UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
-------------
FORM 10-Q/A
Amendment No. 1
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 2005
Commission File Number: 1-16349
INVESTORS CAPITAL HOLDINGS, LTD.
(Exact name of registrant as specified in its charter)
MASSACHUSETTS 04-3284631
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
230 Broadway E.
Lynnfield, Massachusetts 01940
(Address of principal executive offices)
(781) 593-8565
(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 such shorter period that the registrant was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
Number of shares outstanding of our only class of common stock as of February 9,
2006: 5,794,246
EXPLANATORY NOTE
This amendment is filed to revise our report on Form 10-Q for the quarter
ended December 31, 2005 regarding: (i) disclosures concerning legal proceedings
in Part I, Item 1. "Financial Statements -- Note 3 to the Consolidated Financial
Statements" and Part II, Item 1. "Legal Proceedings"; (ii) financial schedules
in Part I, Item 2. "Management's Discussion And Analysis -- Results Of
Operations"; and (iii) certifications in Exhibits 31.1 and 31.2.
Contents
PART I FINANCIAL INFORMATION.................................................3
ITEM 1. Financial Statements..................................................3
ITEM 2. Management's Discussion And Analysis Of Financial
Condition And Results Of Operations .................................21
ITEM 3. Quantitative and Qualitative Disclosures
About Market Risk....................................................35
ITEM 4. Controls and Procedures..............................................35
PART II OTHER INFORMATION....................................................36
ITEM 1. Legal Proceedings....................................................36
ITEM 6. Exhibits.............................................................37
SIGNATURES
EX-31.1
EX-31.2
EX-32.1
EX-32.2
2
PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
3
INVESTORS CAPITAL HOLDINGS, LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
UNAUDITED
December 31, March 31,
2005 2005
----------- -----------
Assets
Current Assets
Cash and cash equivalents $ 8,953,767 $ 8,618,261
Deposit with clearing organization, restricted 175,000 175,000
Note receivable - sale of asset (current) 8,336
Accounts receivable 3,582,460 3,003,459
Accounts receivable - asset held for sale - 358,050
Loans receivable from registered representatives (current) 376,562 173,875
Prepaid income taxes 94,089 100,889
Marketable securities, at market value 109,625 330,380
Prepaid expenses 385,992 247,421
----------- -----------
13,685,831 13,007,335
Property and Equipment, Net 716,433 571,198
Long Term Investments
Loans receivable from registered representatives 230,196 77,270
Note receivable - sale of asset 747,617
Equity investments, at cost 190,000 40,000
Investments 146,429 142,816
Cash surrender value life insurance policies 163,278 91,882
----------- -----------
1,477,520 351,968
Other Assets
Other assets 22,276 29,666
Deferred tax asset, net 129,451 149,471
----------- -----------
151,727 179,137
TOTAL ASSETS $16,031,511 $14,109,638
=========== ===========
Liabilities and Stockholders' Equity
Current Liabilities
Accounts payable $ 1,500,235 $ 1,045,314
Commissions payable 2,209,740 1,885,340
Accrued expenses 104,610 552,088
Notes payable - 9,433
Unearned revenues 1,803,130 106,775
Securities sold, not yet purchased, at market value 36,098 327,905
----------- -----------
5,653,813 3,926,855
TOTAL LIABILITIES 5,653,813 3,926,855
------------ -----------
Commitments and Contingencies
Stockholders' Equity:
Common stock, $.01 par value, 10,000,000 shares authorized; 5,792,746
issued and 5,788,861 outstanding in December 31,2005; 5,757,348
issued and 5,753,463 outstanding in March 31, 2005 57,927 57,573
Additional paid-in capital 8,728,896 8,691,566
Retained earnings 1,614,024 1,463,779
less: Treasury stock, 3,885 shares at cost (30,135) (30,135)
Accumulated Other Comprehensive Income 6,986
----------- ------------
Total stockholders' equity 10,377,698 10,182,783
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $16,031,511 $14,109,638
=========== ===========
See Notes to Condensed Consolidated Financial Statements.
4
INVESTORS CAPITAL HOLDINGS, LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
UNAUDITED
Three Months Ended
December 31,
2005 2004
------------ ------------
Revenues
Commission $14,944,156 $11,965,568
Advisory fees 1,313,676 904,241
Other fee income 384,766 305,681
Marketing revenue,net 202,639 153,453
Other income 159,179 251,918
------------ ------------
Total Revenue 17,004,416 13,580,861
Commission and advisory fees expenses 13,204,912 10,527,798
------------ ------------
Gross profit 3,799,504 3,053,063
Operating expenses:
Advertising 201,912 179,561
Communications 159,127 137,802
----------- -----------
Total Selling Expenses 361,039 317,363
Compensation and benefits 1,537,058 1,435,213
Regulatory, legal and professional 1,137,663 325,244
Occupancy 168,328 151,606
Other administrative expenses 270,890 208,880
----------- -----------
Total Administrative Expenses 3,113,939 2,120,943
Total Operating Expenses 3,474,978 2,438,306
----------- -----------
Operating Income 324,526 614,757
Other expense and other income :
Gain on sale of asset 91,313 -
----------- -----------
Total other income 91,313 -
Interest expense 8,992 8,218
----------- -----------
Total other expense 8,992 8,218
------------ ------------
Income before taxes 406,847 606,539
Provision for income taxes 205,363 251,316
----------- -----------
Net Income $ 201,484 $ 355,223
=========== ===========
Earnings per common share:
Basic earnings per common share $ 0.03 $ 0.06
Diluted earnings per common share $ 0.03 $ 0.06
Share data:
Weighted average shares used in basic earnings per
common share calculations 5,767,801 5,736,916
Incremental shares from assumed exercise of stock options 134,836 171,466
Weighted average shares used in diluted earnings per
common share calculations 5,902,637 5,908,382
See Notes to Condensed Consolidated Financial Statements.
5
INVESTORS CAPITAL HOLDINGS, LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
UNAUDITED
Nine Months Ended
December 31,
2005 2004
----------- -----------
Revenues
Commission $42,671,689 $35,853,473
Advisory fees 3,769,457 2,711,173
Other fee income 586,644 727,353
Marketing revenue,net 872,173 706,869
Other income 467,934 337,379
----------- -----------
Total Revenue 48,367,897 40,336,247
Commission and advisory fees expenses 38,495,624 32,416,497
------------ ------------
Gross profit 9,872,273 7,919,750
Operating expenses:
Advertising 626,575 583,438
Communications 460,561 379,756
----------- -----------
Total Selling Expenses 1,087,136 963,194
Compensation and benefits 4,656,097 4,065,595
Regulatory, legal and professional 2,486,521 1,049,054
Occupancy 492,310 433,891
Other administrative expenses 699,730 659,206
----------- -----------
Total Administrative Expenses 8,334,658 6,207,746
Total Operating Expenses 9,421,794 7,170,940
------------ ------------
Operating income 450,479 748,810
Other expense and Other income:
Gain on sale of Asset 91,313 -
----------- -----------
Total other income 91,313 -
Interest expense 27,843 32,091
----------- -----------
Total other expense 27,843 32,091
Income before taxes 513,949 716,719
Provision for income taxes 248,076 306,977
------------ ------------
Net income $ 265,873 $ 409,742
=========== ===========
Earnings per common share:
Basic earnings per common share $ 0.05 $ 0.07
Diluted earnings per common share $ 0.04 $ 0.07
Share data:
Weighted average shares used in basic earnings per
common share calculations 5,759,003 5,732,367
Incremental shares from assumed exercise of stock options 156,851 185,882
Weighted average shares used in diluted earnings per
common share calculations 5,915,854 5,918,249
See Notes to Condensed Consolidated Financial Statements.
6
INVESTORS CAPITAL HOLDINGS, LTD. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDER'S EQUITY
NINE MONTHS ENDED December 31, 2005
Common Amount Additional Comprehensive Retained Treasury Accumulated
Stock Paid-In Income Earnings Stock Other
Shares Capital (Deficit) Comprehensive Total
Income (Loss)
- ---------------------------------------------------------------------------------------------------------------------------------
------------------------------------------------------------------------------------------------
Balance at April 1, 2004 5,731,598 $57,316 $8,520,931 $ 0 $ 844,670 $(30,135) $ 12,157 $ 9,404,939
================================================================================================
Stock based compensation 10,700 107 74,803 74,910
Comprehensive income:
Net income 409,742 409,742
Other Comprehensive Income:
Unrealized gain on securities:
unrealized holding losses arising
during period no tax effect (385)
Less: reclassification adjustment
for gain included in net income no tax
effect (11,772)
-------------
Other Comprehensive Income (12,157) (12,157)
------------- -----------
Comprehensive Income 397,585 397,585
=============
------------------------------------------------------------------------------------------------
Balance at December 31, 2004 5,742,298 $57,423 $8,595,734 $ 0 $1,254,412 $(30,135) $ 0 $ 9,877,434
================================================================================================
Balance at April 1, 2005 5,757,348 $57,573 $8,691,566 $1,463,779 $(30,135) $10,182,783
Stock based compensation 35,398 354 37,330 37,684
Comprehensive income:
Net income 265,873 265,873
Other Comprehensive Income:
Unrealized gain on securities: -
Unrealized holding gains arising
during period no tax effect 6,986
no reclassification adjustment
required -
-------------
Other Comprehensive Income 6,986 6,986
------------- -----------
Comprehensive Income 272,859 272,859
=============
Dividend payment to
shareholders (115,628) (115,628)
------------------------------------------------------------------------------------------------
Balance at December 31, 2005 5,792,746 $57,927 $8,728,896 $ 0 $1,614,024 $(30,135) $ 6,986 $10,377,698
================================================================================================
See Notes to Condensed Consolidated Financial Statements.
