1.	Basis of Presentation

Tortoise Capital Resources Corporation (the “Company”) was organized as a Maryland corporation on September 8, 2005. The Company completed its initial public offering in February 2007 as a non-diversified closed-end management investment company regulated as a business development company (“BDC”) under the Investment Company Act of 1940, as amended (the “1940 Act”). The Company withdrew its election to be treated as a BDC on September 21, 2011 in order to pursue qualification as a real estate investment trust (“REIT”). Historically as a BDC, the Company invested primarily in privately held companies operating in the U.S. energy infrastructure sector. The Company’s shares are listed on the New York Stock Exchange under the symbol “TTO.”

The financial statements included in this report are based on the selection and application of critical accounting policies, which require management to make significant estimates and assumptions. Critical accounting policies are those that are both important to the presentation of our financial condition and results of operations and require management’s most difficult, complex or subjective judgments. The preparation of the consolidated financial statements in conformity with U.S. generally accepted accounting principles (“GAAP”) requires management to make estimates and assumptions that affect the reported amount of assets and liabilities, recognition of distribution income and disclosure of contingent assets and liabilities at the date of the consolidated financial statements. Actual results could differ from those estimates. Note 2 to the Consolidated Financial Statements, included in this report, further details information related to our significant accounting policies.

With the filing of our Annual Report on Form 10-K for the year ended November 30, 2011, the Company’s consolidated financial statements included the accounts of the Company and its wholly-owned subsidiary, Mowood, LLC (“Mowood”). Mowood is the holding company for Omega Pipeline Company, LLC (“Omega”). Omega owns and operates a natural gas distribution system in Fort Leonard Wood, Missouri. Omega is responsible for purchasing and coordinating delivery of natural gas to Fort Leonard Wood as well as performing maintenance and expansion of the pipeline. In addition, Omega provides gas marketing services to local commercial end users. All significant inter-company balances and transactions have been eliminated in consolidation.

The accompanying consolidated financial statements reflect all adjustments that are normal and recurring in nature, and in the opinion of management, necessary for a fair presentation of our financial position, results of operations and cash flows for the interim period presented. The consolidated financial statements have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission pertaining to interim financial statements. These consolidated financial statements and Management’s Discussion and Analysis of the Financial Condition and Results of Operations should be read in conjunction with our Annual Report on Form 10-K for the year ended November 30, 2011 as well as Amendment #1 to our 10-K filed on May 1, 2012 and Amendment #2 to our 10-K filed on June 1, 2012.

Mowood

Consolidation of Mowood was initiated at the time the Company withdrew its election to be treated as a BDC (September 21, 2011) and began reporting its financial results in accordance with general corporate reporting guidelines instead of under the AICPA Investment Company Audit Guide (the “Guide”). At that time, the presentation of the Company’s financial statements also changed prior year’s presentation and have been reclassified to conform to the presentation required for general corporate entities and to provide comparability of financial results across reporting periods. The reclassification of account balances are summarized below:

 

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Items on the Consolidated Statements of Income for the three and nine month periods ended August 31, 2011 have been reclassified and aggregated to conform to the presentation of the results of operations for the three and nine month periods ended August 31, 2012. However, there was no impact to net income or earnings per share. Income from investment securities is no longer considered to be part of the Company’s operations and therefore has been classified as other income.

 

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Components of cash flows for the nine month period ended August 31, 2011 have been reclassified and aggregated to conform to the presentation of cash flows for the nine month period ended August 31, 2012.

 

The accompanying consolidated financial statements reflect the results of the Company’s operations for the three and nine month periods ended August 31, 2011 and August 31, 2012. For the three and nine month periods ended August 31, 2011, the Mowood investment was reported under the Guide and therefore reported and accounted for as an investment carried at fair value; subsequent to September 21, 2011, the Company ceased reporting under the Guide.

The accompanying consolidated financial statements have been prepared in accordance with GAAP for interim financial information set forth in the Accounting Standards Codification (“ASC”), as published by the Financial Accounting Standards Board (“FASB”), and with the Securities and Exchange Commission (“SEC”) instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. The accompanying consolidated financial statements reflect all adjustments that are, in the opinion of management, necessary for a fair presentation of the Company’s financial position, results of operations and cash flows for the interim period presented. Operating results for the three and nine month periods ended August 31, 2012 are not necessarily indicative of the results that may be expected for the year ending November 30, 2012. These consolidated financial statements and Management’s Discussion and Analysis of the Financial Condition and Results of Operations should be read in conjunction with our Annual Report on Form 10-K for the year ended November 30, 2011.

 

2.	Significant Accounting Policies

A. Use of Estimates — The preparation of the consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amount of assets and liabilities, recognition of distribution income and disclosure of contingent assets and liabilities at the date of the consolidated financial statements. Actual results could differ from those estimates.

B. Investment Securities — The Company’s investments in securities are classified as either trading or other equity securities:

 

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Trading securities – the Company’s publicly traded equity securities are classified as trading securities and are reported at fair value because the Company intends to sell these securities in order to acquire real asset investments.

 

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Other equity securities – the Company’s other equity securities represent interests in private companies for which the Company has elected to report these at fair value under the fair value option.

C. Security Transactions and Fair Value — Security transactions are accounted for on the date the securities are purchased or sold

(trade date). Realized gains and losses are reported on an identified cost basis.

For equity securities that are freely tradable and listed on a securities exchange or over-the-counter market, the Company fair values those securities at their last sale price on that exchange or over-the-counter market on the valuation date. If the security is listed on more than one exchange, the Company will use the price from the exchange that it considers to be the principal exchange on which the security is traded. Securities listed on the NASDAQ will be valued at the NASDAQ Official Closing Price, which may not necessarily represent the last sale price. If there has been no sale on such exchange or over-the-counter market on such day, the security will be valued at the mean between the last bid price and last ask price on such day.

An equity security of a publicly traded company acquired in a private placement transaction without registration is subject to restrictions on resale that can affect the security’s liquidity and fair value. Such securities that are convertible into or otherwise will become freely tradable will be valued based on the market value of the freely tradable security less an applicable discount. Generally, the discount will initially be equal to the discount at which the Company purchased the securities. To the extent that such securities are convertible or otherwise become freely tradable within a time frame that may be reasonably determined, an amortization schedule may be used to determine the discount.

 

The major components of net realized and unrealized gain on trading securities for the three and nine month periods August 31, 2012 and 2011 are as follows:

 

		For the Three Month Periods Ended								For the Nine Month Periods Ended
		August 31, 2012				August 31, 2011				August 31, 2012				August 31, 2011
Net unrealized gain (loss) on trading securities		$	5,911,138			$	584,649			$	5,173,328			$	(204,554	)
Net realized gain on trading securities			24,630				22,750				24,630				2,033,872
Total net realized and unrealized gain on trading securities		$	5,935,768			$	607,399			$	5,197,958			$	1,829,318

The Company holds investments in illiquid securities, including debt and equity securities of privately-held companies. These investments generally are subject to restrictions on resale, have no established trading market and are fair valued on a quarterly basis. Because of the inherent uncertainty of valuation, the fair values of such investments, which are determined in accordance with procedures approved by the Company’s Board of Directors, may differ materially from the values that would have been used had a ready market existed for the investments. The Company’s Board of Directors may consider other methods of valuing investments as appropriate and in conformity with GAAP.

