ITEM 1. BUSINESS.
Overview
UST Private Equity Investors Fund, Inc. (the "Company" or the "Fund") is a Maryland corporation organized on September 16, 1994. The Company is a non-diversified, closed-end management investment company operating as a business development company under the Investment Company Act of 1940, as amended, and, in connection with its initial offering of shares, registered said offering of shares under the Securities Act of 1933, as amended. The Company's investment objective is to achieve long-term capital appreciation by investing in private later-stage venture capital and private middle-market companies and in certain venture capital, buyout and private equity funds that the Managing Investment Adviser (defined herein) believes offer significant long-term capital appreciation.
United States Trust Company of New York, acting through its registered investment advisory division, U.S. Trust-New York Fund Advisers Division, U.S. Trust Company, acting through its registered investment advisory division, U.S. Trust-Connecticut Fund Advisers Division, and U.S. Trust Company, N.A., acting through its registered investment advisory division, U.S. Trust-California Fund Advisers Division (each an "Investment Adviser" and together, the "Managing Investment Adviser" or "U.S. Trust") provide investment management services to the Company pursuant to a management agreement dated July 18, 2000 and an investment sub-advisory agreement dated December 21, 2001 (the "Management Agreement"). Each Investment Adviser is a subsidiary of U.S. Trust Corporation. On May 31, 2000, U.S. Trust Corporation became an indirect wholly owned subsidiary of The Charles Schwab Corporation. All officers of the Company are employees and/or officers of the Managing Investment Adviser. The Managing Investment Adviser is responsible for performing the management and administrative services necessary for the operation of the Company.
Pursuant to a Registration Statement on Form N-2 (File No. 33-84290) which was declared effective on December 16, 1994, the Company publicly offered up to 50,000 shares of common stock at $1,000 per share. The Company held its initial and final closings on each of July 31, 1995 and October 31, 1995 representing over $28.0 million and $12.4 million, respectively. The Company sold a total of 40,463 shares in the public offering for gross proceeds totaling $40,463,000 (including one share purchased for $1,000 as of September 19, 1994 by David I. Fann, the Company's President and Co-Chief Executive Officer). Shares of the Company were made available through U.S. Trust Company of California, N.A. (the "Selling Agent") to clients of U.S. Trust and its affiliates who met the Company's investor suitability standards.
In connection with the public offering of the Company's shares, the Managing Investment Adviser paid to the Selling Agent a commission totaling $10,000. The Company incurred offering costs associated with the public offering totaling $345,891. Net proceeds to the Company from the public offering, after offering costs, totaled $40,117,109.
The Company's Articles of Incorporation provide that the duration of the Company will be ten years from the final closing of the sale of the shares, subject to the rights of the Managing Investment Adviser and the investors to extend the term of the Company.
Portfolio Investments
The Company's portfolio now consists of only the six private fund investments, which are also in their harvest stage. During fiscal 2002, the Company distributed a total of $110.64 per share to investors, bringing the total amount distributed to investors to date up to 90% of their original investment. The Company will continue to make distributions to its shareholders as liquidity events are generated from the remaining private fund investments.
The following is a summary of the Company's investment portfolio over its life.
Investments Held- Third-Party Investment Funds
o Allegra Capital Partners III, L.P. ("Allegra") is a later-stage fund based in New York City. Allegra invests primarily in companies in the telecommunications, software and service industries with Internet-driven strategies. Allegra has drawn all of the Fund's $2 million commitment. At October 31, 2002, the total value (fair market value plus distributions) of this investment was $3.5 million.
o Brentwood Associates Buyout Fund II, L.P. ("Brentwood") is a buyout and consolidation fund based in Westwood, CA. Brentwood's strategy is to identify industries with consolidation characteristics, develop a strategy for implementation and recruit management to execute that strategy. Brentwood has drawn all of the Fund's $2 million commitment. At October 31, 2002, the total value (fair market value plus distributions) of this investment was $1.6 million.
o Bruckmann, Rosser, Sherrill & Co., L.P. ("BRS") is a leveraged buyout fund based in New York City. BRS has drawn all of the Fund's $2 million commitment. At October 31, 2002, the total value (fair market value plus distributions) of this investment was $2.7 million.
o Morgenthaler Venture Partners IV, L.P. ("Morgenthaler") is primarily an early stage venture capital fund, investing largely in information technology and healthcare companies, but also investing in buyouts of basic businesses. Morgenthaler has drawn all of the Fund's $2 million commitment. At October 31, 2002, the total value (fair market value plus distributions) of this investment was $4.1 million.
o Sevin Rosen Fund V, L.P. ("Sevin Rosen") invests in early-stage technology companies, focusing specifically on companies in communications and eBusiness infrastructure and solutions, as well as companies with Internet-enabled business models. Sevin Rosen has drawn all of the Fund's $2 million commitment. At October 31, 2002, the total value (fair market value plus distributions) of this investment was $2.3 million.
o Vanguard V, L.P. ("Vanguard") is an early-stage fund investing in information technology and healthcare. Vanguard has drawn all of the Fund's $2 million commitment. At October 31, 2002, the total value (fair market value plus distributions) of this investment was $5.3 million.