7
INVESTORS CAPITAL HOLDINGS, LTD AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
UNAUDITED
Cash Flows
Nine Months Ended
December 31,
2005 2004
----------- -----------
Cash flows from operating activities:
Net income $ 265,873 $ 409,742
Adjustments in operating activities:
Depreciation and amortization 157,473 125,337
Change in deferred taxes 20,021 5,458
Issuance of unrestricted stock 19,263 45,640
Issuance of restricted stock 2,567 -
Stock option compensation 11,614 11,899
Change in marketable securities (71,052) 37,967
Change in investments 3,373 (22,265)
Changes in operating assets and liabilities:
(Increase)Decrease in accounts receivable (579,001) 386,752
Decrease(Increase) in accounts receivable-asset held for sale (397,903) (111,314)
(Increase)Decrease prepaid expenses and other assets (131,181) 159,139
Decrease in loans receivable from officers - 27,322
Decrease(Increase) in prepaid income taxes 6,801 -
Increase(decrease) in taxes payable - (482,874)
(Decrease) increase in accounts payable 454,921 183,996
(Decrease) in accrued expenses (447,478) (343,007)
Increase(Decrease) in commissions payable 324,399 (558,641)
Payments on notes payable and NASD settlement - (148,679)
Increase in unearned revenues 1,696,354 1,583,010
(Increase) in Cash Surrender Value of Life Insurance Policies (71,396)
----------- -----------
Net cash (used in)provided by operating activities 1,264,648 1,309,482
Cash flows from investing activities:
Purchases of property and equipment (302,708) (195,480)
Loans receivable from registered representatives (355,612) (211,961)
Investments (150,000) -
----------- -----------
Net cash used in investing activities (808,320) (407,441)
Cash flows from financing activities:
Proceeds from exercise of stock options 4,240 17,372
Principal payment notes payable (9,433) (62,624)
Payment of cash dividends (115,629) -
----------- -----------
Net cash used in financing activities (120,822) (45,252)
Net (decrease)increase in cash and cash equivalents 335,506 856,789
Cash and cash equivalents, beginning of period 8,618,261 8,112,567
-----------------------
Cash and cash equivalents, end of period $8,953,767 $8,969,356
=======================
Supplemental disclosures of cash flow information:
Interest paid $ 27,843 $ 32,091
Income taxes paid $ 217,256 $ 780,000
Non- Cash Transactions:
Financing Sale Accounts Receivable $ 747,617 $ -
See Notes to Condensed Consolidated Financial Statements.
8
INVESTORS CAPITAL HOLDINGS, LTD. AND SUBSIDIARIES
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE QUARTER ENDED DECEMBER 31, 2005
(UNAUDITED)
NOTE 1. ORGANIZATION, BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES
ORGANIZATION
Incorporated in July 1995, Investors Capital Holdings, Ltd. ("ICH") is a
financial services holding company that operates through three of its
subsidiaries, Investors Capital Corporation ("ICC"), Eastern Point Advisors,
Inc. ("EPA") and ICC Insurance Agency, Inc., in two segments of the financial
services industry. These two segments provide for the offering of (1)
broker-dealer services in support of trading in corporate equity and debt
securities, U.S. Government securities, municipal securities, mutual funds,
variable annuities and variable life insurance, including provision of market
information, Internet on-line trading, portfolio tracking and records
management, and (2) investment advisory and asset management services. These
products and services are offered throughout the United States primarily through
our network of independent registered representatives.
Investors Capital Holdings Securities Corporation ("ICH Securities"), a new
subsidiary, was formed in March 2005 to hold cash, cash equivalents, interest
income and dividend income for ICH. Additionally, the Company ceased its mutual
fund management services, which had been provided by EPA, during the third
quarter of the current fiscal year. See "Note 5. Note Receivable - Sale of
Asset."
On October 24, 2005 Eastern Point Advisors, Inc. ("EPA"), a wholly-owned
subsidiary of Investors Capital Holdings, Ltd. (the "Company"), entered into a
definitive agreement (the "Transition Agreement") with Dividend Growth Advisors,
LLC ("DGA"). Pursuant to the Transition Agreement, EPA agreed to terminate its
Investment Advisory Agreement with Eastern Point Advisors Funds Trust (the
"Trust") effective October 18, 2005 to permit the appointment by the Trust of
DGA to supercede EPA as the Trust's investment advisor. EPA had served since
1999 as investment advisor for the Funds, which are sponsored by the Trust, and
DGA had provided investment advisory services to the Trust since 2004 pursuant
to a subcontract with EPA. DGA entered into a new advisory agreement directly
with the Trust.
BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements of
Investors Capital Holdings, Ltd. and its subsidiaries (the "Company") have been
prepared in accordance with accounting principles generally accepted in the
United States of America (GAAP) for interim financial information and with the
instructions to Form 10-Q. In the opinion of management, these financial
statements contain all of the adjustments necessary for a fair presentation of
the results of these interim periods. Certain footnote disclosures normally
included in financial statements prepared in accordance with GAAP have been
condensed or omitted, although the Company believes the disclosures in these
financial statements are adequate to make the information presented not
misleading. Operating results for the three-month and nine-month periods ended
December 31, 2005 are not necessarily indicative of the results that may be
expected for the year ending March 31, 2006. The balance sheet at March 31, 2005
has been derived from the audited financial statements at that date, but does
not include all of the information and footnotes required by GAAP for complete
financial statements. These unaudited condensed consolidated financial
statements should be read in conjunction with the Company's annual audited
financial statements included in the Company's Form 10-K for the fiscal year
ended March 31, 2005 filed with the Securities and Exchange Commission.
9
USE OF ESTIMATES
The preparation of financial statements in conformity with GAAP requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities as of the date of the financial statements and the
reported amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates.
10
INVESTORS CAPITAL HOLDINGS, LTD. AND SUBSIDIARIES
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE QUARTER ENDED DECEMBER 31, 2005
(UNAUDITED)
NOTE 1. ORGANIZATION, BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES
(continued)
RECLASSIFICATIONS
Certain amounts in the prior periods have been reclassified to remain
consistent with the current fiscal year financial statement presentation.
SIGNIFICANT ACCOUNTING POLICIES
Revenue Recognition
The Company has established revenue recognition policies for each of its
income items including Mutual Funds/Variable Annuities, Trading, Advisory Fees,
Administration Fees on Errors and Omissions ("E&O") and Renewals, and Marketing
Revenues on production and for regional and national events. A description of
the revenue recognition process related to each category is presented below. The
revenue recognition policies the Company maintains are in compliance with SEC
Staff Accounting Bulletin ("SAB") 104 "Revenue Recognition in Financial
Statements".
Mutual Funds/Variable Annuities. The Mutual Funds/Variable Annuity revenue
is recognized upon receipt of commissions related to each sale, which generally
is settled on the trade date. The earnings process is substantially complete at
the point that the fund company distributes payment to the Company.
Trading. The Company earns commissions through stock purchases and sale
transactions, mutual fund purchases, government and corporate bonds
transactions, fee-based managed accounts, and ticket charges. The Company also
earns revenue in the form of 12b1 fees and interest on account balances. The
earnings process is substantially complete at trade date in accordance with the
rules of the National Association of Securities Dealers ("NASD") and the
Securities and Exchange Commissions ("SEC").
The Company also receives credit adjustments for clearing charge
adjustments that are netted against any clearing charges the Company may incur
for the period. These adjustments are recognized as income in the period
received unless otherwise noted by the clearing firm.
Unrealized gains and losses are recorded at the time that the Company
reconciles its trading positions with the market value. The unrealized gains or
losses are adjusted to market until the position is settled or the trade is
cancelled.
Advisory Fees. Our managed accounts advisory fees are based on the amount
of assets managed per agreement between the advisor and the advisor's client.
These revenues are recorded quarterly as and when billed, and any portion
remaining uncollected at the end of the subsequent quarter are charged against
earnings at that time.
11
INVESTORS CAPITAL HOLDINGS, LTD. AND SUBSIDIARIES
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE QUARTER ENDED DECEMBER 31, 2005
(UNAUDITED)
NOTE 1. ORGANIZATION, BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES
(continued)
Advisory fees relating to the management of mutual funds have been based on
average daily net fund assets as specified in the Company's advisory agreement
and disclosed in the funds' prospectuses. These fees have been recognized
monthly based on the fund Trustee's administrative fee report detailing the
amounts that were earned for the month. The Company in the past has elected to
waive certain of these fees to allow for one of the funds to maintain its
ceiling on administrative expenses. Per agreement with the trustee of the funds,
the waived fees have been subject to a three-year recovery period, at the end of
which any uncollected fees have been permanently waived and, consequently,
charged against earnings. Effective October 18, 2005, the Company ceased its
mutual funds advisory services, and its successor as fund advisor has agreed to
pay to the Company all such waived amounts with interest. See "Note 5. Note
Receivable - Sale of Asset."
Administration Fees. Administration fees for services rendered to its
representatives respecting annual NASD license renewals and E&O insurance are
recognized as revenue upon registration of the representative with NASD and
listing of the registered representative with the E&O insurance carrier. The
funds received from the registered representative are initially recorded as
unearned revenue. The amounts, if any, collected in excess of the E & O
insurance premium and/or fees due NASD are recognized as revenue.
Marketing Revenue. Revenue from marketing associated with product sales is
recognized quarterly based on production levels. Marketing event revenues are
recognized at the commencement of the event offset by its costs.
