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, 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 Act of 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 November 2, 2004:
41,770,558 shares of Common Stock $0.01 par value
INDEX
VFINANCE, INC.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheet - September 30,2004 (Unaudited)............4
Consolidated Statements of Operations for the three months and
nine months ended September 30, 2004 and 2003(Unaudited)..........5
Consolidated Statements of Cash Flows for the nine months ended
September 30, 2004 and 2003 (Unaudited) ..........................6
Notes to Consolidated Financial Statements (Unaudited) ............7-10
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations ........................................11-13
Item 3. Controls and Procedures .............................................14
PART II. OTHER INFORMATION
Item 1. Legal Proceedings ...................................................15
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds..........15
Item 6. Exhibits ............................................................16
Signatures
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 as well as 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
(UNAUDITED)
September 30, 2004
--------------------------
Assets:
Current Assest:
Cash and cash equivalents $ 4,237,980
Due from clearing broker 216,092
Investments in trading securities 652,681
Accounts receivable, net of allowance
for doubtful accounts 149,595
Forgivable loans-employees, current portion 23,009
Notes receivable-employees, net of allowance
for doubtful accounts 42,822
Prepaid expenses and other current assets 41,446
--------------------------
Total current assets 5,363,625
Furniture and equipment, at cost:
Furniture and equipment 623,781
Internal use software 158,500
--------------------------
782,281
Less accumulated depreciation (512,121)
--------------------------
Net furniture and equipment 270,160
Goodwill 420,000
Other assets 608,448
--------------------------
Total Assets $ 6,662,233
==========================
Liabilities and Shareholders' Equity:
Current liabilities:
Accounts payable $ 1,087,585
Accrued payroll 927,826
Other accrued liabilities 297,501
Securities sold, not yet purchased 70,517
Capital lease obligations 21,834
Other 4,011
--------------------------
Total current liabilities 2,409,274
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, 33,295,868 issued and outstanding 332,959
Additional paid-in-capital on common stock 25,195,546
Deferred compensation (20,735)
Accumulated deficit (21,254,811)
--------------------------
Total Shareholders' Equity 4,252,959
--------------------------
Total Liabilities and Shareholders' Equity $ 6,662,233
==========================
See accompanying notes.
4
vFINANCE, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
THREE MONTHS THREE MONTHS NINE MONTHS NINE MONTHS
ENDED ENDED ENDED ENDED
SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30,
---------------- ----------------- ---------------- ----------------
2004 2003 2004 2003
---------------- ----------------- ---------------- ----------------
Revenues:
Commissions - agency $ 2,765,752 $ 3,816,619 $ 10,700,404 $ 9,498,975
Trading profits 721,712 1,299,806 3,229,400 3,056,124
Success Fees 423,248 1,191,636 2,263,050 2,163,675
Consulting and retainers 84,291 74,725 222,291 360,499
Other brokerage related income 532,105 545,236 1,846,364 1,499,945
Other 101,915 100,549 325,736 330,534
---------------- ----------------- ---------------- ----------------
Total revenues 4,629,023 7,028,571 18,587,245 16,909,752
---------------- ----------------- ---------------- ----------------
Cost of revenues:
Commissions 2,621,890 3,939,563 10,641,255 9,226,333
Clearing and transaction costs 177,804 251,250 592,782 642,975
Success 288,637 496,849 1,275,951 1,007,578
Consulting and retainers 45,386 57,602 133,281 186,351
Other (349) 3,000 3,838 13,038
---------------- ----------------- ---------------- ----------------
Total cost of revenues 3,133,368 4,748,264 12,647,107 11,076,275
---------------- ----------------- ---------------- ----------------
