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 MARCH 31, 2004
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)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Exchange Actof 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes ( x ) No ( )
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b of the Exchange Act). Yes ( ) No ( x )
Indicate the number of shares outstanding of each of the issuer's classes of
common equity, as of May 1, 2004:
33,295,869 shares of Common Stock $0.01 par value
INDEX
VFINANCE, INC.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheet - March 31,2004 (Unaudited)..............4
Consolidated Statements of Operations for the three
months ended March 31, 2004 and 2003 (Unaudited)...................5
Consolidated Statements of Cash Flows for the three
months ended March 31, 2004 and 2003 (Unaudited)...................6
Notes to Consolidated Financial Statements (Unaudited) .... .......7-9
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations..............................10-13
Item 3. Controls and Procedures............................................14
PART II. OTHER INFORMATION
Item 1. Legal Proceedings..................................................15
Item 2. Changes in Securities and Small Business Issuer
Purchases of Equity Securities.....................................15
Item 6. Exhibits and Reports on Form 8-K ..................................16
Signatures
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
vFINANCE, INC.
CONSOLIDATED BALANCE SHEET
(UNAUDITED)
March 31, 2004
------------------
Assets:
Current Assest:
Cash and cash equivalents $ 4,960,812
Due from clearing broker 111,143
Investments in trading securities 969,581
Accounts receivable, net of allowance
for doubtful accounts 239,805
Forgivable loans-employees, current portion 65,508
Notes receivable-employees, net of allowance
for doubtful accounts 72,465
Deferred tax asset 400,000
Prepaid expenses and other current assets 91,483
------------------
Total current assets 6,910,797
Furniture and equipment, at cost:
Furniture and equipment 486,577
Internal use software 158,500
------------------
645,077
Less accumulated depreciation (446,896)
------------------
Net furniture and equipment 198,181
Goodwill 420,000
Other assets 205,844
------------------
Total Assets $ 7,734,822
==================
Liabilities and Shareholders' Equity:
Current liabilities:
Accounts payable $ 1,336,283
Accrued payroll 1,750,167
Other accrued liabilities 406,875
Securities sold, not yet purchased 170,788
Notes payable 28,500
Other 12,034
------------------
Total current liabilities 3,704,647
Shareholders' Equity:
Series A Convertible Preferred Stock $0.01 par
value, 122,500 shares authorized, 0 shares
issued and outstanding -
Series B Convertible Preferred Stock $0.01 par value,
50,000 shares authorized, 0 shares issued and outstanding -
Common stock $0.01 par value, 75,000,000 shares
authorized, 33,195,869 issued and outstanding 331,963
Additional paid-in-capital on common stock 25,168,042
Deferred compensation (23,382)
Accumulated deficit (21,446,448)
------------------
Total Shareholders' Equity 4,030,175
------------------
Total Liabilities and Shareholders' Equity $ 7,734,822
==================
See accompanying notes.
4
vFINANCE, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
THREE MONTHS ENDED MARCH 31,
----------------------------
2004 2003
------------ ------------
Revenues:
Commissions - agency $ 4,100,189 $ 2,254,762
Trading Profits 1,572,753 763,861
Success Fees 1,280,888 211,278
Consulting and retainers 70,327 147,993
Other brokerage related income 680,381 288,263
Other 108,033 112,452
------------ ------------
Total revenues 7,812,571 3,778,609
------------ ------------
Cost of revenues:
Commissions 4,325,680 1,915,432
Clearing and transaction costs 145,409 174,007
Success 620,591 66,051
Consulting and retainers 50,545 49,207
Other 4,087 4,759
------------ ------------
Total cost of revenues 5,146,312 2,209,456
------------ ------------
Gross profit 2,666,259 1,569,153
------------ ------------
Other expenses:
General and administrative 1,820,065 1,586,765
Net loss on trading securities - 2,728
Professional fees 56,587 80,212
Provision for bad debt 75,446 -
Legal litigation 156,098 65,242
Depreciation and amortization 29,175 29,046
Amounts forgiven under forgivable loans 21,250 27,500
Stock based compensation 1,324 12,420
------------ ------------
Total other expenses 2,159,945 1,803,913
------------ ------------
Income/(Loss) from operations 506,314 (234,760)
Gain on forgiveness of debt 1,500,000 -
Interest expense, net of income (262,520) (27,202)
------------ ------------
Pre-tax Net Income/(Loss) 1,743,794 (261,962)
Income tax benefit 400,000 -
------------ ------------
Net Income/(Loss) available to common shareholders $ 2,143,794 $ (261,962)
============ ============
Net Income/(Loss) per share:
Basic $ 0.07 $ (0.01)
============ ============
Weighted average number of common shares used in
computing basic net income/(loss) per share 31,160,844 28,868,237
============ ============
Diluted $ 0.06 $ (0.01)
============ ============
Weighted average number of common shares used in
computing diluted net income/(loss) per share 35,434,387 28,868,237
============ ============
See accompanying notes.