The Company determines fair value to be the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The Company has determined the principal market, or the market in which the Company exits its private portfolio investments with the greatest volume and level of activity, to be the private secondary market. Typically, private companies are bought and sold based on multiples of EBITDA, cash flows, net income, revenues or, in limited cases, book value.

For private company investments, value is often realized through a liquidity event of the entire company. Therefore, the value of the company as a whole (enterprise value) at the reporting date often provides the best evidence of the value of the investment and is the initial step for valuing the Company’s privately issued securities. For any one company, enterprise value may best be expressed as a range of fair values, from which a single estimate of fair value will be derived. In determining the enterprise value of a portfolio company, an analysis is prepared consisting of traditional valuation methodologies including market and income approaches. The Company considers some or all of the traditional valuation methods based on the individual circumstances of the portfolio company in order to derive its estimate of enterprise value.

The fair value of investments in private portfolio companies is determined based on various factors, including enterprise value, observable market transactions, such as recent offers to purchase a company, recent transactions involving the purchase or sale of the equity securities of the company, or other liquidation events. The determined equity values may be discounted when the Company has a minority position that is subject to restrictions on resale, has specific concerns about the receptivity of the capital markets to a specific company at a certain time, or other comparable factors exist.

 

The Company undertakes a multi-step valuation process each quarter in connection with determining the fair value of private investments. An independent valuation firm has been engaged by the Company to provide independent, third-party valuation consulting services based on procedures that the Company has identified and may ask them to perform from time to time on all or a selection of private investments as determined by the Company. The multi-step valuation process is specific to the level of assurance that the Company requests from the independent valuation firm. For positive assurance, the process is as follows:

 

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The independent valuation firm prepares the valuations and the supporting analysis. At August 31, 2012, the independent valuation firm performed positive assurance valuation procedures on two portfolio companies comprising approximately 100 percent of the total fair value of the other equity securities.

 

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The Investment Committee of the Adviser reviews the valuations and supporting analyses, prior to approving the valuations.

D. Cash and Cash Equivalents — The Company maintains cash balances at financial institutions in amounts that regularly exceed FDIC insured limits. The Company’s cash equivalents are comprised of short-term, liquid money market instruments.

E. Accounts Receivables — Accounts receivable is presented at face value net of an allowance for doubtful accounts. Accounts are considered past due based on the terms of sale with the customers. The Company reviews accounts for collectability based on an analysis of specific outstanding receivables, current economic conditions and past collection experience. At August 31, 2012, management determined that an allowance for doubtful accounts related to our leases was not required. Lease payments by our major tenant as defined within Note 8, have remained timely and without lapse. Management also determined that an allowance for doubtful accounts related to other revenue items was not necessary at August 31, 2012.

F. Revenue and Other Income Recognition — Specific policies for the Company’s revenue and other income items are as follows:

 

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Sales revenue — Omega, acting as a principal, provides for transportation services and natural gas supply for its customers on a firm basis. In addition, Omega is paid fees for the operation and maintenance of its pipeline, including expansion of the pipeline. Omega is responsible for the coordination, supervision and quality of the expansions while actual construction is generally performed by third party contractors. Revenues related to natural gas distribution are recognized upon delivery of natural gas and upon the substantial performance of management and supervision services related to the expansion of the natural gas distribution system. Revenues from construction contracts are recognized in accordance with GAAP using either a completed contract or percentage of completion method based on the level and volume of estimates utilized, as well as the certainty or uncertainty of our ability to collect those revenues.

 

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Lease income — Income related to the Company’s leased property is recognized on a straight-line basis over the term of the lease when collectability is reasonably assured. Rental payments on the leased property are typically received on a semi-annual basis and are included as lease income within the accompanying Consolidated Statements of Income.

 

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Dividends and distributions from investments — Dividends and distributions from investments are recorded on their ex-dates and are reflected as other income within the accompanying Consolidated Statements of Income. Distributions received from the Company’s investments generally are characterized as ordinary income, capital gains and distributions received from investment securities. The portion characterized as return of capital is paid by our investees from their cash flow from operations. The Company records investment income, capital gains and distributions received from investment securities based on estimates made at the time such distributions are received. Such estimates are based on information available from each company and/or other industry sources. These estimates may subsequently be revised based on information received from the entities after their tax reporting periods are concluded, as the actual character of these distributions is not known until after the fiscal year end of the Company.

 

For the nine month period from December 1, 2011 through August 31, 2012, the Company estimated the allocation of investment income and distributions received from investment securities for the distributions received during the period from its portfolio companies within the Consolidated Statements of Income. For this period, the Company has estimated approximately 2 percent as investment income and approximately 98 percent distributions received from investment securities. The return of capital portions of the distributions are reflected on the cash flow statements as “distributions received from investment securities.”

 

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Securities Transactions and Investment Income Recognition — Securities transactions are accounted for on the date the securities are purchased or sold (trade date). Realized gains and losses are reported on an identified cost basis. Distributions received from our equity investments generally are comprised of ordinary income, capital gains and distributions received from investment securities from the portfolio company. The Company records investment income and return of capital based on estimates made at the time such distributions are received. Such estimates are based on information available from each portfolio company and/or other industry sources. These estimates may subsequently be revised based on information received from the portfolio companies after their tax reporting periods are concluded, as the actual character of these distributions are not known until after our fiscal year end.

Subsequent to November 30, 2011, the Company reallocated the amount of 2011 income and return of capital it recognized for the period December 1 2010 to November 30, 2011 based on the 2011 tax reporting information received from the individual portfolio companies. This reclassification amounted to a decrease in net distributions and dividend income on securities of approximately $448,000 or $.05 per share ($281,000 or $0.03 per share, net of deferred tax benefit); an increase in net realized and unrealized gains on trading and other equity securities of $448,000 or $.05 per share ($281,000 or $0.03 per share, net of deferred tax expense) for the year ended November 30, 2011.

Subsequent to the period ended May 31, 2012, the Company allocated the amount of investment income and return of capital recognized in the current fiscal year based on its revised 2012 estimates, after considering the final allocations for 2011. This reclassification amounted to a decrease in net distributions and dividend income on securities of approximately $95,000 or $.01 per share ($60,000 or $0.007 per share, net of deferred tax benefit); an increase in net realized and unrealized gains on trading and other equity securities of $95,000 or $.01 per share ($60,000 or $0.007 per share, net of deferred tax expense) for the nine month period from December 1, 2011 to August 31, 2012.

 

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Realized and unrealized gains (losses) on trading securities and other equity securities — Changes in the fair values of the Company’s securities during the period reported and the gains or losses realized upon sale of securities during the period are reflected as other income within the accompanying Consolidated Statements of Income.

