10-Q 1 d10q.htm EXCELSIOR PRIVATE EQUITY FUND II, INC. Excelsior Private Equity Fund II, Inc.

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

 

FORM 10-Q

 

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.

For the quarterly period ended July 31, 2006

OR

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934.

For the transition period from                      to                     

Commission file number 000-22277

EXCELSIOR PRIVATE EQUITY FUND II, INC.

(Exact Name of Registrant as Specified in Its Charter)

 

MARYLAND   22-3510108
(State or Other Jurisdiction of Incorporation or Organization)   (I.R.S. Employer Identification No.)

 

225 High Ridge Road Stamford, CT   06905
(Address of Principal Executive Offices)   (Zip Code)

Registrant’s Telephone Number, Including Area Code (302) 352-4400

                                                                                                                                                                                                                                                                       

Former Name, Former Address and Former Fiscal Year, if Changed Since last Report.

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the Registrant is a large accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large filer in Rule 12b-2 of the Exchange Act. (check one):

Large accelerated filer   ¨    Accelerated filer  ¨    Non-accelerated filer  x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY

PROCEEDINGS DURING THE PRECEEDING FIVE YEARS:

Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act subsequent to the distribution of securities under a plan confirmed by a court.    Yes  ¨    No  ¨

As of June 1, 2006, there were 195,730 shares of the Registrant’s Common Stock, $.01 par value per share, outstanding.

 

EXCELSIOR PRIVATE EQUITY FUND II, INC.

Excelsior Private Equity Fund II, Inc.’s (the “Company’s”) prospects, including the prospects of its underlying investments, are subject to certain uncertainties and risks. This Quarterly Report on Form 10-Q contains certain forward-looking statements within the meaning of the federal securities laws that also involve substantial uncertainties and risks. The future results of the Company and its underlying investments, may differ materially from its historical results and actual results could differ materially from those projected in the forward-looking statements as a result of certain risk factors. Readers should pay particular attention to the considerations described in the section of this report entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” Readers should also carefully review the risk factors described in the other documents the Company files, or has filed, from time to time with the Securities and Exchange Commission.

 

    

INDEX

    PAGE NO.

PART I.

    FINANCIAL INFORMATION   

Item 1.

    Financial Statements    1
   Portfolios of Investments as of July 31, 2006 and October 31, 2005    2
   Statements of Assets and Liabilities at July 31, 2006 and October 31, 2005    6
   Statement of Operations for the nine month periods ended July 31, 2006 and July 31, 2005    7
   Statements of Operations for the three-month periods ended July 31, 2006 and July 31, 2005    8
   Statements of Changes in Net Assets for the nine-month periods ended July 31, 2006 and July 31, 2005    9
   Statements of Cash Flows for the nine-month periods ended July 31, 2006 and July 31, 2005    10
   Financial Highlights at July 31, 2006 and July 31, 2005    11
   Notes to Financial Statements    12

Item 2.

    Management’s Discussion and Analysis of Financial Condition and Results of Operations    18

Item 3.

    Quantitative and Qualitative Disclosures about Market Risk    20

Item 4.

    Controls and Procedures    21

PART II.

    OTHER INFORMATION   

Item 1.

    Legal Proceedings    21

Item 2.

    Changes in Securities and Use of Proceeds    21

Item 3.

    Defaults Upon Senior Securities    21

Item 4.

    Submission of Matters to a Vote of Security Holders    21

Item 5.

    Other Information    21

Item 6.

    Exhibits and Reports on Form 8-K    21

PART I. FINANCIAL INFORMATION

 

Item 1. Financial Statements.

Excelsior Private Equity Fund II, Inc.

Portfolio of Investments (Unaudited)

 

     July 31, 2006  
      Value    % of Net Assets  

PORTFOLIO STRUCTURE

      

SHORT-TERM INVESTMENTS:

      

MONEY MARKET INVESTMENTS

    $ 18,230,608    40.52 %

INVESTMENT COMPANIES

      790,698    1.76 %

PRIVATE INVESTMENT FUNDS

      18,145,203    40.34 %

PRIVATE COMPANIES

      7,420,025    16.49 %
             

TOTAL INVESTMENTS

      44,586,534    99.11 %

OTHER ASSETS & LIABILITIES (NET)

      401,117    0.89 %
             

NET ASSETS

    $ 44,987,651    100.00 %
             

Excelsior Private Equity Fund II, Inc.

Portfolio of Investments

 

     October 31, 2005  
     Value    % of Net Assets  

PORTFOLIO STRUCTURE

      

SHORT-TERM INVESTMENTS:

      

MONEY MARKET INVESTMENTS

    $ 11,793,385    25.82 %

INVESTMENT COMPANIES

      982,247    2.15 %

PRIVATE INVESTMENT FUNDS

      20,929,058    45.82 %

PRIVATE COMPANIES

      10,957,747    23.99 %
             

TOTAL INVESTMENTS

      44,662,437    97.78 %

OTHER ASSETS & LIABILITIES (NET)

      1,014,708    2.22 %
             

NET ASSETS

    $ 45,677,145    100.00 %
             

Notes to Financial Statements are an integral part of these Financial Statements.

 

1

Excelsior Private Equity Fund II, Inc.

Portfolio of Investments July 31, 2006 (Unaudited)

 

Principal

Amount

        

Acquisition

Date ##

   

Value

(Note 1)

  MONEY MARKET INSTRUMENTS — 40.52%      
$ 3,250,000    Federal Home Loan Bank Discount Note 4.95 %, 08/01/06       $ 3,250,000
  1,000,000    First Tennessee Bank Certificate of Deposit 5.28%, 08/07/06         1,000,000
  2,000,000    Federal Home Loan Bank Discount Note 5.14 %, 08/09/06         1,997,716
  4,000,000    Federal Farm Credit Bureau Discount Note 5.14%, 08/10/06         3,994,860
  7,000,000    Federal Home Loan Bank Discount Note 5.18%, 08/11/06         6,989,928
  1,000,000    UBS Financial Commercial Paper 5.25%, 08/14/06         998,104
            
