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U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
X Quarterly report pursuant to Section 13 or 15(d) of the Securities
- ----- Act of 1934
For the quarterly period ended September 30, 2003
------------------
_____ Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from ______________________ to ______________________
Commission File number 0-25336
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KIRLIN HOLDING CORP.
(Exact Name of Registrant as Specified in its Charter)
Delaware 11-3229358
--------------------------------------- ----------
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
6901 Jericho Turnpike, Syosset, New York 11791
(Address of Principal Executive Offices)
(800) 899-9400
(Registrant's Telephone Number Including Area Code)
- --------------------------------------------------------------------------------
Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report
Check whether the registrant: (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Exchange Act during the preceding 12 months
(or for such shorter period that the registrant was required to file such
reports), and (2) has been subject to such filing requirements for the past 90
days. Yes X No .
--- ---
State the number of shares outstanding of each of the registrant's classes of
common equity, as of the latest practicable date: At November 11, 2003, Issuer
had outstanding 2,035,106 shares of Common Stock, par value $.0001 per share.
PART 1: FINANCIAL INFORMATION
ITEM 1: FINANCIAL STATEMENTS
KIRLIN HOLDING CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
SEPTEMBER 30, DECEMBER 31,
2003 2002
----------------- ------------------
(Unaudited)
ASSETS:
Cash and cash equivalents $ 5,256,939 $ 3,035,084
Due from Clearing Brokers 2,413,472 559,303
Securities Owned:
U.S. government and agency obligations, at market value 198,587 320,103
State and municipal obligations, at market value 403,429 757,450
Corporate bonds and other securities, at market value 611,371 705,967
Nonmarketable securities, at fair value 130,712 72,725
Rebate Receivable 1,087,000 964,000
Representative Loans 259,716 547,914
Furniture, Fixtures and Leasehold Improvements, at cost, net of accumulated
depreciation of $2,926,361 and $2,944,342, respectively 219,044 574,986
Deferred Tax Assets, net of valuation allowances of $1,741,688 and $4,119,640,
respectively 1,409,014 -
Other Assets 557,778 637,924
----------------- ------------------
Total assets $ 12,547,062 $ 8,175,456
================= ==================
LIABILITIES AND STOCKHOLDERS' EQUITY:
Liabilities:
Securities sold, not yet purchased, at market value $ 141,506 $ 143,205
Accrued compensation 2,207,472 1,694,183
Accounts payable and accrued expenses 2,292,853 2,269,672
----------------- ------------------
Total liabilities 4,641,831 4,107,060
----------------- ------------------
Subordinated liabilities 2,125,000 2,500,000
----------------- ------------------
Commitments and Contingencies
Stockholders' Equity:
Common stock, $.0001 par value; authorized 7,000,000 shares, issued and
outstanding 2,004,143 and 1,798,224 shares, respectively 200 180
Additional paid-in capital 16,344,644 16,226,346
Unearned Stock Compensation (160,630) (283,409)
Accumulated deficit (10,403,983) (14,374,721)
----------------- ------------------
Total stockholders' equity 5,780,231 1,568,396
----------------- ------------------
Total liabilities and stockholders' equity $ 12,547,062 $ 8,175,456
================= ==================
See Notes to Consolidated Financial Statements
2
KIRLIN HOLDING CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
THREE-MONTHS ENDED NINE-MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
---------------------------- ----------------------------
2003 2002 2003 2002
-------------- ------------ -------------- -------------
(Unaudited) (Unaudited)
Revenues:
Principal transactions, net $ 178,477 $ 94,077 $ 597,720 $ (162,619)
Commissions 6,235,518 4,341,393 16,143,441 14,311,582
Merchant Banking (29,752) (37,996) (29,752) (37,998)
Investment Banking 133,195 68,676 598,195 974,989
Other income 700,015 536,230 2,029,486 1,796,740
-------------- ------------- -------------- --------------
7,217,453 5,002,380 19,339,090 16,882,694
-------------- ------------- -------------- --------------
Expenses:
Employee compensation and benefits 4,569,500 3,833,110 12,387,762 12,923,544
Promotion and advertising 51,059 87,007 167,917 289,591
Clearance and execution charges 154,076 164,173 407,806 465,595
Occupancy and communications 798,057 998,841 2,451,753 3,092,033
Impairment of intangible assets and goodwill - 1,774,995 - 1,774,995
Professional fees 175,614 348,795 533,960 835,294
Interest (5,318) 14,724 (11,404) 11,931
Other 360,051 1,261,253 876,172 2,505,402
-------------- ------------- -------------- --------------
6,103,039 8,482,898 16,813,966 21,898,385
-------------- ------------- -------------- --------------
Income (loss) before income tax benefit and minority
interest in loss of subsidiaries 1,114,414 (3,480,518) 2,525,124 (5,015,691)
Income tax benefit 139,623 309,968 1,445,614 847,198
-------------- ------------- -------------- --------------
Income (loss) before minority interest in loss of
subsidiaries 1,254,037 (3,170,550) 3,970,738 (4,168,493)
Minority interest in (income) loss of subsidiaries - (109,883) - (109,883)
-------------- ------------- -------------- --------------
Net income (loss) $ 1,254,037 $ (3,280,433) $ 3,970,738 $ (4,278,376)
============== ============= ============== ==============
Basic earnings (loss) per common share $ 0.62 $ (1.76) $ 2.02 $ (2.28)
============== ============= ============== ==============
Weighted-average shares outstanding 2,026,655 1,863,788 1,961,994 1,877,125
============== ============= ============== ==============
