================================================================================
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
placeCityWASHINGTON, StateD.C. PostalCode20549
FORM 10-Q
(Mark One)
QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY
|X| PERIOD ENDED JUNE 30, 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 |_| No |X|
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: 18,503,553 shares of Common
Stock were outstanding at August 14, 2006.
FIRST MONTAUK FINANCIAL CORP.
FORM 10-Q
JUNE 30, 2006
INDEX
Page
PART I. FINANCIAL INFORMATION:
Item 1. Financial Statements
Consolidated Statements of Financial Condition as of
June 30, 2006 (unaudited) and December 31, 2005 .............................................. F-1
Consolidated Statements of Operations for the Six Months and
Three Months Ended June 30, 2006 (unaudited) and 2005
(unaudited and restated) ..................................................................... F-2
Consolidated Statements of Changes in Stockholders' Equity (Deficit)
for the period from January 1, 2005 to June 30, 2006 ......................................... F-3 - F4
Consolidated Statements of Cash Flows for the Six Months Ended
June 30, 2006 (unaudited) and 2005 (unaudited and restated) .................................. F-5
Notes to Consolidated Financial Statements .................................................. 6-15
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations ................................................. 16-24
Item 3. Risk Management ....................................................................... 24-25
Item 4. Controls and Procedures ............................................................... 25
PART II. OTHER INFORMATION:
Item 1. Legal Proceedings .................................................................... 26
Item 1A. Risk Factors ........................................................................ 26
Item 2. Unregistered Sales of Equity Securities ............................................... 26
Item 3. Defaults Upon Senior Securities ....................................................... 26
Item 4. Submission of Matters to a Vote of Security Holders ................................... 27
Item 5. Other Information .................................................................... 27
Item 6. Exhibits .............................................................................. 28
Signatures ..................................................................................... 29
Officers' Certifications ..................................................................... 30-33
FIRST MONTAUK FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
June 30, December 31,
2006 2005
(unaudited)
ASSETS
Cash and cash equivalents $ 1,831,983 $ 1,990,815
Due from clearing firm 4,794,258 4,756,646
Securities owned, at market value 474,833 303,612
Prepaid expenses 971,761 287,394
Employee and broker receivables - net of reserve for bad debt
of $1,018,242 and $1,085,135 respectively 251,286 310,289
Property and equipment - net 303,507 449,460
Other assets 434,299 622,804
--------------------- -------------------
Total assets $ 9,061,927 $ 8,721,020
===================== ===================
LIABILITIES
6% convertible debentures 25,000 1,250,000
Securities sold, not yet purchased, at market value 8,926 3,564
Commissions payable 1,781,214 2,027,379
Accounts payable 730,958 486,676
Accrued expenses 1,151,859 1,373,354
Income taxes payable 35,167 32,167
Capital leases payable 4,012 8,555
Note payable 495,547 200,000
Other liabilities 119,704 111,474
--------------------- -------------------
Total liabilities 4,352,387 5,493,169
--------------------- -------------------
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,
18,483,553 and 15,937,407 shares issued and outstanding, respectively 11,615,302 10,055,925
Additional paid-in capital 1,930,810 1,930,810
Accumulated deficit (8,886,891) (8,809,203)
Less: deferred compensation -- (388,185)
--------------------- -------------------
Total stockholders' equity 4,709,540 3,227,851
--------------------- -------------------
Total liabilities and stockholders' equity $ 9,061,927 $ 8,721,020
===================== ===================
See notes to consolidated financial statements.
F-1
FIRST MONTAUK FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Six months ended June 30 Three months ended June 30
---------------------------------- ----------------------------------
2006 2005 2006 2005
(unaudited) (unaudited and (unaudited) (unaudited and
restated) restated)
Revenues:
Commissions $ 20,427,390 $ 18,536,318 $ 9,904,625 $ 8,594,155
Principal transactions 2,484,800 2,906,403 1,120,246 1,203,646
Investment banking 2,317,234 3,826,060 1,571,673 927,348
Interest and other income 1,688,306 6,877,365 1,009,164 5,855,352
------------ ------------- ------------ -----------
Total revenue 26,917,730 32,146,146 13,605,708 16,580,501
------------ ------------- ------------ -----------
Expenses:
Commissions, employee compensation and benefits 22,120,306 22,675,416 11,040,703 9,881,752
Executive separation 951,266 1,432,937 -- --
Clearing and floor brokerage 695,779 1,052,226 (3,156) 490,883
Communications and occupancy 883,293 1,161,241 345,485 581,351
Legal matters and related costs 612,551 314,944 414,048 72,677
Other operating expenses 1,534,775 1,933,020 699,886 1,132,264
Interest 66,746 43,393 32,795 1,189
------------ ------------- ------------ -----------
Total expenses 26,864,716 28,613,177 12,529,761 12,160,116
------------ ------------- ------------ -----------
Net income before income taxes 53,014 3,532,969 1,075,947 4,420,385
Provision for income taxes 45,061 19,520 24,200 196,251
------------ ------------- ------------ -----------
Net income $ 7,953 $ 3,513,449 $ 1,051,747 $ 4,224,134
Preferred stock dividends (85,641) (242,434) (42,866) $ (207,976)
------------ ------------- ------------ -----------
Net income (loss) applicable to common
stockholders $ (77,688) $ 3,271,015 $ 1,008,881 $ 4,016,158
============ ============= ============ ===========
Earnings (loss) per share:
Basic $ - $ 0.24 $ 0.06 $ 0.28
Diluted $ - $ 0.18 $ 0.05 $ 0.20
Weighted average number of shares of stock
outstanding:
Basic 15,594,185 13,421,349 15,842,628 14,411,053
Diluted 16,515,509 20,251,184 19,363,508 21,251,791
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 JUNE 30, 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
Cashless 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 year
--------------------- --------------------- ------------------------ ------------
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 61,211
Amortization of deferred compensation
Reclass to common stock (185,871)
Exercise of incentive stock options 19,800 11,034
Cashless exercise of incentive stock
options 27,586
Cashless exercise of warrants 28,603 22,211
Expired warrant obligation 47,009 37,607
Conversion of bonds into common stock 2,450,000 1,225,000
Payment of preferred stock dividends
Net income for the period
--------------------- --------------------- ------------------------ ------------
Balances at June 30, 2006 (unaudited) 305,369 $30,537 197,824 $19,782 18,510,405 $11,801,173 $ 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 JUNE 30, 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 year 2,424,294 2,424,294
---------------- -------------- ---------------------------- --------------
Balances at December 31, 2005 (8,809,203) (388,185) -- -- 3,227,851
Increase in deferred compensation (61,211) -
Amortization of deferred compensation 263,525 263,525
Reclass to common stock 185,871 -
Exercise of incentive stock options 11,034
Cashless exercise of incentive stock options -
Cashless exercise of warrants 22,211
Expired warrant obligation 37,607
Conversion of bonds into common stock 1,225,000
Payment of preferred stock dividends (85,641) (85,641)
Net income for the period 7,953 7,953
---------------- -------------- ---------------------------- --------------
Balances at June 30, 2006 (unaudited) $ (8,886,891) $ (185,871) -- -- $ 4,709,540
================ ============== ============================ ==============
See notes to consolidated financial statements.
