UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
|X| SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD
ENDED MARCH 31, 2006
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD
FROM TO
Commission File Number: 0-6729
FIRST MONTAUK FINANCIAL CORP.
- --------------------------------------------------------------------------------
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
New Jersey 22-1737915
---------------------- ----------------------------------
(State of Incorporation) (I.R.S. Employer Identification No.)
Parkway 109 Office Center, 328 Newman Springs Road, Red Bank, New Jersey 07701
- --------------------------------------------------------------------------------
(Address of principal executive offices)(Zip Code)
(732) 842-4700
- --------------------------------------------------------------------------------
(Registrant's telephone number, including area code)
- --------------------------------------------------------------------------------
(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 Securities 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 the
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-2 of the Exchange Act). Yes |_| No |X|
Indicate by check mark whether the registrant is a shell company (as
defined in Rule 12b-2 of the Exchange Act). |_| Yes |X| No
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS
Indicate by check mark whether the registrant has filed all documents
and reports required to be filed by Sections 12, 13 or 15(d)of the Securities
Exchange Act of 1934 subsequent to the distribution of securities under a plan
confirmed by a court.
|_| Yes |_| No
APPLICABLE ONLY TO CORPORATE ISSUERS:
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date: 16,044,793 shares of Common
Stock were outstanding at May 15, 2006.
FIRST MONTAUK FINANCIAL CORP.
FORM 10-Q
MARCH 31, 2006
INDEX
Page
PART I. FINANCIAL INFORMATION:
Item 1. Financial Statements
Consolidated Statements of Financial Condition
as of March 31, 2006 (unaudited) and December 31, 2005 .................... F-1
Consolidated Statements of Operations for the Three Months
Ended March 31, 2006 (unaudited) and 2005 (unaudited)...................... F-2
Consolidated Statements of Changes in Stockholders' Equity
(Deficit) for the period from January 1, 2005 to March 31, 2006............ F-3-4
Consolidated Statements of Cash Flows for the
Three Months Ended March 31, 2006 (unaudited) and
2005 (unaudited) .......................................................... F-5
Notes to Consolidated Financial Statements ................................ 6-13
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations .............................. 14-19
Item 3. Risk Management ................................................... 19
Item 4. Controls and Procedures ........................................... 20
PART II. OTHER INFORMATION:
Item 1. Legal Proceedings ................................................ 21
Item 1A. Risk Factors....................................................... 21
Item 2. Unregistered Sales of Equity Securities ........................... 21
Item 3. Defaults Upon Senior Securities ................................... 22
Item 4. Submission of Matters to a Vote of Security Holders ............... 22
Item 5. Other Information .................................................... 22
Item 6. Exhibits ............................................................. 23
Signatures .................................................................... 24
Officers' Certifications ...................................................... 25-28
FIRST MONTAUK FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
March 31 December
2006 2005
(unaudited)
ASSETS
Cash and cash equivalents $ 530,980 $ 1,990,815
Due from clearing firm 5,541,334 4,756,646
Securities owned, at market value 648,195 303,612
Prepaid expenses 1,076,434 287,394
Employee and broker receivables - net of reserve for bad debt
of $979,361 and $1,085,135 respectively 267,642 309,199
Property and equipment - net 376,231 449,460
Other assets 625,848 622,804
---------------------- --------------------
Total assets $ 9,066,664 $ 8,719,930
====================== ====================
LIABILITIES AND STOCKHOLDERS' EQUITY
LIABILITIES
6% convertible debentures 1,220,000 1,250,000
Securities sold, not yet purchased, at market value 6,806 3,564
Commissions payable 2,438,518 2,027,379
Accounts payable 1,245,961 486,676
Accrued expenses 1,131,535 1,373,354
Income taxes payable 167 32,167
Capital leases payable 6,320 8,555
Note payable 527,234 200,000
Other liabilities 174,239 110,384
---------------------- --------------------
Total liabilities 6,750,780 5,492,079
---------------------- --------------------
Commitments and contingencies (See notes)
STOCKHOLDERS' EQUITY
Preferred stock, 3,929,898 shares authorized, $.10 par value,
no shares issued and outstanding -- --
Series A convertible preferred stock, 625,000 shares authorized, $.10 par value
305,369 shares issued and outstanding; liquidation preference $1,526,845 30,537 30,537
Series B convertible redeemable preferred stock, 445,102 shares authorized,
$.10 par value, 197,824 shares issued and outstanding, liquidation
preference: $1,000,000 19,782 19,782
Common stock, no par value, 60,000,000 and 30,000,000 shares authorized,
16,044,793 and 15,937,407 shares issued and outstanding, respectively 10,571,977 10,444,110
Additional paid-in capital 1,930,810 1,930,810
Accumulated deficit (9,895,773) (8,809,203)
Less: deferred compensation (341,449) (388,185)
---------------------- --------------------
Total stockholders' equity 2,315,884 3,227,851
---------------------- --------------------
Total liabilities and stockholders' equity $ 9,066,664 $ 8,719,930
====================== ====================
See notes to consolidated financial statements.
F-1
FIRST MONTAUK FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Three months ended March 31,
2006 2005
(unaudited) (unaudited and
restated)
Revenues:
Commissions $ 10,522,765 $ 9,942,163
Principal transactions 1,364,554 1,702,757
Investment banking 745,561 2,898,712
Interest and other income 679,142 1,022,013
----------------------- -----------------------
Total revenue 13,312,022 15,565,645
----------------------- -----------------------
Expenses:
Commissions, employee compensation and benefits 11,138,524 12,933,970
Executive separation 951,366 1,432,937
Clearing and floor brokerage 639,914 421,037
Communications and occupancy 544,708 601,047
Legal matters and related costs 198,503 242,267
Other operating expenses 827,989 779,599
Interest 33,951 42,204
----------------------- -----------------------
Total expenses 14,334,955 16,453,061
----------------------- -----------------------
Loss before income taxes (1,022,933) (887,416)
Provision (benefit) for income taxes 20,861 (176,731)
----------------------- -----------------------
Net loss $ (1,043,794) $ (710,685)
Preferred stock dividends (42,776) (34,458)
----------------------- -----------------------
Net loss applicable to common stockholders $ (1,086,570) $ (745,143)
======================= =======================
Loss per share:
Basic and diluted $ (0.07) $ (0.06)
Weighted average number of shares of stock outstanding:
Basic and diluted 15,335,937 12,380,852
See notes to consolidated financial statements.
F-2
FIRST MONTAUK FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT)
FOR THE PERIOD FROM JANUARY 1, 2005 TO MARCH 31, 2006
Series A Convertible Series B Convertible
Preferred Stock Preferred Stock Common Stock
-------------------------------------------- ------------------------- Additional
Shares Amount Shares Amount Shares Amount Paid-in Capital
-------------------------------------------- ------------------------- ----------------
Balances at January 1, 2005 305,369 $30,537 - $ - 10,258,509 $ 7,257,292 $ 950,592
Increase in deferred compensation 154,464
Amortization of deferred compensation
Common stock issued in connection
with legal settlements 25,000 25,000
Issuance of restricted stock in connection
with employment agreements 1,300,000 741,000
Issuance of preferred stock in connection
with separation agreement 197,824 19,782 980,218
Exercise of incentive stock options 560,998 343,071
Exercise of warrants 262,900 158,283
Conversion of bonds into common stock 3,530,000 1,765,000
Payment of preferred stock dividends
Net income for the period
---------------------- --------------------- ------------------------- -------------
Balances at December 31, 2005 305,369 30,537 197,824 19,782 15,937,407 10,444,110 1,930,810
Increase in deferred compensation 89,263
Amortization of deferred compensation
Exercise of incentive stock options 19,800 8,604
Cashless exercise of incentive stock options 27,586
Conversion of bonds into common stock 60,000 30,000
Payment of preferred stock dividends
Net income for the period
---------------------- --------------------- ------------------------- -------------
Balances at March 31, 2006 (unaudited) 305,369 $30,537 197,824 $19,782 16,044,793 $10,571,977 $ 1,930,810
====================== ===================== ========================= =============
See notes to consolidated financial statements.