Diluted earnings (loss) per common share $ 0.52 $ (1.76) $ 1.85 $ (2.28)
============== ============= ============== ==============
Adjusted weighted-average shares outstanding 2,403,228 1,863,788 2,143,645 1,877,125
============== ============= ============== ==============
See Notes to Consolidated Financial Statements
3
KIRLIN HOLDING CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
For the nine months ended September 30, 2003
(Unaudited)
Common Stock Additional Unearned
----------------------------- Paid-in Stock Accumulated
Shares Par Value Capital Compensation Deficit Total
-------------- ------------- ------------- --------------- -------------- --------------
Stockholders' equity,
January 1, 2003 1,798,224 $ 180 $ 16,226,346 $ (283,409) (14,374,721) $ 1,568,396
Stock issuances and
amortization of
unearned stock
compensation 306,506 30 785,987 68,500 - 854,517
Stock forfeitures (100,587) (10) (667,689) 54,279 - (613,420)
Net income - - - - 3,970,738 3,970,738
-------------- ------------- ------------- --------------- -------------- --------------
Stockholders' equity,
September 30, 2003 2,004,143 $ 200 $ 16,344,644 $ (160,630) $(10,403,983) $ 5,780,231
============== ============= ============= =============== ============== ==============
See Notes to Consolidated Financial Statements
4
KIRLIN HOLDING CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
NINE MONTHS ENDED
SEPTEMBER 30,
--------------------------------------
2003 2002
------------------- -----------------
(Unaudited)
Cash flows from operating activities:
Net income (loss) $ 3,970,738 $ (4,278,376)
------------------- -----------------
Adjustments to reconcile net income (loss) to net cash provided by operating
activities:
Depreciation 285,264 480,637
Amortization 186,126
Deferred income taxes (1,409,014) 486,494
Minority interest in loss of subsidiaries 109,883
(Increase) decrease in nonmarketable securities (57,987) 551,164
Noncash compensation 241,097 446,713
Impairment of intangible assets and goodwill 1,774,995
Loss on disposal of fixed assets 53,178 -
Decrease in securities owned, at market value 570,133 640,988
(Increase) decrease in receivable from clearing brokers (1,854,169) 1,776,955
Decrease (increase) in other assets 80,146 (1,051,062)
(Increase) in rebate receivable (123,000) (622,000)
Decrease in representative loans 288,198 187,561
(Decrease) increase in securities sold, not yet purchased, at market value (1,699) 67,043
Increase (decrease) in accrued compensation 513,289 (231,008)
(Decrease) increase in accounts payable and accrued expenses 23,181 727,534
------------------- -----------------
Total adjustments (1,391,383) 5,532,023
------------------- -----------------
Net cash provided by operating activities 2,579,355 1,253,647
------------------- -----------------
Cash flows from investing activities:
Purchase of furniture, fixtures and leasehold improvements - (93,468)
Proceeds from sale of furniture, fixtures and leasehold improvements 17,500
Acquisition of other businesses, net of cash - (110,704)
------------------- -----------------
Net cash provided by (used in) investing activities 17,500 (204,172)
------------------- -----------------
Cash flows from financing activities:
Subordinated liabilities (375,000) 2,500,000
Repurchases of stock - (793,398)
------------------- -----------------
Net cash (used in) provided by financing activities (375,000) 1,706,602
------------------- -----------------
Net increase in cash and cash equivalents 2,221,855 2,756,077
Cash and cash equivalents, beginning of period 3,035,084 972,086
------------------- -----------------
Cash and cash equivalents, end of period $ 5,256,939 $ 3,728,163
=================== =================
Supplemental disclosures of consolidated cashflow information:
Interest paid $ 23,201 $ 4,954
Income taxes paid $ 7,020 $ 17,413
Supplemental disclosures of noncash investing and financing activities:
Common stock awards, net of forfeitures $ 241,099 $ 446,713
See Notes to Consolidated Financial Statements
5
KIRLIN HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The consolidated financial statements include the accounts of Kirlin
Holding Corp. and its wholly owned subsidiaries, Kirlin Securities,
Inc. ("Kirlin"), Greenleaf Management Corp. ("Greenleaf"), and its
majority-owned (63.7%) subsidiary, VentureHighway.com Inc.
("VentureHighway") (collectively, the "Company"). VentureHighway's
consolidated financial statements include the accounts of Princeton
Investments Holding Corp. ("PIHC") and Princeton Securities Corporation
("Princeton"). All material intercompany transactions and balances have
been eliminated in consolidation.
The Company's principal subsidiary, Kirlin, is a full-service,
retail-oriented brokerage firm specializing in the trading and sale of
both equity and fixed income securities, including mutual funds. Kirlin
also offers a managed asset portfolio program to manage the financial
assets of its clients.
The accompanying consolidated financial statements have been prepared
in accordance with generally accepted accounting principles for interim
financial information and with the instructions to Form 10-Q.
Accordingly, they do not include all of the information and footnotes
as required by generally accepted accounting principles for annual
financial statements. In the opinion of management of the Company, all
adjustments (consisting only of normal recurring adjustments) necessary
for a fair presentation have been included. The operations for the
three and nine-month periods ended September 30, 2003 are not
necessarily indicative of the results that may be expected for the full
year ending December 31, 2003. For further information, refer to the
consolidated financial statements and footnotes thereto included in the
Company's Annual Report on Form 10-K for the fiscal year ended December
31, 2002.