Accounts Receivable - Allowance for Doubtful Accounts
Our policies for determining whether a receivable is considered
uncollectible are as follows.
Loans to representatives. In accordance with SFAS No. 5, we perform
periodic credit evaluations and provide allowance based on our assessment of
specifically identified unsecured receivables and other factors, including the
representative's payment history. Once it is determined that it is both probable
that a loan has been impaired and the amount of loss can reasonably be
estimated, the portion of the loan balance estimated to be uncollectible is so
classified and written off.
Advisory fees from our mutual funds. As disclosed in the respective mutual
funds' prospectuses, the Company has attempted to recoup all waived advisory
service fees within a three-year period. If management believed that the
likelihood of collecting that receivable within the three-year period was
doubtful, then the Company provided for an allowance in accordance with SFAS No.
5. Determinations whether to write off such fees were made annually. Effective
October 18, 2005, the Company no longer provides advisory services to mutual
funds and is entitled to payment of all previously waived advisory fees by its
successor as fund advisor. See "Note 5. Note Receivable - Sale of Asset."
Trade receivables. As prescribed by the SEC, trade receivables usually
settle within three days. If a trade error results, the Company will pursue
remedies to collect on that trade error. The Company does not record a
receivable resulting from a trade error that is in litigation or whose outcome
is otherwise not reasonably determinable. In such a case, the Company applies
any proceeds from settlements or insurance against any trade losses incurred.
12
INVESTORS CAPITAL HOLDINGS, LTD. AND SUBSIDIARIES
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE QUARTER ENDED DECEMBER 31, 2005
(UNAUDITED)
NOTE 1. ORGANIZATION, BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES
(continued)
Income Taxes
The Company provides for income taxes at the end of each interim period
based on the estimated effective tax rate for the full fiscal year. Cumulative
adjustments to the tax provision are recorded in the interim period in which a
change in the estimated annual effective rate is determined.
NOTE 2. SEGMENT INFORMATION
The accounting policies of the segments are described in the summary of
significant accounting policies. The Company evaluates performance based on
profit and loss from operations after income taxes.
The Company accounts for inter-segment services and transfers as if the
services or transfers were to third parties, that is, at current market prices.
The Company's reportable segments are strategic business units that offer
different services. They are managed separately because each business requires
different technology and marketing strategies.
The Company's reportable segments include investment services offered
through Investors Capital Corporation (ICC) and asset management services
offered through Eastern Point Advisors, Inc. (EPA). Asset management services
are also offered through ICC which, in addition to being a broker-dealer, is a
registered investment advisor doing business as Investors Capital Advisors
(ICA).
This investment services segment includes securities, insurance, financial
planning and related services. ICC earns commissions as a broker for its
customers in the purchase and sale of securities on major exchanges. Asset
management services generate recurring annual revenue from fees received on the
management of customer accounts.
EPA provides money management services to a variety of investors and, until
October 18, 2005, provided asset management and portfolio design services to two
mutual funds. ICA's primary mission is to offer clients investment advisory and
asset management procedures grounded on sound investment principles of asset
allocation, performance monitoring and portfolio rebalancing.
Under the guidelines of FAS 131 "Disclosures about Segments of an
Enterprise and Related Information", commencing with the quarter ended December
31, 2005, management began reporting its segments on a management approach
whereby our business is organized into segments reflecting the way we make
operating decisions and assess performance. Accordingly, ICA is now reported as
part of the asset management services segment. Segments are currently reported
based upon the services provided, whereas they were previously segmented
according to legal entity.
In presenting segment data, all corporate overhead items are allocated to
the segments, and inter-segment revenue, expense, receivables and payables are
eliminated. Currently it is impractical to report segment information using
geographical concentration.
Assets are allocated among ICH and its subsidiaries based upon legal
ownership and the services provided. Total period-end assets are presented in
this Note 2 on a stand-alone basis, i.e., without inter-company eliminations.
Corporate items and eliminations are presented in the following table for the
purpose of reconciling the stand-alone asset amounts to total consolidated
assets.
13
INVESTORS CAPITAL HOLDINGS, LTD. AND SUBSIDIARIES
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE QUARTER ENDED DECEMBER 31, 2005
(UNAUDITED)
NOTE 2. SEGMENT INFORMATION (CONTINUED)
Nine Months Ended
December 31,
2005 2004
-------------- --------------
Inter-company eliminations $ 2,521,036 $ 2,322,622
Classification items (stand alone) (219,565)
Deferred income taxes 64,962 45,727
Income Taxes (94,089) -
-------------- --------------
Total Corporate items and eliminations $ 2,272,344 $ 2,368,349
============== ==============
14
INVESTORS CAPITAL HOLDINGS, LTD. AND SUBSIDIARIES
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE QUARTER ENDED DECEMBER 31, 2005
(UNAUDITED)
NOTE 2. SEGMENT INFORMATION (CONTINUED)
Segment reporting is as follows:
Three Months Ended
December 31,
---------------------------
2005 2004
------------ ------------
Non-interest revenues:
ICC, investment services ................. $15,484,657 $12,503,994
EPA, ICA asset management services ....... 1,365,579 943,414
ICH investments (loss)gain ............... (6,998) 27,211
------------ ------------
Total ............................... $16,843,239 $13,474,619
============ ============
Revenues from transactions with other
operating segments:
ICC ...................................... $ (41,411) $ 263,710
EPA ...................................... 35,843 29,301
------------ ------------
Total ............................... $ (5,568) $ 293,011
============ ============
Interest and dividend income, net:
ICC ...................................... $ 113,521 $ 65,153
EPA,ICA .................................. 8,851 300
ICH ...................................... 225 40,790
ICH Securities ........................... 38,581 --
------------ ------------
Total ............................... $ 161,178 $ 106,243
============ ============
Depreciation and amortization expense:
ICC ...................................... $ 52,282 $ 42,685
EPA ...................................... 1,095 2,306
------------ ------------
Total ............................... $ 53,377 $ 44,991
============ ============
15
INVESTORS CAPITAL HOLDINGS, LTD. AND SUBSIDIARIES
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE QUARTER ENDED DECEMBER 31, 2005
(UNAUDITED)
NOTE 2. SEGMENT INFORMATION (CONTINUED)
Three Months Ended
December 31,
---------------------------
2005 2004
------------ ------------
Income tax provision (benefit):
ICC ......................................$ 287,050 $ 193,239
EPA,ICA .................................. 86,027 33,189
ICH ...................................... (167,714) 24,888
------------ ------------
Total ...............................$ 205,363 $ 251,316
============ ============
Income (loss):
ICC ......................................$ 281,592 $ 273,184
EPA,ICA .................................. 84,390 46,920
ICH ...................................... (203,059) 35,119
ICH Securities ........................... 38,561 --
------------ ------------
Total ...............................$ 201,484 $ 355,223
============ ============
Period end total assets:
ICC ......................................$ 11,721,616 $ 10,145,055
EPA,ICA .................................. 1,050,666 613,494
ICH ...................................... 664,532 5,684,044
ICH Securities ...........................$ 4,867,041 --
Corporate items and eliminations ......... (2,272,344) (2,368,349)
------------ ------------
Total ...............................$16,031,511 $14,074,244
============ ============
16
INVESTORS CAPITAL HOLDINGS, LTD. AND SUBSIDIARIES
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE QUARTER ENDED DECEMBER 31, 2005
(UNAUDITED)
NOTE 2. SEGMENT INFORMATION (CONTINUED)
Nine Months Ended
December 31,
---------------------------
2005 2004
------------ ------------
Non-interest revenues:
ICC, investment services ..............$ 44,147,259 $ 37,182,593
EPA,ICA asset management services ..... 3,912,215 2,836,276
ICH investments (loss)gain ............ (4,135) 22,214
------------ ------------
Total ............................ $48,055,339 $ 40,041,082
============ ============
Revenues from transactions with other
operating segments:
ICC ...................................$ 727,917 $ 822,625
EPA ................................... 121,324 91,403
------------ ------------
Total ............................$ 849,241 $ 914,028
============ ============
Interest and dividend income,net:
ICC ...................................$ 284,882 $ 171,486
EPA,ICA ............................... 9,381 504
ICH ................................... 9,377 123,175
ICH Securities ........................ 113,428 --
------------ ------------
Total ............................$ 417,068 $ 295,165
============ ============
Depreciation and amortization expense:
ICC ...................................$ 151,259 $ 118,958
EPA ................................... 6,214 6,379
------------ ------------
Total ............................$ 157,473 $ 125,337
============ ============
17
INVESTORS CAPITAL HOLDINGS, LTD. AND SUBSIDIARIES
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE QUARTER ENDED DECEMBER 31, 2005
(UNAUDITED)
NOTE 2. SEGMENT INFORMATION (CONTINUED)
Nine Months Ended
December 31,
---------------------------
2005 2004
------------ ------------
Income tax provision (benefit):
ICC ...................................$ 152,009 $ 162,214
EPA,ICA ............................... 214,510 85,909
ICH ................................... (118,443) 58,854
------------ ------------
Total ............................$ 248,076 $ 306,977
============ ============
Income (loss):
ICC ...................................$ 162,905 $ 216,527
EPA,ICA ............................... 229,886 114,672
ICH ................................... (240,315) 78,543
ICH Securities ........................ 113,397 --
------------ ------------
Total ............................$ 265,873 $ 409,742
=========== ===========
Period end total assets:
ICC ...................................$ 11,721,616 $ 10,145,055
EPA,ICA ............................... 1,050,666 613,494
ICH ................................... 664,532 5,684,044
ICH Securities ........................$ 4,867,041 --
Corporate items and eliminations ...... (2,272,344) (2,368,349)
------------ ------------
Total ............................$ 16,031,511 $ 14,074,244
============ ============
18
INVESTORS CAPITAL HOLDINGS, LTD. AND SUBSIDIARIES
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE QUARTER ENDED DECEMBER 31, 2005
(UNAUDITED)
NOTE 3. LITIGATION
The Company is involved with various judicial, regulatory and arbitration
proceedings concerning matters arising in connection with the conduct of its
business.