   TOTAL MONEY MARKET INSTRUMENTS (Cost $18,230,608)         18,230,608
            
  PRIVATE INVESTMENT FUNDS #, @ — 40.34%      
Ownership
Percentage		               
  1.71%    Advanced Technology Ventures V, LP    09/98-10/02      401,338
  2.63%    Brand Equity Ventures I, LP    03/98-10/01      545,625
  0.88%    Brentwood Associates III, LP    06/99-07/06      5,407,670
  1.98%    Broadview Capital Partners, LP    04/99-10/02      1,824,025
  4.54%    Commonwealth Capital Ventures II, LP    01/99-10/02      1,205,996
  3.96%    Communications Ventures III, LP    11/98-05/00      435,309
  1.37%    Friedman, Fleischer & Lowe Capital Partners, LP    01/99-10/02      832,763
  1.24%    Mayfield X, LP    06/99-05/02      679,604
  0.62%    Mayfield X, Annex    07/02-10/02      176,151
  8.69%    Mid-Atlantic Venture Fund III, LP †    04/98-02/01      1,237,981
  2.58%    Morgenthaler Venture Partners V, LP    10/98-08/01      2,580,344
  1.34%    Quad-C Partners V, LP    04/98-10/02      1,748,912
  1.29%    Sevin Rosen Fund VI, LP    03/98-10/02      745,831
  1.16%    Trinity Ventures VI, LP    09/98-10/02      323,654
            
   TOTAL PRIVATE INVESTMENT FUNDS (Cost $33,417,929)         18,145,203
            

Shares/Par

Value

               
  PRIVATE COMPANIES # — 16.49%      
      Preferred Stocks @ — 11.11%      
          Educational Services — 0.00%      
  75,059    Mosaica Education, Inc., Series C    08/01      —  
            
  Internet Services — Business — 11.11%      
  1,428,572    Clear Orbit, Inc., Series A †    06/00      5,000,013
            
  

Total Preferred Stock (Cost $10,119,422)

         5,000,013
  Promissory Notes —5.38%      
      Biotechnology —1.00%      
$ 451,412    Metrigen, Inc., 6.00%, 9/01/2009 @    07/03      451,412
            
  Educational Services — 4.38%      
$ 686,415    Mosaica Education, Inc. Bridge Notes, 15.00%, 8/23/2006    02/01-08/01      686,415
$ 1,025,748    Mosaica Education, Inc. (Advantage Schools), 0.00%, 8/24/2006 @    02/01-08/01      1,025,748
$ 256,437    Mosaica Education, Inc. (ASI Texas LLC), 0.00%, 8/24/2006 @    02/01-08/01      256,437
            
           1,968,600
   Total Promissory Notes (Cost $2,420,012)         2,420,012
            

Notes to Financial Statements are an integral part of these Financial Statements.

 

2

Excelsior Private Equity Fund II, Inc.

Portfolio of Investments July 31, 2006 (Unaudited) — (continued)

 

Shares        

Acquisition

Date##

   

Value

(Note 1)

Warrants @ — 0.00%      
    Biotechnology—0.00%      
62,326    Metrigen, Inc. (expiration December 2012)    07/03    $ —  
            
   Total Warrants (Cost $0)         —  
            
   TOTAL PRIVATE COMPANIES (Cost $12,539,434)         7,420,025
            
PUBLIC COMPANIES @, # — 0.00%      
Warrants — 0.00%      
Biotechnology — 0.00%      
76,950    Curon Medical Inc. Warrants (expiration May 2007) (cost $0)    08/00      —  
INVESTMENT COMPANIES —1.76%      
790,698    Dreyfus Government Cash Management Fund (Cost $790,698)         790,698
            
TOTAL INVESTMENTS (Cost $64,978,669) —99.11%         44,586,534
OTHER ASSETS & LIABILITIES (NET) —0.89%         401,117
            
NET ASSETS —100.00%       $ 44,987,651
            
† At July 31, 2006, the Company owned 5% or more of the company’s outstanding voting shares thereby making the company an affiliate as defined by the Investment Company Act of 1940, as amended. Total market value of affiliated securities owned at July 31, 2006 was $6,237,994.

 

# Restricted as to public resale. Acquired between March 1998 and July 2006. Total cost of restricted securities at July 31, 2006 aggregated $45,957,363. Total market value of restricted securities owned at July 31, 2006 was $25,565,228 or 56.83% of net assets.

 

@ Non-income producing security.

 

## Disclosure required for restricted securities.

Notes to Financial Statements are an integral part of these Financial Statements.

 

3

Excelsior Private Equity Fund II, Inc.

Portfolio of Investments October 31, 2005

 

Principal

Amount/Shares

         Acquisition
Date##		    Value (Note 1)
  MONEY MARKET INSTRUMENTS —25.82%      
$ 1,000,000    First Tennessee Bank Note 3.77%, 11/01/05       $ 1,000,000
  1,400,000    Federal Farm Credit Bank Discount Note 3.67%, 11/02/05         1,399,857
  1,000,000    Danske Bank Commercial Paper 3.82%, 11/07/05         999,363
  2,400,000    Federal Home Loan Bank Discount Note 3.68%, 11/07/05         2,398,528
  1,000,000    Morgan Stanley Commercial Paper 3.84%, 11/08/05         999,253
  5,000,000    Federal Home Loan Mortgage Discount Note 3.72%, 11/08/05         4,996,384
            
   TOTAL MONEY MARKET INSTRUMENTS (Cost $11,793,385)         11,793,385
            
  PRIVATE INVESTMENT FUNDS #, @ — 45.82%      
Ownership
Percentage		               
   Buyout Funds – 23.01%      
  0.93%    Brentwood Associates III, LP    06/99-10/02      5,049,982
  1.98%    Broadview Capital Partners, LP    04/99-10/02      1,650,395
  1.34%    Friedman, Fleischer & Lowe Capital Partners, LP    01/99-10/02      1,890,965
  1.32%    Quad-C Partners V, LP    04/98-10/02      1,918,744
            
           10,510,086
   Early Stage Venture Funds – 15.06%      
  1.71%    Advanced Technology Ventures V, LP    09/98-10/02      694,538
  4.88%    Commonwealth Capital Ventures II, LP    01/99-10/02      1,719,612
  3.96%    Communications Ventures III, LP    11/98-05/00      435,925
  1.24%    Mayfield X, LP    06/99-05/02      697,580
  0.62%    Mayfield X, Annex    07/02-10/02      194,800
  8.69%    Mid-Atlantic Venture Fund III, LP †    04/98-02/01      1,660,025
  1.31%    Sevin Rosen Fund VI, LP    03/98-10/02      992,573
  1.29%    Trinity Ventures VI, LP    09/98-10/02      484,557
            
           6,879,610
   Varied Stage Venture Funds – 7.75%      
  2.63%    Brand Equity Ventures, LP    03/98-10/01      569,013
  2.60%    Morgenthaler Venture Partners V, LP    10/98-08/01      2,970,349
            
           3,539,362
            
   TOTAL PRIVATE INVESTMENT FUNDS (Cost $37,111,990)         20,929,058
            

Notes to Financial Statements are an integral part of these Financial Statements.

