FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1997
or
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number 0-19509
EQUUS II INCORPORATED
(Exact name of registrant as specified in its charter)
DELAWARE 76-0345915
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2929 Allen Parkway, Suite 2500
HOUSTON, TEXAS 77019-2120
(Address of principal (Zip Code)
executive offices)
Registrant's telephone number, including area code: (713) 529-0900
Securities registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange
on which registered
COMMON STOCK AMERICAN STOCK EXCHANGE
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Approximate aggregate market value of common stock held by non-affiliates of the
registrant: $94,050,283 computed on the basis of $22.25 per share, closing price
of the common stock on the American Stock Exchange, Inc. on August 12, 1997. For
the purpose of calculating this amount only, all Directors and executive
officers of the registrant have been treated as affiliates. There were 4,760,655
shares of the registrant's common stock, $.001 par value, outstanding, as of
August 12, 1997. The net asset value of a share at June 30, 1997 was $32.46.
Documents incorporated by reference: None
EQUUS II INCORPORATED
(A Delaware Corporation)
INDEX
PAGE
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Balance Sheets
- June 30, 1997 and December 31, 1996........................1
Statements of Operations
- For the three months ended June 30, 1997 and 1996..........2
- For the six months ended June 30, 1997 and 1996............3
Statements of Changes in Net Assets
- For the six months ended June 30, 1997 and 1996............4
Statements of Cash Flows
- For the six months ended June 30, 1997 and 1996............5
Selected Per Unit Data and Ratios
- For the six months ended June 30, 1997 and 1996............7
Schedule of Portfolio Securities
- June 30, 1997 ............................................8
Notes to Financial Statements............................14
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................19
PART II. OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Securities Holders.......23
Item 6. Exhibits and Reports on Form 8 - K..........................25
SIGNATURE ................................................................25
ii
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
EQUUS II INCORPORATED
BALANCE SHEETS
JUNE 30, 1997 AND DECEMBER 31, 1996
(Unaudited)
1997 1996
------------ ------------
Assets
Investments in portfolio securities at fair value
(cost $78,482,646 and $69,388,024, respectively) .............................. $162,946,797 $111,059,488
Temporary cash investments, at cost which
approximates fair value ....................................................... 100,035,828 69,129,290
Accounts receivable ................................................................ 1,326 1,326
Accrued interest receivable ........................................................ 456,730 897,065
Commitment fees .................................................................... 56,250 17,500
Deferred reorganization costs ...................................................... -- 11,730
------------ ------------
Total assets ............................................................. 263,496,931 181,116,399
------------ ------------
Liabilities and net assets
Liabilities:
Accounts payable .............................................................. 55,731 208,231
Dividend payable .............................................................. -- 1,209,850
Due to management company ..................................................... 772,593 390,982
Deferred management incentive fee ............................................. -- 10,784,028
Notes payable to bank ......................................................... 108,150,000 65,300,000
------------ ------------
Total liabilities ........................................................ 108,978,324 77,893,091
------------ ------------
Commitments and contingencies
Net assets:
Preferred stock, $.001 par value, 5,000,000 shares
authorized, no shares issued or outstanding ................................ -- --
Common stock, $.001 par value, 10,000,000 shares
authorized, 4,760,655 and 4,300,682 shares issued
and outstanding, respectively .............................................. 4,761 4,301
Additional paid-in capital .................................................... 67,912,124 57,934,306
Undistributed net investment income ........................................... -- --
Undistributed net capital gains ............................................... 2,137,571 3,613,237
Unrealized appreciation of portfolio securities, net .......................... 84,464,151 41,671,464
------------ ------------
Total net assets ......................................................... $154,518,607 $103,223,308
============ ============
Net assets per share ..................................................... $ 32.46 $ 24.00
============ ============
The accompanying notes are an integral part of
these financial statements.
1
EQUUS II INCORPORATED
STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS ENDED JUNE 30, 1997 AND 1996
(Unaudited)
1997 1996
------------ ------------
Investment income:
Income from portfolio securities ............................................ $ 889,730 $ 821,946
Interest from temporary cash investments .................................... 2,656 10,858
------------ ------------
Total investment income ................................................ 892,386 832,804
------------ ------------
Expenses:
Management fee .............................................................. 772,593 451,328
Management incentive fee .................................................... -- 1,008,006
Deferred management incentive fee ........................................... -- 7,427
Director fees and expenses .................................................. 59,933 52,168
Professional fees ........................................................... 162,391 62,016
Administrative fees ......................................................... 12,500 12,500
Mailing, printing and other expenses ........................................ 69,385 20,936
Interest expense ............................................................ 148,006 198,614
Franchise taxes ............................................................. 75,805 39,066
Amortization ................................................................ 5,865 5,865
------------ ------------
Total expenses ......................................................... 1,306,478 1,857,926
------------ ------------
Net investment loss .............................................................. (414,092) (1,025,122)
------------ ------------
Realized gain on sales of portfolio securities, net .............................. 2,460,289 4,343,372
------------ ------------
Unrealized appreciation of portfolio securities, net:
End of period ............................................................... 84,464,151 21,776,460
Beginning of period ......................................................... 48,019,049 21,042,668
------------ ------------
Increase in unrealized appreciation, net .................................... 36,445,102 773,792
------------ ------------
Total increase in net assets from operations ................................ $ 38,491,299 $ 4,052,042
============ ============
The accompanying notes are an integral part of
these financial statements.
2
EQUUS II INCORPORATED
STATEMENTS OF OPERATIONS
FOR THE SIX MONTHS ENDED JUNE 30, 1997 AND 1996
(Unaudited)
1997 1996
------------ ------------
Investment income:
Income from portfolio securities .............................................. $ 1,403,589 $ 1,301,835
Interest from temporary cash investments ...................................... 52,525 40,329
------------ ------------
Total investment income .................................................. 1,456,114 1,342,164
------------ ------------
Expenses:
Management fee ................................................................ 1,296,677 816,830
Management incentive fee ...................................................... 55,824 1,107,163
Deferred management incentive fee ............................................. 426,501 2,778,916
Director fees and expenses .................................................... 108,862 102,817
Professional fees ............................................................. 327,344 89,080
Administrative fees ........................................................... 25,000 25,000
Mailing, printing and other expenses .......................................... 116,291 57,149
Interest expense .............................................................. 225,773 439,170
Franchise taxes ............................................................... 94,363 45,406
Amortization .................................................................. 11,730 11,730
------------ ------------
Total expenses ........................................................... 2,688,365 5,473,261
------------ ------------
Net investment loss ................................................................ (1,232,251) (4,131,097)
------------ ------------
Realized gain (loss) on sales of portfolio securities, net ......................... (1,475,666) 5,629,207
------------ ------------
Unrealized appreciation of portfolio securities, net:
End of period ................................................................. 84,464,151 21,776,460
Beginning of period ........................................................... 41,671,464 7,975,268
------------ ------------
Increase in unrealized appreciation, net ...................................... 42,792,687 13,801,192
------------ ------------
Total increase in net assets from operations .................................. $ 40,084,770 $ 15,299,302
============ ============
The accompanying notes are an integral part of
these financial statements.
