UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1998
OR
[ ] 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 1-8952
INTERSTATE/JOHNSON LANE, INC.
-----------------------------
(Exact name of Registrant as specified in its charter)
Delaware
--------
(State or other jurisdiction of incorporation or organization)
56-1470946
----------
(I.R.S. Employer Identification No.)
IJL Financial Center, 201 North Tryon Street, Charlotte, North Carolina 28202
-----------------------------------------------------------------------------
(Address of principal executive offices, zip code)
(704) 379-9000
--------------
(Registrant's telephone number, including area code)
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 shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [ ] No [X]
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
Class Outstanding at July 31, 1998
----- ----------------------------
(Common stock, $.20 par value) 6,143,148
PAGE 1 OF 15
INTERSTATE/JOHNSON LANE, INC. AND SUBSIDIARIES
Index
Page Number
Part I. Financial Information
Item 1. Financial Statements
Condensed Consolidated Statements of
Financial Condition--June 30, 1998 and
September 30, 1997 3
Condensed Consolidated Statements of
Operations--Nine Months Ended
June 30, 1998 and 1997 4
Condensed Consolidated Statements of
Cash Flows--Nine Months Ended
June 30, 1998 and 1997 5
Notes to Condensed Consolidated Financial
Statements 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 10
Part II. Other Information
Item 1. Legal Proceedings 13
Item 6. Exhibits and Reports on Form 8-K 13
Page 2
INTERSTATE/JOHNSON LANE, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(Unaudited)
(All dollars in thousands)
June 30, September 30,
1998 1997
--------- ----------
Assets
Cash and cash equivalents $ 48,366 $ 24,685
Cash and securities segregated for
regulatory purposes -- 90,001
Loans under matched securities resale agreements 6,473 12,385
Receivables:
Securities resale agreements 23,058 64,644
Customers 379,218 271,102
Brokers, dealers and clearing agencies 27,209 19,798
Other 6,841 7,889
Trading securities owned 106,890 79,120
Secured demand note collateralized by marketable securities 15,000 --
Land, buildings, and improvements, net 3,618 4,185
Office facilities and equipment, net 8,630 7,391
Goodwill and intangible assets 12,417 12,910
Other assets 39,065 32,598
--------- ---------
$ 676,785 $ 626,708
========= =========
Liabilities and Shareholders' Equity
Short-term borrowings:
Checks payable $ 19,313 $ 23,330
Securities repurchase agreements 71,562 20,568
Borrowings under matched securities repurchase agreements 6,629 12,535
Payables:
Customers 326,199 321,457
Brokers and dealers 28,210 6,793
Other 3,937 11,058
Accrued compensation and benefits 33,081 29,970
Securities sold but not yet purchased 24,350 67,330
Notes payable 3,338 5,270
Other liabilities and accrued expenses 29,789 23,376
--------- ---------
546,408 521,687
--------- ---------
Minority interests 22 208
--------- ---------
Long-term debt:
Senior secured note 16,000 16,000
Secured demand note 15,000 --
--------- ---------
31,000 16,000
--------- ---------
Common stock 1,433 1,433
Additional paid-in-capital 37,481 36,549
Retained earnings 73,613 63,595
--------- ---------
112,527 101,577
Less: treasury stock, at cost (13,172) (12,764)
--------- ---------
Total shareholders' equity 99,355 88,813
--------- ---------
$ 676,785 $ 626,708
========= =========
The accompanying notes are an integral part of the condensed consolidated
financial statements.
