JEFFERIES GROUP INC /DE/ - 10-Q Quarterly Report

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q


þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934


		For the quarterly period ended March 31, 2005


o		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 1-14947

JEFFERIES GROUP, INC.

(Exact name of registrant as specified in its charter)


Delaware		95-4719745

(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

520 Madison Avenue, 12^th Floor, New York, New York		10022

(Address of principal executive offices)		(Zip Code)

Registrant’s telephone number, including area code: (212) 284-2550

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.
Yesþ Noo

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).
Yesþ Noo

Indicate the number of shares outstanding of the registrant’s class of common stock, as of the latest practicable date. 57,671,090 shares as of the close of business April 14, 2005.

Page 1 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION

(Dollars in thousands, except per share amounts)


	March 31,			December 31,
	2005			2004
	(unaudited)
ASSETS
Cash and cash equivalents	$	294,375		$	284,111
Cash and securities segregated and on deposit for regulatory purposes or deposited with clearing and depository organizations		444,184			553,720
Short term bond funds		6,879			6,861
Investments		101,226			97,586
Investments in managed funds		232,526			195,982
Securities borrowed		9,612,343			10,232,950
Receivable from brokers, dealers and clearing organizations		499,880			312,973
Receivable from customers		516,545			371,842
Securities owned		1,069,071			649,299
Securities pledged to creditors		172,942			597,434
Premises and equipment		61,134			57,749
Goodwill		178,683			134,936
Other assets		380,896			329,185

	$	13,570,684		$	13,824,628


LIABILITIES AND STOCKHOLDERS’ EQUITY
Bank loans	$	181,000		$	70,000
Securities loaned		8,904,100			9,330,980
Payable to brokers, dealers and clearing organizations		523,889			376,735
Payable to customers		743,698			702,200
Securities sold, not yet purchased		970,085			1,120,173
Accrued expenses and other liabilities		312,611			361,254

		11,635,383			11,961,342
Long-term debt		780,988			789,067
Minority interest		32,927			35,086

		12,449,298			12,785,495


Stockholders’ equity:
Preferred stock, $.0001 par value. Authorized 10,000,000 shares; none issued		¾			¾
Common stock, $.0001 par value. Authorized 500,000,000 shares; issued 67,867,779 shares in 2005 and 66,700,773 shares in 2004		7			7
Unearned compensation		(166,426	)		(109,366	)
Additional paid-in capital		739,748			617,587
Retained earnings		706,836			677,464
Less:
Treasury stock, at cost, 9,777,850 shares in 2005 and 9,411,464 shares in 2004		(159,254	)		(149,039	)
Accumulated other comprehensive gain:
Currency translation adjustments		7,343			9,348
Additional minimum pension liability		(6,868	)		(6,868	)

Total accumulated other comprehensive gain		475			2,480

Total stockholders’ equity		1,121,386			1,039,133

	$	13,570,684		$	13,824,628

See accompanying unaudited notes to consolidated financial statements.

Page 3 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF EARNINGS (Unaudited)

(In thousands, except per share and ratio amounts)


	Three Months Ended
	March 31,		March 26,
	2005		2004
Revenues:
Commissions	$	68,908	$	72,303
Principal transactions		72,698		86,440
Investment banking		117,442		91,372
Asset management fees and investment income from managed funds		21,284		23,801
Interest		59,851		24,739
Other		3,710		4,439

Total revenues		343,893		303,094
Interest expense		57,883		24,587

Revenues, net of interest expense.		286,010		278,507


Non-interest expenses:
Compensation and benefits		161,988		158,938
Floor brokerage and clearing fees		12,195		13,755
Technology and communications		16,004		16,409
Occupancy and equipment rental		10,833		9,612
Business development		8,634		8,410
Other		14,183		10,164

Total non-interest expenses.		223,837		217,288


Earnings before income taxes and minority interest		62,173		61,219
Income taxes		23,445		21,257

Earnings before minority interest.		38,728		39,962
Minority interest in earnings of consolidated subsidiaries, net		2,056		8,053

Net earnings	$	36,672	$	31,909


Earnings per share:
Basic	$	0.61	$	0.57
Diluted	$	0.56	$	0.51

Weighted average shares:
Basic		60,570		56,298
Diluted		65,997		63,078

Fixed charge coverage ratio		5.4X		7.4X

See accompanying unaudited notes to consolidated financial statements.

Page 4 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY (Unaudited)

THREE MONTHS ENDED MARCH 31, 2005 (Dollars in thousands, except per share amounts)


	Quarter			Year
	Ended			Ended
	Mar. 31,			Dec. 31,
		2005			2004
Common stock, par value $.0001 per share
Balance, beginning of year	$	7		$	6
Issued stock		—			1

Balance, end of period	$	7		$	7


Additional paid in capital
Balance, beginning of year	$	617,587		$	443,022
Stock-based grants (1)		101,530			148,567
Proceeds from exercise of stock options		9,493			10,184
Tax benefits		11,138			15,814

Balance, end of period	$	739,748		$	617,587


Unearned stock compensation
Balance, beginning of year	$	(109,366	)	$	(78,248	)
Grants		(91,536	)		(106,670	)
Amortization expense		16,601			54,935
Previously expensed compensation		16,795			13,904
Forfeitures		1,080			6,713

Balance, end of period	$	(166,426	)	$	(109,366	)


Retained earnings
Balance, beginning of year	$	677,464		$	567,632
Net earnings		36,672			131,366
Dividends		(7,300	)		(21,534	)

Balance, end of period	$	706,836		$	677,464


Treasury stock, at cost
Balance, beginning of year	$	(149,039	)	$	(91,908	)
Purchases		(18,892	)		(59,492	)
Returns / forfeitures		(357	)		(8,525	)
Issued		9,034			10,886

Balance, end of period	$	(159,254	)	$	(149,039	)


Accumulated other comprehensive income (loss)
Balance, beginning of year	$	2,480		$	(2,133	)
Currency adjustment		(2,005	)		4,017
Pension adjustment		—			596

Balance, end of period	$	475		$	2,480


Net stockholders’ equity	$	1,121,386		$	1,039,133

(1)

Includes grants related to the Incentive Plan, Deferred Compensation Plan, ESOP, ESPP and Director Plan.

See accompanying unaudited notes to consolidated financial statements.

Page 5 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

(Dollars in thousands)


	Three Months Ended
	March 31,			March 26,
	2005			2004
Cash flows from operating activities:

Net earnings	$	36,672		$	31,909


Adjustments to reconcile net earnings to net cash used in operating activities:
Depreciation and amortization		3,846			3,749
Accruals related to various benefit plans, stock issuances, net of forfeitures		35,647			38,631
(Increase) decrease in cash and securities segregated and on deposit for regulatory purposes or deposited with clearing and depository organizations		109,536			(93,491	)
(Increase) decrease in receivables:
Securities borrowed		620,607			436,456
Brokers, dealers and clearing organizations		(186,907	)		52,974
Customers		(144,703	)		(30,161	)
Increase in securities owned		(419,772	)		(247,196	)
Decrease in securities pledged to creditors		424,492			88,346
Increase in other assets		(58,228	)		(13,361	)
Increase (decrease) in operating payables:
Securities loaned		(426,880	)		(647,832	)
Brokers, dealers and clearing organizations		147,154			75,754
Customers		41,498			91,396
Increase (decrease) in securities sold, not yet purchased		(150,088	)		130,233
Decrease in accrued expenses and other liabilities		(40,120	)		(16,831	)
Increase (decrease) in minority interest		(2,159	)		3,594


Total adjustments		(46,077	)		(127,739	)


Net cash used in operating activities		(9,405	)		(95,830	)

Continued on next page.

Page 6 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS — CONTINUED (Unaudited)
(Dollars in thousands)


	Three Months Ended
	March 31,			March 26,
	2005			2004
Cash flows from investing activities:
Increase in short term bond funds		(18	)		(248,967	)
(Increase) decrease in investments		(3,640	)		4,276
(Increase) decrease in investments in managed funds		(36,544	)		4,124
Net additional acquisition payments		(25,719	)		(2,292	)
Purchase of premises and equipment		(6,706	)		(1,313	)


Net cash used in investing activities		(72,627	)		(244,172	)


Cash flows from financing activities:
Net proceeds from (payments on):
Bank loans		111,000			¾
Issuance of 5¹/2% Senior Notes		¾			347,809
Repurchase of treasury stock		(18,892	)		(7,888	)
Dividends		(7,300	)		(4,517	)
Exercise of stock options, not including tax benefits		9,493			3,584


Net cash provided by financing activities		94,301			338,988


Effect of foreign currency translation on cash		(2,005	)		(43	)


Net increase (decrease) in cash and cash equivalents		10,264			(1,057	)

Cash and cash equivalents – beginning of period		284,111			107,876


Cash and cash equivalents – end of period	$	294,375		$	106,819


Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest	$	71,642		$	30,837
Income taxes	$	27,140		$	14,098

Randall & Dewey acquisition:
Fair value of assets acquired, including goodwill	$	43,219
Stock issued (456,442 shares)		(17,500	)

Cash paid for acquisition	$	25,719

See accompanying unaudited notes to consolidated financial statements.

Page 7 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

Summary of Significant Accounting Policies

The accompanying consolidated financial statements include the accounts of Jefferies Group, Inc. and all its subsidiaries (together, the “Company”), including Jefferies & Company, Inc. (“Jefferies”), Jefferies Execution Services, Inc., formerly known as Helfant Group, Inc. (“Jefferies Execution”), Jefferies International Limited, Jefferies Asset Management, LLC, Jefferies Financial Products, LLC and all other entities in which the Company has a controlling financial interest or is the “primary beneficiary”, including Jefferies Employees Opportunity Fund, LLC (“JEOF”). The accompanying unaudited consolidated financial statements of the Company have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S.”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the U.S. for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair statement have been included. Certain reclassifications have been made to previously reported balances to conform to the current presentation. Operating results for the three-month period ended March 31, 2005 are not necessarily indicative of the results that may be expected for the year ending December 31, 2005. For further information, refer to the audited consolidated financial statements of the Company included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2004.

Principles of Consolidation

The Company’s policy is to consolidate all entities in which it owns more than 50% of the outstanding voting stock and has effective control. In addition, in accordance with Financial Accounting Standards Board (“FASB”) Interpretation No. 46R, “Consolidation of Variable Interest Entities” (“FIN 46R”), as revised, the Company consolidates entities which lack characteristics of an operating entity or business for which it is the primary beneficiary. Under FIN 46R, the primary beneficiary is the party that absorbs a majority of the entity’s expected losses, receives a majority of its expected residual returns, or both, as a result of holding variable interests. In situations where the Company has significant but not effective control, the Company applies the equity method of accounting. In those cases where the Company’s investment is less than 20% and significant influence does not exist, the investments are carried at fair value. Significant influence generally is deemed to exist when we own 20% to 50% of the voting equity of a corporation, or when we hold at least 3% of a limited partnership interest.

