================================================================================
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
/X/ Quarterly Report Pursunt to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the Quarter Ended June 30, 1998.
/ / Transition Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
Commission File Number: ____________
AMERICAN CAPITAL STRATEGIES, LTD.
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 52-145-1377
------------------------------- --------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
3 Bethesda Metro Center, Suite 860
Bethesda, Maryland 20814
---------------------------------------
(Address of principal executive office)
(301) 951-6122
-------------------------------
(Registrant's telephone number,
including area code)
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 and (2) has been subject to such filing requirements for
the past 90 days. Yes |X|. No |_|.
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date. The number of shares of the
issuer's Common Stock, $.01 par value, outstanding as of August 7, 1998 was
11,068,767.
================================================================================
<PAGE>
AMERICAN CAPITAL STRATEGIES, LTD.
TABLE OF CONTENTS
Part I. Financial Information
Item 1. Financial Statements
Balance Sheets as of
June 30, 1998 (Unaudited) and December 31, 1997............. 1
Schedules of Investments as of
June 30, 1998 (Unaudited) and December 31, 1997............. 2
Statements of Operations (Unaudited)
for the three and six months ended June 30, 1998 and 1997... 4
Statement of Shareholders' Equity (Unaudited) for the six months
ended June 30, 1998......................................... 5
Statements of Cash Flows (Unaudited)
for the six months ended June 30, 1998 and 1997............. 6
Notes to Unaudited Financial Statements............................ 7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operation
Introduction....................................................... 9
Results of Operations.............................................. 9
Financial Condition, Liquidity and Capital Resources............... 10
Part II. Other Information........................................... 11
Item 1. Legal Proceedings........................................... 11
Item 2. Changes in Securities....................................... 11
Item 3. Defaults upon Senior Securities............................. 11
Item 4. Submission of Matters to a Vote of Security Holders......... 11
Item 5. Other Information........................................... 11
Item 6. Exhibits and Reports on Form 8-K............................ 12
Signature.................................................................. 13
<PAGE>
PART I. - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
AMERICAN CAPITAL STRATEGIES, LTD.
BALANCE SHEETS
(In thousands except per share data)
<TABLE>
<CAPTION>
(Unaudited)
June 30, December 31,
1998 1997
---- ----
<S> <C> <C>
Assets
Investments at fair value (cost or initial value of $166,373 and $133,274,
respectively) ............................................................ $166,534 $133,415
Cash and cash equivalents .................................................. 1,717 8,862
Investment in unconsolidated operating subsidiary .......................... 7,081 6,869
Due from unconsolidated operating subsidiary ............................... -- 861
Interest receivable ........................................................ 686 644
Other ...................................................................... 137 54
-------- --------
Total assets ............................................................... $176,155 $150,705
======== ========
Liabilities and Shareholders' Equity
Accounts payable and accrued liabilities ................................... $ 134 $ 53
Due to unconsolidated operating subsidiary ................................. 212 --
Short-term note payable .................................................... 24,742 --
-------- --------
Total liabilities .......................................................... 25,088 53
Shareholders' equity:
Undesignated preferred stock, $0.01 par value, 5,000 shares
authorized, 0 issued and outstanding ................................... -- --
Common stock, $.01 par value, 20,000 shares authorized,
and 11,069 issued and outstanding ...................................... 111 111
Capital in excess of par value ........................................... 144,940 144,940
Undistributed net realized earnings (deficit) ............................ 340 (55)
Unrealized appreciation of investments ................................... 5,676 5,656
-------- --------
Total shareholders' equity ................................................. 151,067 150,652
-------- --------
Total liabilities and shareholders' equity ................................. $176,155 $150,705
======== ========
</TABLE>
See accompanying notes.
1
<PAGE>
AMERICAN CAPITAL STRATEGIES, LTD.