Gross profit 1,495,655 2,280,307 5,940,138 5,833,477
---------------- ----------------- ---------------- ----------------
Other expenses:
General and administrative 1,317,584 1,755,287 4,546,336 4,948,422
Professional fees 38,744 85,096 139,231 260,240
Provision for bad debt 10,121 60,105 85,567 85,971
Legal litigation 60,170 91,601 327,811 250,860
Depreciation and amortization 36,058 30,043 94,400 88,265
Amounts forgiven under forgivable
loans 21,250 42,500 63,750 97,500
Stock based compensation 1,324 1,324 3,971 16,391
---------------- ----------------- ---------------- ----------------
Total other expenses 1,485,251 2,065,956 5,261,066 5,747,649
---------------- ----------------- ---------------- ----------------
Income/(Loss) from operations 10,404 214,351 679,072 85,828
Gain on forgiveness of debt - - 1,500,000 -
Interest and dividend income (expense) 9,338 (26,133) (243,641) (76,953)
---------------- ----------------- ---------------- ----------------
Pre-tax Net Income/(Loss) 19,742 188,218 1,935,431 8,875
Income tax benefit - - 400,000 -
---------------- ----------------- ---------------- ----------------
Net Income/(Loss) available to common
shareholders $ 19,742 $ 188,218 $ 2,335,431 $ 8,875
================ ================= ================ ================
Net Income/(Loss) per share:
Basic $ 0.00 $ 0.01 $ 0.07 $ 0.00
================ ================= ================ ================
Weighted average number of common
shares used in computing basic net
income/(loss) per share 33,295,868 29,851,570 32,582,411 29,527,394
================ ================= ================ ================
Diluted $ 0.00 $ 0.01 $ 0.07 $ 0.00
================ ================= ================ ================
Weighted average number of common
shares used in computing diluted net
income/(loss) per share 33,528,105 29,851,570 32,814,648 29,527,394
================ ================= ================ ================
See accompanying notes.
5
vFINANCE, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
NINE MONTHS ENDED SEPTEMBER 30,
--------------------------------------------------
2004 2003
----------------------- -----------------------
OPERATING ACTIVITIES
Net income $ 2,335,431 $ 8,875
Adjustments to reconcile net income/(loss) to
net cash used in operating activities:
Non-cash fees received (419,365) (224,567)
Gain on forgiveness of debt (1,500,000) -
Income tax benefit (400,000) -
Depreciation and amortization 94,400 88,265
Provision for doubtful accounts 84,052 84,092
Non-cash compensation 300,625 40,797
Conversion premium expense 231,625
Accretion of debt discount 18,349 55,045
Unrealized loss (gain) on investments, net 183,367 (216,934)
Unrealized loss (gain) on warrants 30,988 149,424
Amount forgiven under forgivable loans 63,750 97,500
Stock based compensation 3,971 16,391
Changes in operating assets and liabilities: -
Accounts receivable (44,870) (106,685)
Due from clearing broker (46,463) 113,196
Notes receivable - employees 139,136 71,702
Investments in trading securities 361,705 447,520
Other current assets - 14,228
Other assets and liabilities 78,514 (9,068)
Accounts payable and accrued liabilities (900,992) 762,258
Securities, sold not yet purchased (13,263) 5,575
----------------------- -----------------------
Net cash provided by operating activities 600,960 1,397,614
INVESTING ACTIVITIES
Purchase of capital lease equipment (22,336) -
Purchase of equipment (146,292) (18,210)
----------------------- -----------------------
Net cash used in investing activities (168,628) (18,210)
FINANCING ACTIVITIES
Proceeds from capital lease 22,336 -
Payments of capital lease (502) -
Proceeds from issuance of common stock
related to private placement - 130,000
----------------------- -----------------------
Net cash provided by financing activities 21,834 130,000
Increase in cash and cash equivalents 454,166 1,509,404
Cash and cash equivalents at beginning of year 3,783,814 2,227,161
----------------------- -----------------------
Cash and cash equivalents at end of period $ 4,237,980 $ 3,736,565
======================= =======================
See accompanying notes.
6
vFinance, Inc.