G. Cost of Sales — Included in the Company’s cost of sales are the amounts paid for gas and propane that are delivered to customers as well as the cost of material and labor related to the expansion of the natural gas distribution system.

H. Distributions to Stockholders — The amount of any quarterly distributions to stockholders will be determined by the Board of Directors. Distributions to stockholders are recorded on the ex-dividend date. The character of distributions made during the year may differ from their ultimate characterization for federal income tax purposes. For the year ended November 30, 2011 and the nine month period ended August 31, 2012 the primary source of the Company’s distributions for book purposes distributions was received from investment securities. For the year ended November 30, 2011, the Company’s distributions for tax purposes were comprised of 100 percent qualified dividend income. The tax character of distributions paid to common stockholders in the current year will be determined subsequent to November 30, 2012.

 

I. Federal and State Income Taxation — The Company, as a corporation, is obligated to pay federal and state income tax on its taxable income. Currently, the highest regular marginal federal income tax rate for a corporation is 35 percent. The Company may be subject to a 20 percent federal alternative minimum tax on its federal alternative minimum taxable income to the extent that its alternative minimum tax exceeds its regular federal income tax.

The Company’s trading securities and other equity securities are limited partnerships or limited liability companies which are treated as partnerships for federal and state income tax purposes. As a limited partner, the Company reports its allocable share of taxable income in computing its own taxable income. The Company’s tax expense or benefit is included in the Consolidated Statements of Income. Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. A valuation allowance is recognized if, based on the weight of available evidence, it is more likely than not that some portion or all of the deferred income tax asset will not be realized.

J. Leases — The Company includes assets subject to lease arrangements within Leased property, net of accumulated depreciation in the Consolidated Balance Sheet. Lease payments received are reflected on the Consolidated Statements of Income, net of amortization of any off market adjustments.

K. Long-Lived Assets and Intangibles — Property and equipment are stated at cost less accumulated depreciation. Depreciation is computed using the straight-line method over the estimated useful lives of the assets ranging from five to twenty years. Expenditures for repairs and maintenance are charged to operations as incurred, and improvements, which extend the useful lives of assets, are capitalized and depreciated over the remaining estimated useful life of the asset.

The Company initially records long-lived assets at their acquisition cost, unless the transaction is accounted for as a business combination. If the transaction is accounted for as a business combination, the Company allocates the purchase price to the acquired tangible and intangible assets and liabilities based on their estimated fair values. The Company determines the fair values of assets and liabilities based on discounted cash flow models using current market assumptions, appraisals, recent transactions involving similar assets or liabilities and/or other objective evidence, and depreciates the asset values over the estimated remaining useful lives.

In connection with these transactions, the Company may acquire long-lived assets that are subject to an existing lease contract with the seller or other lessee party and the Company may assume outstanding debt of the seller as part of the consideration paid. If, at the time of acquisition, the existing lease or debt contract is not at current market terms, the Company will record an asset or liability at the time of acquisition representing the amount by which the fair value of the lease or debt contract differs from its contractual value. Such amount is then amortized over the remaining contract term as an adjustment to the related lease revenue or interest expense.

L. Asset Acquisition Costs — Costs in connection with the acquisition of real property are expensed as incurred.

M. Offering Costs — Offering costs related to the issuance of common stock are charged to additional paid-in capital when the stock is issued.

N. Recent Accounting Pronouncement — In May 2011, the FASB issued ASU No. 2011-04 “Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements” in GAAP and the International Financial Reporting Standards (“IFRSs”). ASU No. 2011-04 amends FASB ASC Topic 820, Fair Value Measurements and Disclosures, to establish common requirements for measuring fair value and for disclosing information about fair value measurements in accordance with GAAP and IFRSs. ASU No. 2011-04 is effective for fiscal years beginning after December 15, 2011 and for interim periods within those fiscal years. Management has adopted these amendments, which did not have a material impact on the Company’s consolidated financial statements.

 

3.	Concentrations

The Company has historically invested in securities of privately-held and publicly-traded companies in the midstream and downstream segments of the U.S. energy infrastructure sector. As of August 31, 2012, investments in securities of energy infrastructure companies represented approximately 69 percent of the Company’s total assets. The Company is now focused on identifying and acquiring real property assets in the U.S. energy infrastructure sector that are REIT qualified.

The Company’s leased property at August 31, 2012 is leased to a single entity, Public Service Company of New Mexico, as further described in Note 8. Public Service Company of New Mexico’s financial condition and ability and willingness to satisfy its obligations under its leases with the Company has a considerable impact on the Company’s results of operations.

Omega has a ten-year contract expiring in 2015 to supply natural gas to the Department of Defense (“DOD”). Revenue related to the DOD contract accounted for 69 percent of sales revenues for the three month period from May 1, 2012 through August 31, 2012 and 82 percent of sales revenues for the nine month period from December 1, 2011 through August 31, 2012. Mowood, through its wholly owned subsidiary Omega, performs management and supervision services related to the expansion of the natural gas distribution system used by the DOD. Amounts due from the DOD, account for 76 percent of the consolidated accounts receivable balance at August 31, 2012.

Mowood’s contracts for its supply of natural gas are concentrated among select providers. Payments to its largest supplier of natural gas to-date during 2012, accounted for 5 percent of cost of sales for the three month period from May 1, 2012 through August 31, 2012, and 30 percent of cost of sales for the nine month period from December 1, 2011 through August 31, 2012.

 

4.	Agreements

On December 1, 2011, the Company executed a Management Agreement (“Agreement”) with Corridor InfraTrust Management, LLC (“Corridor”). The terms of the Management Agreement include a quarterly management fee equal to 0.25 percent (1.00 percent annualized) of the value of the Company’s average monthly Managed Assets for such quarter. For purposes of the Agreement, “Managed assets” means all of the securities of the Company and all of the real property assets of the Company (including any securities or real property assets purchased with or attributable to any borrowed funds) minus all of the accrued liabilities other than (1) deferred taxes and (2) debt entered into for the purpose of leverage. For purposes of the definition of Managed Assets, “securities” includes the Company’s security portfolio, valued at then current market value. For purposes of the definition of Managed Assets, “real property assets” includes the assets of the Company invested, directly or indirectly, in equity interests in or loans secured by real estate and personal property owned in connection with such real estate (including acquisition related costs and acquisition costs that may be allocated to intangibles or are unallocated, valued at the aggregate historical cost, before reserves for depreciation, amortization, impairment charges or bad debts or other similar noncash reserves.) The Management Agreement also includes a quarterly incentive fee of 10 percent of the increase in distributions paid over a threshold distribution equal to $0.125 per share per quarter. The Management Agreement also requires at least half of any incentive fees to be reinvested in the Company’s common stock. In addition, the Company entered into a new Advisory Agreement by and among the Company, Tortoise Capital Advisors, L.L.C. and Corridor under which Tortoise Capital Advisors, L.L.C. will provide certain securities focused investment services necessary to evaluate, monitor and liquidate the Company’s remaining securities portfolio and also provide the Company with certain operational (i.e. non-investment) services. Corridor will compensate Tortoise Capital Advisors, L.L.C. for such services provided to the Company.