Investments Sold
o Accrue Software, Inc. (NASDAQ: ACRU), Cupertino, CA a provider of customer relationship management software, acquired NeoVista Software for $140 million of Accrue stock. The Fund had invested $894,132 in NeoVista. As of October 31, 2001, the Fund has liquidated all of its shares of Accrue. The Fund realized a return of 1.3x its original investment in NeoVista.
o Best Friends Pet Care, Inc., Norwalk, CT, is the largest operator of pet kennels in the United States. The company's facilities offer a wide range of pet services, including boarding, grooming and training. In June 2001, Best Friends was sold to Brynwood Partners IV L.P. The Fund realized net proceeds of $.4 million and realized a loss of $3.1 million.
o CommSite International, Inc., Vienna, VA, is a provider of wireless towers and construction services. On o May 13, 1999, American Tower Corporation (NYSE: AMT) acquired CommSite. The Fund realized its investment cost of $2.7 million from this transaction.
o Corsair Communications, Inc. (NASDAQ: CAIR), Palo Alto, CA, is a wireless communication infrastructure company providing prepaid cellular handset and fraud detection equipment and software. Corsair completed its initial public offering in July 1997. The Fund sold all of its shares in the company and realized a return of 1.55x on its $3.3 million investment.
o LogicVision, Inc. (NASDAQ: LGVN), San Jose, CA, is a developer of built-in self-testing technologies used in semiconductor design, testing and manufacture. As semiconductors become more complex, the need to adopt new testing technology becomes critical. LogicVision completed its initial public offering in October 2001. The Fund received proceeds of $.5 million in the sale of LogicVision common stock in 2002 and realized a loss of $1.0 million.
o QuickLogic Corporation (NASDAQ: QUIK), Sunnyvale, CA, designs, manufactures and markets high-capacity programmable logic semiconductors, known as field programmable gate arrays, along with comprehensive design software. The company's products shorten the design cycle for electronic systems, accelerating time-to-market. QuickLogic completed its initial public offering in October 1999. As of October 31, 2002, the Fund has sold all of its shares of QuickLogic for $8.2 million at 2.7x the cost to the Fund.
o Rental Services Corporation (NYSE: RSV), Scottsdale, AZ, is a consolidator of heavy equipment rental businesses. The Fund invested $1 million in January 1996. In September 1996, Rental Services Corp. completed its initial public offering. The Fund sold all of its shares in the company for over $3 million and realized a return of 3.1x on its investment.
o Signius Corporation (formerly known as ProCommunications, Corp.), Somerset, NJ, provides telemessaging o services for small and medium sized businesses. In March 2000, Signius was sold for a nominal amount and the Fund realized a $3.4 million loss.
Investments Written Off
o AbTox, Inc., Mundelein, IL, manufactured gas plasma sterilizers. The company filed for bankruptcy due to operating problems arising from regulatory issues related to one of its products. The Fund received $250,000 as part of the settlement of claims with the bankruptcy trustee in 2001. Earlier this year, the Fund received a nominal distribution pursuant to AbTox's liquidating plan and realized a $2.5 million loss.
o Cardiopulmonary Corporation, Milford, CT, is a manufacturer of a smart ventilator, used in the acute and o sub-acute hospital market, that adapts to patient's changing breathing patterns. The Fund's $2.2 million investment has been written off as a result of the recapitalization of the company.
o P2 Holdings Corporation (formerly known as Plynetic Express), San Leandro, CA, was a provider of rapid o prototyping and rapid tooling services. The company filed for bankruptcy in 1998 and the Fund received no recovery of its $2.8 million investment.
o Party Stores Holdings, Inc., Melville, NY, operated the Party Experience, Paperama, and Paper Cutter retail stores and filed for bankruptcy in 1998 and the Fund received no recovery of its $2.1 million investment.
For additional information concerning the Company's investments, see the financial statements beginning on page 9 of this report.
Competition
The Company encounters competition from other entities and individuals having similar investment objectives. Primary competition for desirable investments comes from investment partnerships, venture capital affiliates of large industrial and financial companies, investment companies and wealthy individuals. Some of the competing entities and individuals have investment managers or advisers with greater experience, resources and managerial capabilities than the Company and may therefore be in a stronger position than the Company to obtain access to attractive investments. To the extent that the Company can compete for such investments, it may not be able to do so on terms as favorable as those obtained by larger, more established investors.
Employees
At October 31, 2002, the Company had no full-time employees. All personnel of the Company are employed by and compensated by the Managing Investment Adviser pursuant to the Management Agreement.
ITEM 2.
ITEM 2. PROPERTIES.
The Company does not own or lease any physical properties.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS.