Notes to Consolidated Financial Statements September 30, 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 with a strategic focus on servicing the needs of
high net-worth investors, 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 nine-month
period ended September 30, 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 carry forwards totaled approximately $11,000,000 at December 31,
2003. Each quarter the Company weighs the available positive and negative
evidence and determines the extent to which the net operating loss carry
forwards is realizable. As of September 30, 2004 the Company determined that
$400,000 was realizable and recorded a deferred tax asset in that amount.
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
stockholders' equity.
3. IMPAIRMENT OF GOODWILL
Management determined that there was no impairment of goodwill during the
quarters ended September 30, 2003 and 2004. Goodwill carried on the balance
sheet as of September 30, 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 during the first quarter of 2004. The remainder,
$176,500, was converted into 619,298 shares at the stated conversion rate of
$0.285 per share.
As of March 31, 2004, the imputed interest had been fully amortized and the
remaining 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 nine months ended September 30,
2004 is as follows:
7
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................................. $0.23 1,935,000 $0.20 - $0.36
Cancelled .............................. $0.20 (3,403,000) $0.15 - $0.32
----------
Outstanding options at September 30, 2004 $0.31 8,878,211 $0.15 - $6.00
----------
A summary of the stock purchase warrant activity for the nine months ended
September 30, 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 ................................. 0.15 500,000 0.15 - -
Cancelled ............................... - - -
Outstanding options at September 30, 2004 $1.70 5,898,499 $0.15 - $7.20
=========
The following table summarizes information concerning stock options at September
30, 2004.
Option Options
Price Outstanding
----- -----------
0.15 350,000
0.19 5,000
0.20 1,460,000
0.21 3,812,997
0.22 50,000
0.23
outstanding 5,000
0.25 5,000
0.28 60,000
0.32 890,000
0.35 1,564,215
0.36 120,000
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
----------
8,878,211
==========
8
The following table summarizes information concerning warrants outstanding at
September 30, 2004.
Exercise Warrants
Price Outstanding
----- ------------
0.15 750,000
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
---- ---------
5,898,499
=========
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 3.31%; no dividend yields; volatility
factor of the expected market price of the Company's common stock of 1.120 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 September 30,
2004 was $1,922,928. The Company's pro forma basic and diluted net income per
share for the period ended September 30, 2004 was $0.06. The impact of the
Company's pro forma net income and income 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 was repaid
within a month or 5% if it was outstanding more than a month. The Company
borrowed $1,500,000 under the credit facility on January 28, 2002 leaving an
additional $1,500,000 available. In June 2003, Fidelity Investments, on behalf
of its clearing division, National Financial Services LLC, Member NYSE/SIPC, a
Fidelity Investments company ("NFS"), announced that it had acquired
Correspondent Services Clearing ("CSC"), an affiliate of UBS and vFinance
Investments' clearing firm at the time. The credit facility stayed with UBS
subsequent to the acquisition giving rise to potential breaches under such
credit facility as well as precluding the Company from drawing an additional
$1,500,000 there under. During March 2004, NFS agreed to directly pay down the
UBS credit facility in the amount of $1,500,000 pursuant to a guaranty Fidelity
Investments made to UBS as part of their original acquisition of the CSC
clearing division. As a result, the Company was relieved from $1,500,000 in debt
but no longer had the ability to obtain an additional $1,500,000 under the
credit facility or assert any claims against UBS or NFS regarding this
transaction and credit facility.
During March 2004, the Company entered into a clearing agreement with NFS. The
new clearing agreement required NFS to pay to vFinance, over a five year period
beginning January 2004, a monthly incentive bonus not to exceed $25,000 per
month up to $1,500,000, based on a formula that the Company believes is very
achievable. Accordingly, NFS has been paying $25,000 per month related to this
incentive calculation and such amount, $225,000 through September 30, 2004, has
been included in the attached statements of operations as "other brokerage
related income". The new clearing agreement also required NFS to provide the
Company with $200,000 to assist the company with transition costs related to the
conversion from CSC to NFS. This amount was paid to vFinance in March 2004 and
was included in the first quarter's statements of operations as a reduction to
clearing and transaction costs. In consideration for these incentives, NFS
required a termination fee of $1,700,000 should vFinance discontinue using NFS'
services. This fee is reduced, pro rata, annually over the five year term of the
agreement. The Company began clearing through NFS during May 2004.