Tortoise Capital Advisors, L.L.C. serves as the Company’s Administrator. The Company pays the Administrator a fee equal to an annual rate of 0.04 percent of aggregate average daily managed assets, with a minimum annual fee of $30,000. This fee is calculated and accrued daily and paid quarterly in arrears.

 

5.	Income Taxes

Deferred income taxes reflect the net tax effect of temporary differences between the carrying amount of assets and liabilities for financial reporting and tax purposes. Components of the Company’s deferred tax assets and liabilities as of August 31, 2012 and November 30, 2011 are as follows:

 

		August 31, 2012				November 30, 2011
Deferred Tax Assets:
Organization costs		$	(18,220	)		$	(20,068	)
Net operating loss carry forwards			(4,893,990	)			(2,624,525	)
Cost recovery of leased assets			(57,038	)			(119,970	)
Asset acquisition costs			(88,065	)			—
AMT and state of Kansas credit			(196,197	)			(205,039	)
Sub-total		$	(5,253,510	)		$	(2,969,602	)
Deferred Tax Liabilities:
Basis reduction of investment in partnerships			10,155,864			$	2,244,914
Net unrealized gain on investment securities			2,485,706				697,152
Sub-total		$	12,641,570			$	2,942,066
Total net deferred tax liability (asset)		$	7,388,060			$	(27,536	)

At August 31, 2012, a valuation allowance on deferred tax assets was not deemed necessary because the Company believes it is more likely than not that there is an ability to realize its deferred tax assets through future taxable income. Any adjustments to the Company’s estimates of future taxable income will be made in the period such determination is made. The Company’s policy is to record interest and penalties on uncertain tax positions as part of tax expense. As of August 31, 2012, the Company had no uncertain tax positions and no penalties and interest were accrued. Tax years subsequent to the year ending November 30, 2006 remain open to examination by federal and state tax authorities.

Total income tax expense differs from the amount computed by applying the federal statutory income tax rates of 35 percent for the three and nine months ended August 31, 2012 and 2011 to gain (loss) from operations and other income for the periods presented, as follows:

 

		For the Three Month Periods Ended								For the Nine Month Periods Ended
		August 31, 2012				August 31, 2011				August 31, 2012				August 31, 2011
Application of statutory income tax rate		$	2,722,054			$	427,310			$	7,055,010			$	2,190,982
State income taxes, net of federal tax benefit			155,106				69,602				479,459				164,011
Dividends received deduction Change in deferred tax valuation allowance			12 —				—   —				(1,221 —	)			—   (558,533	)
Other			(88,387	)			(14,872	)			(88,387	)			(23,432	)
Total income tax expense		$	2,788,785			$	482,040			$	7,444,861			$	1,773,028

 

Total income taxes are computed by applying the federal statutory rate plus a blended state income tax rate. During the period, the Company re-evaluated its overall federal and state income tax rate, decreasing it from 37.62 percent to 37.26 percent due to anticipated state apportionment of income and gains. The components of income tax expense include the following for the periods presented:

 

		For the Three Month Periods Ended								For the Nine Month Periods Ended
		August 31, 2012				August 31, 2011				August 31, 2012				August 31, 2011
Current tax expense:
AMT expense (benefit)		$	(18,842	)		$	—			$	(8,842	)		$	200,000
State tax expense			38,107				—				38,107				—
Total current tax expense		$	19,265			$	—			$	29,265			$	200,000
Deferred tax expense:
Federal		$	2,601,535			$	448,469			$	6,965,804			$	1,463,476
State (net of federal tax benefit)			167,985				33,571				449,792				109,552
Total deferred tax expense			2,769,520				482,040				7,415,596				1,573,028
Total income tax expense		$	2,788,785			$	482,040			$	7,444,861			$	1,773,028

The deferred income tax expense for the nine months ended August 31, 2011 includes the impact of the change in valuation allowance.

As of November 30, 2011, the Company had a net operating loss for federal income tax purposes of approximately $7,387,000. The net operating loss may be carried forward for 20 years. If not utilized, this net operating loss will expire as follows: $8,000, $4,002,000, $3,353,000 and $24,000 in the years ending November 30, 2028, 2029, 2030 and 2031, respectively. The amount of deferred tax asset for net operating losses at August 31, 2012 includes amounts for the period from December 1, 2011 through August 31, 2012. As of November 30, 2011, the Company utilized its capital loss carry forward. As of November 30, 2011, an alternative minimum tax credit of $194,267 was available, which may be credited in the future against regular income tax. This credit may be carried forward indefinitely.

The aggregate cost of securities for federal income tax purposes and securities with unrealized appreciation and depreciation, were as follows:

 

		August 31, 2012				November 30, 2011
Aggregate cost for federal income tax purposes		$	47,508,824			$	65,471,208
Gross unrealized appreciation			30,269,676				8,307,122
Gross unrealized depreciation			(927,215	)			(4,883,958	)
Net unrealized appreciation		$	29,342,461			$	3,423,164

 

6.	Fair Value of Financial Instruments

Various inputs are used in determining the fair value of the Company’s assets and liabilities. These inputs are summarized in the three broad levels listed below:

 

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Level 1 — quoted prices in active markets for identical investments.

 

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Level 2 — other significant observable inputs (including quoted prices for similar investments, market corroborated inputs, etc.).

 

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Level 3 — significant unobservable inputs (including the Company’s own assumptions in determining the fair value of investments.

Valuation Techniques

In general, and where applicable, the Company uses readily available market quotations based upon the last updated sales price from the principal market to determine fair value. This pricing methodology applies to the Company’s Level 1 trading securities.

 

An equity security of a publicly traded company acquired in a private placement transaction without registration under the Securities Act of 1933, as amended (the “1933 Act”), is subject to restrictions on resale that can affect the security’s liquidity (and hence its fair value). If the security has a common share counterpart trading in a public market, the Company generally determines an appropriate percentage discount for the security in light of the restrictions that apply to its resale (taking into account, for example, whether the resale restrictions of Rule 144 under the 1933 Act apply). This pricing methodology applies to the Company’s Level 2 trading securities.

The Company’s other equity securities, which represent security interests in private companies, are classified as Level 3 assets. Valuation of these investments is determined by weighting various valuation metrics for each security. Significant judgment is required in selecting the assumptions used to determine the fair values of these investments. Decreases in the valuation multiples and increases in the discount rates used would result in decreased fair values of these investments.

 

Security Investment		Valuation Technique		Valuation Metric and Weighting Used
Lightfoot Capital Partners LP		Weighting of various valuation metrics		Public company comparables historical EBITDA multiples (20.0%)
				Public company comparables projected EBITDA multiples (20.0%) Historical EBITDA multiples for recent comparables industry transactions (20.0%) Discounted cash flow analysis of EBITDA (20.0%) Distributable cash flows yield analysis (20.0%)
VantaCore Partners LP		Weighting of various valuation metrics		Public company comparables historical EBITDA multiples (12.5%)
				Public company comparables projected EBITDA multiples (12.5%) Historical EBITDA multiples for recent comparables industry transactions (12.5%) Discounted cash flow analysis of EBITDA (12.5%) Recent capital transaction of the company (50.0%)

The inputs or methodology used for valuing securities are not necessarily an indication of the risk associated with investing in those securities. The following tables provide the fair value measurements of applicable Company assets and liabilities by level within the fair value hierarchy as of August 31, 2012 and November 30, 2011. These assets and liabilities are measured on a recurring basis.

