Item 1. BUSINESS - ------ --------
Technology Funding Secured Investors II (hereinafter referred to as the "Partnership" or the "Registrant") was formed as a California limited partnership on August 31, 1984, and commenced operations on June 4, 1987, with the sale of Units. The business of the Partnership is to provide loans secured by equipment and other assets to new and developing companies and to acquire equity interests in these companies as described in the "Summary of the Offering" and "Business of the Partnership" sections of the Prospectus originally dated June 4, 1987, and in Supplement No. 2 thereto dated February 12, 1988, (the "Supplement"), that forms a part of the Registrant's Form S-1 Registration Statement No. 33-12566 and in the Amended Prospectus dated March 8, 1988, that forms a part of Post- Effective Amendment No. 1 to the Registration Statement as filed with the Securities and Exchange Commission on March 8, 1988, (such Prospectus, as supplemented and amended on March 8, 1988, is hereinafter referred to as the "Prospectus"), which sections are incorporated herein by reference. Additional characteristics of the Partnership's business are discussed in the "Risk Factors" and "Conflicts of Interest" sections of the Prospectus, which sections are also incorporated herein by reference. The Partnership had been inactive until it commenced selling units of limited partnership interest ("Units") on June 4, 1987. The Partnership's Amended and Restated Limited Partnership Agreement ("Partnership Agreement") provides that the Partnership will continue until December 31, 1997, unless further extended. In September of 1996, the General Partners exercised their right and extended the term of the Partnership to December 31, 1998. If the General Partners so determine, the Partnership term can be further extended for an additional two- year period, or the Partnership may be dissolved earlier.
Item 2.
Item 2. PROPERTIES - ------ ----------
The Registrant has no material physical properties.
Item 3.
Item 3. LEGAL PROCEEDINGS - ------ -----------------
There are no material pending legal proceedings to which the Registrant is party or of which any of its property is the subject, other than ordinary routine litigation incidental to the business of the Partnership.
Item 4.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS - ------ ---------------------------------------------------
No matter was submitted to a vote of the holders of units of limited partnership interests ("Units") during 1997.
PART II
Item 5.
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER - ------ ------------------------------------------------------------- MATTERS - -------
(a) There is no established public trading market for the Units.
(b) At December 31, 1997, there were 5,217 record holders of Units.
(c) The Registrant, being a partnership, does not pay dividends. Cash distributions, however, may be made to the partners in the Partnership pursuant to the Registrant's Partnership Agreement.
Item 6.
Item 6. SELECTED FINANCIAL DATA - ------ -----------------------
Item 7.
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION - ------ ----------------------------------------------------------- AND RESULTS OF OPERATIONS - -------------------------
Liquidity and Capital Resources - -------------------------------
In 1997, net cash used by operating activities totaled $1,087,826. The Partnership paid management fees of $131,578 to the Managing General Partner and reimbursed related parties for operating expenses of $500,178. Other operating expenses of $570,993 were paid, and interest income of $111,351 was received.
During 1997, the Partnership funded $1,864,753 in equity investments and issued $181,413 in secured notes receivable primarily to a portfolio company in the industrial and business automation industry. Repayments of secured notes receivable provided cash of $4,989. Proceeds from sales of equity investments and recoveries from investments previously written off totaled $388,827 and $7,387, respectively. At December 31, 1997, the Partnership was committed to find $200,246 in additional investments as disclosed in Note 10 to the Financial Statements.
Cash and restricted cash at December 31, 1997, were $933,930. Operating cash reserves combined with future proceeds from the sales of investments, interest income received from short-term investments, repayments of secured notes receivable, and equity investment sales are expected to be sufficient to fund Partnership operations through the next twelve months.
Results of Operations - ---------------------
1997 compared to 1996 - ---------------------
Net losses in 1997 and 1996 were $375,615 and $1,624,120, respectively. This improvement was primarily a result of an $1,181,165 increase in the change in net unrealized fair value of investments and a $219,045 increase in net realized gain from sales of investments, partially offset by a $213,273 decrease in interest income.
The $80,677 increase in net unrealized fair value of investments in 1997 was primarily due to increases in a portfolio company in the microelectronics industry, partially offset by decreases in portfolio companies in the telecommunications and medical industries. During 1996, the decrease in investment fair value of $1,100,488 primarily related to portfolio companies in the computer software and systems and industrial/business automation industries.