F-4
FIRST MONTAUK FINANCIAL CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Six months ended June 30
------------------------------------------
2006 2005
(unaudited) (unaudited and
restated)
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 7,953 $ 3,513,449
Adjustments to reconcile net income to net cash (used in) provided by operating
activities:
Depreciation and amortization of property and equipment 151,260 218,965
Amortization of deferred costs 332,178 755,077
Amortization of deferred income -- (5,105,116)
Preferred shares issued in connection with separation agreement 1,000,000
Note payable issued in connection with separation agreement 295,547 200,000
Increase (decrease) in cash attributable to changes in assets
and liabilities:
Due from clearing firm (37,613) 217,087
Securities owned (171,220) (167,204)
Prepaid expenses (684,368) (581,526)
Employee and broker receivables 57,913 266,011
Income taxes receivable - 40,503
Other assets 119,851 (49,045)
Securities sold, not yet purchased 5,362 (167,178)
Commissions payable (246,164) 29,186
Accounts payable 244,282 305,368
Accrued expenses (221,495) 256,581
Income taxes payable 3,000 (19,460)
Other liabilities 69,139 (156,438)
------------------- -------------------
NET CASH (USED IN) PROVIDED BY OPERATING ACTIVITIES (74,375) 556,260
------------------- -------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to property and equipment (5,307) (31,530)
------------------- -------------------
NET CASH USED IN INVESTING ACTIVITIES (5,307) (31,530)
------------------- -------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Payment of capital lease (4,543) (49,641)
Proceeds from exercise of incentive stock option 11,034 334,935
Payment of preferred stock dividends (85,641) --
------------------- -------------------
NET CASH (USED IN) PROVIDED BY FINANCING ACTIVITIES (79,150) 285,294
------------------- -------------------
Net increase (decrease) in cash and cash equivalents (158,832) 810,024
Cash and cash equivalents at beginning of period 1,990,815 1,034,681
------------------- -------------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 1,831,983 $ 1,844,705
=================== ===================
Supplemental disclosures of cash flow information: Cash paid during the period
for:
Interest $ 63,176 $ 88,377
=================== ===================
Income taxes $ 108,644 $ 32,784
=================== ===================
Noncash financing activity:
Cashless exercise of warrants $ 22,211 $ 119,196
6% convertible debentures converted into common stock $ 1,225,000 $ 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 June 30, 2006 and for
the six-month and three-month periods ended June 30, 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 June 30, 2006, and
results of operations and cash flows for the six months and
three months ended June 30, 2006 and 2005, as applicable, have
been made. The results of operations for the six and three
months ended June 30, 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 six months and
three months ended June 30, 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 June 30, 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. The 2002
Incentive Stock Plan will terminate in 2012.
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 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 terminated 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. FAS 123(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 the 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.
7
As a result of the adoption of FAS 123(R), the Company's
results for the six and three month periods ended June 30,
2006 include share-based compensation expense for employee
options and shares totaling approximately $213,000 and
$114,000, respectively. Such amounts have been included in the
Consolidated Statements of Operations 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 six and three months ended June 30, 2005 totaled $534,000
and $116,000, respectively.
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
$50,000 and $13,000 respectively for the six and three month
periods ended June 30, 2006 compared to $65,000 and $27,000
respectively for the six and three months ended June 30, 2005.
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 six months ended June 30, 2006 and 2005 was
$0.59 and $0.56, 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 123(R) 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.
8
The assumptions made in calculating the fair values of all
options are as follows:
Six Months Ended Three Months Ended
June 30, 2006 June 30, 2005 June 30, 2006 June 30, 2005
Expected volatility 68% 102% 68% 102%
Expected dividend yield 0% 0% 0% 0%
Risk-free interest rate 3.71%-5.10% 2.93%- 3.72% 3.71%- 5.10% 2.93%- 3.72%
Expected term (in years) 0-5 years 0-5 years 0-5 years 0-5 years
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 income
and earnings 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.
Six months ended Three months ended
June 30, 2005 June 30, 2005
------------- -------------
(unaudited &restated) (unaudited & restated)
Net income attributable to
common stockholders, as reported $3,271,015 $4,016,158
Add: Employee stock-based
compensation expense determined
under the fair value based method
for all awards (no tax effect) (36,091) (17,542)
-------- --------
Pro forma net income
attributable to common
stockholders $3,234,924 $3,998,616
Add: preferred stock dividends 242,434 207,976
Add: convertible debenture interest 47,075 18,810
------ ------
Pro forma net income $3,524,433 $4,225,402
========= =========
Earnings per share:
Basic - as reported $ .24 $ .28
Basic - pro forma $ .24 $ .28
Diluted - as reported $ .18 $ .20
Diluted - pro forma $ .17 $ .20
9
The following table represents all our stock options granted,
exercised, and forfeited during the six months of 2006.