SCHEDULE OF INVESTMENTS
(Unaudited)
(In thousands except per share data)
June 30, 1998
<TABLE>
<CAPTION>
Industry Cost Fair Value
-------- ---- ----------
<S> <C> <C> <C>
Senior Debt--4.5%
- -----------------
Four-S Baking Company ...................................................... Baking $ 1,546 $ 1,546
BIW Connector Systems, LLC ................................................. Manufacturing 3,566 3,566
Chance Coach, Inc. ......................................................... Bus Manufacturer 1,500 1,500
JAG Industries, Inc. ....................................................... Manufacturing 1,200 1,200
-------- --------
Subtotal.................................................................... 7,812 7,812
Subordinated Debt--34.2%
- ------------------------
Four-S Baking Company ...................................................... Baking 1,520 1,520
BIW Connector Systems, LLC ................................................. Manufacturing 6,651 6,651
Westwind Group Holdings, Inc. .............................................. Restaurant 3,070 3,070
JAG Industries, Inc. ....................................................... Manufacturing 2,323 2,323
Specialty Transportation Services, Inc. .................................... Waste Hauler 7,333 7,333
Chance Coach, Inc .......................................................... Bus Manufacturer 8,029 8,029
The L.A. Studios, Inc. ..................................................... Audio Post-Production 2,363 2,363
Decorative Surfaces International, Inc. ..................................... Decorative Paper &
Vinyl Mfg. 10,443 10,443
New Piper Aircraft, Inc. ................................................... Aircraft Manufacturing 17,779 17,779
-------- --------
Subtotal ................................................................... 59,511 59,511
Convertible Preferred Stock--3.0%
- ---------------------------------
Four-S Baking Company 15% dividend convertible into 51 shares of
common stock or 10.89% of Co. ............................................ Baking 2,549 2,549
Chance Coach, Inc 12% dividend convertible into 20% of Co. ................. Bus Manufacturer 2,000 2,000
Decorative Surfaces International, Inc. 14.5% dividend convertible into 2.9%
of Co. ................................................................... Decorative Paper &
Vinyl Mfg. 595 595
-------- --------
Subtotal ................................................................... 5,144 5,144
Common Stock Warrants(1)--8.4%
- ------------------------------
Four-S Baking Company 15 shares 3.26% of Co. ............................... Baking 462 602
BIW Connector Systems, LLC 8% of LLC ....................................... Manufacturing 652 652
Westwind Group Holdings, Inc. 5% of Co. .................................... Restaurant 350 350
JAG Industries, Inc. 75% of Co. ............................................ Manufacturing 505 505
Specialty Transportation Services, Inc. 9.1% of Co. ........................ Waste Hauler 694 694
Chance Coach, Inc 43.7% of Co. ............................................. Bus Manufacturer 4,041 4,041
The L.A. Studios, Inc. 17% of Co. .......................................... Audio Post-Production 902 902
Decorative Surfaces International, Inc. 42.3% of Co. ....................... Decorative Paper &
Vinyl Mfg. 4,571 4,571
New Piper Aircraft, Inc. 4% of Co. ......................................... Aircraft Manufacturing 2,231 2,231
-------- --------
Subtotal ................................................................... 14,408 14,548
Common Stock(1)--1.3%
- ---------------------
Four-S Baking Company (2) .................................................. Baking 966 966
Specialty Transportation Services, Inc. 9.1% of Co. ........................ Waste Hauler 500 500
Chance Coach, Inc 18.3% of Co. ............................................. Bus Manufacturer 706 706
-------- --------
Subtotal ................................................................... 2,172 2,172
-------- --------
Subtotal--non-publicly traded securities--51.4% ............................ 89,047 89,187
Government Securities--44.5%
- ----------------------------
FHLM Discount Note due 7/24/98 ............................................. 9,965 9,966
FNMA Discount Note due 7/10/98 ............................................. 9,986 9,986
FHLB Discount Note due 8/20/98 ............................................. 14,885 14,889
FNMA 5.71% due 9/9/98 ...................................................... 14,998 15,014
FHLMC Discount Note due 7/2/98 ............................................. 24,992 24,992
SLMA Discount Note due 7/1/98 .............................................. 2,500 2,500
-------- -------
Total Investments .......................................................... 77,326 77,347
Investment in Unconsolidated Operating Subsidiary--4.1%
- ------------------------------------------------------- Investment
ACS Capital Investments Corporation(1)(2)--100% of Co. ..................... Banking 403 7,081
-------- --------
Totals ..................................................................... $166,776 $173,615
======== ========
</TABLE>
- ----------
(1) Non-income producing
(2) Affiliate
See accompanying notes.