During 1997, the Partnership's net realized gain from sales of equity investments of $267,869 primarily resulted from the sale of its investment in MTI Technology Corporation. During 1996, the Partnership realized a gain of $48,824 from sales of Hybridon, Inc. and Allegiant Physician Services, Inc. stock.
Interest income was $111,351 and $324,624 in 1997 and 1996, respectively. The decrease is a result of lower cash balances on hand and loans to portfolio companies on non-accrual status due to uncertainty of the borrowers financial condition.
Total operating expenses were $537,047 and $522,232 in 1997 and 1996, respectively. Included in 1997 operating expenses are the costs of the Partnership's relocation of its administrative and investor service operations to Santa Fe, New Mexico. As disclosed in Note 2 to the financial statements, the 1997 and 1996 operating expenses were reduced by reimbursements of $3,572 and $41,542, respectively, for prior period collection expenses. Had the reimbursements not been received, total operating expenses for 1997 and 1996 would have been $540,619 and $563,774, respectively.
Given the inherent risk associated with the business of the Partnership, the future performance of portfolio company investments may significantly impact future operations.
1996 compared to 1995 - ---------------------
Net loss in 1996 was $1,624,120 compared to net income of $1,580,235 in 1995. The change was primarily due to a $2,638,163 decrease in the change in net unrealized fair value of equity investments, a $2,389,795 decrease in net realized gain from sales of equity investments, and a $1,091,165 decrease in secured notes receivable interest income. These changes were mostly offset by a $2,242,556 decrease in realized losses from investment write-downs and a $809,563 decrease in total operating expenses.
During 1996, the decrease in equity investment fair value of $1,033,488 mostly related to portfolio companies in the computer software and systems and industrial/business automation industries. In 1995, the increase in equity investment fair value of $1,604,675 was primarily due to the reversal of unrealized losses, which were realized from investments write-downs for portfolio companies in the medical and retail/consumer products industries.
During 1996, the Partnership realized a gain of $48,824 from sales of Hybridon, Inc., and Allegiant Physicians Services, Inc., stock. In 1995, realized gain totaled $2,438,619, primarily related to sales of Imagine Publishing, Inc., 3Com Corporation, and Datalogix International, Inc.
Secured notes receivable interest income was $138,770 and $1,229,935 for 1996 and 1995, respectively. The higher 1995 balance was primarily due to cash interest payments received from portfolio companies in the computer software and systems, telecommunications, and medical industries which had been on nonaccrual status. At December 31, 1996, the remaining portfolio was on non-accrual status due to uncertainty of the borrowers' financial conditions.
In 1996 and 1995, the Partnership realized losses from investments write-downs of $125,104 and $2,367,660, respectively. The 1996 write-downs related to equity investments in portfolio companies in the computer and computer equipment and telecommunication industries. Write-downs in 1995 primarily related to equity investments in portfolio companies in the medical and retail/consumer products industries.
Total operating expenses were $522,232 and $1,331,795 in 1996 and 1995, respectively. As disclosed in Note 4 to the financial statements, the 1996 operating expenses were reduced by reimbursements of $41,542 for prior period collection expenses. Additionally, as disclosed in Note 2 to the financial statements, the 1995 operating expenses included additional administrative and investor services expenses of $877,965. Had the 1996 reimbursements not been received and the additional expenses in 1995 been recorded in prior years, total operating expenses for 1996 and 1995 would have been $563,774 and $510,515, respectively. The increase was primarily due to higher collection costs as the remaining portfolio requires additional workout efforts to realize maximum value by the Partnership.
The Partnership recorded a secured notes receivable fair value decrease of $67,000 in 1996, compared to an increase of $346,000 in 1995, based upon the level of loan loss reserves deemed adequate by the Managing General Partner at the respective year ends. The 1995 increase was primarily due to the reversal of unrealized losses, which were realized from investment write-downs for a portfolio company in the medical industry.