All significant intercompany accounts and transactions are eliminated in consolidation.

Change in Quarter End

Beginning with the quarter ended September 30, 2004, the Company changed its quarter end to the last day of the calendar quarter from the last Friday of the quarter. With the expansion of our businesses and products, the Company believes calendar period reporting is more consistent with its operating cycle, as well as the reporting periods of industry peers.

Commissions

All customer securities transactions are reported on the consolidated statement of financial condition on a settlement date basis with related income reported on a trade-date basis. Under clearing agreements, the Company clears trades for unaffiliated correspondent brokers and retains a portion of commissions as a fee for its services. Correspondent clearing revenues are recorded net of commissions remitted and are included in other revenue.

Page 8 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Principal Transactions

Securities and other inventory positions owned, securities and other inventory positions pledged and securities and other inventory positions sold, but not yet purchased (all of which are recorded on a trade-date basis) are valued at market or fair value, as appropriate, with unrealized gains and losses reflected in Principal transactions in the Consolidated Statement of Earnings. The Company follows the American Institute of Certified Public Accountants (“AICPA”) Audit and Accounting Guide, “Brokers and Dealers in Securities” (the “Guide”) when determining market or fair value for financial instruments. Market value generally is determined based on listed prices or broker quotes. In certain instances, such price quotations may be deemed unreliable when the instruments are thinly traded or when we hold a substantial block of a particular security and the listed price is not deemed to be readily realizable. In accordance with the Guide, in these instances the Company determines fair value based on management’s best estimate, giving appropriate consideration to reported prices and the extent of public trading in similar securities, the discount from the listed price associated with the cost at the date of acquisition, and the size of the position held in relation to the liquidity in the market, among other factors. When the size of our holding of a listed security is likely to impair our ability to realize the quoted market price, the Company records the position at a discount to the quoted price reflecting our best estimate of fair value. In such instances, the Company generally determines fair value with reference to the discount associated with the acquisition price of the security. When listed prices or broker quotes are not available, the Company determines fair value based on pricing models or other valuation techniques, including the use of implied pricing from similar instruments. The Company typically uses pricing models to derive fair value based on the net present value of estimated future cash flows including adjustments, when appropriate, for liquidity, credit and/or other factors.

Investment Banking

Underwriting revenues and fees from mergers and acquisitions, restructuring and other investment banking advisory assignments are recorded when the services related to the underlying transaction are completed under the terms of the engagement. Expenses associated with these transactions are deferred until the related revenue is recognized or the engagement is otherwise concluded. Underwriting revenues are presented net of unreimbursed deal related expenses. Revenue associated with restructuring and advisory engagements is also recorded net of unreimbursed deal related expenses.

Asset Management Fees and Investment Income From Managed Funds

Period end assets under management by asset class were as follows (in millions of dollars):


	March 31,		March 26,
	2005		2004
Fixed Income (1).	$	855	$	544
Equities (2)		491		31
Equity-linked (3)		1,525		1,525
Real Assets (4)		192		41

Total	$	3,063	$	2,141

(1)		The Company’s managed or co-managed assets under management in two Jefferies Partners Opportunity funds, Jefferies Employees Opportunity Fund, LLC and the Jackson Creek CDO and the Victoria Falls CLO, but does not include third-party managed funds. Although the Jefferies Partners Opportunity funds and the Jefferies Employees Opportunity Fund, LLC are often referred to as funds, they are registered with the Securities and Exchange Commission as broker-dealers.

(2)		The Jefferies RTS Fund and Jefferies Paragon Fund.

(3)		Asymmetric Convertible Fund and other managed equity-linked bond assets.

(4)		The Jefferies Real Asset Fund.

Page 9 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Asset management fees and investment income from managed funds include revenues the Company receives from asset management and performance fees from funds managed by the Company, revenues from asset management and performance fees the Company receives from third-party managed funds, and investment income from the Company’s investments in these funds.

The Company receives fees in connection with management and investment advisory services the Company performs for various domestic and equity-linked funds and managed accounts, including two Jefferies Partners Opportunity funds, Jefferies Paragon Fund, Jefferies Real Asset Fund, Asymmetric Convertible Fund, Jefferies RTS Fund, Jackson Creek CDO and Victoria Falls CLO. These fees are based on the value of assets under management and may include performance fees based upon the performance of the funds. Management fees are generally recognized over the period that the related service is provided based upon the beginning or ending Net Asset Value of the relevant period. Generally, performance fees are earned when the return on assets under management exceeds certain benchmark returns, “high-water marks”, or other performance targets. Performance is recognized on a monthly basis and is not subject to adjustment once the measurement period ends (generally quarterly or annually) and performance fees have been realized.

The following summarizes revenues from asset management fees and investment income from managed funds for the three-month periods ended March 31, 2005 and March 26, 2004 (in thousands of dollars):


	Three Months Ended
	March 31,		March 26,
	2005		2004
Asset management fees:
Fixed Income	$	6,638	$	2,600
Equity-linked		1,492		7,433
Equities		4,897		¾
Real Assets		1,882		72

		14,909		10,105

Investment income from managed funds		6,375		13,696

Total	$	21,284	$	23,801

The following tables detail the Company’s average investment in managed funds, investment income from managed funds, investment income from managed funds – minority interest portion and net investment income from managed funds for the quarters ended March 31, 2005 and March 26, 2004 (in millions of dollars):

Quarter Ended March 31, 2005


						Investment		Net
			Investment			Income from		Investment
			Income from			Managed Funds -		Income from
	Average		Managed			Minority Interest		Managed
	Investment		Funds			Portion		Funds
Fixed Income (1)	$	129.8	$	2.4		$	2.2	$	0.2
Equities (2)		57.5		3.8			.1		3.7
Equity-linked (3)		11.2		(0.1	)		¾		(0.1	)
Real Assets (4)		10.4		0.3			¾		0.3

Total	$	208.9	$	6.4		$	2.3	$	4.1

Page 10 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Quarter Ended March 26, 2004


					Investment		Net
			Investment		Income from		Investment
			Income from		Managed Funds -		Income from
	Average		Managed		Minority Interest		Managed
	Investment		Funds		Portion		Funds
Fixed Income (1)	$	101.0	$	4.4	$	1.2	$	3.2
Equities (2)		16.0		8.2		4.6		3.6
Equity-linked (3)		12.2		0.9		¾		0.9
Real Assets (4)		6.6		0.2		¾		0.2

Total	$	135.8	$	13.7	$	5.8	$	7.9

(1)		The Company’s managed or co-managed assets under management in two Jefferies Partners Opportunity funds, Jefferies Employees Opportunity Fund, LLC, the Jackson Creek CDO, the Victoria Falls CLO and third-party managed funds. Although the Jefferies Partners Opportunity funds and the Jefferies Employees Opportunity Fund, LLC are often referred to as funds, they are registered with the Securities and Exchange Commission as broker-dealers.

(2)		The Jefferies RTS Fund and Jefferies Paragon Fund.

(3)		Asymmetric Convertible Fund and other managed equity-linked bond assets.

(4)		The Jefferies Real Asset Fund.

Interest

Jefferies derives a substantial portion of its interest revenues, and incurs a substantial portion of its interest expenses in connection with its securities borrowed / securities lending activity. Jefferies also earns interest on its securities portfolio, on its operating and segregated balances, on its margin lending activity and on certain of its investments, including its investment in short term bond funds. Interest expense also includes interest payable on the Company’s short-term and long-term debt obligations.

Cash, Cash Equivalents, and Short-term Investments

The Company generally invests its excess cash in money market funds and other short-term investments. Cash equivalents are part of the cash management activities of the Company and generally mature within 90 days (“readily convertible into cash”). The following are financial instruments that are generally readily convertible into cash as of March 31, 2005 and December 31, 2004 (in thousands of dollars):


	March 31, 2005		December 31, 2004
Cash and cash equivalents:
Cash in banks	$	109,876	$	105,814
Money market investments		184,499		178,297

Total cash and cash equivalents		294,375		284,111
Cash and securities segregated (a)		444,184		553,720
Short-term bond funds		6,879		6,861
Auction rate preferreds (b)		26,009		50,365
Mortgage-backed securities (b)		25,935		27,511
Asset-backed securities (b)		22,265		21,093

	$	819,647	$	943,661

(a)

In accordance with Rule 15c3-3 of the Securities Exchange Act of 1934, Jefferies & Company, Inc., as a broker-dealer carrying client accounts, is subject to requirements related to maintaining cash or qualified securities in a segregated reserve account for the exclusive benefit of its clients. In addition, there are deposits with clearing and depository organizations.

Page 11 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

(b) Items are included in Securities Owned (see note below). Items are financial instruments utilized in the Company’s overall cash management activities and are readily convertible to cash.

Cash and Securities Segregated and on Deposit for Regulatory Purposes or Deposited With Clearing and Depository Organizations

Investments

Generally, the Company values its investments at fair value. Factors considered in valuing individual investments include, without limitation, available market prices, reported net asset values, type of security, purchase price, purchases of the same or similar securities by other investors, marketability, restrictions on disposition, current financial position and operating results, and other pertinent information.

Investments in Managed Funds

Investments in managed funds includes the Company’s investments in funds managed by the Company and the Company’s investments in third-party managed funds in which the Company is entitled to a portion of the management and/or performance fees.

Receivable from, and Payable to, Customers

Receivable from, and payable to, customers includes amounts receivable and payable on cash and margin transactions. Securities owned by customers and held as collateral for these receivables are not reflected in the accompanying consolidated financial statements. Receivable from officers and directors represents balances arising from their individual security transactions. These transactions are subject to the same regulations as customer transactions.

Fair Value of Financial Instruments

Substantially all of the Company’s financial instruments are carried at fair value or amounts approximating fair value. Assets, including cash and cash equivalents, securities borrowed or purchased under agreements to sell, and certain receivables, are carried at fair value or contracted amounts, which approximate fair value due to the short period to maturity. Similarly, liabilities, including bank loans, securities loaned or sold under agreements to repurchase and certain payables, are carried at amounts approximating fair value. Long-term debt is carried at face value less unamortized discount, except for the $200.0 million aggregate principal amount of unsecured 7³/4% senior notes due March 15, 2012 hedged by interest rate swaps. Securities owned and securities sold, not yet purchased, are valued at quoted market prices, if available. For securities that do not have readily determinable fair values through quoted market prices, the determination of fair value is based upon consideration of available information, including types of securities, current financial information, restrictions on dispositions, market values of underlying securities and quotations for similar instruments.