3
EQUUS II INCORPORATED
STATEMENTS OF CHANGES IN NET ASSETS
FOR THE SIX MONTHS ENDED JUNE 30, 1997 AND 1996
(Unaudited)
1997 1996
------------- ------------
Operations:
Net investment loss .................................................... $ (1,232,251) $ (4,131,097)
Realized gain (loss) on sales of portfolio
securities, net ..................................................... (1,475,666) 5,629,207
Increase in unrealized appreciation of
portfolio securities, net ........................................... 42,792,687 13,801,192
------------- ------------
Increase in net assets from operations ...................................... 40,084,770 15,299,302
------------- ------------
Capital transactions:
Stock issued in payment of deferred
management incentive fee ............................................ 11,210,529 --
Proceeds from rights offering .......................................... -- 13,338,935
Rights offering expenses ............................................... -- (225,982)
Increase in net assets from capital .................................... -- --
share transactions .................................................. 11,210,529 13,112,953
------------- ------------
Net increase in net assets .................................................. 51,295,299 28,412,255
Net assets at beginning of period ........................................... 103,223,308 61,853,289
------------- ------------
Net assets at end of period ................................................. $ 154,518,607 $ 90,265,544
============= ============
The accompanying notes are an integral part of
these financial statements.
4
EQUUS II INCORPORATED
STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 1997 AND 1996
(Unaudited)
1997 1996
------------- -------------
Cash flows from operating activities:
Interest and dividends received ............................................... $ 1,244,467 $ 654,808
Cash paid to management company, directors,
bank and suppliers ......................................................... (2,059,773) (1,657,673)
------------- -------------
Net cash used by operating activities ...................................... (815,306) (1,002,865)
------------- -------------
Cash flows from investing activities:
Purchase of portfolio securities .............................................. (17,444,784) (13,176,019)
Proceeds from sales of portfolio securities ................................... 7,147,478 6,905,480
Principal payments from portfolio companies ................................... 379,000 --
------------- -------------
Net cash used by investing activities ...................................... (9,918,306) (6,270,539)
------------- -------------
Cash flows from financing activities:
Advances from bank ............................................................ 179,350,000 125,450,000
Repayments to bank ............................................................ (136,500,000) (136,200,000)
Proceeds from rights offering ................................................. -- 13,338,935
Rights offering expenses ...................................................... -- (225,982)
Dividend payments ............................................................. (1,209,850) --
------------- -------------
Net cash provided by financing activities .................................. 41,640,150 2,362,953
------------- -------------
Net increase (decrease) in cash and cash equivalents ............................... 30,906,538 (4,910,451)
Cash and cash equivalents at beginning of period ................................... 69,129,290 60,239,861
------------- -------------
Cash and cash equivalents at end of period ......................................... $ 100,035,828 $ 55,329,410
============= =============
The accompanying notes are an integral part of
these financial statements.
5
EQUUS II INCORPORATED
STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 1997 AND 1996
(Unaudited)
(Continued)
1997 1996
------------- -------------
Reconciliation of increase in net assets from operations
to net cash used by operating activities:
Increase in net assets from operations ............................................. $ 40,084,770 $ 15,299,302
Adjustments to reconcile increase in net assets from
operations to net cash used by activities:
Realized (gain) loss on sale of portfolio securities, net ..................... 1,475,666 (5,629,207)
Increase in unrealized appreciation, net ...................................... (42,792,687) (13,801,192)
Accrued interest and dividends exchanged for
portfolio securities ...................................................... (651,982) (435,679)
Decrease (increase) in accrued interest receivable ............................ 440,335 (251,677)
Amortization of commitment fee ................................................ 36,250 55,000
Commitment fees paid .......................................................... (75,000) (70,000)
Amortization of reorganization costs .......................................... 11,730 11,730
Increase (decrease) in accounts payable ....................................... (152,500) (110,126)
Stock issued to management company in payment
of deferred management incentive fee ....................................... 11,210,529 --
Increase (decrease) in due to management company .............................. (10,402,417) 3,928,984
------------- -------------
Net cash used by operating activities .............................................. $ (815,306) $ (1,002,865)
============= =============
The accompanying notes are an integral part of
these financial statements.
6
EQUUS II INCORPORATED
SUPPLEMENTAL INFORMATION - SELECTED PER SHARE DATA AND RATIOS
FOR THE SIX MONTHS ENDED JUNE 30, 1997 AND 1996
(Unaudited)
1997 1996
------------- -------------
Investment income .................................................................... $ 0.31 $ 0.39
Expenses ............................................................................. 0.57 1.59
------------- -------------
Net investment loss ............................................................. (0.26) (1.20)
Realized gain (loss) on sale of portfolio securities, net ............................ (0.31) 1.63
Increase in unrealized appreciation of portfolio securities, net ..................... 9.03 4.00
------------- -------------
Increase in net assets from operations .......................................... 8.46 4.43
Capital transactions:
Effect of rights offering ....................................................... -- (2.57)
------------- -------------
Net increase in net assets from capital transactions ............................ -- (2.57)
------------- -------------
Net increase in net assets ........................................................... 8.46 1.86
Net assets at beginning of period .................................................... 24.00 19.71
------------- -------------
Net assets at end of period .......................................................... $ 32.46 $ 21.57
============= =============
Ratio of expenses to average net assets .............................................. 2.09% 7.20%
Ratio of net investment loss to average net assets ................................... (0.96)% (5.43)%
Ratio of increase in net assets from operations to average net assets ................ 31.10% 20.11%
Average shares outstanding during period ............................................. 4,740,592 3,448,983
The accompanying notes are an integral part of
these financial statements.
7
EQUUS II INCORPORATED
SCHEDULE OF PORTFOLIO SECURITIES
JUNE 30, 1997
(Unaudited)
Date of
Portfolio Company Initial Investment Cost Fair Value
----------------- ------------------ ------------- -------------
A. C. Liquidating Corporation February 1985
-4,885 shares of 10% Series C
cumulative preferred stock $ 488,500 $ -
-10% secured promissory notes 188,014 -
Allied Waste Industries, Inc. (NASDAQ - AWIN) March 1989
-1,234,584 shares of common stock 4,499,340 20,807,370
-Warrants to buy up to 125,000 shares of common
stock at $5.00 per share through August 1999 - 993,047
American Residential Services, Inc. (NYSE - ARS) December 1995
-1,221,035 shares of common stock 3,057,100 25,551,044
-Warrants to buy up to 100,000 shares of common
stock at $15 per share through September 2001 - 232,125
Atlas Acquisition, Inc. May 1997
-32,000 shares of common stock 32,000 32,000
-19,680 shares of preferred stock 1,968,000 1,968,000
AVIAN Healthcare Corporation April 1997
-300,000 shares Series A preferred stock 300,000 300,000
-Prime + 1/2% promissory note 875,000 875,000
Brazos Sportswear, Inc. (NASDAQ - BRZS) February 1989
-2,160,308 shares of common stock 1,331,187 15,007,390
-3,786,535 shares of 8% Series B1 preferred stock 3,786,535 3,786,535
-1,287,754 shares of 8% Series B2 preferred stock 1,287,754 1,287,754
-1,054,457 shares of 8% Series B3 preferred stock 1,054,457 1,054,457
-Warrants to buy up to 30,261 and 140,578 shares
of common stock at $4.62 and $6.59 per share
through August 2006 and March 2007, respectively - 120,703
-1,000 shares of common stock of GCS RE, Inc. 132,910 300,000
The accompanying notes are an integral part of
these financial statements.