The Year 2000 - -------------
The Managing General Partner is currently reviewing the Partnership's information systems in anticipation of the potential computer software problems associated with the Year 2000. The Year 2000 issue exists because many computer software programs use only two digits to identify a year in the date field and were developed without considering the impact of the upcoming change in the century. The Managing General Partner currently expects to complete the necessary critical software conversion modifications in 1999, and does not anticipate any material adverse impact on the financial position or results of operations of the Partnership, as a result of the Year 2000 issue.
Item 8.
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA - ------ -------------------------------------------
The financial statements of the Registrant are set forth in Item 14.
Item 9.
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING - ------ ----------------------------------------------------------- AND FINANCIAL DISCLOSURE - ------------------------
None
PART III
Item 10.
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT - ------- --------------------------------------------------
As a partnership, the Registrant has no directors or executive officers. Technology Funding Ltd., a California limited partnership ("TFL"), and Technology Funding Inc., a California corporation ("TFI"), and wholly owned subsidiary of TFL, are the General Partners of the Partnership. TFI is the Managing General Partner. Information concerning the ownership of TFL and the business experience of the key officers of TFI and the partners of TFL is incorporated by reference from the sections entitled "Management of the Partnership - The General Partners" and "Management of the Partnership - Key Personnel" in the Prospectus, which are incorporated herein by reference. Changes in this information that have occurred since the date of the Prospectus are included in the parallel sections of the Technology Funding Venture Capital Fund VI, LLC, Prospectus, revised January 22, 1998, forming a part of the December 5, 1997, Pre-Effective Amendment No. 1 to the Form N-2 Registration Statement No. 333-23913, dated July 11, 1997, which is incorporated herein by reference.
Item 11.
Item 11. EXECUTIVE COMPENSATION - ------- ----------------------
As a partnership, the Registrant has no officers or directors. In 1997, the Partnership incurred $131,578 in management fees. The management fees are designed to compensate the General Partners for its General Partner Overhead incurred in performing management duties for the Partnership through December 31, 1997. General Partner Overhead includes the General Partners' share of rent and utilities, and certain salaries and benefits paid by the General Partners in performing their obligations to the Partnership.
Item 12.
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT - ------- --------------------------------------------------------------
Not applicable. No Limited Partner beneficially holds more than 5% of the aggregate number of Units held by all Limited Partners, and neither the General Partners nor any of their officers, directors or partners own any Units. The General Partners control the affairs of the Partnership pursuant to the Partnership Agreement.
Item 13.
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS - ------- ----------------------------------------------
The Registrant, or its investee companies, have engaged in no transactions with the General Partners or their officers and partners other than as described above, in the notes to the financial statements, or in the Partnership Agreement.
PART IV
Item 14.
Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON - ------- ------------------------------------------------------- FORM 8-K - --------
(a) List of Documents filed as part of this Annual Report on Form 10-K
(1) Financial Statements - the following financial statements are filed as a part of this Report:
Independent Auditors' Report Balance Sheets as of December 31, 1997 and 1996 Statements of Operations for the years ended December 31, 1997, 1996 and 1995 Statements of Partners' Capital for the years ended December 31, 1997, 1996 and 1995 Statements of Cash Flows for the years ended December 31, 1997, 1996 and 1995 Notes to Financial Statements
(2) Financial Statement Schedules
All schedules have been omitted because they are not applicable or the required information is included in the financial statements or the notes thereto.
(3) Exhibits
Registrant's Amended and Restated Limited Partnership Agreement (incorporated by reference to Exhibit A to Registrant's Prospectus dated March 8, 1988, included in Registration Statement No. 33-12566 filed pursuant to Rule 424(b) of the General Rules and Regulations under the Securities Act of 1933).
(b) Reports on Form 8-K
No reports on Form 8-K were filed by the Registrant during the year ended December 31, 1997.
(c) Financial Data Schedule for the year ended and as of December 31, 1997 (Exhibit 27).
INDEPENDENT AUDITORS' REPORT ----------------------------
The Partners Technology Funding Secured Investors II:
We have audited the accompanying balance sheets of Technology Funding Secured Investors II (a California limited partnership) as of December 31, 1997 and 1996, and the related statements of operations, partners' capital, and cash flows for each of the years in the three-year period ended December 31, 1997. These financial statements are the responsibility of the Partnership's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. Our procedures included confirmation of certain loans and securities owned, by correspondence with the individual borrowing and investee companies, and a physical examination of securities held by a safeguarding agent as of December 31, 1997 and 1996. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Technology Funding Secured Investors II as of December 31, 1997 and 1996, and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 1997, in conformity with generally accepted accounting principles.