In addition to the interest rate swaps mentioned above, the Company has derivative financial instrument positions in option contracts, foreign exchange forward contracts, index futures contracts and commodities futures contracts, which are measured at fair value with gains and losses recognized in earnings. The gross contracted or notional amount of these contracts is not reflected in the consolidated statements of financial condition.

Page 12 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Premises and Equipment

Premises and equipment are depreciated using the straight-line method over the estimated useful lives of the related assets (generally three to ten years). Leasehold improvements are amortized using the straight-line method over the term of related leases or the estimated useful lives of the assets, whichever is shorter.

Goodwill

In accordance with SFAS No. 142 goodwill is not amortized, instead it is reviewed, on at least an annual basis, for impairment. Goodwill is impaired when the carrying amount of the reporting unit exceeds the implied fair value of the reporting unit. While goodwill is no longer amortized, it is tested for impairment annually as of the third quarter.

Securities Borrowed and Securities Loaned

In connection with both its trading and brokerage activities, Jefferies borrows securities to cover short sales and to complete transactions in which customers have failed to deliver securities by the required settlement date, and lends securities to other brokers and dealers for similar purposes. Jefferies has an active securities borrowed and lending matched book business (“Matched Book”), in which Jefferies borrows securities from one party and lends them to another party. When Jefferies borrows securities, Jefferies provides cash to the lender as collateral, which is reflected in the Company’s consolidated financial statements as receivable from brokers and dealers. Jefferies earns interest revenues on this cash collateral. Similarly, when Jefferies lends securities to another party, that party provides cash to Jefferies as collateral, which is reflected in the Company’s consolidated financial statements as payable to brokers and dealers. Jefferies pays interest expense on the cash collateral received from the party borrowing the securities. A substantial portion of Jefferies’ interest revenues and interest expenses results from the Matched Book activity. The initial collateral advanced or received approximates or is greater than, the fair value of the securities borrowed or loaned. Jefferies monitors the fair value of the securities borrowed and loaned on a daily basis and requests additional collateral or returns excess collateral, as appropriate.

Income Taxes

The Company files a consolidated U.S. Federal income tax return, which includes all qualifying subsidiaries. Amounts provided for income taxes are based on income reported for financial statement purposes and do not necessarily represent amounts currently payable. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Deferred income taxes are provided for temporary differences in reporting certain items, principally state income taxes, depreciation, deferred compensation and unrealized gains and losses on securities owned. Tax credits are recorded as a reduction of income taxes when realized.

Legal Reserves

The Company recognizes liabilities for contingencies when there is an exposure that, when fully analyzed, indicates it is both probable that a liability has been incurred and the amount of loss can be reasonably estimated. When a range of probable loss can be estimated, the Company accrues the most likely amount, if not determinable, the Company accrues at least the minimum of the range of probable loss.

Page 13 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

The Company records reserves related to legal proceedings in “accrued expenses and other liabilities.” Such reserves are established and maintained in accordance with SFAS No. 5, Accounting for Contingencies”, and Financial Interpretation No. 14. The determination of these reserve amounts requires significant judgment on the part of management. Management considers many factors including, but not limited to: the amount of the claim; the amount of the loss in the client’s account; the basis and validity of the claim; the possibility of wrongdoing on the part of an employee of the Company; previous results in similar cases; and legal precedents and case law. Each legal proceeding is reviewed with counsel in each accounting period and the reserve is adjusted as deemed appropriate by management. Any change in the reserve amount is recorded in the consolidated financial statements and is recognized as a charge/credit to earnings in that period.

Securities Owned, Securities Pledged to Creditors and Securities Sold, Not Yet Purchased

The following is a summary of the market value of major categories of securities owned and securities sold, not yet purchased, as of March 31, 2005 and December 31, 2004 (in thousands of dollars):


	March 31, 2005				December 31, 2004
			Securities				Securities
			Sold,				Sold,
	Securities		Not Yet		Securities		Not Yet
	Owned		Purchased		Owned		Purchased
Corporate equity securities	$	313,942	$	436,745	$	217,478	$	503,536
High-yield securities		92,141		18,658		92,364		20,340
Corporate debt securities		404,676		336,631		189,684		480,882
U.S. Government and agency obligations		169,927		142,824		26,954		96,747
Auction rate preferreds		26,009		—		50,365		—
Mortgage-backed securities		25,935		—		27,511		—
Asset-backed securities		22,265		—		21,093		—
Other		2,400		1,522		1,075		624
Options		11,776		33,705		22,775		18,044

	$	1,069,071	$	970,085	$	649,299	$	1,120,173

The following is a summary of the market value of major categories of securities pledged to creditors as of March 31, 2005 and December 31, 2004 (in thousands of dollars):


	March 31, 2005		December 31, 2004
Corporate debt securities	$	22,213	$	429,278
High-yield securities		30,768		25,929
Corporate equity securities		119,961		99,407
U.S. Government and agency obligations		—		42,820

	$	172,942	$	597,434

Bank Loans

Bank loans represent short-term borrowings that are payable on demand and generally bear interest at the brokers’ call loan rate. At March 31, 2005, there were $181,000,000 in unsecured bank loans outstanding with an average interest rate of 3.5%.

Page 14 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Long-Term Debt

The following summarizes long-term convertible debt and long-term debt outstanding as of March 31, 2005 and December 31, 2004 (in thousands of dollars):


	March 31, 2005		December 31, 2004
7 1/2% Senior Notes, due 2007, less unamortized discount of $67 (2005)	$	99,933	$	99,926
7 3/4% Senior Notes, due 2012, less unamortized discount of $5,869 (2005)		333,053		341,184
5 1/2% Senior Notes, due 2016, less unamortized discount of $1,998 (2005)		348,002		347,957

	$	780,988	$	789,067

The Company has entered into a fair value hedge with no ineffectiveness using interest rate swaps in order to convert $200 million aggregate principal amount of unsecured 7 3/4% senior notes due March 15, 2012 into floating rates based upon LIBOR. The effective interest rate on the $200 million aggregate principal amount of unsecured 7 3/4% senior notes, after giving effect to the swaps, is 5.2%. The fair value of the mark to market of the swaps was positive $13.9 million as of March 31, 2005, which was recorded as an increase in the book value of the debt and an increase in other assets.

Pension

The following summarizes the net periodic pension cost for the three-month periods ended March 31, 2005 and March 26, 2004 (in thousands of dollars):


	Three Months Ended
	March 31,			March 26,
	2005			2004
Net pension cost included the following components:
Service cost — benefits earned during the period	$	496		$	362
Interest cost on projected benefit obligation		614			551
Expected return on plan assets		(461	)		(362	)
Amortization of prior service cost		(3	)		(3	)
Amortization of net loss (gain)		298			231

Net periodic pension cost	$	944		$	779

The Company has not contributed to its pension plan during 2005 and anticipates contributing $3.0 million during the remainder of 2005.

Minority Interest

Minority interest represents the minority equity holders’ proportionate share of the equity of JEOF. At March 31, 2005, Jefferies Group, Inc. had effective control and owned approximately 28% of JEOF.

Page 15 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Stock-Based Compensation

On January 1, 2003, the Company adopted, on a prospective basis, the fair value method of accounting for stock-based compensation under FASB No. 123, “Accounting for Stock-Based Compensation as amended by FASB No. 148, Accounting for Stock-Based Compensation — Transition and Disclosure — an amendment of FASB Statement No. 123”. Therefore, employee stock options granted on and after January 1, 2003 are expensed by the Company over the option vesting period, based on the estimated fair value of the award on the date of grant. In the first quarter of 2005, the Company recorded a net compensation expense reversal of $4,000 because stock option amortization expense of zero was exceeded by $4,000 in expense reversals related to stock option forfeitures. Additionally, the Company recorded compensation expense of $450,000 related to the Company’s Employee Stock Purchase Plan, based on a discount from market. There were no stock option grants in the first quarter of 2005. Also, there were grants of restricted stock and restricted stock units, most of which relates to 2004 employee compensation, totaling 2,514,502 shares and $91.5 million in the first quarter of 2005.


	1st Quarter			Full Year
	2005			2004
	(Shares in 000s)
Restricted stock
Balance, beginning of year		5,271			5,811
Grants		857			1,763
Forfeited		(11	)		(298	)
RSU conversion		(425	)		(455	)
Vested		(627	)		(1,550	)

Balance, end of period		5,065			5,271


	1st Quarter			Full Year
	2005			2004
	(Shares in 000s)
Restricted stock units (RSU)
Balance, beginning of year		6,029			3,433
Grants, includes dividends		1,657			1,564
Restricted stock conversion		425			455
Deferral expiration		(20	)		—
Grants related to stock option exercises		7			577

Balance, end of period		8,098			6,029

In 2002 and prior years, the Company measured the cost of its stock-based compensation plans using the intrinsic value approach under Accounting Principles Board (“APB”) Opinion No. 25 rather than applying the fair value method provisions of FASB No. 123. Accordingly, the Company has not recognized compensation expense related to stock options granted prior to January 1, 2003 and shares issued to participants in the Company’s employee stock purchase plan prior to January 1, 2003. Therefore, the cost of $17.5 million related to stock-based compensation included in the determination of net income for 2005 and 2004 is less than that which would have been recognized if the fair value based method had been applied to all awards since the original effective date of FASB No. 123.