F-3
FIRST MONTAUK FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT)
FOR THE PERIOD FROM JANUARY 1, 2005 TO MARCH 31, 2006
Retained
Earnings Stockholders'
(Accumulated Deferred Treasury Stock Equity
-----------------------------
Deficit) Compensation Shares Amount (Deficit)
---------------- ---------------------------------------------- ---------------
Balances at January 1, 2005 $ (10,948,157) (388,881) (3,098,617)
Increase in deferred compensation (154,464) -
Amortization of deferred compensation 896,160 896,160
Common stock issued in connection
with legal settlements 25,000
Issuance of restricted stock in connection
with employment agreements (741,000) -
Issuance of preferred stock in connection
with separation agreement 1,000,000
Exercise of incentive stock options 343,071
Exercise of warrants 158,283
Conversion of bonds into common stock 1,765,000
Payment of preferred stock dividends (285,340) (285,340)
Net income for the period 2,424,294 2,424,294
---------------- --------------- ----------------------------- ---------------
Balances at December 31, 2005 (8,809,203) (388,185) 3,227,851
Increase in deferred compensation (89,263) -
Amortization of deferred compensation 135,999 135,999
Cashless exercise
Exercise of incentive stock options 8,604
Cashless exercise of incentive stock options -
Conversion of bonds into common stock 30,000
Payment of preferred stock dividends (42,776) (42,776)
Net income for the period (1,043,794) (1,043,794)
---------------- --------------- ----------------------------- ---------------
Balances at March 31, 2006 (unaudited) $ (9,895,773) $ (341,449) $ 2,315,884
================ =============== ============================= ===============
See notes to consolidated financial statements.
F-4
FIRST MONTAUK FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Three months ended March 31,
--------------------------------------------
2006 2005
(unaudited) (unaudited and
restated)
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $ (1,043,794) $ (710,685)
Adjustments to reconcile net income to net cash (used in)
provided by operating activities:
Depreciation and amortization of property and equipment 78,536 111,165
Amortization of deferred costs 142,351 472,261
Amortization of deferred income -- (218,752)
Deferred income taxes - net -- (188,501)
Preferred shares issued in connection with separation agreement 1,000,000
Note payable issued in connection with separation agreement 327,234 200,000
Increase (decrease) in cash attributable to changes in assets
and liabilities:
Due from clearing firm (784,688) 985,529
Securities owned (344,583) (884,668)
Prepaid expenses (789,040) (944,305)
Employee and broker receivables 41,557 72,407
Income taxes receivable - 2,625
Other assets (9,396) (121,464)
Securities sold, not yet purchased 3,242 (162,076)
Commissions payable 411,139 270,400
Accounts payable 759,285 729,548
Accrued expenses (241,819) 146,956
Income taxes payable (32,000) 5,490
Other liabilities 63,855 46,940
------------------- ---------------------
NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES (1,418,121) 812,870
------------------- ---------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to property and equipment (5,307) (13,487)
------------------- ---------------------
NET CASH USED IN INVESTING ACTIVITIES (5,307) (13,487)
------------------- ---------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payment of capital lease (2,235) (29,116)
Proceeds from exercise of incentive stock option 8,604 142,192
Payment of preferred stock dividends (42,776) --
------------------- ---------------------
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES (36,407) 113,076
------------------- ---------------------
Net increase (decrease) in cash and cash equivalents (1,459,835) 912,459
Cash and cash equivalents at beginning of period 1,990,815 1,034,681
------------------- ---------------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 530,980 $ 1,947,140
=================== =====================
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest $ 27,060 $ 82,150
=================== =====================
Income taxes $ 61,308 $ 3,655
=================== =====================
Noncash financing activity:
Proceeds from exercise of warrants -- $ 8,476
6% convertible debentures converted into common stock $ 30,000 $ 1,755,000
See notes to consolidated financial statements.
F-5
FIRST MONTAUK FINANCIAL CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - BASIS OF PRESENTATION
The interim financial information as of March 31, 2006 and for
the three-month period ended March 31, 2006 and 2005 has been
prepared without audit, pursuant to the rules and regulations
of the Securities and Exchange Commission (the "SEC"). Certain
information and footnote disclosures normally included in
financial statements prepared in accordance with generally
accepted accounting principles have been condensed or omitted
pursuant to such rules and regulations, although management
believes that the disclosures made are adequate to provide for
fair presentation. These Consolidated Financial Statements
should be read in conjunction with the Consolidated Financial
Statements and the notes thereto, included in the Company's
Annual Report on Form 10-K for the fiscal year ended December
31, 2005, previously filed with the SEC.
In the opinion of management, all adjustments (which include
normal recurring adjustments) necessary to present a fair
statement of financial position as of March 31, 2006, and
results of operations and cash flows for the three months
ended March 31, 2006 and 2005, as applicable, have been made.
The results of operations for the three months ended March 31,
2006 are not necessarily indicative of the operating results
for the full fiscal year or any future periods.
Subsequent to the issuance of the Company's unaudited
financial statements in its Form 10-Q for the three months
ended March 31, 2005, the Company concluded that it did not
properly account for the issuance of its restricted stock
awards to certain senior executives in February 2005.
Therefore, the Company amended its March 31,2005 Form 10-Q to
correct the amounts previously reported for amortization of
deferred compensation which is included in the Consolidated
Statements of Income as part of "Commissions, Employee
Compensation and Benefits".
NOTE 2 - STOCK-BASED COMPENSATION
The Company periodically issues common stock to employees,
non-employee consultants and non-employee independent
registered representatives in accordance with the provisions
of the following shareholder approved equity compensation
plans ("the Plans"):
2002 Stock Incentive Plan
The 2002 Incentive Stock Option Plan, which replaced the 1992
Incentive Stock Option Plan that expired in September 2002,
has reserved up to 5,000,000 shares of common stock for
issuance to employees, non-employee consultants and
non-employee registered representatives of the Company. Only
options issued to employees qualify for incentive stock option
treatment ("ISOs"). The Board of Directors determines the
terms and provisions of each award granted under the 2002
Plan, including the exercise price, term and vesting schedule.
In the case of ISO's, the per share exercise price must be
equal to at least 100% of the fair market value of a share of
common stock on the date of grant, and no individual will be
granted ISOs corresponding to shares with an aggregate fair
value in excess of $100,000 in any calendar year.
2002 Non-Executive Director Stock Option Plan
Under the 2002 Director Plan, which replaced the 1992
Non-Executive Director Stock Option Plan that expired in
September 2002, each non-executive director will automatically
be granted an option to purchase 20,000 shares, pro rata, on
September 1st of each year or partial year of service. The
2002 Director Plan does not contain a reserve for a specific
number of shares available for grant. Each option issued under
the 2002 Director Plan will be immediately vested
non-qualified stock options, and will have a five-year term
and an exercise price equal to the 100% of the fair market
value of the shares subject to such option on the date of
grant. The 2002 Director Plan will terminate in 2012.
6
1996 Senior Management Plan
In June 2000, the Company's stockholders approved an amendment
to the 1996 Senior Management Plan (the "1996 Plan") to
increase the number of shares reserved for issuance to key
management employees from 2,000,000 to 4,000,000 shares.
Awards can be granted through the issuance of incentive stock
rights, stock options, stock appreciation rights, limited
stock appreciation rights, and shares of restricted common
stock. The exercise price of an option designated as an ISO
may in no event be less than 100% of the then fair market
price of the stock (110% with respect to ten percent
stockholders), and not less than 85% of the fair market price
in the case of other options. The 1996 Plan will terminate in
June 2006.
The Plans provide for accelerated vesting if there is a change
in control.
Accounting for Employee Awards:
Effective January 1, 2006, the Plans are accounted for in
accordance with the recognition and measurement provisions of
Statement of Financial Accounting Standards No. 123 (revised
2004), Share-Based Payment ("FAS 123(R)"), which replaces SFAS
No. 123, Accounting for Stock-Based Compensation ("FAS 123"),
and supersedes Accounting Principles Board Opinion No. 25
("APB 25"), Accounting for Stock Issued to Employees, and
related interpretations. FAS123 (R) requires compensation
costs related to share-based payment transactions, including
employee stock options, to be recognized in the financial
statements. In addition, the Company adheres to the guidance
set forth within Securities and Exchange Commission ("SEC")
Staff Accounting Bulletin No. 107, which provides the Staff's
views regarding the interaction between FAS 123(R) and certain
SEC rules and regulations and provides interpretations with
respect to the valuation of share-based payments for public
companies.
Prior to January 1, 2006, the Company accounted for similar
employee transactions in accordance with APB 25 which employed
the intrinsic value method of measuring compensation cost.