Albuquerque, New Mexico /S/KPMG Peat Marwick LLP March 25, 1998
BALANCE SHEETS - --------------
See accompanying notes to financial statements.
STATEMENTS OF OPERATIONS - ------------------------
See accompanying notes to financial statements.
STATEMENTS OF PARTNERS' CAPITAL - -------------------------------
See accompanying notes to financial statements.
STATEMENTS OF CASH FLOWS - ------------------------
Reconciliation of net (loss) income to net cash (used) provided by operating activities:
Net (loss) income	$ (375,615)	(1,624,120)	1,580,235
Adjustments to reconcile net (loss) income to net cash (used) provided by operating activities: Net realized gain from sales of equity investments	(267,869)	(48,824)	(2,438,619) Realized losses from investment write-downs	--	125,104	2,367,660 Recoveries from investments previously written off	(7,387)	(113,214)	(28,690) Amortization of discount related to warrants	--	(5,678)	(7,962) Change in net unrealized fair value: Equity investments	(95,677)	1,033,488	(1,604,675) Secured notes receivable	15,000	67,000	(346,000)
Changes in: Accrued interest on secured and convertible notes receivable	--	4,306	(30,765) Accounts payable and accrued expenses	(252,140)	(30,316)	(28,409) Due to/from related parties	(94,995)	(829,953)	873,487 Due from/to affiliated partnerships	--	(2,047)	1,801 Other liabilities	(3,293)	(32,522)	(3,662) Other assets	(5,850)	(12,447)	60,274 	---------	---------	---------
Net cash (used) provided by operating activities:	$(1,087,826)	(1,469,223)	394,675 	=========	=========	=========
STATEMENTS OF CASH FLOWS (continued) - -----------------------------------
See accompanying notes to financial statements.
NOTES TO FINANCIAL STATEMENTS - -----------------------------
1. Summary of Significant Accounting Policies ------------------------------------------
Organization - ------------
Technology Funding Secured Investors II (the "Partnership") is a limited partnership organized under the laws of the State of California on August 31, 1984. The purpose of the Partnership is to provide secured equipment financing to new and developing companies and to acquire, hold, sell, trade, exchange or otherwise dispose of warrants and/or capital stock acquired by the Partnership in conjunction with these loans. The General Partners are Technology Funding Ltd. ("TFL") and Technology Funding Inc. ("TFI"), a wholly-owned subsidiary of TFL. TFI is the Managing General Partner.
On September 17, 1987, the minimum number of units of limited partnership interest ("Units") required to form the Partnership (4,800) were sold. On March 31, 1989, the offering terminated after 160,000 Units had been sold, generating $40,000,000 in cash from Limited Partners and $40,041 from the General Partners. The Partnership Agreement provided that the Partnership would continue until December 31, 1996, unless further extended. In September of 1996, the General Partners exercised their right and extended the term of the partnership to December 31, 1998. If the General Partners so determine, the Partnership term can be further extended for an additional two-year period, or the Partnership may be dissolved earlier.
Preparation of Financial Statements and Use of Estimates - --------------------------------------------------------
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. Estimates are used when accounting for investments, change in unrealized fair value of investments, liabilities and contingencies. Because of the inherent uncertainty of valuation, the estimated fair value of investments may differ significantly from the values that would have been used had a ready market for investments existed, and the differences could be material.
Investments - -----------
Secured Notes Receivable, Net -----------------------------
The secured notes receivable portfolio includes accrued interest less the discount related to warrants and the allowance for loan losses. The portfolio approximates fair value through inclusion of an allowance for loan losses. Allowance for loan losses is reviewed quarterly by the Managing General Partner and is adjusted to a level deemed adequate to cover possible losses inherent in notes receivable and unfunded commitments. Notes receivable are placed on nonaccrual status when, in the opinion of the Managing General Partner, the future collectibility of interest or principal is in doubt.