2
<PAGE>
AMERICAN CAPITAL STRATEGIES, LTD.
SCHEDULE OF INVESTMENTS
(In thousands except per share data)
December 31, 1997
<TABLE>
<CAPTION>
Industry Cost Fair Value
-------- ---- ----------
<S> <C> <C> <C>
Senior Debt--4.1%
- -----------------
Four-S Baking Company ...................................................... Baking $ 1,825 $ 1,825
BIW Connector Systems, LLC ................................................. Manufacturing 3,890 3,890
-------- --------
Subtotal ................................................................... 5,715 5,715
Subordinated Debt--7.9%
- -----------------------
Four-S Baking Company ...................................................... Baking 1,492 1,492
BIW Connector Systems, LLC ................................................. Manufacturing 6,350 6,350
Westwind Group Holdings, Inc. .............................................. Restaurant 3,206 3,206
-------- --------
Subtotal ................................................................... 11,048 11,048
Convertible Preferred Stock--1.6%
- ------------------------------------
Four-S Baking Company 15% dividend convertible into 51 shares of
common stock or 10.89% of Co. ............................................ Baking 2,303 2,303
Common Stock Warrants(1)--1.1%
- ---------------------------------
Four-S Baking Company 15 shares 3.26% of Co. (2) ........................... Baking 461 577
BIW Connector Systems, LLC 8% of LLC ....................................... Manufacturing 652 652
Westwinds Group Holdings, Inc. 5% of Co. ................................... Restaurant 350 350
-------- --------
Subtotal ................................................................... 1,463 1,579
-------- --------
Subtotal--non-publicly traded securities--14.7% ............................ 20,529 20,645
Government Securities--80.4%
- ----------------------------
FHLB Discount Note due 2/4/98 .............................................. 20,969 20,982
FHLB Discount Note due 3/6/98 .............................................. 10,893 10,898
FHLB Discount Note due 4/1/98 .............................................. 9,865 9,868
FNMA Discount Note due 4/24/98 ............................................. 6,877 6,883
FFCB 5.90% due 6/2/98 ...................................................... 20,017 20,016
FHLB Discount Note due 6/8/98 .............................................. 14,646 14,644
FHLB Discount Note due 8/20/98 ............................................. 14,483 14,479
FNMA 5.71% due 9/9/98 ...................................................... 14,995 15,000
-------- -------
Total Investments .......................................................... 112,745 112,770
Investment in Unconsolidated Operating Subsidiary--4.9%
- ------------------------------------------------------- Investment
ACS Capital Investments Corporation(1)(2)--100% of Co. ..................... Banking 403 6,869
-------- --------
Totals ..................................................................... $133,677 $140,284
======== ========
</TABLE>
- ----------
(1) Non-income producing
(2) Affiliate
See accompanying notes.
3
<PAGE>
AMERICAN CAPITAL STRATEGIES, LTD.
STATEMENTS OF OPERATIONS
(Unaudited)
(In thousands except per share data)
<TABLE>
<CAPTION>
Six Months Three Months | | Six Months Three Months
Ended Ended | | Ended Ended
June 30, June 30, | | June 30, June 30,
1998 1998 | | 1997 1997
------------- ------------- | | ------------ ------------
(Note 4) (Note 4) | |
<S> <C> <C> <C> <C>
Operating Income | |
Interest income ......................................... $5,841 $ 3,161 | | -- --
Loan fees ............................................... 1,135 523 | | --
Financial advisory fees ................................. -- -- | | $860 $346
Financial performance fees .............................. -- -- | | 744 681
Other ................................................... -- -- | | 338 240
----------- ----------- | | ------ ------
Total operating income .................................. 6,976 3,684 | | 1,942 1,267
| |
Operating Expenses | |
Salaries and benefits ................................... 378 208 | | 627 373
General, administrative and other ....................... 437 164 | | 1,012 679
----------- ----------- | | ------ ------
Total operating expenses ................................ 815 372 | | 1,639 1,052
----------- ----------- | | ------ ------
Operating income before equity in earnings of | |
unconsolidated operating subsidiary .................. 6,161 3,312 | | 303 215
Equity in earnings of unconsolidated operating | |
subsidiary ............................................ 212 111 | | -- --
----------- ----------- | | ------ ------
Net operating income .................................... 6,373 3,423 | | 303 215
Change in unrealized appreciation of investments ........ 20 (8) | | 5,332 5,120
----------- ----------- | | ------ ------
Income before income taxes .............................. 6,393 3,415 | | 5,635 5,335
Provision for income taxes .............................. -- -- | | 2,151 2,035
----------- ----------- | | ------ ------
Net increase in shareholders' equity resulting from | |
operations ............................................ $ 6,393 $ 3,415 | | $3,484 $3,300
=========== =========== | | ====== ======
| |
Net operating income per share Basic ......... $ 0.58 $ 0.31 | |
Diluted ....... $ 0.55 $ 0.29 | |
| |
Net increase in shareholders' equity Basic ......... $ 0.58 $ 0.31 | |
resulting from operations per share Diluted ....... $ 0.55 $ 0.29 | |
| |
Weighted average shares of common Basic ......... 11,069 11,069 | |
stock outstanding Diluted ....... 11,585 11,689 | |
</TABLE>
See accompanying notes.