5
vFINANCE, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
THREE MONTHS ENDED MARCH 31,
----------------------------
2004 2003
------------ ------------
OPERATING ACTIVITIES
Net income/(loss) $ 2,143,794 $ (261,962)
Adjustments to reconcile net income/(loss) to
net cash provided by (used in) operating
activities:
Non-cash fees received (300,417) (20,297)
Gain on forgiveness of debt (1,500,000) -
Income tax benefit (400,000) -
Depreciation and amortization 29,176 29,045
Provision for doubtful accounts 75,446 -
Non-cash compensation 215,585 -
Conversion premium expense 231,625 -
Accretion of debt discount 18,348 18,348
Unrealized gain on investments, net (57,063) (86,368)
Unrealized loss on warrants 115,550 14,360
Amount forgiven under forgivable loans 21,250 27,500
Stock based compensation 1,324 12,420
Changes in operating assets and
liabilities:
Accounts receivable (126,474) (21,704)
Due from clearing broker 58,486 182,129
Notes receivable - employees 109,494 49,713
Investments in trading securities 87,180 241,055
Other current assets - 14,229
Other assets and liabilities (4,012) 1,550
Accounts payable and accrued liabilities 402,122 (445,550)
Securities, sold not yet purchased 87,008 5,575
------------ ------------
Net cash provided by (used in) operating
activities 1,208,422 (239,957)
INVESTING ACTIVITIES
Purchase of equipment (31,424) -
------------ ------------
Net cash used in investing activities (31,424) -
FINANCING ACTIVITIES
Proceeds from issuance of common stock
related to private placement - 130,000
------------ ------------
Net cash provided by financing activities - 130,000
Increase (decrease) in cash and cash equivalents 1,176,998 (109,957)
Cash and cash equivalents at beginning of year 3,783,814 2,227,160
------------ ------------
Cash and cash equivalents at end of period $ 4,960,812 $ 2,117,203
============ ============
See accompanying notes.
6
vFinance, Inc.
Notes to Consolidated Financial Statements March 31, 2004
(Unaudited)
1. DESCRIPTION OF BUSINESS
vFinance, Inc. is a holding company engaged in the financial information
services business through our web site www.vfinance.com, and through our
principal operating subsidiary, vFinance Investments, Inc. which is a
broker-dealer licensed to conduct business in all 50 states and the District of
Columbia. We provide retail and institutional securities brokerage, investment
banking and research services. We are committed to the financial services
industry where our strategic focus is on servicing the needs of high net-worth
and institutional investors and high growth companies.
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 three-month
period ended March 31, 2004 are not necessarily indicative of the results to be
expected for the year ended December 31, 2004. 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, 2003.
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.
Net operating loss carryforwards totaled approximately $11,000,000 at December
31, 2003. During the quarter the Company weighed the available positive and
negative evidence and determined that a portion of the income tax benefit from
the net operating loss carryforwards was realizable. As a result the Company
recorded a $400,000 deferred tax asset.
3. IMPAIRMENT OF GOODWILL
Management determined that there was no impairment of goodwill during the
quarters ended March 31, 2003 and 2004. Goodwill carried on the balance sheet as
of March 31, 2004 was $420,000. The Company evaluates the recoverability and
carrying value of its Goodwill and long-lived assets at each balance sheet date,
based on guidance issued in SFAS no. 144, "Accounting for the impairment or
Disposal of Long-Lived Assets." Among other factors considered in such
evaluation is the historical and projected operating performance of business
operations, the operating environment and business strategy, competitive
information and market trends.
4. SHAREHOLDERS' EQUITY
During February and March of 2004, $721,500 of the SBI Note was converted into
3,344,298 shares of the Company's common stock. Of this amount, $545,000 was
converted into 2,725,000 shares of the Company's common stock at a discounted
rate of $0.20 per share under a special arrangement offered by the Company to
encourage further equity participation by SBI, which resulted in a $231,625
conversion premium expense. The remainder was converted at the stated conversion
rate of $0.285 per share.