MASSACHUSETTS PROCEEDINGS
By administrative complaint dated November 16, 2005, the Securities
Division (the "Division") of the Secretary of the Commonwealth of Massachusetts
(the "State") brought an adjudicatory proceeding against Investors Capital
Corporation ("ICC") alleging violation of its supervisory obligations under
State securities laws in connection with past sales of equity-indexed annuities.
The complaint alleges, among other things, that ICC failed to properly supervise
associated persons, thereby allowing allegedly unsuitable sales of these
insurance products. The complaint, which seeks an order instructing ICC to cease
such violations and to pay an unspecified administrative fine, also requests
that ICC's registration as a securities broker-dealer in Massachusetts be
suspended or revoked, that the firm be censured, and that it be ordered to
fairly compensate purchasers of the insurance products for any losses
attributable to wrongdoing by ICC.
We are unable to reasonably estimate any possible range of loss related to
these proceedings due to their uncertain resolution. However, a conclusion of
these matters favorable to the Division could have a material adverse effect on
our financial position and results of operations.
OTHER PROCEEDINGS
At December 31, 2005, the Company was the co-defendant in various other
lawsuits. Management believes, based on currently available information, that
the results of such proceedings, in the aggregate, will not have a material
adverse effect on the firm's financial condition. The Company has Errors and
Omissions ("E&O") insurance to protect itself from potential damages and/or
legal costs associated with the aforementioned lawsuits and, as a result, in the
majority of cases the Company`s exposure is limited to between $75,000 and
$100,000 per case, subject to policy limitations and exclusions. In accordance
with Financial Accounting Standards Board ("FASB") Statement No. 5, "Accounting
for Contingencies", the Company had accrued expenses of approximately $791,000
for the quarter ended December 31, 2005 of which $390,000 is related to legal
defense fees incurred as a result of the State proceeding as noted above. In
addition, this accrual includes estimated probable settlement costs relating to
the Company's defense in such lawsuits.
19
NOTE 4. STOCK-BASED COMPENSATION
The Company applies Accounting Principles Board Opinion No. 25, Accounting
for Stock Issued to Employees, and related interpretations in accounting for its
stock incentive plans. During the first quarter of fiscal 2005, the Company
adopted the disclosure provisions of SFAS No. 148, "Accounting for Stock-Based
Compensation -Transition and Disclosure". The following table illustrates the
effect on net earnings and earnings per share of activities under its stock
incentive plans had the Company adopted the fair value-based method of
accounting for stock-based employee compensation for all periods presented.
Three Months Ended Nine Months Ended
December 31 December 31
--------------------------- ---------------------------
2005 2004 2005 2004
------------ ------------ ------------ ------------
Net income as reported $ 201,484 $ 355,223 $ 265,874 $ 409,742
Deduct: Total stock-based employee
compensation expense determined
under fair value-based method for
all awards, net of related tax
effects -- -- -- --
------------ ------------ ------------ ------------
Pro forma net income(loss) $ 201,484 $ 355,223 $ 265,874 $ 409,742
============ ============ ============ ============
Earnings per share:
Basic- as reported $ .03 $ .06 $ .05 $ .07
Diluted-as reported $ .03 $ .06 $ .04 $ .07
Basic - pro forma $ .03 $ .06 $ .05 $ .07
diluted - pro forma $ .03 $ .06 $ .04 $ .07
NOTE 5. NOTE RECEIVABLE - SALE OF ASSET
On October 24, 2005 Eastern Point Advisors, Inc. ("EPA"), a wholly-owned
subsidiary of Investors Capital Holdings, Ltd. (the "Company"), entered into a
definitive agreement (the "Transition Agreement") with Dividend Growth Advisors,
LLC ("DGA"). Pursuant to the Transition Agreement, EPA agreed to terminate its
Investment Advisory Agreement with Eastern Point Advisors Funds Trust (the
"Trust") effective October 18, 2005 to permit the appointment by the Trust of
DGA to supersede EPA as the Trust's investment advisor. EPA had served since
1999 as investment advisor for the Funds, which are sponsored by the Trust, and
DGA had provided investment advisory services to the Trust since 2004 pursuant
to a subcontract with EPA. DGA entered into a new advisory agreement directly
with the Trust.
Under the terms of the Transition Agreement and an associated promissory
note, the receivable owed by the Funds to EPA was assigned to DGA, and DGA
agreed to pay to EPA an amount equal to the total of all fees that EPA had
waived or remitted to a fund in the Trust through October 18, 2005. The note
provides for a principle amount of $747,617, quarterly payments of interest
accruing thereon at a 5.5% annual rate, and full payment of the principle on or
before October 31, 2010. Prepayments are permitted without penalty.
In its anticipated capacity as the new investment advisor for the Trust,
DGA also agreed under the Transition Agreement to pay to Investors Capital
Corporation, the Company's wholly-owned securities broker/dealer subsidiary
("ICC"), the full dealer re-allowance on further sales by ICC of Class A Shares
of the Trust's funds and, for a period of three years, quarterly payments equal
to 0.10% of the then market value (which is approximately $44 million) of Trust
shares sold by ICC as of the date of the Transition Agreement.
The president of DGA, C. Troy Shavers, Jr., resigned as a director of the
Company effective October 18, 2005 to avoid any appearance of a conflict of
interest.
20
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Management's discussion and analysis reviews our consolidated financial
condition as of December 31, 2005 and March 31, 2005, the consolidated results
of operations for the three months and nine months ended December 31, 2005 and
2004 and, where appropriate, factors that may affect future financial
performance. The discussion should be read in conjunction with the consolidated
financial statements and related notes included elsewhere in this Form 10-Q.
Unless context requires otherwise, as used in this Management's Discussion and
Analysis (i) the "current period" means the fiscal quarter (or nine month
period, when discussing year to date information) ended December 31, 2005, (ii)
the "prior period" means the fiscal quarter (or nine month period, when
discussing year to date information) ended December 31, 2004, (iii) reference to
an increase or decrease compares the current period to the prior period, and
(iv) all non-comparative amounts refer to the current period.
The statements, analyses, and other information contained herein relating
to trends in our operations and financial results, the markets for our products,
the future development of our business, and the contingencies and uncertainties
to which we may be subject to, as well as other statements including words such
as "anticipate," "believe," "plan," "estimate," "expect," "intend," "will,"
"should," "may," and other similar expressions, are "forward-looking statements"
under the Private Securities Litigation Reform Act of 1995. Such statements are
made based upon management's current expectations and beliefs concerning future
events and their effects on the Company and are subject to many risks and
uncertainties. Our actual results may differ materially from the results
anticipated in these forward-looking statements. Readers are advised to read and
consider discussions of risks and uncertainties that may be found in this report
and other documents filed by the Company with the United States Securities and
Exchange Commission. We specifically disclaim any obligation to update or revise
any forward-looking information, whether as a result of new information, future
developments or otherwise.
OVERVIEW
We are a financial services holding company that, through our subsidiaries,
provides securities trading, investment advisory, insurance, financial planning
and related services. We operate in a highly regulated and competitive industry
that is influenced by numerous external factors such as general and industry
economic conditions, marketplace liquidity and volatility, monetary policy,
global and national political events, regulatory developments, competition and
investor preferences. Our revenues and net earnings may be either enhanced or
diminished from period to period by any one or more of these external factors.
OUR BUSINESS
A key component of our business strategy is to recruit and provide
productive support to independent representatives who generate comparatively
large sales volumes and are motivated to continually grow their business by
offering a wide variety of services and a diversified range of investment
products to their clients. Consistent with the Company's marketing theme of
being "in the business of building your business", we focus on providing
substantial added value to our representatives to enable them to be more
productive, particularly in high margin lines such as advisory services. Support
provided to assist representatives in pursuing consistent and profitable sales
growth takes many forms. These forms include hi-tech trading systems, targeted
financial assistance and a network of communication links with investment
product companies including regional and national conventions that provide
forums for interaction to improve products, sales and client satisfaction.