4
<PAGE>
AMERICAN CAPITAL STRATEGIES, INC.
STATEMENT OF SHAREHOLDERS' EQUITY(1)
(In thousands)
<TABLE>
<CAPTION>
Common Stock Capital Undistributed Unrealized Total
------------------- in Excess of Net Realized Appreciation Shareholders'
Shares Amount Par Value Earnings (deficit) of Investments Equity
------ ------ --------- ------------------ -------------- ------
<S> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1997.... 11,069 $111 $ 144,940 $ (55) $ 5,656 $150,652
Net increase in shareholders'
equity resulting from
operations.................... 6,373 20 6,393
Distributions................... (5,978) (5,978)
------- ---- --------- --------- -------- --------
Balance at June 30, 1998........ 11,069 $111 $ 144,940 $ 340 $ 5,676 $151,067
======= ==== ========= ========= ======== ========
</TABLE>
- ----------
(1) There are no adjustments to net increase in shareholders' equity resulting
from operations to determine comprehensive income for the six months
ended June 30, 1998. For the three months ended June 30, 1998, comprehensive
income was $3,415.
5
<PAGE>
AMERICAN CAPITAL STRATEGIES, LTD.
STATEMENTS OF CASH FLOWS
(Unaudited)
(In thousands)
<TABLE>
<CAPTION>
Six Months | | Six Months
Ended | | Ended
June 30, | | June 30,
1998 | | 1997
---------- | | ----------
<S> <C> <C>
Operating activities | |
Net increase in shareholders' equity resulting | |
from operations .................................... $ 6,393 | | $3,484
Adjustments to reconcile net increase in | |
shareholders' equity resulting from | |
operations to net cash provided by | |
operating activities: | |
Depreciation and amortization .................. -- | | 22
Unrealized appreciation of investments.......... (20) | | (5,332)
Net amortization of securities ................. (1,347) | | --
Amortization of loan discounts ................. (293) | | --
Amortization of deferred finance costs ......... -- | | 2
Provision for deferred income taxes ............ -- | | 2,097
ESOP contribution .............................. -- | | 7
Increase in interest receivable ................ (42) | | --
Provision for doubtful accounts ................ -- | | (177)
Decrease in due from unconsolidated | |
operating subsidiary ......................... 1,073 | | --
Decrease in accounts receivable ................ -- | | 423
Increase in other assets ....................... (83) | | (78)
Increase (decrease) in accounts payable and | |
accrued liabilities .......................... 81 | | (202)
Gain of unconsolidated operating subsidiary..... (212) | | --
-------- | | ------
Net cash provided by operating activities .............. 5,550 | | 246
Investing activities | |
Proceeds from sale or maturity of investments ........ 84,080 | | 60
Principal repayments ................................. 713 | |
Purchase of investments .............................. (68,810) | | (433)
Purchase of securities................................ (47,412) | | --
Purchase of property and equipment, net of disposals.. -- | | (21)
-------- | | ------
Net cash used in investing activities .................. (31,429) | | (394)
Financing activities | |
Proceeds from notes payable........................... 24,712 | | 590
Decrease in due to related parties ................... -- | | (39)
Distributions ........................................ (5,978) | | --
-------- | | ------
Net cash provided by financing activities .............. 18,734 | | 551
-------- | | ------
Net increase (decrease) in cash and cash equivalents ... (7,145) | | 403
Cash and cash equivalents at beginning of period ....... 8,862 | | 323
-------- | | ------
Cash and cash equivalents at end of period ............. $ 1,717 | | $ 726
======== | | ======
Supplemental disclosure:
Non-cash transaction:
Dividends on preferred stock declared ................ -- $81
</TABLE>
See accompanying notes.