Accordingly, compensation expense was not recognized for
employee fixed stock options if the exercise price of the
option equaled or exceeded the fair value of the underlying
stock at the grant date. While FAS 123, for employee options,
encouraged recognition of the fair value of all stock-based
awards on the date of grant as expense over the vesting
period, companies were permitted to continue to apply the
intrinsic value-based method of accounting prescribed by APB
25 and disclose certain pro-forma amounts as if the fair value
approach of FAS 123 had been applied. In December 2002, FAS
No. 148, Accounting for Stock-Based Compensation-Transition
and Disclosure, an amendment of FAS 123, was issued, which, in
addition to providing alternative methods of transition for a
voluntary change to the fair value method of accounting for
stock-based employee compensation, required more prominent
pro-forma disclosures in both the annual and interim financial
statements. The Company complied with these disclosure
requirements for all applicable periods prior to January 1,
2006.
In adopting FAS 123(R), the Company applied the modified
prospective approach to transition. Under the modified
prospective approach, the provisions of FAS 123 (R) are to be
applied to new employee awards and to employee awards
modified, repurchased, or cancelled after the required
effective date. Additionally, compensation cost for the
portion of employee awards for which the requisite service has
not been rendered that are outstanding as of the required
effective date shall be recognized as the requisite service is
rendered on or after the required effective date. The
compensation cost for that portion of employee awards shall be
based on the grant-date fair value of those awards as
calculated for either recognition or pro-forma disclosures
under FAS 123.
As a result of the adoption of FAS 123 (R), the Company's
results for the three month period ended March 31, 2006
include share-based compensation expense for employee options
and shares totaling approximately $136,000. Such amounts have
been included in the Consolidated Statements of Operations
7
within commissions, employee compensation and benefits. No
income tax benefit has been recognized in the income statement
for share-based compensation arrangements as the Company has
provided for 100% valuation allowance on net deferred tax
assets. Stock compensation expense for employee options and
shares recorded under APB 25 in the Consolidated Statements of
Operations for the three months ended March 31, 2005 totaled
$456,000.
Employee stock option compensation expense in 2006 is the
estimated fair value of options granted amortized on a
straight-line basis over the requisite service period for
entire portion of the award. The Company has not adjusted the
expense by estimated forfeitures, as required by FAS 123(R)
for employee options, since the forfeiture rate based upon
historical data was determined to be immaterial.
Accounting for Non-employee Awards:
The Company previously accounted for options granted to its
non-employee consultants and non-employee registered
representatives using the fair value cost in accordance with
FAS 123 and EITF No. 96-18. The adoption of FAS 123(R) and SAB
107 as of January 1, 2006, had no material impact on the
accounting for non-employee awards. The Company continues to
consider the additional guidance set forth in EITF Issue No.
96-18 ("EITF 96-18"), "Accounting for Equity Instruments That
Are Issued to Other Than Employees".
Stock compensation expense related to non-employee options was
$31,000 and $38,000 for the three month periods ended March
31, 2006 and 2005, respectively. These amounts are included in
Consolidated Statements of Operations within commissions,
employee compensation and benefits.
The weighted average estimated fair value of all stock options
granted in the three months ended March 31, 2006 and 2005 was
$0.59 and $0.48, respectively. The fair value of options at
the date of grant was estimated using the Black-Scholes option
pricing model. During 2006, the Company took into
consideration guidance under FAS 123R and SEC Staff Accounting
Bulletin No. 107 ("SAB 107") when reviewing and updating
assumptions. The expected volatility is based upon historical
volatility of our stock and other contributing factors. The
expected term is based upon observation of actual time elapsed
between date of grant and exercise of options for all
employees. Previously such assumptions were determined based
on historical data.
The assumptions made in calculating the fair values of all
options are as follows:
Three Months Ended
March 31, 2006 March 31, 2005
-------------- --------------
Expected volatility 68% 103%
Expected dividend yield 0% 0%
Risk-free interest rate 3.71%-4.82%% 3.47%-4.18%
Expected term (in years) 0-5 years 0-5 years
8
In the fourth quarter of 2005, the Company changed the basis
for estimating the volatility component of the Black Scholes
model. Previously the Company used historical daily price
observations of its stock as a basis for determining expected
volatility. The Company determined that monthly price
observations provide a more reliable measure of its stock
trading activity and resulting volatility estimate. This
change is considered a change in estimate and is accounted for
prospectively to new grants.
Pro Forma Information under SFAS No. 123 for Periods Prior to
Adoption of FAS 123 (R):
The following table illustrates the effect on the net loss and
loss per share as if the fair value recognition provisions of
FAS 123 had been applied to all outstanding and unvested
employee awards in the prior year comparable period.
For the three months
ended March 31, 2005
--------------------
Net loss attributable to common stockholders,
as reported $( 745,143)
Add: Employee stock-based compensation included
in reported net loss --
Deduct: Employee stock based compensation
expense determined under the fair value based
method for all awards (no tax effect) ( 18,549)
-----------------
Pro forma net loss attributable to common
stockholders $( 763,692)
=================
Net loss per share:
Basic and diluted loss per share - as reported $( 0.06)
Basic and diluted loss per share - pro forma $( 0.06)
The following table represents all our stock options granted,
exercised, and forfeited during the first quarter of 2006.
Weighted
Weighted Average
Average Remaining
Number Exercise Price Contractual Aggregate
Stock Options of Shares per Share Term Intrinsic Value
------------- --------- -------------- ----------- ---------------
Outstanding at 2,707,302 $0.85
January 1, 2006
Granted 3,000 $1.04
Exercised 214,400 $0.73
Forfeited/expired 172,500 $1.53
Outstanding at March 2,323,402 $0.81 2.7 $241,275
31, 2006 ========= ==== === =======
Exercisable at March 1,729,436 $0.82 2.6 $156,258
31, 2006 ========= ==== === =======
The weighted-average grant date fair value of all share
options granted during the three months ended March 31, 2006
and 2005 was $0.59 and $0.48, respectively. The intrinsic
value of all stock options exercised during the first
quarters of 2006 and 2005 was $56,000 and $115,000,
respectively. Cash received from the exercise of all stock
options in the three months ended March 31, 2006 and 2005 was
$8,604 and $142,192, respectively.
9
The Company has issued nonvested shares (as the term is
defined in FAS 123 (R)) to its senior officers. The following
table summarizes the activity during the quarter ended March
31, 2006:
Weighted-Average
Nonvested Grant-Date Fair
Shares Shares Value
--------- ------ ----------------
Nonvested January 1, 2006 950,000 $0.41
Granted -- --
Vested (433,333) $0.40
Forfeited -- --
Nonvested March 31, 2006 516,667 $0.53
The total fair value of shares vested during the three months
ended March 31, 2006 and 2005, was $430,000 and $360,000,
respectively.
As of March 31, 2006, there was $341,000 of total unrecognized
compensation cost, net of estimated forfeitures, related to
all unvested stock options and shares, which is expected to be
recognized over a weighted average period of approximately 1.1
years.
NOTE 3 - ACCOUNTS PAYABLE
Accounts payable at March 31, 2006 includes an insurance
premium financing agreement with a current balance of
approximately $824,000, payable in eight remaining monthly
installments of approximately $105,000. All installments
include interest at the rate of 4.97% per annum.
NOTE 4 - 6% CONVERTIBLE DEBENTURES
During the quarter ended March 31, 2006, holders of $30,000
of the Company's 6% subordinated convertible debentures
presented their debentures to the Company for conversion. The
Company issued an additional 60,000 shares of common stock and
retired $30,000 of the debentures.
The debentures outstanding as of March 31, 2006 are
$1,220,000 and are due to mature in 2007 and 2008, as follows:
2007 - $455,000; 2008 - $765,000.
10
NOTE 5 - SEPARATION AGREEMENT
On February 1, 2006, the Company entered into a Separation
Agreement with Herbert Kurinsky, the Chairman of the Board of
Directors. Under the terms of the Separation Agreement, the
parties agreed to terminate the employment relationship and
the rights and obligations of the parties under the employment
agreement dated January 1, 2004. Mr. Kurinsky continues to
serve as Chairman of the Board of Directors. As a result of
the separation agreement, the Company expensed a total of
$951,366 which includes the following:
o A lump sum severance payment of $300,000.
o A promissory note in the principal amount of $550,217,
payable in monthly installments of $12,500 over a
period of 48 months and bearing interest at the rate of
4.5% per annum.
o Medical and dental benefits to Mr. Kurinsky and his wife
for a period of 48 months.
o Automobile allowance of $600 per month for a period of
36 months.
o The full vesting of all restricted stock in accordance
with his employment agreement.
In the event of a change of control in the ownership of the
Company, as defined in the Separation Agreement, (i) the total
remaining principal of the promissory note, and any accrued
but unpaid interest thereon, shall become immediately due and
payable; and (ii) the total remaining automobile allowance
payments required by the Separation Agreement shall accelerate
and be immediately due and payable. The Company and Mr.