------------------------------ --------- -------------------- --------------- ------------ -------------------
Weighted
Weighted Average
Average Remaining
Number Exercise Price Contractual Aggregate
Stock Options of Shares per Share Term Intrinsic Value
------------------------------ --------- -------------------- --------------- ------------ -------------------
Outstanding at
January 1, 2006 2,707,302 $0.85
--------------------------------------------------------------------------------------------------------------
Granted 3,000 $1.04
Exercised (220,400) $0.72
Forfeited/expired (213,500) $1.35
--------------------------------------------------------------------------------------------------------------
Outstanding at
June 30, 2006 2,276,402 $0.81 2.6 $213,435
==============================================================================================================
Exercisable at
June 30, 2006 1,703,836 $0.82 2.5 $138,723
==============================================================================================================
The weighted-average grant date fair value of all share
options granted during the six months ended June 30, 2006 and
2005 was $0.59 and $0.56, respectively. The intrinsic value
of all stock options exercised during the six months of 2006
and 2005 was $55,000 and $118,000, respectively. Cash
received from the exercise of all stock options in the six
months ended June 30, 2006 and 2005 was $11,034 and $297,435,
respectively. 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 six months
ended June 30, 2006:
----------------------------------- -------------------------------- -----------------------------
Nonvested Shares Shares Weighted-Average
Grant-Date
Fair Value
----------------------------------- -------------------------------- -----------------------------
----------------------------------- -------------------------------- -----------------------------
Nonvested January 1, 2006 950,000 $0.47
----------------------------------- -------------------------------- -----------------------------
----------------------------------- -------------------------------- -----------------------------
Granted -- --
----------------------------------- -------------------------------- -----------------------------
----------------------------------- -------------------------------- -----------------------------
Vested (850,000) $0.46
----------------------------------- -------------------------------- -----------------------------
----------------------------------- -------------------------------- -----------------------------
Forfeited -- --
----------------------------------- -------------------------------- -----------------------------
----------------------------------- -------------------------------- -----------------------------
Nonvested June30, 2006 100,000 $0.57
----------------------------------- -------------------------------- -----------------------------
10
The total fair value of shares vested during the six months
ended June 30, 2006 and 2005, was $825,000 and $956,000,
respectively.
As of June 30, 2006, there was $186,000 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 1.8
years.
NOTE 3 - PREPAID EXPENSES
Prepaid expenses at June 30, 2006 include a payment for errors
and omissions insurance coverage. The unamortized amount at
June 30, 2006 is $601,000, which will be written off over the
next seven months.
NOTE 4 - ACCOUNTS PAYABLE
Accounts payable at June 30, 2006 includes an insurance
premium financing agreement with a current balance of $415,000
payable in four remaining monthly installments of
approximately $105,000. All installments include interest at
the rate of 4.97% per annum.
NOTE 5 - 6% CONVERTIBLE DEBENTURES
During the quarter ended June 30, 2006, holders of
$1,190,000 of the Company's 6% subordinated convertible
debentures sold their debentures, in privately negotiated
transactions, to FMFG Ownership Inc. ("Ownership"), the entity
with which the Company has entered into a definitive merger
agreement (See Note 8). Subsequent to the purchase of the
debentures, Ownership converted its entire debenture holdings
into 2,380,000 of the Company's common shares.
There remains $25,000 of outstanding debentures which are
due to mature in 2007.
NOTE 6 - LEGAL MATTERS
The Company is a respondent or co-respondent in various legal
proceedings, including customer arbitrations and regulatory
investigations. 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.
The Company is in the final stages of resolving a New Jersey
Bureau of Securities 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 final terms
of the settlement are still being negotiated but will likely
include a monetary fine and the retention of a compliance
consultant to review the firm's procedures. The exact amount
of the fine, 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. We anticipate that a
final consent order will be issued during the third quarter of
2006.
11
As of June 30, 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 7 - EARNINGS (LOSS) PER SHARE
Basic earnings (loss) per share for the six and three months
ended June 30, 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 (loss)
per share:
Six months ended Three months ended
June 30 June 30
---------------- --------------------
2006 2005 2006 2005
---- ---- ---- ----
(Restated) (Restated)
Numerator - basic:
Net income $ 7,953 $ 3,513,449 $ 1,051,747 $ 4,224,134
Deduct: preferred stock dividends ( 85,641) (242,434) ( 42,866) (207,976)
--------- --------- --------- ---------
Numerator for basic
earnings (loss) per share $ (77,688) $ 3,271,015 $ 1,008,881 $ 4,016,158
======== ========= ========== =========
Numerator - diluted:
Numerator for basic
earnings (loss) per share $ (77,688) $ 3,271,015 $ 1,008,881 $ 4,016,158
Add: preferred stock dividends 85,641 242,434 42,866 207,976
Add: convertible debenture
interest, net of tax 35,061 47,075 375 18,810
-------- ------ ------------ ---------
Numerator for diluted $ 43,014 $ 3,560,524 $ 1,052,122 $ 4,242,944
earnings per share ======== ========= ============ =========
Denominator:
Weighted average common
shares outstanding 15,594,185 13,421,349 15,842,628 14,411,053
Effect of dilutive securities:
Stock options and warrants 879,487 1,216,404 841,276 1,183,763
Convertible preferred stock 2,588,978 2,588,978 2,588,978
Nonvested employee stock 41,837 524,453 40,625 567,997
Convertible debentures -- 2,500,000 50,000 2,500,000
------------ ---------- ----------- ----------
Denominator for diluted earnings
per share 16,515,509 20,251,184 19,363,507 21,251,791
============ ========== =========== ==========
12
The following securities have been excluded from the dilutive
per share computation, as they are antidilutive:
Six months ended Three months ended
June 30 June 30
2006 2005 2006 2005
----------------------- -------------------------
Stock options 1,655,300 1,349,854 1,685,552 1,349,854
Warrants 149,133 -- 157,092 --
Convertible debt 50,000 -- -- --
Convertible preferred stock 2,588,978 -- -- --
Nonvested employee stock 58,153 -- 59,375 --
As required by FAS 128, "Earnings per Share", cumulative
preferred stock dividends for the six and three months ended
June 30, 2006 and 2005 were deducted from net income to arrive
at the numerator for basic and diluted earnings (loss) per
share.
NOTE 8 - DEFINITIVE MERGER AGREEMENT
On May 5, 2006, the Company entered into a definitive merger
agreement with FMFG Ownership, Inc. ("Ownership"), and FMFG
AcquisitionCo, Inc. ("AcquisitionCo"), affiliates of
Investment Properties of America, LLC ("IPofA"), a privately
owned, diversified real estate investment and management
company. Pursuant to the agreement, upon the completion of the
merger, 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
preferred 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 preferred 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 26.1% of the outstanding voting shares of the
Company, as of the record date, June 26, 2006, have entered
into voting 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, L.C., an independent investment banking firm,
that the merger consideration was fair from a financial point
of view to the Company's shareholders.