6
<PAGE>
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO FINANCIAL STATEMENTS
(Unaudited)
(In thousands except per share data)
Note 1. Unaudited Interim Financial Statements
Interim financial statements of American Capital Strategies, Ltd. (the Company)
are prepared in accordance with generally accepted accounting principles
("GAAP") for interim financial information and pursuant to the requirements for
reporting on Form 10-Q and Article 10 of Regulation S-X. Accordingly, certain
disclosures accompanying annual financial statements prepared in accordance with
GAAP are omitted. In the opinion of management, all adjustments, consisting
solely of normal recurring accruals, necessary for the fair presentation of
financial statements for the interim periods have been included. The current
period's results of operations are not necessarily indicative of results that
ultimately may be achieved for the year. The interim financial statements and
notes thereto should be read in conjunction with the financial statements and
notes thereto included in the Company's Form 10-K/A, as filed with the
Securities and Exchange Commission.
Note 2. Organization
American Capital Strategies, Ltd. is a Delaware corporation formed in 1986 to
provide merchant banking services to and invest in small and medium sized
businesses.
On August 29, 1997, the Company completed an initial public offering (IPO) of
10,382 shares of common stock, and elected to be treated as a Business
Development Company under the Investment Company Act of 1940, as amended. On
October 1, 1997, the Company began operations so as to qualify to be taxed as a
regulated investment company (RIC) as defined in Subtitle A, Chapter 1, under
Subchapter M of the Internal Revenue Code. As contemplated by these
transactions, the Company materially changed its business plan and format from
primarily structuring and arranging financing for buyout transactions on a fee
for services basis to being a lender to and investor in small and medium sized
companies. As a result of the changes, the Company's predominant source of
operating income has changed from financial performance and advisory fees to
interest and dividends earned from investing the Company's assets in debt and
equity of businesses. The Company's investment objectives are to achieve current
income from the collection of interest and dividends, as well as long-term
growth in its shareholders' equity through appreciation in value of the
Company's equity interests. The Company also provides financial advisory
services to businesses through ACS Capital Investments Corporation (CIC), a
wholly-owned subsidiary. The Company is headquartered in Bethesda, Maryland, and
has offices in New York, Boston, Pittsburgh, San Francisco, and Savannah.
Note 3. Investment in Unconsolidated Operating Subsidiary
CIC is an operating subsidiary of the Company and is accounted for under the
equity method effective October 1, 1997. The investment in CIC is carried at
fair value as determined by the Board of Directors.
Condensed financial information for CIC at June 30, 1998 and for the three and
six months then ended was as follows:
Assets
Investments in portfolio companies,
at fair value.................................. $10,232
Other assets, net................................ 1,691
-------
Total assets................................... $11,923
=======
Liabilities and Shareholder's Equity
Deferred income taxes............................ $ 3,405
Other liabilities................................ 1,476
Shareholder's equity............................. 7,042
-------
Total liabilities and shareholder's equity......... $11,923
=======
Three Six
Months Months
Ended Ended
----- -----
Total revenue...................................... $ 2,102 $ 3,880
Operating expense.................................. 1,917 3,462
------- -------
Net operating income............................. 185 418
Unrealized depreciation of investments............. 33 129
Income taxes....................................... 41 77
------- -------
Net income......................................... $ 111 $ 212
======= =======
7
<PAGE>
AMERICAN CAPITAL STRATEGIES, LTD.
