Safeguard Scientifics, Inc.

Good morning and thank you for joining us for Safeguard Scientifics’ first quarter conference call and webcast. Joining me on today’s call are Steve Zarrilli, Safeguard’s President and CEO; and Jeff McGroarty, Safeguard’s Senior Vice President and CFO.

During today’s call, Steve will review highlights of the quarter, as well as other developments at Safeguard and our partner companies. Jeff will then discuss Safeguard’s financial results and strategies.

after that, we will open up the lines to take your questions. As always, I must remind you that today’s presentation includes forward-looking statements.

Reliance on the forward-looking statements involves certain risks and uncertainties, including, but not limited to the uncertainty of future performance of our partner companies, the risks associated with our acquisition or disposition of interest in partner companies, risks associated with our decisions about the deployment of capital, and the effect of regulatory and economic conditions generally, as well as the development of the healthcare and technology markets and other uncertainties that are described in our SEC filings. During the course of today’s call, words such as except, anticipate, believe and intend will be used in our discussion of goals or events in the future.

Management cannot be certain that final outcomes will be as described today. We encourage you to read Safeguard’s filings with the SEC, which describe in detail the risks and uncertainties associated with managing our business.

The company does not assume any obligation to update any forward-looking statements made today. Now here is Safeguard’s President and CEO, Steve Zarrilli.

Thank you, John and thank you all for joining us for today’s update on Safeguard Scientifics and our partner companies. During the first quarter of 2014, Safeguard deployed $4 million of capital in a new partner company InfoBionic, realized $77.2 million cash proceeds from our interest in formal partner companies: Alverix, Crescendo and NuPathe and return capital to shareholders, there is a repurchase of $8 million of shares of our common stock.

at the end of the first quarter, Safeguard’s net cash, cash equivalents and marketable securities balance was $191.5 million. Subsequent to the first quarter, Safeguard also sold its ownership stake in Sotera Wireless for $4.2 million in cash proceeds, representing a 1.5x cash-on-cash return for Safeguard.

Safeguard had deployed $2.7 million in Sotera Wireless since February of 2013 and had a 7% primary ownership position. The sale of Sotera was pursed, since it was determined, we could not ultimately achieve a greater level of ownership or influence in the company.

As you may recall, we strive to maintain significant minority positions in companies where we can have substantial influence. Over the next several quarters, we intend to continue to increase our roster of partner companies in Safeguard’s targeted vertical markets of healthcare and technology.

Those verticals are medical diagnostics and devices, specialty pharmaceuticals and health technology, as well as digital media, enterprise software and financial technology. We are working to achieve greater consistency in the amount of capital deployed and capital realized, as well as greater awareness of our value creating initiatives.

Discipline and focus have served us well in the past. we believe these trades will continue to serve all of our interest going forward.

As we stated previously, a Safeguard partner company could be involved in a strategic or financial exit transaction at anytime in its development. We’ve categorized Safeguard’s partner companies in four stages, based on revenue penetration in operational, financial and organizational maturity.

A quick review for those of you who are new to our call, development stages for the pre-revenue businesses that are proving their technology through prototype development or beta product versions. Currently, we have one partner company, InfoBionic in this category.

I’ll provide additional information on this new partner company shortly. Initial revenue stage is made up of businesses that are building corporate infrastructure and management teams.

They are beginning to penetrate target markets and have revenues of $5 million or less. Currently, there are eight partner companies in this category.

Our expansion stage includes companies that have characteristics of commercial grade solutions, growing market penetration, complete infrastructure and management teams and revenue in the range of $5 million to $20 million. Currently, there are four partner companies in this category.

And then finally, high traction companies are characterized by rapid growth, significant commercial success and revenues in excess of $20 million per year. Currently, there are six partner companies in this category.

We are excited to highlight our newest partner company, InfoBionic. At the end of March, Safeguard led a $17 million Series B financing for InfoBionic, deploying an initial $4 million for a 20% primary ownership position.