For comparability, certain balances in the Consolidated Statement of
Cash Flows for the three and nine-month periods ended September 30,
2002 have been reclassified, where appropriate, to conform to the
financial statement presentation used at September 30, 2003.
The Company has elected, in accordance with the provisions of Statement
of Financial Accounting Standards ("SFAS") No. 123, Accounting for
Stock-based Compensation, to apply the current accounting rules under
Accounting Principles Board ("APB") Opinion No. 25 and related
interpretations in accounting for options to purchase ownership
interests granted to employees and, accordingly, is presenting the
disclosure-only information as required by SFAS No. 123. Had
compensation costs been determined based on the fair value at the date
of grant consistent with the provisions of SFAS No. 123, the Company's
net income and earnings per common share for the three and nine-months
ended September 30, 2003 would have been as follows:
6
KIRLIN HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
THREE-MONTHS ENDED NINE-MONTHS ENDED
SEPTEMBER 30, 2003 SEPTEMBER 30, 2003
-------------------------- ------------------------
Net income (loss) - as reported $ 1,254,037 $ 3,970,738
Deduct: Total stock based employee
compensation expense determined under
the fair value based method (128,229) (384,687)
-------------------------- ------------------------
Net income (loss) - pro forma $ 1,125,808 $ 3,586,051
========================== ========================
Basic income per common share - as reported $ 0.62 $ 2.02
Diluted income per common share - as
reported $ 0.52 $ 1.85
Basic income per common share - pro forma $ 0.56 $ 1.82
Diluted income per common share - pro forma $ 0.47 $ 1.67
2. INCOME TAXES
The entities comprising the Company, other than VentureHighway, file
consolidated federal income tax returns but separate state income tax
returns. VentureHighway filed a final federal income tax return on a
stand-alone basis during 2002.
In recognition of the uncertainty regarding the ultimate amount of
future income tax benefits to be derived from net operating loss
carryforwards and other temporary differences, the Company has recorded
a valuation allowance of $1,741,688 at September 30, 2003 and
$4,119,640 at December 31, 2002.
The Company has a federal net operating loss carryforward of
approximately $1,100,000 available to offset taxable income through
2022.
3. EARNINGS PER SHARE
The Company follows SFAS No. 128, Earnings Per Share, which provides
for the calculation of "basic" and "diluted" earnings per share
("EPS"). Basic EPS includes no dilution and is computed by dividing
income or loss available to common shareholders by the weighted-average
number of common shares outstanding for the period. Diluted EPS reflect
the potential dilution that could occur through the effect of common
shares issuable upon exercise of stock options and warrants and
convertible securities. For the three and nine-month periods ended
September 30, 2002,
7
KIRLIN HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
potential common shares have not been included in the computation of
diluted EPS since the effect would be antidilutive.
4. CONTINGENCIES
The Company's business involves substantial risks of liability,
including exposure to liability under federal and state securities laws
in connection with the underwriting or distribution of securities and
claims by dissatisfied customers for fraud, unauthorized trading,
churning, mismanagement and breach of fiduciary duty. The Company does
not presently maintain an errors and omissions insurance policy
insuring it against these risks. In the normal course of the Company's
business, the Company from time to time is involved in claims, lawsuits
and arbitrations brought by its customers and former employees. It is
the opinion of management, based upon its evaluation of each of these
matters and the reserves established by the Company, that the
resolution of all claims presently pending will not have a material
adverse effect on the consolidated financial condition of the Company.
In March 2003, the NASD Department of Enforcement commenced a
disciplinary proceeding against Kirlin Securities and two of its
officers or employees, including the President of the Company and
Co-Chief Executive Officer of Kirlin Securities, related to sales of
certain fixed income securities to clients of Kirlin Securities from
November 1995 to late 1999. Certain of these securities were issued in
$250,000 denominations. The NASD alleged that Kirlin Securities
violated provisions of the NASD Conduct Rules and/or federal securities
laws related to the following (all of which activity occurred prior to
December 1999): (i) sales of unregistered securities stemming from the
sale of these securities in smaller denominations; (ii) placement of
false and misleading advertising relating to these securities; (iii)
charging markups on the sale of the securities in excess of NASD policy
allegedly in the amount of approximately $1,420,000 and in violation of
the federal securities laws allegedly in the amount of approximately
$44,000; (iv) failure to maintain inventory sheets as distributed to
certain employees in connection with the sale of the securities; and
(v) failure to establish and enforce supervisory procedures to assure
compliance with federal laws and NASD Rules to prevent the
aforementioned alleged violations. The NASD Complaint seeks the
imposition of sanctions, restitution and costs. The Company intends to
vigorously defend itself but cannot predict the outcome of this
disciplinary action at this time and is unable to determine whether
this matter will have a material adverse effect on the consolidated
financial condition of the Company.
In July 2003, the NASD Department of Enforcement commenced a
disciplinary proceeding against Kirlin Securities and three of its
former registered representatives alleging violations of the NASD
Conduct Rules in connection with certain purchases or sales of equity
securities by customers of Kirlin Securities in 1999 and 2000. In
particular, the NASD staff contends that the transaction charges
imposed on a small percentage of the transactions emanating from a
single branch office of Kirlin Securities during this period were
excessive or unreasonable in light of the circumstances surrounding
those trades, in violation of NASD rules. The NASD staff also contends
that Kirlin Securities and a former branch manager failed to supervise
reasonably certain registered representatives regarding these
transactions and did not maintain or enforce supervisory procedures
reasonably designed to ensure compliance with applicable rules. The
NASD Complaint seeks the imposition of sanctions, including
disgorgement, and costs. The Company intends to vigorously defend
itself but cannot predict the outcome of this disciplinary action at
this time and is unable to determine whether this matter will have a
material adverse effect on the consolidated financial condition of the
Company.
