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 June 30, 2003
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__ 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.
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(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
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(Address of Principal Executive Offices)
(800) 899-9400
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(Registrant's Telephone Number Including Area Code)
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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 August 12, 2003, Issuer had
outstanding 2,029,408 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
June 30, December 31,
2003 2002
----------------- ------------------
(Unaudited)
ASSETS:
Cash and cash equivalents $ 3,679,520 $ 3,035,084
Due from Clearing Brokers 1,319,675 559,303
Securities Owned:
U.S. government and agency obligations, at market value 95,210 320,103
State and municipal obligations, at market value 789,950 757,450
Corporate bonds and other securities, at market value 1,492,035 705,967
Nonmarketable securities, at fair value 72,892 72,725
Rebate Receivable 970,000 964,000
Representative Loans 367,741 547,914
Furniture, Fixtures and Leasehold Improvements, at cost, net of accumulated
depreciation of $2,855,330 and $2,944,342, respectively 290,075 574,986
Deferred Tax Assets, net of valuation allowances of $2,365,517 and $4,119,640,
respectively 1,250,592 -
Other Assets 665,688 637,924
----------------- ------------------
Total assets $ 10,993,378 $ 8,175,456
================= ==================
LIABILITIES and STOCKHOLDERS' EQUITY:
Liabilities:
Securities sold, not yet purchased, at market value $ 249,341 $ 143,205
Accrued compensation 1,949,380 1,694,183
Accounts payable and accrued expenses 2,236,886 2,269,672
----------------- ------------------
Total liabilities 4,435,607 4,107,060
----------------- ------------------
Subordinated liabilities 2,187,500 2,500,000
----------------- ------------------
Commitments and Contingencies
Stockholders' Equity:
Common stock, $.0001 par value; authorized 7,000,000 shares, issued and
outstanding 1,982,790 and 1,798,224 shares, respectively 198 180
Additional paid-in capital 16,239,793 16,226,346
Unearned Stock Compensation (211,702) (283,409)
Accumulated deficit (11,658,018) (14,374,721)
----------------- ------------------
Total stockholders' equity 4,370,271 1,568,396
----------------- ------------------
Total liabilities and stockholders' equity $ 10,993,378 $ 8,175,456
================= ==================
See Notes to Consolidated Financial Statements
2
KIRLIN HOLDING CORP. and SUBSIDIARIES
Consolidated Statements of Operations
Three-Months Ended Six-Months Ended
June 30, June 30,
---------------------------------- --------------------------------
2003 2002 2003 2002
---------------- ---------------- --------------- ----------------
(Unaudited) (Unaudited)
Revenues:
Principal transactions, net $ 259,612 $ (50,221) $ 419,243 $ (256,696)
Commissions 5,659,944 4,508,480 9,907,924 9,970,189
Investment Banking 465,000 563,329 465,000 906,311
Other income 736,284 577,576 1,329,471 1,260,510
---------------- ---------------- ---------------- ----------------
7,120,840 5,599,164 12,121,638 11,880,314
---------------- ---------------- ---------------- ----------------
Expenses:
Employee compensation and benefits 4,494,033 3,852,393 7,818,261 9,090,434
Promotion and advertising 42,717 107,209 116,857 202,584
Clearance and execution charges 142,983 134,029 253,730 301,422
Occupancy and communications 866,040 978,293 1,653,696 2,093,192
Professional fees 217,388 356,824 358,346 486,499
Interest 8,120 (21,147) (6,086) (2,793)
Other 337,477 743,940 516,122 1,244,148
---------------- ---------------- ---------------- ----------------
6,108,758 6,151,541 10,710,926 13,415,486
---------------- ---------------- ---------------- ----------------
Income (loss) before income tax benefit 1,012,082 (552,377) 1,410,712 (1,535,172)
Income tax benefit 507,738 213,440 1,305,991 537,230
---------------- ---------------- ---------------- ----------------
Net income (loss) $ 1,519,820 $ (338,937) $ 2,716,703 $ (997,942)
================ ================ ================ ================
Basic earnings (loss) per common share $ 0.77 $ (0.18) $ 1.41 $ (0.53)
================ ================ ================ ================
Weighted-average shares outstanding 1,982,850 1,873,357 1,929,132 1,883,904
================ ================ ================ ================
Diluted earnings (loss) per common share $ 0.71 $ (0.18) $ 1.35 $ (0.53)
================ ================ ================ ================
Adjusted weighted-average shares outstanding 2,136,694 1,873,357 2,006,054 1,883,904
================ ================ ================ ================
See Notes to Consolidated Financial Statements
3
KIRLIN HOLDING CORP. and SUBSIDIARIES
Consolidated Statement of Changes in Stockholders' Equity
For the six months ended June 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 256,834 25 532,664 17,428 - 550,117
Stock forfeitures (72,268) (7) (519,217) 54,279 - (464,945)
Net income - - - - 2,716,703 2,716,703
-------------- ------------- ------------- --------------- -------------- --------------
Stockholders' equity,
June 30, 2003 1,982,790 $ 198 $ 16,239,793 $ (211,702) $ (11,658,018) $ 4,370,271
============== ============= ============= =============== =============== =============
See Notes to Consolidated Financial Statements
4
KIRLIN HOLDING CORP. and SUBSIDIARIES
Consolidated Statements of Cash Flows
Six Months Ended
June 30,
--------------------------------------
2003 2002
------------------- -----------------
(Unaudited)
Cash flows from operating activities:
Net income (loss) $ 2,716,703 $ (997,942)
------------------- -----------------
Adjustments to reconcile net income (loss) to net cash provided by operating
activities:
Depreciation 214,233 325,146
Amortization - 120,833
Deferred income taxes (1,250,592) 719,862
(Increase) decrease in nonmarketable securities (167) 428,828
Noncash compensation 85,173 377,942
Loss on disposal of fixed assets 70,678 -
(Increase) in securities owned, at market value (593,675) (77,968)