Kurinsky have also exchanged mutual releases except to the
extent each has reserved their rights as provided in the
Separation Agreement.
NOTE 6 - NOTE PAYABLE
Pursuant to the Separation Agreement discussed above, a
promissory note was issued during the current quarter in the
amount of $550,217 (See Note 5).
NOTE 7 - LEGAL MATTERS
The Company is a respondent or co-respondent in various legal
proceedings, which are related to its securities business.
Management is contesting these claims and believes that there
are meritorious defenses in each case. However, litigation is
subject to many uncertainties, and some of these actions and
proceedings may result in an adverse judgment. Further, the
availability of insurance coverage is determined on a
case-by-case basis by the insurance carrier, and is limited to
the coverage limits within the policy for any individual claim
and in the aggregate. After considering all relevant facts,
available insurance coverage and consultation with litigation
counsel, management believes that significant judgments or
other unfavorable outcomes from pending litigation could have
a material adverse impact on the Company's consolidated
financial condition, results of operations, and cash flows in
any particular quarterly or annual period, or in the
aggregate, and could impair the Company's ability to meet the
statutory net capital requirements of its securities business.
11
The New Jersey Bureau of Securities is conducting an
investigation into First Montauk Securities Corp.'s sale of
certain high-yield bonds to the firm's clients from 1998 to
2001, and the subsequent resale of those securities to other
customers in 2001. The Company has recently begun settlement
discussions with the Bureau in an attempt to resolve the
matter. The final terms of the settlement are still being
negotiated but will likely include a monetary fine, the
disgorgement of markups on the sale of certain bonds and the
retention of a compliance consultant to review the firm's
procedures. The exact amount of civil penalty and disgorgement
as well as the precise language of the proposed consent order
are still being negotiated with the Bureau. The Company
believes that it has adequately reserved for the anticipated
financial impact of this matter in the financial statements.
As of March 31, 2006, the Company has accrued for potential
legal liabilities that are probable and can be reasonably
estimated based on a review of existing claims and
arbitrations. Management cannot give assurance that this
amount will be adequate to cover actual costs that may be
subsequently incurred. Further, it is not possible to predict
the outcome of other matters pending against the Company. All
such cases will continue to be vigorously defended.
NOTE 8 - LOSS PER SHARE
Basic loss per share for the three months ended March 31, 2006
and 2005 is based on the weighted average number of shares of
common stock outstanding.
The following table sets forth the weighted average number of
shares of common stock and dilutive securities outstanding
used in the computation of basic and diluted earnings per
share:
Three months ended March 31,
2006 2005
(Restated)
Numerator - basic and diluted:
Net loss $(1,043,794) $(710,685)
Deduct: Preferred stock dividends (42,776) (34,458)
-------- --------
Numerator for basic and diluted loss
per share $(1,086,570) $(745,143)
Denominator for basic and diluted
loss per share (weighted average) 15,335,937 12,380,852
The following securities have been excluded from the dilutive per share computation,
as they are antidilutive:
Three months ended
March 31,
2006 2005
---- ----
Stock options 2,323,402 2,520,832
Warrants 464,724 445,294
Convertible debentures 2,440,000 2,520,000
Convertible preferred stock 2,588,978 2,588,978
Nonvested employee stock 516,669 407,332
As required by FAS 128, "Earnings per Share", cumulative preferred stock dividends
for the quarter ended March 31, 2006 and 2005 were deducted from net loss to arrive at the
numerator for basic and diluted loss per share.
12
NOTE 9 - SUBSEQUENT EVENTS
Definitive Merger Agreement:
On May 8, 2006, the Company announced that it had entered into
a definitive merger agreement with an affiliate of Investment
Properties of America, LLC (IPofA), a privately owned,
diversified real estate investment and management company.
Pursuant to the merger agreement, each holder of the Company's
common stock will receive $1.00 per share in cash, each holder
of the Company's Series A Preferred Stock, which is
convertible into two shares of common stock, will be entitled
to receive $2.00 per Series A share in cash, and each holder
of the Company's Series B Preferred Stock, which is
convertible into ten shares of common stock, will be entitled
to receive $10.00 per Series B share in cash.
In addition, the purchaser has agreed to contribute at least
$3,000,000 of new equity capital to the surviving corporation
in the merger on or before the closing date. In conjunction
with the signing of the merger agreement, certain directors
and officers of the Company, who beneficially own
approximately 29.6% of the outstanding voting shares of the
Company, have entered into agreements with the purchaser to
vote their shares in favor of the merger.
A special committee of the Board of Directors of the Company
consisting of all independent directors received an opinion
from Capitalink, an independent investment banking firm, that
the merger consideration was fair from a financial point of
view to the Company's shareholders.
The definitive merger agreement is subject to, among other
conditions, compliance with state and federal securities laws
and regulations, and shareholder and regulatory approvals. The
transaction is expected to close by the end of the third
quarter of 2006. However, as a result of the foregoing
uncertainties, there can be no assurances that the transaction
will be completed.
13
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Factors Affecting "Forward-Looking Statements"
From time to time, we may publish "forward-looking statements" within
the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities and Exchange Act of 1934, as amended, or make oral
statements that constitute forward-looking statements. These forward-looking
statements may relate to such matters as anticipated financial performance,
future revenues or earnings, business prospects, projected ventures, new
products, anticipated market performance, and similar matters. The Private
Securities Litigation Reform Act of 1995 provides a safe harbor for
forward-looking statements. In order to comply with the terms of the safe
harbor, we caution readers that a variety of factors could cause our actual
results to differ materially from the anticipated results or other expectations
expressed in our forward-looking statements. These risks and uncertainties, many
of which are beyond our control, include, but are not limited to: (i)
transaction volume in the securities markets, (ii) the volatility of the
securities markets, (iii) fluctuations in interest rates, (iv) changes in
regulatory requirements which could affect the cost of doing business, (v)
fluctuations in currency rates, (vi) general economic conditions, both domestic
and international, (vii) changes in the rate of inflation and related impact on
securities markets, (viii) competition from existing financial institutions and
other new participants in the securities markets, (ix) legal developments
affecting the litigation experience of the securities industry, (x) the timely
completion of the acquisition of the Company by a private investor, and (xi)
changes in federal and state tax laws which could affect the popularity of
products sold by us. We do not undertake any obligation to publicly update or
revise any forward-looking statements. The reader is referred to our previous
filings with the Commission, including our Form 10-K for the year ended December
31, 2005.
Overview
We are a New Jersey-based financial services holding company whose
principal subsidiary, First Montauk Securities Corp., has operated as a full
service retail and institutional securities brokerage firm since 1987. Since
July 2000, First Montauk Securities Corp. has operated under the trade name
"Montauk Financial Group" and provides a broad range of securities brokerage and
investment services to a diverse retail and institutional clientele, as well as
corporate finance and investment banking services to corporations and
businesses. We also sell insurance products through our subsidiary, Montauk
Insurance Services, Inc.
Montauk Financial Group has approximately 285 registered
representatives and services over 50,000 retail and institutional customers,
which comprise over $3.2 billion in customer assets. With the exception of a
company leased branch office in New York City, all of our other 119 branch
office and satellite locations in 28 states are owned and operated by
affiliates; independent representatives who maintain all appropriate licenses
and are responsible for all office overhead and expenses. Montauk Financial
Group also employs registered representatives directly at its corporate
headquarters.
Montauk Financial Group is registered as a broker-dealer with the
Securities and Exchange Commission, the National Association of Securities
Dealers, the Municipal Securities Rule Making Board, the National Futures
Association, and the Securities Investor Protection Corporation and is licensed
to conduct its brokerage activities in all 50 states, the District of Columbia,
and the Commonwealth of Puerto Rico, and registered as an International
broker-dealer to conduct business with institutional clients in the province of
Ontario, Canada. Securities transactions are cleared through National Financial
Services LLC ("NFS") of Boston, MA, and Penson Financial Services Inc of Dallas,
TX, with various floor brokerage and specialist firms also providing execution
services. These arrangements provide Montauk Financial Group with back office
support and transaction processing services on all principal, national and
international securities exchanges, and access to many other financial services
and products which allows Montauk Financial Group to offer products and services
comparable to larger brokerage firms.
On February 1, 2006, we entered into a Separation Agreement
("Agreement") with our Chairman of the Board, which provides for the termination
of his employment as of that date. The Agreement provides for the Chairman to
remain as a director of the Company.