8
KIRLIN HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Also in July 2003, the NASD staff informed Kirlin Securities that it
had made a preliminary determination to recommend the commencement of a
disciplinary proceeding against Kirlin Securities and four of its
present or former employees concerning alleged violations of NASD rules
and/or federal securities laws or regulations related to transactions
effected during late 1999 in three securities accounts associated with
a single customer. The potential allegations include violations of the
antifraud provisions of the federal securities laws and NASD Conduct
Rules related to: (i) undisclosed markups or markdowns in the amount of
approximately $692,000; (ii) the falsification or destruction of
certain trade tickets or other records; (iii) false and misleading
confirmation statements; (iv) failures to obtain best execution; and
(v) numerous trade reporting errors. In addition, the NASD staff has
indicated that it may allege that Kirlin Securities and a former branch
manager failed to supervise reasonably conduct by a registered
representative and a sales supervisor related to these customer
accounts and that Kirlin Securities failed to maintain adequate
supervisory procedures. The Company cannot predict with certainty
whether the NASD Department of Enforcement will commence a disciplinary
proceeding related to these matters, and if so, the precise nature or
scope of any such disciplinary proceeding or whether such proceeding
will have a material adverse effect on the consolidated financial
condition of the Company.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
FORWARD-LOOKING STATEMENTS
When used in this Form 10-Q and in future filings by the Company with
the Commission, the words or phrases "will likely result," "management expects"
or "the Company expects," "will continue," "is anticipated," "estimated," "it is
the opinion of management" or similar expressions are intended to identify
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995. Readers are cautioned not to place undue reliance
on any such forward-looking statements, each of which speak only as of the date
made. Such statements are subject to certain risks and uncertainties that could
cause actual results to differ materially from historical earnings and those
presently anticipated or projected. These risks are included in "Item 1:
Business," "Item 7: Management's Discussion and Analysis of Financial Condition
and Results of Operations" and in "Exhibit 99: Risk Factors" included in Form
10-K for the year ended December 31, 2002. The Company has no obligation to
publicly release the result of any revisions which may be made to any
forward-looking statements to reflect anticipated or unanticipated events or
circumstances occurring after the date of such statements.
CRITICAL ACCOUNTING POLICIES
An understanding of our accounting policies is necessary for a complete
analysis of our results, financial position, liquidity and trends. Note 1 to our
consolidated financial statements filed with our Annual Report on Form 10-K for
the year ended December 31, 2002 includes a summary of the significant
accounting policies and methods used in the preparation of our consolidated
financial statements. We focus your attention on the following which provides a
brief discussion of the more significant accounting policies and methods used by
us:
Valuation of Investments. The major portion of the Company's
securities owned and securities sold, not yet purchased, are
stated at quoted market values. Included in securities owned
are stock warrants and investments in privately held companies
not readily marketable, which have been valued at fair value
as determined by management. The warrants are valued based on
a percentage of the market value of the underlying securities.
The resulting unrealized gains and losses are reflected in
principal transactions, investment banking and merchant
banking income. The liquidation of the Company's position
could result in substantial differences from the market and
fair value prices used in the financial statements.
Impairment of Deferred Tax Assets. The carrying value of the
Company's net deferred tax assets assumes that it will be able
to generate future taxable income, based on estimates and
assumptions. If these estimates and assumptions change in the
future, the Company may be required to record additional
valuation allowances against its deferred tax assets, which
would result in additional income tax expense. During the
period the Company changed its valuation allowance. At
September 30, 2003 the valuation allowance is approximately
55% of its deferred tax assets related to its net operating
loss carryforwards and other temporary differences. This
change arose due to the developments during the first
nine-months of 2003, including the recordation of income from
operations for the nine-month period ended September 30, 2003.
Management believes that the Company is prepared to return to
long-term profitability as a result of its decision to return
to its core business of retail brokerage, investment and
merchant banking, and money management. As a result the
Company has reduced its expenses by eliminating personnel
(including members of senior management of Kirlin Securities
who received fixed salaries) and reducing its real estate and
operational costs, such as
10
eliminating non-productive branch offices. In addition, the
Company is confident that the imposition of an annual account
maintenance fee by Kirlin Securities will achieve increased
revenue of approximately $800,000 per year.
Market, Credit, and Liquidity Risk. The Company's investing
and underwriting activities often involve the purchase, sale
or short sale of securities as principal. Such activities
subject our capital to significant risks from markets that may
be characterized by relative illiquidity or may be
particularly susceptible to rapid fluctuation in liquidity.
Such market conditions could limit the Company's ability to
resell securities purchased or to purchase securities sold
short. These activities subject our capital to significant
risks, including market, credit counterparty and liquidity
risks. Market risks relates to the risk of fluctuating values
based on market prices without action on our part. The
Company's primary credit risk is settlement or counterparty
risk, which relates to whether a counterparty will fulfill its
contractual obligations, such as delivery of securities or
payment of funds. Liquidity risk relates to the Company's
inability to liquidate assets or redirect the deployment of
assets contained in illiquid investments. In addition, our
market and liquidity risks and risks associated with asset
revaluation are increased because these risks for us are
concentrated. The areas related to the above risks are valued
based on listed market prices, where possible. If listed
market prices are not available then these items are carried
at fair value as determined by management, with related
unrealized gains and losses recognized in the statement of
operations. Actual results could differ from the values used
in these financial statements.