 

4

Excelsior Private Equity Fund II, Inc.

Portfolio of Investments October 31, 2005 — (continued)

 

Shares               
  PRIVATE COMPANIES # — 23.99%
  Preferred Stocks @ — 18.69%      
      Educational Services — 7.75%      
  75,059    Mosaica Education, Inc., Series C    08/01      3,537,722
            
  Internet Services — Business —10.94%      
  1,428,572    Clear Orbit, Inc., Series A †    06/00      5,000,013
            
   Total Preferred Stock (Cost $10,119,422)         8,537,735
Shares/Par
Value		        

Acquisition

Date##

   

Value

(Note 1)

  Promissory Notes —5.30%      
      Biotechnology — 0.99%      
$ 451,412    Metrigen, Inc., 6.00%, 9/01/2009 @    07/03    $ 451,412
            
  Educational Services — 4.31%      
$ 686,415    Mosaica Education, Inc. Bridge Notes, 15.00%, 8/24/2006    02/01-08/01      686,415
$ 1,025,748    Mosaica Education, Inc. (Advantage Schools), 0.00%, 8/24/2006 @    02/01-08/01      1,025,748
$ 256,437    Mosaica Education, Inc. (ASI Texas LLC), 0.00%, 8/24/2006 @    02/01-08/01      256,437
            
           1,968,600
            
   Total Promissory Notes (Cost $2,420,012)         2,420,012
            
  Warrants @— 0.00%      
      Biotechnology — 0.00%      
  62,326    Metrigen, Inc. (expiration December 2012)    07/03      —  
            
   Total Warrants (Cost $0)         —  
            
   TOTAL PRIVATE COMPANIES (Cost $12,539,434)         10,957,747
  PUBLIC COMPANIES @, # — 0.00%      
  Biotechnology — 0.00%      
  76,950    Curon Medical Inc. Warrants (expiration May 2007) (Cost $0)    08/00      —  
  INVESTMENT COMPANIES —2.15%      
  982,247    Dreyfus Government Cash Management Fund (Cost $982,247)         982,247
  TOTAL INVESTMENTS (Cost $62,427,056) —97.78%         44,662,437
  OTHER ASSETS & LIABILITIES (NET) —2.22%         1,014,708
            
  NET ASSETS —100.00%         45,677,145
            

 

† At October 31, 2005, the Company owned 5% or more of the company’s outstanding voting shares thereby making the company an affiliate as defined by the Investment Company Act of 1940, as amended. Total market value of affiliated securities owned at October 31, 2005 was $6,660,038.

 

# Restricted as to public resale. Acquired between March 1998 and July 2003. Total cost of restricted securities at October 31, 2005 aggregated $49,651,424. Total value of restricted securities owned at October 31, 2005 was $31,886,805 or 69.81% of net assets.

 

@ Non-income producing security.

 

## Disclosure required for restricted securities.

Notes to Financial Statements are an integral part of these Financial Statements.

 

5

Excelsior Private Equity Fund II, Inc.

Statements of Assets and Liabilities

 

    

July 31, 2006

(Unaudited)

    

October 31, 2005

  

ASSETS:

     

Unaffiliated Issuers, at value (Cost $56,057,641 and $53,068,935 respectively)

    $ 38,348,540     $ 38,002,399  

Affiliated Issuers, at value (Cost $8,921,028 and $9,358,121 respectively)

      6,237,994       6,660,038  
                

Investments, at value (Cost $64,978,669 and $62,427,056 respectively) (Note 1)

      44,586,534       44,662,437  

Cash and cash equivalents (Note 1)

      1,990       —    

Receivable from Managing Investment Adviser (Note 2)

      118,404       83,214  

Receivable for securities sold

      —         760,138  

Interest receivable

      473,949       397,221  

Other assets

      6,763       1,569  
                

Total Assets

      45,187,640       45,904,579  
                

LIABILITIES:

     

Management fees payable (Note 2)

      120,726       138,793  

Professional fees payable

      48,500       59,937  

Administration fees payable (Note 2)

      15,743       17,885  

Directors’ fees payable (Note 2)

      9,000       1,500  

Accrued expenses and other payables

      6,020       9,319  
                

Total Liabilities

      199,989       227,434  
                

NET ASSETS

    $ 44,987,651     $ 45,677,145  
                

NET ASSETS consist of:

     

Accumulated net realized (loss) on investments

      (39,158,360 )     (40,941,092 )

Net unrealized (depreciation) on investments

      (20,392,135 )     (17,764,619 )

Undistributed net investment gain

      155,290       —    

Par value

      1,957       1,957  

Paid-in capital in excess of par value

      104,380,899       104,380,899  
                

Total Net Assets

    $ 44,987,651     $ 45,677,145  
                

Shares of Common Stock Outstanding ($0.01 par value, 200,000 authorized)

      195,730       195,730  

NET ASSET VALUE PER SHARE

    $ 229.85     $ 233.37  
                

Notes to Financial Statements are an integral part of these Financial Statements.

 

6

Excelsior Private Equity Fund II, Inc.

Statements of Operations (Unaudited)

 

     Nine Months Ended July 31,  
     2006     2005  

INVESTMENT INCOME:

     

Interest income from affiliated investments

    $ —       $ 66,559  

Interest income from unaffiliated investments

      588,706       142,294  

Dividend income

      27,585       23,808  
                

Total Investment Income

      616,291       232,661  
                

EXPENSES:

     

Managing Investment Adviser fees (Note 2)

      376,675       421,683  

Administration fees (Note 2)

      73,000       74,664  

Professional fees

      189,711       181,588  

Directors’ fees and expenses (Note 2)

      79,500       46,500  

Insurance expense

      16,034       20,689  

Miscellaneous expenses

      30,565       27,894  
                

Total Expenses

      765,485       773,018  
                

Expenses reimbursed by Managing Investment Adviser

      (304,484 )     (266,367 )
                

Net Expenses

      461,001       506,651  
                

NET INVESTMENT INCOME/(LOSS)

      155,290       (273,990 )
                

NET REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS: (Note 1)

     

Net realized gain on unaffiliated investments

      1,782,732       3,139,945  

Net change in unrealized depreciation on investments

      (2,627,516 )     1,127,083  
                

NET REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS

      (844,784 )     4,267,028  
                

NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS

    $ (689,494 )   $ 3,993,038  
                

Notes to Financial Statements are an integral part of these Financial Statements.

 

7

Excelsior Private Equity Fund II, Inc.