August 31, 2012

 

						Fair Value
Description		August 31, 2012				Level 1				Level 2				Level 3
Assets:
Trading securities		$	57,321,502			$	27,172,862			$	30,148,640			$	—
Other equity securities			19,529,783				—				—				19,529,783
Total Assets		$	76,851,285			$	27,172,862			$	30,148,640			$	19,529,783

November 30, 2011

 

						Fair Value
Description		November 30, 2011				Level 1				Level 2				Level 3
Assets:
Trading securities		$	27,037,642			$	27,037,642			$	—			$	—
Other equity securities			41,856,730				—				—				41,856,730
Total Assets		$	68,894,372			$	27,037,642			$	—			$	41,856,730

 

The changes for all Level 3 assets measured at fair value on a recurring basis using significant unobservable inputs for the nine months ended August 31, 2012 and August 31, 2011, are as follows:

 

		For the Nine Month Periods ended
Description		August 31, 2012				August 31, 2011
Fair value beginning balance		$	41,856,730			$	72,929,409
Total realized and unrealized gains (losses) included in net income			15,467,845				3,655,464
Purchases			—				11,490,789
Sales			(35,919,672	)			(32,734,818	)
Return of capital adjustments impacting cost basis of securities			(1,875,120	)			(861,917	)
Fair value ending balance		$	19,529,783			$	54,478,927
The amount of total gains (losses) for the period included in net income attributable to the change in unrealized gains (losses) relating to assets still held at the reporting date which are included in net realized and unrealized gain on other equity securities within the statement of income		$	(355,223	)		$	(434,354	)

As of May 31, 2012, the Company’s other equity securities, which represented security interests in private companies, and were classified as Level 3 assets, included High Sierra Energy, LP. On June 19, 2012, NGL Energy Partners, LP and certain of its affiliates (collectively “NGL”) acquired High Sierra Energy, LP and High Sierra Energy GP, LLC (collectively “High Sierra”) pursuant to which NGL, a New York Stock Exchange listed company, paid to the limited partners of High Sierra approximately $9.4 million in cash and approximately 1.2 million newly issued units of NGL. A realized gain of $15.8 million was recognized during the third quarter upon the sale. NGL is classified as a Level 2 Trading security above. (See Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations, Private Company and Wholly Owned Subsidiary Update, High Sierra.)

The Company utilizes the beginning of reporting period method for determining transfers between levels. There were no transfers between levels for the nine months ended August 31, 2012 and August 31, 2011, respectively.

Certain condensed financial information of the unconsolidated affiliates follows. The information is the most recently available financial information for these companies, which is the nine months ending June 30, 2012 as reported by the portfolio companies for VantaCore Partners LP (11 percent equity interest), and Lightfoot Capital Partners LP (6.7 percent equity interest).

 

Revenues		$	55,797,834			Current assets		$	31,552,000
Operating expenses		$	42,793,623			Noncurrent assets		$	296,706,000
Net income		$	1,283,754			Current liabilities		$	16,974,000
						Noncurrent liabilities		$	108,331,000
						Partner’s equity		$	202,953,000

The following section describes the valuation methodologies used by the Company for estimating fair value for financial instruments not recorded at fair value as required under disclosure guidance related to the fair value of financial instruments.

Cash and Cash Equivalents — The carrying value of cash, amounts due from banks, federal funds sold and securities purchased under resale agreements approximates fair value.

Escrow Receivable — The escrow receivable due the Company, which relates to the sale of International Resource Partners, LP, is anticipated to be released upon satisfaction of certain post-closing obligations and/or the expiration of certain time periods (the shortest of which was to be 14 months from the April 2011 closing date of the sale). The fair value of the escrow receivable reflects a discount for the potential that the full amount due to the Company will not be realized. During the third quarter, the carrying value of the escrow receivable was reduced by $335,486 to its fair value as of August 31, 2012.

Long-term Debt — The fair value of the Company’s long-term debt is calculated, for disclosure purposes, by discounting future cash flows by a rate equal to the Company’s current expected rate for an equivalent transaction.

Line of Credit — The carrying value of the line of credit approximates the fair value due to its short term nature.

 

				August 31, 2012								November 30, 2011
Description		Level within the Fair Value Hierarchy		Carrying Amount				Fair Value				Carrying Amount				Fair Value
Financial Assets
Cash and cash equivalents		Level 1		$	11,783,529			$	11,783,529			$	2,793,326			$	2,793,326
Escrow receivable		Level 2		$	1,341,566			$	1,341,566			$	1,677,052			$	1,677,052
Financial Liabilities
Long-term debt		Level 2		$	910,863			$	947,985			$	2,279,883			$	2,320,851
Line of credit		Level 1		$	125,000			$	125,000				—				—

 

7.	Property and Equipment

Property and equipment consists of the following:

 

Description		August 31, 2012				November 30, 2011
Natural gas pipeline		$	5,215,424			$	5,215,424
Vehicles and storage trailers			110,782				98,717
Computers			14,018				12,150
Gross property and equipment			5,340,224				5,326,291
Less accumulated depreciation			(1,680,984	)			(1,483,616	)
Net property and equipment		$	3,659,240			$	3,842,675

 

8.

Leases

The Company’s investment in the Eastern Interconnect Project (“EIP”) is leased under net operating leases with various terms to Public Service Company of New Mexico (“PNM”). PNM is referred to as the “Major Tenant”.

The future contracted minimum rental receipts for all net leases as of August 31, 2012 are as follows:

 

		Amount
September 1 – November 30, 2012		$	1,422,457
2013			2,844,914
2014			2,844,914
2015			1,422,457
Thereafter			—
Total		$	8,534,742

In view of the fact that the Major Tenant leases a substantial portion of the Company’s net leased property which is a significant source of revenues and operating income, its financial condition and ability and willingness to satisfy its obligations under its lease with the Company, has a considerable impact on the results of operation.

The Major Tenant is currently subject to the reporting requirements of the Securities Exchange Act of 1934, as amended, and is required to file with the SEC annual reports containing audited financial statements and quarterly reports containing unaudited financial statements. The audited financial statements and unaudited financial statements of the Major Tenant can be found on the SEC’s website at www.sec.gov. The Company makes no representation as to the accuracy or completeness of the audited and unaudited financial statements of the Major Tenant but has no reason not to believe the accuracy or completeness of such information. In addition, the Major Tenant has no duty, contractual or otherwise, to advise the Company of any events that might have occurred subsequent to the date of such financial statements which could affect the significance or accuracy of such information. None of the information in the public reports of the Major Tenant that are filed with the SEC is incorporated by reference into, or in any way forms a part of this filing.

