Annual Report 2004

A Publicly Traded Venture Capital Company
Investing in Tiny Technology

Fellow Shareholders:

The year 2004 was a momentous year of growth and progress for our Company. In this letter, we will touch on some of the highlights of the growth of our net asset value per share, net asset value, liquidity, new and follow-on investments, cumulative portfolio of tiny technology investments, deal flow, highly qualified professional staff and business franchise.

We grew very rapidly in 2004. Our net assets grew from $40,682,738 ($2.95 per share) to $74,744,799 ($4.33 per share). Our primary liquidity in the form of U.S. treasury obligations increased from $27,120,486 to $44,622,722. Our liquidity including publicly traded securities and other liquid assets increased even more, from $27,563,886 to $58,467,513, because of the initial public offering during the year of NeuroMetrix, Inc. (Nasdaq: NURO). We made nine new tiny technology investments and 10 follow-on investments. Our cumulative portfolio of tiny technology investments, at fair value, increased from $9,176,062 to $18,181,035. During the year, we saw more than 300 tiny technology-related proposals.

We added two highly qualified investment professionals, Daniel V. Leff, Ph.D., M.B.A., and Daniel B. Wolfe, Ph.D., and one highly qualified administrative officer, Sandra Matrick Forman, Esq., to our staff. And following the close of the year, we added another highly qualified investment professional, Alexei A. Andreev, Ph.D., M.B.A. Messrs. Leff and Andreev came to us from other top tier venture capital firms and became Executive Vice Presidents and Managing Directors, with each voting on all private equity investment decisions, along with our other two Managing Directors, Mr. Harris, our Chairman and CEO, and Mr. Jamison, our President and COO. Mr. Leff also opened an office for us in Los Angeles, and Mr. Andreev is opening one for us in the San Francisco Bay area.

The growth in our net asset value per share, net asset value and primary liquidity reflected, primarily, our oversubscribed follow-on offering of 3,450,000 shares of our common stock at $11.25 per share, for net proceeds after expenses of $36,128,175. This follow-on offering was underwritten by ThinkEquity Partners LLC and Punk, Ziegel & Company, L.P. Our growth in net asset value per share, net asset value and primary liquidity also reflected our sale of our interest in Nanogram Devices Corporation to Wilson GreatBatch Technologies, Inc., for gross proceeds of approximately $2,750,000, versus our investment, some 14 months earlier of $813,210. We only recognized a gain of $1,681,259 of the net proceeds of this sale in 2004, as $255,486 was not released from escrow until March of 2005. The growth in our net asset value per share, net asset value and total liquidity also reflected the successful initial public offering (IPO) in July 2004, of NeuroMetrix, underwritten by Punk, Ziegel & Company and WR Hambrecht + Co. Prior to this IPO, we valued our interest in NeuroMetrix at $6,825,426, versus our cost of $4,411,382. At December 31, 2004, we valued our shares of NeuroMetrix at $13,113,822, which was the equivalent of the market price less a liquidity discount. NeuroMetrix, the last of our significant non-tiny technology enabled holdings, remains our largest investment, both on a cost basis and a fair market value basis. We were the seed investor in NeuroMetrix and its second-largest shareholder at the time of its IPO, and our Chairman and CEO will continue to sit on its board of directors until this year's NeuroMetrix annual meeting.

During the year, our portfolio of tiny technology enabled venture capital investments increased in number from 13 to 20. As noted above, the fair value of these tiny technology investments increased from $9,176,062 to $18,181,035. Our robust deal flow allowed us to be more selective than ever in making these investments, and we were fortunate enough to be able to continue to co-invest in our investments alongside a wide variety of top venture capital firms and large corporations. In our investment process and in our co-investment strategy, we continue to stress our deep scientific and technical understanding of nanotechnology and our competence in intellectual property and technology transfer, as well as our general business and venture capital experience.

After the close of the year, we had one non-routine negative development. We found and took steps to remediate a material weakness in our internal controls over financial reporting, as manifested in an audit adjustment to an item entitled, "Total return based on net asset value," in a draft of the "Financial Highlights" section in a draft of this annual report (please see Item 9A on pages 78-79 below).