Statements of Operations (Unaudited)

 

     Three Months Ended July 31,  
     2006     2005  

INVESTMENT INCOME:

     

Interest income from affiliated investments

    $ —       $ 22,492  

Interest income from unaffiliated investments

      236,763       75,802  

Dividend income

      9,703       7,108  
                

Total Investment Income

      246,466       105,402  
                

EXPENSES:

     

Managing Investment Adviser fees (Note 2)

      120,726       135,703  

Administration fees (Note 2)

      24,000       25,278  

Professional fees

      67,877       46,548  

Directors’ fees and expenses (Note 2)

      45,370       16,746  

Insurance expense

      5,373       6,686  

Miscellaneous expenses

      3,900       10,294  
                

Total Expenses

      267,246       241,255  
                

Expenses reimbursed by Managing Investment Adviser

      (118,405 )     (77,690 )
                

Net Expenses

      148,841       163,565  
                

NET INVESTMENT INCOME/(LOSS)

      97,625       (58,163 )
                

NET REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS: (Note 1)

     

Net realized gain on unaffiliated investments

      998,050       679,880  

Net change in unrealized depreciation on investments

      128,618       (1,447,213 )
                

NET REALIZED AND UNREALIZED GAIN (LOSS) ON INVESTMENTS

      1,126,668       (767,333 )
                

NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS

    $ 1,224,293     $ (825,496 )
                

Notes to Financial Statements are an integral part of these Financial Statements.

 

8

Excelsior Private Equity Fund II, Inc.

Statement of Changes in Net Assets (Unaudited)

 

     Nine Months Ended July 31,  
     2006     2005  

OPERATIONS:

     

Net investment income/(loss)

    $ 155,290     $ (273,990 )

Net realized gain on investments

      1,782,732       3,139,945  

Net change in unrealized depreciation on investments

      (2,627,516 )     1,127,083  
                

Net increase/(decrease) in net assets resulting from operations

      (689,494 )     3,993,038  

DISTRIBUTIONS TO SHAREHOLDERS:

     

Distributions

      —         (11,761,416 )
                

NET (DECREASE) IN NET ASSETS

      (689,494 )     (7,768,378 )

NET ASSETS:

     

Beginning of period

      45,677,145       51,717,554  
                

End of period (including accumulated net investment income/(loss) of $155,290 and ($273,990), respectively)

    $ 44,987,651     $ 43,949,176  
                

Notes to Financial Statements are an integral part of these Financial Statements.

 

9

Excelsior Private Equity Fund II, Inc.

Statement of Cash Flows (Unaudited)

 

     Nine Months Ended July 31,  
     2006     2005  

CASH FLOWS FROM OPERATING ACTIVITIES:

     

Net increase/(decrease) in net assets resulting from operations

    $ (689,494 )   $ 3,993,038  

Adjustments to reconcile net increase (decrease) in net assets resulting from operations to net cash provided by operating activities:

      —         —    

Net change in unrealized depreciation on investments

      2,627,516       (1,127,083 )

Sale/(purchase) of short-term investments-Net

      (6,245,674 )     1,477,819  

Purchase of investments

      (307,504 )     —    

Proceeds received from the sale of investments and distributions received from private investment funds

      5,784,297       10,737,949  

Net realized gain on investments

      (1,782,732 )     (3,139,945 )

(Increase)/Decrease in receivable from managing investment adviser

      (35,190 )     62,849  

Increase in interest receivable

      (76,728 )     (70,819 )

(Increase)/Decrease in other assets

      754,945       (270,852 )

Decrease in management fee payable

      (18,067 )     (25,735 )

Increase/(Decrease) in directors’ fees payable

      7,500       (66,000 )

Decrease in other expenses payable

      (16,879 )     (135,048 )
                

Net cash provided by operating activities

      1,990       11,436,173  
                

CASH FLOWS FROM FINANCING ACTIVITIES:

     

Cash Distribution to Shareholders

      —         (11,761,416 )
                

Net cash used in financing activities

      —         (11,761,416 )
                

Net Increase/(decrease) in cash

      1,990       (325,243 )
                

Cash at beginning of period

      —         328,296  
                

Cash at end of period

    $ 1,990     $ 3,053  
                

SUPPLEMENTAL INFORMATION:

     
                

Non-cash distributions received from private investment funds:

    $ 892,505     $ 4,229,268  
                

Notes to Financial Statements are an integral part of these Financial Statements.

 

10

Excelsior Private Equity Fund II, Inc.

Financial Highlights—Selected Per Share Data and Ratios (Unaudited)

Per Share Operating Performance (1)

 

    

Nine Months Ended

July 31, 2006

     Nine Months Ended
July 31, 2005		  

NET ASSET VALUE, BEGINNING OF PERIOD

    $ 233.37     $ 264.23  

INCOME FROM INVESTMENT OPERATIONS:

     

Net investment income/(loss)

      0.79       (1.40 )

Net realized and unrealized gain (loss) on investments

      (4.31 )     21.80  
                

Total from investment operations

      (3.52 )     20.40  
                

DISTRIBUTIONS TO SHAREHOLDERS:

     

Return of Capital Distribution

      —         (60.09 )
                

NET DECREASE IN NET ASSETS:

      (3.52 )     (39.69 )
                

NET ASSET VALUE, END OF PERIOD

    $ 229.85     $ 224.54  
                

TOTAL NET ASSET VALUE RETURN (3) (4)

      (1.51 )%     9.46 %

Ratios and supplemental data: (6)

     

Net assets, end of period (thousands)

    $ 44,988     $ 43,949  

Ratios to average net assets (2)

     

Gross expenses (5)

      2.27 %     2.27 %

Net expenses

      1.37 %     1.49 %

Net investment gain/loss

      0.46 %     (0.81 )%

Portfolio turnover (3)

      0.00 %     0.00 %

 

(1) For a share outstanding throughout the period.

 

(2) Annualized

 

(3) Not annualized.

 

(4) Total net asset value return based on per share net asset value reflects the effects of changes in net asset value based on the performance of the Company during the period, and assumes dividends and distributions, if any, were reinvested. The Company’s shares were issued in a private placement and are not traded. Therefore, market value total investment return is not presented.

 

(5) Expense ratio before waiver of fees and reimbursement of expenses by Managing Investment Adviser.

 

(6) Income and expense ratio do not reflect the Company’s proportionate share of net investment income (loss) and expenses, including any performance-based fees, of the Private Investment Funds.

Notes to Financial Statements are an integral part of these Financial Statements.

 

11

EXCELSIOR PRIVATE EQUITY FUND II, INC.