9
7. SUBSEQUENT EVENTS
On November 2, 2004, the Company's wholly-owned subsidiary, vFinance Investments
Holdings, Inc. ("vFinance Investments"), completed its acquisition of certain
assets of Global Partners Securities, Inc. ("Global") and 100% of the issued and
outstanding equity securities of EquityStation, Inc. ("EquityStation"), all of
which were owned by Level2.com, Inc. ("Level2"), a subsidiary of Global. These
transactions are subject to the approval of the National Association of
Securities Dealers, Inc.
The assets acquired from Global included certain intellectual property, customer
accounts, computer equipment, and certain clearance and trading agreements
relating to emerging market debt trading, wholesale market-making in selected
equities for institutional clients, and direct-access equity trading. vFinance
Investments assumed no liabilities in connection with the acquisition of
Global's assets.
In accordance with the terms of the acquisition agreements, the Company
delivered into escrow 8,324,690 restricted shares (the "Shares") of the
Company's Common Stock, and warrants (the "Warrants") to purchase 3,299,728
shares of the Company's Common Stock at a price of $0.11 per share. All of the
shares of EquityStation were also delivered into escrow. As part of the
transaction, the Company also issued 150,000 restricted shares of the Company's
common stock to an advisor to Global and EquityStation. Subject to (a) any
indemnification claims under the acquisition agreements and (b) the financial
performance of EquityStation and the business of Global acquired by vFinance
Investments over the periods specified in the escrow agreement, all or a portion
of the Shares and the Warrants will be distributed to Global and Level2.
10
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, 2003 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. Such instruments are classified as
investments in trading securities on the balance sheet if still held at the
financial reporting date and 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, as their restrictions are removed, 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 warrants or other equity instruments are 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 and 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, 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.
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.
11
NET CAPITAL REQUIREMENT. As of September 30, 2004, the minimum amount of net
capital required to be maintained by vFinance Investments 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
September 30, 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.
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.
12
NINE MONTHS ENDED SEPTEMBER 30, 2004 COMPARED TO THE NINE MONTHS ENDED
SEPTEMBER 30, 2003
STATEMENTS OF OPERATIONS
Operating revenues were $18,587,245 for the nine months ended September 30, 2004
as compared to $16,909,752 for the nine months ended September 30, 2003, an
increase of $1,677,493 or 9.92%. The improvement in revenues was primarily due
to a 14% increase in Retail Brokerage revenues, classified as Commissions-agency
and Other brokerage related income, as well as a 6% increase in Trading Profits
revenues, partially offset by a 2% decrease in Investment Banking revenues,
classified as Success fees and Consulting and retainers. 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 in the first half of the year. During the current quarter, the
Company's results were unfavorably impacted by a worsening market environment.
Also during the current quarter, the Company's business was interrupted for
several days as a result of Hurricane Frances which effected the operations of
its South Florida headquarters.
Cost of revenues were $12,647,107 for the nine months ended September 30, 2004
as compared to $11,076,275 for the nine months ended September 30, 2003, an
increase of $1,570,832, or 14.18%. 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
$5,940,138 for the nine months ended September 30, 2004 as compared to
$5,833,477 for the nine months ended September 30, 2003, an increase of
$106,661. The corresponding gross margin was 32% for the nine months ended
September 30, 2004 as compared to 34% for the nine months ended September 30,
2003.