NOTES TO FINANCIAL STATEMENTS--(Continued)
(Unaudited)
(In thousands except per share data)
Note 4. Earnings Per Share
The following table sets forth the computation of basic and diluted earnings per
share for the three and six months ended June 30, 1998. For all other periods,
earnings per share is not presented since it is not considered meaningful due to
the IPO and reorganization of the Company as a RIC.
<TABLE>
<CAPTION>
Three Months Ended Six Months Ended
June 30, 1998 June 30, 1998
------------------ ----------------
<S> <C> <C>
Numerator for basic and diluted
Net increase in shareholders' equity
resulting from operations.............................. $ 3,415 $ 6,393
======= =======
Denominator for basic-weighted
average shares......................................... 11,069 11,069
Employee stock options................................... 464 386
Warrants................................................. 156 130
------- -------
Dilutive potential common shares......................... 620 516
------- -------
Denominator for diluted.................................. 11,689 11,585
======= =======
Basic earnings per share................................. $ 0.31 $ 0.58
Diluted earnings per share............................... $ 0.29 $ 0.55
</TABLE>
Note 5. New Accounting Pronouncement
As of January 1, 1998, the Company adopted Statement of Financial Accounting
Standards Number 130, "Reporting Comprehensive Income" (SFAS 130). SFAS
established new rules for the reporting and display of comprehensive income and
its components; however, the adoption of this statement had no impact on the
Company's net increase in shareholders' equity resulting from operations or
shareholders' equity.
Note 6. Income Taxes
At the time of the IPO, the Company requested a private letter ruling from the
Internal Revenue Service to determine the timing of recognition of
built-in-gains established during the time the Company was taxed under Subchaper
C. During the quarter, the Company received a favorable ruling from the IRS
which allows it to defer its built-in-gains under rules similar to Section 1374
of the Code.
Note 7. Short-term Note Payable
On June 30, 1998, the Company borrowed $24,742 secured by government securities
with a fair value of $27,492. The interest rate on the short-term Note was 6.75%
and the Note was fully repaid on July 2, 1998.
8
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operation
AMERICAN CAPITAL STRATEGIES, LTD.
Management's Discussion and Analysis of Financial Condition and
Results of Operations
(In thousands except per share data)
All statements contained herein that are not historical facts
including, but not limited to, statements regarding anticipated activity are
forward looking in nature and involve a number of risks and uncertainties.
Actual results may differ materially. Among the factors that could cause actual
results to differ materially are the following: changes in the economic
conditions in which the Company operates negatively impacting the financial
resources of the Company; certain of the Company's competitors with
substantially greater financial resources than the Company reducing the number
of suitable investment opportunities offered to the Company or reducing the
yield necessary to consummate the investment; increased costs related to
compliance with laws, including environmental laws; general business and
economic conditions and other risk factors described in the Company's report
filed from time to time with the Securities and Exchange Commission. The Company
cautions readers not to place undue reliance on any such forward looking
statements, which statements are made pursuant to the Private Securities
Litigation Reform Act 1995 and, as such, speak only as of the date made.
The following analysis of the financial condition and results of
operations of the Company should be read in conjunction with the Company's
financial statements and the notes therein. The Company completed an initial
public offering (IPO) of its common stock on August 29, 1997 and on October 1,
1997 began to operate so as to qualify to be taxed as a regulated investment
company (RIC). After the IPO, the Company changed its primary business plan and
format from structuring and arranging financing for buyout transactions on a fee
for services basis to being a lender to and investor in small and medium sized
businesses. As a result of the changes, the Company's predominant source of
operating income has changed from financial performance and advisory fees to
interest and dividends earned from investing the Company's assets in debt and
equity of businesses. Additionally, pursuant to RIC accounting requirements,
effective October 1, 1997, the Company's accounting for its operating
subsidiary, ACS Capital Investments Corp. (CIC), changed from a consolidated
basis to the equity method. The financial results of the Company for the periods
through September 30, 1997 are not comparable to periods commencing October 1,
1997 and are not expected to be representative of the financial results of the
Company in the future. Accordingly, only the post-RIC period is discussed.