AbTox, Inc. filed for bankruptcy due to operating problems arising from regulatory issues related to one of its products. The Company, alongside several other institutional investors, filed a complaint in New York State Supreme Court against the investment banks involved in the private placement, in or around March 1999, alleging fraud and deceit, fraudulent inducement and negligent misrepresentation. On August 10, 1999, the court dismissed the complaint. On August 31, 2000, the Company, along with other institutional investors, filed a notice to appeal the court's order. On August 6, 2001, the Company and several other investors were named in an adversary proceeding brought by the company's bankruptcy trustee seeking the return of monies paid to the Company pursuant to certain senior notes in the principal amount of $301,500 issued by Abtox. The Company received $250,000 as part of the settlement of claims on September 10, 2001 with the bankruptcy trustee. On November 15, 2001, the Appellate Division of New York State Supreme Court affirmed the dismissal. The Company received a final distribution of $3,360 on February 13, 2002 and ultimately incurred a realized loss of $2,546,640 on its $2,800,000 investment.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
The Company has 50,000 authorized shares. As of December 31, 2002, 40,463 shares were issued and outstanding. There is no established public trading market for the Company's shares.
Dividends
Fiscal Year Ended October 31, 2002. On January 7, 2002, the Company paid a dividend of $71.81 per share of return of capital. On October 31, 2002, the Company paid a dividend of $38.83 per share, comprised of $34.06 per share of return of capital and $4.77 per share of ordinary income.
Fiscal Year Ended October 31, 2001. On December 22, 2000, the Company paid a dividend of $172.84 per share in excess of net realized capital gain.
For additional information concerning the payment of dividends, see "Significant Accounting Policies" in the notes to the financial statements of the Company included in Item 8 hereof.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA.
The information provided under Item 8 is incorporated herein.
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
Liquidity and Capital Resources
At October 31, 2002, the Company held $0 in cash and $3,669,007 in investments as compared to $16,232 in cash and $13,553,675 in investments at October 31, 2001. At October 31, 2002, investments included $3,256,533 in private investment funds and $412,474 in short-term securities, consisting of U.S. Treasury bills and an investment in the Dreyfus Government Cash Fund. As of October 31, 2002, the Company had committed $12,000,000 to private investment funds and has no remaining outstanding commitments. During the fiscal year, the Company received proceeds of $651,362, net of commissions, from the sale of its remaining 2 public stock positions, LogicVision, Inc. and QuickLogic Corporation. The Company also received $622,210 in distributions from its private fund investments during fiscal 2002. The Company paid a total of $4,476,807 in dividends or $110.64 per share to its shareholders during fiscal 2002.
Results of Operations
Investment Income and Expenses
For the fiscal year ended October 31, 2002, the Company had investment income of $37,850 and net operating expenses, net of expenses reimbursed by the Managing Investment Adviser, of $135,433, resulting in a net investment loss of ($97,583). For the fiscal year ended October 31, 2001, the Company had investment income of $148,317 and net operating expenses, net of expenses reimbursed by the Managing Investment Adviser, of $261,411, resulting in a net investment loss of ($113,094). For the fiscal year ended October 31, 2000, the Company had investment income of $510,857 and net operating expenses, net of expenses, reimbursed by the Managing Investment Adviser, of $560,821, resulting in a net investment loss of ($49,964). The decrease in the Company's net investment income is attributable to a reduced level of interest-bearing assets, as well as an overall decrease in short-term interest rates over the period. The combination of these factors had a negative effect on the amount of interest income generated by these assets. The decrease in net operating expenses is primarily attributable to the lower managing investment advisory fees paid as a result of declining net assets over time. While there has been a trend of lower expenses paid by the Company, income has also declined and therefore, the Company is in a net investment loss position.
The Managing Investment Adviser provides investment management and administrative services required for the operation of the Company. In consideration of the services rendered by the Managing Investment Adviser, the Company pays a management fee based upon a percentage of the net assets of the Company invested or committed to be invested in certain types of investments and an incentive fee based in part on a percentage of net realized capital gains of the Company. The management fee is determined and payable quarterly. For the fiscal years ended October 31, 2002, 2001 and 2000, the Managing Investment Adviser earned $105,251, $231,165 and $448,241 in management fees, respectively. For the same periods, the Managing Investment Adviser reimbursed other operating expenses of the Company in the amount of $224,571, $295,736 and $135,394 as a result of expenses incurred in excess of those permitted pursuant to the Company's prospectus. The decrease in the fees earned by the Managing Investment Adviser over time can be attributed primarily to a reduced level of net assets.
Net Assets
At the fiscal year ended October 31, 2002, the Company's net assets were $3,980,977, a decline of ($10,154,498) from net assets of $14,135,475 at October 31, 2001. The Company's net asset value per common share was $98.39 at October 31, 2002 down ($250.95) per share from the net asset value per common share of $349.34 at October 31, 2001. This decline stemmed from the Company's net operating loss as well as distributions paid to shareholders during the fiscal year.