On February 9, 2010, Mowood sold one of its wholly owned subsidiaries to an unrelated third party. As part of that agreement, Mowood assumed a lease obligation, including insurance and other maintenance costs, for office space to be used by the subsidiary that was sold, through April 2013. The fair value of the future minimum lease payments and estimated costs were recorded as a liability upon the sale of the subsidiary.

 

Period		Lease Obligation				Interest Portion				Estimated Expenses				Total Obligation
September 1, 2012 – November 30, 2012		$	20,309			$	(437	)		$	454			$	20,326
December 1, 2012 – March 31, 2013			27,162				(245	)			605				27,522
Total		$	47,471			$	(682	)		$	1,059			$	47,848

 

9.	Intangibles

The Company has recorded an intangible lease asset for the fair value of the amount by which the remaining contractual lease payments exceed market lease rates at the time of acquisition. The intangible lease asset is being amortized on a straight-line basis over the life of the lease term, which expires on April 1, 2015. Amortization of the intangible lease asset is reflected in the accompanying Consolidated Statements of Income as a reduction to lease income.

 

Description		August 31, 2012				November 30, 2011
Intangible lease asset		$	1,094,771			$	1,094,771
Accumulated amortization			(340,595	)			(121,641	)
Net intangible lease asset		$	754,176			$	973,130

 

Remaining estimated amortization on the lease is as follows:

 

Period		Amount
September 1 – November 30, 2012		$	72,985
2013			291,939
2014			291,939
2015			97,313
Thereafter			—
Total		$	754,176

 

10.	Credit Facilities

On November 30, 2011, the Company entered into a 180-day rolling evergreen margin loan facility with Bank of America, N.A. The terms of the agreement provide for a $10,000,000 facility that is secured by certain of the Company’s assets. Outstanding balances generally will accrue interest at a variable rate equal to one-month LIBOR plus 0.75 percent and unused portions of the facility will accrue a fee equal to an annual rate of 0.25 percent. The Company did not have any borrowings outstanding as of November 30, 2011, and the facility was not utilized during the nine month period of December 1, 2011 through August 31, 2012. As of August 31, 2012, the Company had segregated trading securities with an aggregate value of $1,205,140 to serve as collateral for potential borrowings under the loan facility.

On October 29, 2011, Mowood entered into a revolving note payable with a financial institution with a maximum borrowing base of $1,250,000. Borrowings on the note are secured by all of Mowood’s assets. Interest accrues at one-month LIBOR, plus a 400 percent margin (4.235 percent on August 31, 2012), is payable monthly, with all outstanding principal and accrued interest payable on October 29, 2012. Mowood had outstanding borrowings of $125,000 at August 31, 2012. The agreement contains various restrictive covenants, with the most significant relating to minimum consolidated fixed charge ratio, the incidence of additional indebtedness, member distributions, and extension of guaranties, future investments in other subsidiaries and change in ownership. As of August 31, 2012, the Company was in compliance with all covenants.

 

11.

Warrants

At August 31, 2012 and November 30, 2011, the Company had 945,594 warrants issued and outstanding. The warrants were issued to stockholders that invested in the Company’s initial private placements and became exercisable on February 7, 2007 (the closing date of the Company’s initial public offering of common shares), subject to a lock-up period with respect to the underlying common shares. Each warrant entitles the holder to purchase one common share at the exercise price of $11.41 per common share. Warrants were issued as separate instruments from the common shares and are permitted to be transferred independently from the common shares. The warrants have no voting rights and the common shares underlying the unexercised warrants have no voting rights until such common shares are received upon exercise of the warrants. All warrants expire on February 6, 2014.

 

12.	Earnings Per Share

The following table sets forth the computation of basic and diluted earnings per share:

 

		For the Three Month Periods Ended								For the Nine Month Periods Ended
Description		August 31, 2012				August 31, 2011				August 31, 2012				August 31, 2011
Net income		$	4,988,508			$	590,639			$	12,712,309			$	4,486,921
Basic and diluted weighted average shares (1)			9,182,699				9,164,865				9,180,776				9,156,171
Basic and diluted earnings per share		$	0.54			$	0.06			$	1.38			$	0.49

 

(1)

Warrants to purchase shares of common stock were outstanding during the periods reflected in the table above, but were not included in the computation of diluted earnings per share because the warrants’ exercise price was greater than the average market value of the common shares and, therefore, the effect would be anti-dilutive.

The changes in earnings per share for the three and nine month periods ended August 31, 2012, to the three and nine month periods ended August 31, 2011, reflect the weighted average change in overall net income related to the consolidation of Mowood financial information and lease operating and securities transactions.

 

13.	Subsequent Events

Distribution

On August 7, 2012, the Company declared a dividend of $0.11 per share for a total distribution of $1,010,291. The distribution was paid on September 4, 2012 to stockholders of record on August 24, 2012. The dividend reinvestment amounted to approximately $27,000.

Formerly Owned International Resource Partners, LP

Upon the satisfaction of certain post-closing obligations, $628,863 of the escrow receivable due the Company, which relates to the sale of International Resource Partners, LP, was released and paid to the Company on September 20, 2012. No clear agreement has been reached as to the remaining escrow balance and Management anticipates that it may take more than a year to satisfy other post-closing obligations prior to receiving the approximately $713,000 escrow receivable balance remaining.

A. Use of Estimates — The preparation of the consolidated financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amount of assets and liabilities, recognition of distribution income and disclosure of contingent assets and liabilities at the date of the consolidated financial statements. Actual results could differ from those estimates.

B. Investment Securities — The Company’s investments in securities are classified as either trading or other equity securities:

 

•

Trading securities – the Company’s publicly traded equity securities are classified as trading securities and are reported at fair value because the Company intends to sell these securities in order to acquire real asset investments.

 

•

Other equity securities – the Company’s other equity securities represent interests in private companies for which the Company has elected to report these at fair value under the fair value option.

C. Security Transactions and Fair Value — Security transactions are accounted for on the date the securities are purchased or sold

(trade date). Realized gains and losses are reported on an identified cost basis.

For equity securities that are freely tradable and listed on a securities exchange or over-the-counter market, the Company fair values those securities at their last sale price on that exchange or over-the-counter market on the valuation date. If the security is listed on more than one exchange, the Company will use the price from the exchange that it considers to be the principal exchange on which the security is traded. Securities listed on the NASDAQ will be valued at the NASDAQ Official Closing Price, which may not necessarily represent the last sale price. If there has been no sale on such exchange or over-the-counter market on such day, the security will be valued at the mean between the last bid price and last ask price on such day.

An equity security of a publicly traded company acquired in a private placement transaction without registration is subject to restrictions on resale that can affect the security’s liquidity and fair value. Such securities that are convertible into or otherwise will become freely tradable will be valued based on the market value of the freely tradable security less an applicable discount. Generally, the discount will initially be equal to the discount at which the Company purchased the securities. To the extent that such securities are convertible or otherwise become freely tradable within a time frame that may be reasonably determined, an amortization schedule may be used to determine the discount.