In conjunction with certain secured notes, upon note issuance or restructure, the Partnership receives warrants (to purchase certain types of capital stock) or capital stock of the borrowing company. The cost basis of the warrants and the resulting discount has been estimated by the Managing General Partner to be 1% of the principal balance of the original notes made to the borrowing company. The cost basis of capital stock and the discount are generally based on the valuation set at the latest round of financing. The discount is amortized to interest income on a straight- line basis over the term of the loan. These warrants and capital stock are included in the equity investment portfolio.
Equity Investments ------------------
The Partnership's method of accounting for investments, in accordance with generally accepted accounting principles, is the fair value basis used for investment companies. The fair value of Partnership equity investments is their initial cost basis with changes as noted below:
The fair value for publicly-traded equity investments (marketable equity securities) is based upon the five-day-average closing sales price or bid/ask price that is available on a national securities exchange or over- the-counter market. Certain publicly-traded equity investments may not be marketable due to selling restrictions and for those securities, an illiquidity discount of up to 33% is applied when determining the fair value; the actual discount percentage is based on the type and length of the restrictions. Equity investments valued under this method were $708,864 and $715,845 at December 31, 1997 and 1996, respectively.
All investments which are not publicly traded are valued at fair market value as determined by the Managing General Partner in the absence of readily ascertainable market values. Equity investments valued under this method were $2,768,443 and $921,990 at December 31, 1997 and 1996, respectively. Generally, investments in privately held companies are valued at original cost unless there is clear evidence of a change in fair value, such as a recent round of third-party financings, or events that, in the opinion of the Managing General Partners, indicate a change in value.
Convertible and subordinated notes receivable are stated at cost plus accrued interest, which is equivalent to fair value, and are included in equity investments as repayment of these notes generally occurs through conversion into equity investments.
Where, in the opinion of the Managing General Partner, events indicate that the fair value of equity investments and convertible and subordinated notes receivable may not be recoverable, a write down to estimated fair value is recorded. Temporary changes in fair value result in increases or decreases to the unrealized fair value of equity investments. Adjustments to fair value basis are reflected as "Change in net unrealized fair value of equity investments." In the case of an other than temporary decline in value below cost basis, an appropriate reduction in the cost basis is recognized as a realized loss with the fair value being adjusted to match the new cost basis. Cost basis adjustments are reflected as "Realized losses from investment write-downs" on the Statements of Operations.
Sales of equity investments are recorded on the trade date. The basis on which cost is determined in computing realized gains or losses is specific identification.
Cash and Cash Equivalents - -------------------------
Cash and cash equivalents are principally comprised of cash invested in demand accounts, money market instruments, and commercial paper and are stated at cost plus accrued interest. The Partnership considers all money market and short-term investments with an original maturity of three months or less to be cash equivalents.
Net Realized Income (Loss) Per Unit - -----------------------------------
Net realized income (loss) per Unit is calculated by dividing the weighted average number of Units outstanding for 1997, 1996, and 1995 of 155,221, 157,128 and 158,614, respectively, into total net realized income (loss) allocated to the Limited Partners. The General Partners contributed an amount equal to 0.1% of total Limited Partner Capital Contribution and did not receive Partnership Units.
Provision for Income Taxes - --------------------------
No provision for income taxes has been made by the Partnership, as the Partnership is not directly subject to taxation. The partners are to report their respective shares of Partnership income or loss on their individual tax returns.
The accompanying financial statements are prepared using generally accepted accounting principles which may not equate to tax accounting. The Partnership's total tax basis in investments was higher than the reported total cost basis of $8,200,626 by $1,612,253 as of December 31, 1997.
Distributions - -------------
Distributions made to the Limited Partners are made among such partners in the proportion their respective capital accounts bear to the total of all capital accounts of the group. After a reasonable amount of time, unnegotiated distribution checks, if any, are recorded as other liabilities on the Balance Sheets.
2. Related Party Transactions --------------------------
Included in costs and expenses are related party costs as follows:
Management fees, payable quarterly, are equal to one half of one percent of the Partnership's assets under management. Management fees compensate the General Partners solely for General Partner Overhead (as defined in the Partnership Agreement) incurred in supervising the operation, management, and progress of Partnership loans to borrowing companies and its portfolio of warrants and capital stock of borrowing companies, as well as for general administration of the Partnership. Management fees are only paid to the extent that the aggregate amount of all proceeds received by the Partnership (including warrants exercised without cash) from the sale or other disposition of borrowing company equities, plus the aggregate fair market value of any equity securities distributed to the partners, exceeds the total management fee payable.