8
EQUUS II INCORPORATED
SCHEDULE OF PORTFOLIO SECURITIES
JUNE 30, 1997
(Unaudited)
(Continued)
Date of
Portfolio Company Initial Investment Cost Fair Value
----------------- ------------------ ------------- -------------
Cardiovascular Ventures, Inc. November 1991
-150,000 shares of Series A convertible
preferred stock $ 375,000 $ 608,000
-214,286 shares of Series B convertible
preferred stock 750,001 1,139,001
-56,717 shares of Series C convertible
preferred stock 248,137 326,137
-10% promissory note 1,250,000 1,250,000
-Warrants to buy 83,956 shares of common stock
at $3 per share through April 1, 2004. 84 84
Carruth-Doggett Industries, Inc. December 1995
-10% senior subordinated promissory note 2,250,000 2,250,000
-Warrant to buy up to 33,333 shares of common
stock at $0.01 per share through December 2005 - 1,000,000
-Warrant to buy up to 249 shares of common
stock of CDE Corp. at $0.01 per share through
December 2005 - -
Coach USA, Inc. (NYSE - CUI) August 1996
-143,112 shares of common stock 1,863,357 3,687,370
Container Acquisition, Inc. February 1997
-1,370,000 shares of common stock 1,370,000 1,370,000
-46,616 shares of preferred stock 4,661,600 4,661,600
-Warrant to buy up to 370,588 shares of common
stock at $.01 per share through February 2007 1,000 1,000
CRC Holdings, Corp. June 1997
-35,000 shares of common stock 3,199,000 3,199,000
-12% subordinated promissory note 959,700 959,700
Drypers Corporation (NASDAQ - DYPR) July 1991
-1,096,892 shares of common stock 6,400,132 6,726,826
-25,000 shares of 7.5% convertible preferred stock 2,500,000 15,331,559
-Warrants to buy up to 10,990 shares of common
stock at $2.41 per share through June 1998 - 11,800
The accompanying notes are an integral part of
these financial statements.
9
EQUUS II INCORPORATED
SCHEDULE OF PORTFOLIO SECURITIES
JUNE 30, 1997
(Unaudited)
(Continued)
Date of
Portfolio Company Initial Investment Cost Fair Value
----------------- ------------------ ------------- -------------
Garden Ridge Corporation (NASDAQ - GRDG) July 1992
-474,942 shares of common stock $ 685,030 $ 5,758,672
Healthcare Technology Delivery, Inc. April 1997
-9,000 shares of common stock 50,000 50,000
-4,500 shares of preferred stock 450,000 450,000
Hot & Cool Holdings, Inc. March 1996
-9% increasing rate subordinated
promissory note 1,300,000 1,300,000
-10% subordinated note 1,500,000 1,500,000
-Warrants to buy up to 14,942 shares of common
stock at $.01 per share through March 2006 - 280,000
Industrial Equipment Rentals, Inc. June 1993
-182,230 shares of common stock 1,822 2,736,405
-5,371 shares of junior preferred stock 537,100 537,100
-67,500 shares of Series B senior convertible
preferred stock 250,050 1,013,595
-12% subordinated debenture 1,077,778 1,077,778
-9% senior subordinated debenture 499,950 499,950
NCI Building Systems, Inc. (NASDAQ - BLDG) April 1989
-100,000 shares of common stock 159,784 3,237,500
Paracelsus Healthcare Corporation (NYSE - PLS) December 1990
-1,263,058 shares of common stock 5,278,748 5,934,584
Restaurant Development Group, Inc. June 1987
-610,909 shares of Class A common stock 2,891,156 800,000
-Warrants to buy up to 62,500 shares of
common stock at $3 per share through
April 1998 - -
The accompanying notes are an integral part of
these financial statements.
10
EQUUS II INCORPORATED
SCHEDULE OF PORTFOLIO SECURITIES
JUNE 30, 1997
(Unaudited)
(Continued)
Date of
Portfolio Company Initial Investment Cost Fair Value
----------------- ------------------ ------------- -------------
Sovereign Business Forms, Inc. August 1996
-11,000 shares of preferred stock $ 1,100,000 $ 1,100,000
-15% promissory note 550,000 550,000
-Warrant to buy 551,894 shares of common
stock at $1 per share through August 2006 - -
Strategic Holdings, Inc. September 1995
-3,089,751 shares of common stock 3,088,389 3,088,389
-3,822,157 shares of Series B preferred stock 3,820,624 3,820,624
-Warrants to buy 225,000 and 100,000 shares of
common stock at $0.4643 and $1.50 per share,
respectively, through August 2005 - 100,000
-1,000 shares of SMIP, Inc. common stock 150,000 150,000
-15% promissory note of SMIP, Inc. 175,000 175,000
Summit/DPC Partners, L.P. October 1995
-36.11% limited partnership interest 2,600,000 2,600,000
Travis International, Inc. December 1986
-66,784 shares of common stock 534,589 1,502,640
-104,500 shares of Class A common stock 25,701 2,351,250
VRPI Spin Off, Inc. January 1988
-100 shares of common stock 250,000 300,000
-10% secured promissory note 2,672,349 2,672,349
-12% secured promissory note 1,050,000 1,050,000
-10,000 shares of common stock of
Equus Video Corporation 25,000 20,000
WMW Industries, Inc. October 1989
(formerly Williams & Mettle Co.)
-530,035 shares of common stock 1,024,309 1,360,469
-12% subordinated promissory note 893,883 893,883
-Junior participation in prime + 1.5% note 1,012,576 1,012,576
-Warrant to buy 72,672 shares of common stock
at $0.01 per share through December 1999 - 186,531
------------- ------------
Total $ 78,482,646 $162,946,797
============= ============
The accompanying notes are an integral part of
these financial statements.
11
EQUUS II INCORPORATED
SCHEDULE OF PORTFOLIO SECURITIES
JUNE 30, 1997
(Unaudited)
(Continued)
Substantially all of the Fund's portfolio securities are restricted from
public sale without prior registration under the Securities Act of 1933. The
Fund negotiates certain aspects of the method and timing of the disposition of
the Fund's investment in each portfolio company, including registration rights
and related costs.
In connection with the investments in Allied Waste Industries, Inc.,
American Residential Services, Inc., Atlas Acquisition, Inc., AVIAN Healthcare
Corporation, Brazos Sportswear, Inc., Cardiovascular Ventures, Inc., Coach USA,
Inc., CRC Holdings, Corp., Drypers Corporation, Healthcare Technology Delivery,
Inc., Hot & Cool Holdings, Inc., Industrial Equipment Rentals, Inc., Paracelsus
Healthcare Corporation, Sovereign Business Forms, Inc. and Strategic Holdings,
Inc., rights have been obtained to demand the registration of such securities
under the Securities Act of 1933, providing certain conditions are met. The Fund
does not expect to incur significant costs, including costs of any such
registration, in connection with the future disposition of its portfolio
securities.
