UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 or 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended SEPTEMBER 30, 2003
or
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period _____________ to _________________
Commission File Number 1-11454-03
vFINANCE, INC.
(Exact name of small business issuer as specified in its charter)
Delaware 58-1974423
------------------------------- -------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
3010 North Military Trail, Suite 300, Boca Raton, FL 33431
(Address of principal executive offices)
(561) 981-1000
(Issuer's telephone number)
(Former name, former address and former fiscal year,
if changed since last report)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 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 ( )
State the number of shares outstanding of each of the issuer's classes of common
equity, as of September 30, 2003:
29,851,570 shares of Common Stock $0.01 par value
Transitional Small Business Disclosure Format (Check one): Yes [ x ] No [ ]
INDEX
VFINANCE, INC.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheet - September 30,2003 (Unaudited)...........4
Consolidated Statements of Operations for the three and nine
months ended September 30, 2002 and 2003 (Unaudited)................5
Consolidated Statements of Cash Flows for the nine months ended
September 30, 2002 and 2003 (Unaudited).............................6
Notes to Consolidated Financial Statements (Unaudited)............7-11
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations...........................................12-14
Item 3. Controls and Procedures.............................................15
PART II. OTHER INFORMATION
Item 1. Legal Proceedings...................................................16
Item 6. Exhibits and Reports on Form 8-K....................................17
Signatures...................................................................18
2
FORWARD-LOOKING STATEMENTS
This form 10-QSB for vFinance, Inc. (the "Company") includes statements that may
constitute "forward-looking" statements, usually containing the words "believe",
"estimate", "intend", "expect", or similar expressions. These statements are
made pursuant to the safe harbor provisions of the Private Securities Litigation
Reform Act of 1995. Forward looking statements inherently involve risks and
uncertainties that could cause actual results to differ materially from the
forward-looking statements. Factors that would cause or contribute to such
differences include, but are not limited to, the inability of our broker-dealer
operations to operate profitably in the face of intense competition from larger
full service and discount brokers, a general decrease in merger and acquisition
activities and our potential inability to receive success fees as a result of
transactions not being completed, our potential inability to implement our
growth strategy through acquisitions or joint ventures, our potential inability
to secure additional debt or equity financing to support our growth strategies
and other risks detailed in the Company's periodic report filings with the
Securities and Exchange Commission. By making these forward-looking statements,
the Company undertakes no obligation to update these statements for revisions or
changes after the date of this Form 10-QSB.
3
vFINANCE, INC
CONSOLIDATED BALANCE SHEET
SEPTEMBER 30, 2003
(UNAUDITED)
Assets:
Current Assets:
Cash and cash equivalents $ 3,736,565
Investments in trading securities 1,337,803
Accounts receivable, net of allowance for doubtful
accounts of $307,222 295,571
Forgivable loans - employees, current portion 110,000
Notes receivable - employees 75,741
Prepaid expenses and other current assets 42,506
-------------
Total Current Assets 5,598,186
Furniture, equipment, and software
Furniture and equipment 415,628
Internal use software 158,500
-------------
574,128
Less accumulated depreciation (387,368)
-------------
Net furniture, equipment, and software 186,760
Forgivable loans - employees 32,160
Goodwill 420,000
Other assets 229,792
-------------
Total Assets $ 6,466,898
=============
Liabilities and Shareholders' Equity:
Accounts payable $ 720,381
Due from clearing broker 16,562
Accrued payroll 1,701,454
Accrued interest 8,000
Other accrued liabilities 804,434
Securities sold, not yet purchased 350,138
Other 24,557
-------------
Total Current Liabilities 3,625,526
Notes Payable - long term 2,084,865
Shareholders' Equity:
Common stock $0.01 par value, 75,000,000 shares 298,520
authorized, 29,851,570 issued and outstanding
Additional paid-in-capital on common stock 24,376,798
Deferred compensation (26,029)
Accumulated deficit (23,892,782)
-------------
Total Shareholders' Equity 756,507
-------------
Total Liabilities and Shareholders' Equity $ 6,466,898
=============
See accompanying notes.
