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COMMONWEALTH INCOME & GROWTH FUND VII, LP - 10-Q - : Management's Discussion and Analysis of Financial Condition and Results of Operations

August 14, 2014

FORWARD LOOKING STATEMENTS

This section, as well as other portions of this document, includes certain forward-looking statements about our business and our prospects, tax treatment of certain transactions and accounting matters, sales of securities, expenses, cash flows, distributions, investments and operating and capital requirements. Such forward-looking statements include, but are not limited to: acquisition policies of our general partner; the nature of present and future leases; provisions for uncollectible accounts; the strength and sustainability of the U.S. economy; the continued difficulties in the credit markets and their impact on the economy in general; and the level of future cash flow, debt levels, revenues, operating expenses, amortization and depreciation expenses. You can identify those statements by the use of words such as "could," "should," "would," "may," "will," "project," "believe," "anticipate," "expect," "plan," "estimate," "forecast," "potential," "intend," "continue" and "contemplate," as well as similar words and expressions.

Actual results may differ materially from those in any forward-looking statements because any such statements involve risks and uncertainties and are subject to change based upon various important factors, including, but not limited to, nationwide economic, financial, political and regulatory conditions; the health of debt and equity markets, including interest rates and credit quality; the level and nature of spending in the information, medical and telecommunications technologies markets; and the effect of competitive financing alternatives and lease pricing.

Readers are also directed to other risks and uncertainties discussed in other documents we file with the SEC, including, without limitation, those discussed in Item 1A. "Risk Factors" of our Annual Report on Form 10-K for the fiscal year ended December 31, 2013 filed with the SEC. We undertake no obligation to update or revise any forward-looking information, whether as a result of new information, future developments or otherwise.

INDUSTRY OVERVIEW

The Equipment Leasing and Finance Association's (ELFA) Monthly Leasing and Finance Index, which reports economic activity for the $827 billion equipment finance sector showed overall new business volume for June 30, 2014 was $9 billion, up 5% from new business volume in June 2013. Month over month, new business volume was up 30% from May. Year to date, cumulative new business volume increased 3% compared to 2013. Receivables over 30 days decreased from the previous month at 1.6%, and were up from 1.4% in the same period in 2013. Charge-offs remain unchanged at the all-time low of 0.2%. Credit approvals totaled 80.1% in June, an increase from 76.1% the previous month. Total headcount for equipment finance companies was up 1.0% year over year. Separately, the Equipment Leasing & Finance Foundation's Monthly Confidence Index for July is 61.4, unchanged from the previous month.

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CRITICAL ACCOUNTING POLICIES

Our discussion and analysis of our financial condition and results of operations are based upon our financial statements which have been prepared in accordance with generally accepted accounting principles in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

We believe that our critical accounting policies affect our more significant judgments and estimates used in the preparation of our financial statements. See Note 2 to our condensed financial statements included herein for a discussion related to recent accounting pronouncements.

LEASE INCOME RECEIVABLE

Lease income receivable includes current lease income receivable net of allowances for uncollectible amounts, if any. The Partnership monitors lease income receivable to ensure timely and accurate payment by lessees. The Partnership's Lease Relations department is responsible for monitoring lease income receivable and, as necessary, resolving outstanding invoices.

The Partnership reviews a customer's credit history before extending credit. When the analysis indicates that the probability of full collection is unlikely, the Partnership may establish an allowance for uncollectible lease income receivable based upon the credit risk of specific customers, historical trends and other information. The Partnership writes off its lease income receivable when it determines that it is uncollectible and all economically sensible means of recovery have been exhausted.

REVENUE RECOGNITION

Through June 30, 2014, the Partnership's lease portfolio consisted of operating leases and finance leases. For operating leases, lease revenue is recognized on a straight-line basis in accordance with the terms of the lease agreement.

Finance lease interest income is recorded over the term of the lease using the effective interest method. For finance leases, we record, at lease inception, unearned finance lease income which is calculated as follows: total lease payments, plus any residual value and initial direct costs, less the cost of the leased equipment.

Upon the end of the lease term, if the lessee has not met the return conditions as set out in the lease, the Partnership is entitled in certain cases to additional compensation from the lessee. The Partnership's accounting policy for recording such payments is to treat them as revenue.

Gains or losses from sales of leased and off-lease equipment are recorded on a net basis in the Partnership's Statement of Operations. Gains from the termination of leases are recognized when the lease is modified and terminated concurrently.

LONG-LIVED ASSETS

Depreciation on equipment for financial statement purposes is based on the straight-line method estimated generally over useful lives of two to five years. Once an asset comes off lease or is released, the Partnership reassesses the useful life of an asset.