Page 3
INTERSTATE/JOHNSON LANE, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
For the Nine Months For the Three Months
Ended June 30, Ended June 30,
(All dollars in thousands) (All dollars in thousands)
1998 1997 1998 1997
---------- --------- -------- ---------
Revenues:
Agency commissions $ 88,973 $ 73,292 $ 30,287 $ 24,945
Principal transactions:
Sales credits 56,067 40,459 19,211 13,603
Trading gains, net 5,203 6,414 1,616 1,885
Investment banking and underwriting 6,549 4,497 2,264 1,214
Asset management and advisory 15,148 9,470 6,084 3,632
Interest 28,811 25,550 9,859 8,916
Other 8,632 5,991 3,178 1,922
---------- --------- -------- ---------
Total revenues 209,383 165,673 72,499 56,117
Interest expense 16,479 14,726 5,385 5,088
---------- --------- -------- ---------
Net revenues 192,904 150,947 67,114 51,029
---------- --------- -------- ---------
Expenses:
Compensation and benefits 132,274 98,883 46,044 33,336
Technology and telephone 14,074 13,572 4,733 4,818
Occupancy 7,341 7,005 2,539 2,342
Execution, clearance and depository 3,542 3,166 1,242 1,157
Promotion and development 6,727 6,096 2,446 2,238
Professional services 3,791 2,955 1,286 896
Printing, postage and supplies 3,842 3,027 1,372 1,028
Other operating expenses 4,380 3,962 1,479 1,157
---------- --------- -------- ---------
Total expenses 175,971 138,666 61,141 46,972
---------- --------- -------- ---------
Income before income taxes 16,933 12,281 5,973 4,057
Income tax expense 6,265 4,716 2,210 1,508
---------- --------- -------- ---------
Net Income $ 10,668 $ 7,565 $ 3,763 $ 2,549
========== ========= ======== =========
Earnings per share:
Basic $ 1.79 $ 1.30 $ 0.63 $ 0.43
========== ========= ======== =========
Diluted $ 1.59 $ 1.22 $ 0.54 $ 0.40
========== ========= ======== =========
Weighted average shares:
Basic 5,968,340 5,803,666 5,989,838 5,963,803
========== ========= ========= =========
Diluted 6,717,541 6,201,998 6,920,049 6,424,263
========== ========= ========= =========
The accompanying notes are an integral part of the condensed consolidated
financial statements.
Page 4
INTERSTATE/JOHNSON LANE, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
For the nine months ended June 30,
(UNAUDITED)
(All dollars in thousands)
1998 1997
-------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
- --------------------------
Net income $ 10,668 $ 7,565
-------- --------
Adjustments to reconcile net income to cash provided by operating activities:
Depreciation and amortization 3,911 5,669
Other non-cash items 34 854
-------- --------
3,945 6,523
-------- --------
Changes in operating assets and liabilities:
Cash and securities segregated for
regulatory purposes 90,001 2,455
Loans under matched securities resale and repurchase agreements, net 7 (3)
Customers receivables and payables, net (103,374) (13,513)
Brokers, dealers and clearing receivables and payables, net 14,006 18,954
Other receivables 1,047 (2,702)
Trading securities owned, net (70,750) (29,765)
Other assets (6,475) (4,419)
Accrued compensation and benefits 3,111 846
Other liabilities and accrued expenses 1,029 4,864
-------- --------
(71,398) (23,283)
-------- --------
Cash used by operating activities (56,785) (9,195)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
- --------------------------
Proceeds from (repayment of ):
Short-term bank borrowings (4,016) 1,938
Borrowings under securities repurchase and resale agreements, net 92,580 15,006
Notes payable (1,932) (703)
Senior secured note - 16,000
Retirement of subordinated debentures - (15,980)
Proceeds from stock options exercised 33 215
Purchase of stock for treasury (1,595) (1,954)
Dividends paid (923) (728)
-------- --------
Cash provided by financing activities 84,147 13,794
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
- --------------------------
Capital expenditures (3,681) (2,522)
-------- --------
Cash used by investing activities (3,681) (2,522)
-------- --------
Net increase in cash and cash equivalents 23,681 2,077
Cash and cash equivalents at beginning of period 24,685 37,285
-------- --------
Cash and cash equivalents at end of period $ 48,366 $ 39,362
======== ========
Cash paid during the period for:
Interest $ 15,617 $ 14,552
Income taxes $ 13,726 $ 7,233
Non-cash financing activity:
Secured demand note $ 15,000 -
Conversion of subordinated debentures into common stock - 5,012
The accompanying notes are an integral part of the condensed consolidated
financial statements.
Page 5
INTERSTATE/JOHNSON LANE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION:
The interim financial statements are unaudited; however, such information
reflects all normal recurring adjustments which, in the opinion of
management, are necessary for a fair presentation of the results for the
period. The nature of the Company's business is such that the results of any
interim period are not necessarily indicative of results for a full fiscal
year.
Certain 1997 amounts have been reclassified for comparative purposes in
1998.