Legal Proceedings. The Company's business involves substantial
risks of liability, including exposure to liability under
federal and state securities laws in connection with the
underwriting or distribution of securities and claims by
dissatisfied customers for fraud, unauthorized trading,
churning, mismanagement and breach of fiduciary duty. The
Company does not presently maintain an errors and omissions
insurance policy insuring it against these risks. In the
normal course of the Company's business, the Company from time
to time is involved in claims, lawsuits and arbitrations
brought by its customers. The Company consults its attorneys
in order to estimate amounts that should be reflected in the
Company's financial statements relating to pending or
threatened claims. If pending or threatened claims result in
damages to be paid by the Company, these amounts could be
different from the amounts previously estimated and reflected
in the Company's financial statements. The Company's review of
existing claims, arbitrations, and unpaid settlements at
September 30, 2003 resulted in an accrued liability of
approximately $250,000.
The Company is involved in several disciplinary proceedings
commenced by the NASD that are discussed in Part II, Item 1,
Legal Proceedings. The Company intends to vigorously defend
itself but cannot predict the outcome of these matters and is
unable to determine whether they will have a material adverse
effect on the consolidated financial condition of the Company.
As a result the Company has not established an accrued
liability or reserve with respect to these matters at this
time. The ultimate resolution of these matters could have a
material adverse effect.
Clearing Agreements. The Company's retail oriented brokerage
firm does not carry accounts for customers or perform
custodial functions related to customers' securities. The
Company's broker-dealer introduces all of its customer
transactions, which are not reflected in the financial
statements, to its clearing brokers, which maintain the
customers' accounts and clears such transactions.
Additionally, the clearing brokers provide the clearing and
depository operations for the broker dealer's proprietary
securities transactions. These activities may expose the
Company to off-balance sheet risk in the
11
event that customers do not fulfill their obligations with the
clearing brokers, as the broker-dealer has agreed to indemnify
the clearing brokers for any resulting losses. The Company
will record a loss from a client transaction when information
becomes available to management that allows it to estimate its
impact on the Company's financial statements.
RESULTS OF OPERATIONS
Principal transactions, net for the three and nine-month periods ended
September 30, 2003 increased to $178,477 and $597,720, respectively, from the
comparable periods in 2002. The increase is attributable to realized and
unrealized gains in the Company's investment account and the value of warrants
the Company received in connection with its investment banking activities, and
an increase in revenue related to equity and fixed income business for which the
Company maintained an inventory.
Commissions for the three and nine-month periods ended September 30,
2003 increased 43.6% and increased 12.8%, respectively, to $6,235,518 and
$16,143,441 from the comparable periods in 2002. The change during the three and
nine-month periods ended September 30, 2003 is primarily attributable to the
Company's increased business in equity securities, unit investment trusts, and
commissions generated from two private placements.
Merchant banking for the three and nine-month periods ended September
30, 2003 was $(29,752) as a result of the write-down of one of the Company's
investments.
Investment banking for both the three and nine-month periods ended
September 30, 2003 increased 94% and decreased 38.6%, respectively, to $133,195
and $598,195 from the comparable periods in 2002. During the three-month period
ended September 30, 2003 the Company acted as the placement agent for two
private placements. Additionally, during April 2003 the Company acted as a
financial advisor for Montana Mills Bread Co. in connection with its acquisition
by Krispy Kreme Donuts. During the nine-month period ended September 30, 2002
the Company earned investment banking fees of approximately $363,000 from a debt
conversion and approximately $563,000 from an initial public offering.
Other income for the three and nine-month periods ended September 30,
2003 increased 30.5% and 13%, respectively, to $700,015 and $2,029,486 from the
comparable periods in 2002. The increase is primarily attributable to the
increase in transactional and account balance rebates the Company is entitled to
from its clearing broker.
Employee compensation and benefits for the three and nine-month periods
ended September 30, 2003 increased 19.2% and decreased 4.1%, respectively, to
$4,569,500 and $12,387,762 from the comparable periods in 2002. Since employee
compensation related to the Company's retail brokerage traders and registered
representatives is directly related to revenue they generate, a portion of
employee compensation follows the change in the Company's revenues. The decrease
during the nine-month period ended September 30, 2003 is also reflective of the
reduction of base salary by the Company's Chief Executive Officer and its
President by 68% and by its Chief Financial Officer by 35% during the first
three months of the period. Other key management personnel also agreed to reduce
their base salaries during this period. In addition the Chief Executive Officer
and President of the Company reduced the variable portion of their base salary
by 100% during the three-month period ended March 31, 2003. Additionally, during
the three-month period ended September 30, 2003 the Company collected an
outstanding loan from two former employees that were written off in a prior
year. During the six-month period June 30, 2003 the Company collected an
outstanding loan from a former employee that was written off in a prior year.
Finally, the Company's roster of employees decreased which caused a decrease in
base salaries and commission payouts related to its deferred plans.
Promotion and advertising for the three and nine-month periods ended
September 30, 2003 decreased 41.3% and 42%, respectively, to $51,059 and
$167,917 from the comparable periods in 2002
12
as a result of the Company's decrease in car allowances arising from the
termination of certain employees as well as a decrease in promotional material
expenses. The Company expects to increase its expenditures for promotion and
advertising in future periods.