As defined in the Investment Company Act of 1940, the Fund is considered
to have a controlling interest in A.C. Liquidating Corporation, Atlas
Acquisition, Inc., Brazos Sportswear, Inc., Container Acquisition, Inc., CRC
Holdings, Corp., Drypers Corporation, Industrial Equipment Rentals, Inc.,
Restaurant Development Group, Inc., Strategic Holdings, Inc., Video Rental of
Pennsylvania, Inc. and WMW Industries, Inc. In addition, Cardiovascular
Ventures, Inc., Healthcare Technology Delivery, Inc. and Travis International,
Inc. are considered to be affiliated entities of the Fund. The fair values of
the Fund's investments in publicly traded securities include discounts from the
closing market prices to reflect the estimated effects of restrictions on the
sale of such securities at June 30, 1997. Such discounts, as detailed below,
total $19,738,910 or $4.15 per share as of June 30, 1997.
Allied Waste Industries, Inc. $ 1,197,355
American Residential Services, Inc. 3,430,894
Brazos Sportswear, Inc. 8,719,947
Coach USA, Inc. 114,042
Drypers Corporation 5,638,922
Garden Ridge Corporation 178,103
Paracelsus Healthcare Corporation 459,647
-----------
Total discount $19,738,910
Income was earned in the amount of $1,048,044 and $855,465 for the six
months ended June 30, 1997 and 1996, respectively, on portfolio securities of
companies in which the Fund has a controlling interest.
The accompanying notes are an integral part of
these financial statements.
12
EQUUS II INCORPORATED
SCHEDULE OF PORTFOLIO SECURITIES
JUNE 30, 1997
(Unaudited)
(Continued)
As defined in the Investment Company Act of 1940, all of the Fund's
investments are in eligible portfolio companies. The Fund provides significant
managerial assistance to all of the portfolio companies in which it has invested
except Cardiovascular Ventures, Inc., Coach USA, Inc., Paracelsus Healthcare
Corporation and Summit/DPC Partners, L.P. The Fund provides significant
managerial assistance to portfolio companies that comprise 91% of the total
value of the investments in portfolio companies at June 30, 1997.
The accompanying notes are an integral part of
these financial statements.
13
EQUUS II INCORPORATED
NOTES TO FINANCIAL STATEMENTS
JUNE 30, 1997 AND 1996
(Unaudited)
(1) ORGANIZATION AND BUSINESS PURPOSE
Equus II Incorporated (the "Fund"), a Delaware corporation with
perpetual existence, 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. The
shares of the Fund trade on the American Stock Exchange under the symbol EQS.
The Fund seeks 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. The Fund seeks to invest
primarily in companies which intend to acquire other businesses, including
leveraged buyouts. The Fund may also invest in recapitalizations of existing
businesses or special situations from time to time. The Fund's investments in
Portfolio Companies consist principally of equity securities such as common and
preferred stock, but also include other equity-oriented securities such as debt
convertible into common or preferred stock or debt combined with warrants,
options or other rights to acquire common or preferred stock. Current income is
not a significant factor in the selection of investments. The Fund has elected
to be treated as a business development company under the Investment Company Act
of 1940, as amended.
(2) MANAGEMENT
The Fund has entered into a management agreement with Equus Capital
Management Corporation, a Delaware corporation (the "Management Company").
Pursuant to such agreement, the Management Company performs certain services,
including certain management and administrative services necessary for the
operation of the Fund. The Management Company receives a management fee at an
annual rate of 2% of the net assets of the Fund, paid quarterly in arrears. The
Management Company also receives compensation for providing certain investor
communication services, of which $25,000 is included in the accompanying
Statements of Operations for the six months ended June 30, 1997 and 1996.
Through March 31, 1997, the Management Company also received or
reimbursed a management incentive fee equal to 20% of net realized capital gains
less unrealized capital depreciation, computed on a cumulative basis over the
life of the Fund. The management incentive fee was paid or reimbursed quarterly
in arrears. Pursuant to the vote of the stockholders at a special meeting held
on April 9, 1997, ("Special Meeting") the Fund entered into a new management
agreement with the Management Company which eliminated incentive fees based on
capital gains effective as of April 1, 1997.
Included in "Deferred management incentive fees" in the accompanying
Balance Sheet was $10,784,028 of accrued management incentive fees at December
31, 1996. Such fees were calculated on the net unrealized appreciation of
investments in portfolio securities, and were to be paid only when such
appreciation was realized. However, pursuant to the vote of the stockholders at
the Special Meeting, the deferred incentive fee, which had increased to
$11,210,529 at March 31, 1997, was paid on May 15, 1997 by the issuance of
459,973 unregistered shares of common stock of the Fund. The number of shares
issued was determined by dividing the deferred incentive fee by $24.37 per
share, the net asset value per share at March 31, 1997. Deferred management
incentive fee expense for the six months ended June 30,
14
1997 and 1996 totaled $426,501 and $2,778,916, respectively. The deferred
management incentive fee was reflected as an expense of the Fund when there was
an increase in the Fund's net unrealized appreciation of portfolio securities
and was reflected as a reduction in expense to the Fund when there was a
decrease in the Fund's net appreciation of portfolio securities. At December 31,
1996, $125,135 of incentive fees to be reimbursed by the Management Company to
the Fund are netted in "Due to Management Company", against $516,117 of
management fees due to the Management Company.
The Management Company is controlled by a privately -owned corporation.
As compensation for services rendered to the Fund, each director who is
not an officer of the Fund receives an annual fee of $20,000 paid quarterly in
arrears, a fee of $2,000 for each meeting of the Board of Directors attended in
person, a fee of $1,000 for participation in each telephonic meeting of the
Board of Directors and for each committee meeting attended ($500 for each
committee meeting if attended on the same day as a Board Meeting), and
reimbursement of all out-of-pocket expenses relating to attendance at such
meetings. Certain officers and directors of the Fund serve as directors of
Portfolio Companies, and receive and retain fees in consideration for such
service.
(3) SIGNIFICANT ACCOUNTING POLICIES
Interim Financial Statements - The financial statements included herein
have been prepared without audit and include all adjustments which management
considers necessary for fair presentation.
Valuation of Investments - Portfolio investments are carried at fair
value with the net change in unrealized appreciation or depreciation included in
the determination of net assets. Investments in companies whose securities are
publicly traded are valued at their quoted market price, less a discount to
reflect the estimated effects of restrictions on the sale of such securities
("Valuation Discount"), if applicable. Cost is used to approximate fair value of
other investments until significant developments affecting an investment provide
a basis for use of an appraisal valuation. Thereafter, portfolio investments are
carried at appraised values as determined quarterly by the Management Company,
subject to the approval of the Board of Directors. The fair market values of
debt securities, which are generally held to maturity, are determined on the
basis of the terms of the debt securities and the financial condition of the
issuer. Because of the inherent uncertainty of the valuation of portfolio
securities which do not have readily ascertainable market values, $159,709,297
(including $103,399,990 in publicly-traded securities, net of a $19,738,910
Valuation Discount) and $107,604,488 (including $58,079,167 in publicly-traded
securities, net of a $15,599,614 Valuation Discount) at June 30, 1997 and
December 31, 1996, respectively, the Management Company's estimate of fair value
may significantly differ from the fair value that would have been used had a
ready market existed for the securities. Appraised values do not reflect
brokers' fees or other normal selling costs which might become payable on
disposition of such investments.