At the fiscal year ended October 31, 2001, the Company's net assets were $14,135,475, a decrease of ($17,333,357), or ($428.38) per share from net assets of $3,468,832 at October 31, 2000. This decrease was the result of a ($10,339,555) net decrease in net assets resulting from operations and distributions to shareholders during the year totaling ($6,993,802).
For the fiscal year ended October 31, 2002, the Company had a net decrease in net assets resulting from operations of ($5,677,691) or ($140.31) per share and paid distributions to shareholders during the period totaling ($4,476,807) or ($110.64) per share. The net loss from operations was the result of several factors including: 1) realized losses in connection with the sale of LogicVision, Inc. and QuickLogic Corporation, both public stock positions, totaling ($1,282,157) or ($31.69) per share, 2) a realized loss in the amount of ($2,546,640) or ($62.93) per share related to AbTox, Inc., a private company investment, due to the conclusion of the company's bankruptcy proceeding, 3) net unrealized losses, primarily related to the Company's third party private investment funds, totaling ($2,177,099) or ($53.80) per share, and 4) a net investment loss of ($97,583) or ($2.41) per share. The Company also had a net change in allowance for the management incentive fee of $425,788 or $10.52 per share, a reduction in accumulated management incentive fees payable to the Managing Investment Adviser, which offset the net realized and unrealized losses.
Realized and Unrealized Gains and Losses from Portfolio Investments
For the fiscal year ended October 31, 2002, the Company had a ($6,005,896) net realized and unrealized loss from investments, comprised of a ($3,828,797) net realized loss on investments and a ($2,177,099) net change in unrealized depreciation on investments. For the fiscal year ended October 31, 2001, the Company had a ($11,362,833) net realized and unrealized loss from investments, comprised of a ($2,728,413) net realized loss on investments and a ($8,634,420) net change in unrealized depreciation on investments. For the fiscal year ended October 31, 2000, the Company had a $13,344,075 net realized and unrealized gain from investments, comprised of a $11,935,543 net realized gain on investments and an $1,408,532 net change in unrealized appreciation on investments. The losses in fiscal years 2002 and 2001 are reflective of very challenging market conditions in the private equity industry for the last several years, which have resulted in lower valuations and limited exit opportunities for both private and public companies. The net realized loss on investments for the fiscal year ended October 31, 2002 is primarily the result of sales LogicVision, Inc. and QuickLogic Corporation, both public stock positions, totaling ($1,282,157) and a realized loss in the amount of ($2,546,640) related to AbTox, Inc., a private company investment, due to the conclusion of the company's bankruptcy proceeding. During fiscal 2002, the Company also recorded net unrealized losses, primarily attributable to lower valuations of its private investment funds.
Application of Critical Accounting Policies
Under the supervision of the Company's Valuation and Audit Committees, consisting of the independent directors of the Company, the Investment Advisers make certain critical accounting estimates with respect to the valuation of private portfolio investments. These estimates could have a material impact on the presentation of the Company's financial condition, because in total, they currently represent 81.8% of the Company's net assets at October 31, 2002. During the fiscal year, changes to these estimates, i.e. changes in the valuations of private investments, resulted in a $5.5 million decrease in net asset value.
The value for securities for which no public market exists is difficult to determine. Generally speaking, such investments will be valued on a "going concern" basis without giving effect to any disposition costs. There is a range of values that is reasonable for such investments at any particular time. Because of the inherent uncertainty of valuation, the estimated values may differ significantly from the values that would have been used had a ready market for the securities existed, and the differences could be material.
Initially, direct private company investments are valued based upon their original cost until developments provide a sufficient basis for use of a valuation other than cost. Upon the occurrence of developments providing a sufficient basis for a change in valuation, direct private company investments will be valued by the "private market" or "appraisal" methods of valuation. The private market method shall only be used with respect to reliable third party transactions by sophisticated, independent investors. The appraisal method shall be based upon such factors affecting the company such as earnings, net worth, reliable private sale prices of the company's securities, the market prices for similar securities of comparable companies, an assessment of the company's future prospects or, if appropriate, liquidation value. The values for the investments referred to in this paragraph will be estimated regularly by the
Investment Adviser or a committee of the Board and, in any event, not less frequently than quarterly. However, there can be no assurance that such value will represent the return that might ultimately be realized by the Company from the investments.
The valuation of the Company's private funds is based upon the its pro-rata share of the value of the assets of a private fund as determined by such private fund, in accordance with its partnership agreement, constitutional or other documents governing such valuation, on the valuation date. If such valuation with respect to the Company's investments in private funds is not available by reason of timing or other event on the valuation date, or are deemed to be unreliable by the Investment Advisers, the Investment Advisers, under supervision of the Board, shall determine such value based on its judgment of fair value on the appropriate date, less applicable charges, if any.