The Partnership evaluates its long-lived assets when events or circumstances indicate that the value of the asset may not be recoverable. The Partnership determines whether impairment exists by estimating the undiscounted cash flows to be generated by each asset. If the estimated undiscounted cash flows are less than the carrying value of the asset then impairment exists. The amount of the impairment is determined based on the difference between the carrying value and the fair value. Fair value is determined based on estimated discounted cash flows to be generated by the asset.

Residual values are determined by management and are calculated using information from both internal and external sources, as well as other economic indicators.

LIQUIDITY AND CAPITAL RESOURCES

Sources and Uses of Cash

Our primary sources of cash for the six months ended June 30, 2014 were provided by operating activities of approximately $1,433,000 and net proceeds from the sale of equipment held under operating leases of approximately $180,000, compared to the six months ended June 30, 2013 where our primary source of cash was provided by operating activities of approximately $1,161,000 and the sale of equipment held under operating leases of approximately $181,000. Our primary uses of cash for the six months ended June 30, 2014 were for the purchase of new equipment of approximately $1,274,000 and distributions to partners of approximately $1,338,000. For the six months ended June 30, 2013, our primary uses of cash were for the purchase of new equipment of approximately $1,910,000 and distributions to partners of approximately $1,338,000.

Cash was provided by operating activities for the six months ended June 30, 2014 of approximately $1,433,000, and includes a net loss of approximately $663,000 and depreciation and amortization expenses of approximately $3,039,000. Other noncash activities included in the determination of net loss include direct payments to banks by lessees of approximately $845,000. This compares to the six months ended June 30, 2013 where cash was provided by operating activities of approximately $1,161,000, and includes a net loss of approximately $387,000 and depreciation and amortization expenses of approximately $2,275,000. Other noncash activities included in the determination of net loss include direct payments to banks by lessees of approximately $170,000.

As we continue to increase the size of our equipment portfolio, operating expenses will increase, which reflects the administrative costs of servicing the portfolio, but because of our investment strategy of leasing equipment primarily through triple-net leases, we avoid operating expenses related to equipment maintenance or taxes. Depreciation expenses will likely increase more rapidly than operating expenses as we add equipment to our portfolio.

CCC, on our behalf and on behalf of other affiliated partnerships, acquires equipment subject to associated debt obligations and lease revenue and allocates a participation in the cost, debt and lease revenue to the various partnerships based on certain risk factors.

Capital expenditures and distributions are expected to continue to increase overall during the remainder of 2014 as management focuses on additional equipment acquisitions and funding limited partner distributions. We intend to invest approximately $4,000,000 or more during the remainder of 2014, depending on the availability of investment opportunities.

We consider cash equivalents to be highly liquid investments with the original maturity dates of 90 days or less. At June 30, 2014, cash was held in two bank accounts maintained at one financial institution with an aggregate balance of approximately $4,065,000. Bank accounts are federally insured up to $250,000. At June 30, 2014, the total cash bank balance was as follows:

At June 30, 2014 Amount Total bank balance $ 4,065,000FDIC insured (250,000 ) Uninsured amount $ 3,815,000



The Partnership believes it mitigates the risk of holding uninsured deposits by only depositing funds with major financial institutions. The Partnership has not experienced any losses in our accounts, and believes it is not exposed to any significant credit risk. The amounts in such accounts will fluctuate throughout 2014 due to many factors, including the pace of cash receipts, equipment acquisitions and distributions to limited partners.

As of June 30, 2014, we had future minimum rentals on non-cancelable operating leases of approximately $2,840,000 for the balance of the year ending December 31, 2014 and approximately $6,225,000 thereafter.

As of June 30, 2014, we had future minimum rentals on non-cancelable finance leases of approximately $36,000 for the balance of the year ending December 31, 2014 and approximately $210,000 thereafter.

As of June 30, 2014, our non-recourse debt was approximately $2,955,000 with interest rates ranging from 1.6% through 4.85% and is payable through December 2017.

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RESULTS OF OPERATIONS

Three months ended June 30, 2014 compared to three months ended June 30, 2013

Lease Revenue

Our lease revenue increased to approximately $1,621,000 for the three months ended June 30, 2014, from approximately $1,430,000 for the three months ended June 30, 2013. This increase was primarily due the acquisition of new lease agreements and the associated increase in lease revenue.

The Partnership had 118 active operating leases that generated lease revenue of approximately $1,621,000 for the three months ended June 30, 2014. The Partnership had 78 active operating leases that generated lease revenue of approximately $1,430,000 for the three months ended June 30, 2013. Management expects to continue to add new leases to the Partnership's portfolio throughout 2014. We expect increases in portfolio size to increase aggregate lease revenue.

Sale of Equipment

For the three months ended June 30, 2014, the Partnership did not have any equipment sales. For the three months ended June 30, 2013, the Partnership sold equipment with a net book value of approximately $197,000 for a net loss of approximately $25,000. The decrease in the loss on the sale of equipment is primarily a result of an early buyout by a lessee during the three months ended June 30, 2013, which resulted in an overall loss on the sale of equipment.