On a weekly basis, the Fund adjusts its net asset value for changes in
the value of its publicly held securities and material changes in the value of
its private securities and reports those amounts to Lipper Analytical Services,
Inc. Such weekly net asset values appear 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.
Cash Flows - For purposes of the Statements of Cash Flows, the Fund
considers all highly liquid temporary cash investments purchased with an
original maturity of three months or less to be cash equivalents.
15
Income Taxes - No provision for Federal income taxes has been made in
the accompanying financial statements as the Fund has qualified for pass-through
treatment as a "regulated investment company" under Subchapter M of the Internal
Revenue Code of 1986. As such, all net income is allocable to the stockholders
for inclusion in their respective tax returns. Net capital losses are not
allocable to the shareholders but can be carried over to offset future earnings
of the Fund.
(4) BOOK TO TAX RECONCILIATION
The Fund accounts for dividends in accordance with Statement of Position
93-2 which relates to the amounts distributed by the Fund as net investment
income or net capital gains, which are often not equal to the corresponding
income or gains shown in the Fund's financial statements. The Fund had net
investment losses for tax purposes for the six months ended June 30, 1997 and
1996, and therefore has no net investment income to distribute. The following is
a reconciliation of the difference in the Fund's net realized capital gain on
the sale of portfolio securities for book and tax purposes for the six months
ended June 30, 1997 and 1996, respectively.
1997 1996
------------ ------------
Net realized gain (loss) on the sales of portfolio
securities, book ............................... $ (1,475,666) $ 5,629,207
Management incentive fee ......................... (7,530,385) (1,107,163)
------------ ------------
Net realized gain (loss) on the sales of
portfolio securities, tax ...................... $ (9,006,051) $ 4,522,044
------------ ------------
(5) DIVIDENDS
The Fund declared no dividends during the six months ended June 30, 1997
and 1996. The Fund has adopted a policy to make dividend distributions of at
least $0.50 per share on an annual basis. In the event that taxable income,
including realized capital gains, exceeds $0.50 per share in any year,
additional dividends may be declared to distribute such excess. Distributions
can be made payable by the Fund either in the form of a cash distribution or a
stock dividend. The Fund has not adopted any set policy concerning whether
dividends will be paid only in cash, only in stock or cash by specific election.
If the Fund does not have available cash to pay the minimum dividends it may
borrow the required funds or sell some of its portfolio investments.
(6) TEMPORARY CASH INVESTMENTS
Temporary cash investments, which represent the short-term utilization
of cash prior to investment in securities of portfolio companies, distributions
to the shareholders or payment of expenses, consist of money market accounts
earning interest at rates ranging from 3.50% to 4.84% at June 30, 1997.
Substantially all of the Fund's temporary cash investments are invested at
NationsBank of Texas, N.A. at June 30, 1997 and December 31, 1996.
(7) PORTFOLIO SECURITIES
During the six months ended June 30, 1997, the Fund invested $13,714,700
in five new companies and made follow-on investments of $4,382,066 in five
portfolio companies, including $651,982 in accrued interest and dividends
received in the form of additional portfolio securities. In addition, the Fund
realized a net capital loss of $1,475,666 during the six months ended June 30,
1997.
16
During the six months ended June 30, 1996, the Fund invested $8,600,000
in two new companies and made follow-on investments of $5,761,698 in eight
portfolio companies, including $435,679 in dividends and accrued interest
received in the form of additional portfolio securities and $750,000 of common
stock received through the net exercise of common stock warrants. In addition,
the Fund realized net capital gains of $5,629,207 during the six months ended
June 30, 1996.
(8) DEFERRED REORGANIZATION COSTS
The Fund paid $117,300 in expenses related to the formation of the Fund
and is amortizing such amount over 5 years. Accumulated amortization of such
expenses totaled $117,300 and $105,570 at June 30, 1997 and December 31, 1996,
respectively.
(9) NOTES PAYABLE TO BANK
The Fund has a $90,000,000 line of credit promissory note with a bank,
with interest payable at 1% over the rate earned in its money market account.
The Fund had $90,000,000 and $65,000,000 outstanding on such note at June 30,
1997 and December 31, 1996, that was secured by $90,000,000 and $65,000,000 of
the Fund's temporary cash investments. The Fund paid a $50,000 commitment fee in
1996, which was capitalized and was amortized over the commitment period. The
note originally matured on April 4, 1997. On March 28, 1997, the note was
extended to April 1, 1998, and in April 1997, the Fund paid a $75,000 commitment
fee in connection with such extension which was capitalized and will be
amortized over the commitment period.
The Fund has a $30,000,000 revolving line of credit with a bank. The
Fund had $18,150,000 and $300,000 outstanding under such line of credit at June
30, 1997 and December 31, 1996, respectively, which is secured by the Fund's
investments in portfolio securities. The Fund paid a $20,000 commitment fee in
connection with such loan which was capitalized and was amortized over the
commitment period which ended April 4, 1997. The outstanding balance on the loan
bears interest at prime + 1/4% to 3/4%. The fund also pays 1/4% interest on the
unused portion of the line of credit. On March 28, 1997, the note was extended
to April 1, 1998, and the line of credit was increased to $30,000,000.
The average daily balances outstanding on the Fund's notes payable
during the six months ended June 30, 1997 and 1996, were $4,443,204 and
$9,256,481, respectively.
(10) STOCK OPTION PLAN
The Fund held a special meeting of shareholders on April 9, 1997. At the
meeting, shareholders approved the Equus II Incorporated 1997 Stock Incentive
Plan which authorizes the Fund to issue options to the directors and officers of
the Fund in an aggregate amount of up to 20% of the outstanding shares of common
stock of the Fund. Implementation of this plan was subject to the receipt of an
exemptive order from the Securities and Exchange Commission, which was received
on May 8, 1997. On May 9, 1997, the Compensation committee of the Board of
Directors of the Fund issued options to the officers of the Fund to buy up to
830,136 shares of the Fund's common stock at $17 per share. On July 1, 1997, the
Compensation Committee issued options to the officers of the Fund to buy up to
66,995 shares of the Fund's common stock at $21.3125 per share.
Under the 1997 Incentive Stock Option Plan, options to purchase 830,136
shares of the Fund's common stock at $17 per share (the market price at the time
of grant) were outstanding at June 30, 1997. No options were exercisable at June
30, 1997. During the six months ended June 30, 1997, no options were exercised.
Outstanding options expire in May 2007. At June 30, 1997, there was no dilution
of net assets per share arising from options outstanding, as no options were
vested and exercisable at such date.
17
(11) COMMITMENTS AND CONTINGENCIES
The Fund has made commitments to invest, under certain circumstances, up
to an additional $1,325,000 in AVIAN Healthcare Corporation, $565,500 in GCS RE,
Inc. and $2,250,000 in Sovereign Business Forms, Inc. In connection with its
commitment to GCS RE, Inc., the Fund has committed to a bank to maintain at
least $380,000 in temporary cash investments to fund such commitment. In
addition, the Fund has committed to invest up to $5,250,000 in two new
companies.