The Investment Advisers also make estimates regarding discounts on market prices of publicly traded securities where appropriate. For securities which have legal, contractual or practical restrictions on transfer, a discount of 10% to 40% from the public market price will be applied.
ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
The following discussion includes forward-looking statements. Actual results could differ materially from those projected in the forward-looking statements.
Equity Price Risk
At October 31, 2002, the Company's investment portfolio consisted of equity securities private investment funds, representing 81.8% of the investment portfolio, which are not publicly traded. These investments are recorded at fair value as determined by the Managing Investment Adviser in accordance with valuation guidelines adopted by the Board of Directors. This method of valuation does not result in increases or decreases in the fair value of these equity securities in response to changes in market prices. Thus, these equity securities are not subject to equity price risk normally associated with public equity markets. At October 31, 2002, the Company held no investments in the equity securities of public companies. At October 31, 2001, publicly traded equity securities were valued at $1,733,075. Thus, there was exposure to equity price risk, estimated as the potential loss in fair value due to a hypothetical 10% decrease in quoted market prices, of approximately a ($185,083) decrease in the value of these securities. These securities were subsequently sold during fiscal 2002.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
Independent Auditors' Report
Portfolio of Investments at October 31, 2002
Statement of Assets and Liabilities at October 31, 2002 and October 31, 2001
Statement of Operations for the years ended October 31, 2002, October 31, 2001 and October 31, 2000
Statement of Changes in Net Assets for the years ended October 31, 2002, October 31, 2001 and October 31, 2000
Statement of Cash Flows for the years ended October 31, 2002, October 31, 2001 and October 31, 2000
Financial Highlights -- Selected Per Share Data and Ratios for the years ended October 31, 2002, October 31, 2001, October 31, 2000, October 31, 1999 and October 31, 1998
Notes to Financial Statements
Note - All other schedules are omitted because of the absence of conditions under which they are required or because the required information is included in the financial statements or the notes thereto.
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
Shareholders and Board of Directors UST Private Equity Investors Fund, Inc.
We have audited the accompanying statements of assets and liabilities of UST Private Equity Investors Fund, Inc. (the "Fund") as of October 31, 2002 and 2001, including the portfolio of investments at October 31, 2002, the related statements of operations, changes in net assets and cash flows for each of the three years then ended, and the financial highlights for each of five years then ended. These financial statements and financial highlights are the responsibility of the Fund's management. Our responsibility is to express an opinion on these financial statements and financial highlights based on our audits.
We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements and financial highlights are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements and financial highlights. Our procedures included confirmation of securities owned as of October 31, 2002 and 2001 by correspondence with the custodian and brokers, or other appropriate auditing procedures where replies from brokers were not received. 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 and financial highlights referred to above present fairly, in all material respects, the financial position of UST Private Equity Investors Fund, Inc. at October 31, 2002 and 2001, the results of its operations, its changes in net assets and its cash flows for the three years ended October 31, 2002, and the financial highlights for each of the five years ended October 31, 2002 in conformity with accounting principles generally accepted in the United States.
/s/ Ernst & Young LLP
New York, New York December 17, 2002
UST Private Equity Investors Fund, Inc. Portfolio of Investments at October 31, 2002
** Aggregate cost for federal tax and book purposes.
+ At October 31, 2002, the Fund owned 5% or more of Company's outstanding shares thereby making the Company an affiliate as defined by the Investment Company Act of 1940. Total market value of affiliated securities owned at October 31, 2002 was $0.
# Restricted as to public resale. Acquired between December 1, 1995 and April 30, 2000. Total cost of restricted securities owned at October 31, 2002 aggregated $9,509,913. Total market value of restricted securities owned at October 31, 2002 was $3,256,533 or 81.80% of net assets.
## Required disclosure for restricted securities only.
@ Non-income producing security.
See Notes to Financial Statements.
UST Private Equity Investors Fund, Inc. Statement of Assets and Liabilities
See Notes to Financial Statements.
UST Private Equity Investors Fund, Inc. Statement of Operations
See Notes to Financial Statements.
UST Private Equity Investors Fund, Inc. Statement of Changes in Net Assets
See Notes to Financial Statements.
UST Private Equity Investors Fund, Inc. Statement of Cash Flows
See Notes to Financial Statements.
UST Private Equity Investors Fund, Inc. Financial Highlights--Selected Per Share Data and Ratios
For a Fund share outstanding throughout each year
+ Total investment return based on per share net asset value reflects the effects of changes in net asset value based on the performance of the Fund during the period and assumes dividends and distributions, if any, were reinvested. The Fund's shares were issued in a private placement and are not traded. Therefore market value total investment return is not calculated.
++ Expense ratio before waiver of fees and reimbursement of expenses by Managing Investment Adviser.
See Notes to Financial Statements.
UST PRIVATE EQUITY INVESTORS FUND, INC.