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 at
the origination of the Note. 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 was accreted ratably over the term of the loan as additional interest
expense. Amortization of the imputed interest began in January 2002.
7
As of March 31, 2004, the imputed interest had been fully amortized and the note
payable to SBI was $28,500. In April of 2004, the remaining balance was
converted into 100,000 shares of common stock of the Company at the original
stated conversion rate of $.285 per share.
A summary of the stock option activity for the three months ended March 31, 2004
is as follows:
Weighted
Average
Exercise Number Exercise Price
Price of Shares Per Option
-------- ----------- -------------
Outstanding options at December 31, 2003 $0.20 10,346,211 $0.15 - $6.00
Granted................................. $0.21 1,625,000 $0.20 - $0.28
Cancelled .............................. $0.23 (135,000) $0.15 - $0.32
-----------
Outstanding options at March 31, 2004.. $0.28 11,836,211 $0.15 - $6.00
-----------
A summary of the stock purchase warrant activity for the three months ended
March 31, 2004 is as follows:
Weighted
Average
Exercise Number of Exercise Price
Price Warrants Per Option
-------- --------- -------------
Outstanding warrants at December 31, 2003 $1.70 5,398,499 $0.15 - $7.20
Granted ................................. - - -
Cancelled ............................... - - -
---------
Outstanding options at March 31, 2004.... $1.70 5,398,499 $0.15 - $7.20
=========
The following table summarizes information concerning stock options outstanding
at March 31, 2004.
Option Options
Price Outstanding
----- -----------
0.15 1,415,000
0.20 2,455,000
0.21 4,765,997
0.22 50,000
0.25 5,000
0.28 70,000
0.32 1,130,000
0.35 1,389,215
0.50 100,000
0.55 69,000
0.63 142,500
0.70 39,000
1.00 18,000
2.25 157,499
4.00 10,000
5.00 10,000
6.00 10,000
----------
11,836,211
==========
8
The following table summarizes information concerning warrants outstanding at
March 31, 2004.
Exercise Warrants
Price Outstanding
----- ------------
0.15 250,000
0.20 1,000,000
0.35 1,993,500
0.63 400,000
2.25 625,000
2.50 300,000
6.00 129,999
7.20 700,000
---- ---------
5,398,499
=========
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 2004 risk free interest rates of 3.95%; no dividend yields; volatility
factor of the expected market price of the Company's common stock of 2.1 for
options and warrants and an expected life of the options and warrants of 4-5
years. The Company's pro forma net income for the period ended March 31, 2004
was $2,095,477. The Company's pro forma basic and diluted net loss per share for
the period ended March 31, 2004 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 had a term of 4 years, was required to be repaid in full by January 2005,
and accrued 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.
Under the Credit Agreement, the Company was required to make early repayments if
it acquired a new broker dealer firm, entered a new line of business, or hired
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 were
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.
During March, 2004, the Company entered into an agreement with a new clearing
firm; National Financial Services LLC, Member NYSE/SIPC, a Fidelity Investments
company ("NFS"). In connection with this agreement NFS agreed to pay, on
vFinance's behalf, the $1,500,000 that the Company owed to UBS under UBS's
revolving credit facility. The amount was paid to UBS by NFS in March 2004. The
new clearing agreement also required NFS to provide the Company with $200,000 to
assist the Company with the transition. This amount was paid to vFinance in
March 2004 and is included in the statements of operations as a reduction to
clearing and transaction costs. The clearing agreement provides for a
termination fee in the event the Company terminates the agreement prior to the
end of the original five year term. The termination fee is $1,700,000 if the
agreement is canceled during the first year of the agreement and is reduced
ratably over the term of the agreement. The Company began clearing through NFS
during May 2004.
9
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 December 31, 2003
consolidated financial statements 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 March 31, 2004, 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.
10
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.
NET CAPITAL REQUIREMENT. As of March 31, 2004, the minimum amount of net capital
required to be maintained by vFinance Investments, Inc. was $1,000,000.
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.
STOCK BASED COMPENSATION. Upon the consummation of an advisory, consulting,
capital or other similar transactions 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
March 31, 2004 and 2003, no amounts were owed to employees of the Company in
connection with equity investments received as compensation.
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.
11
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.