2. NET CAPITAL REQUIREMENTS:
As a registered broker-dealer and member of the New York Stock Exchange
("NYSE"), Interstate/Johnson Lane Corporation ("IJL"), the principal
operating subsidiary of the Company, is subject to the Securities and
Exchange Commission's uniform net capital rule. IJL has elected to operate
under the alternative method of the rule, which prohibits a broker-dealer
from engaging in any transactions when its "net capital" is less than 2% of
its "aggregate debit balances" arising from customer transactions, as these
terms are defined in the rule. The NYSE may also impose business restrictions
on a member firm if its net capital falls below 5% of its aggregate debit
balances. IJL is also subject to the Commodity Futures Trading Commission's
minimum net capital requirement.
As of June 30, 1998, IJL's net capital was 14% of its aggregate debit
balances and approximately $49.4 million in excess of its minimum regulatory
requirements.
Page 6
INTERSTATE/JOHNSON LANE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
3. COMMITMENTS AND CONTINGENCIES:
Leases for office space and equipment are accounted for as operating leases.
Approximate minimum rental commitments under noncancelable leases, some of
which contain escalation clauses and renewal options, are as follows:
Millions
--------
For the three months ended September 30, 1998 $2.8
For the fiscal year ended September 30,
1999 7.6
2000 6.9
2001 4.5
2002 4.2
2003 4.0
Thereafter 22.8
-------
$ 52.8
=======
4. LEGAL PROCEEDINGS:
The Company is involved in certain litigation arising in the ordinary course
of business. While some actions seek substantial damages, management
believes, based upon discussion with counsel, that the outcome of this
litigation will not have a material effect on the Company's financial
position. The materiality of these legal matters to the Company's future
operating results depends on the level of future results of operations as
well as the timing and ultimate resolution of such legal matters.
Page 7
INTERSTATE/JOHNSON LANE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
5. FINANCIAL INSTRUMENTS WITH OFF-BALANCE-SHEET RISK:
IJL's business activities involve the execution, settlement and financing of
securities transactions generating accounts receivable, and thus may expose
IJL to financial risk in the event a client or other counterparty is unable
to fulfill its contractual obligations. IJL controls the risk associated with
collateralized loans by revaluing collateral at current prices, monitoring
compliance with applicable credit limits and industry regulations, and
requiring the posting of additional collateral when appropriate.
Obligations arising from financial instruments sold short in connection with
its normal trading activities expose IJL to risk in the event market prices
increase, since it may be obligated to repurchase those positions at a
greater price. IJL's short selling primarily involves debt securities, which
are typically less volatile than equities or options in periods of stable
interest rates.
Forward and futures contracts provide for the seller agreeing to make
delivery of securities or other instruments at a specified future date and
price. Risk arises from the potential inability of counterparties to honor
contract terms and from changes in values of the underlying instruments. At
June 30, 1998, IJL's commitments included forward purchase and sale contracts
involving mortgage-backed securities with long market values of $55.4 million
and short market values of $55.4 million, and futures purchase and sale
contracts with long markets values of $600,000 and short market values of
$13.5 million used primarily to hedge municipal bond trading inventories.
While the Company may from time to time participate in the trading of some
derivative securities for its clients, this trading is not a significant
portion of the Company's business.
IJL enters into resale agreements, whereby it lends money by purchasing U.S.
government/agency or mortgage-backed securities from clients or dealers with
an agreement to resell them to the same clients or dealers at a later date.
Such loans are collateralized by the underlying securities, which are held in
custody by IJL and may be converted into cash at IJL's option. In addition,
IJL monitors the market value of the collateral and issues margin calls as
necessary according to the creditworthiness of the borrower. Approximately
92% of all loans under securities resale agreements at June 30, 1998 were
made to four counterparties.
IJL incurs risk in underwriting public securities offerings to the extent
that prospective buyers fail to purchase the securities. The Company attempts
to mitigate this risk through due diligence carried out prior to undertaking
the contractual obligation.