Results of Operations
The Company's financial performance as reflected in its Statements of
Operations is composed of three primary elements. The first element is "Net
operating income," which for periods prior to October 1, 1997 (Pre-RIC) is the
difference between the Company's revenue earned from arranging financing for
small and medium sized businesses and other financial advisory work and its
total operating expenses including ESOP contributions, depreciation and interest
expense. For periods prior to October 1, 1997, ESOP contributions represented a
significant component of total operating expenses. All required contributions to
the Company's ESOP have been made by the Company, and further contributions will
be made at the discretion of the Company's Board of Directors. Net operating
income for periods commencing October 1, 1997 (Post-RIC) is primarily the
interest and dividends earned from investing in debt and equity securities, loan
fees and the equity in earnings of its unconsolidated operating subsidiary less
the operating expenses of the Company. The second element is "Change in
unrealized appreciation of investments," which is the net change in the fair
value of the Company's portfolio assets at the end of the period compared with
their fair values at the beginning of the period or their stated costs, as
appropriate. The third element is "Provision for income taxes," which reflects a
statutory tax rate applied to the Company's GAAP pretax income for pre-RIC
periods. Actual taxes paid have historically been lower than the provision
primarily due to the temporary difference of the unrealized appreciation of
investments which has resulted in a deferred tax liability on the Company's
balance sheet. For post-RIC periods, the Company intends to operate so as to
qualify to be taxed as a RIC. As long as the Company qualifies as a RIC, it will
be able to take a deduction against its otherwise taxable income for certain
dividends it pays, allowing it to substantially reduce or eliminate its
corporate-level tax liability. As a result, the provisions for income taxes for
post-RIC periods are expected to be minimal.
9
<PAGE>
Operating results for the three months ended June 30, 1998 are
summarized as follows:
Operating income ........................................... $3,684
Operating expenses ......................................... 372
Equity in earnings of unconsolidated
operating subsidiary ..................................... 111
------
Net operating income ....................................... 3,423
Change in unrealized appreciation
of investments ........................................... 8
------
Net increase in shareholders' equity
resulting from operations ................................ $3,415
======
Total operating income consisted of approximately $523 in loan fees
and $2,163 in interest and dividends on non-publicly traded securities and
$998 in interest on government agency securities, bank deposits and repurchase
agreements. The loan fees were earned as a result of closing four investments in
private companies totaling $39,700 during the period.
Operating expenses for the period consisted of $208 in salaries and
benefits and $164 in general and administrative expenses.
Equity in earnings of unconsolidated operating subsidiary represents
CIC's results. For the three months ended June 30, 1998, CIC's results included
$2,102 of operating income, $1,917 of operating expenses, $33 of unrealized
depreciation of investments and $41 in tax provisions.
The change in unrealized appreciation of investments is determined by
the Company's Board of Directors. The change in unrealized depreciation of
investments for the three month period is $8 which consists of an depreciation
of $8 in the valuation of the government agency securities.
Operating results for the six months ended June 30, 1998 are
summarized as follows:
Operating income ........................................... $6,976
Operating expenses ......................................... 815
Equity in earnings of unconsolidated
operating subsidiary ..................................... 212
------
Net operating income ....................................... 6,373
Change in unrealized appreciation
of investments ........................................... 20
------
Net increase in shareholders' equity
resulting from operations ................................ $6,393
======
Total operating income consisted of approximately $1,135 in loan fees
and $3,370 in interest and dividends on non-publicly traded securities and
$2,471 in interest on government agency securities, bank deposits and repurchase
agreements. The loan fees were earned as a result of closing eight investments
in private companies totaling $69,400 during the period.
Operating expenses for the period consisted of $378 in salaries and
benefits and $437 in general and administrative expenses.
Equity in earnings of unconsolidated operating subsidiary represents
CIC's results. For the six months ended June 30, 1998, CIC's results included
$3,880 of operating income, $3,426 of operating expenses, $129 of unrealized
depreciation of investments and $77 in tax provisions.
The change in unrealized appreciation of investments is determined by
the Company's Board of Directors. The change in unrealized depreciation of
investments for the three month period is $20 which consists of an decrease
of $4 in the valuation of the government agency securities and an increase of
$24 in the valuation of the investments in private companies.