Clearance and execution charges for the three and nine-month periods
ended September 30, 2003 decreased 6.2% and 12.4%, respectively, to $154,076 and
$407,806 from the comparable periods in 2002. The decrease in the three-month
period is a result of a shift towards commission products carrying a lower
average ticket charge. The decrease in the nine-month period is a result of
overall lower ticket volume.
Occupancy and communications costs for the three and nine-month periods
ended September 30, 2003 decreased 20.1% and 20.7%, respectively, to $798,057
and $2,451,753 from the comparable periods in 2002. This decrease is primarily a
result of the relocation of one of the Company's branch offices to smaller and
less expensive office space, reduction of depreciation expense related to assets
that were fully depreciated in the prior year, completion of the furniture
financing related to the Company's corporate offices in the prior year, and
reduction of communication and telephone expenses due to a reduction of the
number of employees as compared to the prior year. As part of the Company's long
distance telephone contract it received a credit for telephone expenses during
the three-month period ended March 31, 2003. During the nine-month period ended
September 30, 2003, the Company recognized a loss for approximately $53,000
related to the disposal of fixed assets in the Company's New York City office,
which was closed, and its Red Bank office, which lease expired. Additionally,
the Company subleased its New York City office lease through the remainder of
the lease term which ends during October 2005 and reduced the accrued lease loss
amount for the remaining lease period to approximately $144,000. The
representative's located in these closed offices were primarily relocated to
other offices.
Professional fees for the three and nine-month periods ended September
30, 2003 decreased 49.7% and 36.1%, respectively, to $175,614 and $533,960 from
the comparable periods in 2002. The decrease is reflective of non-recurring
legal fees in the prior period, as well as the shift toward more legal work
being performed internally by the Company. Outside counsel has been and
continues to be used in certain customer arbitrations and regulatory matters
related to potential violations of NASD Conduct Rules and/or Federal securities
laws. Professional fees are reflective of legal fees related to the Company's
vacated office space in San Diego. In December 2001 the Company's sub-tenant
abandoned the San Diego office space and stopped paying rent to the Company.
Based on the nature of the sub-tenant's relationship with the Company's
landlord, the Company decided to stop paying rent as well, however, it continued
to accrue on a monthly basis an amount equivalent to the straight-line rent
related to the San Diego lease. The Company's landlord pursued legal action and
during the year the court ruled in favor of the landlord and required the
Company to pay $227,000 to the landlord, which amount was accrued by the Company
prior to the final settlement payment. The Company pursued legal action against
its subtenant and was awarded $300,000 which it is currently trying to collect.
Interest expense for the three and nine-month periods ended September
30, 2003 decreased 136% and 196%, respectively, to $(5,318) and $(11,404) from
the comparable periods in 2002. Interest expense decreased primarily due to the
reversal during the comparable period in 2002 of accrued interest related to
Kirlin Securities' deferred commission plan and arose from the termination of
employment of certain registered representatives. Non-vested deferred commission
interest related to terminated representatives is immediately forfeited. During
the nine-month period ended September 30, 2003 the interest related to
terminated representatives which was reversed amounted to approximately $53,000.
Other expenses for the three and nine-month periods ended September 30,
2003 decreased 71.5% and 65%, respectively, to $360,051 and $876,172 from the
comparable periods in 2002 primarily as a result of no new significant accruals
for customer arbitrations and reversal of prior accruals which arose due to the
Company satisfying unpaid awards for less than the awarded amount and receipt of
a promissory note for the partial reimbursement of a customer settlements.
Shareholder administration expenses and franchise taxes decreased due to lower
than expected expenses for 2002 which resulted in lower incurred charges paid
during 2003. Additionally, general office expenses have decreased due to the
13
decrease in the number of employees and offices, however, during February 2003
the Company entered into a new two year licensing agreement with an outside
vendor to provide trade compliance monitoring support on all executed trades at
a cost of approximately $4,000 per month. The Company may terminate this
agreement with sixty days written notice.
Income tax benefit for the three and nine-month periods ended September
30, 2003 were $139,623 and 1,445,614, respectively. This income tax benefit
incorporates the expected usage of the Company's net operating loss
carryforward. During the period the Company changed its valuation allowance. At
September 30, 2003 the valuation allowance is approximately 55% of its deferred
tax assets related to its net operating loss carryforwards and other temporary
differences as a result of events giving rise to greater expectation of a return
to long-term profitability.
Net income of $1,254,035 and $3,970,738 for the three and nine-month
periods ended September 30, 2003 compares to net loss of $3,280,433 and
$4,278,376 for the three and nine-month periods ended September 30, 2002. This
resulted primarily from the change in revenues and expenses discussed above.
LIQUIDITY AND CAPITAL RESOURCES
At September 30, 2003, approximately 71% of the Company's assets were
comprised of cash and highly liquid securities.
Cash and cash equivalents amounted to $5,256,939 at September 30, 2003
as compared to $3,035,084 at December 31, 2002. This increase is reflective of
the collection of a new annual maintenance fee on client accounts that was
collected during March 2003 as well as a transfer of cash from the Company's
trading accounts.
Due from Clearing Brokers amounted to $2,413,472 at September 30, 2003
as compared to $559,303 at December 31, 2002. This 332% increase is primarily
attributable to increased receivables related to agency commissions owed to the
Company and cash balances maintained in the Company's trading's accounts at the
end of the quarter, net of cash transferred to the Company's money market
accounts reported in the cash and cash equivalents line item.