NOTES TO FINANCIAL STATEMENTS
Note 1-- Significant Accounting Policies
UST Private Equity Investors Fund, Inc. (the "Company") was incorporated under the laws of the State of Maryland on September 16, 1994, and is a non-diversified, closed-end management investment company that has elected to be treated as a business development company under the Investment Company Act of 1940, as amended.
The following is a summary of the Company's significant accounting policies. Such policies are in conformity with generally accepted accounting principles for investment companies and are consistently followed in the preparation of the financial statements. Generally accepted accounting principles in the United States require management to make estimates and assumptions that affect the reported amounts and disclosures in the financial statements. Actual results could differ from these estimates. Certain amounts in prior years have been reclassified to conform to current year presentation.
(a) Portfolio valuation:
The Company values portfolio securities quarterly and at such other times as, in the Board of Directors' view, circumstances warrant. Investments in securities for which market quotations are readily available generally will be valued at the last sale price on the date of valuation or, if no sale occurred, at the mean of the latest bid and ask prices; provided that, as to such securities that may have legal, contractual or practical restrictions on transfer, a discount of 10% to 40% from the public market price will be applied. Securities for which no public market exists and other assets will be valued at fair value as determined in good faith by the Managing Investment Adviser (as defined below) or a committee of the Board of Directors under the supervision of the Board of Directors pursuant to certain valuation procedures summarized below. Securities having remaining maturities of 60 days or less are valued at amortized cost, which approximates market value.
The value for securities for which no public market exists is difficult to determine. Generally, such investments will be valued on a "going concern" basis without giving effect to any disposition costs. There is a range of values that is reasonable for such investments at any particular time. Initially, direct investments are valued based upon their original cost, until developments provide a sufficient basis for use of a valuation other than cost. Upon the occurrence of developments providing a sufficient basis for a change in valuation, direct investments will be valued by the "private market" or "appraisal" methods of valuation. The private market method shall only be used with respect to reliable third party transactions by sophisticated, independent investors. The appraisal method shall be based upon such factors affecting the company such as earnings, net worth, reliable private sale prices of the company's securities, the market prices for similar securities of comparable companies, an assessment of the company's future prospects or, if appropriate, liquidation value. The values for the investments referred to in this paragraph will be estimated regularly by the Managing Investment Adviser or a committee of the Board of Directors and, in any event, not less frequently than quarterly. However, there can be no assurance that such values will represent the return that might ultimately be realized by the Company from the investments.
At October 31, 2002 and October 31, 2001, market quotations were not readily available for securities valued at $3,256,533 and $8,806,249, respectively. Such securities were valued by the Managing Investment Adviser, under the supervision of the Board of Directors. Because of the inherent uncertainty of valuation, the estimated values may differ significantly from the values that would have been used had a ready market for the securities existed, and the differences could be material.
(b) Security transactions and investment income:
Security transactions are recorded on a trade date basis. Realized gains and losses on investments sold are recorded on the basis of identified cost. Interest income, adjusted for amortization of premiums and discounts on investments, is earned from settlement date and is recorded on the accrual basis. Dividend income is recorded on the ex-dividend date.
(c) Repurchase agreements:
The Company enters into agreements to purchase securities and to resell them at a future date. It is the Company's policy to take custody of securities purchased and to ensure that the market value of the collateral including accrued interest is sufficient to protect the Company from losses incurred in the event the counterparty does not repurchase the securities. If the seller defaults and the value of the collateral declines or if bankruptcy proceedings are commenced with respect to the seller of the security, realization of the collateral by the Company may be delayed or limited.
(d) Federal income taxes:
It is the policy of the Company to continue to qualify as a "regulated investment company" under subchapter M of the Internal Revenue Code and distribute substantially all of its taxable income to its shareholders. Therefore, no federal income or excise tax provision is required.
Dividends from net investment income are declared and paid at least annually. Any net realized capital gains, unless offset by any available capital loss carryforwards, are distributed to shareholders at least annually. Dividends and distributions are determined in accordance with federal income tax regulations that may differ from generally accepted accounting principles. These "book/tax" differences are either considered temporary or permanent. To the extent these differences are permanent, such amounts are reclassified within the capital accounts based on their federal tax basis treatment; temporary differences do not require reclassification.
The Company has an unused capital loss carryforward of approximately $6,143,142 available for income tax purposes, to be applied against future net security profits, if any, realized after October 31, 2002. If not applied, $2,261,586 of the carryover will expire in 2009 and $3,881,556 will expire in 2010.
The tax character of distributions paid may differ from the character of distributions shown on the statement of changes in net assets due to tax treatment of certain distributions. The tax character of distributions paid during the fiscal years ended October 31, 2002 and 2001 were as follows:
2002 2001 -------------- ------------- Net Investment Income $ 192,934 $ -- Net Capital Gain -- 6,993,802 Return of Capital 4,283,873 -- -------------- ------------- Total $ 4,476,807 $ 6,993,802 -------------- -------------
At October 31, 2002, the tax basis of the Company's investments for federal income tax purposes amounted to $9,922,387. The net unrealized depreciation amounted to $6,253,380, which is comprised of gross unrealized appreciation of $560,644 and aggregate gross unrealized depreciation of $6,814,024.