Financial Condition, Liquidity, and Capital Resources
The Company received proceeds of $143,600 in connection with its IPO
which was completed on August 29, 1997. At June 30, 1998, the Company had
$1,717 in cash and cash equivalents and $77,347 in investments in Federal
agency securities. The Company continues to review potential investments in the
debt and equity securities of small and medium sized businesses and the Company
intends to liquidate its Federal agency securities to fund its investments. As a
RIC, the Company is required to distribute annually 90% or more of its net
operating income and net realized short-term capital gains to shareholders.
While the Company will provide shareholders with the option of reinvesting their
distributions in the Company, the Company anticipates having to borrow to obtain
liquidity after the proceeds of the IPO have been fully invested in the debt and
equity of small and medium sized businesses. No assurance can be given that such
liquidity will be obtainable, or obtainable at interest rates favorable to the
Company.
10
<PAGE>
PART II. - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Neither the Company, nor any of the Company's subsidiaries, is currently subject
to any material litigation nor, to the Company's knowledge, is any material
litigation threatened against the Company or any subsidiary, other than routine
litigation and administrative proceedings arising in the ordinary course of
business. Such proceedings are not expected to have a material adverse effect on
the business, financial conditions, or results of operation of the Company or
any subsidiary.
ITEM 2. CHANGES IN SECURITIES
Not applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not Applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
On May 14, 1998 the Company held its Annual Meeting of Stockholders. Four
matters were submitted to the stockholders for consideration.
1. Election of three Directors;
2. Proposal to approve the Company's 1997 Disinterested Director Stock
Option Plan;
3. Proposal to approve Amendment No. 1 to the Company's 1997 Stock
Option Plan; and
4. Ratification of the selection of Ernst & Young LLP as auditors for
the fiscal year ending December 31, 1998.
The results of the shares voted with regard to each of these matters is as
follows:
1. Election of Three Directors:
Director: For Withheld
--------- ----- ----------
David Gladstone 8,710,040 4,683
Robert L. Allbritton 8,710,040 4,683
Landon Butler 8,710,040 4,683
Continuing Directors whose term did not expire at the annual meeting were as
follows: Adam Blumenthal, Neil M. Hahl, Stan Lundine, Philip R. Harper, Stephen
P. Walko and Malon Wilkus.
2. Proposal to approve the Company's 1997 Disinterested Director Stock
Option Plan:
For Against Abstained Broker Non-Votes
---- -------- --------- ----------------
7,302,880 470,274 12,595 927,736
3. Proposal to approve Amendment No. 1 to the Company's 1997 Stock Option Plan:
For Against Abstained Broker Non-Votes
---- ------- --------- ----------------
7,099,038 665,925 20,786 927,736
4. Ratification of the selection of Ernst & Young LLP as auditors for the
fiscal year ending December 31, 1998:
For Against Abstained
---- ------- ---------
8,686,327 15,700 11,458
ITEM 5. OTHER INFORMATION
Not Applicable
11
<PAGE>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
3.1 Articles of Incorporation, incorporated herein by reference to
Exhibit 2.a of the Amendment No. 1 to Form N-2 filed by
American Capital Strategies, Ltd. dated August 12, 1997
(Commission File No. 333-29943).
3.2 By-Laws, incorporated herein by reference to Exhibit 2.b of the
Amendment No. 1 to Form N-2 filed by American Capital
Strategies, Ltd. dated August 12, 1997 (Commission File
No. 333-29943).
4 Instruments defining rights of security holders, including
indentures, incorporated herein by reference to Exhibits 2.d.1
and 2.d.2 of the Amendment No. 1 to Form N-2 filed by American
Capital Strategies, Ltd. on August 12, 1997 (Commission File No.
333-29943).
27 Financial Data Schedule.
b. The registrant has not filed any reports on a Current Report on Form 8-K
during the quarter for which this report 10-Q is filed.
12
<PAGE>
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
AMERICAN CAPITAL STRATEGIES, LTD.
August 14, 1998 By: John R. Erickson
-------------------------
John R. Erickson
Vice President and Chief Financial Officer
13
<TABLE> <S> <C>
<ARTICLE> 6
<LEGEND>
This schedule contains financial information extracted from the financial
statement of American Capital Strategies, Ltd. for the three months ended June
30, 1998 and is qualified in entirety by reference to such financial statements
</LEGEND>
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<NAME> American Capital Strategies, Ltd.
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