21
RESULTS OF OPERATIONS
Percent
of Revenue
Quarter Ended Quarter Ended Percent
December 31, December 31, Change
----------------------------------------------------------
2005
2005 2004 2005 2004 vs. 2004
----------- ----------- -------- ------------------
Revenues:
Commission $14,944,156 $11,965,568 87.9% 88.1% 24.9%
Advisory 1,313,676 904,241 7.7% 6.7% 45.3%
Other fee income 384,766 305,681 2.3% 2.3% 25.9%
Marketing revenue,net 202,639 251,918 1.2% 1.8% -19.6%
Other income 159,179 153,453 0.9% 1.1% 3.7%
----------- -----------
Total Revenue 17,004,416 13,580,861 100.0% 100.0% 25.2%
=========== ===========
Commission and advisory expenses 13,204,912 10,527,798 77.7% 77.5% 25.4%
Gross Profit 3,799,504 3,053,063 22.3% 22.5% 24.4%
Operating Expenses:
Advertising 201,912 179,561 1.2% 1.3% 12.4%
Communications 159,127 137,802 0.9% 1.0% 15.5%
----------- -----------
Total Selling Expenses 361,039 317,363 2.1% 2.3% 13.8%
Compensation and benefits 1,537,058 1,435,213 9.0% 10.6% 7.1%
Regulatory, legal and professional 1,137,663 325,244 6.7% 2.4% 249.8%
Occupancy 168,328 151,606 1.0% 1.1% 11.0%
Other administrative expenses 270,890 208,880 1.6% 1.5% 29.7%
----------- -----------
Total Administrative Expenses 3,113,939 2,120,943 18.3% 15.6% 46.8%
Total Operating Expenses 3,474,978 2,438,306 20.4% 18.0% 42.5%
=========== ===========
Operating Income 324,526 614,757 1.9% 4.5% -47.2%
Other (Income) and Expense:
Gain on sale of asset (91,313) - -0.5% 0.0% N/A
Interest expense 8,992 8,218 0.1% 0.1% 9.4%
----------- -----------
Total Other (Income) and Expenses (82,321) 8,218 -0.5% 0.1% -1101.7%
----------- -----------
Income before taxes 406,847 606,539 2.4% 4.5% -32.9%
Provision for income taxes 205,363 251,316 1.2% 1.9% -18.3%
----------- -----------
Net Income $ 201,484 $ 355,223 1.2% 2.6% -43.3%
=========== ===========
22
Three Months Ended December 31, 2005 Compared with Three Months Ended December
31, 2004:
Revenues
The Company continues to observe revenue growth in the diversified
investment sector of the financial services industry. Our revenues rose $3.42
million, or 25.2%, to $17.0 million despite the effects on the economy of
increases in interest rates and energy prices. Revenues from commissions
increased by $2.98 million or 24.9% for the current period compared to the prior
period. Advisory services revenue also increased by $0.41 million or 45.3%
between the same comparative periods.
Commissions. Commissions from mutual funds, variable annuities, direct
participation programs and other programs increased by $2.00 million or 24.4%
during the current period when compared to the prior period. Of these,
commissions from direct participation programs, which predominantly include
REITs (Real Estate Investment Trusts), increased by $0.67 million or 55.0%.
Commissions from trading increased by $0.98 million or 26.1%.
Three Months Ended December 31, Change in %
2005 vs 2005 vs
2005 2004 2004 2004
Product Type
Variable Annuities $ 5,244,835 $ 4,244,214 $ 1,000,621 23.58%
Trading 4,740,136 3,757,629 982,507 26.15%
Mutual Funds 2,826,759 2,345,164 481,595 20.54%
Direct Participation
Programs 1,884,861 1,216,407 668,454 54.95%
Other 247,565 402,154 (154,589) -38.44%
-------------- ------------- -------------
Total Commission
Revenue 14,944,156 11,965,568 $ 2,978,588 24.89%
============== ============= =============
Although commissions from mutual funds and variable annuities comprise the
largest component of commission revenue, the company's revenue base has been
shifting toward the area of brokerage. An increasing number of our
representatives conduct their business in brokerage accounts which in turn
improves our margins. This business includes listed and over-the-counter stocks
as well as corporate and government bonds including high-yield issues. The trend
towards brokerage reflects a concerted effort on our part to recruit
sophisticated representatives with series 7 licenses who utilize our brokerage
platform. As a consequence of the shift toward brokerage products, the Company
enjoyed higher overall profit margins from sales of the resulting product mix
during the current period compared to the prior period. See "-- Gross Margins"
below.
Advisory Fees. Advisory services typically provide significantly higher
margins than traditional broker-dealer products such as variable annuities and
mutual funds. See " - Gross Margins". Accordingly, we have been encouraging our
representatives to convert more of their business to advisory services.
Reflecting these efforts, the number of our representatives we have to sell
advisory service products increased from 160 representatives on December 31,
2004 to 305 representatives on December 31, 2005. Although we do not control
which advisory services our representatives provide for their clients, we
continue to make concerted efforts to attract them to our proprietary advisory
services programs through seminars, trade shows and direct telemarketing.
23
Fees from our rep-directed asset-managed program, A-MAP where asset
allocation and other investment advisory services are provided directly by our
independent representatives, continue to be the leading source of revenue in
this category. Revenues from this program grew by $0.25 million or 44.0% to
$0.82 million compared to $0.57 million the prior period. Supported by our Net
Exchange Pro and Pershing direct mainframe trading platforms, this program is
becoming increasingly popular with our representatives because of the
opportunities it provides to deliver to their clients superior asset management
services at a potentially lower cost and the potential for increased overall
market performance.
Revenues from our fund-managed,F-MAP or separately managed S-MAP accounts
where investment advisory services are provided by EPA and ICA, instead of our
independent representatives, increased by $0.079 million or 32.3% between the
comparative periods. Over recent quarters revenues from the fund managed
category have slightly declined due to the termination of accounts where asset
values have fallen below a minimum level. Also, management has not been
aggressively marketing this program compared to the rep-directed asset-managed
program and S-MAP program.
Revenues from asset managed programs provided from third-party investment
advisors, where investment services are provided by outside advisors, decreased
slightly for the quarter ended December 31, 2005.EPA or ICA have been continuing
their marketing efforts away from these third party management programs and
shifting toward their internal proprietary asset-managed models. EPA or ICA have
been providing sales, marketing, a trading platform and other technical support
to our representatives to enable them to deliver improved investment advisory
services. A key to our strategy is to encourage sales volume growth over
maintaining or increasing scheduled investor fee levels.
Finally, revenues from advisory services provided to mutual funds decreased
by $0.07 million when compared to the prior period. During the current quarter,
the Company terminated the management agreement pursuant to which it had been
providing such advisory services to mutual funds. Going forward, the fall off in
revenue from this component should be minimal as advisory service revenue from
our mutual funds constituted only $0.07 million or 7.9% of the total advisory
services revenue category for the quarter ended December 31, 2004.
Other Fee Income. Other fee income increased by $0.079 million or 25.9%,
resulting mostly from administrative fees for providing regulatory services to
our representatives in connection with annual renewals of their NASD licenses.
Marketing Revenue. Net marketing revenues decreased by $0.05 million or
19.6%, reflecting an increase in the cost to host our annual national convention
which was held in Boston in October 2005.
Other Income. Other income, consisting primarily of interest and dividends
and gains or losses on investments, was relatively flat for the comparative
periods.
Gross Margins
Gross margin rose by $0.75 million or 24.4% to $3.80 million for the
current period primarily due to a $0.60 million or 78.8% increase in gross
margin derived from brokerage over the prior period. The increase in gross
margin from brokerage reflects an increase in brokerage commissions and a
reduction in clearing charges due to increased sales volume, increased
commission retention rates, and more fee income within corporate accounts.
Supporting this analysis was a $0.105 million dollar increase to the margin from
our money market and trails on account balances. We had a $0.5 million dollar
increase to the margin as a result of increased trade revenue from lower payout
producing representatives. This increased our payout retention in brokerage
services from 24% in the prior period to 38% in the current period. This
retention increase improved our gross margin retention in brokerage services
from 20.4% in the prior period to 29.0% in the current period. Refer to Gross
Margin Table below.
Finally, in the prior period we had received a settlement from our insurance
company for a trade error that incurred in April of 2004.This increased our
margin from trading by $0.147 million in the prior period.
24
In addition, investments in personnel and technology to expand and upgrade the
capabilities of our trading and operations department have enabled us to more
efficiently service the increase in trading volume. Through our efforts we are
continuing to recruit more capable and experienced representatives who can offer
a broader range of brokerage products (see "--Commissions", above).
Advisory services profit margins decreased slightly as a result of
terminating the management agreement associated with the mutual funds (see
condensed footnote 5 to our consolidated financial statements). In addition,
advisory fees derived from rep-directed business declined slightly, reflecting
decreases in the commission retention rate for client accounts whose balances
reached levels that trigger automatic retention rate reductions.
The above-discussed increase in advisory services rendered by our third
party money managers resulted in less margin retention than if the services had
been performed by EPA or ICA. Although profit margins from advisory services
marginally decreased compared to the prior period, this category on a
percentage-retention basis still retains a higher profit margin than most of the
other products or services we and our representatives provide.
The majority of the profit margin in advisory services stems from our
rep-directed asset-managed programs that makes it possible for representatives
managing client accounts to trade directly online for clients utilizing our
automated trading platform. Resulting increases in the representative's trading
volume effectively boost the Company's commission revenues and gross margins.
Additionally, by processing more transactions at a stable fixed cost, our
enhanced trading technology fosters economies of scale that control operating
expenses required to process the increased trade volume.
Profit margins from mutual fund sales, variable annuity sales, direct
participation programs and other check and application distribution programs
contributed $1.26 million or 33.3% of the total gross margin compared to $1.05
million or 34.5% during the prior period. As presented in the following gross
margin table, margin from trading constituted the largest percentage (36.1%) of
the overall gross profit during the current period.