 

The major components of net realized and unrealized gain on trading securities for the three and nine month periods August 31, 2012 and 2011 are as follows:

 

		For the Three Month Periods Ended								For the Nine Month Periods Ended
		August 31, 2012				August 31, 2011				August 31, 2012				August 31, 2011
Net unrealized gain (loss) on trading securities		$	5,911,138			$	584,649			$	5,173,328			$	(204,554	)
Net realized gain on trading securities			24,630				22,750				24,630				2,033,872
Total net realized and unrealized gain on trading securities		$	5,935,768			$	607,399			$	5,197,958			$	1,829,318

The Company holds investments in illiquid securities, including debt and equity securities of privately-held companies. These investments generally are subject to restrictions on resale, have no established trading market and are fair valued on a quarterly basis. Because of the inherent uncertainty of valuation, the fair values of such investments, which are determined in accordance with procedures approved by the Company’s Board of Directors, may differ materially from the values that would have been used had a ready market existed for the investments. The Company’s Board of Directors may consider other methods of valuing investments as appropriate and in conformity with GAAP.

The Company determines fair value to be the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The Company has determined the principal market, or the market in which the Company exits its private portfolio investments with the greatest volume and level of activity, to be the private secondary market. Typically, private companies are bought and sold based on multiples of EBITDA, cash flows, net income, revenues or, in limited cases, book value.

For private company investments, value is often realized through a liquidity event of the entire company. Therefore, the value of the company as a whole (enterprise value) at the reporting date often provides the best evidence of the value of the investment and is the initial step for valuing the Company’s privately issued securities. For any one company, enterprise value may best be expressed as a range of fair values, from which a single estimate of fair value will be derived. In determining the enterprise value of a portfolio company, an analysis is prepared consisting of traditional valuation methodologies including market and income approaches. The Company considers some or all of the traditional valuation methods based on the individual circumstances of the portfolio company in order to derive its estimate of enterprise value.

The fair value of investments in private portfolio companies is determined based on various factors, including enterprise value, observable market transactions, such as recent offers to purchase a company, recent transactions involving the purchase or sale of the equity securities of the company, or other liquidation events. The determined equity values may be discounted when the Company has a minority position that is subject to restrictions on resale, has specific concerns about the receptivity of the capital markets to a specific company at a certain time, or other comparable factors exist.

 

The Company undertakes a multi-step valuation process each quarter in connection with determining the fair value of private investments. An independent valuation firm has been engaged by the Company to provide independent, third-party valuation consulting services based on procedures that the Company has identified and may ask them to perform from time to time on all or a selection of private investments as determined by the Company. The multi-step valuation process is specific to the level of assurance that the Company requests from the independent valuation firm. For positive assurance, the process is as follows:

 

•

The independent valuation firm prepares the valuations and the supporting analysis. At August 31, 2012, the independent valuation firm performed positive assurance valuation procedures on two portfolio companies comprising approximately 100 percent of the total fair value of the other equity securities.

 

•

The Investment Committee of the Adviser reviews the valuations and supporting analyses, prior to approving the valuations.

D. Cash and Cash Equivalents — The Company maintains cash balances at financial institutions in amounts that regularly exceed FDIC insured limits. The Company’s cash equivalents are comprised of short-term, liquid money market instruments.

E. Accounts Receivables — Accounts receivable is presented at face value net of an allowance for doubtful accounts. Accounts are considered past due based on the terms of sale with the customers. The Company reviews accounts for collectability based on an analysis of specific outstanding receivables, current economic conditions and past collection experience. At August 31, 2012, management determined that an allowance for doubtful accounts related to our leases was not required. Lease payments by our major tenant as defined within Note 8, have remained timely and without lapse. Management also determined that an allowance for doubtful accounts related to other revenue items was not necessary at August 31, 2012.

F. Revenue and Other Income Recognition — Specific policies for the Company’s revenue and other income items are as follows:

 

•

Sales revenue — Omega, acting as a principal, provides for transportation services and natural gas supply for its customers on a firm basis. In addition, Omega is paid fees for the operation and maintenance of its pipeline, including expansion of the pipeline. Omega is responsible for the coordination, supervision and quality of the expansions while actual construction is generally performed by third party contractors. Revenues related to natural gas distribution are recognized upon delivery of natural gas and upon the substantial performance of management and supervision services related to the expansion of the natural gas distribution system. Revenues from construction contracts are recognized in accordance with GAAP using either a completed contract or percentage of completion method based on the level and volume of estimates utilized, as well as the certainty or uncertainty of our ability to collect those revenues.

 

•

Lease income — Income related to the Company’s leased property is recognized on a straight-line basis over the term of the lease when collectability is reasonably assured. Rental payments on the leased property are typically received on a semi-annual basis and are included as lease income within the accompanying Consolidated Statements of Income.

 

•

Dividends and distributions from investments — Dividends and distributions from investments are recorded on their ex-dates and are reflected as other income within the accompanying Consolidated Statements of Income. Distributions received from the Company’s investments generally are characterized as ordinary income, capital gains and distributions received from investment securities. The portion characterized as return of capital is paid by our investees from their cash flow from operations. The Company records investment income, capital gains and distributions received from investment securities based on estimates made at the time such distributions are received. Such estimates are based on information available from each company and/or other industry sources. These estimates may subsequently be revised based on information received from the entities after their tax reporting periods are concluded, as the actual character of these distributions is not known until after the fiscal year end of the Company.

 

For the nine month period from December 1, 2011 through August 31, 2012, the Company estimated the allocation of investment income and distributions received from investment securities for the distributions received during the period from its portfolio companies within the Consolidated Statements of Income. For this period, the Company has estimated approximately 2 percent as investment income and approximately 98 percent distributions received from investment securities. The return of capital portions of the distributions are reflected on the cash flow statements as “distributions received from investment securities.”

 

•

Securities Transactions and Investment Income Recognition — Securities transactions are accounted for on the date the securities are purchased or sold (trade date). Realized gains and losses are reported on an identified cost basis. Distributions received from our equity investments generally are comprised of ordinary income, capital gains and distributions received from investment securities from the portfolio company. The Company records investment income and return of capital based on estimates made at the time such distributions are received. Such estimates are based on information available from each portfolio company and/or other industry sources. These estimates may subsequently be revised based on information received from the portfolio companies after their tax reporting periods are concluded, as the actual character of these distributions are not known until after our fiscal year end.

Subsequent to November 30, 2011, the Company reallocated the amount of 2011 income and return of capital it recognized for the period December 1 2010 to November 30, 2011 based on the 2011 tax reporting information received from the individual portfolio companies. This reclassification amounted to a decrease in net distributions and dividend income on securities of approximately $448,000 or $.05 per share ($281,000 or $0.03 per share, net of deferred tax benefit); an increase in net realized and unrealized gains on trading and other equity securities of $448,000 or $.05 per share ($281,000 or $0.03 per share, net of deferred tax expense) for the year ended November 30, 2011.