The Partnership reimburses the Managing General Partner and affiliates for operating expenses incurred in connection with the business of the Partnership. Reimbursable operating expenses include expenses (other than Organizational and Offering and General Partner Overhead) such as investment operations, administrative and investor services and computer services. At December 31, 1997, amounts due from related parties totaled $52,126 and at December 31, 1996, amounts due to related parties totaled $42,869. During late 1995, operating cost allocations to the Partnership were reevaluated. The Managing General Partner determined that it had not fully recovered allocable overhead as permitted by the Partnership Agreement. As a result, the Partnership was charged additional administrative and investor services costs of $877,965, which were not previously recognized by the Partnership. This charge consisted of $56,685 and $821,280 related to 1995 and prior years, respectively. If this charge had been recorded in prior years, total operating expenses would have been $510,515 for 1995.
During 1997 and 1996, the Partnership received reimbursements of $3,572 and $41,542, respectively, from portfolio companies primarily for legal, consulting, and other costs incurred in prior periods in the defense of the Partnership's secured note rights through bankruptcy court. The reimbursements were recorded as a reduction to lending operations and investment management expense.
Effective November 1, 1997, TFL assigned its California office lease to Technology Funding Property Management LLC (TFPM), an entity that is affiliated to the Managing General Partner. Under the terms of a rent agreement, TFPM charges the Partnership for its share of office rent and related overhead costs. These amounts are included in administrative and investor service costs.
Under the terms of a computer service agreement, Technology Administrative Management, a division of TFL, charges the Partnership for its share of computer support costs. These amounts are included in computer services expenses.
Within the normal course of business, the Partnership participates in secured notes receivable issued to non-affiliated borrowing companies by affiliated partnerships which are also managed by the Managing General Partner. The Partnership may also reparticipate such secured notes receivable amongst affiliated partnerships to meet business needs.
In order to increase the future investment returns to the Partnership, a portfolio company of the Partnership and affiliated partnerships has entered into a joint venture with the General Partners to perform investment recovery efforts. The General Partners have agreed to waive any "post conversion" profit interest in the Partnership attributable to any such recoveries for a share of the joint venture net profits. The post conversion profit is pursuant to, and as defined in, the profit and loss provisions of the Partnership's Partnership Agreement. The joint venture will become effective upon approval of a joint venture operating agreement.
In 1995, TFL had a sublease rental agreement with a Partnership portfolio company in the computers and computer equipment industry. The terms of this agreement were similar to those which would apply to an unrelated party. This agreement was terminated in the fourth quarter of 1995.
3. Allocation of Profits and Losses --------------------------------
Net realized profit of the Partnership is allocated based on the beginning of year partners' capital balances as follows:
(a) first, to those partners with deficit capital account balances in proportion to such deficits until such deficits have been eliminated.
(b) second, to the partners as necessary to offset net realized loss previously allocated to such partners and sales commissions charged to their capital accounts until each partner has been allocated cumulative net realized profit equal to cumulative net realized loss previously allocated to such partner and its share of sales commissions not already offset.
(c) third, 99% to the Limited Partners and 1% to the General Partners until the Limited Partners have been allocated an amount of cumulative net realized profit that would, if distributed at the end of the taxable period, result in a cumulative, compounded annual return to the Limited Partners of 8% of their adjusted capital contributions.
(d) fourth,
(i) 80% to the Limited Partners (ii) 20% to the General Partners.
In no event are the General Partners to be allocated less than 1% of the net realized profit of the Partnership.
Net realized loss of the Partnership is allocated as follows:
(a) to the partners as necessary to offset net realized profit previously allocated to such partners pursuant to (d) above until each partner has been allocated cumulative net realized loss equal to the cumulative net realized profit previously allocated to such partners.
(b) 99% to the Limited Partners and 1% to the General Partners.
Losses in excess of Limited Partner capital accounts are allocated to the General Partners.