Safeguard has the option to deploy an additional $4 million into InfoBionic as a part of this financing round, pending certain regulatory milestones, which will ultimately increase Safeguard’s primary ownership position. InfoBionic is an emerging digital health company, focused on creating superior patient monitoring solutions for chronic disease management.

The company’s initial market focus is on the cardiac arrhythmias, which represents a $3 billion market. Proceeds from the financing will enable InfoBionic to commercialize its MoMe System, a remote patient monitoring platform for cardiac arrhythmias detection, both in Europe and in the United States.

Subsequent to the first quarter of 2014, Safeguard also provided $1.9 million in follow-on funding in the form of a convertible bridge loan to our current partner company, Putney. We expect to fund an additional amount up to $2.5 million during the second quarter.

Founded in 2009, Putney is a rapidly growing specialty pharmaceutical company, developing high-quality, cost-effective generic medicines for pet. Putney provides high-quality medicines that meet pet medical needs and offers cost-effective alternatives for pet owners.

With the follow-on funding, Safeguard now has deployed $11.9 million in Putney, since September 2011 and our primary ownership position remains at 28%. The Putney’s story is especially promising, revenue grew to more than $20 millin in 2013 is – and is on track to increase significantly in 2014.

The company now has seven products in the market; proceeds from the follow-on Putney will have Putney deliveries, R&D pipeline and expand its commercial efforts in advance of additional approvals, anticipated from the FDA Center for Veterinary Medicine. I’ll start now to leave time for questions after an update from Safeguard’s CFO, Jeff McGroarty who will focus on our financial performance and ongoing goals.

Thanks, Steve. Let’s begin with the review of key financial metrics for the quarter ended March 31, 2014.

At period-end, we had $241.7 million in cash, cash equivalents and marketable securities. The total carrying value of our outstanding debt was $50.2 million, resulting in net cash, cash equivalents and marketable securities of $191.5 million.

During the first quarter, primary uses of cash were a capital deployment of $4 million in new partner company, InfoBionic, follow-on deployment of $1.9 million in three partner companies, cash used in operations of $7.8 million and repurchases of company common stock of $8 million. Consistent with Safeguard’s focus on the core business, our priorities for uses of cash remain unchanged, capital deployment into new partners companies, follow-on funding to support current partner companies and our corporate operations.

In late February 2014, our Board of Directors approved an increase in the company share repurchase program, bringing the total authorization to $25 million. During the first quarter, Safeguard repurchased approximately 388,000 shares of the company’s common stock in open market transactions at prices ranging from $19.54 to $22.08 per share for an aggregate cost of $8 million.

Today, Safeguard has repurchased approximately 983,000 shares for a total cost of $20.5 million. We expect to utilize the entire $25 million share repurchase authorization within the next several weeks.

We will continue to assess our cash position and consider opportunities to repurchase shares when we have excess cash based on the parameters established with our board, but we do not expect to have significant excess cash until we have additional success proactive to partner companies. Our roster of partner companies totaled 20 at quarter end, since the sale of our interest in Sotera was completed subsequent to March 31.

The cost of our interest in these companies totaled $177 million, carrying value of those partner companies of those $110 million. Safeguard’s financial strength, flexibility and liquidity are evidenced on this slide showing the company’s balance sheet of March 31, 2014.

Our partner companies continue to develop their business models, build out their technologies and customer bases and grow their revenue. Our historic aggregate revenue data has been adjusted for the sale of one initial revenue stage company, and the addition of one development stage company.

However, our 2014 aggregate revenue guidance remains unchanged and is expected to be in the range of $345 million to $365 million.

Thanks, Jeff. Why don’t we go ahead and open it up for any questions?

Hi. It’s actually on Arnie Ursaner for Bob has just been back it up on call.

Good morning.

Good morning, Arnie.

A couple of questions for you, could you expand a little bit on the Good Start PerkinElmer relationship and what you’ve seen so far, perhaps expand on the opportunity you see?

Yes. I’m really going to refer you back to the press release that Good Start issued, because we really aren’t in a position to expand on the disclosure that they’ve first made so far.

but it is a partnership that’s going to open up an opportunity for them to potentially reach an additional $60 million, women of reproductive age, as they disclosed. It’s an arrangement that provides some exclusivity between the two parties and allows for the marketing of Good Start’s capabilities into the market in a much more substantial way.