Page 16 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Had compensation cost for the Company’s stock-based compensation plans been determined consistent with FASB No. 123, the Company’s net earnings and earnings per share would have been reduced to the pro forma amounts indicated below (in thousands of dollars, except per share amounts):


	Three Months Ended
	March 31,			March 26,
	2005			2004
Net earnings, as reported	$	36,672		$	31,909
Add: Stock-based employee compensation expense included in reported net earnings, net of related tax effects		10,197			10,658
Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects		(10,566	)		(11,399	)

Pro forma net earnings	$	36,303		$	31,168


Earnings per share:
Basic – as reported	$	0.61		$	0.57

Basic – pro forma	$	0.60		$	0.55

Diluted – as reported	$	0.56		$	0.51

Diluted – pro forma	$	0.55		$	0.49

Earnings per Share

The following reconciles the numerators and denominators of the basic and diluted earnings per share computations for the three-month periods ended March 31, 2005 and March 26, 2004 (in thousands, except per share amounts):


	Three Months Ended
	March 31,		March 26,
	2005		2004
Earnings	$	36,672	$	31,909


Shares:
Average shares used in basic computation		60,570		56,298
Stock options		1,700		2,330
Unvested restricted stock and restricted stock units		3,727		4,450

Average shares used in diluted computation		65,997		63,078


Earnings per share:
Basic	$	0.61	$	0.57

Diluted	$	0.56	$	0.51

Page 17 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Other Comprehensive Gain (Loss)

The following summarizes other comprehensive loss and accumulated other comprehensive gain (loss) at March 31, 2005 and for the three months then ended (in thousands of dollars):


				Minimum			Accumulated
	Currency			Pension			Other
	Translation			Liability			Comprehensive
	Adjustments			Adjustment			Gain (Loss)
Beginning at December 31, 2004	$	9,348		$	(6,868	)	$	2,480
Change in first quarter of 2005		(2,005	)		—			(2,005	)

Ending at March 31, 2005	$	7,343		$	(6,868	)	$	475

The following summarizes other comprehensive loss and accumulated other comprehensive loss at March 26, 2004 and for the three months then ended (in thousands of dollars):


				Minimum			Accumulated
	Currency			Pension			Other
	Translation			Liability			Comprehensive
	Adjustments			Adjustment			Loss
Beginning at December 31, 2003	$	5,331		$	(7,464	)	$	(2,133	)
Change in first quarter of 2004		(43	)		—			(43	)
Ending at March 26, 2004	$	5,288		$	(7,464	)	$	(2,176	)

Comprehensive income for the three months ended March 31, 2005 and March 26, 2004 was as follows (in thousands of dollars):


	March 31,			March 26,
	2005			2004
Net earnings	$	36,672		$	31,909
Other comprehensive loss		(2,005	)		(43	)

Comprehensive income	$	34,667		$	31,866

Net Capital Requirements

As registered broker-dealers, Jefferies and Jefferies Execution are subject to the Securities and Exchange Commission’s Uniform Net Capital Rule (Rule 15c3-1), which requires the maintenance of minimum net capital. Jefferies and Jefferies Execution have elected to use the alternative method permitted by the Rule, which requires that they each maintain minimum net capital, as defined, equal to the greater of $250,000 or 2% of the aggregate debit balances arising from customer transactions, as defined.

As of March 31, 2005, Jefferies’ and Jefferies Execution’s net capital and excess net capital were as follows (in thousands of dollars):


	Net Capital		Excess Net Capital
Jefferies	$	296,084	$	283,986
Jefferies Execution		13,948		13,698

Page 18 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Quarterly Dividends

In 1988, the Company instituted a policy of paying regular quarterly dividends. There are no restrictions on the Company’s present ability to pay dividends on common stock, other than the governing provisions of the Delaware General Corporation Law.

Dividends per Common Share (declared and paid):


	1^st Qtr.
2005	$	.120
2004	$	.080

On January 20, 2005, the Company approved a 20 percent increase in the Company’s quarterly dividend to 12 cents per share from 10 cents. The dividend was payable March 15 to shareholders of record February 15.

Jefferies Financial Products, LLC.

Jefferies Financial Products, LLC (“JFP”), a wholly-owned subsidiary of the Company, was formed as a limited liability company in November 2003. JFP is a market maker and trader in commodities futures and options. In addition to its market making capacity, JFP offers customers exposure to over-the-counter commodity indices and other commodity baskets in the form of fixed-for-floating swaps (“swaps”), where the return is based on a specific commodity or basket of commodities (e.g., Jefferies Commodity Performance Index (“JCPI”)). The primary end users in this market are creditworthy institutional investors, such as pension funds, mutual funds, foundations, endowments, and insurance companies. These investors generally seek exposure to commodities in order to diversify their existing stock and bond portfolios. Generally, JFP will enter into swaps whereby JFP receives a stream of fixed cash flows against paying the return of a given commodity or index plus a spread or fee (“fee”). The fee is meant to compensate JFP for the costs of replicating the commodity or index exposure in the underlying exchange traded futures markets. The floating return can be either the total return on the index (inclusive of implied collateral yield), or the excess return. JFP also enters into swap, forward and option transactions on foreign exchange, individual commodities and commodity indices.

Generally, the swap contract tenors range from 1 month to 2 years and in some transactions, both parties may settle the changes in the mark-to-market value of the transaction on a monthly basis. Where appropriate, JFP utilizes various credit enhancements, including guarantees, collateral and margin agreements to mitigate the credit exposure relating to these swaps. JFP establishes credit limits based on, among other things, the creditworthiness of the counterparties, the transaction’s size and tenor, and estimated potential exposure. In addition, swap transactions are generally documented under ISDA Master Agreements. JFP believes that such agreements provide for legally enforceable set-off and close-out netting of exposures to specific counterparties. Under such agreements, in connection with an early termination of a transaction, JFP is permitted to set-off its receivables from a counterparty against its payables to the same counterparty arising out of all included transactions. As a result, the fair value represents the net sum of estimated positive fair values after the application of such netting, agreements and collateral held. After consideration of these credit enhancements, JFP has determined that the fair value of its obligations under swaps approximated $26.2 million at March 31, 2005 and $17.3 million at December 31, 2004. The fair value represents the maximum potential loss to JFP. At March 31, 2005, all swaps and exchange-traded commodities and all foreign exchange futures and options are scheduled to mature within one year.

Page 19 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

In July 2004, JFP entered into a credit intermediation facility with an AA-rated European bank (the “Bank”). This facility allows JFP customers that require a counterparty with a high credit rating for commodity index transactions to transact with the Bank. The Bank simultaneously enters into a back-to-back transaction with JFP and receives a fee from JFP for providing credit support. Subject to the terms of the agreement between JFP and the Bank, JFP is generally responsible to the Bank for the performance of JFP’s customers. The Company guarantees the performance of JFP to the Bank under the credit intermediation facility. JFP also provides commodity index pricing to the Bank’s customers and JFP earns revenue from the Bank’s hedging of its customer transactions with JFP.

JFP independently evaluates the creditworthiness of its counterparties, taking into account credit ratings assigned by recognized statistical rating organizations. The average credit rating of swap counterparties as a whole (as measured by the Company’s Credit Risk Committee) is equivalent to AA or higher. The maximum potential loss will increase or decrease during the life of the swap commitments as a function of maturity and changes in market prices.

JFP determines counterparty credit quality by reference to ratings from independent rating agencies or, where such ratings are not available, by internal analysis. At March 31, 2005 and December 31, 2004, the counterparty credit quality with respect to the fair value of commodities and foreign exchange futures, options and swap portfolios were as follows:


	Fair Value
(in millions)	March 31,			December 31,
	2005			2004
Counterparty credit quality:
A or higher	$	(41.1	)	$	10.9
Exchange-traded futures and options^(a)		107.4			(6.0	)

Total	$	66.3		$	4.9

(a)

Exchange-traded commodities and foreign exchange futures and options are not deemed to have significant credit exposures as the exchanges guarantee that every contract will be properly settled on a daily basis.

At March 31, 2005 and December 31, 2004 the counterparty breakdown by industry with respect to the fair value of JFP’s commodities and foreign exchange futures, options and swap portfolio was as follows:


	Fair Value
(in millions)	March 31,			December 31,
	2005			2004
Special purpose	$	(7.4	)	$	8.2
Financial services		(33.7	)		2.7
Exchanges*		107.4			(6.0	)

Total	$	66.3		$	4.9

Page 20 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Financial Instruments

Off-Balance Sheet Risk

The Company has contractual commitments arising in the ordinary course of business for securities loaned or purchased under agreements to sell, securities sold but not yet purchased, repurchase agreements, future purchases and sales of foreign currencies, securities transactions on a when-issued basis, options contracts, futures index contracts, commodities futures contracts and underwriting. Each of these financial instruments and activities contains varying degrees of off-balance sheet risk whereby the market values of the securities underlying the financial instruments may be in excess of, or less than, the contract amount. The settlement of these transactions is not expected to have a material effect upon the Company’s consolidated financial statements.

Derivative Financial Instruments

The Company has derivative financial instrument positions in foreign exchange forward contracts, option contracts, commodities related swaps, and index and commodity futures contracts, all of which are measured at fair value with realized and unrealized gains and losses recognized in earnings. The foreign exchange forward contract positions are generally taken to lock in the dollar cost of proceeds of foreign currency commitments associated with unsettled foreign denominated securities purchases or sales. The average maturity of the forward contracts is generally less than two weeks. The option positions taken are generally part of a strategy to offset equity positions. The index futures positions are taken as a hedge against securities positions, as a hedge against the commodities futures positions underlying the indices, or as a hedge against the commodities related swap positions. The average maturity of the index futures positions and the commodities futures positions is generally one to two months.

The Company has also entered into a fair value hedge with no ineffectiveness using interest rate swaps in order to convert $200.0 million aggregate principal amount of unsecured 7³/4% senior notes due March 15, 2012 into floating rates based upon LIBOR. The effective interest rate on the $200.0 million aggregate principal amount of unsecured 7³/4% senior notes, after giving effect to the swaps, is 5.2%. The fair value of the mark to market of the swaps was positive $13.9 million as of March 31, 2005, which was recorded as an increase in the book value of the debt and an increase in derivative assets classified as part of other assets.

The gross contracted or notional amount of index futures contracts, commodities futures contracts, commodities related swaps, options contracts, foreign exchange forward contracts and interest rate swaps, which are not reflected in the consolidated statement of financial condition, is set forth in the table below (in thousands of dollars) and provides only a measure of the Company’s involvement in these contracts at March 31, 2005 and December 31, 2004. They do not represent amounts subject to market risk and, in many cases, serve to reduce the Company’s overall exposure to market and other risks.


	Notional or contracted amount
	March 31, 2005				December 31, 2004
	Purchase		Sale		Purchase		Sale
Futures contracts	$	2,165,435	$	794,616	$	1,236,260	$	450,114
Commodities related swaps		15,000		1,334,698		—		586,698
Option contracts		542,523		622,251		652,571		789,565
Foreign exchange forward contracts		30,678		6,599		477		25,095
Interest rate swaps		200,000		—		200,000		—

Page 21 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Fair Value of Derivative Financial Instruments

FASB No. 133, “Accounting for Derivative Instruments and Hedging Activities,” as amended, establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts (collectively referred to as derivatives) and for hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial condition and measure those instruments at fair value.

The following is an aggregate summary of the average first three months of 2005 and full year 2004 and March 31, 2005 and December 31, 2004 fair values of derivative financial instruments (in thousands of dollars):


	1st Three Months 2005						Full Year 2004
	Average			End of period			Average			End of period
Futures contracts:
In a favorable position	$	87,498		$	132,182		$	9,846		$	338
In an unfavorable position		(28,649	)		(20,427	)		(10,473	)		(10,239	)
Commodities related swaps:
In a favorable position		5,113			4,482			5,159			3,531
In an unfavorable position		(22,743	)		(31,242	)		(2,733	)		(20,497	)
Option contracts:
Purchase		13,251			11,776			17,739			22,775
Sale		(24,997	)		(33,705	)		(10,348	)		(18,044	)
Foreign exchange forward contracts		465			1,799			10			(27	)
Interest rate swaps:
In a favorable position		18,901			13,922			22,515			22,209

Guarantees

In the normal course of business, the Company had letters of credit outstanding aggregating $22.2 million at March 31, 2005, mostly to satisfy various collateral requirements in lieu of depositing cash or securities. These letters of credit have a current carrying amount of aggregate liability of $0.