4. Secured Notes Receivable, Net -----------------------------
At December 31, 1997 and 1996, secured notes receivable consisted of:
The 1997 notes are from two portfolio companies in the computers and computer equipment and industrial/business automation industries. The notes are secured by specific assets of the borrowing companies. Interest rates at December 31, 1997, ranged from 8% to 15%.
Changes in the allowance for loan losses were as follows:
The allowance for loan losses is adjusted based upon changes to the portfolio size and risk profile. Although the allowance is established by evaluating individual debtor repayment ability, the allowance represents the Managing General Partner's assessment of the portfolio as a whole and is considered adequate at the respective year ends.
Secured notes receivable of $4,057,307 and $3,880,883 at December 31, 1997 and 1996, respectively were on nonaccrual status due to the uncertainty of the borrowers' financial condition. The Managing General Partner continues to monitor the progress of these companies and intends to manage these investments to maximize the Partnership's net realizable value. The fair value at December 31, 1997, is based on the Managing General Partner's estimate of collectibility of these notes.
The scheduled principal repayments remaining are:
Secured notes receivable which are due on demand are included as principal repayments in 1998. In addition, the Managing General Partner may at times need to restructure notes by either extending maturity dates or converting notes to equity investments to increase the ultimate collectibility of the Partnership's investments.
5. Equity Investments ------------------
At December 31, 1997 and December 31, 1996, equity investments consisted of:
Marketable Equity Securities - ----------------------------
At and December 31, 1997 and 1996, marketable equity securities had aggregate costs of $261,804 and $387,958, respectively and aggregate fair values of $708,864 and $715,845, respectively. The net unrealized gains at December 31, 1997 and 1996, included gross gains of $447,060 and $339,223, respectively.
Celeritek, Inc. - ---------------
The Partnership recorded an increase in fair value of $174,947 to reflect the market price of the unrestricted shares at December 31, 1997.
Cyclean of Long Beach, LLC - --------------------------
In April 1997, the Partnership purchased 1,815,000 LLC Units for $1,815,000. In December 1997, the Partnership purchased an additional 49,753 LLC Units for $49,753. The Partnership is also committed to fund additional equity investments as described in Note 10. The Partnership, together with an affiliated partnership, own 100% of the company. See Note 8 for additional information.
Elantec, Inc. - -------------
In August 1997, the Partnership sold its entire investment in the company for total proceeds of $69,532 and a realized gain of $16,626.
Hemocleanse, Inc. - -----------------
In January 1997, the Partnership exercised its warrant for common shares without cash and received 10,395 shares of common stock and realized a gain of $5,196.
MTI Technology Corporation - --------------------------
In October 1997, the Partnership sold its entire investment in the company for total proceeds of $319,295 and realized a gain of $246,047.
Wasatch Education Systems Corporation - -------------------------------------
In February 1997, the company sold its education market net assets to Wasatch Interactive Learning Company (an entity formed by the company's former management team), for $1.5 million in cash and future royalties over a five year period, while retaining ownership of the majority of its technology.
Currently, the company's operations have been limited to pursuit of additional markets for its technology, debt service and the receipt of royalty income. At December 31, 1997, the company had capitalized technology costs, net current assets, and stockholders equity of $3,044,000, $83,000 and $3,127,000 (unaudited), respectively. The Partnership has valued its investment in the company at its share of expected future royalty payments and estimated proceeds from the sale of the company's technology. Because of the inherent uncertainties involved in estimating these future proceeds, the estimated fair value of $870,775 may differ significantly from a value that would have been used had a ready market existed, and the differences could be material.
3Com Corporation - ----------------
The Partnership recorded a fair value decrease of $62,267 to reflect the market price of the unrestricted shares at December 31, 1997.
6. Change in Net Unrealized Fair Value of Equity Investments ---------------------------------------------------------
In accordance with the Partnership's accounting policy as stated in Note 1, the Statements of Operations include a line item entitled "Change in net unrealized fair value of equity investments." The table below discloses details of the changes:
8. Litigation and Other Investment Expenses ----------------------------------------
Other investment expenses in 1997, 1996 and 1995 of $174,274, $201,820 and $295,300, respectively, reflect the cost of the following legal actions.