vFINANCE, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three Months Ended September 30 Nine Months Ended September 30
------------------------------------ ----------------------------------
2002 2003 2002 2003
Revenues: --------------- --------------- --------------- --------------
Commissions - agency $ 2,238,778 $ 3,816,619 $ 6,989,164 $ 9,498,975
Trading Profits 1,074,125 1,299,806 2,876,268 3,056,124
Success fees 895,454 1,191,636 2,712,804 2,163,675
Consulting and retainers 487,665 74,725 1,244,761 360,499
Other brokerage related income 398,587 545,236 1,130,027 1,499,945
Other 117,417 100,549 307,361 330,534
--------------- --------------- --------------- --------------
Total revenues 5,212,026 7,028,571 15,260,385 16,909,752
--------------- --------------- --------------- --------------
Cost of revenues:
Commissions 1,998,210 3,939,563 6,245,541 9,226,333
Clearing and transaction costs 153,912 251,250 626,325 642,975
Success 551,732 496,849 1,686,709 1,007,578
Consulting and retainers 118,163 57,602 205,028 186,351
Other 8,620 3,000 27,327 13,038
--------------- --------------- --------------- --------------
Total cost of revenues 2,830,637 4,748,264 8,790,930 11,076,275
--------------- --------------- --------------- --------------
Gross profit 2,381,389 2,280,307 6,469,455 5,833,477
--------------- --------------- --------------- --------------
Operating expenses:
General and administrative 1,832,742 1,755,287 6,536,619 4,948,422
Professional fees 151,909 85,096 719,107 260,240
Provision for bad debts 59,520 60,105 295,728 85,971
Legal litigation 82,439 91,601 183,548 250,860
Depreciation and amortization 27,472 30,043 175,485 88,265
Amounts forgiven under forgivable loans 66,875 42,500 211,063 97,500
Stock based compensation expense 33,840 1,324 33,840 16,391
--------------- --------------- --------------- --------------
Total operating expenses 2,254,797 2,065,956 8,155,390 5,747,649
--------------- --------------- --------------- --------------
Income (loss) from operations 126,592 214,351 (1,685,935) 85,828
Interest and dividend income (expense) (46,741) (26,133) (203,813) (76,953)
--------------- --------------- --------------- --------------
Pre-Tax Net Income (loss) 79,851 188,218 (1,889,748) 8,875
Federal Income Taxes - - 144,476 0
Net Income (loss) 79,851 188,218 (2,034,224) 8,875
Less: Preferred stock dividend 48,125 - 126,875 -
--------------- --------------- --------------- --------------
Income (loss) available to common stockholders $ 31,726 $ 188,218 $ (2,161,099) $ 8,875
=============== =============== =============== ==============
Income (loss) per share:
Basic $ 0.00 $ 0.01 $ (0.09) $ 0.00
=============== =============== =============== ==============
Weighted average number of common
shares used in computing basic income (loss)
per share 23,372,019 29,851,570 23,417,252 29,527,394
=============== =============== =============== ==============
Diluted $ 0.00 $ 0.01 $ (0.09) $ 0.00
=============== =============== =============== ==============
Weighted average number of common
shares used in computing diluted income (loss)
per share 23,372,019 29,851,570 23,417,252 29,527,394
=============== ================ =============== ==============
See accompanying notes
5
vFINANCE, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Nine Months Ended September 30,
-------------------------------
2002 2003
------------- -------------
OPERATING ACTIVITIES
Net (Loss)/Income $ (2,034,224) $ 8,875
Adjustments to reconcile net loss to net
cash provided (used) in operating activities:
Non-cash fees received (926,187) (224,567)
Depreciation and amortization 175,485 88,265
Provision for doubtful accounts 288,565 84,092
Non-cash compensation 488,245 40,797
Income tax receivable write off 139,513 -
Accretion of debt discount 174,154 55,045
Unrealized loss (gain) on investments, net 153,085 (216,934)
Unrealized loss on warrants (3,034) 149,424
Amount forgiven under forgivable loan 211,063 97,500
Stock based compensation 33,840 16,391
Changes in Assets and Liabilties:
Accounts receivable (404,614) (106,685)
Forgivable loans 23,000 -
Due from clearing broker (18,736) 113,196
Notes receivable from employees (5,073) 71,702
Investments in trading securities 189,088 447,520
Other current assets 54,642 14,228
Other assets and liabilities 24,819 (9,068)
Accounts payable and accrued liabilities (217,913) 762,258
Securities sold, not yet purchased 88,365 5,575
------------- -------------
Net cash provided (used) in operating activities (1,565,917) 1,397,614
------------- -------------
INVESTING ACTIVITIES
Purchase of equipment (93,803) (18,210)
Disposal of businesses, cash effect 1,659 -
------------- -------------
Net cash used in investing activities (92,144) (18,210)
------------- -------------
FINANCING ACTIVITIES
Change in capital leases (29,749) -
Proceeds from credit agreement 1,500,000 -
Proceeds from issuance of common stock 123,750 130,000
Payment of long term debt (100,375) -
------------- -------------
Net cash provided by financing activities 1,493,626 130,000
------------- -------------
Increase in cash (164,435) 1,509,404
Cash and cash equivalents at beginning of
period 2,397,900 2,227,161
------------- -------------
Cash and cash equivalents at end of period $ 2,233,465 $ 3,736,565
============= =============
See accompanying notes.
6
vFinance, Inc.
Notes to Consolidated Financial Statements September 30, 2003
(Unaudited)
1. DESCRIPTION OF BUSINESS
vFinance, Inc. is a "new-breed" financial services enterprise committed to
building a worldwide audience of individuals looking to create wealth through
equity investments in both their personal portfolios and their businesses. The
Company principally operates in one business segment which can be referred to as
investment management services and consists primarily of financial services
including retail brokerage, trading and investment banking.
The Company conducts its broker/dealer operations, investment banking and
trading through vFinance Investments, Inc, a licensed broker dealer. It also
operates its vFinance.com website through vFinance Holdings, Inc., and processes
its mortgage brokerage through vFinance Financial Lending Services, Inc.
2. SIGNIFICANT ACCOUNTING POLICIES AND OTHER MATTERS
Basis of Presentation
The consolidated financial statements include the accounts of the Company and
its wholly owned subsidiaries. All intercompany accounts have been eliminated in
consolidation.