As of March 31, 2005, the Company had outstanding guarantees of $24.0 million relating to undrawn bank credit obligations of two associated investment funds in which the Company has an interest. Also, the Company has guaranteed obligations of Jefferies International Limited (“JIL”) to various banks which provide clearing and credit services to JIL and to counterparties of JIL. In addition, as of March 31, 2005, the Company had commitments to invest up to $130.6 million in various investments.

On October 7, 2004, the Company entered into an agreement with Babson Capital and MassMutual to form Jefferies Babson Finance LLC, a joint venture entity created for the purpose of offering senior loans to middle market and growth companies. Jefferies Babson Finance LLC will be capitalized over time with $250 million in equity commitments, provided equally by Jefferies Group, Inc. and Babson Capital’s parent, MassMutual, and will be leveraged. Loans are expected to be originated primarily through the investment banking efforts of Jefferies & Company, Inc. with Babson Capital providing primary credit analytics and portfolio management services.

Page 22 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

In July 2004, JFP entered into a credit intermediation facility with an “AA”-rated European bank (the “Bank”). This facility will allow JFP customers that require a counterparty with a high credit rating for commodity index transactions to transact with the Bank. The Bank will simultaneously enter into a back-to-back transaction with JFP and receive a fee from JFP for providing credit support. Subject to the terms of the agreement between JFP and the Bank, JFP is generally responsible to the Bank for the performance of JFP’s customers. The Company guarantees the performance of JFP to the Bank under the credit intermediation facility. JFP will also provide commodity index pricing to the Bank’s customers and JFP will earn revenue from the Bank’s hedging of its customer transactions with JFP. The Company also guaranteed the performance of JFP to various banks and dealers, which provide futures clearing to JFP and act as trading counterparties to JFP.

Credit Risk

In the normal course of business, the Company is involved in the execution, settlement and financing of various customer and principal securities transactions. Customer activities are transacted on a cash, margin or delivery-versus-payment basis. Securities transactions are subject to the risk of counterparty or customer nonperformance. However, transactions are collateralized by the underlying security, thereby reducing the associated risk to changes in the market value of the security through settlement date or to the extent of margin balances.

The Company seeks to control the risk associated with these transactions by establishing and monitoring credit limits and by monitoring collateral and transaction levels daily. The Company may require counterparties to deposit additional collateral or return collateral pledged. In the case of aged securities failed to receive, the Company may, under industry regulations, purchase the underlying securities in the market and seek reimbursement for any losses from the counterparty.

Concentration of Credit Risk

As a securities firm, the Company’s activities are executed primarily with and on behalf of other financial institutions, including brokers and dealers, banks and other institutional customers. Concentrations of credit risk can be affected by changes in economic, industry or geographical factors. The Company seeks to control its credit risk and the potential risk concentration through a variety of reporting and control procedures, including those described in the preceding discussion of credit risk.

Segment Reporting

The Company’s operations have been classified into a single business segment, a securities broker-dealer, which includes several types of financial services. This segment includes the traditional securities brokerage and investment banking activities of the Company. Traditional securities brokerage and investment banking activities account for over 90% of total revenue for the three months ended March 31, 2005.

Page 23 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

Goodwill

The following is a summary of goodwill as of March 31, 2005 (in thousands of dollars):


	2004		2005			2005		Acquisition
Acquisition	Balance		Activity			Balance		Date
Broadview International LLC	$	48,827	$	(1,243	)	$	47,584	Dec. 2003
Randall & Dewey		¾		41,132			41,132	Jan. 2005
Helfant Group, Inc.		26,062		¾			26,062	Sept. 2001
Quarterdeck Investment Partners, LLC		25,170		3,858			29,028	Dec. 2002
Bonds Direct Securities LLC		20,943		¾			20,943	Sept. 2004
The Europe Company		11,123		¾			11,123	Aug. 2000
Other		2,811		¾			2,811	Aug. 2000

	$	134,936	$	43,747		$	178,683

The Company acquired certain assets of Randall & Dewey for approximately $17.5 million in stock and $25.7 million in cash. The acquisition was accounted for as a purchase and preliminarily resulted in approximately $41.1 million in goodwill. There is also a five-year contingency for additional consideration, based on future revenues.

The acquisitions of Bonds Direct, Broadview International LLC and Quarterdeck Investment Partners, LLC all contain a five-year contingency for additional consideration, based on future revenues.

The 2005 activity for Quarterdeck Investment Partners, LLC represents additional contingent consideration. The 2005 activity for Broadview International LLC represents an adjustment to goodwill.

None of the acquisitions listed above were considered material based on the small percentage they represent of the Company’s total assets, equity, revenues and net earnings. There was no goodwill impairment as of March 31, 2005.

Page 24 of 40

JEFFERIES GROUP, INC. AND SUBSIDIARIES

Item 2. Management’s Discussion and Analysis of Financial
Condition and Results of Operations

Special Note on Forward-Looking Statements

This report contains or incorporates by reference “forward-looking statements” within the meaning of the safe harbor provisions of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements include statements about our future and statements that are not historical facts. These forward-looking statements are usually preceded by the words “believe,” “intend,” “may,” “will,” or similar expressions. Forward-looking statements may contain expectations regarding revenues, earnings, operations and other financial projections, and may include statements of future performance, plans and objectives. Forward-looking statements also include statements pertaining to our strategies for future development of our business and products. Forward-looking statements represent only our belief regarding future events, many of which by their nature are inherently uncertain and outside of our control. It is possible that the actual results may differ, possibly materially, from the anticipated results indicated in these forward-looking statements. Information regarding important factors that could cause actual results to differ, perhaps materially, from those in our forward-looking statements is contained in this report and other documents we file. You should read and interpret any forward-looking statement together with these documents, including the following:

•   the risk factors contained in this report under the caption “Factors Affecting Our Business”;

•   the discussion of our analysis of financial condition and results of operations contained in this report under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations”;

•   the notes to consolidated financial statements contained in this report; and

•   cautionary statements we make in our public documents, reports and announcements.

Any forward-looking statement speaks only as of the date on which that statement is made. We will not update any forward-looking statement to reflect events or circumstances that occur after the date on which the statement is made.

Analysis of Financial Condition

Total assets decreased $253.9 million, or 2%, from $13,824.6 million at December 31, 2004 to $13,570.7 million at March 31, 2005. Securities borrowed decreased $620.6 million and securities loaned decreased $426.9 million. The decreases in securities borrowed and securities loaned are mostly related to a change in the financing of the Bonds Direct securities inventories.

A substantial portion of our total assets consists of highly liquid marketable securities and short-term receivables, arising principally from traditional securities brokerage and investment banking activity. The highly liquid nature of these assets provides us with flexibility in financing and managing our business.

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JEFFERIES GROUP, INC. AND SUBSIDIARIES

The following table sets forth book value, pro forma book value, tangible book value and pro forma tangible book value per share (dollars in thousands, except per share data):


	March 31, 2005			December 31, 2004
Stockholders’ equity	$	1,121,386		$	1,039,133
Less: Goodwill		(178,683	)		(134,936	)

Tangible stockholders’ equity	$	942,703		$	904,197

Stockholders’ equity	$	1,121,386		$	1,039,133
Add: Projected tax benefit on vested portion of restricted stock		83,969			99,057

Pro forma stockholders’ equity	$	1,205,355		$	1,138,190

Tangible stockholders’ equity	$	942,703		$	904,197
Add: Projected tax benefit on vested portion of restricted stock		83,969			99,057

Pro forma tangible stockholders’ equity	$	1,026,672		$	1,003,254

Shares outstanding		58,089,929			57,289,309
Add: Shares not issued, to the extent of related expense amortization		8,173,065			8,065,362
Less: Shares issued, to the extent related expense has not been amortized		(1,771,690	)		(2,006,365	)

Adjusted shares outstanding		64,491,304			63,348,306

Book value per share (1)	$	19.30		$	18.14

Pro forma book value per share (2)	$	18.69		$	17.97

Tangible book value per share (3)	$	16.23		$	15.78

Pro forma tangible book value per share (4)	$	15.92		$	15.84

(1)		Book value per share equals stockholders’ equity divided by common shares outstanding.

(2)		Pro forma book value per share equals stockholders’ equity plus the projected deferred tax benefit on the vested portion of restricted stock and RSUs divided by common shares outstanding adjusted for shares not yet issued to the extent of the related expense amortization and shares issued to the extent the related expense has not been amortized.

(3)		Tangible book value per share equals tangible stockholders’ equity divided by common shares outstanding.

(4)		Pro forma tangible book value per share equals tangible stockholders’ equity plus the projected deferred tax benefit on the vested portion of restricted stock and RSUs divided by common shares outstanding adjusted for shares not yet issued to the extent of the related expense amortization and shares issued to the extent the related expense has not been amortized.

Tangible stockholders’ equity, pro forma book value per share, tangible book value per share and pro forma tangible book value per share are “non-GAAP financial measures”. A “non-GAAP financial measure” is a numerical measure of financial performance that includes adjustments to the most directly comparable measure calculated and presented in accordance with GAAP, or for which there is no specific GAAP guidance. We calculate tangible stockholders’ equity as stockholders’ equity less intangible assets. We calculate pro forma book value per share as stockholders’ equity plus the projected deferred tax benefit on the vested portion of restricted stock and RSUs divided by common shares outstanding adjusted for shares not yet issued to the extent of the related expense amortization and shares issued to the extent the related expense has not been amortized. We calculate tangible book value per share by dividing tangible stockholders’ equity by common stock outstanding. We consider tangible book value per share a meaningful measurement of our financial condition and believe it provides investors with an additional metric to comparatively assess the fair market value of our stock.

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JEFFERIES GROUP, INC. AND SUBSIDIARIES

Revenues by Source

The following provides a breakdown of total revenues by source for the past three years.


	2004		2003		2002
Commissions and principal transactions:
Equities	$	446,565	$	395,375	$	381,622
High Yield		44,884		40,291		26,905
Convertibles		44,989		50,934		50,750
Execution		32,546		23,737		29,310
Bonds Direct		41,023		27,242		11,516
Other proprietary		7,044		13,911		(3,455	)

Total		617,051		551,490		496,648

Investment banking		352,804		229,608		139,828
Asset management fees and investment income from managed funds:
Asset management fees		38,208		17,268		12,026
Investment income from managed funds		42,976		15,501		7,617
Total		81,184		32,769		19,643
Interest		134,450		102,403		92,027
Other		13,150		10,446		6,630

Total Revenues	$	1,198,639	$	926,716	$	754,776

The following provides a breakdown of total revenues by source for the three-month periods ended March 31, 2005 and March 26, 2004.