(e) Cash Equivalents
The Company treats all highly-liquid financial instruments that mature within three months as cash equivalents.
Note 2-- Investment Advisory Fee, Administration Fee and Related Party Transactions
Pursuant to an Investment Management Agreement ("Agreement"), United States Trust Company of New York ("U.S. Trust NY") and U.S. Trust Company ("U.S. Trust") serve as the Managing Investment Adviser to the Company. Under the Agreement, for the services provided, the Managing Investment Adviser is entitled to receive a management fee at the annual rate of 1.50% of the net assets of the Company, determined as of the end of each fiscal quarter, that are invested or committed to be invested in Portfolio Companies or Private Funds and equal to an
annual rate of 0.50% of the net assets of the Company, determined as of the end of each fiscal quarter, that are invested in short-term investments and are not committed to Portfolio Companies or Private Funds.
In addition to the management fee, the Company has agreed to pay the Managing Investment Adviser an incentive fee in an amount equal to 10% of the cumulative realized capital gains (net of realized capital losses and unrealized net capital depreciation), less the aggregate amount of incentive fee payments in prior years. If the amount of the incentive fee in any year is a negative number, or cumulative net realized gains less net unrealized capital depreciation at the end of any year is less than such amount calculated at the end of the previous year, the Managing Investment Adviser will be required to repay the Company all or a portion of the incentive fee previously paid. As of October 31, 2002, $425,788 has been paid and is subject to potential repayment by the Managing Investment Adviser.
On December 20, 2001, the Board (including a majority of the directors that are not interested persons of the Company) approved an Investment Sub-Advisory Agreement (the "Sub-Advisory Agreement") among the Company, U.S. Trust NY, U.S. Trust and U.S. Trust Company, N.A. Pursuant to the Sub-Advisory Agreement, U.S. Trust Company, N.A. serves as the investment sub-adviser to the Company and receives an investment management fee from the Managing Investment Adviser.
U.S. Trust NY is a New York state-chartered bank and trust company and a member bank of the Federal Reserve System. U.S. Trust is a Connecticut state bank and trust company. U.S. Trust Company, N.A. is a nationally chartered bank. Each is a wholly-owned subsidiary of U.S. Trust Corporation, a registered bank holding company. U.S. Trust Corporation is a wholly-owned subsidiary of The Charles Schwab Corporation.
Beginning January 1, 2002, PFPC, Inc. ("PFPC") began providing administrative and accounting services to the Company pursuant to an Administration and Accounting Services Agreement. Also beginning January 1, 2002, PFPC Trust Company began providing custodian services to the Company pursuant to a Custodian Services Agreement. Beginning February 1, 2002, PFPC began providing transfer agency services to the Company pursuant to a Transfer Agency Agreement. Prior to these dates administration, accounting, custody and transfer agent services were provided by J.P. Morgan Investor Services, Co. and JPMorgan Chase Bank. For the services provided to the Company by PFPC and its affiliates, PFPC is entitled to an annual fee of 0.02% of average net assets plus reimbursement of reasonable expenses, subject to a base fee, payable monthly.
The Managing Investment Adviser has voluntarily agreed to waive or reimburse other operating expenses of the Company, exclusive of management fees, to the extent they exceed 0.42% of the Company's net assets, and will waive or reimburse, exclusive of management fees, all such expenses with respect to that portion of the Company's net assets, determined as of the end of each fiscal quarter, that is invested in short-term investments. This reimbursement amounted to $224,571 for the year ended October 31, 2002.
Each director of the Company receives an annual fee of $9,000, plus a meeting fee of $1,500 for each meeting attended, and is reimbursed for expenses incurred for attending meetings. No person who is an officer, director or employee of the Managing Investment Adviser, or U.S. Trust Corporation or its subsidiaries, who serves as an officer, director or employee of the Company receives any compensation from the Company.
Note 3-- Purchases and Sales of Securities
Excluding short-term investments, the Fund's purchases and sales of securities for the years ended October 31, 2002, October 31, 2001 and October 31, 2000 were as follows:
Year Ended October 31, Purchases ($) Sales ($) ----------- ------------- --------- 2002 -- 1,276,895 2001 -- 1,755,513 2000 1,699,403 21,312,360
Sales of securities includes distributions received from private investment funds.
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.
The information set forth under the headings "Election of Directors" and "Additional Information -- Officers" appearing in the Company's definitive Proxy Statement for the 2003 Annual Meeting of Stockholders to be held on March 21, 2003, which will be filed with the Securities and Exchange Commission not later than 120 days after October 31, 2002, is incorporated herein by reference.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION.