Gross Margin:
Gross Margin % of Total
Gross Margin Retention Gross Margin
Quarter Ended Quarter Ended Quarter Ended Gross Margin
December 31, December 31, December 31, Percent Change
------------------------ ---------------- ------------------------------
2005
2005 2004 2005 2004 2005 2004 vs. 2004
---------- ---------- ------ ------ ------ ------- ---------
Comm - Mutual Funds,
Variable Annuities $1,264,551 $1,052,193 12.5% 13.0% 33.3% 34.5% 20.2%
Commission - Trading 1,372,402 767,774 29.0% 20.4% 36.1% 25.1% 78.8%
Commission - Insurance
Products 31,157 82,774 73.5% 99.0% 0.8% 2.7% -62.4%
Commission - Underwriting 2,900 4,432 10.0% 14.5% 0.1% 0.2% -34.6%
Advisory Services 463,307 474,011 33.8% 50.2% 12.2% 15.5% -2.3%
Licensing 326,052 266,509 100.0% 100.0% 8.6% 8.7% 22.3%
-
Marketing 202,639 251,918 n/a n/a 5.3% 8.3% -19.6%
Other income 136,496 153,453 n/a n/a 3.6% 5.0% -11.1%
---------- ----------
Total Gross Margin $3,799,504 $3,053,064 n/a n/a 100.0% 100.0% 24.4%
========== ==========
25
Commission Expenses
Commission payouts to our independent representatives decreased from 79.9%
to 79.3% of commissioned revenues. This improvement reflects progress in
management's continuing efforts to improve commission retention rates by
refining our business model to emphasize the recruitment and retention of
sophisticated representatives. These individuals can offer a variety of
brokerage and advisory products and services that give us better commission
retention rates than those obtained from mutual funds and variable annuities. We
experienced higher margins from trading as a result of ticket charges and fees
pertaining to increases in account balances that flow entirely to the profit
margin. From advisory services we receive fees on the asset balance in the
account that go directly to the firm. Refer to the revenue recognition policy.
Operating Expenses
Operating expenses, which experienced a $1.04 million or 42.5% increase,
are discussed in detail below:
Compensation and benefits. The largest component of operating expenses,
compensation and benefits, increased by $0.1 million or 7.1% during the current
period, which is substantially below the absolute and percentage growth rates
achieved in revenues and gross margins. This change includes an increase in
general salaries of $0.17 million offset by a decrease in officer's salary of
$0.067 million as a result of the resignation of EPA's president during our
fiscal quarter ended June 30, 2005. The overall increase also reflects pay
increases to members of our management team and staff and to the hiring of
additional personnel.
Regulatory, legal and professional. Regulatory, legal and professional
expenses grew by $0.81 million or 249.8%. The largest component of this increase
was a $0.63 million or 1496% increase in non-in house legal fees, $0.39 million
of which was incurred in connection with the Massachusetts Proceedings described
in detail in Part II, Item 1 "Legal Proceedings". An additional $0.13 million of
this increase arose from other actions that management believes, with advice of
counsel, are atypical of the exposures likely to be presented by our ongoing
operations. One of these atypical actions also contributed $0.15 million of the
$0.18 million increase in lawsuit settlement expenses. It was deemed prudent to
increase our accruals for legal expenses from $0.15 per quarter for the prior
period to $0.79 million per quarter for the current period. Refer to Footnote 2
to the Condensed Consolidated Financial Statements. In addition, since we
operate in an industry embedded with regulation, we will continue to invest
significant resources to reduce the likelihood of future litigation by promoting
accuracy, ensuring sound operational techniques and providing appropriate
compliance measures.
We experienced a $0.01 million increase in non-in house accounting
expenses, primarily audit-related, while regulatory and professional expenses
remained essentially flat at $0.12 million for the comparative periods.
Advertising. Advertising expenses increased overall by $0.022 million or
12.4% due to a $0.01 million decrease in advertisements, a $0.02 million
increase in meals and entertainment, and a $.015 million increase in travel. The
increases are a result of officers of the Company continuing to market our
services throughout the country.
Communications. Communications expenses increased by $0.021 million or
15.5% primarily due to increases in printing and website expenses approximating
$0.015 million and $0.01 million, respectively. These costs are incurred to
target new revenue streams by providing access to information through the
Internet and other publications. Communication efforts and related expenses,
which also include investor/public relations, conferences, and telephone, have
historically been positively correlated with the overall growth of our business.
Occupancy. Occupancy expenses increased by $0.016 million or 11.0%
primarily as a result of added costs for rent, condominium fees and
depreciation. In the current period we added a new investment center in
Braintree, Massachusetts and acquired additional fixed assets for technology
enhancement for the registered representatives. Utilities, storage and
repairs/maintenance costs contributed the remaining increase to occupancy
expenses.
Other administrative. Other administrative expenses, which include various
insurance, postage, office, and computer-related expenses, increased by $0.062
million or 29.7%. This increase is mainly due to additional bank charges of
$0.047 million resulting from increased usage of credit cards by our
representatives to pay fees relating to NASD licensing renewals. The Company
also observed a $0.027 million increase in office expenses related primarily to
the opening of new recruitment offices. Offsetting those increases, computer
maintenance services declined by $0.017 million reflecting a greater reliance on
in-house staff to service our computer systems.
26
Operating Income
Operating income decreased by $0.29 million or 47.2% due to a 42.5%
increase in operating expenses that was offset by a rise of 24.4% in gross
margin. Had the company not incurred the $0.39 million of atypical legal fees
from the Massachusetts Proceedings mentioned above, the Company would have
reported an increase in operating income of $0.10 million.
We will continue to make substantial investments in our selling and
administrative services capabilities, including additions to management,
personnel and service infrastructure, as part of a concerted strategy to
increase revenues and profitability. Management firmly believes that a sustained
focus on enhancing our state-of-the-art business platform will facilitate
accelerated recruitment of independent representatives that are focused on
growing revenues, particularly in high margin lines such as advisory and trading
services. As part of this effort, the Company continues to invest in an
automated trading system that enables sophisticated representatives to enhance
client base and activity.
Net Income
Net income decreased by approximately $0.15 million or 43.3%, or $.03 per
basic and diluted share, due to a decrease in operating income that was only
partially offset by a related decline in the provision for income taxes. The
decrease is a result of incurring more operating expenses, primarily legal
expenses, proportionate to the increase in revenues and profit margins compared
to the three months ended December 31, 2004. In addition, we experienced a $0.09
million gain on the sale of an asset during the current period. See condensed
footnote 5 to our Consolidated Financial Statements. There was no such gain in
the prior period.
27
Percent of Revenue
Nine Months Ended Nine Months Ended Percent
December 31, December 31, 2005 Change
---------------------------------------------------------
2005
2005 2004 2005 2004 vs. 2004
----------- ----------- ------ ------ --------
Revenues:
Commission $42,671,689 $35,853,473 88.2% 88.9% 19.0%
Advisory 3,769,457 2,711,173 7.8% 6.7% 39.0%
Other fee income 586,644 727,353 1.2% 1.8% -19.3%
Marketing revenue,net 872,173 706,869 1.8% 1.8% 23.4%
Other income 467,934 337,379 1.0% 0.8% 38.7%
----------- -----------
Total Revenue 48,367,897 40,336,247 100.0% 100.0% 19.9%
=========== ===========
Commission and advisory expenses 38,495,624 32,416,497 79.6% 80.4% 18.8%
Gross Profit 9,872,273 7,919,750 20.4% 19.6% 24.7%
Operating Expenses:
Advertising 626,575 583,438 1.3% 1.4% 7.4%
Communications 460,561 379,756 1.0% 0.9% 21.3%
----------- -----------
Total Selling Expenses 1,087,136 963,194 2.2% 2.4% 12.9%
Compensation and benefits 4,656,097 4,065,595 9.6% 10.1% 14.5%
Regulatory, legal and professional 2,486,521 1,049,054 5.1% 2.6% 137.0%
Occupancy 492,310 433,891 1.0% 1.1% 13.5%
Other administrative expenses 699,730 659,206 1.4% 1.6% 6.1%
----------- -----------
Total Administrative Expenses 8,334,658 6,207,746 17.2% 15.4% 34.3%
Total Operating Expenses 9,421,794 7,170,940 19.5% 17.8% 31.4%
=========== ===========
Operating Income 450,479 748,810 0.9% 1.9% -39.8%
Other (Income) and Expenses:
Gain on sale of asset (91,313) -
Interest expense 27,843 32,091 0.1% 0.1% -13.2%
----------- -----------
Total Other (Income) and Expenses (63,470) 32,091 -0.1% 0.1% -297.8%
----------- -----------
Income before taxes 513,950 716,719 1.1% 1.8% -28.3%
Provision for income taxes 248,076 306,977 0.5% 0.8% -19.2%
----------- -----------
Net Income $ 265,874 $ 409,742 0.5% 1.0% -35.1%
=========== ===========
28
Nine Months Ended December 31, 2005 Compared with Nine Months Ended December 31,
- --------------------------------------------------------------------------------
2004:
- -----
Results reported for the current nine-month period compared to the prior nine
month period are discussed below. Explanations for comparative variances in year
to date results may differ from the explanations for comparative quarterly
results discussed above. If no significant differences in explaining variances
in the year to date results are mentioned below, please refer to the quarterly
results analysis for an explanation of such variances.
Revenues
Revenues for nine months ended December 31, 2005 increased by $8.03 million
or 19.9% compared to revenues for nine months ended December 31, 2004. Revenues
from commissions increased by $6.82 million or 19.0% and fees from advisory
services increased by $1.06 million or 39.0% for the same comparative periods.
Revenue growth continues to be supported by our efforts in recruiting
sophisticated and experienced representatives. Revenues from new recruits during
the current period were $2.18 million compared to $1.22 million in the prior
period. $0.64 million or 66% of this $0.96 million increase, and 53% of all
current period revenues from recruits, were derived from relatively high margin
trading services. Our progress in recruiting representatives who are qualified
and likely to engage in brokerage services is further borne out by a 123%
increase for nine months ended 2005 compared to nine months ended 2004. Total
revenues from recruiting was up 79% for the comparative periods.
Recruiting Statistics
Percent
Change Change
Nine Months Ended 2005 2005
December 31, vs. vs.
