Business Context and Reporting Period
Company: EQUUS TOTAL RETURN, INC. (NYSE: EQS)
Filing Type: Form 10-Q (Unaudited)
Reporting Period: Quarter and six months ended June 30, 2015
Business Overview: A Delaware corporation operating as a Business Development Company (BDC) and Regulated Investment Company (RIC). The company invests in debt and equity securities of companies with enterprise values between $5.0 million and $75.0 million, focusing on growth, leveraged buyouts, and special situations. As of June 30, 2015, the company held 12,673,646 shares of common stock outstanding.
Key Financial Metrics
| Metric (in thousands, except per share) | Six Months Ended June 30, 2015 | Six Months Ended June 30, 2014 | Balance Sheet (June 30, 2015) |
|---|---|---|---|
| Total Assets | - | $38,322 | |
| Net Assets | - | $37,985 | |
| Cash and Cash Equivalents | - | $17,977 | |
| Investments in Portfolio Securities (Fair Value) | - | $19,500 | |
| Total Investment Income | $133 | $320 | - |
| Total Expenses | $1,801 | $1,503 | - |
| Net Investment Loss | $(1,668) | $(1,183) | - |
| Net Realized Gain (Loss) | $(2,483) | $660 | - |
| Net Change in Unrealized Appreciation | $5,782 | $1,454 | - |
| Net Increase in Net Assets from Operations | $1,784 | $473 | - |
| Net Asset Value (NAV) per Share | - | $3.00 | |
| Market Price per Share (End of Period) | - | $1.90 | |
| Ratio of Expenses to Average Net Assets | 4.86% | 4.56% | - |
Material Changes vs. Prior Period
- Investment Income Decline: Total investment income dropped from $320,000 in the prior year period to $133,000. This decrease is attributed to the sale of income-producing investments (Spectrum Management, Security Monitor Holdings, and Orco Property Group notes) in the first quarter of 2015.
- Expense Increase: Total expenses rose to $1.8 million from $1.5 million, primarily driven by increased officer and employee bonuses.
- Realized Losses: The company reported a net realized loss of $2.5 million, compared to a gain of $0.7 million in the prior year. The loss was driven by a $2.85 million realized loss on the disposition of Spectrum Management, LLC, partially offset by a $0.37 million gain on the sale of Orco Property Group notes.
- Unrealized Appreciation: A significant net change in unrealized appreciation of $5.8 million occurred, largely due to a $4.7 million increase in the fair value of the PalletOne, Inc. investment and a $0.2 million increase in MVC Capital, Inc. holdings. This was partially offset by a $1.3 million decrease in the value of Equus Energy, LLC due to declining oil prices.
- Debt Repayment: The company repaid a $15.0 million margin loan utilized at year-end 2014 to maintain RIC status. As of June 30, 2015, there were no borrowings under the margin account.
Outlook, Risks, and Contingencies
- Reorganization Plan: The company is pursuing a reorganization pursuant to Section 2(a)(33) of the 1940 Act involving a share exchange with MVC Capital, Inc. (MVC). The goal is to merge or consolidate with MVC or a subsidiary, potentially restructuring Equus as a publicly-traded operating company focused on energy and financial services. MVC has the right to rescind the agreement if a reorganization is not completed within 90 days following the one-year anniversary of the May 14, 2014 agreement.
- Liquidity: Management believes operating cash flow and cash on hand ($18.0 million) are sufficient to meet operating requirements for the next 12 months. The company has no outstanding investment commitments as of June 30, 2015.
- Market Risk: The portfolio is concentrated, with the Energy sector (primarily Equus Energy, LLC) representing 22.4% of net assets. The company is exposed to volatility in oil and gas prices. Additionally, the company trades at a significant discount to NAV (36.6% discount as of June 30, 2015).
- Legal Proceedings: The company settled a lawsuit with Atrium Companies Inc. regarding a former portfolio company (Champion Window) for $500,000 in February 2015. No other material legal proceedings are expected to have a significant effect on financial condition.
- Dividends: The company pays out net investment income and/or realized capital gains on an annual basis as required by the 1940 Act. No dividends were declared in the period.
Investor Verification Checklist
- Reorganization Timeline: Verify the status of the reorganization with MVC Capital, Inc., specifically the deadline for consummating the consolidation to avoid rescission of the Share Exchange Agreement.
- Equus Energy Valuation: Review the sensitivity of the $8.5 million Equus Energy, LLC investment to further declines in oil and gas prices, given the $1.3 million unrealized loss recorded in the period.
- Expense Structure: Monitor the sustainability of the increased expense ratio (4.86%) driven by bonuses and whether internalized management will yield future cost efficiencies.
- NAV Discount: Assess the widening discount of the market price ($1.90) to NAV ($3.00) and its impact on the feasibility of issuing new equity or executing the reorganization.
- Portfolio Concentration: Evaluate the risk associated with the top three holdings (Equus Energy, PalletOne, MVC Capital) which collectively represent a significant portion of the portfolio's fair value.