On April 1, 1996, two stockholders of the Fund filed an action in
federal district court in Houston, Texas against the directors of the Fund, the
Management Company, and the Fund. In essence, their suit alleged that by
approving the rights offering which was announced in March 1996, the Management
Company and the directors of the Fund violated their fiduciary duties to the
Fund's stockholders under the Investment Company Act of 1940 and Delaware common
law. They also alleged that the Management Company aided and abetted these
breaches of fiduciary duty. The plaintiffs moved the court to certify their suit
as a class action on behalf of all stockholders of the Fund. The court dismissed
their suit in December 1996, but the plaintiffs have made substantially similar
claims in an amended shareholder derivative action which they filed in January
1997. The plaintiffs have not specified the amount of any damages in either
suit. The plaintiffs have not yet made any demand on the Fund that its directors
take action regarding their derivative suit. In any event, management of the
Fund believes that the ultimate resolution of the plaintiffs' claims will not
have a material adverse effect on the Fund's financial position or results of
operations. During the six months ended June 30, 1997 and the year ended
December 31, 1996, the Fund incurred $44,797 and $92,336, respectively, in legal
expenses related to such action.
The Fund and certain of the portfolio companies are involved in asserted
claims and have the possibility for unasserted claims which may ultimately
affect the fair value of the Fund's portfolio investments. In the opinion of
Management, the financial position or operating results of the Fund will not be
materially affected by these claims.
(12) SUBSEQUENT EVENTS
Subsequent to June 30, 1997, the Fund sold 96,035 shares of American
Residential Services, Inc., for $2,186,928, realizing a net capital gain of
$2,130,100 on such sale.
Subsequent to June 30, 1997, the Fund repaid a net $106,350,000 of notes
payable to the bank.
In July 1997, the Fund invested $2,000,000 in a 10% senior subordinated
promissory note of J & J Rental Services, Inc. Pursuant to such investment, the
Fund received warrants to buy 22,500 and 10,715 shares of J & J Rental Services,
Inc. common stock for $.0129 and $.01 per share, respectively, through June 30,
2007. J & J Rental Services, Inc. is in the industrial and construction
equipment rental business. In addition, the Fund received warrants to buy 22,500
and 10,715 shares of J & J Realty, Inc. common stock for $.0129 and $.01 per
share, respectively, through June 30, 2007. J & J Realty, Inc. owns the real
estate on which J & J Rental Services, Inc. operates.
In July and August 1997, the Fund advanced $90,000 to Texrock Radio,
Inc., in connection with a pending investment in the radio industry.
On August 1, 1997, the Fund sold its investment in Industrial Equipment
Rentals, Inc. for $6,646,244 realizing a capital gain of $4,279,544. In
addition, under certain circumstances the Fund could receive an additional
$634,984 in proceeds from the sale, which was deposited into an escrow account.
Such additional amount would be recognized as additional capital gains when
received.
18
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
LIQUIDITY AND CAPITAL RESOURCES
Equus II Incorporated (the "Fund"), a Delaware corporation and business
development company, was formed as a successor to Equus Investments II, L.P. The
Fund has qualified for pass-through tax treatment as a "regulated investment
company" under Subchapter M of the Internal Revenue Code of 1986 each year since
its organization. The Fund's shares of common stock are listed for trading on
the American Stock Exchange, under the symbol "EQS".
The Fund held a special meeting of shareholders on April 9, 1997. At the
meeting, shareholders approved a new management agreement between the Fund and
the Management Company. The shareholders also authorized the payment by the Fund
at March 31, 1997, to the Management Company of the deferred incentive fee on
the balance sheet of the Fund at March 31, 1997, in shares of the Fund's common
stock valued at net asset value at March 31, 1997, and approved the Equus II
Incorporated 1997 Stock Incentive Plan which authorizes the Fund to issue stock
options to its directors and officers in an aggregate amount up to 20% of the
outstanding shares of common stock of the Fund. Implementation of these
proposals was subject to the receipt of an exemptive order from the Securities
and Exchange Commission, which was received on May 8, 1997. On May 9, 1997, the
Compensation Committee of the Board of Directors of the Fund issued options to
the officers of the Fund to buy up to 830,136 shares of the Fund' s common stock
at $17 per share. On May 15, 1997, the Fund issued 459,973 unregistered shares
of common stock of the Fund, in payment of all deferred incentive fees due to
the Management Company as of March 31, 1997. The number of shares issued was
determined by dividing the deferred incentive fee by $24.37 per share, the net
asset value at March 31, 1997.
At June 30, 1997, the Fund had $162,946,797 of its assets invested in
portfolio securities of 25 companies, and has committed to invest up to an
additional $4,140,500 in three of such companies and $5,250,000 in two new
companies under certain conditions. Management believes current temporary cash
investments, anticipated future investment income, proceeds from borrowings and
proceeds from the sale of existing portfolio securities are sufficient to
finance these commitments. At June 30, 1997, the Fund had $18,150,000
outstanding on a $30,000,000 revolving line of credit loan from a bank.
Subsequent to June 30, 1997, $16,350,000 of such amount was repaid to the bank.
Net cash used by operating activities was $815,306 and $1,002,865 for
the six months ended June 30, 1997 and 1996, respectively. An increase in
interest received from portfolio companies in 1997 accounted for the majority of
the increase in cash provided by operating activities.
At June 30, 1997, the Fund had $100,035,828 of its total assets of
$263,496,931 invested in temporary cash investments consisting of money market
securities. This amount includes proceeds from a $90,000,000 revolving line of
credit to a bank that is utilized to enable the Fund to achieve adequate
diversification to maintain its pass-through tax status as a regulated
investment company. Such amount was repaid to the bank on July 1, 1997.
The Fund has the ability to borrow funds and issue forms of
indebtedness, subject to certain restrictions. Net investment income and net
realized gains from the sales of portfolio investments are intended to be
distributed at least annually, to the extent such amounts are not reserved for
payment of contingencies or to make follow-on or new investments.
The Fund reserves the right to retain net long-term capital gains in
excess of net short-term capital losses for reinvestment or to pay contingencies
and expenses. Such retained amounts, if any, will be taxable to the Fund as
long-term capital gains and shareholders will be able to claim their
proportionate
19
share of the federal income taxes paid by the Fund on such gains as a credit
against their own federal income tax liabilities. Stockholders will also be
entitled to increase the adjusted tax basis of their Fund shares by the
difference between their undistributed capital gains and their tax credit.
RESULTS OF OPERATIONS
INVESTMENT INCOME AND EXPENSE
Net investment loss after all expenses amounted to $1,232,251 and
$4,131,097 for the six months ended June 30, 1997 and 1996, respectively. The
large net investment loss in 1996 was primarily attributable to the accrual of
$1,107,163 in management incentive fees and $2,778,916 in deferred management
incentive fees related to the realized gains from the sales of portfolio
securities of $5,629,207 and the increase in the net unrealized appreciation of
portfolio securities of $13,801,192 in 1996. Income from portfolio securities
increased to $1,403,589 in 1997 as compared to $1,301,835 in 1996, due to the
increase in amounts invested in interest-bearing portfolio securities during
1997 as compared to 1996.