13
The Company has filed a proxy statement in connection with
this proposed transaction and has scheduled a special meeting
of shareholders for August 17, 2006 to consider and vote upon
the proposed merger. Shareholders of record on June 26, 2006
of the Company's common stock, Series A preferred stock and
Series B preferred stock will be entitled to vote at the
special meeting of shareholders. Prior to the record date,
Ownership purchased an aggregate of 2,159,348 shares of the
Company's common stock in the open market and privately
negotiated transactions, and in privately negotiated
transactions purchased 283,087 shares of the Company's
outstanding Series A preferred stock at a price of $4.00 per
share, providing Ownership with 92.7% of the outstanding
shares of Series A preferred stock as of the record date. In
addition, Ownership purchased $1,190,000 principal amount of
the Company's convertible debentures from holders, in
privately negotiated transactions, which were subsequently
converted into 2,380,000 shares of the Company's common stock.
As a result of all of these purchases, as of the record date,
Ownership beneficially owns 24.6% of the Company's common
stock (assuming no shares of Series A preferred stock are
converted into common stock).
The completion of the merger 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 during the fourth quarter of
2006. However, as a result of the foregoing uncertainties,
there can be no assurances that the transaction will be
completed.
NOTE 9 - 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 the Company. As a result of
the separation agreement, the Company expensed a total of
$951,266 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, the remaining balance of which was paid pursuant to
the change of control provisions in the Separation
Agreement and Promissory Note. (See Notes 10 and 13)
o Medical and dental benefits to Mr. Kurinsky and his wife
for a period of 48 months.
14
o Automobile allowance of $600 per month for a period of 36
months, the remaining balance of which was subsequently
paid pursuant to the change of control provisions in the
Separation Agreement. (See Notes 10 and 13)
o The full vesting of all restricted stock in accordance
with his employment agreement.
Subsequent to June 30, 2006, the Company paid the remaining
balances, including accrued interest, on the note payable and
automobile allowance of $486,000 and $19,000, respectively.
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 10 - CHANGE IN CONTROL
During June 2006, through purchases of common stock and
convertible debentures which were subsequently converted to
common stock, Ownership obtained beneficial ownership of 24.6%
of the Company's common stock, as of the record date,
triggering the change of control provisions in certain
agreements. As a result, in June 2006 the Company expensed
$73,000 for stock and options that became immediately vested
in accordance with its CEO's employment agreement. In
addition, in July 2006 the remaining note payable balance and
automobile allowance totaling $505,000 was paid to Mr. Herbert
Kurinsky in accordance with the change of control provisions
of his Separation Agreement and Promissory Note. (See Notes 9
and 13)
NOTE 11 - AMENDMENT TO CLEARING AGREEMENT
During the second quarter of 2006, First Montauk Securities
Corp. ("FMSC") signed an amendment to Exhibit A of its
clearing agreement with National Financial Services LLC
("NFS"), adopting, among other things, a schedule of reduced
clearing rates.
NOTE 12 - SIGNED RELEASE WITH NFS
During the second quarter of 2006, FMSC signed a release with
NFS for and in consideration of the payment of $1,000,000 by
NFS relating to conversion and transition expenses incurred by
FMSC in prior periods, as a result of its conversion from
Fiserv Securities Inc. to NFS in 2005. The payment was
received on June 29, 2006 and was recorded by FMSC among
various expense and revenue categories.
NOTE 13 - SUBSEQUENT EVENTS
In July 2006, pursuant to change in control provisions in its
Promissory Note and Separation Agreement with its former
Chairman of the Board, the Company paid Mr. Herbert Kurinsky
the remaining balances on his note payable and automobile
allowance. (See Notes 9 and 10)
15
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 290 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 117 branch
office and satellite locations in 30 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 StateBoston, StateMA, and Penson Financial Services Inc
of StateStateDallas, StateTX, 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 May 5, 2006, we entered into a definitive merger agreement with
Ownership and AcquisitionCo, affiliates of IPofA. Ownership and AcquisitionCo
are wholly-owned subsidiaries of Edward H. Okun, a private investor who is the
controlling person of IPofA. Pursuant to the merger agreement, upon completion
of the merger, 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 preferred
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 preferred share in cash.
16
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 26.1%
of our outstanding voting shares as of the record date, have entered into voting
agreements with the purchaser to vote their shares in favor of the merger.
We filed a proxy statement in connection with this proposed transaction
and have scheduled a special meeting of shareholders for August 17, 2006 to
consider and vote upon the proposed merger. Shareholders of record on June 26,
2006 of our common stock, Series A preferred stock and Series B preferred stock
will be entitled to vote at the special meeting of shareholders. Prior to the
record date, Ownership purchased, from holders, an aggregate of 2,159,348 shares
of our common stock in the open market and privately negotiated transactions,
and in privately negotiated transactions purchased 283,087 shares of our Series
A preferred stock at a price of $4.00 per share, providing Ownership with 92.7%
of the outstanding shares of our Series A preferred stock. In addition,
Ownership purchased $1,190,000 principal amount of our outstanding convertible
debentures, from holders, in privately negotiated transactions, which were
subsequently converted by Ownership into 2,380,000 shares of our common stock.
As a result of all of these purchases, as of the record date, Ownership
beneficially owns 24.6% of our common stock (assuming no shares of Series A
preferred stock are converted into common stock).
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
during the fourth quarter of 2006. However, as a result of the foregoing
uncertainties, there can be no assurances that the transaction will be
completed.
On February 1, 2006, we entered into a Separation Agreement with
Herbert Kurinsky, our Chairman of the Board of Directors,
which provided for the termination of his employment as of that date. 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, the Separation Agreement provided
for a continuation of medical insurance coverage for 48 months for the Chairman
and his wife, an automobile allowance of $600 for 36 months, which resulted in a
charge to earnings of $64,691, and the immediate vesting of all stock grants in
accordance with his employment agreement, which resulted in an additional charge
to earnings of $36,458. In the event of a change in control, any remaining note
principal and automobile allowance is immediately payable. As a result of
Ownership's purchase of 24.6% of our stock, the change of control provisions of
Mr. Kurinsky's promissory note and separation agreement were triggered, and
consequently, in July 2006 we paid Mr. Kurinsky $505,000.
During the second quarter of 2006, First Montauk Securities Corp.
("FMSC") signed an amendment to Exhibit A of its clearing agreement with
NFS, adopting, among other things, a schedule of reduced clearing rates.
Also during the second quarter of 2006, FMSC signed a release with NFS
for and in consideration of the payment of $1,000,000 by NFS relating to
conversion and transition expenses incurred by the broker-dealer in prior
periods, as a result of its conversion from its prior clearing firm, Fiserv
Securities Inc., to NFS in 2005. The payment was received on June 29, 2006 and
was recorded by FMSC among various expense and revenue categories as described
in more detail below.