14
Pursuant to the terms of the Agreement, we paid the Chairman a cash
payment of $300,000 and issued a promissory note in the amount of $550,217 plus
interest at the rate of 4.5% per annum for 48 months. Furthermore, we will
continue to provide the Chairman and his wife with medical insurance coverage
for 48 months and an automobile allowance of $600 for 36 months, which resulted
in a charge to earnings of $64,691. In addition, the separation agreement
provided for the immediate vesting of all stock grants in accordance with his
employment agreement, which resulted in a charge of $36,458 to compensation
expense.
On May 8, 2006, we announced that we had entered into a definitive
merger agreement with an affiliate of Investment Properties of America, LLC
(IPofA), a privately owned, diversified real estate investment and management
company. Pursuant to the merger agreement, each holder of our common stock will
receive $1.00 per share in cash, each holder of our Series A Preferred Stock,
which is convertible into two shares of common stock, will be entitled to
receive $2.00 per Series A share in cash, and each holder of our Series B
Preferred Stock, which is convertible into ten shares of common stock, will be
entitled to receive $10.00 per Series B share in cash.
In addition, the purchaser has agreed to contribute at least $3,000,000
of new equity capital to the surviving corporation in the merger on or before
the closing date. In conjunction with the signing of the merger agreement,
certain of our directors and officers, who beneficially own approximately 29.6%
of our outstanding voting shares, have entered into agreements with the
purchaser to vote their shares in favor of the merger.
The definitive merger agreement is subject to, among other conditions,
compliance with state and federal securities laws and regulations, and
shareholder and regulatory approvals. The transaction is expected to close by
the end of the third quarter of 2006. However, as a result of the foregoing
uncertainties, there can be no assurances that the transaction will be
completed.
RESULTS OF OPERATIONS
Revenues by Source
The following provides a breakdown of total revenues by source for the
three-month periods ended March 31, 2006 and 2005 (in thousands of dollars).
Three Months Ended
------------------
March 31, 2006 March 31, 2005
------------------------------ ------------------------------
Amount % of Total Amount % of Total
Revenues Revenues
Commissions
Equities $ 6,335 48% $ 5,763 37%
Mutual Funds 1,601 12% 1,689 11%
Insurance 1,110 8% 1,245 8%
Alternative Products 564 4% 459 3%
Asset Management Fees 895 7% 777 5%
Fixed Income 18 <1% 9 <1%
-------------- --------------- -------------- ---------------
Total 10,523 79% 9,942 64%
Principal Transactions 1,364 10% 1,703 11%
Investment Banking 746 6% 2,899 19%
Interest and Other
Interest 576 4% 644 4%
Deferred revenue -- -- 219 1%
Other 103 1% 159 1%
-------------- --------------- -------------- ---------------
Total 679 5% 1,022 6%
-------------- --------------- -------------- ---------------
Total revenues $ 13,312 100% $ 15,566 100%
============== =============== ============== ===============
15
Three Months Ended March 31, 2006 Compared to Three Months Ended March 31, 2005
Overview
Revenues decreased $2.3 million, or 15%, for the three months ended
March 31, 2006 (the "2006 quarter"), to $13.3 million, compared to $15.6 million
for the three months ended March 31, 2005 (the "2005 quarter"). The decrease was
primarily attributable to a $2.2 million, or 74% reduction in investment banking
revenue. Principal transactions and interest and other income also decreased for
the 2006 quarter, by $339,000 and $343,000, respectively. These decreases were
partially offset by an increase in commission income of $581,000, or 6%, for the
2006 quarter. Expenses decreased $2.2 million, or 13%, from $16.5 million for
the 2005 quarter to $14.3 million for the 2006 quarter. Commission expense
decreased $1.4 million, or 13%, from $11.0 million for the 2005 quarter to $9.6
million for the 2006 quarter, as a result of an overall reduction in
commissionable revenues for the 2006 quarter. The net loss for the 2006 quarter
increased $333,000 to $1,044,000, from a net loss of $711,000 for the 2005
quarter. In 2006, the net loss was primarily attributable to a charge of
$951,000 to compensation expense in connection with a separation agreement with
one of our senior executives, in addition to legal and other fees of $156,000
incurred relating to the anticipated sale of our stock to a private investor. In
2005, earnings were reduced by $1,450,000 in connection with a separation
agreement with our former CEO. The net losses in both the 2006 and 2005 quarters
were negatively impacted by separation costs of approximately $951,000 and
$1,450,000, respectively. Net loss applicable to common stockholders for the
2006 quarter was approximately $1.1 million, or ($0.07) per basic and diluted
share, compared to a net loss applicable to common stockholders of approximately
$745,000, or ($0.06) per basic and diluted share for the 2005 quarter.
Commission Revenue
Commission revenue is comprised of equities, fixed income, mutual
funds, insurance, asset management fees and alternative products. Commission
revenue for the 2006 quarter was $10.5 million compared to $9.9 million for the
2005 quarter, primarily due to an increase in agency commissions of $581,000
during the 2006 quarter. Increases in asset management fees and alternative
investments of $118,000 and $105,000, respectively, were offset by decreases in
commissions generated on insurance and mutual fund products of $135,000 and
$88,000, respectively. The increase in agency commissions in the current quarter
is due to increased trading activity in equities associated with a marked
improvement in equity indices in the USA and overseas, as compared to the
comparable quarter in 2005.
Principal Transactions
Principal transactions, which include mark-ups/mark-downs on customer
transactions in which we act as principal, proprietary trading, and the sale of
fixed income securities, decreased $339,000, or 20%, from $1.7 million for the
2005 quarter to $1.4 million for the 2006 quarter. Revenues from fixed income
sources, which include municipal, government, corporate bonds and unit
investment trusts, accounted for the majority of the decrease during the 2006
quarter. The reduction in activity in fixed income securities is associated with
lower prices on domestic fixed income securities in the current quarter, due in
part to consistent increases in interest rates by the Federal Reserve starting
in 2005.
Investment Banking
Investment banking revenues for the 2006 quarter decreased $2.2 million
from $2.9 million in the 2005 quarter, to $746,000 in the 2006 quarter. This
category includes private offerings of securities in which we act as placement
agent and new issues of equity and preferred stock offerings in which we
participate as a selling group or syndicate member. The decrease reflects a
reduction in the number and size of private placement transactions during the
2006 quarter, as compared to the 2005 quarter.
Interest and Other Income
Interest and other income for the 2006 quarter totaled $679,000, as
compared to $1.02 million for the 2005 quarter, a decrease of $343,000. Interest
income for the current quarter decreased by $68,000, primarily due to a
reduction in customer money market and margin debit account balances. Other
income decreased $275,000 in the 2006 quarter, compared to the 2005 quarter. In
the 2005 quarter we recognized deferred income of $219,000 from cash advances
received in previous years from our former clearing firm, Fiserv. The remaining
unamortized cash advances of approximately $4.9.million received from Fiserv
were recognized in full during 2005 due to the termination of the financing
agreement with Fiserv, resulting in no deferred income recorded during the 2006
quarter.
Commissions, Employee Compensation and Benefits
Commission expense, consistently the largest expense category and
directly related to commission revenue, decreased 13%, or 1.4 million, from
$11.0 million for the 2005 quarter, to $9.6 million for the 2006 quarter.
Commissions as a percentage of commissionable revenues remained constant, at
16
approximately 76%, for the 2006 and 2005 quarters. Compensation and benefits
expense for management, operations and clerical personnel decreased for the 2006
quarter, to $1.6 million (12% of total revenues) from $2.0 million (13% of total
revenues), a reduction of approximately $400,000 over the 2005 quarter. Included
in this category are salaries, stock and option compensation, health insurance
premiums, payroll taxes and bonus accruals. Salaries and related payroll taxes
decreased by approximately $84,000, from $1.45 million for the 2005 quarter to
$1.37 million for the 2006 quarter. The decrease for the 2006 quarter was
primarily attributable to the reduction in officers and other administrative
salaries during 2005 and early 2006. Stock and option compensation costs
decreased approximately $260,000 for the 2006 quarter as compared to the 2005
quarter. The net cost of health insurance premiums for the 2006 quarter
decreased by $17,000 compared to the 2005 quarter mostly due to the reduction in
the workforce.
Executive Separation
Executive separation costs decreased $482,000 for the 2006 quarter when
compared with the 2005 quarter. This decrease represents the difference in the
costs associated with the individual separation agreements with two former
senior executives.
Clearing and Floor Brokerage
Clearing and floor brokerage costs which are determined by the volume
and type of transactions, increased $219,000, to $640,000 for the 2006 quarter,
from $421,000 for the 2005 quarter. As a percentage of transaction based
revenues, clearing costs increased to 6.6% for the 2006 quarter, from 4.8% for
the 2005 quarter. The increase for the 2006 quarter is primarily due to the
change in the type and volume of transactions, as well as the discontinuance of
the service credits provided by our prior clearing firm. Clearing costs, as a
percentage of gross revenues, fluctuate depending upon the product mix.