Operating Expenses

Our operating expenses, excluding depreciation, primarily consist of accounting, tax and legal fees, outside service fees and reimbursement of expenses to CCC for administration and operation of the Partnership. These expenses increased to approximately $330,000 for the three months ended June 30, 2014, from approximately $298,000 for the three months ended June 30, 2013. This increase is primarily due to an increase in legal fees and other LP expenses charged by CCC for the administration of the Partnership, partially offset by a decrease in accounting fees.

Equipment Management Fee

We pay an equipment management fee to our general partner for managing our equipment portfolio. The equipment management fee is approximately 5% of the gross lease revenue attributable to equipment that is subject to operating leases and 2% of the gross lease revenue attributable to equipment that is subject to finance leases. The total equipment management fee increased to approximately $81,000 for the three months ended June 30, 2014 from approximately $73,000 for the three months ended June 30, 2013. This increase is consistent with the increase in lease revenue. As offering proceeds continue to be utilized for the acquisition of equipment, management fees are expected to increase throughout the remainder of 2014 as our equipment and lease portfolio grows.

Depreciation and Amortization Expense

Depreciation and amortization expenses consist of depreciation on equipment and amortization of equipment acquisition fees. These expenses increased to approximately $1,505,000 for the three months ended June 30, 2014, from approximately $1,155,000 for the three months ended June 30, 2013. This increase was due to the acquisition of new equipment associated with the purchase of new leases.

Net (Loss)

For the three months ended June 30, 2014, we recognized revenue of approximately $1,627,000 and expenses of approximately $1,946,000, resulting in a net loss of approximately $319,000. For the three months ended June 30, 2013, we recognized revenue of approximately $1,435,000 and expenses of approximately $1,625,000, resulting in a net loss of approximately $190,000. This net (loss) is primarily due to the changes in revenue and expenses as described above.

Six months ended June 30, 2014 compared to six months ended June 30, 2013



Lease Revenue

Our lease revenue increased to approximately $3,481,000 for the six months ended June 30, 2014, from approximately $2,739,000 for the six months ended June 30, 2013. This increase was primarily due the acquisition of new lease agreements.

The Partnership had 123 active operating leases that generated lease revenue of approximately $3,481,000 for the six months ended June 30, 2014. The Partnership had 78 active operating leases that generated lease revenue of approximately $2,739,000 for the six months ended June 30, 2013. Management expects to continue to add new leases to the Partnership's portfolio throughout 2014. We expect increases in portfolio size to increase aggregate lease revenue.

Sale of Equipment

For the six months ended June 30, 2014, the Partnership sold equipment, held under operating leases, with a net book value of approximately $381,000 for a net loss of approximately $201,000. For the six months ended June 30, 2013, the Partnership sold equipment, held under operating leases, with a net book value of approximately $210,000 for a net loss of approximately $29,000. The increase in net loss on the sale of equipment is primarily due to an early buyout by a lessee that occurred during the six months ended June 30, 2014.

Operating Expenses

Our operating expenses, excluding depreciation, primarily consist of accounting, tax and legal fees, outside service fees and reimbursement of expenses to CCC for administration and operation of the Partnership. These expenses increased to approximately $705,000 for the six months ended June 30, 2014, from approximately $620,000 for the six months ended June 30, 2013. This increase is primarily due to an increase in legal fees, accounting fees, and other LP expense charged by CCC for the administration of the Partnership for the first three months of the six month period.

Equipment Management Fee

We pay an equipment management fee to our general partner for managing our equipment portfolio. The equipment management fee is approximately 5% of the gross lease revenue attributable to equipment that is subject to operating leases and 2% of the gross lease revenue attributable to equipment that is subject to finance leases. The total equipment management fee increased to approximately $175,000 for the six months ended June 30, 2014 from approximately $140,000 for the six months ended June 30, 2013. This increase is consistent with the increase in lease volume and revenue. As more equipment is acquired to the Partnership's equipment portfolio, management fees are expected to increase throughout the remainder of 2014 as our equipment and lease portfolio grows.

Depreciation and Amortization Expense

Depreciation and amortization expenses consist of depreciation on equipment and amortization of equipment acquisition fees. These expenses increased to approximately $3,039,000 for the six months ended June 30, 2014, from approximately $2,275,000 for the six months ended June 30, 2013. This increase was due to the acquisition of new equipment associated with the purchase of new leases.

Net (Loss)

For the six months ended June 30, 2014, we recognized revenue of approximately $3,501,000 and expenses of approximately $4,164,000, resulting in a net loss of approximately $663,000. For the six months ended June 30, 2013, we recognized revenue of approximately $2,756,000 and expenses of approximately $3,143,000, resulting in a net loss of approximately $387,000. This net (loss) is primarily due to the changes in revenue and expenses as described above.

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