17
RESULTS OF OPERATIONS
Three Months Ended June 30, 2006 Compared to Three Months Ended June 30, 2005
Revenues by Source
The following provides a breakdown of total revenues by source for the
three-month periods ended June 30, 2006 and 2005 (in thousands of dollars).
Three Months Ended
-----------------------------------------------------------------
------------------------------ --- ------------------------------
June 30, 2006 June 30, 2005
------------------------------ ------------------------------
Amount % of Total Amount % of Total
Revenues Revenues
Commissions
Equities $ 4,757 35% $ 4,338 26%
Mutual Funds 1,610 12% 1,568 9%
Insurance 1,080 8% 1,084 7%
Alternative Products 1,373 10% 672 4%
Asset Management Fees 1,009 7% 866 5%
Fixed Income 76 1% 66 <1%
-------------- --------------- -------------- ---------------
Total 9,905 73% 8,594 52%
Principal Transactions 1,120 8% 1,204 7%
Investment Banking 1,572 12% 927 6%
Interest and Other
Interest 767 6% 710 4%
Deferred revenue -- -- 4,886 29%
Other 242 1% 259 2%
-------------- --------------- -------------- ---------------
Total 1,009 7% 5,855 35%
-------------- --------------- -------------- ---------------
Total revenues $ 13,606 100% $ 16,580 100%
============== =============== ============== ===============
Overview
Total revenues decreased $3.0 million, or 18%, for the three months
ended June 30, 2006 (the "2006 quarter"), to $13.6 million, compared to $16.6
million for the three months ended June 30, 2005 (the "2005 quarter"). The
decrease was primarily attributable to the inclusion of $4.9 million during the
2005 quarter, from the acceleration of the remaining deferred revenue in
connection with the termination of our Financial Agreement with Fiserv
Securities, Inc. ("Fiserv"), our prior clearing firm. This decrease in 2006 was
offset by increases in commissions of $1.3 million and investment banking
revenues of $644,000. Included in interest and other income for the 2006 quarter
is an additional $180,000 of margin interest rebate; a partial allocation of the
$1.0 million received from NFS on June 29, 2006. Taking into consideration the
$180,000 of additional interest income in the 2006 quarter and the $4.9 million
of deferred revenue recognition in the 2005 quarter, revenue in the 2006 quarter
increased $1.7 million, or 15%, compared to the same period in 2005.
Expenses increased in the 2006 quarter by $370,000, or 3%, compared to
the 2005 quarter. Included in expenses in 2006 is $820,000 of expense offsets, a
partial allocation of the $1.0 million received from NFS on June 29, 2006 (as
discussed above). Taking into consideration the $820,000 received from NFS,
expenses increased by $1.2 million during the 2006 quarter, when compared to the
2005 quarter, an increase of 10%. Commission expense increased $1.6 million, or
20%, from $8.0 million for the 2005 quarter to $9.6 million for the 2006
quarter, as a result of the increase in commissionable revenues for the 2006
quarter. In addition, legal matters and related costs increased $341,000 in the
2006 quarter compared to 2005, offset by decreases in professional fees, quote
services, and amortization and depreciation expenses.
18
Net income attributable to common stockholders for the 2006 quarter
decreased approximately $3.0 million to $1.0 million, or $.06 and .05 per basic
and diluted share, respectively, from a net income of $4.0 million for the 2005
quarter, or $.28 and $.20 per basic and diluted share, respectively, due to the
adjustments mentioned above.
Commission Revenue
Commissions are comprised of revenues from the sale of equities, fixed
income, mutual funds, insurance, asset management fees and alternative products.
Commission revenue for the 2006 quarter was $9.9 million compared to $8.6
million for the 2005 quarter. Commissions on alternative products, which include
REIT's, 1031 exchanges and oil & gas programs, increased $701,000, or 104%, from
$672,000 in the 2005 quarter to $1,373,000 in the 2006 quarter. In addition,
agency commissions and asset management fees increased $438,000 and $143,000,
respectively, while revenues from mutual funds and insurance products remained
relatively constant.
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 $83,000, or 7%, from $1.20 million for the
2005 quarter to $1.12 million for the 2006 quarter.
Investment Banking
Investment banking revenues for the 2006 quarter increased $644,000
from $927,000 in the 2005 quarter, to $1.57 million 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 number and size of
private placement transactions during the 2006 quarter increased compared to the
2005 quarter.
Interest and Other Income
Interest and other income for the 2006 quarter totaled $1.0 million, as
compared to $5.9 million for the 2005 quarter, a decrease of $4.9 million. This
decrease was due mostly to the acceleration of the remaining deferred revenue in
connection with the termination of our Financial Agreement with Fiserv
Securities, Inc. ("Fiserv"), our prior clearing firm during the 2005 quarter.
Included in interest income for the 2006 quarter is an additional $180,000 of
margin interest, a partial allocation of the $1.0 million received from NFS on
June 29, 2006.
Commissions, Employee Compensation and Benefits
Commission expense, consistently the largest expense category and
directly related to commission revenue, increased 20%, or $1.6 million, from
$8.0 million for the 2005 quarter, to $9.6 million for the 2006 quarter.
Commissions represent 76% and 74% of commissionable revenues for the 2006 and
2005 quarters, respectively. Compensation and benefits expense for management,
operations and clerical personnel, which include salaries and payroll taxes,
stock and option compensation, health insurance premiums, and bonus accruals,
decreased for the 2006 quarter, to $1.4 million from $1.9 million, a reduction
of approximately $500,000 over the 2005 quarter. Salaries, bonuses accruals and
payroll taxes decreased by approximately $170,000, from $1.33 million for the
2005 quarter, to $1.16 million for the 2006 quarter. The decrease for the 2006
quarter was primarily attributable to $86,000 of salary offsets, a partial
allocation of the $1.0 million received from NFS on June 29, 2006. Stock and
option compensation costs decreased approximately $16,000 for the 2006 quarter
as compared to the 2005 quarter.