Communications and Occupancy
Communications and occupancy costs decreased $56,000, from $601,000 in
the 2005 quarter to $545,000 in the 2006 quarter due to reductions in occupancy
and related postage fees and quote services.
Legal matters and related costs
Legal matters and related settlement costs decreased $44,000, from
$242,000 for the 2005 quarter to $198,000 for the 2006 quarter. During the first
quarter of 2006, we expensed $61,000 for legal fees in connection with the
anticipated sale of our stock to a private investor. Excluding these fees, our
legal and settlement costs decreased 43% compared to the 2005 quarter, due to a
continuing decline in the number of customer complaints and arbitration claims
filed against us.
Other Operating Expenses
Other operating costs increased $48,000, or 6%, to $828,000 in the 2006
quarter. Included in operating costs during the 2006 quarter is $95,000 of
professional fees and directors fees for due diligence related costs incurred
due to the anticipated sale of our stock to a private investor.
Interest Expense
Interest expense for the 2006 quarter decreased 20% compared to the
2005 quarter. The $8,300 decrease is primarily due to the reduction in our
outstanding 6% convertible debentures in 2006 compared to 2005, resulting in
less interest being paid.
Tax Expense
The Company recorded a provision for state taxes of $21,000 during the
2006 quarter compared to a net benefit of $177,000 recorded in 2005. In the
first quarter of 2005, the Company projected taxable income for the year, and
recorded a deferred tax asset for the utilization of net operating loss
carryforwards and the realization of other tax benefits.
Liquidity and Capital Resources
We maintain a highly liquid balance sheet with approximately 74% of our
assets consisting of cash, securities owned, and receivables from our clearing
firm and other broker-dealers and insurance companies. The balances in these
accounts can and do fluctuate significantly from day to day, depending on
general economic and market conditions, volume of activity, and investment
opportunities. These accounts are monitored on a daily basis in order to ensure
compliance with regulatory capital requirements and to preserve liquidity.
17
Overall, cash and cash equivalents decreased during the 2006 quarter by
$1,460,000. Net cash used in operating activities during the quarter was
$1,418,000, which consists of a net loss of $1,044,000, increased by non-cash
charges including depreciation and amortization of $221,000 and a note payable
of $327,000 issued in connection with a separation agreement in February 2006.
Cash was reduced by increases in due from clearing firm, securities owned and
prepaid expenses of $785,000, $345,000 and $789,000, respectively, and decreases
in accrued expense and income taxes payable of $242,000 and $32,000,
respectively. Cash was provided by increases in commissions payable of $411,000,
accounts payable of $759,000, and other liabilities of $64,000.
Additions to property and equipment of $5,000 accounted for the use of
cash from investing activities during the 2006 quarter.
Financing activities used net cash of $36,000 due to the payment of
preferred stock dividends of $43,000 and capital leases of $2,000 offset by
proceeds from option exercises of $9,000 during the quarter.
In the first quarter of 2006, holders of $30,000 of convertible
debentures that were sold through private offerings in 2002 and 2003 converted
their debentures into shares of our common stock in accordance with the terms of
the debentures. As a result, we have issued 60,000 shares of our common stock
during the current quarter. As of March 31, 2006 there is an aggregate principal
amount of $1,220,000 of debentures outstanding convertible at $.50 per common
share.
The financing agreement with Premium Assignment for the renewal of our
errors and omissions insurance policy had a balance at March 31, 2006 of
approximately $824,000, payable in eight remaining monthly installments of
approximately $105,000 each. All installments include interest at the rate of
4.97% per annum.
Consolidated Contractual Obligations and Lease Commitments
The table below provides information about our commitments related
to debt obligations, leases, guarantees and investments as of March 31, 2006.
This table does not include any projected payment amounts related to our
potential exposure to arbitrations and other legal matters.
As of March 31, 2006 Expected Maturity Date
- ------------------------- -------------------- --------------- ----------------- -------------- -------------- --------- -----------
After
Category 2006 2007 2008 2009 2010 2010 Total
- ------------------------- -------------------- --------------- ----------------- -------------- -------------- --------- -----------
Debt Obligations 0 $455,000 $765,000 0 0 0 $1,220,000
- ------------------------- -------------------- --------------- ----------------- -------------- -------------- --------- -----------
Capital Lease $6,320 0
Obligations 0 0 0 $6,320
- ------------------------- -------------------- --------------- ----------------- -------------- -------------- --------- -----------
Operating Lease
Obligations $857,249 $848,823 $647,657 $619,376 $50,762 0 $3,023,867
- ------------------------- -------------------- --------------- ----------------- -------------- -------------- --------- -----------
$96,139 $133,328 $139,453 $145,860 $12,454 0 $527,234
Note Payable
- ------------------------- -------------------- --------------- ----------------- -------------- -------------- --------- -----------
Other Long-Term
Obligations Reflected
on Balance Sheet under
GAAP $57,847(1) 0 0 0 0 0 $57,847(1)
- ------------------------- -------------------- --------------- ----------------- -------------- -------------- --------- -----------
Total $1,017,555 $1,437,151 $1,552,110 $765,236 $63,216 $4,835,268
0
- ------------------------ -------------------- --------------- ----------------- -------------- -------------- --------- -----------
(1) Expected payment obligations embodied in warrants subject to put options.
18
Net Capital
At March 31, 2006, Montauk Financial Group had net capital of
$2,170,381, which was $1,886,421 in excess of its required net capital of
$283,960, and the ratio of aggregate indebtedness to net capital was 1.96 to 1.
Series A Convertible Preferred Stock
In 1999, we issued 349,511 shares of Series A Convertible Preferred
Stock in an exchange offering related to a settlement with holders of certain
leases. Each share of the Preferred Stock is convertible into two shares of
Common Stock and pays a quarterly dividend of 6%. Quarterly dividends of $22,776
were paid during the first quarter of 2006.
As of March 31, 2006, we have 305,369 Series A Preferred shares issued
and outstanding.
Series B Convertible Redeemable Preferred Stock
In connection with a Separation Agreement we entered into with Mr.
William J. Kurinsky in 2005, we issued an aggregate of 197,824 shares of a newly
created class of Series B Convertible Redeemable Preferred Stock ("Series B"),
par value $0.10 per share, which will have a deemed issue price of $1,000,000,
and is convertible into common stock on the basis of ten shares of common stock
for each share of Series B. The Series B also provides that the preferred shares
have voting rights based upon the number of shares of common stock into which it
would be converted. The Series B also includes a cumulative dividend of 8% per
year. The shares are restricted securities under the Securities Act of 1933 and
the regulations of the SEC and we relied upon the exemption from registration
under Section 4(2) of the Securities Act of 1933 to issue the shares of Series
B. A quarterly dividend of $20,000 was paid during the first quarter of 2006.
Application of Critical Accounting Policies
Generally accepted accounting principles are complex and require
management to apply significant judgments to various accounting, reporting and
disclosure matters. Our management must use assumptions and estimates to apply
these principles where actual measurement is not possible or practical.
For a complete discussion of our significant accounting policies, see
"Management Discussion and Analysis" and "Notes to the Consolidated Financial
Statements" in our 2005 Annual Report filed on Form 10-K. Certain policies are
considered critical because they are highly dependent upon subjective or complex
judgments, assumptions and estimates. Changes in such estimates may have a
significant impact on the financial statements.
Off-Balance Sheet Arrangements
We execute securities transactions on behalf of our customers. If
either the customer or counter-party fails to perform, we, by agreement with our
clearing broker may be required to discharge the obligations of the
non-performing party. In such circumstances, we may sustain a loss if the market
value of the security is different from the contract value of the transaction.
We seek to control off-balance-sheet risk by monitoring the market value of
securities held or given as collateral in compliance with regulatory and
internal guidelines. Pursuant to such guidelines, our clearing firm requires
additional collateral or reduction of positions, when necessary. We also
complete credit evaluations where there is thought to be credit risk.
Item 3. Risk Management
Risk is an inherent part of our business and activities. The extent to
which we properly and effectively identify, assess, monitor and manage the
various types of risk involved in our activities is critical to our soundness
and profitability. We seek to identify, assess, monitor and manage the following
principal risks involved in its business activities: market, credit, operational
and legal. Senior management takes an active role in the risk management process
and requires specific administrative and business functions to assist in the
identification, assessment and control of various risks. Our risk management
policies and procedures are subject to ongoing review and modification.