NOTES TO FINANCIAL STATEMENTS

July 31, 2006

Note 1 — Significant Accounting Policies

Excelsior Private Equity Fund II, Inc. (the “Company”) was incorporated under the laws of the State of Maryland on March 20, 1997, and is a non-diversified, closed-end management investment company that has elected to be treated as a business development company or “BDC” under the Investment Company Act of 1940, as amended.

As a BDC, the Company must be primarily engaged in the business of furnishing capital and making available managerial assistance to companies that generally do not have ready access to capital through conventional financial channels. The Company’s investment objective is to achieve long-term capital appreciation primarily by investing in private later-stage venture capital companies and private middle-market companies in which the equity is closely held by company founders, management and/or a limited number of institutional investors and, to a lesser extent, privately offered venture capital, buyout and private equity funds managed by third parties which have attractive investment return prospects and offer compelling strategic benefits to the Company. The Company does not have the right to demand any such investee securities be registered.

The following is a summary of the Company’s significant accounting policies. Such policies are in conformity with generally accepted accounting principles in the United States 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.

 

  (a) Cash and Cash Equivalents:

Cash and cash equivalents consist of deposits with banks and highly liquid investments with original maturities of 90 days or less.

 

  (b) Portfolio valuation:

The Company values portfolio securities quarterly and at such other times as, in the Company’s Board of Directors’ (the “Board” or “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 or both under the supervision of the Board of Directors pursuant to certain valuation procedures summarized below. Securities having remaining maturities of 60 days or less from the date of purchase are valued at amortized cost.

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 investee such as earnings, net worth, reliable private sale prices of the investee’s securities, the market prices for similar securities of comparable companies, an assessment of the investee’s future prospects or, if appropriate, liquidation value.

 

12

The values for the investments referred to in this paragraph will be estimated regularly by the Managing Investment Adviser (as defined below) or a committee of the Board of Directors under the supervision 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.

The valuation of the Company’s Private Investment Funds is based upon its pro-rata share of the value of the net assets of a Private Investment Fund as determined by such Private Investment 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 Investment Funds is not available by reason of timing or other event on the valuation date, or are deemed to be unreliable by the Managing Investment Adviser, the Managing Investment Adviser, under the supervision of the Board of Directors, shall determine such value based on its judgment of fair value on the appropriate date, less applicable charges, if any. The valuation of the Company’s Private Investment Funds also includes capital contributions to such Private Investment Funds made in advance of remaining capital commitments being called by the Private Investment Funds’ respective general partners. At July 31, 2006 and October 31, 2005, these contributions paid in advance totaled $1,252,201 and $1,554,432, and are included in investments on the statement of assets and liabilities. These contributions paid in advance are non-income producing.

At July 31, 2006 and October 31, 2005, market quotations were not readily available for securities valued at $25,565,228 or 56.83% of net assets and $31,886,805 or 69.81% of net assets, 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.

 

  (c) 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.

 

  (d) 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 receipt 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 counterparty 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.

 

  (e) 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 and may be reclassified within the capital accounts based on their federal tax basis treatment.

The Company has unused capital loss carryforwards of approximately $56,647,188 available for income tax purposes, to be applied against future net realized gains, if any, after October 31, 2005. If not applied, $8,602,181 of the carryover will expire in 2009, $13,721,421 will expire in 2010, and $18,471,137 will expire in 2011, and $5,855,841 will expire in 2012 and $9,996,608 will expire in 2013.

 

13

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. No distributions were made in the quarters ended July 31, 2006 and July 31, 2005.

The cost of the Private Investment Funds for federal tax purposes is based on amounts reported to the Company on Schedule K-1 from the Private Investment Funds. As of October 31, 2005 and July 31, 2006, the Company had not received information to determine the tax cost of the Private Investment Funds as of October 31, 2005 and July 31, 2006, and therefore to determine the Company’s unrealized gain or loss on a tax basis. At July 31, 2006, the cost of all other investments for federal tax purposes was $31,560,740, and those investments had a tax basis net unrealized depreciation of $5,119,409, consisting of gross appreciation of $13 and gross depreciation of $5,119,422. At October 31, 2005, the cost of all other investments for federal tax purposes was $25,315,066, and those investments had a tax basis net unrealized depreciation of $1,581,687, consisting of gross appreciation of $13 and gross depreciation of $1,581,700.

Note 2 — Investment Advisory Fee, Administration Fee and Related Party Transactions

UST Advisers, Inc. (“USTA”), which has its principal offices at 225 High Ridge Road, Stamford, Connecticut 06905, is a Delaware corporation and registered investment adviser (the “Managing Investment Adviser”). The Managing Investment Adviser is a wholly-owned subsidiary of United States Trust Company, National Association (“USTC-NA”). USTC-NA is a wholly-owned subsidiary of U. S. Trust Corporation (“U.S. Trust”), a registered bank holding company, which has its principal offices at 114 West 47th Street, New York, New York 10036-1532, and which is, in turn, a wholly-owned subsidiary of The Charles Schwab Corporation (“Schwab”), which has its principal offices at 120 Kearney Street, San Francisco, California 94108.

Prior to December 16, 2005, United States Trust Company of New York, acting through its registered investment advisory division, New York Asset Management Division (“NYAMD”) and U.S. Trust Company, N.A. acting through its registered investment advisory division, U. S. Trust Asset Management Division (“USTAMD”), served as co-investment advisers (together the “former Managing Investment Adviser”) to the Company under an investment advisory agreement with the Company (the “Agreement”). Effective December 16, 2005, USTA assumed the duties of NYAMD and USTAMD under the Agreement pursuant to an assumption agreement. Prior to March 31, 2006, USTA was a wholly owned subsidiary of U.S. Trust Company, N.A. (“UST-NA”) and UST-NA and United States Trust Company of New York were wholly-owned subsidiaries of U.S. Trust. Effective March 31, 2006, United States Trust Company of New York converted into a national bank named United States Trust Company, National Association (USTC-NA) and U.S. Trust Company, N.A. merged into USTC-NA. USTC-NA is the surviving entity and remains a wholly-owned subsidiary of U.S. Trust.

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 calendar quarter, that are invested or committed to be invested in Private Companies or Private Investment Funds and equal to an annual rate of 0.50% of the net assets of the Company, determined as of the end of each calendar quarter, that are invested in short-term investments and are not committed to Private Companies or Private Investment Funds. As of July 31, 2006 and October 31, 2005, $120,726 and $138,793, respectively, were payable to the Managing Investment Adviser and the former Managing Investment Adviser.