2005 2004 2004 2004
Product Type
- ------------
Mutual Funds,Variable Annuities,Direct
Participation Programs,Other $ 830,072 $ 555,697 $ 274,375 49%
Trading Services 1,152,605 516,537 $ 636,068 123%
Advisory Services 198,230 144,741 $ 53,489 37%
---------- ---------- ---------- ----------
Total $2,180,907 $1,216,975 $ 963,932 79%
========== ========== ========== ==========
Representatives Recruited 179 158
Commissions. Compared to the prior period, trading revenues increased by
$2.31 million or 21.6%. Commissions from mutual funds, variable annuities,
direct participation programs, and other programs increased by $4.51 million or
17.9%. Direct Participation program revenues increased by $1.05 million or
25.3%.
29
Commission Revenue
Nine Months Ended December 31, Change in %
2005 2004 2005 vs 2004 2005 vs 2004
Product Type
Variable Annuities $ 14,946,320 $ 13,234,330 $ 1,711,990 12.94%
Trading 12,968,013 10,662,154 2,305,859 21.63%
Mutual Funds 8,461,624 6,751,752 1,709,872 25.32%
Direct Participation
Programs 5,183,149 4,135,820 1,047,329 25.32%
Other 1,112,583 1,069,417 43,166 4.04%
-------------- ------------- --------------
Total Commission Revenue 42,671,689 35,853,473 $ 6,818,216 19.02%
============== ============= ==============
Advisory Fees. Increases in fees from advisory services mainly came from
our rep-directed asset-managed program where a $.73 million or 47.4% growth in
advisory fees was achieved. Revenues from our fund-managed and separately
managed allocation models increased by $.22 million or 32.6%. Revenues from
asset managed programs provided from third-party investment advisors increased
by $.09 million or 15.0%. Fees from advisory services in our mutual funds
remained relatively flat due to the termination of the management agreement
associated with the two mutual funds in October 2005.
Other Fee Income. Other fee income for the current period when compared to
the prior period decreased by $0.14 million or 19.3%. This resulted from the
additional collection of revenue to cover the increase in insurance premium
costs during nine months ended December 31, 2004. There were no additional
collections during the nine months ended December 31, 2005.
Gross Margins
Our gross margin increased by $1.95 million or 24.7%, of which trading made
up $1.25 million of the increase and fees from advisory services comprised $0.39
million. It is important to note that in the prior period we had experienced a
trading error that reduced our margin in trading by $0.21 million.
30
Gross Margin % of Total Gross Gross
Gross Margin Retention Margin Margin
Nine Months Ended Nine Months Ended Nine Months Ended Percent
December 31, December 31, December 31, Change
------------------------ -------------- -----------------------------
2005
2005 2004 2005 2004 2005 2004 vs. 2004
----------- ----------- ------ ------ ------ ------ ----------
Revenue Source
- --------------
Commission - Mutual Funds and
Variable Annuities $ 3,497,355 $ 3,193,451 11.9% 12.7% 35.4% 40.3% 9.5%
Commission - Trading 2,883,151 1,637,757 22.2% 15.4% 29.2% 20.7% 76.0%
Commission - Insurance Products 224,761 266,427 94.8% 99.1% 2.3% 3.4% -15.6%
Commission - Underwriting 4,407 5,632 10.0% 13.2% 0.0% 0.1% -21.8%
Advisory Services 1,557,622 1,171,458 39.7% 44.7% 15.8% 14.8% 33.0%
Licensing 414,479 596,515 100.0% 100.0% 4.2% 7.5% -30.5%
Marketing 872,173 706,869 n/a n/a 8.8% 8.9% 23.4%
Other income 418,325 341,641 n/a n/a 4.2% 4.3% 22.4%
----------- -----------
Total Gross Margin $ 9,872,273 $ 7,919,750 n/a n/a 100.0% 100.0% 24.7%
=========== ===========
Commission Expenses
The commission payout decreased marginally from 82.5% to 81.9% of
commissioned revenues.
Operating Expenses
Operating expenses increased by $2.25 million or 31.4% for the current
period when compared to the prior period.
Compensation and benefits increased by $0.6 million or 14.5 %. The company
has invested resources toward acquiring additional personnel in its marketing,
trading/operations, and advisory services departments to increase overall sales
and improve services, with an emphasis on revenue growth within the trading and
advisory services sectors.
Regulatory, legal and professional expenses grew by $1.44 million or 137%.
The largest component of this increase was an $0.88 million or 367% increase in
non-in house legal fees, $0.39 million of which was incurred in connection with
the Massachusetts Proceedings described in detail in Part II, Item 1 "Legal
Proceedings". An additional $.38 million of this increase arose from three other
actions that management believes, with advice of counsel, are atypical of the
exposures likely to be presented by our ongoing operations. Two of these
atypical actions also contributed $0.51 million of the $0.54 million or 154%
increase in lawsuit settlement expenses.
We experienced a $0.04 million increase in non-in house accounting
expenses, primarily audit-related, while regulatory and professional expenses
remained essentially flat at $0.33 million.
Occupancy expenses increased by $0.06 million or 13.5% and other
administrative expenses went up by $0.04 million or 6.1%.
31
Operating Income
Operating income decreased by $0.30 million or 40% compared to the
nine-month period ended December 31, 2004. Operating income decreased for the
nine month comparative period resulting primarily from a 31.4% or $2.25 million
increase in operating expenses offset by a 24.7% or $1.95 million increase from
our gross profit. If we exclude the $0.77 million in legal expenses we incurred
from cases that were uncharacteristic, we would have realized a $0.47 million
dollar increase to operating income.
Net Income
Net income decreased by $0.14 million compared to the prior period.
Offsetting this decrease were a $0.06 million decrease in provision for income
taxes and a $0.09 million net gain from the sale of an asset. See Condensed
Footnote 5 to the Consolidated Financial Statements.
LIQUIDITY AND CAPITAL RESOURCES
The Company believes that achieving its return on equity goals requires the
efficient use of capital. We have financed our operations primarily with
internally generated cash flow.
Cash inflows have historically come mainly from the profitability of the
Company's core services and investment products. For the last several years,
profitability has typically followed an annual cycle of relatively average
profitability during the first and third fiscal quarters, relatively low
profitability during the second fiscal quarter (when several representatives and
their clients are on summer vacation), and relatively high profitability during
the fourth fiscal quarter (when several representatives and their clients start
a new business and investment year).
In addition to the annual profitability cycle, uncertainty in the financial
markets can have a negative impact on cash flow. The Company works to minimize
this impact by aggressively recruiting sophisticated representatives who can
offer diversified products that continue to meet the needs of their clients,
despite changing market conditions.
The Company takes a proactive approach to minimizing, if not preventing,
the occurrence of other events that may lead to unexpected cash outflows,
including lawsuits, trade errors and fines from regulatory agencies such as the
NASD or the SEC. A key to this approach is ensuring that adequate controls over
our operations and those of our representatives are implemented and periodically
updated. As part of this effort, substantial resources have been committed to
enhancing the capabilities of our compliance team members, whose tasks include
assuring that our representatives give proper weight to the circumstances and
interests of their clients when recommending investment options. The Company
also allocates resources to stay current with the many rules and regulations
applicable to our business by assisting in the education and training of our
sales representatives and staff.
As of December 31, 2005, cash and cash equivalents totaled $9.0 million as
compared to $8.6 million as of March 31, 2005. Working capital as of December
31, 2005 was $8.0 million as compared to $9.1 million as of March 31, 2005. The
ratio of current assets to current liabilities was 2.42 to 1 as of December 31,
2005 as compared to 3.31 to 1 as of March 31, 2005.
Operations provided $1.3 million for nine months ended December 31, 2005
and for nine months ended December 31, 2004, respectively.
Cash outflows from investing activities for the current period comprised
$0.8 million in which $0.3 million was for purchasing equipment as well as
technology and leasehold improvements. $0.4 million was used to grant loans to
registered representatives to help grow their businesses. Also, we had a $.15
million cash outflow for an investment through a private placement.
32
Finally, a $0.1 million cash dividend was paid on May 16, 2005 to
shareholders of record as of May 2, 2005.
Cash disbursements contributing significantly to current quarter cash
outflows included $0.176 million for legal related matters, $0.129 million for
compensation and benefits, $0.14 million for upcoming marketing events and
programs, and $0.045 million for computer equipment and software. Management
anticipates that the current period net cash outflows are not indicative of a
future cash outflow trend but, rather, reflected payment on an atypical lawsuit
that was not covered by our insurance policy. However, those disbursements
during the current quarter did have a significant impact on our brokerage firm's
net capital ratio.
The SEC Uniform Net Capital Rule (Rule 15c3-1) requires that ICC, our
broker-dealer subsidiary, maintain net capital of $100,000 and a ratio of
aggregate indebtedness to net capital (a "net capital ratio") not to exceed 15
to 1. Under the rule, indebtedness generally includes all money owed by a
company, and net capital includes cash and assets that are easily converted into
cash. SEC rules also prohibit "equity capital" (which, under the net capital
rule, includes subordinated loans) from being withdrawn, cash dividends from
being paid and other specified actions of similar effect from being taken, if,
among other specified contingencies, the Company's net capital ratio would
exceed 10 to 1 or if we would have less than 120% of our minimum required net
capital. As of December 31, 2005, ICC had net capital of $0.5 million (i.e., an
excess of $0.04 million) and a 13.93 to 1 net capital ratio as compared to net
capital of approximately $1.7 million (i.e., an excess of $1.4 million) and a
2.43 to 1 net capital ratio as of March 31, 2005.
The company's legal accrual increased to $0.79 million from $0.40 million
primarily as a result of the Massachusetts proceedings against the Company.