	Three Months Ended
	March 31, 2005					March 26, 2004
			% of					% of
			Total					Total
	Amount		Revenues			Amount		Revenues
			(Dollars in thousands)
Commissions and principal transactions:
Equities	$	95,067		28	%	$	110,547		36	%
High Yield		16,650		5			12,380		4
Convertibles		8,115		2			14,840		5
Execution		7,060		2			8,570		3
Bonds Direct		7,234		2			11,152		4
Other proprietary		7,480		2			1,254		0

Total		141,606		41			158,743		52
Investment banking		117,442		34			91,372		30
Asset management fees and investment income from managed funds:
Asset management fees		14,909		4			10,105		3
Investment income from managed funds		6,375		2			13,696		5

Total		21,284		6			23,801		8
Interest		59,851		18			24,739		8
Other		3,710		1			4,439		2

Total revenues	$	343,893		100	%	$	303,094		100	%

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JEFFERIES GROUP, INC. AND SUBSIDIARIES

First Quarter 2005 Versus First Quarter 2004

Overview

Revenues, net of interest expense, increased $7.5 million, or 3%, to $286.0 million, compared to $278.5 million for the first quarter of 2004. The increase was primarily due to a $26.1 million, or 29%, increase in investment banking and a $1.8 million increase in net interest revenues (interest income less interest expense), partially offset by a $17.1 million, or 11%, decrease in trading revenues (commissions and principal transactions) and a $2.5 million, or 11%, decrease in asset management fees and investment income from managed funds.

Equity Product Revenue

Equity product revenue is composed of commissions and principal transaction trading revenues, net of soft dollar expenses. Equity product revenue for the first quarter was $95.1 million, down 14% over last year’s first quarter. Equity product revenue decreased this quarter for the following reasons: (i) a challenging trading environment during the first quarter of 2005 compared with strong January and February 2004 trading activity, and (ii) a loss related to a large block trading opportunity generated from an investment banking relationship.

High Yield Product Revenue

High yield product revenue for the quarter, not including origination revenues, was $16.7 million, up 34% over last year’s first quarter. The increase in high yield product revenue was due to increased trading activity in energy related issues, offset by the impact of the roll out of NASD’s Trade Reporting and Compliance Engine (“TRACE”) resulting in tighter spreads. Revenues were also impacted by rising interest rates and increased competition.

Convertible Product Revenue

Convertible product revenue for the quarter was $8.1 million, down 45% from last year’s first quarter. The decrease is attributed to the impact of the roll out of TRACE resulting in tighter spreads. Revenues were also impacted by reduced customer activity in this asset class.

Execution Product Revenue

Execution product revenue was $7.1 million, down 18% from last year’s first quarter. The decrease in execution revenue was due to a higher percentage of orders executed electronically versus manually, typically at lower rates per share.

Bonds Direct Product Revenue

Bonds Direct product revenue was $7.2 million, down 35% from last year’s first quarter. The decrease was driven by the decreased demand for “odd lot” corporate bonds and the impact of the roll out of TRACE resulting in tighter spreads.

Other Proprietary Revenue

Other proprietary includes revenues from the commodity index, swap, option and futures transactions of Jefferies Financial Products, LLC (“JFP”), correspondent clearing and stock lending related activities as well as non-core revenues from other sources. Other proprietary revenue was $7.5 million for the quarter, up 496% from last year’s first quarter. The increase in other proprietary revenue this quarter was primarily the result of an increase in the notional amount of JFP’s commodity index swap, option and futures transactions and related trading and arbitrage activity over the period. The total notional amount of JFP’s commodity index swaps, option and futures transactions was $2,041 million and $276 million as of March 31, 2005 and March 26, 2004.

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JEFFERIES GROUP, INC. AND SUBSIDIARIES

Investment Banking Product Revenue


	Three Months Ended
	March 31,		March 26,		Percentage
	2005		2004		Change
	(Dollars in Thousands)
Capital markets	$	51,417	$	47,470		8	%
Advisory		66,026		43,902		50	%

Total	$	117,443	$	91,372		29	%

Capital markets revenues, which consist primarily of debt, equity and convertible financing services were $51.4 million, an increase of 8% from the comparable period in 2004. The increase in capital markets revenues can be attributed primarily to the increase in lead or co-manager assignments for equity offerings, including in the energy and financial service sectors.

Revenues from advisory activities were $66.0 million, an increase of 50% from the comparable period of 2004. The increase can primarily be attributable to services rendered on M&A assignments in the technology, energy and aerospace & defense sectors.

Asset Management Revenue

Asset management revenue includes revenues we receive from management and performance fees from funds managed by us, revenues from asset management and performance fees we receive from third-party managed funds, and investment revenue from our investments in these funds. Asset management revenues were $21.3 million for the quarter, down 11% from last year’s first quarter. The decrease in asset management revenue this quarter was partially a result of a reduced investment income from the equity funds versus last year’s first quarter. In addition, during the quarter, we initiated a liquidation of the Jackson Creek CDO, which resulted in a decrease in investment income, partially offset by additional incentive fees earned based on the early termination of this fund.

Net Interest Expense

Interest income increased $35.1 million primarily as a result of increased stock lending activity and increases in interest rates, and interest expense increased by $33.3 million primarily as a result of increased stock borrowing activity, increases in interest rates, as well as additional interest expense associated with the issuance of the $350 million in long-term debt in March of 2004.

Compensation and Benefits

Compensation and benefits increased $3.1 million, or 2%, versus the 3% increase in net revenues. The ratio of compensation to net revenues was 57% for both the first quarter of 2005 and 2004.

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JEFFERIES GROUP, INC. AND SUBSIDIARIES

The following table summarizes certain selected financial ratios related to the issuance of stock-based compensation to our employees (dollars in thousands):


	1st Quarter			1st Quarter
	2005			2004
Stock based compensation (1)	$	18,139		$	19,569
Net revenues	$	286,010		$	278,507
Compensation and benefits	$	161,988		$	158,938
Average employees		1,817			1,612

Stock based compensation / net revenues		6	%		7	%
Stock based compensation / compensation and benefits		11	%		12	%
Annualized average net stock based compensation / employee	$	23		$	30

(1) Stock based compensation is the pre-tax expense associated with all of our employee stock-based compensation plans, including the discount on DCP deferred shares, restricted stock amortization, discounts on employee stock purchase plans and ESOP contributions.

Non-Personnel Expenses

Non-Personnel expenses were up about 6% over last year’s first quarter. The increase in non-personnel expenses is primarily the result of the expansion of our business platform. Included in non-personnel expenses for the quarter was the Company’s share of the contribution to tsunami relief efforts, amounting to approximately $2 million, which is in addition to the $1 million donated by Jefferies employees.

Technology and communications remained relatively unchanged as compared to the prior year’s quarter. Floor brokerage and clearing fees decreased $1.6 million, or 11%. Other expenses increased $4.0 million, or 40%, mostly due to the tsunami relief contribution and higher general consulting. Occupancy and equipment rental expense increased $1.2 million, or 13%, mostly due to the addition of Randall & Dewey. Business development expenses remained relatively unchanged as compared to the prior year’s quarter.

Earnings before Income Taxes and Minority Interest

Earnings before income taxes and minority interest were up $1.0 million, or 2%, to $62.2 million, compared to $61.2 million for the same prior year period. The effective tax rate was approximately 38% for the first quarter of 2005 compared to 35% for the first quarter of 2004. This increase in rates is due primarily to a reduction in the effect of minority interest holders in several LLCs, which we control but are not subject to tax, and an increase in effective state tax rates.

Minority Interest

Minority interest was down $6.0 million, or 75%, to $2.1 million, compared to $8.1 million for the first quarter of 2004. RTS and ACM were de-consolidated in the second quarter of 2004 due to changes in the capital structure of those two entities.

Earnings per Share

Basic net earnings per share were $0.61 for the first quarter of 2005 on 60,570,000 shares compared to $0.57 in the 2004 period on 56,298,000 shares. Diluted net earnings per share were $0.56 for the first quarter of 2005 on 65,997,000 shares compared to $0.51 in the comparable 2004 period on 63,078,000 shares.

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JEFFERIES GROUP, INC. AND SUBSIDIARIES

Liquidity and Capital Resources

Cash or assets readily convertible into cash are as follows (in thousands of dollars):


	March 31, 2005		December 31, 2004
Cash and cash equivalents:
Cash in banks	$	109,876	$	105,814
Money market investments		184,499		178,297

Total cash and cash equivalents		294,375		284,111
Cash and securities segregated		444,184		553,720
Short-term bond funds		6,879		6,861
Auction rate preferreds (a)		26,009		50,365
Mortgage-backed securities (a)		25,935		27,511
Asset-backed securities (a)		22,265		21,093

	$	819,647	$	943,661

(a)

Items are included in Securities Owned (see note below). Items are financial instruments utilized in the Company’s overall cash management and are readily convertible to cash.

A substantial portion of our assets is liquid, consisting of cash or assets readily convertible into cash. The majority of securities positions (both long and short) in our trading accounts are readily marketable and actively traded. Receivables from brokers and dealers are primarily current open transactions or securities borrowed transactions, which can be settled or closed out within a few days. Receivable from customers includes margin balances and amounts due on uncompleted transactions. Most of our receivables are secured by marketable securities.

Our assets are funded by equity capital, senior debt, subordinated debt, securities loaned, customer free credit balances, bank loans and other payables. Bank loans represent temporary (usually overnight) secured and unsecured short-term borrowings, which are generally payable on demand. We have arrangements with banks for unsecured financing of $255 million. Secured bank loans are collateralized by a combination of customer, non-customer and firm securities. We have always been able to obtain necessary short-term borrowings in the past and believe that we will continue to be able to do so in the future. Additionally, we have $22.2 million in letters of credit outstanding, which are used in the normal course of business mostly to satisfy various collateral requirements in lieu of depositing cash or securities.

Jefferies and Jefferies Execution are subject to the net capital requirements of the Commission and other regulators, which are designed to measure the general financial soundness and liquidity of broker-dealers. Jefferies and Jefferies Execution use the alternative method of calculation.

As of March 31, 2005, Jefferies’ and Jefferies Execution’s net capital and excess net capital were as follows (in thousands of dollars):


	Net Capital		Excess Net Capital
Jefferies	$	296,084	$	283,986
Jefferies Execution		13,948		13,698

During the three months ended March 31, 2005, we purchased 490,256 shares of our common stock for $18.9 million in connection with our stock compensation plans which allow participants to use shares to pay the exercise price of options exercised and to use shares to satisfy tax liabilities arising from the exercise of options or the vesting of restricted stock. The number above does not include unvested shares forfeited back to the Company pursuant to the terms of our stock compensation plans. We believe that we have sufficient liquidity and capital resources to make these repurchases without any material adverse effect on us.