The accompanying financial statements have been prepared in accordance with
generally accepted accounting principles for interim financial information and
with instructions to Form 10-QSB. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting principles
for complete financial statements. In the opinion of management, all adjustments
(consisting of normal recurring accruals) considered necessary for a fair
presentation have been included. The results of operations for the nine-month
period ended September 30, 2003 are not necessarily indicative of the results to
be expected for the year ended December 31, 2003. The interim financial
statements should be read in conjunction with the audited financial statements
and notes contained in the Company's Annual Report on Form 10-KSB for the
year-ended December 31, 2002
Revenue Recognition
The Company earns revenue (commissions) from brokerage and trading which are
recognized on the day of the trade -"trade date basis". The Company also earns
revenue from investment banking and consulting. Monthly retainer fees for
investment banking and consulting are recognized as services are provided.
Investment banking success fees are generally based on a percentage of the total
value of a transaction and are recognized upon successful completion.
The Company does not require collateral from its customers. Revenues are not
concentrated in any particular region of the country or with any individual or
group.
The Company may receive equity instruments such as stock purchase warrants,
common stock and preferred stock from companies as part of its compensation for
investment-banking services. Such instruments are classified as investments in
trading securities on the Company's balance sheet, if still held at the
financial reporting date. These instruments are stated at fair value in
accordance with SFAS #115 "Accounting for certain investments in debt and equity
securities" and EITF 00-8 "Accounting by a grantee for an equity instrument to
be received in conjunction with providing goods or services". Primarily all of
the equity instruments are received from small public companies. The Company
recognizes revenue for the stock purchase warrants, when received, based on the
Black Scholes valuation model. The revenue recognized related to the other
equity instruments is determined based on available market information,
discounted by a factor reflective of the expected holding period for those
particular equity instruments. On a monthly basis, the Company recognizes
unrealized gains or losses in its statement of operations based on the changes
in value of equity instruments. Realized gains or losses are recognized in the
Company's statement of operations when the related equity instrument is sold.
Occasionally, the Company receives equity instruments in private companies with
no readily available market value. Equity interests and warrants for which there
is not a public market are valued based on factors such as significant equity
financing by sophisticated, unrelated new investors, history of positive cash
flow from operations, the market value of comparable publicly traded companies
(discounted for liquidity) and other pertinent factors. Management also
considers recent offers to purchase a portfolio company's securities and the
filings of registration statements in connection with a portfolio company's
initial public offering when valuing equity instruments received from a private
company.
Upon the consummation of an advisory, consulting, capital or other similar
transaction, the Company may distribute equity instruments or proceeds from the
sale of equity instruments to its employees. These distributions are made at the
Company's discretion on a case-by-case basis as determined by the role of the
employee and the nature of the transaction. At September 30, 2003, there were no
amounts owed to current employees of the Company in connection with equity
investments received as compensation.
7
The Company sells two types of listings on its website: (i) perpetual listings
to venture capital vendors, who are interested in providing services to other
companies or individuals; and (ii) three-month listings to entrepreneurs who
have new business ideas to sell. Revenue related to the listings is generally
recognized over the terms of such listings. Website revenues are concentrated
primarily in the United States but are not concentrated in any particular region
of the country or with any individual or group. Fees related to such listings
are included in "other" in the statements of operations.
Reclassifications
Certain prior period balances have been reclassified to conform to the current
period's financial statement presentation. These reclassifications had no impact
on previously reported results of operations or shareholders' equity.
Use of Estimates
The preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates
and assumptions that affect the amounts reported in the accompanying financial
statements. Actual results may differ from those estimates, and such differences
may be material to the financial statements.
Cash and cash equivalents
Cash and cash equivalents include all highly liquid investments with maturities
of three months or less when purchased.
Investments
Investments are classified as trading securities and are held for resale in
anticipation of short-term market movements or until such securities are
registered or are otherwise unrestricted. Trading account assets, consisting of
marketable equity securities and stock purchase warrants, are stated at fair
value. At September 30, 2003 investments consisted of common stock and common
stock purchase warrants held for resale. Realized gains or losses are recognized
in the statement of operations when the related stock purchase warrant is
exercised and the underlying shares are sold. Unrealized gains or losses are
recognized in the statement of operations on a monthly basis based on changes in
the fair value of the security as quoted on national or inter-dealer stock
exchanges, discounted by a factor reflective of the expected holding period for
that particular equity instrument.
Stock Based Compensation
The Company has elected to follow Accounting Principles Board Opinion No. 25,
ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES ("APB 25"), and related interpretations
in accounting for its employee stock options and employee stock purchase
warrants because the alternative fair value accounting provided for under
Statement of Financial Accounting Standards No. 123, ACCOUNTING FOR STOCK BASED
COMPENSATION ("SFAS 123") and SFAS 148, Accounting for Stock Based Compensation
Transition and Disclosure an amendment of SFAS 123, requires the use of option
valuation models that were not developed for use in valuing employee stock
options. Under APB 25, if the exercise price of the Company's employee stock
options or stock purchase warrants equals or exceeds the market price of the
underlying stock on the date of grant no compensation expense is recognized.
Fair Value of Financial Instruments
The fair values of the Company's financial instruments, which includes cash and
cash equivalents, accounts receivable, investments, accounts payable, and
accrued expenses approximate their carrying values.
The Company's financial instruments that are exposed to concentrations of credit
risk consist primarily of cash and cash equivalents and accounts receivable. The
Company places its cash with high quality financial institutions.