19
Market Risk. Certain of our business activities expose us to market risk. This
market risk represents the potential for loss that may result from a change in
value of a financial instrument as a result of fluctuations in interest rates,
equity prices or changes in credit rating of issuers of debt securities. This
risk relates to financial instruments we hold as investment and for trading.
Securities inventories are exposed to risk of loss in the event of unfavorable
price movements. Securities positions are marked to market on a daily basis.
Market-making activities are client-driven, with the objective of meeting
clients' needs while earning a positive spread. At March 31, 2006 and December
31, 2005, the balances of our securities positions owned, and sold, not yet
purchased were approximately $648,000 and $7,000, and $304,000 and $4,000,
respectively. In our view, the potential exposure to market risk, trading
volatility and the liquidity of securities held in the firm's inventory accounts
could potentially have a material effect on its financial position.
Credit Risk. Credit risk represents the loss that we would incur if a client,
counterparty or issuer of securities or other instruments that we hold fails to
perform its contractual obligations. Client activities involve the execution,
settlement, and financial of various transactions on behalf of its clients.
Client activities are transacted on either a cash or margin basis. Client
activities may expose us to off-balance sheet credit risk. We may have to
purchase or sell financial instruments at the prevailing market price in the
event of the failure of a client to settle a trade on its original terms or in
the event that cash and securities in the client margin accounts are not
sufficient to fully cover the client losses. We seek to control the risks
associated with client activities by requiring clients to maintain collateral in
compliance with various regulations and company policies.
Operational Risk. Operational risk generally refers to the risk of loss
resulting from our operations, including, but not limited to, improper or
unauthorized execution and processing of transactions, deficiencies in our
operating systems, business disruptions and inadequacies or breaches in our
internal control processes. We operate in diverse markets and rely on the
ability of our employees and systems to process high numbers of transactions
often within short time frames. In the event of a breakdown or improper
operation of systems, human error or improper action by employees, we could
suffer financial loss, regulatory sanctions or damage to our reputation. In
order to mitigate and control operational risk, we have developed and continue
to enhance policies and procedures that are designed to identify and manage
operational risk at appropriate levels. Included in our operational risk
management practice is disaster recovery for our critical systems. We believe
that our disaster recovery program, including off-site back-up technology and
operational facilities, is adequate to handle a reasonable business disruption.
However, there can be no assurances that a disaster directly affecting our
headquarters or operations center would not have a material adverse impact.
Insurance and other safeguards might only partially reimburse us for our losses.
Legal Risk. Legal risk includes the risk of non-compliance with applicable legal
and regulatory requirements. We are subject to extensive regulation in the
different jurisdictions in which we conduct our business. We have various
procedures addressing issues such as regulatory capital requirements, sales and
trading practices, use of and safekeeping of customer funds, credit granting,
collection activities, anti money-laundering and record keeping.
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
As of the end of the period covered by this report, we evaluated, under
the supervision and with the participation of our management, including our
chief executive officer and the acting chief financial officer, the
effectiveness of the design and operation of our "disclosure controls and
procedures" (as defined in the Securities Exchange Act of 1934, Rules 13a -
15(e) and 15d - 15(e)). Based on this evaluation our management, including our
chief executive officer and acting chief financial officer, have concluded that
as of the date of the evaluation our disclosure controls and procedures were
effective to ensure that all material information required to be filed in this
report has been made known to them.
Changes in Internal Controls
There have not been any changes in our internal control over financial
reporting (as such term is defined in Rules 13a-15(f) and 15d-15(f) under the
Exchange Act) during the most recent fiscal quarter that have materially
affected, or are reasonably likely to materially affect, our internal control
over financial reporting.
20
PART II
OTHER INFORMATION
Item 1. Legal proceedings
We are a respondent or co-respondent in various legal proceedings,
which are related to its securities business. Management is contesting these
claims and believes that there are meritorious defenses in each case. However,
litigation is subject to many uncertainties, and some of these actions and
proceedings may result in adverse judgments. Further, the availability of
insurance coverage is determined on a case-by-case basis by the insurance
carrier, and is limited to the coverage limits within the policy for any
individual claim and in the aggregate. After considering all relevant facts,
available insurance coverage and consultation with litigation counsel,
management believes that significant judgments or other unfavorable outcomes
from pending litigation could have a material adverse impact on our consolidated
financial condition, results of operations, and cash flows in any particular
quarterly or annual period, or in the aggregate, and could impair our ability to
meet the statutory net capital requirements of its securities business.
The New Jersey Bureau of Securities is conducting an investigation into
First Montauk Securities Corp.'s sale of certain high-yield bonds to the firm's
clients from 1998 to 2001, and the subsequent resale of those securities to
other customers in 2001. We have recently begun settlement discussions with the
Bureau in an attempt to resolve the matter. The final terms of the settlement
are still being negotiated but will likely include a monetary fine, the
disgorgement of markups on the sale of certain bonds and the retention of a
compliance consultant to review the firm's procedures. The exact amount of civil
penalty and disgorgement as well as the precise language of the proposed consent
order are still being negotiated with the Bureau. We believe that we have
adequately reserved for the anticipated financial impact of this matter in the
financial statements
A shareholder, BMAC Corp., has filed a report on Schedule 13D with the
Securities and Exchange Commission stating that it holds approximately 5.3% of
our outstanding shares as of January 13, 2006. In addition, a company named 360
Global Wine Co., Inc., filed a joint Schedule 13D with BMAC Corp. stating that
it intends to acquire the shares of our common stock held by BMAC Corp. as well
as those held by certain other individuals. Based on this filing, 360 Global
Wine stated that it believed it would acquire 2,986,188 shares or 18.7% of our
outstanding shares of common stock. As previously disclosed, we believe that the
original Schedule 13D filed by BMAC Corp. (and as amended up to an including the
January 2006 amendment) did not satisfy the federal securities regulations
related to the filing of Schedule 13D. Although no litigation has been
commenced, we have been advised that BMAC and/or 360 Global Wine intend to
undertake certain actions, which may include an attempt to change or influence
control over the company, including recommendation of management changes and
structure of the board of directors. In addition, certain former registered
representatives of Montauk Financial Group have contacted our management and
advised us that they represent BMAC Corp. and seek management changes in the
company. These former brokers have stated it is their intention to put
themselves in place as management of Montauk Financial Group. We are aware that
many of the clients of these former registered representatives held convertible
debentures that we had issued in a prior private placement and substantially all
of these debenture holders converted their debentures into our Common Stock at
the same time, including persons affiliated with BMAC Corp. We have advised the
SEC and NASD of our belief that the persons involved have not complied with
applicable law regarding Section 13D of the Securities and Exchange Act of 1934,
as well as other provisions of the Securities and Exchange Act of 1934 and SEC
regulations. We fully intend to seek all defenses available to us in this matter
and are reviewing all available legal options against these persons.
As of March 31, 2006, we have accrued for potential legal liabilities
that are probable and can be reasonably estimated based on a review of existing
claims and arbitrations. Management cannot give assurance that this amount will
be adequate to cover actual costs that may be subsequently incurred. Further, it
is not possible to predict the outcome of other matters pending against us. All
such cases will continue to be vigorously defended.
Item 1A. Risk Factors
Refer to December 31, 2005 form 10-K.
Item 2. Unregistered Sales of Equity Securities
(a) During the first quarter of 2006, we issued 60,000 common shares upon
conversion of $30,000 of convertible debentures. These shares of common stock
were issued in reliance upon Section 3(a)(9) of the Securities Act of 1933 and
are restricted and may therefore not be offered or sold other than pursuant to
an effective registration statement or in reliance upon an exemption to such
registration requirements.
(b) Not applicable.
(c) Not applicable.
21
Item 3. Defaults Upon Senior Securities.
None.
Item 4. Submission of Matters to a Vote of Security Holders.
Not applicable.
Item 5. Other Information
Recent Management Changes
On February 1, 2006, the Company entered into a Separation Agreement
with Mr. Herbert Kurinsky, its Chairman of the Board, which provided for the
termination of his employment as of that date. The Agreement provided for Mr.
Kurinsky to remain as a director of the Company.
Debenture Conversions
During the first quarter of 2006, holders of $30,000 of our 6%
subordinated convertible debentures converted into 60,000 shares of our common
stock in accordance with the debenture terms. As of the date of this report,
there is an aggregate principal amount of $1,220,000 of convertible debentures
outstanding convertible at $.50 per share.
Appointment of Director
On February 24, 2006, David I. Portman was reappointed to our Board of
Directors to fill a vacancy created by his resignation in December 2002.