During the current period the increase in our legal accrual had impacted our net
capital ratio and excess net capital for ICC. The Company does not consider this
to be a trend and does not currently anticipate that similar accrual increases
will be a recurring necessity. See condensed footnote 3 to our Condensed
Consolidated Financial Statements.
The Company currently has ample cash to cover additional accruals and
disbursements resulting from these proceedings. Despite these atypical legal
proceedings that increased our legal accrual, the Company remains focused on
committing the resources necessary for continued growth.
In its role as investment advisor to the Eastern Point Advisors Funds Trust
family of mutual funds, the Company's disbursements to pay fund expenses that
exceed their respective ceiling caps have averaged $0.08 million per quarter
during the duration of this current fiscal year. As previously noted, the
Company agreed to terminate its management contract with the Trust and,
accordingly, the Company received a relative cash flow infusion of $0.09 million
for the quarter ended December 31, 2005 versus the quarter ended December 31,
2004. See condensed footnote 5 to our Condensed Consolidated Financial
Statements.
By comparison, for the nine months ended December 31, 2004, cash inflows
primarily came from the collection of $0.4 million of accounts receivable and
$1.6 million in collections for regulatory and licensing activities. Cash
outflows included $0.5 million for payment of taxes, $0.6 million for payment of
commissions, $0.3 million in accrued expenses, $0.2 million for equipment and
technology and $0.15 million to the NASD to pay in full a note.
ICC made a business decision in fiscal year ending 2003 to conclude an NASD
investigation into supervisory procedures relating to the period of January 2000
through July of 2002. While we considered disputing the allegations in a formal
proceeding, we estimated the cost of doing so to be prohibitive. Furthermore, we
sought to avoid disruption of our operations. Accordingly, while neither
admitting nor denying the allegations, we consented to a number of findings in
order to resolve the matter in its initial stages. Repayment of the resulting
settlement note to NASD did not have a material effect on cash flow at any time
during the current period as the note was fully paid on August 19, 2004. The
Company has implemented and maintains an adequate system of supervisory and
regulatory procedures and does not foresee any material deficiencies in the
future in this regard.
33
Contractual Obligations Payments Due by period
- ---------------------------------------------------------------------------------------------------------
After 5 years
Fiscal Years Total Less than 1 year 1-3 years 4-5 years 2012 and
2006 2007-2009 2010-2011 thereafter
- ---------------------------------------------------------------------------------------------------------
Operating leases: 763,023 105,391 657,632 0 0
------------------------------------------------------------------------------------
Total Contractual
Obligations $763,023 $105,391 $657,632 0 0
------------------------------------------------------------------------------------
COMMITMENTS AND CONTINGENCIES
The Company is obligated under various lease agreements covering offices
and equipment. These agreements are considered to be operating leases in
accordance with the requirements under FASB 13 "Accounting for Leases". The
terms of the leases expire between fiscal years 2006 and 2009. Options to renew
for additional terms are included under the lease agreements. During the current
period we entered into a lease agreement for our new investment center in
Braintree, Massachusetts. The total minimum rental due in future periods under
these existing agreements is as follows as of December 31, 2005:
Year ending March 31, 2006 $ 105,391
Year ending March 31, 2007 345,254
Year ending March 31, 2008 263,581
Year ending March 31, 2009 48,797
---------
Total minimum lease payments $ 763,023
=========
Certain leases contain provisions for minimum lease payments that are
contingent upon increases in real estate taxes. Total lease expenses amounted to
$0.1 million for the quarter ended December 31, 2005 and $0.1 million for the
quarter ended December 31, 2004. Related party leases amounted to $0.06 million
for the Arlsburg Trust and Investors Realty, LLC for the quarter ended December
31, 2005. Lease expenses were $0.3 million for the nine-month period ended
December 31, 2005 versus $0.3 million for the nine-month period ended December
31, 2004. Related party leases amounted to $0.18 million for the nine month
period ended December 31, 2005.
RISK MANAGEMENT
Risk is an inherent part of the Company's business and activities. Risk
management is critical to the Company's financial strength and profitability and
requires robust auditing, constant communications, judgment and knowledge of
financial trends and the economy as a whole. Senior management takes an active
role in the risk management process. The principal risks involved in the
Company's business activities are market, operational, regulatory and legal.
MARKET RISK
Market risk is the risk attributable to common macroeconomic factors such
as gross domestic product, employment, inflation, interest rates, budget
deficits and sentiment. Consumer and producer sentiment is critical to our
business. The level of consumer confidence determines an investor's willingness
to spend, especially in the financial markets. It is this willingness to spend
in the financial markets that is key to our business. A shift in spending in
this area could negatively impact the Company. However, senior management is
constantly monitoring these economic trends in order to enhance the product line
to offset any potential negative impact.
34
OPERATIONAL RISK
Operational risk refers to the risk of loss resulting from the Company's
operations, including, but not limited to, improper or unauthorized execution,
processing of transactions, deficiencies in the Company's technology or
financial operating systems, and inadequacies or breaches in the Company's
control processes. Managing these risks is critical, especially in a rapidly
changing environment with increasing transaction volume. Failure to manage these
risks could result in financial loss to the Company. To mitigate these risks,
the Company has developed and implemented specific policies and procedures
designed to identify and manage operational risk. These policies and procedures
are reviewed and updated on a continuing basis to ensure that this risk is
minimized.
REGULATORY AND LEGAL RISK
Regulatory and legal risk includes non-compliance with applicable legal and
regulatory requirements and the risk of a large number of customer claims that
could result in adverse judgments against the Company. The Company is subject to
extensive regulation in all jurisdictions in which it operates. In this regard,
the Company has instituted comprehensive procedures to address issues such as
regulatory capital requirements, sales and trading practices, use and
safekeeping of customer funds, credit granting, collection activities, money
laundering, and record-keeping.
EFFECTS OF INFLATION
The Company's assets primarily are liquid in nature and are not
significantly affected by inflation. Management believes that the replacement
cost of property and equipment will not materially affect operating results.
However, the rate of inflation affects our expenses, including employee
compensation and benefits, communications, and occupancy, which may not be
readily recoverable through charges for services provided.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The information required by this item is contained in "Management's
Discussion and Analysis of Financial Condition and Results of Operations" under
the caption "Market Risk" of this Form 10-Q.
ITEM 4. CONTROLS AND PROCEDURES
Based on an evaluation by our management in which they or persons
performing similar functions participated, our principal executive and financial
officers have concluded that reasonably effective controls and procedures were
in place as of the end of the period covered by this report to ensure that
information required to be disclosed in our reports filed under the Securities
Exchange Act of 1934 is recorded, processed, summarized and reported within the
time periods specified in the rules and forms of the Securities and Exchange
Commission.
35
PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
MASSACHUSETTS PROCEEDINGS
By administrative complaint dated November 16, 2005, the Securities
Division (the "Division") of the Secretary of the Commonwealth of Massachusetts
(the "State") brought an adjudicatory proceeding against Investors Capital
Corporation ("ICC") alleging violation of its supervisory obligations under
State securities laws in connection with past sales of equity-indexed annuities.
The complaint alleges, among other things, that ICC failed to properly supervise
associated persons, thereby allowing allegedly unsuitable sales of these
insurance products. The complaint, which seeks an order instructing ICC to cease
such violations and to pay an unspecified administrative fine, also requests
that ICC's registration as a securities broker-dealer in Massachusetts be
suspended or revoked, that the firm be censured, and that it be ordered to
fairly compensate purchasers of the insurance products for any losses
attributable to wrongdoing by ICC.
ICC filed an answer to the administrative complaint that asserts its
defenses, including that it did not recommend, encourage, assist, receive any
remuneration from, or have any contemporaneous knowledge of these allegedly
unsuitable sales identified in the administrative complaint. Equity-indexed
annuities are regulated by the State's Insurance Department, which has approved
the sale of upwards of 200 versions of this type of insurance product by a
number of insurance companies.
Based upon statutory provisions and precedent, ICC asserted its position,
as argued in our briefs, that these insurance products are not considered to be
securities under State and federal laws and regulation or National Association
of Securities Dealers (NASD) rules, and that the Division is not empowered to
require ICC to supervise the sale of these insurance products by its associated
persons. Nonetheless, ICC since the summer of 2005 has been in the forefront of
a gathering industry trend, based upon recent NASD guidance, towards voluntarily
implementing procedures to supervise the sales of equity-indexed annuities by
associated persons.
An action was commenced by ICC on December 14, 2005 in the State's Suffolk
County Superior Court to, among other things, enjoin the administrative
proceeding brought by the Division. On January 18, 2006, the court denied a
motion by ICC for a preliminary injunction to enjoin said administrative
proceeding, citing the need for ICC to exhaust administrative remedies, in other
words, seek similar underlying relief in the administrative proceeding itself.
We are unable to reasonably estimate any possible range of loss related to
these proceedings due to their uncertain resolution. However, a conclusion of
these matters favorable to the Division could have a material adverse effect on
our financial position and results of operations.
Items 2-5 not applicable.
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) 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.
INVESTORS CAPITAL HOLDINGS, LTD.
By: /s/ Timothy B. Murphy
-------------------------------------
Chief Financial Officer
Date: February 27, 2006
36
ITEM 6.EXHIBITS
EXHIBIT INDEX
-------------
(Exhibits being initially filed with this Form 10-Q/A)
31.1 Certification of Theodore E. Charles pursuant to Rule 13a-14(a)
31.2 Certification of Timothy B. Murphy pursuant to Rule 13a-14(a)
32.1 Certification of Theodore E. Charles pursuant to 18 U.S.C. Section 1350
32.2 Certification of Timothy B. Murphy pursuant to 18 U.S.C. Section 1350
37