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JEFFERIES GROUP, INC. AND SUBSIDIARIES

As of March 31, 2005, we had outstanding guarantees of $24.0 million relating to undrawn bank credit obligations of two associated investment funds in which we have an interest. Also, we have guaranteed the performance of JIL and JFP to various banks and dealers, which provide clearing and credit services to JIL, JFP and to counterparties of JIL and JFP. In addition, as of March 31, 2005, we had commitments to invest up to $130.6 million in various investments.

Critical Accounting Policies

The unaudited consolidated financial statements are prepared in conformity with accounting principles generally accepted in the United States of America, which require management to make estimates and assumptions that affect the amounts reported in the unaudited consolidated financial statements and related notes. Actual results will inevitably differ from estimates. These differences could be material to the financial statements.

We believe our application of accounting policies and the estimates required therein are reasonable. These accounting policies and estimates are constantly re-evaluated, and adjustments are made when facts and circumstances dictate a change. Historically, we have found our application of accounting policies to be appropriate, and actual results have not differed materially from those determined using necessary estimates.

Our management believes our critical accounting policies (policies that are both material to the financial condition and results of operations and require management’s most difficult, subjective or complex judgments) are our valuation methodologies applied to investments and our valuation methodologies applied to securities positions.

Investments are stated at estimated fair value as determined in good faith by management. Factors considered in valuing individual investments include, without limitation, available market prices, reported net asset values, type of security, purchase price, purchases of the same or similar securities by other investors, marketability, restrictions on disposition, current financial position and operating results, and other pertinent information.

Furthermore, judgment is used to value certain securities (e.g., private securities, 144A securities, less liquid securities) if quoted market prices are not available. These valuations are made with consideration for various assumptions, including time value, yield curve, volatility factors, liquidity, market prices on comparable securities and other factors. The subjectivity involved in this process makes these valuations inherently less reliable than quoted market prices. We believe that our comprehensive risk management policies and procedures serve to monitor the appropriateness of the assumptions used. The use of different assumptions, however, could produce materially different estimates of fair value.

Factors Affecting Our Business

The following factors describe some of the assumptions, risks, uncertainties and other factors that could adversely affect our business or that could otherwise result in changes that differ materially from our expectations. In addition to the factors mentioned in this report, we are also affected by changes in general economic and business conditions, acts of war, terrorism and natural disasters.

Changing conditions in financial markets and the economy could result in decreased revenues.

As an investment banking and securities firm, changes in the financial markets or economic conditions in the United States and elsewhere in the world could adversely affect our business in many ways, including the following:

• A market downturn could lead to a decline in the volume of transactions executed for customers and, therefore, to a decline in the revenues we receive from commissions and spreads.

• Unfavorable financial or economic conditions could likely reduce the number and size of transactions in which we provide underwriting, financial advisory and other services. Our investment banking revenues, in the form of financial advisory and underwriting or placement fees, are directly related to the number and size of the transactions in which we participate and could therefore be adversely affected by unfavorable financial or economic conditions.

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JEFFERIES GROUP, INC. AND SUBSIDIARIES

• Adverse changes in the market could lead to a reduction in revenues from principal transactions and commissions.

• Adverse changes in the market could also lead to a reduction in revenues from asset management fees and investment income from managed funds and losses from managed funds. Continued increases in our asset management business, including increases in the amount of our investments in managed funds, would make us more susceptible to adverse changes in the market.

Our proprietary trading and investments expose us to risk of loss.

A significant portion of our revenues is derived from proprietary trading in which we act as principal. Although the majority of our trading is “riskless principal” in nature, we may incur trading losses relating to the purchase, sale or short sale of high yield, international, convertible, and equity securities and futures and commodities for our own account and from other program or proprietary trading. Additionally, we have made substantial investments of our capital in debt and equity securities, including investments managed by us and investments managed by third parties. In any period, we may experience losses as a result of price declines, lack of trading volume, and illiquidity. From time to time, we may engage in a large block trade in a single security or maintain large position concentrations in a single security, securities of a single issuer, or securities of issuers engaged in a specific industry. Any downward price movement in these securities could result in a reduction of our revenues and profits. In addition, we may engage in hedging transactions that if not successful, could result in losses.

Increased competition may adversely affect our revenues and profitability.

All aspects of our business are intensely competitive. We compete directly with numerous other brokers and dealers, investment banking firms and banks. In addition to competition from firms currently in the securities business, there has been increasing competition from others offering financial services, including automated trading and other services based on technological innovations. We believe that the principal factors affecting competition involve market focus, reputation, the abilities of professional personnel, the ability to execute the transaction, relative price of the service and products being offered and the quality of service. Increased competition or an adverse change in our competitive position could lead to a reduction of business and therefore a reduction of revenues and profits. Competition also extends to the hiring and retention of highly skilled employees. A competitor may be successful in hiring away an employee or group of employees, which may result in our losing business formerly serviced by such employee or employees. Competition can also raise our costs of hiring and retaining the key employees we need to effectively execute our business plan.

Operational risks may disrupt our business, result in regulatory action against us or limit our growth.

Our businesses are highly dependent on our ability to process, on a daily basis, a large number of transactions across numerous and diverse markets in many currencies, and the transactions we process have become increasingly complex. If any of our financial, accounting or other data processing systems do not operate properly or are disabled or if there are other shortcomings or failures in our internal processes, people or systems, we could suffer an impairment to our liquidity, financial loss, a disruption of our businesses, liability to clients, regulatory intervention or reputational damage. These systems may fail to operate properly or become disabled as a result of events that are wholly or partially beyond our control, including a disruption of electrical or communications services or our inability to occupy one or more of our buildings. The inability of our systems to accommodate an increasing volume of transactions could also constrain our ability to expand our businesses.

We also face the risk of operational failure or termination of any of the clearing agents, exchanges, clearing houses or other financial intermediaries we use to facilitate our securities transactions. Any such failure or termination could adversely affect our ability to effect transactions and manage our exposure to risk.

In addition, despite the contingency plans we have in place, our ability to conduct business may be adversely impacted by a disruption in the infrastructure that supports our businesses and the communities in which they are located. This may include a disruption involving electrical, communications, transportation or other services used by us or third parties with which we conduct business.

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JEFFERIES GROUP, INC. AND SUBSIDIARIES

Our operations rely on the secure processing, storage and transmission of confidential and other information in our computer systems and networks. Although we take protective measures and endeavor to modify them as circumstances warrant, our computer systems, software and networks may be vulnerable to unauthorized access, computer viruses or other malicious code, and other events that could have a security impact. If one or more of such events occur, this potentially could jeopardize our or our clients’ or counterparties’ confidential and other information processed and stored in, and transmitted through, our computer systems and networks, or otherwise cause interruptions or malfunctions in our, our clients’, our counterparties’ or third parties’ operations. We may be required to expend significant additional resources to modify our protective measures or to investigate and remediate vulnerabilities or other exposures, and we may be subject to litigation and financial losses that are either not insured against or not fully covered through any insurance maintained by us.

Asset Management revenue is subject to variability.

Asset management revenue includes revenues we receive from management and performance fees from funds managed by us, revenues from asset management and performance fees we receive from third-party managed funds, and investment income from our investments in these funds. Some of our revenues from asset management and performance fees are derived from our own investments in these funds. We experience significant fluctuations in our quarterly operating results due to the nature of our asset management business and therefore may fail to meet revenue expectations. Asset management revenue may not be sustainable as it is highly dependent on performance that is likely to vary.

We face numerous risks and uncertainties as we expand our business.

We expect the growth of our business to come primarily from internal expansion and through acquisitions and strategic partnering. As we expand our business, there can be no assurance that our financial controls, the level and knowledge of our personnel, our operational abilities, our legal and compliance controls and our other corporate support systems will be adequate to manage our business and our growth. The ineffectiveness of any of these controls or systems could adversely affect our business and prospects. In addition, as we acquire new businesses, we face numerous risks and uncertainties integrating their controls and systems into ours, including financial controls, accounting and data processing systems, management controls and other operations. A failure to integrate these systems and controls, and even an inefficient integration of these systems and controls, could adversely affect our business and prospects.

Our business depends on our ability to maintain adequate levels of personnel.

We have made substantial increases in the number of our personnel. If a significant number of our key personnel leave, or if our business volume increases significantly over current volume, we could be compelled to hire additional personnel. At that time, there could be a shortage of qualified and, in some cases, licensed personnel whom we could hire. This could hinder our ability to expand or cause a backlog in our ability to conduct our business, including the handling of investment banking transactions and the processing of brokerage orders, all of which could harm our business, financial condition and operating results.

Our business is substantially dependent on our Chief Executive Officer.

Our future success depends to a significant degree on the skills, experience and efforts of Richard Handler, our Chief Executive Officer. We do not have an employment agreement with Mr. Handler. The loss of his services could compromise our ability to effectively operate our business. In addition, in the event that Mr. Handler ceases to actively manage the three funds that invest on a pari passu basis with our High Yield Division, investors in those funds would have the right to withdraw from the funds. Although we have substantial key man life insurance covering Mr. Handler, the proceeds from the policy may not be sufficient to offset any loss in business.

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JEFFERIES GROUP, INC. AND SUBSIDIARIES

Extensive regulation of our business limits our activities, and, if we violate these regulations, we may be subject to significant penalties.

The securities industry in the United States is subject to extensive regulation under both federal and state laws. The Securities and Exchange Commission is the federal agency responsible for the administration of federal securities laws. In addition, self-regulatory organizations, principally NASD and the securities exchanges, are actively involved in the regulation of broker-dealers. Securities firms are also subject to regulation by regulatory bodies, state securities commissions and state attorneys general in those foreign jurisdictions and states in which they do business. Broker-dealers are subject to regulations which cover all aspects of the securities business, including sales methods, trade practices among broker-dealers, use and safekeeping of customers’ funds and securities, capital structure of securities firms, anti-money laundering, record-keeping and the conduct of directors, officers and employees. Broker-dealers that engage in commodities and futures transactions are also subject to regulation by the Commodity Futures Trading Commission (“CFTC”) and the National Futures Association (“NFA”). The Commission, self-regulatory organizations, state securities commissions, state attorneys general, the CFTC and the NFA may conduct administrative proceedings which can result in censure, fine, suspension, expulsion of a broker-dealer or its officers or employees, or revocation of broker-dealer licenses. Additional legislation, changes in rules promulgated by the Commission or self-regulatory organizations, or changes in the interpretation or enforcement of existing laws and rules, may directly affect our mode of operation and our profitability.

Legal liability may harm our business.