General and administrative expenses were $4,546,336 for the nine months ended
September 30, 2004 as compared to $4,948,422 for the nine months ended September
30, 2003, a decrease of $402,086, or 8.13%. As a percentage of revenues, general
and administrative expenses decreased to 24% at September 30, 2004 as compared
to 29% at September 30, 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 $139,231 for the nine months ended September 30, 2004 as
compared to $260,240 for the nine months ended September 30, 2003, a decrease of
$121,009, or 46.50%. 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 $85,567 for the nine months ended September 30,
2004 as compared to $85,971 for the nine months ended June 30, 2003, a decrease
of $404. The provision for bad debt primarily consists of 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 $327,811 for the nine months ended September 30, 2004 as
compared to $250,860 for the nine months ended September 30, 2003, an increase
of $76,951, or 30.67%. 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 $94,400 for the nine months ended September
30, 2004 as compared to $88,265 for the nine months ended September 30, 2003, an
increase of $6,135, or 6.95%. Although the Company has been growing, its
facilities were consolidated and its headcount was reduced. As a result, its
fixed asset requirements did not increase significantly and its depreciation and
amortization remained relatively constant.
The amount forgiven under forgivable loans was $63,750 for the nine months ended
September 30, 2004 as compared to $97,500 for the nine months ended September
30, 2003, a decrease of $33,750, or 34.62%. 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 $3,971 for the nine months ended September 30, 2004
as compared to $16,391 for the nine months ended September 30, 2003, a decrease
of $12,420, or 75.77%. This amount primarily represents the amortization of
13
deferred compensation to an outside consultant who was granted options from the
Company in return for his services in the third quarter of 2002. The amount of
deferred compensation related to that consultant was fully recognized as of
March 31, 2003. In addition, during January, 2003, the Company 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 $4,237,980 of unrestricted cash at September 30, 2004.
strategy and related financings.
Net cash provided by operating activities for the nine months ending September
30, 2004, was $600,960 as opposed to net cash provided by operating activities
of $1,397,614 for the nine months ending September 30, 2003. The decrease in
cash provided by operating activities was primarily attributable to a
significant improvement to the Company's net income which was more than offset
by a gain on forgiveness of debt as well as a significant decrease in accounts
payable and accrued liabilities coupled with an income tax benefit.
Net cash used in investing activities for the nine months ending September 30,
2004, was $168,628 as opposed to $18,210 for the nine months ending September
30, 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 however we are planning to continue to enhance our
computer systems to provide improved disaster recovery capabilities as well as
improved customer service.
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
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. 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 customers 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, USE OF PROCEEDS AND 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-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. 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. 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.
On November 2, 2004, the Company's wholly-owned subsidiary, vFinance Investments
Holdings, Inc ("vFinance Investments") completed its acquisition of certain
assets of Global Partners Securities, Inc. ("Global") and 100% of the issued and
outstanding equity securities of EquityStation, Inc. ("EquityStation"), all of
which were owned by Level2.com, Inc. ("Level2"). In consideration for the
acquisition of such assets, the Company delivered into escrow 8,324,690
restricted shares (the "Shares") of the Company's common stock and warrants (the
"Warrants") to purchase 3,299,728 shares of the Company's common stock at a
price of $0.11 per share. As part of the transaction, the Company also issued
150,000 restricted shares of the Company's common stock to an advisor to Global
and EquityStation. The issuance of the Shares, the Warrants and the shares of
common stock to Mr. Saunders is exempt from registration under Section 4 (2) of
the Securities Act of 1933, as amended (the "1933 Act") and Rule 506 of
Regulation D Promulgated under the 1933 Act. All of the purchasers of the
Company's securities are "accredited investors" as defined under Rule 501 of
Regulation D.
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.
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 November 15, 2004
---------------------- and President
Leonard J. Sokolow (Principal Executive Officer)
By: /s/ Mark Kacer Chief Financial Officer November 15, 2004
---------------------- and (Principal Financial
Mark Kacer and Accounting Officer)