Goodwill
The carrying values of goodwill as well as other long-lived assets are reviewed
if the facts and circumstances suggest that they may be impaired. If this review
indicates that the assets will not be recoverable, as determined based on the
undiscounted estimated cash flows of the Company over the remaining amortization
period, the Company's carrying values of the assets would be reduced to their
estimated fair values in accordance with FAS 144.
8
Income Taxes
The Company accounts for income taxes under the liability method in accordance
with Statement of Financial Accounting Standards No. 109, ACCOUNTING FOR INCOME
TAXES. Under this method, deferred income tax assets and liabilities are
determined based on differences between the financial reporting and tax bases of
assets and liabilities and are measured using the enacted tax rates and laws
that will be in effect when the differences are expected to reverse.
Earnings per Share
The Company calculates earnings per share in accordance with Statement of
Financial Accounting Standards No. 128, EARNINGS PER SHARE ("SFAS No. 128"). In
accordance with SFAS No. 128, basic earnings per share is computed using the
weighted average number of shares of common stock outstanding and diluted
earnings per share is computed using the weighted average number of shares of
common stock and the dilutive effect of options and warrants outstanding, using
the "treasury stock" method.
Forgivable Loans
In order to remain competitive in the marketplace, the Company granted
forgivable loans to certain employees. The terms of the loans range from two to
five years with scheduled maturity dates from 2002 to 2005. For each year the
employee is in good standing with the Company, the Company forgives a ratable
portion of the principal and charges this amount to compensation expense. If the
employee is terminated, the principal balance is due and payable within 120
days. The loans do not bear interest and interest is not imputed as the
collection of any such interest would not be probable. As of September 30, 2003
the balance of the forgivable loans was $142,160 of which $110,000 is classified
as current. The remaining long-term portion of $32,160 is scheduled for
forgiveness as follows: $26,828 in 2004 and $5,332 in 2005.
3. IMPAIRMENT OF GOODWILL
Management determined that there was no impairment of goodwill during the
quarters ended September 30, 2002 and 2003. Goodwill carried on the balance
sheet as of September 30, 2003 was $420,000.
4. SHAREHOLDER'S EQUITY
On November 28, 2001, the Company entered into a Note Purchase Agreement, as
amended by subsequent letter agreements dated November 30, 2001, December 14,
2001, and December 28, 2001, February 13, 2002 and March 4, 2002 (collectively,
the "Note Purchase Agreement"), with SBI Investments (USA) Inc. ("SBI"). Under
the terms of the Note Purchase Agreement, SBI had the option to provide a
subordinated loan to the Company of up to $1,500,000 in the form of a 48-month
non-interest bearing, convertible note. As of December 31, 2002, the Company had
received $975,000 under the Note Purchase Agreement and could have received, at
SBI's option alone, an additional $525,000 no later than June 30, 2002. The
additional $525,000 was not funded. The note is convertible, at SBI's option,
into as many as 3,421,053 shares of our common stock at $0.285 per share. The
Company, at any time during the first three years of the agreement, can call for
redemption of the note at a price equal to 116.67% of the then outstanding
principal amount of the Note, in whole (but not in part), or force the
conversion of the note into shares of the Company's common stock.
In July 2002, certain SBI Note holders converted $177,500 of principal into
622,807 shares of common stock of the Company. The Company reflected an
adjustment to its par value of Common Stock equal to $6,228 and reduced its note
payable and unamortized beneficial conversion/imputed interest amount by
$177,500.
In November 2002, an SBI Note holder converted $47,500 of principal into 166,667
shares of common stock of the Company. The Company reflected an adjustment to
its par value of Common Stock equal to $1,667 and reduced its note payable and
unamortized beneficial conversion/imputed interest amount by $47,500.
In accordance with EITF Issue No. 00-27, (APPLICATION OF ISSUE NO. 98-5),
ACCOUNTING FOR CONVERTIBLE SECURITIES WITH BENEFICIAL CONVERSION FEATURES OF
CONTINGENTLY ADJUSTABLE CONVERSION RATIOS, IN CERTAIN CONVERTIBLE INSTRUMENTS,
and APB #21 (INTEREST ON RECEIVABLES AND PAYABLES) the Company recorded an
imputed interest factor related to the Note Purchase Agreement of $563,000. The
Company fully expensed the beneficial conversion factor due to the fact that the
SBI Note was immediately convertible. The net one time charge to the financial
statements was $412,000. The imputed interest is accreted ratably over the term
of the loan as additional interest expense. Amortization of the imputed interest
began in January 2002.
On February 27, 2003 the Company sold 1,500,000 unregistered shares at a price
of $0.0867 per share for a total consideration of $130,000. These shares were
sold to Arend Verweij and Hoss Bozorgzad, independent contractors of the
Company. These securities were exempt from registration pursuant to Section 4(2)
of the Securities Act of 1933, as amended, because the securities were acquired
in a privately negotiated transaction by sophisticated investors.