Okay. My second question relates to the Sotera Wireless exit.

You seem to have done this in a much earlier process than perhaps normal for the company. Could you maybe expand on what your thought process was on, why you did it now versus what’s you’re going to go further?

Sure, let me take you back a little bit towards the thought process when we originally got it involved with Sotera. we think Sotera is going to have a very solid future.

We got involved it with Sotera, a little over a year ago with the hope that we were going to be able to increase our ownership stake to a level that would be more in line with what we generally would like to accomplish, which is in that 20% to 50% ownership range, was the recent round of capital that the Sotera has is in the process of completing the valuation of that round was at a level that we thought actually was probably too high for us to participate in order to get 20% as an example. We would have had to deploy up to $20 million or thereabout.

and we just start if that would take us out of our area of real capability and discipline. so we had a decision to make, which we made, which was we thought we could retrieve this capital with a profit and put it into other opportunities that we’re seeing in the market where we – which fall into the categories that we define for ourselves and for which we’re executing against, which is generally an initial capital deployment of $5 million to $15 million, an ownership stake generally between 20% to 50%, with the opportunity to have significant influence.

Real quick final question, in healthcare, you had $41 million of net income. is there a one-time item in that related to sales of anything or not, I do have a problem?

Yes, yes, Arnie. that’s primarily; you’re seeing the gains associated with the sale of Crescendo, Alverix and NuPathe within the healthcare segment.

Great, good morning everyone. First, on the InfoBionic, can you – you talked about – you’ve got a $4 million initial investment and then another $4 million potential investment later on.

And you just talked about the timing, is that expected to be a near-term event, or is that follow-on, likely later on, what is the trigger to have that additional follow-on?

Yes. Good morning, Greg.

So as we’ve pointed out, we tranche this in order to ensure this InfoBionic is capable of fitting certain key milestones that will allow it to prosper and grow in the market. we expect that that additional $4 million will be deployed with ensured order, as soon as 90 days or as long as, potentially a 180, but nothing substantially beyond that point in time.

And I’m sorry, the second part of your question was?

What is the trigger to have the additional follow-on?

Thank you. Basically, approval from the FDA with regard to their 510(k) filing would be the trigger point.

Okay, great. And then can you just talk about the pipeline for new deals and clearly, some of the disruptions we’re seeing in the public markets, has that flowed through to any of the pipeline valuations that you’re seeing?

So, let’s start with the last part of that question first and then I’ll move into the strength of the pipeline. there are some things occurring in the marketplace that tend to lead to some valuations that may be running a little hard – harder and heavier than we would have been anticipated.

but I don’t really think that that’s having much of an impact on us on the long, in a long-term – on a long-term perspective, as to how we’re going to put capital to work. Our pipeline just to give you a sense, in the first quarter, we looked at nearly 160 opportunities.

and if we remain consistent with that pace, that would put us somewhere in the range of 600 to 700, and we generally would like to issue term sheets and close on about 1% of that number, or 6% to 8% per year. We closed on one in the first quarter.

We actually went with that, significantly for two other opportunities. One, we’ve pulled away from, at the 11th hour; because we couldn’t get the governance features aligned with what we would have been anticipated or desired.

And the second was we got outgunned if you will with regard to certain terms from another capital provider. one of which was slightly increased in valuation, but that wasn’t the only attribute that was different than what we have proposed.

and we expect these situations to be competitive. When I look forward into Q2, Q3 and Q4, I’m seeing still that same level of strength, we have few opportunities right now in Q2 that we’re pursuing in a very meaningful way, which we hope will result in the addition to the partner company roster in short order.

So, the shorter answer is the pipeline is strong, the valuations are all that crazy that we can’t find good deals to do, we’ve got to do our homework and as you know, it’s important that we get in at the right number, because that makes our job easier in producing the returns that our shareholders expect of us. but the landscape is very solid and I’m very comfortable with our goals for the year, as it relates to the amount of money we’d like to put to work in a number of partner companies we’re focused on.