Subsequent to the period ended May 31, 2012, the Company allocated the amount of investment income and return of capital recognized in the current fiscal year based on its revised 2012 estimates, after considering the final allocations for 2011. This reclassification amounted to a decrease in net distributions and dividend income on securities of approximately $95,000 or $.01 per share ($60,000 or $0.007 per share, net of deferred tax benefit); an increase in net realized and unrealized gains on trading and other equity securities of $95,000 or $.01 per share ($60,000 or $0.007 per share, net of deferred tax expense) for the nine month period from December 1, 2011 to August 31, 2012.

 

•

Realized and unrealized gains (losses) on trading securities and other equity securities — Changes in the fair values of the Company’s securities during the period reported and the gains or losses realized upon sale of securities during the period are reflected as other income within the accompanying Consolidated Statements of Income.

G. Cost of Sales — Included in the Company’s cost of sales are the amounts paid for gas and propane that are delivered to customers as well as the cost of material and labor related to the expansion of the natural gas distribution system.

H. Distributions to Stockholders — The amount of any quarterly distributions to stockholders will be determined by the Board of Directors. Distributions to stockholders are recorded on the ex-dividend date. The character of distributions made during the year may differ from their ultimate characterization for federal income tax purposes. For the year ended November 30, 2011 and the nine month period ended August 31, 2012 the primary source of the Company’s distributions for book purposes distributions was received from investment securities. For the year ended November 30, 2011, the Company’s distributions for tax purposes were comprised of 100 percent qualified dividend income. The tax character of distributions paid to common stockholders in the current year will be determined subsequent to November 30, 2012.

I. Federal and State Income Taxation — The Company, as a corporation, is obligated to pay federal and state income tax on its taxable income. Currently, the highest regular marginal federal income tax rate for a corporation is 35 percent. The Company may be subject to a 20 percent federal alternative minimum tax on its federal alternative minimum taxable income to the extent that its alternative minimum tax exceeds its regular federal income tax.

The Company’s trading securities and other equity securities are limited partnerships or limited liability companies which are treated as partnerships for federal and state income tax purposes. As a limited partner, the Company reports its allocable share of taxable income in computing its own taxable income. The Company’s tax expense or benefit is included in the Consolidated Statements of Income. Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. A valuation allowance is recognized if, based on the weight of available evidence, it is more likely than not that some portion or all of the deferred income tax asset will not be realized.

J. Leases — The Company includes assets subject to lease arrangements within Leased property, net of accumulated depreciation in the Consolidated Balance Sheet. Lease payments received are reflected on the Consolidated Statements of Income, net of amortization of any off market adjustments.

K. Long-Lived Assets and Intangibles — Property and equipment are stated at cost less accumulated depreciation. Depreciation is computed using the straight-line method over the estimated useful lives of the assets ranging from five to twenty years. Expenditures for repairs and maintenance are charged to operations as incurred, and improvements, which extend the useful lives of assets, are capitalized and depreciated over the remaining estimated useful life of the asset.

The Company initially records long-lived assets at their acquisition cost, unless the transaction is accounted for as a business combination. If the transaction is accounted for as a business combination, the Company allocates the purchase price to the acquired tangible and intangible assets and liabilities based on their estimated fair values. The Company determines the fair values of assets and liabilities based on discounted cash flow models using current market assumptions, appraisals, recent transactions involving similar assets or liabilities and/or other objective evidence, and depreciates the asset values over the estimated remaining useful lives.

In connection with these transactions, the Company may acquire long-lived assets that are subject to an existing lease contract with the seller or other lessee party and the Company may assume outstanding debt of the seller as part of the consideration paid. If, at the time of acquisition, the existing lease or debt contract is not at current market terms, the Company will record an asset or liability at the time of acquisition representing the amount by which the fair value of the lease or debt contract differs from its contractual value. Such amount is then amortized over the remaining contract term as an adjustment to the related lease revenue or interest expense.

L. Asset Acquisition Costs — Costs in connection with the acquisition of real property are expensed as incurred.

M. Offering Costs — Offering costs related to the issuance of common stock are charged to additional paid-in capital when the stock is issued.

N. Recent Accounting Pronouncement — In May 2011, the FASB issued ASU No. 2011-04 “Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements” in GAAP and the International Financial Reporting Standards (“IFRSs”). ASU No. 2011-04 amends FASB ASC Topic 820, Fair Value Measurements and Disclosures, to establish common requirements for measuring fair value and for disclosing information about fair value measurements in accordance with GAAP and IFRSs. ASU No. 2011-04 is effective for fiscal years beginning after December 15, 2011 and for interim periods within those fiscal years. Management has adopted these amendments, which did not have a material impact on the Company’s consolidated financial statements.

The major components of net realized and unrealized gain on trading securities for the three and nine month periods August 31, 2012 and 2011 are as follows:

 

		For the Three Month Periods Ended								For the Nine Month Periods Ended
		August 31, 2012				August 31, 2011				August 31, 2012				August 31, 2011
Net unrealized gain (loss) on trading securities		$	5,911,138			$	584,649			$	5,173,328			$	(204,554	)
Net realized gain on trading securities			24,630				22,750				24,630				2,033,872
Total net realized and unrealized gain on trading securities		$	5,935,768			$	607,399			$	5,197,958			$	1,829,318

Components of the Company’s deferred tax assets and liabilities as of August 31, 2012 and November 30, 2011 are as follows:

 

		August 31, 2012				November 30, 2011
Deferred Tax Assets:
Organization costs		$	(18,220	)		$	(20,068	)
Net operating loss carry forwards			(4,893,990	)			(2,624,525	)
Cost recovery of leased assets			(57,038	)			(119,970	)
Asset acquisition costs			(88,065	)			—
AMT and state of Kansas credit			(196,197	)			(205,039	)
Sub-total		$	(5,253,510	)		$	(2,969,602	)
Deferred Tax Liabilities:
Basis reduction of investment in partnerships			10,155,864			$	2,244,914
Net unrealized gain on investment securities			2,485,706				697,152
Sub-total		$	12,641,570			$	2,942,066
Total net deferred tax liability (asset)		$	7,388,060			$	(27,536	)

Total income tax expense differs from the amount computed by applying the federal statutory income tax rates of 35 percent for the three and nine months ended August 31, 2012 and 2011 to gain (loss) from operations and other income for the periods presented, as follows:

 

		For the Three Month Periods Ended								For the Nine Month Periods Ended
		August 31, 2012				August 31, 2011				August 31, 2012				August 31, 2011
Application of statutory income tax rate		$	2,722,054			$	427,310			$	7,055,010			$	2,190,982
State income taxes, net of federal tax benefit			155,106				69,602				479,459				164,011
Dividends received deduction Change in deferred tax valuation allowance			12 —				—   —				(1,221 —	)			—   (558,533	)
Other			(88,387	)			(14,872	)			(88,387	)			(23,432	)
Total income tax expense		$	2,788,785			$	482,040			$	7,444,861			$	1,773,028