THREE MONTHS ENDED MARCH 31, 2004 COMPARED TO THE THREE MONTHS ENDED
MARCH 31, 2003
STATEMENTS OF OPERATIONS
Operating revenues were $7,812,571 for the three months ended March 31, 2004 as
compared to $3,778,609 for the three months ended March 31, 2003, an increase of
$4,033,962 or 106%. The primary reason for the improvement was a significant
increase in retail brokerage revenues (83%), classified as Commissions-agency,
as well as increases in Trading Profits (112%) and Investment Banking revenues
(276%). Overall, the Company believes that the increase in its operating
revenues was a result of its successful recruiting strategies combined with a
comparatively favorable market environment. Although the Company has recently
experienced four (4) consecutive quarters of record revenues, it does not
necessarily believe that this is a trend and such favorable results are largely
dependent on the continuation of a favorable market environment.
Cost of revenues were $5,146,312 for the three months ended March 31, 2004 as
compared to $2,209,456 for the three months ended March 31, 2003, an increase of
$2,936,856, or 133%. 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, as a percentage of revenues (see below). As a
consequence, gross profit was $2,666,259 for the three months ended March 31,
2004 as compared to $1,569,153 for the three months ended March 31, 2003, an
increase of $1,097,106. The corresponding gross margin was 34% for the three
months ended March 31, 2004 as compared to 42% for the three months ended March
31, 2003. The reduced gross margin during the current quarter is also reflective
of the increased payout percentages to the Company's Independent Contractors.
General and administrative expenses were $1,820,065 for the three months ended
March 31, 2004 as compared to $1,586,765 for the three months ended March 31,
2003, an increase of $233,300, or 15%. Although general and administrative
expenses increased, they decreased significantly as a percentage of revenues,
23% at March 31, 2004 as compared to 43% at March 31, 2003. This decrease as a
percentage of revenues is 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 including headcount reductions and consolidation of its facility space.
Professional fees were $56,587 for the three months ended March 31, 2004 as
compared to $80,212 for the three months ended March 31, 2003, a decrease of
$23,625, or 29%. 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 $75,446 for the three months ended March 31, 2004
as compared to $0 for the three months ended March 31, 2003. The increase in the
provision for bad debt is primarily related to a reserve for approximately
$60,000 related to receivables from former employees. While collection is
uncertain, the Company is vigorously pursuing these matters.
Litigation expense was $156,098 for the three months ended March 31, 2004 as
compared to $65,242 for the three months ended March 31, 2003, an increase of
$90,856, or 139%. 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 $29,175 for the three months ended March 31,
2004 as compared to $29,046 for the three months ended March 31, 2003, an
increase of $129, or 0%. Although the Company has been growing, its depreciation
and amortization remained virtually unchanged as many of its fixed assets became
fully depreciated and were not subsequently replaced. Additionally, as
facilities were consolidated and headcount reduced, there was a reduction in
requirements for additional fixed asset purchases.
12
The amount forgiven under forgivable loans was $21,250 for the three months
ended March 31, 2004 as compared to $27,500 for the three months ended March 31,
2003, a decrease of $6,250, or 23%. 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 $1,324 for the three months ended March 31, 2004 as
compared to $12,420 for the three months ended March 31, 2003, a decrease of
$11,096, or 89%. The amount expensed in March 31, 2003, 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.
Income from operations was $506,314 for the three months ended March 31, 2004 as
compared to a loss from operations of $234,760 for the three months ended March
31, 2003, an increase of $741,074. This increase was primarily attributable to
significantly increased revenues somewhat offset by a reduced gross margin and
increased operating expenses.
During March 2004, the Company entered into an agreement with a new clearing
firm; National Financial Services LLC, Member NYSE/SIPC, a Fidelity Investments
company ("NFS"). In connection with this agreement NFS agreed to pay, on
vFinance's behalf, the $1,500,000 that the Company owed to UBS under UBS's
revolving credit facility. The amount was paid to UBS by NFS in March 2004. This
transaction was included in the statement of operations as "Gain on forgiveness
of debt."
Interest expense, net of income was $262,520 for the three months ended March
31, 2004 as compared to $27,202 for the three months ended March 31, 2003, an
increase of $235,318. This increase was primarily attributable to the conversion
of certain debt to equity and the related conversion premium expense. During
February and March of 2004, $721,500 of the SBI Note was converted into
3,344,298 shares of the Company's common stock. Of this amount, $545,000 was
converted into 2,725,000 shares of the Company's common stock at a discounted
rate of $0.20 per share under a special arrangement offered by the Company to
encourage further equity participation by SBI. This resulted in a $231,625
conversion premium expense.