In addition to the management fee, the Company has agreed to pay the Managing Investment Adviser an incentive fee in an amount equal to 20% of the cumulative realized capital gains (net of realized capital losses and unrealized gross capital depreciation) on investments other than Private Investment Funds, 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 gross 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. During the quarters ended July 31, 2006 and October 31, 2005, respectively, $0 was earned by and payable to the Managing Investment Adviser and the former Managing Investment Adviser.

 

14

PFPC, Inc., a majority owned subsidiary of the PNC Financial Services Group, (“PFPC”) provides administrative and accounting services to the Company pursuant to an Administration and Accounting Services Agreement. PFPC Trust Company provides custodian services to the Company pursuant to a Custodian Services Agreement. Also, PFPC provides transfer agency services to the Company pursuant to a Transfer Agency Agreement. 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, and 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 0.25% of the Company’s average net assets. This reimbursement amounted to $304,484 and $266,367, for the nine months periods ended July 31, 2006 and July 31, 2005, respectively.

Each member of the Board of Managers receives a $10,000 annual retainer and the Chairman of the Board receives an additional $1,000 annual retainer. Also, each member of the Board of Managers will receive $2,000 per quarterly meeting attended. In addition each Board member will receive $500 per quarterly telephonic meeting and $500 for any other telephonic special meeting. For each audit committee meeting attended, Board members will receive $1,500, while the Chairman of the Audit Committee will receive an additional $1,000 retainer. Each member of the Board is reimbursed for expenses incurred for attending meetings. No person who is an officer, manager or employee of U.S. Trust, or its subsidiaries, who serves as an officer, manager or employee of the Company receives any compensation from the Company.

On November 23, 2004, the Company engaged Deloitte & Touche LLP (“D&T”) as the Company’s Independent Registered Public Accounting Firm for the fiscal year ended October 31, 2005, replacing Ernst & Young LLP (“E&Y”), the Company’s prior independent public accountants. E&Y was terminated by the Company on October 28, 2004 as a result of concerns regarding their independence at the time of issuance of their report on the Company’s October 31, 2003 financial statements. These concerns are the result of certain real estate consulting services performed by E&Y on a contingent fee basis for Charles Schwab & Co., Inc., an affiliate of the Company’s Managing Investment Adviser.

On December 16, 2004, Schwab entered into an agreement with the Company and other funds managed by the former Managing Investment Adviser whereby Schwab has funded a reserve account to be held by the Managing Investment Adviser or its affiliate. This reserve account was established so that the Company and other funds managed by the Managing Investment Adviser will be able to draw upon it to pay in full all costs incurred related to the termination of E&Y. This agreement was executed in order to ensure that these costs related to the termination of E&Y are not borne by the Company, the other funds managed by the Managing Investment Adviser or their respective shareholders. Schwab is an affiliate of the Company’s Managing Investment Adviser. In consideration of the funding of the reserve account, the Company and the other funds managed by the Managing Investment Adviser subrogated all of their claims, causes of action and rights against E&Y for payment of these expenses to Schwab.

Note 3 — Purchases and Sales of Securities

Excluding short-term investments, the Company’s purchases and sales of securities for the nine month periods ended July 31, 2006, and July 31, 2005 were as follows:

 

Nine-Month Period Ended

July 31,

    Purchases ($)    Proceeds ($)

2006

    307,504    5,784,297

2005

    —      10,737,949

 

15

Note 4 — Transactions with Affiliated Portfolio Companies

An affiliated company is a company in which the Company has ownership of over 5% of the voting securities. No dividend income was received from affiliated companies during the nine months ended July 31, 2006 and the year ended October 31, 2005. Transactions with companies which are or were affiliates are as follows:

 

Name of Investment

   

Shares/

Principal
Amount/
Percentage

Held at

October 31,
2005

     October 31, 2005
Value		    For the Nine Months Ended July 31, 2006   

Shares/

Principal
Amount/
Percentage

Held at
July 31,
2006

    

July 31, 2006

Value (Note 1)

        Conversion
Cost		    Sales/
Conversion
Proceeds		    Interest    Realized
Gain (Loss)		     

Affiliated Companies

                      

Mid-Atlantic Venture Fund III, LP

    8.69 %   $ 1,660,025    $ —      $ —      $ —      $ —      8.69 %   $ 1,237,981

Clear Orbit Inc., Preferred Series A

    1,428,572       5,000,013      —        —        —        —      1,428,572       5,000,013
                                             

Total Non Controlled Affiliates

      $ 6,660,038    $ —      $ —      $ —      $ —        $ 6,237,994
                                         

 

Name of Investment

   

Shares/

Principal
Amount/
Percentage

Held at

October 31,
2004

     October 31, 2004
Value		    For the Year Ended October 31, 2005    

Shares/

Principal
Amount/
Percentage

Held at
October 31,
2005

    

October 31,

2005
Value (Note 1)

        Conversion
Cost		    Sales/
Conversion
Proceeds		    Interest    Realized
Gain (Loss)		      

Affiliated Companies

                     

Mid-Atlantic Venture Fund III, LP

      8.70 %   $ 1,679,609    $ —      $ 351,461    $ —      $ —         8.69 %   $ 1,660,025

Clear Orbit Inc., Preferred Series A

      1,428,572       5,000,013      —        —        —        —         1,428,572       5,000,013

Firstsource Corp., Preferred Series A

      2,388,345       —        —        —        —        (10,000,000 )     —         —  

Firstsource Corp., Promissory Note 8.00%, 6/30/2001

    $ 2,666,667       —        —        —        —        (2,666,667 )     —         —  

Killerbiz, Inc., Promissory Note 8.00%, 6/10/2000 and 1/17/2001

    $ 750,000       —        —        —        —        (750000 )     —         —  

Mosaica Education, Inc., Preferred Series C

      75,059       3,537,722      —        —        —        —         75,059       3,537,722

Mosaica Education, Inc. Bridge Notes, 15.00%, 8/24/2006

    $ 686,415       686,415      —        —        105,588      —       $ 686,415       686,415

Mosaica Education, Inc. (Advantage Schools), 0.00%, 8/24/2006

    $ 1,025,748       1,025,748      —        —        —        —       $ 1,025,748       1,025,748

Mosaica Education, Inc. (ASI Texas LLC ), 0.00%, 8/24/2006

    $ 256,437       256,437      —        —        —        —       $ 256,437       256,437
                                              

Total Non Controlled Affiliates

      $ 12,185,944    $ —      $ 351,461    $ 105,588    $ (13,416,667 )     $ 12,166,360
                                              

Note that, although Mosaica Education, Inc. was an affiliated company in prior fiscal years, as of October 31, 2005 the Company holds less than 5% of its shares. Therefore, Mosaica Education, Inc. is not included as an affiliated company on the October 31, 2005 schedule of investments or statement of assets and liabilities, and interest earned on Mosaica Education Inc. notes is not presented as interest income from affiliates on the October 31, 2005 statement of operations.