Many aspects of our business involve substantial risks of liability, and in the normal course of business, we have been named as a defendant or co-defendant in lawsuits involving primarily claims for damages. The risks associated with potential legal liabilities often may be difficult to assess or quantify and their existence and magnitude often remain unknown for substantial periods of time. Our expansion into private client services involves an aspect of the business that has historically had more risk of litigation than our institutional business. Additionally, the expansion of our business, including increases in the number and size of investment banking transactions and our expansion into new areas, imposes greater risks of liability. In addition, unauthorized or illegal acts of our employees could result in substantial liability to us. Substantial legal liability could have a material adverse financial effect or cause us significant reputational harm, which in turn could seriously harm our business and our prospects.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

We use a number of quantitative tools to manage our exposure to market risk. These tools include:

•   inventory position and exposure limits, on a gross and net basis;

•   scenario analyses, stress tests and other analytical tools that measure the potential effects on our trading net revenues of various market events, including, but not limited to, a large widening of credit spreads, a substantial decline in equities markets and significant moves in selected emerging markets; and

•   risk limits based on a summary measure of risk exposure referred to as Value-at-Risk (VaR).

Value-at-Risk

An estimation of potential loss in value of our trading positions that could materialize from changes in market conditions is typically accomplished through the use of statistical models, known as value-at-risk (VaR).

The VaR numbers are calculated using a one-day time horizon and a 95 percent confidence level. This confidence level implies that the daily trading revenue arising from changing in market conditions should remain within the VaR parameters 19 out of 20 days.

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JEFFERIES GROUP, INC. AND SUBSIDIARIES

We use historical data to estimate our VaR. As with all measures of value-at-risk, our estimate has limitations due to our reliance on historical performance, which is not a predictor of the future. Consequently, this value of risk estimate is only one of a number of tools we use in our risk management activities.

The VaR numbers below are shown separately for interest rate, currency, equity and commodity products, as well of for our overall trading positions. The aggregated VaR presented here is less than the sum of the individual components (i.e., interest rate risk, foreign exchange rate risk, equity risk and commodity price risk) due to the benefit of diversification among the risk classes. Diversification benefit equals the difference between Aggregated VaR and the sum of VaRs for the four risk categories. The following table illustrates the VaR for each component of market risk as of March 31, 2005, March 31, 2004 (1st quarter averages and closing VaR) also, maximum and minimum VaR for the three months ended March 31, 2005.

Daily VaR⁽¹⁾
(In Millions)
Market risk exposure in trading portfolios


									Three Months
	Average for the								Ended
	Three Months Ended				As of				March 2005
	March		March		March		March
Risk Categories	2005		2004		2005		2004		High		Low
Interest Rates	$	0.48	$	0.59	$	0.65	$	0.60	$	0.68	$	0.35
Equity Prices	$	1.20	$	0.77	$	1.94	$	1.40	$	2.11	$	0.86
Currency Rates	$	0.28	$	0.29	$	0.12	$	0.10	$	0.62	$	0.08
Commodity Prices	$	0.47	$	0.28	$	0.66	$	0.37	$	0.78	$	0.18
Diversification Effect²	-$	1.16	-$	1.04	-$	1.43	-$	1.60

Firmwide	$	1.27	$	0.88	$	1.78	$	0.87	$	2.06	$	0.90

⁽¹⁾ VaR is the potential loss in value of Jefferies Group’s trading positions due to adverse market movements over a defined time horizon with a specific confidence level. For the VaR numbers reported above, a one-day time horizon and 95% confidence level were used.

⁽²⁾ Equals the difference between firmwide VaR and the sum of the VaRs by risk categories. This effect arises because the market categories are not perfectly correlated.

The following table presents our daily VaR during the last four quarters:

(LINE GRAPH)

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JEFFERIES GROUP, INC. AND SUBSIDIARIES

VaR Back-Testing

The comparison of daily revenue fluctuations with the daily VaR estimate is the primary method used to test the accuracy of the VaR model. Back-testing is performed at various levels of the trading portfolio, from the holding company level down to specific business lines. A back-testing exception occurs when the daily loss exceeds the daily VaR estimate. Results of the process at the aggregate level demonstrated one outlier when comparing the 95% one-day VaR with the back-testing profit and loss in the first quarter 2005. An accurate model for the one-day, 95% VaR should have between zero and twelve back-testing exceptions on an annual basis. Back-testing profit and loss is a subset of actual trading revenue and includes only the profit and loss effects relevant to the VaR model, excluding fees, commissions, certain provisions and any trading subsequent to the previous night’s positions. It is appropriate to compare this measure with VaR for back-testing purposes because VaR assesses only the potential change in position value due to overnight movements in financial market variables such as prices, interest rates and volatilities. The graph below illustrates the relationship between daily back-testing profit and loss and daily VaR for us in the first quarter 2005.

(GRAPH)

Daily Trading Net Revenue

Trading revenue used in the histogram below entitled “First Quarter 2005 vs 2004 Distribution of Daily Trading Revenue” is the actual daily trading revenue, which includes not only back-testing profit and loss but also fees, commissions, certain provisions and the profit and loss effects associated with any trading subsequent to the previous night’s positions. The histogram below shows the distribution of daily trading revenue for substantially all of our trading activities (dollars in millions).

(BAR GRAPH)

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JEFFERIES GROUP, INC. AND SUBSIDIARIES

Item 4. Controls and Procedures

Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as of March 31, 2005. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures as of March 31, 2005 are functioning effectively to provide reasonable assurance that the information required to be disclosed by us in reports filed under the Securities Exchange Act of 1934 is (i) recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and (ii) accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding disclosure. A controls system cannot provide absolute assurance, however, that the objectives of the controls system are met, and no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within a company have been detected.

No change in our internal control over financial reporting occurred during the first quarter of 2005 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

PART II. OTHER INFORMATION

Item 1. Legal Proceedings

Many aspects of our business involve substantial risks of liability. In the normal course of business, we have been named as defendants or co-defendants in lawsuits involving primarily claims for damages. We are also involved in a number of judicial and regulatory matters arising out of the conduct of our business. Our management, based on currently available information, does not believe that any matter will have a material adverse effect on our financial condition, although, depending on our results for a particular period, an adverse determination could be material for a particular period.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

Unregistered Sales of Equity Securities

On February 1, 2005, we issued 456,442 shares of common stock to Randall & Dewey Partners, LP as partial consideration for the purchase of substantially all of its assets and business. The shares of common stock were issued in a transaction not involving a public offering and the transaction was exempt from registration pursuant to Section 4(2) of the Securities Act of 1933.

Issuer Purchases of Equity Securities


					(c) Total Number of
	(a) Total		(b)		Shares Purchased as		(d) Maximum Number of
	Number of		Average		Part of Publicly		Shares that May Yet Be
	Shares		Price Paid		Announced Plans or		Purchased Under the
Period	Purchased (1)		per Share		Programs (2)		Plans or Programs
January 1 – January 31, 2005		314,306		38.37		—		987,900
February 1 – February 28, 2005		105,865		38.88		—		987,900
March 1 – March 31, 2005		70,085		38.74		—		987,900

Total		490,256		38.53		—

(1) We repurchased an aggregate of 490,256 shares other than as part of a publicly announced plan or program. We repurchased these securities in connection with our stock compensation plans which allow participants to use shares to pay the exercise price of options exercised and to use shares to satisfy tax liabilities arising from the exercise of options or the vesting of restricted stock. The number above does not include unvested shares forfeited back to the Company pursuant to the terms of our stock compensation plans.

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JEFFERIES GROUP, INC. AND SUBSIDIARIES

(2) On October 24, 2002, we issued a press release announcing the authorization by our Board of Directors to repurchase, from time to time, up to 1,500,000 shares of our stock. We may still repurchase, from time to time, up to 987 ,900 shares under our publicly announced program as of March 31, 2005, after adjusting for the 2-for-1 stock split effected as a stock dividend on August 15, 2003.

Item 6. Exhibits


Exhibits
3.1		Amended and Restated Certificate of Incorporation of Jefferies Group, Inc. is incorporated herein by reference to Exhibit 3 of the Registrant’s Form 8-K filed on May 26, 2004.

3.2		By-Laws of Jefferies Group, Inc are incorporated herein by reference to Exhibit 3.2 of Registrant’s Form 10-K filed on March 28, 2003.

10		Summary of the Jefferies Group, Inc. 2005 CEO, President, CFO and General Counsel Total Direct Pay Program is incorporated herein by reference to Exhibit 99 of the Registrant’s Form 8-K filed on January 21, 2005.

31.1*		Rule 13a-14(a)/15d-14(a) Certification by the Chief Financial Officer.

31.2*		Rule 13a-14(a)/15d-14(a) Certification by the Chief Executive Officer.

32*		Rule 13a-14(b)/15d-14(b) and Section 1350 of Title 18 U.S.C. Certification by the Chief Executive Officer and Chief Financial Officer.

Filed herewith.

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	Page
PART I.FINANCIAL INFORMATION

Item 1.Financial Statements

Consolidated Statements of Financial Condition (unaudited) - March 31, 2005 and December 31, 2004		3

Consolidated Statements of Earnings (unaudited) - Three Months Ended March 31, 2005 and March 26, 2004		4

Consolidated Statement of Changes in Stockholders’ Equity (unaudited) - Three Months Ended March 31, 2005		5

Consolidated Statements of Cash Flows (unaudited) - Three Months Ended March 31, 2005 and March 26, 2004		6

Notes to Consolidated Financial Statements (unaudited)		8

Item 2.Management’s Discussion and Analysis of Financial Condition and Results of Operations		25

Item 3.Quantitative and Qualitative Disclosures About Market Risk		35

Item 4. Controls and Procedures		38

PART II.OTHER INFORMATION

Item 1.Legal Proceedings		38

Item 2.Unregistered Sales of Equity Securities and Use of Proceeds		38

Item 6.Exhibits		39

Signature		40
Exhibit 31.1
Exhibit 31.2
Exhibit 32


		JEFFERIES GROUP, INC.
		(Registrant)

Date: April 26, 2005	By:	/s/	Joseph A. Schenk

			Joseph A. Schenk
			Chief Financial Officer

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	•	the risk factors contained in this report under the caption “Factors Affecting Our Business”;

	•	the discussion of our analysis of financial condition and results of operations contained in this report under the caption “Management’s Discussion and Analysis of Financial Condition and Results of Operations”;

	•	the notes to consolidated financial statements contained in this report; and

	•	cautionary statements we make in our public documents, reports and announcements.

	•	inventory position and exposure limits, on a gross and net basis;

	•	scenario analyses, stress tests and other analytical tools that measure the potential effects on our trading net revenues of various market events, including, but not limited to, a large widening of credit spreads, a substantial decline in equities markets and significant moves in selected emerging markets; and

	•	risk limits based on a summary measure of risk exposure referred to as Value-at-Risk (VaR).