Clearing and Floor Brokerage
Clearing and floor brokerage costs decreased $494,000 in the 2006
quarter when compared to the 2005 quarter. In June 2006, we allocated
approximately $544,000 of the $1 million received in the settlement from NFS to
clearing fees for costs incurred in prior periods. Actual clearing costs for the
2006 quarter, excluding the settlement amount from NFS of $544,000, would have
been $540,000, an increase of $50,000, or 10%, compared to the 2005 quarter. As
a percentage of transaction based revenues, clearing costs remained relatively
constant between the two periods. Clearing costs, as a percentage of gross
revenues, fluctuate depending upon the product mix.
19
Communications and Occupancy
Communications and occupancy costs decreased $236,000, from $581,000 in
the 2005 quarter to $345,000 in the 2006 quarter due to a reduction in quote
services of approximately $68,000, and a $135,000 reduction in costs incurred in
prior periods related to data aggregation as part of the $1.0 million received
from NFS on June 29, 2006.
Legal matters and related costs
Legal matters and related settlement costs increased $341,000, from
$73,000 during the 2005 quarter to $414,000 for the 2006 quarter. Settlement
costs of $124,500 for the 2006 quarter include an additional reserve of $75,000
in connection with the investigation by the New Jersey Bureau of Securities (See
Note 6). Legal expense during the 2006 quarter increased $166,000, of which
$122,000 was in connection with the anticipated acquisition of the Company by a
private investor. Settlement costs increased by $175,000 for the 2006 quarter
compared to the 2005 quarter. The 2005 quarter included a $164,000 credit
adjustment for the valuation of warrants issued in settlement of an arbitration
claim that occurred in a previous period.
Other Operating Expenses
Other operating costs decreased approximately $432,000, or 38%, to
$700,000 in the 2006 quarter from $1.13 million during the 2005 quarter. The
largest decrease in other operating expenses during the 2006 quarter was for
consulting fees of $122,000, amortization of deferred financing of $77,000,
depreciation of $35,000 and advertising of $43,000. In addition, we allocated
approximately $55,000 of the $1.0 million received from NFS on June 29, 2006
against professional fees.
Six Months Ended June 30, 2006 Compared to Six Months Ended June 30, 2005
Revenues by Source
The following provides a breakdown of total revenues by source for the six-month
periods ended June 30, 2006 and 2005 (in thousands of dollars).
Six Months Ended
-----------------------------------------------------------------
June 30, 2006 June 30, 2005
------------------------------ ------------------------------
Amount % of Total Amount % of Total
Revenues Revenues
Commissions
Equities $ 11,097 41% $ 10,105 31%
Mutual Funds 3,211 12% 3,257 10%
Insurance 2,190 8% 2,329 7%
Alternative Products 1,937 7% 1,131 4%
Asset Management Fees 1,904 7% 1,643 5%
Fixed Income 89 <1% 71 <1%
-------------- --------------- -------------- ---------------
Total 20,428 76% 18,536 58%
Principal Transactions 2,485 9% 2,907 9%
Investment Banking 2,317 9% 3,826 12%
Interest and Other
Interest 1,334 5% 1,342 4%
Deferred revenue -- -- 5,105 16%
Other 354 1% 430 1%
-------------- --------------- -------------- ---------------
Total 1,688 6% 6,877 21%
-------------- --------------- -------------- ---------------
Total revenues $ 26,918 100% $ 32,146 100%
============== =============== ============== ===============
20
Overview
Overall, revenues decreased $5.2 million for the six months ended June
30, 2006 (the "2006 period"), to $26.9 million, compared to $32.1 million for
the six months ended June 30, 2005 (the "2005 period"). The decrease was
primarily attributable to the inclusion of $4.9 million during the 2005 period,
from the recognition of the remaining deferred revenue in connection with the
termination of our Financial Agreement with Fiserv Securities, Inc. ("Fiserv"),
our prior clearing firm. Commission revenues increased by $1.9 million while
revenues from principal transactions and investment banking decreased by
$422,000 and $1.5 million, respectively. Included in interest and other income
for the 2006 period is an additional $180,000 of margin interest, a partial
allocation of the $1.0 million received from NFS on June 29, 2006, as discussed
previously. Taking into consideration the $180,000 of additional interest income
in the 2006 period and the $4.9 million of deferred revenue recognition in the
2005 period, revenue in the 2006 period decreased $522,000, or 2%, compared to
the same period in 2005.
Expenses in the 2006 period decreased by approximately $1.75 million,
which includes an $820,000 credit due to a partial allocation of the $1.0
million received from NFS on June 29, 2006. Taking into consideration the
$820,000 received from NFS, expenses decreased by $928,000 during the 2006
period, when compared to the 2005 period, a decrease of 3%. Included in the 2006
decrease is a reduction in executive separation costs of $482,000, clearing
costs of $356,000, communications and occupancy of $278,000 and other operating
expenses of $398,000. These were offset in part by increases in legal matters
and related costs of $298,000. Commission expense increased approximately
$300,000, or 2%, from $18.8 million for the 2005 period to $19.1 million for the
2006 period.
Net loss applicable to shareholders in the 2006 period was ($77,000),
or $0.00 per basic and diluted shares, compared to net income of $3.3 million,
or $0.24 and $0.18 per basic and diluted shares, respectively, for the 2005
period.
Commission Revenue
Commission revenue for the six months ended 2006 increased $1.9 million
to $20.4 from $18.5 million in the same period in 2005. The increase was
primarily attributable to revenue from agency equity transactions which
increased $1.0 million and commissions from alternative products, which include
commissions on REIT's, 1031 exchanges and oil & gas programs, which increased
71%, from $1.13 million in the 2005 period to $1.93 million in the 2006 period.
An increase in revenue from asset management fees of $260,000 was partially
offset by decreases in commissions earned on insurance products and mutual funds
of $186,000.
Principal Transactions
Principal transactions decreased $422,000, or 15%, from $2.9 million
for the 2005 period to $2.5 million for the 2006 period. Revenues from all fixed
income products accounted for the decrease in 2006. 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.
Investment Banking
Investment banking revenues for the 2006 period decreased $1.5 million,
or 39%, from $3.8 million in the 2005 period, to $2.3 million in the 2006
period. Investment banking revenues for the first quarter of 2005 were $2.9
million compared to $746,000 for the first quarter of 2006. Although investment
banking revenues for the 2006 quarter increased over the 2005 quarter by
$644,000, it was not enough to make up for the decrease during the first quarter
of 2006. The decrease in investment banking revenues was primarily due to an
overall reduction in the number of closings of private offerings when compared
to 2005. In 2005, however, we reported our highest investment banking revenues,
and although revenues decreased during the six months ended 2006 when compared
to the same period in 2005, 2006 revenues are higher than any other similar
period reported prior to 2005.