Securities Owned at September 30, 2003 were $1,344,099 as compared to
$1,856,245 at December 31, 2002. This decrease is primarily reflective of the
decrease in securities held in inventory with respect to the Company's retail
activities and a decrease in state and municipal obligations held in inventory
with respect to the Company's syndicate activities.
Rebate Receivable amounted to $1,087,000 at September 30, 2003 as
compared to $964,000 at December 31, 2002. This 12.8% increase is reflective of
the rebate the Company is entitled to receive from its clearing broker as
provided in the clearing agreement. The Company generated income and fees which
increased this line item by $498,000 offset by the collection of $375,000 of
this rebate receivable. The clearing broker will rebate, in amounts and at dates
specified in the agreement, 50% of the clearing fees and other items (as
defined) up to a maximum of $2,500,000. The rebate is supposed to be paid by the
clearing broker up to maximum installments of $62,500 at the end of each
subsequent calendar quarter through March 31, 2005, at which time the balance
will be payable.
Representative Loans at September 30, 2003 amounted to $259,716 as
compared to $547,914 at December 31, 2002. This 52.6% decrease is reflective of
the net change resulting from the disbursement of new loans provided to
registered representatives as part of the Company's recruitment efforts net of
the amortization, collections, and write-offs related to loans disbursed in the
current and prior years. A majority of the loans will be forgiven based on the
recipient's production or employment through a specific time period. The Company
amortizes the principal amount of the loan over the performance period or the
employment period, whichever is shorter.
14
Furniture, Fixtures and Leasehold improvements, net, at September 30,
2003, decreased to $219,044 as compared to $574,986 at December 31, 2002. This
61.9% decrease primarily results from the depreciation of fixed assets and the
write-off of fixed assets for approximately $53,000 located in two branch
offices as previously discussed in the occupancy and communications in Result of
Operations.
Deferred Tax Assets, net at September 30, 2003 amounted to $1,409,014
as compared to $0 at December 31, 2002. The deferred tax asset changed during
the period due to the expected utilization of the Company's net operating loss
carryforward and the change in its valuation allowance. At September 30, 2003
the valuation allowance is approximately 55% of its deferred tax assets related
to its net operating loss carryforwards and other temporary differences as a
result of events giving rise to greater expectation of a return to long-term
profitability. At September 30, 2003 the deferred tax assets amount to
approximately $3,150,702 and the recorded valuation allowance amounts to
approximately $1,741,688. If the Company continues to be profitable then it
anticipates being able to use the entire deferred tax asset.
Other assets decreased by 12.6% to $557,778 at September 30, 2003, from
$637,924 at December 31, 2002. The decrease is attributable to the decrease of a
net receivable related to three legal matters whereby the receivables that
existed at December 31, 2002 related to two matters were satisfied and a new
receivable was established for one other matter; and a decrease in the rent
deposits related to three of the Company's leases, two of which were forfeited
as part of the early termination of those leases. The above decrease is offset
by the following increases: (i) receivable related to the nonpayment of a trade
by a customer which led to the initiation of legal action by the Company; (ii)
commissions related to mutual funds and unit investment trusts.
Securities sold, not yet purchased amounted to $141,506 at September
30, 2003 as compared to $143,205 at December 31, 2002. Management monitors these
positions on a daily basis and covers short positions when deemed appropriate.
Accrued compensation was $2,207,472 at September 30, 2003 as compared
to $1,694,183 at December 31, 2002, a 30.3% increase. The revenues upon which
commission income to registered representatives is based directly affect this
line item, which was higher at the end of the current quarter as compared to
2002.
Accounts payable and accrued expenses at September 30, 2003 were
$2,292,853 as compared to $2,269,672 at December 31, 2002, a 1% increase. The
change is attributable to the collection in March 2003 of the annual maintenance
fee charged to client accounts and the recordation on the Company's Statement of
Financial Condition of an offsetting liability. The income related to the annual
maintenance fee will be recognized monthly as the annual fee is amortized. The
above increase is offset by a decrease in the accrued liability related to
existing claims, arbitrations and unpaid settlements, which decreased due to the
payment of some settlement amounts and the reversal of prior accruals due to the
Company satisfying unpaid awards for less than the awarded amount. This line
item also decreased due to the payment of the rent accrual related to the
Company's vacated office space in San Diego, which is described in the previous
discussion regarding Professional Fees in Results of Operations. The increase is
also attributable to the override payments to be made to the former owners of
Princeton Securities, where the Company is required to pay an override on the
commissions generated by the representatives directly hired as part of the
transaction through March 2003. The final payment was expected to be made during
May 2003, however, accrued amounts related to one of the former owners is being
withheld due to a disagreement over amounts owed to the Company and its
attorneys in relation to GMST World Market's arbitration. To a lesser extent
this line item increased due to the increase in payables related to the
Company's general business.
Subordinated liability amounted to $2,125,000 at September 30, 2003 as
compared to $2,500,000 at December 31, 2002. During March 2002, Kirlin
Securities received from its clearing broker a $2,500,000 three-year
subordinated loan and calls for payments over various periods of time during
this three-year period. During the nine-month period ended September 30, 2003
the Company repayed $375,000 of this subordinated loan back to the clearing
broker, which payment was made from the funds received from the clearing broker
under the rebate agreement.