Definitive Merger Agreement
On May 8, 2006, the Company announced that it had entered into a
definitive merger agreement with an affiliate of Investment Properties of
America, LLC (IPofA), a privately owned, diversified real estate investment and
management company. Pursuant to the merger agreement, each holder of the
Company's common stock will receive $1.00 per share in cash, each holder of the
Company's Series A Preferred Stock, which is convertible into two shares of
common stock, will be entitled to receive $2.00 per Series A share in cash, and
each holder of the Company's Series B Preferred Stock, which is convertible into
ten shares of common stock, will be entitled to receive $10.00 per Series B
share in cash.
In addition, the purchaser has agreed to contribute at least $3,000,000
of new equity capital to the surviving corporation in the merger on or before
the closing date. In conjunction with the signing of the merger agreement,
certain directors and officers of the Company, who beneficially own
approximately 29.6% of the outstanding voting shares of the Company, have
entered into agreements with the purchaser to vote their shares in favor of the
merger.
A special committee of the Board of Directors of the Company consisting
of all independent directors received an opinion from Capitalink, an independent
investment banking firm, that the merger consideration was fair from a financial
point of view to the Company's shareholders.
The definitive merger agreement is subject to, among other conditions,
compliance with state and federal securities laws and regulations, and
shareholder and regulatory approvals. The transaction is expected to close by
the end of the third quarter of 2006. However, as a result of the foregoing
uncertainties, there can be no assurances that the transaction will be
completed.
22
Item 6. Exhibits
Exhibits
The exhibits designated with an asterisk (*) are filed herewith. All other
exhibits have been previously filed with the Commission and, pursuant 17 C.F.R.
ss. 230.411, are incorporated by reference to the document referenced in
brackets following the description of such exhibits.
Number Description
2.1 Agreement and Plan of Merger dated as of May 5, 2006 by and among FMFG Ownership, Inc., FMFG
AcquisitionCo, Inc. and First Montauk Financial Corp. (Previously filed as Exhibit 10.1 to our
Current Report on Form 8-K dated May 9, 2006).
4.1 Promissory Note dated February 1, 2006 issued by the Registrant to Herbert Kurinsky (Previously
filed as Exhibit 4.1 to our Current Report on Form 8-K dated February 1, 2006).
10.1 Separation Agreement between the Registrant and Herbert Kurinsky dated February 1, 2006 (Previously
filed as Exhibit 10.1 to our Current Report on Form 8- dated February 1, 2006).
10.2 Voting Agreement dated as of May 5, 2006, among FMFG Ownership, Inc. and certain shareholders of
First Montauk Financial Corp. (Previously filed as Exhibit 10.2 to our Current Report on Form 8-K
dated May 9, 2006).
10.3 Escrow Deposit Agreement dated as of May 5, 2006, by and among FMFG Ownership, Inc., First Montauk
Financial Corp. and Signature Bank, as escrow agent (Previously filed as Exhibit 10.3 to our Current
Report on Form 8-K dated May 9, 2006).
*31.1 Certification of Victor K. Kurylak, Chief Executive Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
*31.2 Certification of Mindy A. Horowitz, Acting Chief Financial Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002
*32.1 Certification of Victor K. Kurylak, President and Chief Executive Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002
*32.2 Certification of Mindy A. Horowitz, Acting Chief Financial Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
23
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
FIRST MONTAUK FINANCIAL CORP.
(Registrant)
Dated: May 15, 2006 /s/ Mindy A. Horowitz
--------------------------------------------
Mindy A. Horowitz
Acting Chief Financial Officer
/s/ Victor K. Kurylak
--------------------------------------------
Victor K. Kurylak
President and Chief Executive Officer
24
Exhibit 31.1
CERTIFICATION
I, Victor K. Kurylak, Chief Executive Officer, certify that:
1. I have reviewed this quarterly report on Form 10-Q of First Montauk
Financial Corp.;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which
such statements were made, not misleading with respect to the period
covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material
respects the financial condition, results of operations and cash flows
of the registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officer and I am responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the
registrant and have:
a) designed such disclosure controls and procedures, or caused
such disclosure controls and procedures to be designed under
our supervision, to ensure that material information relating
to the registrant, including its consolidated subsidiaries, is
made known to us by others within those entities, particularly
during the period in which this report is being prepared;
b) (Not applicable).
c) Evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our
conclusions about the effectiveness of the disclosure controls
and procedures, as of the end of the period covered by this
report based on such evaluation; and
d) Disclosed in this report any change in the registrant's
internal control over financial reporting that occurred during
the registrant's most recent fiscal quarter (the registrant's
fourth fiscal quarter in the case of an annual report) that
has materially affected, or is reasonably likely to materially
affect, the registrant's internal control over financial
reporting; and
5. The registrant's other certifying officer(s) and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of the
registrant's board of directors (or persons performing the equivalent
functions):
a) all significant deficiencies and material weaknesses in the
design or operation of internal control over financial
reporting which are reasonably likely to adversely affect the
registrant's ability to record, process, summarize and report
financial information; and
b) any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal control over financial reporting.
Date: May 15, 2006
/s/ Victor K. Kurylak
- ----------------------------
VICTOR K. KURYLAK
CHIEF EXECUTIVE OFFICER
25
Exhibit 31.2
CERTIFICATION
I, Mindy A. Horowitz, Acting Chief Financial Officer, certify that:
1. I have reviewed this quarterly report on Form 10-Q of First Montauk
Financial Corp.;
2. Based on my knowledge, this report does not contain any untrue
statement of a material fact or omit to state a material fact necessary
to make the statements made, in light of the circumstances under which
such statements were made, not misleading with respect to the period
covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material
respects the financial condition, results of operations and cash flows
of the registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officer and I am responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the
registrant and have:
a) designed such disclosure controls and procedures, or caused
such disclosure controls and procedures to be designed under
our supervision, to ensure that material information relating
to the registrant, including its consolidated subsidiaries, is
made known to us by others within those entities, particularly
during the period in which this report is being prepared;
b) (Not applicable).
c) Evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our
conclusions about the effectiveness of the disclosure controls
and procedures, as of the end of the period covered by this
report based on such evaluation; and
d) Disclosed in this report any change in the registrant's
internal control over financial reporting that occurred during
the registrant's most recent fiscal quarter (the registrant's
fourth fiscal quarter in the case of an annual report) that
has materially affected, or is reasonably likely to materially
affect, the registrant's internal control over financial
reporting; and
5. The registrant's other certifying officer(s) and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the registrant's auditors and the audit committee of the
registrant's board of directors (or persons performing the equivalent
functions):
a) all significant deficiencies and material weaknesses in the
design or operation of internal control over financial
reporting which are reasonably likely to adversely affect the
registrant's ability to record, process, summarize and report
financial information; and
b) any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal control over financial reporting.
Date: May 15, 2006
/s/ Mindy A. Horowitz
- --------------------------------
MINDY A. HOROWITZ
ACTING CHIEF FINANCIAL OFFICER
26
Exhibit 32.1
CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of FIRST MONTAUK FINANCIAL
CORP. (the "Company") on Form 10-Q for the period ending March 31, 2006 as filed
with the Securities and Exchange Commission on the date hereof (the "Report"),
I, Victor K. Kurylak, President and Chief Executive Officer of the Company,
certify, pursuant to 18 U.S.C. section 1350, as adopted pursuant to Section 906
of the Sarbanes-Oxley Act of 2002, that:
(1) The Report fully complies with the requirements of
Section 13(a) or 15(d) of the Securities Exchange Act of 1934;
and
(2) The information contained in the Report fairly presents, in
all material respects, the financial condition and result of
operations of the Company.
/s/ Victor K. Kurylak
- -------------------------------------
Victor K. Kurylak
President and Chief Executive Officer
May 15, 2006
27
Exhibit 32.2
CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Quarterly Report of FIRST MONTAUK FINANCIAL
CORP. (the "Company") on Form 10-Q for the period ending March 31, 2006 as filed
with the Securities and Exchange Commission on the date hereof (the "Report"),
I, Mindy A. Horowitz, Acting Chief Financial Officer of the Company, certify,
pursuant to 18 U.S.C. section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002, that:
(1) The Report fully complies with the requirements of
Section 13(a) or 15(d) of the Securities Exchange Act of 1934;
and
(2) The information contained in the Report fairly presents, in
all material respects, the financial condition and result of
operations of the Company.
/s/ Mindy A. Horowitz
- --------------------------------
Mindy A. Horowitz
Acting Chief Financial Officer
May 15, 2006
28