Great. Thanks, guys.

Yes. Good morning, guys.

Good morning. Jim.

Hi, Jim.

Am I reading it right that Sotera had about $4 million of revenue last year, because that is the subtraction from your partner company revenue last year? and so effectively, you’re raising your partner company revenue by the amount that Sotera would have had by leading at the same?

There’s a few things going on there, Jim. we have Sotera going away, we also have InfoBionic coming in with its pre-revenue as far as the prior years go.

But you also have during the first quarter, or so the year, we’re getting audited financial statements from our partner companies. and so there are a mixture of adjustments that we pick up after the fact.

So you have a – some changes there. So you can’t necessarily read into every to that all Sotera.

Okay. I believe you also have a bridge loan into Quantia.

could you discuss that situation?

Quantia, as you know is the partner company that came on-board last year. We anticipate continuing to provide them with the capital that they need in order to execute against their business.

The bridge financing is intended to be a part of a longer-term conversion into a Series C funding round for Quantia. And we’re just in the process of completing the process of getting the other pieces of that funding transaction completed, so that we can convert that bridge into a permanent financing.

And maybe, there is a question for Jeff. So you had several big gains in the first quarter.

I would have thought you have some compensation expense for partners, related to those gains, which I really don’t see much of in the quarterly results. So maybe, you could tell me why that is or how that would flow through the income statement.

We provided for compensation associated with those results at the end of the year. And that they’ve been reflected in the numbers that we’ve reported, Jim.

And also Jim, to remind you, a lot of our long-term incentive compensation is based on performance awards. So as we have the exit, that contributes to our best thing of those awards that have been granted based on with targets and metrics for achievement based on cash-on-cash returns.

So basically, you’ve already kind of expensed those previously?

No. You’ll see the expense over time though, because we recognize it as the awards of best.

So this is the – exits we had in the first quarter would be one component of a larger pool of awards. So that increases are towards our best thing targets.

So that can be spread over time though rather than be evidenced as a large one-time hit.

So Jim, just to put in a perspective and to remind those that what we may have discussed this within the past. Our team has compensated in a number of different ways, base, short-term bonus.

We do have provisions for certain situations where further success bonuses can be paid in cash. And then what Jeff is referring to, which is really important to the overall compensation program, as well as this the granting of equity instruments each year, which are tied to that the pools of capital that are deployed in that particular year.

They vest principally 75% of those instruments vest over a certain performance criteria that is established by our compensation committee, that criteria is generally meaning to return 1x capital before vesting can begin and full vesting occurs at the accomplishment of 2.4x cash-on-cash return. So to tie that back to what Jeff was referring to, that expense, it’s the P&L over a period of time with respect to the long-term incentives.

Great. And just I guess, I would be remiss if I didn’t ask for an update on MediaMath?

MediaMath continues to develop its business very substantially; it has some significant goals for itself in 2014, which it’s on track for. The management team continues to look for ways in which to solidify the offering that they have into the market.

they believe that they have and continue to demonstrate a significant amount of differentiation between our competition and they’re looking for ways in which they can continue to strengthen that. They are not naïve to the opportunity that may present itself to potentially go public in the future, but they have some things that they’d led to accomplish before that in order to make sure that they either got a stronger platform before pulling that trigger.

Hi, a charge you took in the press release, I noticed is $3 million, what was the charge entailing, the $3.585 million or net income loss? Was there a write-off, I guess is the short answer?

No. Where are you looking, Paul?

Second page, the last on segment results. I guess net income loss $3.585 million.

I guess that’s from just the consolidated income statement, not a write-off of businesses in the quarter.

Right. Yes, that’s the cumulative result of our primarily equity income or loss in this case of a net loss pickup, specifically that’s for the technology companies.

Okay. And then the Putney financing, was that part of a larger transaction or was it just you involved in that?

A good question, Paul, it’s part of a larger transaction, all of the existing investors – institutional investors are participating in that round. We ultimately had staged it with a bridge initially, and then a permanent financing that will be completed in Q2, just giving the timing of paperwork and getting agreements in place.