In 1992, the Partnership and a portfolio company in the retail/consumer products industry filed a lawsuit against Quebecor in the Superior Court of Guilford County, North Carolina, claiming that the Partnership had the right to take possession of collateral upon foreclosure on the portfolio company, the price paid was fair and did not interfere with Quebecor's legal rights. Quebecor filed a counter suit claiming otherwise and sought relief for $2.6 million, including accrued interest, legal costs and punitive damages. In March of 1997, the Partnership and the portfolio company obtained a favorable judgment in its appeal of a prior trial court ruling that declared the assets of the portfolio company, for a sum not certain, are available to satisfy certain claims of Quebecor. Quebecor's subsequent appeal to the North Carolina Supreme Court was denied in July of 1997. Quebecor's request for a rehearing was denied and all suits have been terminated. The Partnership is seeking to recover certain costs of this litigation.
In March of 1996, the Partnership filed a lawsuit in the United States District Court, Northern District of California, against Cyclean, Inc. ("Cyclean"), Ecopave, L.P. ("Ecopave"), Ecopave Corp. and Stephen M. Vance ("Vance") to protect its interest in certain assets which were a security interest on a secured loan extended by the Partnership to Cyclean. In January of 1997, a counter claim was filed by Ecopave Corp. and Vance.
As a result of a settlement conference, these lawsuits were resolved effective April 1, 1997. The Partnership indirectly purchased Ecopave Corp. and Vance's interest in Ecopave for $5.5 million, of which $3,685,000 was participated by an affiliated partnership. In addition, an escrow account for $750,000 was established as collateral for a note payable by Ecopave to Ecopave Corp. The Partnership's share of this deposit is $247,500. While the Partnership expects Ecopave to repay the note, if Ecopave fails to do so, the note holder may assume the escrow account. The Managing General Partner believes that the fair value of this additional investment is equal to or greater than the purchase price and the Partnership has improved its ability to recover its secured notes receivable.
9. Repurchase of Limited Partnership Interests -------------------------------------------
Each June, Limited Partners may tender their Units for repurchase by the Partnership. The price paid for any units tendered is based on the June 30 estimates of fair value for the Partnership. Units repurchased and the amounts paid were: 5,101 Units for $219,883; 2,158 Units for $112,216 and 1,177 Units for $55,319 in 1997, 1996, and 1995, respectively.
10. Commitments and Contingencies -----------------------------
The Partnership is a party to financial instruments with off-balance- sheet risk in the normal course of its business. Generally, these instruments are equipment financing commitments or accounts receivable lines of credit that are outstanding but not currently fully utilized by a borrowing company. As they do not represent current outstanding balances, these unfunded commitments are properly not recognized in the financial statements. At December 31, 1997, the Partnership had unfunded commitments for equity investments of $200,246.
At December 31, 1997, restricted cash of $264,074 included the following:
In April 1997, the Partnership together with an affiliated partnership, deposited $750,000 into an escrow account as collateral for a note payable of Ecopave. The Partnership's share of the deposit is $247,500. While the Partnership expects Ecopave to repay the note, if Ecopave fails to do so, the note holder may assume the escrow account.
In December 1997, the Partnership together with an affiliated partnership, guaranteed equipment financing for a portfolio company by depositing $50,000 in an escrow account with the lending institution. The Partnership funded $16,500 of this deposit. If the portfolio company fails to repay the line of credit, the Partnership may forego the escrowed funds.
SIGNATURES ----------
Pursuant to the requirements of Section 13 or 15(d) 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.
TECHNOLOGY FUNDING SECURED INVESTORS II
By: TECHNOLOGY FUNDING INC. Managing General Partner
Date: March 25, 1998 By: /s/Michael Brenner -------------------------------------- 	Controller
Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated:
Signature Capacity Date --------- -------- ----
/s/Charles R. Kokesh President, Chief March 25, 1998 - ------------------------ Executive Officer, Charles R. Kokesh Chief Financial Officer and Chairman of Technology Funding Inc. and Managing General Partner of Technology Funding Ltd.
/s/Gregory T. George Group Vice President March 25, 1998 - -------------------------- of Technology Funding Gregory T. George Inc. and a General Partner of Technology Funding Ltd.
The above represents the Board of Directors of Technology Funding Inc. and the General Partners of Technology Funding Ltd.