 

16

Note 5 — Pending Litigation

The former Managing Investment Adviser was contacted in September 2003 by the Office of the New York State Attorney General (the “NYAG”), and the Securities and Exchange Commission (the “SEC”) in connection with their investigations of practices in the mutual fund industry identified as “market timing” and “late trading” of mutual fund shares (the “Investigations”). The former Managing Investment Adviser has provided full cooperation with respect to these Investigations and continues to review the facts and circumstances relevant to the Investigations. As disclosed previously, these investigations focused on circumstances in which a small number of parties were permitted to engage in short-term trading of shares of certain mutual funds managed by the former Managing Investment Adviser. The short-term trading activities permitted under these arrangements have been terminated and the former Managing Investment Adviser has strengthened its policies and procedures to deter frequent trading.

The former Managing Investment Adviser, certain of its affiliates and others have also been named in four class action lawsuits and two derivative actions which allege that the former Managing Investment Adviser, certain of its affiliates and others allowed certain parties to engage in illegal and improper mutual fund trading practices, which allegedly caused financial injury to the shareholders of certain mutual funds managed by the former Managing Investment Adviser. Each seeks unspecified monetary damages and related equitable relief.

The class and derivative actions described above were transferred to the United States District Court for the District of Maryland for coordinated and consolidated pre-trial proceedings. In November 2005, the Maryland court dismissed many of the plaintiffs’ claims in both the fund shareholder class action and derivative lawsuits. Several affiliates of the former Managing Investment Adviser and individual defendants have also been dismissed. Plaintiffs’ claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934, as amended, and under Section 36(b) and 48(a) of the Investment Company Act of 1940, as amended, however, have not been dismissed. Discovery has commenced with respect to plaintiffs’ remaining claims.

While the ultimate outcome of these matters cannot be predicted with any certainty at this time, based on currently available information and consultation with counsel, the Managing Investment Adviser believes that the pending Investigations and private lawsuits are not likely to materially affect the Managing Investment Adviser’s ability to provide investment management services to the Company. Neither the Managing Investment Adviser nor the Company are a subject of the Investigations nor a party to the lawsuits described above.

Note 6 — Guarantees

In the normal course of business, the Company enters into contracts that provide general indemnifications. The Company’s maximum exposure under these agreements is dependent on future claims that may be made against the Company, and therefore cannot be established; however, based on experience, the risk of loss from such claims is considered remote.

Note 7 — New Accounting Pronouncement

In July 2006, the Financial Accounting Standards Board (FASB) issued Interpretation 48, Accounting for Uncertainty in Income Taxes — an interpretation of FASB Statement 109 (FIN 48). FIN 48 clarifies the accounting for income taxes by prescribing the minimum recognition threshold a tax position must meet before being recognized in the financial statements. FIN 48 is effective for fiscal years beginning after December 15, 2006. The Company is in the process of evaluating the effects of the adoption of FIN 48 on the financial statements.

Note 8 — Subsequent Events

In September 2006, the Company commenced a process which may result in the sale of all of its assets (a “Potential Sale Transaction”). There is no assurance that the Company will enter into a Potential Sale Transaction, or if such transaction does occur, what the proceeds will be or the timing of the consummation of a Potential Sale Transaction. Any such transaction would be subject to the approval of the Board of Directors and shareholders of the Company.

 

17

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

Nine-month and Three-month Periods Ended July 31, 2006 as Compared to the Similar Periods in 2005

Realized and Unrealized Gains and Losses from Portfolio Investments

For the nine-month periods ended July 31, 2006 and 2005, the Company had a net realized gain on security transactions of $1,782,732 and $3,139,945, respectively. For the nine-month periods ended July 31, 2006 and 2005, the Company had a net change in unrealized depreciation on investments of ($2,627,516) and $1,127,083, respectively. The net realized gain for the period ended July 31, 2006 was primarily the result of distributions by Friedman, Fleisher and Lowe Capital Partners, LP which is one of the Company’s private investment funds. The net change in unrealized depreciation on investments for the nine-month period ended July 31, 2006 is the result of a decrease in the valuation of Mosaica Education, Inc, a private company investment of ($3,537,722), which was partially offset by an increase in the overall valuation of the private investment funds. The net change in unrealized appreciation on investments for the nine-month period ended July 31, 2005 is the result of an increase in the overall valuation of the private investment funds.

For the three-month periods ended July 31, 2006 and 2005, the Company had a net realized gain on security transactions of $998,050 and $679,880 respectively. For the three-month periods ended July 31, 2006 and 2005, the Company had a net change in unrealized depreciation on investments of $128,618 and ($1,447,213), respectively. The realized gain for the period ended July 31, 2006 and July 31, 2005 was primarily the result of distributions by Friedman, Fleisher and Lowe Capital Partners, LP which is one of the Company’s private investment funds. The net change in unrealized appreciation on investments for the three-month period ended July 31, 2006 is the result of an increase in the overall valuation of the private investment funds. The net change in unrealized depreciation on investments for the three-month period ended July 31, 2005 is the result of a decrease in the overall valuation of the private investment funds.

Investment Income and Expenses

For the nine-month periods ended July 31, 2006, the Company had investment income of $616,291 and net operating expenses, net of expenses reimbursed by the Managing Investment Adviser, of $461,001, resulting in a net investment income of $155,290. In comparison, the Company had investment income of $232,661 and net operating expenses, net of expenses reimbursed by the Managing Investment Adviser, of $506,651, resulting in net investment loss of ($273,990) for the nine-month period ended July 31, 2005. The primary reason for the increase in investment income was an increase in interest income paid by short-term securities held by the Company. The reduction in net expenses is principally attributable to lower Managing Investment Adviser fee and offset by an increase in Directors fees and expenses. Management fees declined during the period ended July 31, 2006 due to a decline in net assets of the Company that are invested in Private Companies or Private Investment Funds.