Professional fees increased from $89,080 during the six months ended
June 30, 1996, to $327,344 during the six months ended June 30, 1997, and
Mailing, printing and other expenses increased from $57,149 during the six
months ended June 30, 1996, to $116,291 during the six months ended June 30,
1997. Such increases were primarily due to the costs associated with the Special
Meeting of Stockholders held on April 9, 1997. The costs included the
independent third party appraisal of the Fund's investments in portfolio
securities and the printing and mailing of the proxy as well as the amended
proxy.
Interest expense decreased to $225,773 in 1997 as compared to $439,170
in 1996, due to the decrease of the average daily balances outstanding on the
lines of credit to $4,443,204 during the six months ended June 30, 1997, from
$9,256,481 in 1996.
The Management Company receives management fee compensation at an annual
rate of 2% of the net assets of the Fund. Such fees amounted to $1,296,677 and
$816,830 for the six months ended June 30, 1997 and 1996, respectively. The
increase in 1997 is due to the $40,084,770 increase in net assets from
operations during the six months ended June 30, 1997 and the $11,210,529
increase from the issuance of common stock in payment of the deferred management
incentive fee.
The Management Company also received or reimbursed a management
incentive fee equal to 20% of net realized capital gains less unrealized capital
depreciation, computed on a cumulative basis over the life of the Fund.
Management incentive fees of $55,824 and $1,107,163 were accrued during the six
months ended June 30, 1997 and 1996, respectively. Deferred management incentive
fee expense for the six months ended June 30, 1997 and 1996 totaled $426,501 and
$2,778,916, respectively. Pursuant to the vote of the stockholders at a special
meeting held on April 9, 1997 ("Special Meeting"), the Fund entered into a new
management agreement with the Management Company which eliminates incentive fees
based on capital gains. The deferred management incentive fee was reflected as
an expense of the Fund when there was an increase in the Fund's net unrealized
appreciation of portfolio securities and was reflected as a reduction in expense
to the Fund when there was a decrease in the Fund's net appreciation of the
portfolio securities. The deferred management incentive fees were not paid until
such appreciation was realized. However, pursuant to the vote of the
stockholders at the Special Meeting, the deferred incentive fee of $11,210,529
at March 31, 1997, was paid on May 15, 1997 by the issuance of 459,973
unregistered shares of common stock of the Fund. The number of shares issued was
determined by dividing the deferred incentive fee by $24.37 per share, the net
asset value per share at March 31, 1997.
20
REALIZED GAINS AND LOSSES ON SALES OF PORTFOLIO SECURITIES
During the six months ended June 30, 1997 the Fund had net realized
losses of $1,475,666 from the sale of investments in three portfolio companies.
The Fund sold its investment in Midway Airlines for $271,000 realizing a net
capital loss of $3,943,226, sold its investment in David's Supermarkets for
$5,546,800 realizing a net capital gain of $1,477,350 and sold 116,865 shares of
Allied Waste Industries, Inc. for $1,600,678 realizing a net capital gain of
$990,210.
During the six months ended June 30, 1996, the Fund realized net capital
gains of $5,629,207 from the sale or disposition of securities of four portfolio
companies. The Fund sold 233,044 shares of Allied Waste Industries, Inc. common
stock for $1,563,678, realizing a capital gain of $461,919, 96,000 shares of
Garden Ridge Corporation common stock for $4,719,360 realizing a capital gain of
$4,343,372 and 32,789 shares of Tech-Sym Corporation for $1,029,901, realizing a
capital gain of $911,656. In addition, the Fund realized a capital loss of
$87,740 on its investment in Sports & Leisure, Inc. which filed for Chapter 11
bankruptcy in February 1996.
UNREALIZED APPRECIATION AND DEPRECIATION OF PORTFOLIO SECURITIES
Net unrealized appreciation on investments increased $42,792,687 during
the six months ended June 30, 1997, from $41,671,464 to $84,464,151. Such net
increase resulted from increases in the estimated fair value of securities of
fourteen of the Fund's portfolio companies aggregating $39,106,961, a decrease
in the estimated fair value of securities of two portfolio companies of $542,500
and the transfer of $4,228,226 in net unrealized depreciation to net realized
losses.
Net unrealized appreciation on investments increased $13,801,192 during
the six months ended June 30, 1996, from $7,975,268 to $21,776,460. Such net
increase resulted from increases in the estimated fair value of securities of
eight of the Fund's portfolio companies aggregating $17,134,442, the decrease in
the estimated fair value of the securities of one of the Fund's portfolio
companies aggregating $188,014 and the transfer of $3,145,236 in net unrealized
appreciation to net realized gains from the sale of investments in three
companies.
DIVIDENDS
The Fund declared no dividends during the six months ended June 30, 1997
and 1996.
PORTFOLIO INVESTMENTS
During the six months ended June 30, 1997, the Fund invested $13,714,700
in five new companies and made follow-on investments of $4,382,066 in five
portfolio companies, including $651,982 in accrued interest and dividends
received in the form of additional portfolio securities. In addition, the Fund
realized a net capital loss of $1,475,666 during the six months ended June 30,
1997.
In January 1997, the Fund rolled its $763,747, 12% subordinated
promissory note along with $130,136 of accrued interest due from WMW Industries,
Inc. into a new $893,883, 12% subordinated promissory note.
In February 1997, the Fund acquired 1,370,000 shares of common stock and
45,100 shares of preferred stock of Container Acquisition, Inc. ("CAI") for
$1,370,000 and $4,510,000, respectively. In addition, the Fund paid $1,000 for
warrants to buy 370,588 shares of common stock for $.01 per share through
February 2007. CAI is a logistics and maintenance services company serving
owners of
21
international shipping containers. Through June 30, 1997, the Fund received an
additional 1,516 shares of preferred stock of CAI in payment for $151,600 of
dividends on the preferred stock.
In February 1997, the Fund acquired an additional 3,500 shares of
preferred stock of Sovereign Business Forms, Inc. ("Sovereign") for $350,000,
which allowed Sovereign to acquire its third company in the business forms
manufacturing business.
In March 1997, the Fund acquired 1,030,000 shares of Series B3 preferred
stock of BSI Holdings, Inc. ("BSI") for $1,030,000, and received warrants to
acquire 18,540 shares of BSI common stock for $50 per share. Such investment
allowed BSI to complete its merger into Sun Sportswear, Inc., a publicly traded
company. In conjunction with the merger of BSI into Sun, the combined company
was renamed Brazos Sportswear, Inc. ("Brazos") and trades on the NASDAQ National
Market under the symbol BRZS. In exchange for each share of common stock of BSI,
the Fund received 7.5824504 shares of Brazos common stock, its preferred stocks
of BSI were exchanged for similar preferred stocks of Brazos, and its warrants
were adjusted to reflect the exchange ratio used in the merger. In addition,
through June 30, 1997, the Fund has received an additional 258,035, 87,754 and
24,457 shares of Series B1, B2 and B3 preferred stock, respectively, in payment
of $370,246 in dividends on the preferred stock.