In a transition that was announced in last year's annual report, pursuant to our mandatory retirement plan for senior executives, as of January 1, 2005, Douglas W. Jamison succeeded Mel P. Melsheimer as our President, Chief Operating Officer and Chief Financial Officer. We wish Mel well in his future endeavors.

We believe we remain the only publicly traded, U.S., business development company that invests exclusively in tiny technology-enabled venture capital opportunities. Moreover, we are one of the most active investors among venture capital firms in companies operating at the nanoscale level. We have been perhaps most fortunate in that, since 2001, when we began our focus on in tiny technology, everyone to whom we have offered a job has accepted.

During 2004, one of our portfolio companies, Nantero, Inc., was named by Scientific American as a business leader in the Nanotechnology and Molecular Electronics category within the Scientific American 50 -- the magazine's annual list recognizing acts of leadership in science and technology from the past year. Also Small Times magazine released its third annual performance review of the people, products and companies in micro and nanotechnology. The Small Times awards are based on accomplishments between September 1, 2003, and October 1, 2004. Molecular Imprints, Inc., won the Best of Small Tech Award: Company of the Year. Harris & Harris Group invested $2,000,000 in privately held Molecular Imprints on March 31, 2004. In addition, Norman Schumaker, Molecular Imprints' CEO, was named a runner-up for the Best of Small Tech Award: Business Leader of the Year. Thomas Rueckes of Nantero, Inc., was named a runner-up for the Best of Small Tech Award: Innovator of the Year. Harris & Harris Group has invested a total of $1,384,327 in privately held Nantero, in three rounds of financing, the first in 2001, the second in 2003, and the most recent in 2005. In 2003, Harris & Harris Group's CEO had been named a runner-up for the Best of Small Tech Award: Business Leader of the Year. In 2002, Harris & Harris Group had been named a runner-up for the Best of Small Tech Award: Company of the Year. After the close of the year, Larry Bock, Co-Founder and Executive Chairman of Nanosys, Inc., was voted #1 on the annual Forbes/Wolfe Nanotech Report's list of Nanotech's Power Brokers, for the second year in a row. Harris & Harris Group invested $1,500,000 in privately held Nanosys in April 2003. On that same list, Mr. Harris, our Chairman and CEO, was ranked #6, up from #8 last year, just below the only other venture capitalist to make the list, Steve Jurvetson of Draper Fisher Jurvetson. Our position in the capital markets is reflected in Harris & Harris Group being including in all three of the research firm indices of publicly traded nanotechnologies: the Merrill Lynch, Punk Ziegel and Lux Research nanotech indices.

In summary, our position in the marketplace, management team, deal flow and liquidity, which are four keys to our growth potential, reached historically strong points by year-end 2004. It remains almost a truism that the early-stage venture capital industry has the first opportunity to profit from the emergence of a new area of technology. As always, we think it appropriate to remind our shareholders that ours is a risky business, and just as in 2004 and prior years, we fully expect to take write-downs and write-offs on individual investments along the way. But we believe that we have a great opportunity to create shareholder value through our position in the vanguard of the emergence of tiny technology, and especially nanotechnology, as a commercial reality.

Charles E. Harris
Chairman, Chief Executive Officer & Managing Director

Douglas W. Jamison
President, Chief Operating Officer& Managing Director

Alexei A. Andreev
Executive Vice President & Managing Director

Daniel V. Leff
Executive Vice President & Managing Director

March 30, 2004

This letter may contain statements of a forward-looking nature relating to future events. These forward-looking statements are subject to the inherent uncertainties in predicting future results and conditions. These statements reflect the Company's current beliefs, and a number of important factors could cause actual results to differ materially from those expressed in this letter. Please see the Company's Annual Report on Form 10-K filed with the Securities and Exchange Commission for a more detailed discussion of the risks and uncertainties associated with the Company's business, including but not limited to the risks and uncertainties associated with venture capital investing and other significant factors that could affect the Company's actual results. Except as otherwise required by Federal securities laws, Harris & Harris Group, Inc., undertakes no obligation to update or revise these forward-looking statements to reflect new events or uncertainties.

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