Page 8
INTERSTATE/JOHNSON LANE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
6. NEW ACCOUNTING PRONOUNCEMENT:
On June 15, 1998, the Financial Accounting Standards Board ("FASB") issued
Statements of Financial Standards No. 133, ACCOUNTING FOR DERIVATIVE
INSTRUMENTS AND HEDGING ACTIVITIES (FAS 133). FAS 133 is effective for all
fiscal quarters of all fiscal years beginning after June 15, 1999 (October 1,
1999 for the Company). FAS 133 requires that all derivative instruments be
recorded on the balance sheet at their fair value. Changes in the fair value
of derivatives are recorded each period in current earnings or other
comprehensive income, depending on whether a derivative is designated as part
of a hedge transaction and, if it is, the type of hedge transaction.
Management of the Company anticipates that, due to its limited use of
derivative instruments, the adoption of FAS 133 will not have a significant
effect on the Company's results of operations or its financial position.
Page 9
INTERSTATE/JOHNSON LANE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
GENERAL BUSINESS ENVIRONMENT
The Company's principal activities -- securities brokerage for individual
(retail) and institutional investors, market-making in equity and fixed-income
securities, investment banking and underwriting, and investment management and
advisory services -- are highly competitive. Acquisitions of investment firms by
commercial banks, insurance companies, and other financial services entities
have intensified this competition. Many of the Company's revenue sources are
sensitive to marketplace trading volumes and to interest rate conditions, both
of which can be cyclical and volatile. As a result, revenues and earnings may
vary significantly from quarter to quarter.
The profitability of the Company is sensitive to many factors. Among the most
important factors is the level of securities trading volume and the volatility
and general level of market prices. The energized securities markets of recent
years have contributed substantially to the Company's success. A slowdown in
individual investor activity will have adverse effects upon profitability. The
probability and timing of such a slow down is impossible to predict.
LIQUIDITY AND CAPITAL RESOURCES
The Company's net cash position increased $23.7 million for the nine months
ended June 30, 1998. Operating activities consumed $71.4 million of cash, partly
funded by $14.6 million of net income adjusted for depreciation and other
non-cash charges. Financing activities provided $84.1 million of cash while
capital expenditures used $3.7 million.
The Company's asset base consists primarily of cash, cash equivalents, and other
assets which can be converted to cash within one year; at June 30, 1998 these
assets comprised approximately 88% of the statement of financial condition.
Day-to-day financing requirements generally are influenced by the level of
securities inventories, net receivables from customers and broker-dealers, and
net receivables under resale agreements. Significant incremental cash
requirements also may occur from time to time in connection with payments under
deferred compensation plans, repurchase of the Company's common stock, funding
of new business unit activities, payment of dividends, and litigation
settlements arising from normal business operations.
Page 10
INTERSTATE/JOHNSON LANE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED
LIQUIDITY AND CAPITAL RESOURCES, CONTINUED
At June 30, 1998, the Company had $155 million of unused call loan financing
available. In addition, the Company maintains credit lines of several hundred
million dollars for collateralizing repurchase agreements with other financial
institutions and has financed its customer receivables with customer payables
for many years. Management believes that these resources, funds provided by
operations, and permanent capital of shareholders' equity and long-term debt,
will satisfy normal financing needs for the foreseeable future.
The Company's principal broker-dealer subsidiary, Interstate / Johnson Lane,
Corporation ("IJL"), is subject to liquidity and capital requirements of the
Securities and Exchange Commission Commodity Futures Trading Commission, and The
New York Stock Exchange, and consistently has operated well in excess of the
minimum requirements. At June 30, 1998, IJL had net capital of $57.4 million,
"excess net capital" of approximately $49.4 million, and a net capital ratio of
14%.
RESULTS OF OPERATIONS
For the nine months ended June 30, 1998, net revenues increased $42.0 million
($16.1 million for the quarter), from the previous year, while expenses, other
than interest, increased $37.3 million ($14.2 million for the quarter). Net
income of $10.7 million was up $3.1 million or 41% from the results of the
nine-month period a year ago. Net income of $3.8 million for the current quarter
was up $1.2 million or 48% from the results of the quarter ended June 30, 1997.
Overall, agency commissions increased $15.7 million, or 21% from the same
nine-month period of a year ago and $5.3 million, or 21% for the quarter.
Increases in listed and over-the counter ("OTC") equity transactions, coupled
with increased sales of mutual funds, contributed to the majority of the
increase in the Private Client Group ("PCG") sector for both the nine and
three-month periods. Increased listed volume was the principal contributor to
the growth in the institutional sector for the same periods.