9
A summary of the stock option activity for the nine months ended September 30,
2003 is as follows:
Weighted
Average
Exercise Number Exercise Price
Price of Shares Per Option
-------- ----------- --------------
Outstanding options at December 31, 2002 $0.50 4,471,664 $0.15 - $6.00
Granted................................. $0.20 7,380,349 $0.15 - $0.22
Cancelled .............................. $0.43 (1,216,450) $0.32 - $2.25
-----------
Outstanding options at September 30 2003 $0.30 10,635,563 $0.15 - $6.00
-----------
A summary of the stock purchase warrant activity for the nine months ended
September 30, 2003 is as follows:
Weighted
Average
Exercise Number of Exercise Price
Price Warrants Per Option
-------- --------- --------------
Outstanding warrants at December 31, 2002 $2.15 4,108,499 $0.35 - $7.20
Granted ................................. $0.19 1,250,000 $0.15 - $0.20
Cancelled ............................... - - -
Outstanding options at September 30, 2003 $1.69 5,358,499 $0.15 - $7.20
=========
The following table summarizes information concerning stock options outstanding
at September 30, 2003.
Option Options
Price Outstanding
------ -----------
0.15 1,430,000
0.20 1,050,000
0.21 4,920,349
0.22 50,000
0.32 1,180,000
0.35 1,389,215
0.50 100,000
0.55 69,000
0.63 182,500
0.70 39,000
1.00 18,000
2.25 157,499
4.00 10,000
4.13 20,000
5.00 10,000
6.00 10,000
----------
10,635,563
==========
10
The following table summarizes information concerning warrants outstanding at
September 30, 2003.
Exercise Warrants
Price Outstanding
-------- -----------
0.15 250,000
0.20 1,000,000
0.35 1,993,500
0.63 400,000
2.25 585,000
2.50 300,000
6.00 129,999
7.20 700,000
---- ---------
5,358,499
=========
Pro forma information regarding net loss is required by SFAS 123, which also
requires that the information be determined as if the Company has accounted for
its employee stock options under the fair value method. The fair value for
options and warrants granted was estimated at the date of grant using the Black
Scholes option pricing model with the following weighted-average assumptions:
for 2003 risk free interest rates of 3.29%; no dividend yields; volatility
factor of the expected market price of the Company's common stock of 2.471 for
options and warrants and an expected life of the options and warrants of 4-5
years. The Company's pro forma net loss for the period ended September 30, 2003
was $458,939. The Company's pro forma basic and diluted net loss per share for
the period ended September 30, 2003 was $0.02 The impact of the Company's pro
forma net loss and loss per share of the SFAS 123 pro forma requirements are not
likely to be representative of future pro forma results.
6. DEBT
On January 25, 2002, the Company entered into a Credit Agreement with UBS
Americas, Inc. ("UBS"). Under the terms of the Credit Agreement, UBS provided a
revolving credit facility of up to $3,000,000 to the Company for the purpose of
supporting the expansion of its brokerage business or investments in
infrastructure to expand its operations or its broker-dealer operations. The
loan has a term of 4 years, must be repaid in full by January 2005, and bears
interest at LIBOR plus a LIBOR margin of 2% if the loan is repaid within a month
or 5% if it is outstanding more than a month. Among other covenants, Section
5.10 of the Credit Agreement requires the Company to maintain shareholder's
equity of at least $7,000,000. On April 12, 2002 UBS waived this requirement of
the Credit Agreement to the extent necessary to exclude the Company's write-off
of goodwill aggregating $8,852,020 included in the Company's consolidated
financial statements for the year ended December 31, 2001.
The Company must make early repayments under the Credit Agreement if it acquires
a new broker dealer firm, enters a new line of business, or hires more than 4
brokers in a single or related transaction. This repayment is made by adding
$1.00 to the cost of each incremental clearing transaction the Company makes
through CSC, a wholly owned subsidiary of Paine Webber which is a wholly owned
subsidiary of UBS. All determinations as to required early repayment shall be
made by UBS, in its reasonable judgment. To date, UBS has not notified the
Company of any such determination. The Company borrowed $1,500,000 under the
credit facility on January 28, 2002. The Credit Agreement does not provide for
conversion of the debt into equity securities.
11
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
CRITICAL ACCOUNTING POLICIES
Financial Reporting Release No. 60, which was released by the SEC, requires all
companies to include a discussion of critical accounting policies or methods
used in the preparation of financial statements. Note 2 to our consolidated
financial statements dated December 31, 2002 includes a summary of the
significant accounting policies and methods used in the preparation of our
consolidated financial statements. The following is a brief discussion of the
more significant accounting policies and methods used by us.
GENERAL. The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities,
disclosure of contingent assets and liabilities and the reported amounts of
revenues and expenses. Actual results could differ from those estimates.
REVENUE RECOGNITION. We earn revenue from brokerage and trading which are
recognized on the day of the trade. We also earn revenue from investment banking
and consulting. Monthly retainer fees for investment banking and consulting are
recognized as earned. Investment banking success fees are generally based on a
percentage of the total value of a transaction and are recognized upon
successful completion.
We do not require collateral from our customers. Revenues are not concentrated
in any particular region of the country or with any individual or group.
We periodically receive equity instruments which include stock purchase warrants
and common and preferred stock from companies as part of our compensation for
investment-banking services that are classified as investments in trading
securities on the balance sheet if still held at the financial reporting date.