For the three-month period ended July 31, 2006, the Company had investment income of $246,466 and net operating expenses, net of expenses reimbursed by the Managing Investment Adviser, of $148,841, resulting in a net investment income of $97,625. In comparison, the Company had investment income of $105,402 and net operating expenses, net of expenses reimbursed by the Managing Investment Adviser, of $163,565, resulting in a net investment loss of ($58,163) for the similar period ended July 31, 2005. The primary reason for the increase in investment income was an increase in interest income paid by short-term securities held by the Company. The reduction in net expenses is principally attributable to lower Managing Investment Adviser fee and was offset by an increase in professional fees and Directors fees and expenses. Management fees declined during the period ended July 31, 2006 due to a decline in net assets.

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 realized capital gains of the Company. Such management fee is determined and payable quarterly.

For the nine-month periods ended July 31, 2006 and 2005, the Managing Investment Adviser and the former Managing Investment Adviser earned $376,675 and $421,683 in management fees, respectively. In addition, for the nine-month periods ended July 31, 2006 and 2005, the change in allowance for the management incentive fee was $0 and $0, respectively.

 

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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 0.25%, on an annual basis, of the Company’s average net assets. For the nine-month periods ended July 31, 2006 and 2005, the Managing Investment Adviser and the former Managing Investment Adviser reimbursed other operating expenses of the Company in the amounts of $304,484 and $266,367, respectively, as a result of expenses incurred in excess of these limits.

For the three-month periods ended July 31, 2006 and 2005, the Managing Investment Adviser and the former Managing Investment Adviser earned $120,726 and $135,703 in management fees, respectively. In addition, for the three-month periods ended July 31, 2006 and 2005, the change in allowance for the management incentive fee was $0 and $0, respectively. 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 0.25%, on an annual basis, of the Company’s average net assets. For the three-month periods ended July 31, 2006 and 2005, the Managing Investment Adviser and the former Managing Investment Adviser reimbursed other operating expenses of the Company in the amounts of $118,405 and $77,690, respectively, as a result of expenses incurred in excess of these limits.

Net Assets

At July 31, 2006, the Company’s net assets were $44,987,651 or a net asset value per common share of $ 229.85. This represents a decrease of ($689,494) from net assets of $45,677,145, or a net asset value per common share of $233.37, at October 31, 2005. The decrease in net assets during the period is principally due to the net change in unrealized depreciation of ($2,627,516) on investments, as describe above and partially offset by net realized gain of $1,782,732 as describe above.

Liquidity and Capital Resources

The Company has focused its investments in the private equity securities of expansion and later-stage venture capital companies and middle-market companies that the Company believes offer significant long-term capital appreciation. The Company may offer managerial assistance to certain of these companies. The Company invests its available cash in short-term investments of marketable securities pending distributions to shareholders or to provide the liquidity necessary to make portfolio investments as investment opportunities arise.

At July 31, 2006, the Company held $1,990 in cash and $19,021,306 in short-term investments as compared to $0 in cash and $12,775,632 in short-term investments at October 31, 2005. The increase in cash and short-term investments during the period is the result of distributions received in the form of both cash and stock from its private investment funds during the period ended July 31, 2006. Proceeds from the distributions totaled $5,784,327. In connection with the Company’s commitments to private investment funds, a total of $58,250,000 has been contributed by the Company through July 31, 2006 and an additional contribution of $307,504 during this period which is a recallable distribution from one of its private investment funds, Brentwood Associates III, LP. The Company has no additional capital commitment obligations to the private funds it has invested in.

The Company believes that its liquidity and capital resources are adequate to satisfy its operational needs.

The Company has qualified as a “regulated investment company” under Subchapter M of the Internal Revenue Code. As such, the Company is required to adhere to various tax requirements which may impact its ability to pay dividends to its shareholders. Due to these requirements the Company has not paid dividends in this fiscal year and is presently evaluating its ability to pay dividends later this year. The Company is also evaluating other opportunities to enhance shareholder value and liquidity. In particular, the Company commenced a process which may result in the sale of all of its assets (a “Potential Sale Transaction”). There is no assurance that the Company will enter into a Potential Sale Transaction, or if such transaction does occur, what the proceeds will be or the timing of the consummation of a Potential Sale Transaction. Any such transaction would be subject to the approval of the Board of Directors and shareholders of the Company.

 

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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 Managing Investment Adviser makes 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 56.83% of the Company’s net assets at July 31, 2006. For the private investments held at July 31, 2006, changes to these estimates, i.e. changes in the valuations of these private investments, resulted in a $2.6 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 Managing Investment Adviser or a committee of the Board, both under the supervision 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 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 Managing Investment Adviser, the Managing Investment Adviser, 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 Managing Investment Adviser also makes 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 3. Quantitative and Qualitative Disclosures about Market Risk.

Equity Price Risk

A majority of the Company’s investment portfolio consists of equity securities in private companies and private investment funds, representing 56.83% of the Company’s net assets, 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 July 31, 2006 and at October 31, 2005, the Company was not subject to equity price risk normally associated with public equity markets, except to the extent that the private investment funds that the Company has invested in has, from time to time, interests in securities which may be publicly traded.

 

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Item 4. Controls and Procedures.

(a) Evaluation of Disclosure Controls and Procedures. As of July 31, 2006 (the end of the period covered by this report), the Company’s principal executive officers and principal financial officer evaluated the effectiveness of the Company’s disclosure controls and procedures (as defined in the Securities Exchange Act of 1934 Rules 13a-15(e) and 15d-15(e)) and 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.

(b) Changes in Internal Controls. There were no changes in the Company’s internal control over financial reporting identified in connection with the evaluation of such internal control that occurred during the Company’s last fiscal quarter, that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II. OTHER INFORMATION

 

Item 1. Legal Proceedings.

None.

 

Item 2. Changes in Securities and Use of Proceeds.

None.

 

Item 3. Defaults Upon Senior Securities.

None.

 

Item 4. Submission of Matters to a Vote of Security Holders.

None.

 

Item 5. Other Information.

None.

 

Item 6. Exhibits and Reports on Form 8-K.

 

(a) Exhibits.

 

31.1    Certification of Chief Executive Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2    Certification of Treasurer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32    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.

On September 11, 2006, the Company filed a Current Report on Form 8-K to report under Item 8.01 certain disclosures.

 

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SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

   

EXCELSIOR PRIVATE EQUITY FUND II, INC.

Date: September 14, 2006

    

By:

  

/s/ Leo P. Grohowski

       

Leo P. Grohowski

       

Co-Chief Executive Officer

 

Date: September 14, 2006    

By:

   /s/ Raghav V. Nandagopal
       

Raghav V. Nandagopal

       

Co-Chief Executive Officer

 

Date: September 14, 2006    

By:

   /s/ Robert F. Aufenanger
       

Robert F. Aufenanger

       

Treasurer

       

(Principal Financial Officer)

 

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