|
)
|
EQUUS ENERGY, LLC
Unaudited Condensed Consolidated Statements
of Cash Flows
|
|
Six Months Ended June 30,
|
|
|
2019
|
|
2018
|
|
|
|
|
|
Cash flows from operating activities:
|
|
|
|
|
|
|
|
|
Net loss
|
|
|
(273
|
)
|
|
$
|
(156
|
)
|
Adjustments to reconcile net loss to
|
|
|
|
|
|
|
|
|
net cash used in operating activities:
|
|
|
|
|
|
|
|
|
Depletion, depreciation, amortization and accretion
|
|
|
85
|
|
|
|
186
|
|
Changes in operating assets and liabilites:
|
|
|
|
|
|
|
|
|
Accounts receivable
|
|
|
15
|
|
|
|
(32
|
)
|
Prepaid expenses and other current assets
|
|
|
—
|
|
|
|
—
|
|
Accounts payable and other
|
|
|
39
|
|
|
|
8
|
|
Due to affiliate
|
|
|
—
|
|
|
|
(25
|
)
|
Net cash used in operating activities
|
|
|
(134
|
)
|
|
|
(19
|
)
|
|
|
|
|
|
|
|
|
|
Cash flows from investing activities:
|
|
|
|
|
|
|
|
|
Investment in oil & gas properties
|
|
|
—
|
|
|
|
(63
|
)
|
Net cash used in investing activities
|
|
|
—
|
|
|
|
(63
|
)
|
Net decrease in cash
|
|
|
(134
|
)
|
|
|
(82
|
)
|
Cash and cash equivalents at beginning of period
|
|
|
966
|
|
|
|
307
|
|
Cash and cash equivalents at end of period
|
|
$
|
832
|
|
|
$
|
225
|
|
Critical Accounting
Policies for Equus Energy
—Equus Energy and its wholly-owned subsidiary EQS Energy Holdings, Inc. (collectively, “the
Company”) follow the
Full Cost Method of Accounting
for oil and gas properties. Under the full cost method, all costs
associated with property acquisition, exploration, and development activities are capitalized. Capitalized costs include lease
acquisitions, geological and geophysical work, delay rentals, costs of drilling, completing and equipping successful and unsuccessful
oil and gas wells and related costs. Gains or losses are normally not recognized on the sale or other disposition of oil and gas
properties. Gains or losses are normally reflected as an adjustment to the full cost pool.
The capitalized
costs of oil and gas properties, plus estimated future development costs relating to proved reserves and estimated cost of dismantlement
and abandonment, net of salvage value, are amortized on a unit-of-production method over the estimated productive life of the proved
oil and gas reserves. Unevaluated oil and gas properties are excluded from this calculation. Depletion, depreciation, amortization
and accretion expense for the Company’s oil and gas properties totaled $0.03 million and $0.1 million for the three months
ended June 30, 2019 and 2018, respectively and $0.1 million and $0.2 million for the six months ended June 30, 2019 and June 30,
2018, respectively .
Capitalized oil
and gas property costs are limited to an amount (the ceiling limitation) equal to the sum of the following:
|
(a)
|
As of June 30, 2019, the present value of estimated future net revenue from the projected production of proved oil and gas reserves, calculated at the simple arithmetic average, first-day-of-the-month prices during the twelve-month period before the balance sheet date (with consideration of price changes only to the extent provided by contractual arrangements) and a discount factor of 10%;
|
|
(b)
|
The cost of investments in unproved and unevaluated properties excluded from the costs being amortized; and
|
|
(c)
|
The lower of cost or estimated fair value of unproved properties included in the costs being amortized.
|
When it is determined
that oil and gas property costs exceed the ceiling limitation, an impairment charge is recorded to reduce its carrying value to
the ceiling limitation. The Company did not recognize an impairment loss on its oil and gas properties during the three months
ended June 30, 2019 and 2018, respectively.
The costs of certain
unevaluated leasehold acreage and certain wells being drilled are not amortized. The Company excludes all costs until proved reserves
are found or until it is determined that the costs are impaired. Costs not amortized are periodically assessed for possible impairment
or reduction in value. If a reduction in value has occurred, costs being amortized are increased accordingly.
Revenue Recognition
—Revenue
recognized for oil and natural gas sales under the sales method of accounting. Under this method, revenue is recognized on production
as it is taken and delivered to its purchasers. The volumes sold may be more or less than the volumes entitled to, based on the
owner’s net leasehold interest. These differences result from production imbalances, which are not significant, and are reflected
as adjustments to proven reserves and future cash flows in the unaudited consolidated financial information included herein.
Depreciation,
Depletion and Amortization
—The Company employs the “Units of Production” method in calculating depletion
of its proved oil and gas properties, wherein capitalized costs, as adjusted for future development costs and asset retirement
obligations, are amortized over the total estimated proved reserves.
Income Taxes
—A
limited liability company is not subject to the payment of federal income taxes as components of its income and expenses flow through
directly to the members. However, the Company is subject to certain state income taxes. 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. Taxable Subsidiaries
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. As of June 30, 2019 and 2018, the Company had no federal income
tax expense.
Asset Retirement
Obligations
—The fair value of asset retirement obligations are recorded in the period in which they are incurred if a
reasonable estimate of fair value can be made, and the corresponding cost is capitalized as part of the carrying amount of the
related long-lived asset. The fair value of the asset retirement obligation is measured using expected future cash outflows
discounted at the Company’s credit-adjusted risk-free interest rate. Fair value, to the extent possible, should include
a market risk premium for unforeseeable circumstances. No market risk premium was included in the Company’s asset retirement
obligation fair value estimate since a reasonable estimate could not be made. The liability is accreted to its then present
value each period, and the capitalized cost is depleted or amortized over the estimated recoverable reserves using the units-of-production
method.
Management performed
an evaluation of the Fund’s activity through the date the financial statements were issued, noting the following subsequent
events:
On July 5, 2019,
we sold $27.0 million of U.S. Treasury Bills we acquired on margin in June 2019 and used the proceeds to repay the margin loan.