In March 1997, the Fund advanced $250,000 to Hot & Cool Holdings, Inc.
in exchange for a 10% subordinated promissory note to allow Hot & Cool to
acquire additional equipment. In April 1997, the Fund advanced $850,000 to Hot &
Cool Holdings, Inc. in the form of a 10% promissory note and received warrants
to buy 8,729 shares of Hot & Cool Holdings, Inc. common stock for $27.28 per
share.
In April 1997, the Fund advanced $1,250,000 to Cardiovascular Ventures,
Inc. in the form of a 10% promissory note and invested $84 in warrants to buy
83,956 shares of Cardiovascular Ventures, Inc. common stock for $3 per share.
In April 1997, the Fund acquired 9,000 shares of common stock and 4,500
shares of 8% preferred stock of Healthcare Technology Delivery, Inc. ("HTD") for
$50,000 and $450,000, respectively. HTD was formed to acquire FutureTech, Inc.
and Medical Companies Alliance, Inc. In addition, the Fund acquired 300,000
shares of convertible preferred stock of AVIAN Healthcare Corporation ("AVIAN")
for $300,000 and advanced $875,000 to AVIAN under a $2,200,000 prime +1/2%
promissory note. AVIAN was formed to create a leading national distributor of
medical products and related services to the health care market, principally
hospitals and surgical and diagnostic centers.
In May 1997, the fund acquired 32,000 shares of common stock and 19,680
shares of preferred stock of Atlas Acquisition, Inc. ("AAI") for $32,000 and
$1,968,000, respectively. The Fund previously recorded $337,500 of such amount
as a "Deposit on pending investment" in the accompanying balance sheet at March
31, 1997. AAI was formed to acquire Atlas Supply, Inc., a 68 year old
distributor of "Atlas" branded tires, batteries and accessories sold primarily
to the auto repair and full service gas station markets.
In June, 1997, the Fund acquired 35,000 shares of common stock of CRC
Holdings, Corp. for $3,199,000 and invested $959,700 in a 12% subordinated
promissory note. CRC Holdings, Corp. was formed to acquire CRC Evans Pipeline
International, Inc. which designs, manufactures and services specialized
pipeline construction and automatic welding equipment, which it rents and sells
worldwide.
During the six months ended June 30, 1996, the Fund invested $8,600,000
in two new Portfolio Companies and made follow-on investments in eight portfolio
companies of $5,761,698, including $435,679 in accrued interest and dividends
received in the form of additional portfolio securities and $750,000 of common
stock received through the net exercise of common stock warrants.
22
Of the companies in which the Fund has investments at June 30, 1997,
only Allied Waste Industries, Inc., American Residential Services, Inc., Brazos
Sportswear, Inc., Coach USA, Inc., Drypers Corporation, Garden Ridge
Corporation, NCI Building Systems, Inc. and Paracelsus Healthcare Corporation,
Inc. are publicly held. The others each have a small number of shareholders and
do not generally make financial information available to the public. However,
each company's operations and financial information are reviewed by Management
to determine the proper valuation of the Fund's investment.
SUBSEQUENT EVENTS
Subsequent to June 30, 1997, the Fund sold 96,035 shares of American
Residential Services, Inc. for $2,186,928, realizing a net capital gain of
$2,130,100 on such sale.
Subsequent to June 30, 1997, the Fund repaid a net $106,350,000 of notes
payable to the bank.
In July 1997, the Fund invested $2,000,000 in a 10% senior subordinated
promissory note of J & J Rental Services, Inc. Pursuant to such investment, the
Fund received warrants to buy 22,500 and 10,715 shares of J & J Rental Services,
Inc. common stock for $.0129 and $.01 per share, respectively, through June 30,
2007. J & J Rental Services, Inc. is a industrial and construction equipment
business. In addition, the Fund received warrants to buy 22,500 and 10,715
shares of J & J Realty, Inc. common stock for $.0129 and $.01 per share
respectively, through June 30, 2007. J & J Realty, Inc. owns the real estate on
which J & J Rental Services, Inc. operates.
In July and August 1997, the Fund advanced $90,000 to Texrock Radio,
Inc., in connection with a pending investment in the radio industry.
On August 1, 1997, the Fund sold its investment in Industrial Equipment
Rentals, Inc. for $6,646,244 realizing a capital gain of $4,279,544. In
addition, under certain circumstances, the Fund could receive an additional
$634,984 in proceeds from the sale, which was deposited into an escrow account.
Such additional amount would be recognized as additional capital gains when
received.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Fund held a special meeting of shareholders on April 9, 1997. At the
meeting, shareholders voted on the approval and adoption of a new management
agreement between the Fund and the Management Company, authorization of the
payment by the Fund to the Management Company of the deferred incentive fee on
the balance sheet of the Fund in shares of the Fund's common stock valued at net
asset value and approval of the Equus II Incorporated 1997 Stock Incentive Plan.
23
The table below sets forth, as to all other matters voted upon, the
number of shares voted for the proposal, shares voted against each proposal and
shares that abstained.
VOTES VOTES SHARES
PROPOSAL FOR AGAINST ABSTAINED
-------- --------- ------- ---------
Approval of new management
agreement ......................... 1,810,923 527,046 91,074
Authorization of the payment of
the deferred incentive compensation 1,771,664 563,334 94,046
Approval of the Stock Incentive Plan 1,737,754 603,512 88,038
All proposals were approved.
The Fund held its annual meeting of shareholders on May 20, 1997. At the
meeting, shareholders voted on the election of the persons named in the Proxy
Statement as Directors of the Fund for the terms described therein and the
ratification of the selection of Arthur Andersen LLP as the Fund's independent
auditors for the fiscal year ending December 31, 1997.
The table set forth below shows, with respect to each nominee, the
number of shares voted for such nominee and shares for which authority was
withheld:
NAME OF NOMINEE FOR WITHHELD
--------------- --------- --------
Sam P. Douglass 3,170,553 142,242
Gregory J. Flanagan 3,169,753 143,042
Robert L. Knauss 3,163,771 149,024
Nolan Lehmann 3,170,553 142,242
Gary R. Petersen 3,170,221 142,574
John W. Storms 3,169,753 143,042
Dr. Francis D. Tuggle 3,165,419 147,376
Dr. Edward E. Williams 3,169,858 142,937
The table below sets forth, as to all other matters voted upon, the
number of shares voted for the proposal, against the proposal and shares that
abstained.
PROPOSAL FOR AGAINST ABSTAIN
-------- -------- ------- -------
Ratification of auditors 3,181,630 92,395 38,770
All nominees to the Registrant's Board of Directors were elected and the
Fund's selection of independent auditors was ratified.
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ITEM 6. EXHIBITS AND REPORTS ON FORM 8K
(a) Exhibits
10. Material Contracts
None
b. REPORTS ON FORM 8 - K
No reports on Form 8-K were filed by the Fund during the period for which this
report is filed.
SIGNATURE
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has caused this report to be signed by the
undersigned, thereunto duly authorized.
EQUUS II INCORPORATED
By: \S\ NOLAN LEHMANN
Nolan Lehmann, President,
Principal Financial and
Accounting Officer
Date: August 13, 1997
25