The information set forth under the captions "Election of Directors" and "Additional Information -- Officers" in the Company's definitive Proxy Statement for the 2003 Annual Meeting of Stockholders to be held on March 21, 2003, which will be filed with the Securities and Exchange Commission not later than 120 days after October 31, 2002, is incorporated herein by reference.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information set forth under the caption "Security Ownership of Certain Beneficial Owners and Management" appearing in the Company's definitive Proxy Statement for the 2003 Annual Meeting of Stockholders to be held on March 21, 2003, which will be filed with the Securities and Exchange Commission not later than 120 days after October 31, 2002, is incorporated herein by reference.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
None.
ITEM 14.
ITEM 14. CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures. The Company's principal executive officers and principal financial officer, after evaluating the effectiveness of the Company's disclosure controls and procedures (as defined in Exchange Act Rules 13a-14(c) and 15d-14(c)) on January 28, 2003, have concluded that, based on such evaluation, the Company's disclosure controls and procedures were adequate and effective to ensure that material information relating to the Company was made known to them by others within those entities, particularly during the period in which this Annual Report on Form 10-K was being prepared.
(b) Changes in Internal Controls. There were no significant changes in the Company's internal controls or in other factors that could significantly affect these controls subsequent to the date of their evaluation, nor were there any significant deficiencies or material weaknesses in the Company's internal controls. Accordingly, no corrective actions were required or undertaken.
PART IV
ITEM 15.
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(a) 1. Financial Statements
The financial statements listed in Item 8, "Financial Statements and Supplementary Data," beginning on page 9 are filed as part of this report.
2. Financial Statement Schedules
The financial statement schedules listed in Item 8, "Financial Statements and Supplementary Data," beginning on page 9 are filed as part of this report.
3. Exhibits
Exhibit Number Description ------- -----------
(3)(i) Articles of Incorporation of the Company 1
(3)(ii) By-Laws of the Company 1
(10.1) Form of Management Agreement 2
(10.2) Form of Transfer Agency and Custody Agreement 3
(10.3) Investment Sub-Advisory Agreement dated as of December 21, 2001, among the Company, United States Trust Company of New York, U.S. Trust Company and U.S. Trust Company, N.A. 4
(10.4) Administration and Accounting Services Agreement dated January 1, 2002, between the Company and PFPC Inc. 4
(10.5) Custodian Services Agreement dated January 1, 2002, between the Company and PFPC Trust Company. 4
(10.6) Transfer Agency Services Agreement dated February 1, 2002, between the Company and PFPC Inc. 4
(23) Consent of Independent Auditors
(99.1) Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
(b) Reports on Form 8-K
None.
- -------- /1/ Incorporated by reference to the Company's Registration Statement on Form N-2 (File No. 033-84290), filed with the Securities and Exchange Commission on September 22, 1994.
/2/ Incorporated by reference to the Company's Definitive Proxy Statement for the 2000 Annual Meeting of Stockholders, filed with the Securities and Exchange Commission on May 25, 2000.
/3/ Incorporated by reference to the Company's Registration Statement on Form N-2/A (File No. 033-84290) filed with the Securities and Exchange Commission on November 1, 1994.
/4/ Incorporated by reference to the Company's Quarterly Report on Form 10-Q as filed with the Securities and Exchange Commission on March 18, 2002 (File No. 000-24856).
(b) Reports on Form 8-K
None.
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.
UST PRIVATE EQUITY INVESTORS FUND, INC
Date: January 29, 2003 By: /s/ DAVID I. FANN ------------------------------------------ David I. Fann, Chief Executive Officer and President (principal executive officer)
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:
CERTIFICATION OF CO-CHIEF EXECUTIVE OFFICER
I, David I. Fann, certify that:
1. I have reviewed this annual report on Form 10-K of UST Private Equity Investors Fund, Inc.;
2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;
3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:
a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the "Evaluation Date"); and
c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this annual report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.
Date: January 29, 2003
/s/ David I. Fann - -------------------------- David I. Fann, Co-Chief Executive Officer
CERTIFICATION OF CO-CHIEF EXECUTIVE OFFICER
I, Douglas A. Lindgren, certify that:
1. I have reviewed this annual report on Form 10-K of UST Private Equity Investors Fund, Inc.;
2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;
3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:
a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the "Evaluation Date"); and
c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this annual report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.
Date: January 29, 2003
/s/ Douglas A. Lindgren - -------------------------------- Douglas A. Lindgren, Co-Chief Executive Officer
CERTIFICATION OF CHIEF FINANCIAL OFFICER
I, Brian F. Schmidt, certify that:
1. I have reviewed this annual report on Form 10-K of UST Private Equity Investors Fund, Inc.;
2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report;
3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:
a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the "Evaluation Date"); and
c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and
6. The registrant's other certifying officers and I have indicated in this annual report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.
Date: January 29, 2003
/s/ Brian F. Schmidt - ---------------------------- Brian F. Schmidt, Chief Financial Officer