Interest and Other Income
Interest and other income decreased $5.2 million during the 2006 period
when compared to the 2005 period. Other income in 2005 period includes the
recognition of the remaining deferred revenue for cash advances received in
prior years from Fiserv Inc., our former clearing firm. During 2005, we
terminated our financing agreement with Fiserv and recorded the remaining
unamortized balance of $4.9 million to other income.
Commissions, Employee Compensation and Benefits
21
Commission expense increased approximately $300,000, or 2%, from $18.8
million for the 2005 period to $19.1 million for the 2006 period. Compensation
and benefits expense for management, operations and clerical personnel decreased
$849,000 in the 2006 period to $3.0 million compared to $3.8 million in the 2005
period. A reduction in officer bonus accruals and amortization of deferred
compensation from $1,018,000 in the 2005 period to $397,000 in the 2006 period
contributed to the decrease.
Clearing and Floor Brokerage
Clearing and floor brokerage costs decreased approximately 350,000,
from $1.05 million for the 2005 period, to $696,000 for the 2006 period. In June
2006, we allocated approximately $544,000 of the $1 million received in the
settlement from NFS to clearing fees. Excluding this reduction, clearing and
floor brokerage costs would have increased by approximately $188,000. This
category for the 2005 period includes expense rebates provided by our former
clearing firm of $143,000.
Communications and Occupancy
Communications and occupancy costs decreased $277,000 during the 2006
period, from $1.16 million in the 2005 period to $883,000 in 2006. In addition
to a $135,000 reduction in reports, as part of the $1.0 million received from
NFS on June 29, 2006, the decrease in expense is due to reductions in occupancy
and related costs from the elimination of a company leased branch office in New
York City in 2005 and reductions in quote services due to a decrease in brokers
and discounted market data pricing received from our clearing firm.
Legal matters and related costs
Legal matters and related settlement costs increased $297,000, from
$315,000 for the 2005 period to $612,000 for the 2006 period. The 2006 period
includes an additional reserve of $75,000 in connection with the investigation
by the New Jersey Bureau of Securities (See Note 6). The 2005 period included a
$164,000 credit adjustment for the valuation of warrants issued in settlement of
an arbitration claim that occurred in a previous period. Legal expense during
the 2006 period increased $232,000, of which $183,000 was in connection with the
anticipated acquisition of the Company by a private investor.
Other Operating Expenses
Other operating costs decreased $398,000, to $1.5 million in the 2006
period, from $1.9 million in the 2005 period. Due to the exercise of the
majority of our outstanding convertible debentures in 2005, we accelerated
$130,000 of the amortization of the deferred financing costs related to these
debentures during the 2005 period, compared to an acceleration of $56,000 during
the 2006 period. In 2006, reductions in advertising, consulting fees,
depreciation, and liability insurance costs were offset by additional fees we
paid to our directors for due diligence performed with respect to the
anticipated acquisition of the Company by a private investor.
Liquidity and Capital Resources
We maintain a highly liquid balance sheet with approximately 78% 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.
Overall, cash and cash equivalents decreased during the six months
ended 2006 by $159,000. Net cash used in operating activities during the 2006
period was $74,000, which consists of net income of $8,000, increased by
non-cash charges including depreciation of $151,000, amortization of deferred
costs of $332,000 and a net increase in the issuance of notes payable of
$296,000 issued in connection with separation agreements. Cash was reduced by
increases in due from clearing firm, securities owned and prepaid expenses of
$38,000, $171,000 and $684,000, respectively, and decreases in accrued expenses
and commissions' payable of $221,000 and $246,000, respectively. Cash was
increased by reductions in broker receivables of $58,000 and other assets of
$120,000 and an increase in accounts payable and other liabilities of $244,000
and $69,000 respectively.
22
Additions to property and equipment of $5,000 accounted for the use of
cash from investing activities during the six months ended 2006.
Financing activities used net cash of $79,000 due to the payment of
preferred stock dividends of $86,000 and capital leases of $4,500 offset by
proceeds from option exercises of $11,000 during the six month period of 2006.
During the first quarter of 2006, $30,000 of the Company's convertible
debentures were converted into shares of common stock, and in June 2006,
Ownership purchased $1,190,000 principal amount of debentures, from holders,
were sold in privately negotiated transactions. Subsequently, Ownership
converted such debentures into 2,380,000 common shares. As of June 30, 2006,
there is an aggregate principal amount of $25,000 of convertible debentures
outstanding which is convertible at $.50 per share.
During the second quarter of 2006, First Montauk Securities Corp. signed
a release with NFS for and in consideration of the payment of $1,000,000 by NFS
relating to conversion and transition expenses incurred by the broker-dealer as
a result of its conversion from Fiserv Securities Inc. to NFS in 2005. The
payment was received on June 29, 2006.
The financing agreement with Premium Assignment for the renewal of our
errors and omissions insurance policy had a balance at June 30, 2006 of
approximately $415,000, payable in four 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 June 30, 2006.
This table does not include any projected payment amounts related to our
potential exposure to arbitrations and other legal matters.
As of June 30, 2006 Expected Maturity Date
- ------------------------- -------------------- --------------- ----------------- -------------- -------------- --------- -----------
After
Category 2006 2007 2008 2009 2010 2010 Total
- ------------------------- -------------------- --------------- ----------------- -------------- -------------- --------- -----------
Debt Obligations 0 $25,000 0 0 0 0 $ 25,000
- ------------------------- -------------------- --------------- ----------------- -------------- -------------- --------- -----------
Capital Lease
Obligations $4,012 0 0 0 0 0 $4,012
- ------------------------- -------------------- --------------- ----------------- -------------- -------------- --------- -----------
Operating Lease
Obligations $588,116 $912,183 $659,057 $619,376 $50,762 0 $2,829,494
- ------------------------- -------------------- --------------- ----------------- -------------- -------------- --------- -----------
Note Payable $495,547 0 0 0 0 0 $495,547
- ------------------------- -------------------- --------------- ----------------- -------------- -------------- --------- -----------
Total $1,087,675 $937,183 $659,057 $619,376 $50,762 0 $3,354,053
----------------------- -------------------- --------------- ----------------- -------------- -------------- --------- -----------
The note payable of $495,547 was paid subsequent to June 30, 2006 (See Notes 10
& 13).