15
The Company, as guarantor of its customer accounts to its clearing
brokers, is exposed to off-balance-sheet risks in the event that its customers
do not fulfill their obligations with the clearing brokers. In addition, to the
extent the Company maintains a short position in certain securities, it is
exposed to a further off-balance-sheet market risk, since the Company's ultimate
obligation may exceed the amount recognized in the financial statements.
The Company is involved in several disciplinary proceedings commenced
by the NASD that are discussed in Note 4 of the financial statements. The
Company intends to vigorously defend itself but cannot predict the outcome of
these matters and is unable to determine whether they will have a material
adverse effect on the consolidated financial condition of the Company.
The Company's business involves substantial risks of liability,
including exposure to liability under federal and state securities laws in
connection with the underwriting or distribution of securities and claims by
dissatisfied customers for fraud, unauthorized trading, churning, mismanagement
and breach of fiduciary duty. The Company does not presently maintain an errors
and omissions insurance policy insuring it against these risks. In the normal
course of the Company's business, the Company from time to time is involved in
claims, lawsuits and arbitrations brought by its customers and former employees.
It is the opinion of management, based upon its evaluation of each of these
matters and the reserves established by the Company, that the resolution of all
claims presently pending will not have a material adverse effect on the
consolidated financial condition of the Company.
The Company believes its financial resources will be sufficient to fund
the Company's operations and capital requirements for the foreseeable future.
The Company, however, continues to explore the possibility of a financing to
assist it in pursuing its plans for growth.
CONSOLIDATED CONTRACTUAL OBLIGATIONS AND LEASE COMMITMENTS
The table below summarizes information about our consolidated
contractual obligations as of September 30, 2003 and the effects these
obligations are expected to have on our consolidated liquidity and cash flow in
future years. This table does not include any projected payment amounts related
to the Company's potential exposure to arbitrations and other legal matters.
2007 and
Total 2003 2004 2005 2006 thereafter
------------ ------------- ------------- -------------- ------------ --------------
Equipment Lease
obligations $ 155,344 $ 41,857 $ 69,288 $ 32,753 $ 11,446 $ -
Office Lease obligations 1,492,780 278,215 824,596 309,486 80,483 -
Employment contract
obligations 3,712,083 188,750 755,000 755,000 755,000 1,258,333
------------ ------------- ------------- -------------- ------------ --------------
$ 5,360,207 $ 508,822 $ 1,648,884 $ 1,097,239 $ 846,929 $ 1,258,333
============ ============= ============= ============== ============ ==============
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Our investing and underwriting activities often involve the
purchase, sale or short sale of securities as principal. Such activities subject
our capital to significant risks from markets that may be characterized by
relative illiquidity or may be particularly susceptible to rapid fluctuation in
liquidity. Such market conditions could limit our ability to resell securities
purchased or to purchase securities sold short. These activities subject our
capital to significant risks, including market, credit counterparty and
liquidity risks. Market risk relates to the risk of fluctuating values based on
market prices without action on our part. Our primary credit risk is settlement
or counterparty risk, which relates to whether a counterparty will fulfill its
contractual obligations, such as delivery of securities or payment of funds.
Liquidity risk relates to our inability to liquidate assets or redirect the
deployment of assets contained in illiquid investments. In
16
addition, our market and liquidity risks and risks associated with asset
revaluation are increased because these risks for us are concentrated.
ITEM 4. CONTROLS AND PROCEDURES.
An evaluation of the effectiveness of the Company's disclosure
controls and procedures as of September 30, 2003 was made under the supervision
and with the participation of the Company's management, including the chief
executive officer and chief financial officer. Based on that evaluation, they
concluded that the Company's disclosure controls and procedures are effective to
ensure that information required to be disclosed by the Company in reports that
it files or submits under the Securities Exchange Act of 1934 is recorded,
processed, summarized and reported within the time periods specified in
Securities and Exchange Commission rules and forms. During the most recently
completed fiscal quarter, there has been no significant change in the Company's
internal control over financial reporting that has materially affected, or is
reasonably likely to materially affect, the Company's internal control over
financial reporting.
17
PART II: OTHER INFORMATION
ITEM 2: SALES OF UNREGISTERED SECURITIES
Consideration Received
and Description of
Underwriting or Other If Option, Warrant
Discounts to Market or Convertible
Title of Price Afforded to Exemption from Security, Terms of
Date of Sale Security Number Sold Purchasers Registration Claimed Exercise or Conversions
- ------------ --------- ----------- ---------------------- -------------------- -----------------------
7/1/03 Options to 10,158 Options granted under 4(2) Fully exercisable
purchase 1996 Stock Plan - no commencing 7/1/06
Common Stock cash consideration until 10 years from
received by the Company. date of grant, at an
exercise price of
$5.10 per share.
8/1/03 Options to 9,914 Options granted under 4(2) Fully exercisable
purchase 1996 Stock Plan - no upon grant for a
Common Stock cash consideration period of 10 years
received by the Company. from date of grant,
at an exercise price
of $4.976 per share.
ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K
(a) 131.1 Section 302 Certification of Chief Executive Officer.
31.2 Section 302 Certification of Chief Financial Officer.
31.2 Section 906 Certification.
(b) Reports on Form 8-K
None
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Kirlin Holding Corp.
-----------------------------
(Registrant)
Dated: November 13, 2003 By: /s/ Anthony J. Kirincic
--------------------------
Anthony J. Kirincic
President
Dated: November 13, 2003 By: /s/ Barry E. Shapiro
--------------------------
Barry E. Shapiro
Chief Financial Officer
(and principal accounting officer)
19