These instruments are stated at fair value in accordance with SFAS #11
"Accounting for certain investments in debt and equity securities" and EITF 00-8
"Accounting by a grantee for an equity instrument to be received in conjunction
with providing goods or services." Primarily all of the equity instruments are
received from small public companies. The stock and stock purchase warrants
received are typically restricted as to resale, though the Company generally
receives a registration right within one year. Company policy is to sell these
securities in anticipation of short-term market movements. We recognize revenue
for these stock purchase warrants when received based on the Black Scholes
valuation model. The revenue recognized related to other equity instruments is
determined based on available market information, discounted by a factor
reflective of the expected holding period for those particular equity
instruments. On a monthly basis, we recognize unrealized gains or losses in the
statement of operations based on the changes in value in the stock purchase
warrants and other equity instruments.. Realized gains or losses are recognized
in the statement of operations when the related stock purchase warrant or other
equity instrument is sold.
Occasionally, we receive equity instruments in private companies with no readily
available market value. Equity interests and warrants for which there is not a
public market are valued based on factors such as significant equity financing
by sophisticated, unrelated new investors, history of positive cash flow from
operations, the market value of comparable publicly traded companies (discounted
for liquidity) and other pertinent factors. Management also considers recent
offers to purchase a portfolio company's securities and the filings of
registration statements in connection with a portfolio company's initial public
offering when valuing warrants.
On occasion, we distribute equity instruments or proceeds from the sale of
equity instruments to our employees as compensation for their investment banking
successes. These distributions comply with compensation agreements which vary on
a "banker by banker" basis. Accordingly, unrealized gains or losses recorded in
the statement of operations related to securities held by us at each period end
may also impact compensation expense and accrued compensation.
As of September 30, 2003, certain transactions in process may result in us
receiving equity instruments or stock purchase warrants in subsequent periods as
discussed above. In this event, we will recognize revenue related to the receipt
of such equity instruments consistent with the aforementioned policies. In
addition, we would also record compensation expense at fair value related to the
distribution of some or all of such equity instruments to employees or
independent contractors involved with the related transaction.
CLEARING ARRANGEMENT. We do not carry accounts for customers or perform
custodial functions related to customers' securities. We introduce all of their
customer transactions, which are not reflected in these financial statements, to
their respective clearing brokers, which maintain the customers' accounts and
clear such transactions. Additionally, our clearing firm provides the clearing
and depository operations for our proprietary securities transactions. These
activities may expose our broker dealer to off-balance-sheet risk in the event
that customers do not fulfill their obligations with the clearing broker, as our
broker dealer has agreed to indemnify our clearing firm.
CUSTOMER CLAIMS. In the normal course of business, our operating subsidiaries
have been and continue to be the subject of numerous civil actions and
arbitrations arising out of customer complaints relating to our activities as a
broker-dealer, as an employer and as a result of other business activities. In
general, the cases involve various allegations that our employees had mishandled
customer accounts. Based on our historical experience and consultation with
counsel, we typically reserve an amount we believe will be sufficient to cover
any damages assessed against us. However, we have in the past been assessed
damages that exceeded our reserves. If we misjudged the amount of damages that
may be assessed against us from pending or threatened claims or if we are unable
to adequately estimate the amount of damages that will be assessed against us
from claims that arise in the future and reserve accordingly, our operating
income would be reduced.
12
FAIR VALUE. "Investments in trading securities" and "Securities sold, not yet
purchased" on our consolidated balance sheet are carried at fair value or
amounts that approximate fair value, with related unrealized gains and losses
recognized in our results of operations. The determination of fair value is
fundamental to our financial condition and results of operations and, in certain
circumstances, it requires management to make complex judgments.
Fair values are based on listed market prices, where possible, discounted by a
factor reflective of the expected holding period for a particular equity
instrument. If listed market prices are not available, or if the liquidation of
our positions would reasonably be expected to impact market prices, fair value
is determined based on other relevant factors including dealer price quotations.
Fair values for certain derivative contracts are derived from pricing models
that consider current market and contractual prices for the underlying financial
instruments or commodities, as well as time value and yield curve or volatility
factors underlying the positions.
Pricing models and their underlying assumptions impact the amount and timing of
unrealized gains and losses recognized, and the use of different pricing models
or assumptions could produce different financial results. Changes in the fixed
income and equity markets will impact our estimates of fair value in the future,
potentially affecting principal trading revenues. The illiquid nature of certain
securities or debt instruments also requires a high degree of judgment in
determining fair value due to the lack of listed market prices and the potential
impact of the liquidation of our position on market prices, among other factors.
INVESTMENTS. Investments are classified as trading securities and are held for
resale in anticipation of short-term market movements or until such securities
are registered or are otherwise unrestricted. Any unregistered securities
received generally contain a registration right within one year. Trading account
assets, consisting of marketable equity securities and stock purchase warrants,
are stated at fair value. Realized gains or losses are recognized in the
statement of operations when the related underlying shares of a stock purchase
warrant or other equity instruments are sold. Unrealized gains or losses are
recognized in the statement of operations on a monthly basis based on changes in
the fair value of the security as quoted on national or inter-dealer stock
exchange, discounted by a factor reflective of the expected holding period for
the particular equity instrument.
GOODWILL AND OTHER INTANGIBLE ASSETS ("FAS 142"). The provisions of FAS 141
eliminated the pooling-of-interests method of accounting for business
combinations consummated after June 30, 2001. We adopted FAS 141 on July 1, 2001
and it did not have a significant impact on our financial position or results of
operations. Under the provisions of FAS 142, goodwill and indefinite lived
intangible assets are no longer amortized, but are reviewed annually for
impairment. Separable intangible assets that are not deemed to have an
indefinite life will continue to be amortized over their useful lives. The
Company adopted the new accounting rules, as required, effective January 1,
2002.