Net Capital
At June 30, 2006, Montauk Financial Group had net capital of
$3,331,105, which was $2,958,226 in excess of its required net capital of
$250,000, and the ratio of aggregate indebtedness to net capital was 1.12 to 1.
Debenture Conversions
During the three months ended June 2006, Ownership purchased $1,190,000
principal amount of the Company's convertible debentures from holders, in
privately negotiated transactions, and subsequently converted such debentures
into 2,380,000 shares of the Company's common stock. As of the date of this
report, there is an aggregate principal amount of $25,000 of convertible
debentures outstanding convertible at $.50 per share.
23
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%.
In June 2006, Ownership purchased 283,087 shares of Series A preferred
stock, from holders, in privately negotiated transactions at a price of $4.00
per share.
As of June 30, 2006, we have 305,369 Series A preferred shares issued
and outstanding.
Quarterly dividends of $22,866 were paid during the three months ended
June 2006.
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 three months ended June
2006. Pursuant to a voting agreement between Mr. Kurinsky and Ownership, he has
agreed to vote all of his Series B preferred shares in favor of the merger and
the acquisition of the Company by a private investor.
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.
24
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 June 30, 2006 and December
31, 2005, the balances of our securities positions owned, and sold, not yet
purchased were approximately $475,000 and $9,000, 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
We maintain disclosure controls and procedures that are designed to
ensure that information required to be disclosed in our Exchange Act reports is
recorded, processed, summarized and reported within the time periods specified
in the SEC's rules and forms, and that such information is accumulated and
communicated to our management, including our Chief Executive Officer and Chief
Financial Officer, as appropriate, to allow timely decisions regarding required
disclosure based closely on the definition of "disclosure controls and
procedures" in Rule 13a-15(e). In designing and evaluating the disclosure
controls and procedures, management recognized that any controls and procedures,
no matter how well designed and operated, can provide only reasonable assurance
of achieving the desired control objectives, and management necessarily was
required to apply its judgment in designing and evaluating the controls and
procedures.
Based on their evaluation, as of June 30, 2006, our Chief Executive Officer and
our Chief Financial Officer concluded that our disclosure controls and
procedures were effective.
Changes in Internal Controls
There have not been any changes in our internal control over financial
reporting (as defined in Rules 13a-15(f) under the Exchange Act) that occurred
during the our fiscal quarter ended June 30, 2006, that have materially
affected, or are reasonably likely to materially affect, our internal control
over financial reporting.
25
PART II
OTHER INFORMATION
Item 1. Legal proceedings
We are a respondent or co-respondent in various legal proceedings,
including customer arbitrations and regulatory investigations. 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.
The Company is in the final stages of resolving an investigation by the
New Jersey Bureau of Securities 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 final
terms of the settlement are still being negotiated but will likely include a
monetary fine and the retention of a compliance consultant to review the firm's
procedures. The exact amount of the fine, 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. We
anticipate that a final consent order will be issued during the third quarter of
2006.
As of June 30, 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.
Item 1A. Risk Factors
Refer to December 31, 2005 Form 10-K.
Item 2. Unregistered Sales of Equity Securities
(a) During the three months ended June 2006, we issued 2,380,000 common shares
upon conversion of $1,190,000 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.
Item 3. Defaults Upon Senior Securities.
None.
27
Item 4. Submission of Matters to a Vote of Security Holders.
Not applicable.
Item 5. Other Information
Definitive Merger Agreement
On May 8, 2006, the Company announced that on May 5, 2006, it had
entered into a definitive merger agreement with Ownership and AcquisitonCo,
affiliates of IPofA, a privately owned, diversified real estate investment and
management company. Pursuant to the agreement, upon completion of the merger,
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
preferred 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 preferred 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 26.1% of the outstanding voting shares of the Company, as of the
record date, have entered into voting agreements with the purchaser to vote
their shares in favor of the merger.
The Company has filed a proxy statement in connection with this
proposed transaction and has scheduled a special meeting of shareholders for
August 17, 2006 to consider and vote upon the proposed merger. Shareholders of
record on June 26, 2006 for the Company's common stock, Series A preferred stock
and Series B preferred stock will be entitled to vote at the special meeting of
shareholders. Prior to the record date, Ownership purchased an aggregate of
2,159,348 shares of the Company's common stock in the open market and privately
negotiated transactions, and, in privately negotiated transactions purchased
283,087 shares of Series A preferred stock at a price of $4.00 per share,
providing them with 92.7% of the outstanding shares of Series A preferred stock.
In addition, Ownership purchased $1,190,000 principal amount of the Company's
convertible debentures, from holders, in privately negotiated transactions,
which were subsequently converted into 2,380,000 shares of the Company's common
stock. As a result of all of these purchases, as of the record date, Ownership
beneficially owns 24.6% of the Company's common stock (assuming no shares of
Series A preferred stock are converted into common stock).
The completion of the merger 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
during the fourth quarter of 2006. However, as a result of the foregoing
uncertainties, there can be no assurances that the transaction will be
completed.
Change in Control
During June 2006, Ownership an affiliate of IPofA, purchased, from
holders, an aggregate of 2,159,348 shares of the Company's common stock in the
open market and privately negotiated transactions, and, in privately negotiated
transactions purchased 283,087 shares of Series A preferred stock at a price of
$4.00 per share, providing them with 92.7% of the outstanding shares of Series A
preferred stock. In addition, Ownership purchased $1,190,000 principal amount of
the Company's convertible debentures, from holders, in privately negotiated
transactions, which were subsequently converted into 2,380,000 shares of the
Company's common stock. As a result of all of these purchases, as of the record
date, Ownership beneficially owns 24.6% of the Company's common stock (assuming
no shares of Series A preferred stock are converted into common stock).
28
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).
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
29
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: August 14, 2006 /s/ Mindy A. Horowitz
--------------------------------------------
Mindy A. Horowitz
Acting Chief Financial Officer
/s/ Victor K. Kurylak
--------------------------------------------
Victor K. Kurylak
President and Chief Executive Officer
30
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: August 14, 2006
/s/ Victor K. Kurylak
- --------------------------------------
VICTOR K. KURYLAK
CHIEF EXECUTIVE OFFICER
31
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: August 14, 2006
/s/ Mindy A. Horowitz
- ------------------------------------
MINDY A. HOROWITZ
ACTING CHIEF FINANCIAL OFFICER
32
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 June 30, 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
August 14, 2006
33
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 June 30, 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
August 14, 2006
34