During the current quarter, the Company weighed the available positive and
negative evidence and determined that a portion of the tax benefit of its net
operating loss carryforwards was realizable. As a result the Company recorded a
$400,000 income tax benefit.
Net income was $2,143,794 for the three months ended March 31, 2004 as compared
to a net loss of $261,962 for the three months ended March 31, 2003, an increase
of $2,405,756. The increase in net income was primarily attributable to the
increase in income from operations combined with the net benefit generated from
the gain on forgiveness of debt and the realization of an income tax benefit.
LIQUIDITY AND CAPITAL RESOURCES
The Company had $4,960,812 of unrestricted cash at March 31, 2004.
Net cash provided by operating activities for the three months ending March 31,
2004, was $1,208,422 as opposed to net cash used in operating activities of
$239,957 for the three months ending March 31, 2003. The increase in cash
provided by operating activities is primarily attributable to a significant
improvement to the Company's net income offset by the forgiveness of debt in the
amount of $1,500,000. The Company's year-to-date net income as of March 31, 2004
was $2,143,794 which represents a substantial increase from the year-to-date net
loss of $261,962 as of March 31, 2003. In addition, the Company's accounts
payable and accrued liabilities increased significantly from the prior year
while its non-cash fees received increased.
Net cash used in investing activities for the three months ending March 31,
2004, was $31,424 as opposed to $0 for the three months ending March 31, 2003.
This increase was a result of the Company's recent enhancements to its computer
systems.
The Company believes that its cash on hand is sufficient to meet its working
capital requirements over the next 12 months. However, the Company anticipates
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.
13
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.
14
Part II. OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
From time to time the Company, and/or one of its subsidiaries, is named as a
party to a lawsuit that has arisen in the ordinary course of business. Although
it is possible that losses exceeding amounts already recorded may be incurred
upon ultimate resolution of these existing legal proceedings, we believe that
such losses, if any, will not have a material adverse effect on our business,
results of operations or financial position; however, unfavorable resolution of
each matter individually or in the aggregate could affect the consolidated
results of operations for the quarterly and annual periods in which they are
resolved.
The business of vFinance Investments involves substantial risks of liability,
including exposure to liability under federal and state securities laws in
connection with the underwriting or distribution of securities and claims by
dissatisfied custiomers for fraud, unauthorized trading, churning, mismanagement
and breach of fiduciary duty. In recent years, there has been an increasing
incidence of litigation involving the securities industry, including class
actions that generally seek rescission and substantial damages.
In the ordinary course of business, the Company and/or its subsidiaries may be
parties to other legal proceedings and regulatory inquiries, the outcome of
which, either singularly or in the aggregate, is not expected to be material.
There can be no assurance however that any sanctions will not have a material
adverse effect on the financial condition or results of operations of the
Company and/or its subsidiaries.
Item 2. CHANGES IN SECURITIES AND SMALL BUSINESS ISSUER PURCHASES OF EQUITY
SECURITIES
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 was convertible, at SBI's option,
into as many as 3,421,053 shares of the Company's common stock at $0.285 per
share. The Company, at any time during the first three years of the agreement,
could 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.
During February and March of 2004, $721,500 of the SBI Note was converted into
3,344,298 shares of the Company's common stock. Of this amount, $545,000 was
converted into 2,725,000 shares of the Company's common stock at a discounted
rate of $0.20 per share under a special arrangement offered by the Company to
encourage further equity participation by SBI. The remainder was converted at
the stated conversion rate of $0.285 per share. The issuance of the common stock
was exempt from registration pursuant to Section 4 (2) of the Securities Act of
1933, as amended, because the common stock was acquired in a privately
negotiated transaction by sophisticated investors.
15
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) EXHIBITS
31.1 - Certification by Chief Executive Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 - Certification by Chief Financial Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
32.1 - Certification by Chief Executive Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
32.2 - Certification by Chief Financial Officer pursuant to Section 906 of the
Sarbanes-Oxley act of 2002.
(b) REPORTS ON FORM 8-K
Form 8-K filed on March 30, 2004 pursuant to Item 12 thereof.
16
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 May 17, 2004
---------------------- and President
Leonard J. Sokolow (Principal Executive Officer)
By: /s/ Mark Kacer Chief Financial Officer and May 17, 2004
----------------------------- (Principal Financial and
Mark Kacer Accounting Officer)