The value of the Company's goodwill is exposed to future adverse changes if the
Company experiences declines in operating results or experiences significant
negative industry or economic trends or if future performance is below
historical trends. The Company periodically reviews intangible assets and
goodwill for impairment using the guidance of applicable accounting literature.
We are subject to financial statement risk to the extent that the goodwill and
other intangible assets become impaired.
NINE MONTHS ENDED SEPTEMBER 30, 2003 COMPARED TO THE NINE MONTHS ENDED
SEPTEMBER 30, 2002
STATEMENTS OF OPERATIONS
Operating revenues were $16,909,752 for the nine months ended September 30, 2003
as compared to $15,260,385 for the nine months ended September 30, 2002, an
increase of $1,649,367 or 11%. The primary reason for the improvement was a
significant increase in retail brokerage revenues-36%, classified as
Commissions-agency, as well as increases in Trading Profits-6%. Such increases
were partially offset by reduced Investment Banking activity. Overall, the
Company believes that the increase in operating revenues was a result of its
successful recruiting strategies combined with a relatively favorable market
environment.
Cost of revenues were $11,076,275 for the nine months ended September 30, 2003
as compared to $8,790.930 for the nine months ended September 30, 2002, an
increase of $2,285,345, or 21%. The increase was primarily due to increased
revenues and the corresponding increase to commissions as well as the Company's
transition to an Independent Contractor (I/C) based retail sales model, as
opposed to an employee based model. I/Cs require higher payouts than employees
as they are relatively self supporting, independent businesses. The move to the
I/C business model had a corresponding benefit as it reduced the firm's general
and administrative expenses (see below). As a consequence, gross profit was
$5,833,477 for the nine months ended September 30, 2003 as compared to
$6,469,455 for the nine months ended September 30, 2002, a decrease of $635,978.
The corresponding gross margin was 34% for the nine months ended September 30,
2003 as compared to 42% for the nine months ended September 30, 2002. The
reduced gross margin during the current quarter is also reflective of the
increased payout percentages to the Company's Independent Contractors.
13
General and administrative expenses were $4,948,422 for the nine months ended
September 30, 2003 as compared to $6,536,619 for the nine months ended September
30, 2002, a decrease of $1,588,197, or 24%. This decrease is also primarily
related to the Company's transition to an I/C based retail sales model, as
opposed to an employee based model. This transition results in reduced general
and administrative expenses; however, as mentioned above, it also results in
higher payouts to I/Cs which reduces the Company's gross margin. In addition,
the Company implemented cost savings measures to reduce its overall general and
administrative expenses including headcount reductions and consolidation of its
facility space.
Professional fees were $260,240 for the nine months ended September 30, 2003 as
compared to $719,107 for the nine months ended September 30, 2002, a decrease of
$458,867, or 64%. This decrease was primarily attributable to better utilization
of the Company's internal professional staff thereby reducing its reliance on
outside consultants.
The provision for bad debt was $85,971 for the nine months ended September 30,
2003 as compared to $295,728 for the nine months ended September 30, 2002, a
decrease of $209,757, or 71%. The decrease in the provision for bad debt is
primarily related to the decrease in consulting and retainer revenues, which
historically proved difficult to collect. The Company provides for credit losses
at the time it believes a particular account may not be collectible. Such
evaluations are made and recorded on a monthly basis.
Legal litigation was $250,860 for the nine months ended September 30, 2003 as
compared to $183,548 for the nine months ended September 30, 2002, an increase
of $67,312, or 37%. As is typical in the industry, customers make claims
regarding the Company's actions and the Company defends itself vigorously
against such claims. The Company's cost of defending itself varies
quarter-to-quarter depending on the volume of claims which are in process at any
given time.
Depreciation and amortization was $88,265 for the nine months ended September
30, 2003 as compared to $175,485 for the nine months ended September 30, 2002, a
decrease of $87,229, or 50%. The decrease was primarily due to certain fixed
assets becoming fully depreciated and not subsequently replaced. Additionally,
as facilities were consolidated and headcount reduced, there was a reduction in
requirements for additional fixed asset purchases.
The amount forgiven under forgivable loans was $97,500 for the nine months ended
September 30, 2003 as compared to $211,063 for the nine months ended September
30, 2002, a decrease of $113,563, or 54%. The decrease is attributable to the
fact that the Company, several years ago, discontinued its practice of providing
forgivable loans to brokers as part of its recruitment efforts. Accordingly,
there have been no additions to the outstanding balance and the remaining
balance is being reduced over time.
Stock based compensation was $16,391 for the nine months ended September 30,
2003 as compared to $33,840 for the nine months ended September 30, 2002, a
decrease of $17,449. This amount primarily represents the amortization of
deferred compensation to an outside consultant who was granted options from the
Company in return for his services the third quarter of 2002. The amount of
deferred compensation related to the consultant was fully recognized as of March
31, 2003. In addition, the Company recently granted warrants to its landlord
related to the renegotiation of its lease and this amount is being amortized
over the life of the lease.