So everyone is participating at their pro rata share.

And any update on Good Start?

Good Start continues to develop well and they’re exploiting a number of different opportunities and ways which they continue to expand their business and software long-term capital needs and desires.

Okay, thank you.

Thanks. Hey guys.

A couple of things on Jeff, could you remind going back over a couple of the uses of cash in the quarter, I’m not sure I tell you that upright. you had $8 million for repurchase, corporate was $7.8 million?

Correct.

And then the total, and then you had the new investment into Groundhog, then follow-on was a total of $1.9 million?

Correct.

Yes. Hoopla is a large component of that $1.9?

1,350,000 of that.

I thought it was okay. So Putney was just…

Hoopla did raise a larger round. But we have raised that again, $8 million round as Series B, but our piece of that was $1.35 million.

Yes, okay.

Yes Putney, you don’t get confused with the $1.9 for Putney that had occurred early in the second quarter.

Okay. All right.

Now that’s what for me. So nothing in Putney in the Q1.

Okay.

Clever.

All right. And so in Q2 we got $1.9 committed and then, that the follow on for Putney won’t be in Q2, you think?

No, we expect it will be completed before the end of Q2. So, the $1.9 got done in the early part of April, we expect that before the end of June.

Well before the end of June that the other $2.5 million will be funded, along with the completion of that permanent capital around.

Okay. Thanks for that.

And then the buyback quarter-to-date has totaled something north of $12 million. Jeff?

For the second quarter?

Yes.

Yes. That’s right.

Yes, okay.

$8 million in Q1 and $20.5 million through today.

Okay. So, if I got my math together, now, could I get a little color on the corporate spend of $7.8 million, did that have any of the compensation from the (indiscernible)?

Yes, it did, the Q1 corporate cash number is always the highest of the year. Primarily because it includes the payment of the management incentive plan from the prior period.

It also includes a lot of expenses that are accrued at year-end, professional fees that sort of things associated with audit and other compliance activities that happen at year-end., that get paid in the first quarter. But from a cash standpoint that outlay is in line with what we expect in Q1.

And our corporate expense for Q1 is inline with our plan and slightly below last year.

So Bill, if you were to go back and look at Q2, Q3 and Q4, generally cash spend in those quarters is roughly between $3 million and $3.5 million. And then you’ve got a bigger quarter in Q1 because of the payments that Jeff has alluded to.

Got it, thank you. And one little housekeeping, what was the carrying value in Sotera at the time of sale?

Okay. And then, one on InfoBionic, I see they’re pretty close to getting a 510(k) Clearance.

Right.

What’s the general timeline to commercial sale just in general, just a ballpark?

They could be in market by the end of the year if all goes according to plan.

It’s great, okay. Thanks guys.

Thank you.

Differences no, evolution yes. One other things that we’re finding extraordinarily interesting right now is the increasing pace of innovation and ideas that are being brought to us that fall within this healthcare technology, healthcare IT sector.

And it’s heartening for us because it actually allows us to marry some domain expertise on both sides of our house in evaluating these opportunities, as well. They tend to be fairly rational with regard to evaluation expectations.

The management teams that are bringing these ideas forward are pretty sophisticated, back off all men and women who have some really interesting ideas. There’s a spectrum of opportunity that allows us to, even we together a variety of different opportunities that cut across the market in some holistic ways.

So there is a lot of interesting things that are going on there. That’s not to say that we’re not also having some terrific opportunities presented to us in the other areas, as well.

Enterprise application and infrastructure continued to provide interesting opportunities for us. FinTech seems to be rebounding nicely.

We are not probably as – we have to be careful around devices and InfoBionic is obviously a device, which we think highly up, but we need to be careful in that marketplace to make sure that the underpinnings of the business model makes sense. And diagnostics continues to evolve and we’re going to continue to try to leverage our knowledge in domain expertise so it’s been evident with Crescendo and Good Start Genetics into new opportunities they could present it to us.

Great, well thank you and good luck.

Well, thank you everyone and we look forward to updating you later in the summer with respect to our Q2 results.