Page 11
INTERSTATE/JOHNSON LANE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS, CONTINUED
RESULTS OF OPERATIONS, CONTINUED
In principal business, sales credits increased $15.6 million, or 39%, over the
same nine month period of a year ago and $5.6 million, or 41% for the quarter,
due to strong growth in institutional fixed income products, primarily
mortgage-backed securities and corporate bonds. Increases in sales of new equity
issues and unit trusts helped spur sales credits in the PCG sector for the same
periods. Net trading gains decreased $1.2 million, or 19%, over the same nine
month period last year primarily from a decline in OTC trading and tax exempt
securities, offset somewhat by increases in listed stocks and options. For the
current quarter, net trading gains decreased $269,000, or 14% due to a decrease
in the trading profits of tax exempt securities. This was offset by an increase
in trading profits of listed stocks and options.
Investment banking fees and underwriting profits increased $2.1 million, or 46%
($1.1 million or 87% for the quarter), over the same nine month period due to an
improved capital raising environment coupled with an increased level of managed
underwritings. Asset management and advisory fees were up $5.7 million and $2.5
million for the comparable nine and three month periods, respectively, due to
the continued growth of asset-based fees charged retail clients in lieu of
transaction-based commissions. Other income increased $2.6 million over the
comparable nine-month period a year ago ($1.3 million for the quarter) primarily
as the result of the disposition of the Company's interest in certain real
estate ventures and increases in various types of fee income.
Interest revenues were up about $3.3 million, while interest expense increased
$1.8 million, for the nine months ended June 30, 1998 compared to the
corresponding period a year ago. For the quarter, interest revenues were up
$943,000 while interest expenses increased $297,000. The resultant increase of
$1.5 million and $646,000 in net interest income for the nine and three month
periods respectively is due primarily to an increase in net interest earned on
higher levels of client margin loans.
Compensation and benefits costs increased $33.4 million, or 34% for the
nine-month period ended June 30, 1998 ($12.7 million for the quarter), due
primarily to an increase in both revenue-based commissions and profit-driven
incentives, and to personnel investments in several revenue-producing areas.
Execution, clearance and depository costs increased $376,000 for the nine-month
period due primarily to the increase in listed transactions. Promotion and
development costs increased $631,000 over the same nine-month period a year ago
due to travel related costs associated with the increased revenue. Professional
services increased $836,000 for the nine month period and $390,000 for the
quarter, due primarily to an increase in portfolio supervision expenses paid to
outside money managers. Printing, postage and supplies costs increased $815,000
and $344,000 for the nine and three month periods respectively due to increases
in transaction volume and expenses for office equipment associated with the
opening of new offices. Other operating expenses were $418,000 higher for the
nine-month period and $322,000 for the quarter due to an increase in fees
waived and various bad debt expenses.
Page 12
PART II. OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS
The Company is involved in certain litigation arising in the ordinary course
of business. While some actions seek substantial damages, management
believes, based upon discussion with counsel, that the outcome of this
litigation will not have a material effect on the Company's financial
position. The materiality of these legal matters to the Company's future
operating results depends on the level of future results of operations as
well as the timing and ultimate resolution of such legal matters.
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Designation of Exhibit Sequential
in this Report Description Page Number
-------------- ----------- -----------
11 Statement Regarding
Computation of Per
Share Earnings 15
(b) Reports on Form 8-K
There were no reports on Form 8-K filed for the nine months ended
June 30, 1998.
Page 13
INTERSTATE/JOHNSON LANE, INC.
AND CONSOLIDATED SUBSIDIARIES
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.
INTERSTATE/JOHNSON LANE, INC.
Registrant
Signature Title Date
--------- ----- ----
/s/ James H. Morgan President, Chief
-------------------------
James H. Morgan Executive Officer,
and Chairman of the
Board of Directors August 14, 1998
/s/ Lewis F. Semones, Jr. Chief Financial Officer
-------------------------
Lewis F. Semones, Jr. (Principal Financial
Officer) August 14, 1998
/s/ C. Fred Wagstaff, III Assistant Vice President
-------------------------
C. Fred Wagstaff, III (Principal Accounting
Officer) August 14, 1998
Page 14