LIQUIDITY AND CAPITAL RESOURCES
The Company had $3,736,565 of unrestricted cash at September 30, 2003.
Net cash provided by operating activities for the nine months ending September
30, 2003, was $1,397,614 as opposed to net cash used in operating activities of
($1,565,917) for the nine months ending September 30, 2002. The increase in cash
provided by operating activities is primarily attributable to a significant
improvement to the Company's net income. The Company's year-to-date net income
as of September 30, 2003 was $8,875, representing a substantial increase from
the year-to-date net loss of $2,034,225 as of September 30, 2002. In addition,
the Company's accounts payable and accrued liabilities increased significantly
from the prior year while its non-cash fees received decreased.
Net cash used in investing activities for the nine months ending September 30,
2003, was $18,210 as opposed to $92,144 for the nine months ending September 30,
2002. The primary reason for the decrease was that the Company has reduced its
headcount and facility space resulting in reduced fixed asset requirements.
Net cash provided by financing activities for the nine months ending September
30, 2003, was $130,000 as opposed to $1,493,626 for the nine months ending
September 30, 2002. The decrease is due to the fact that the Company entered
into a debt agreement with UBS Paine Webber borrowing $1,500,000 during the
first quarter of 2002. The Company has had little need to increase its external
funding since that time.
The Company does, however, anticipate that it may need additional debt or equity
financing in order to carry out its long-term business strategy. Such funding
may be a result of bank borrowings, public offerings, private placements of
equity or debt securities, or a combination of the foregoing.
We do not have any material commitments for capital expenditures over the course
of the next fiscal year.
The Company's operations are not affected by seasonal fluctuations however they
are affected by the overall performance of the U.S. economy and to some extent
reliant on the continued execution of the Company's mergers and acquisitions
strategy and related financings.
14
ITEM 3. CONTROLS AND PROCEDURES.
Our Chief Executive Officer and Chief Financial Officer (collectively, the
"Certifying Officers") are responsible for establishing and maintaining
disclosure controls and procedures for us. Such officers have concluded (based
upon their evaluation of these controls and procedures as of the end of the
period covered by this Quarterly Report) that our disclosure controls and
procedures are effective to ensure that information required to be disclosed by
us in this Quarterly Report is accumulated and communicated to management,
including our principal executive officers as appropriate, to allow timely
decisions regarding required disclosure.
The Certifying Officers have also indicated that there were no significant
changes in our internal controls or other factors that could significantly
affect such controls subsequent to the date of their evaluation, and there were
no corrective actions with regard to significant deficiencies and material
weaknesses.
Our management, including each of the Certifying Officers, does not expect that
our disclosure controls or our internal controls will prevent all error and
fraud. A control system, no matter how well conceived and operated, can provide
only reasonable, not absolute, assurance that the objectives of the control
system are met. In addition, the design of a control system must reflect the
fact that there are resource constraints, and the benefits of controls must be
considered relative to their costs. Because of the inherent limitations in all
control systems, no evaluation of controls can provide absolute assurance that
all control issues and instances of fraud, if any, within a company have been
detected. These inherent limitations include the realities that judgments in
decision-making can be faulty, and that breakdowns can occur because of simple
error or mistake. Additionally, controls can be circumvented by the individual
acts of some persons, by collusion of two or more people or by management
override of the control. The design of any system of controls also is based in
part upon certain assumptions about the likelihood of future events, and their
can be no assurance that any design will succeed in achieving its stated goals
under all potential future conditions. Over time, control may become inadequate
because of changes in conditions, or the degree of compliance with the policies
or procedures may deteriorate. Because of these inherent limitations in a
cost-effective control system, misstatements due to error or fraud may occur and
not be detected.
15
Part II. OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
On October 17, 2003, we were advised by the staff of the Securities and Exchange
Commission (the "Commission") that it intended to recommend that the Commission
institute enforcement proceedings against our wholly-owned registered
broker/dealer, vFinance Investments, Inc., and one of its former employees. We
have been informed by the staff of the Commission that they would claim that our
broker/dealer and its former employee failed reasonably to supervise the alleged
illegal trading activities over a period of approximately two months of one of
our broker/dealer's former securities traders with respect to one publicly
traded security that resulted in the Company earning approximately $11,000 in
gross commissions related to that one security over the two month period. The
Company has retained counsel and is actively engaged in discussions with the
staff of the Commission and expects to resolve the Commission's concerns in a
manner which will not have a material adverse effect on either the parent
company or our broker/dealer subsidiary.
16
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) EXHIBITS
31.1 - Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer of the
Company.
31.2 - Rule 13a-15(a)/15d-14(a) Certification of Chief Financial Officer of the
Company.
32.1 - Section 1350 Certification by Chief Executive Officer of the Company.
32.2 - Section 1350 Certification by Chief Financial Officer of the Company.
(b) REPORTS ON FORM 8-K
None.
17
SIGNATURES
In accordance with the requirements of the Exchange Act, the Registrant has
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
Signature Title Date
--------- ----- ----
By: /s/ Leonard J. Sokolow Chief Executive Officer November 14,2003
---------------------- and President
Leonard J. Sokolow (Principal Executive
Officer)
By: /s/ Mark Kacer Chief Financial Officer November 14, 2003
----------------------------- and (Principal Financial
Mark Kacer and Accounting Officer)
18