(Increase) decrease in receivable from clearing brokers (760,372) 1,248,122
(Increase) in income taxes receivable - (1,213,881)
(Increase) in other assets (27,764) (1,512,517)
(Increase) in rebate receivable (6,000) (443,000)
Decrease in representative loans 180,173 382,404
(Decrease) in securities sold, not yet purchased, at market value 106,136 2,140,590
Increase in accrued compensation 255,197 49,350
(Decrease) increase in accounts payable and accrued expenses (32,786) 40,702
------------------- -----------------
Total adjustments (1,759,766) 2,586,413
------------------- -----------------
Net cash provided by operating activities 956,937 1,588,471
------------------- -----------------
Cash flows from investing activities:
Purchase of furniture, fixtures and leasehold improvements - (66,339)
Acquisition of other businesses, net of cash - (91,330)
------------------- -----------------
Net cash used in investing activities - (157,669)
------------------- -----------------
Cash flows from financing activities:
Subordinated liabilities (312,500) 2,500,000
Repurchases of stock - (608,499)
------------------- -----------------
Net cash provided by financing activities (312,500) 1,891,501
------------------- -----------------
Net increase in cash and cash equivalents 644,436 3,322,303
Cash and cash equivalents, beginning of period 3,035,084 972,086
------------------- -----------------
Cash and cash equivalents, end of period $ 3,679,520 $ 4,294,389
=================== =================
Supplemental disclosures of consolidated cashflow information:
Interest paid $ 9,661 $ 3,507
Income taxes paid $ 6,192 $ 7,776
Supplemental disclosures of noncash investing and financing activities:
Common stock awards, net of forfeitures $ 85,173 $ 377,942
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 six-month periods
ended June 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 six-month periods ended June 30, 2002 have been
reclassified, where appropriate, to conform to the financial statement
presentation used at June 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-months
ended March 31, 2003 would have been as follows:
6
KIRLIN HOLDING CORP. and SUBSIDIARIES
Notes to Consolidated Financial Statements
(Unaudited)
Three-Months Six-Months
Ended Ended
June 30, 2003 June 30, 2003
-------------- ---------------
Net income (loss) - as reported $ 1,519,820 $ 2,716,703
Deduct: Total stock based employee
compensation expense determined
under the fair value based method (144,713) (289,426)
-------------- ---------------
Net income (loss) - pro forma $ 1,375,107 $ 2,427,277
============== ===============
Basic income per common share -
as reported $ 0.77 $ 1.41
Diluted income per common share -
as reported $ 0.71 $ 1.35
Basic income per common share -
pro forma $ 0.69 $ 1.26
Diluted income per common share -
pro forma $ 0.64 $ 1.21
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 $2,365,517 at June 30, 2003 and $4,119,640 at December 31, 2002.
The Company has a federal net operating loss carryforward of approximately
$2,600,000 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 six-month periods ended June 30, 2002, potential common shares
7
KIRLIN HOLDING CORP. and SUBSIDIARIES
Notes to Consolidated Financial Statements
(Unaudited)
have not been included in the computation of diluted EPS since the effect
would be antidilutive.
4. Contingencies
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.
Also in July 2003, the NASD staff informed Kirlin Securities that it has
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
8
KIRLIN HOLDING CORP. and SUBSIDIARIES
Notes to Consolidated Financial Statements
(Unaudited)
these customer accounts and that Kirlin Securities failed to maintain
adequate supervisory procedures. Kirlin Securities has been given an
opportunity to respond to the potential recommendation by the NASD staff.
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.
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.
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 June 30, 2003 the valuation allowance is approximately
65% 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 six-months of 2003, including the
recordation of income from operations for the six-month period ended
June 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
eliminating non-productive branch offices. In addition, the Company is
10
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 June 30, 2003 resulted in an
accrued liability of approximately $243,000.
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
event that customers do not fulfill their obligations with the
clearing brokers, as the broker-dealer has agreed to indemnify the
11
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 six-month periods ended June
30, 2003 increased to $259,612 and $419,243, respectively, from the comparable
periods in 2002. The increase is attributable to 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 six-month periods ended June 30, 2003
increased 25.5% and decreased 1%, respectively, to $5,659,944 and $9,907,924
from the comparable periods in 2002. The change during the three-month period
ended June 30, 2003 is primarily attributable to the Company's increased
business in equity securities, mutual funds, and fees for facilitating the
trading strategy of customers. Commissions during the six-month period ended
June 30, 2003 did not increase due to non-repetitive commissions generated
during the six-month period ended June 30, 2002 from a debt conversion and an
initial public offering.
Investment banking for both the three and six-month periods ended June 30,
2003 was $465,000, decreasing 17.5% and 48.7%, respectively, from the comparable
periods in 2002. During the three-month period ended June 30, 2003 the Company
acted as the placement agent for the acquisition of Montana Mills Bread Co. by
Krispy Kreme Donuts. During the six-month period ended June 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 six-month periods ended June 30, 2003
increased 27.5% and 5.5%, respectively, to $736,284 and $1,329,471 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 six-month periods
ended June 30, 2003 increased 16.7% and decreased 14%, respectively, to
$4,494,033 and $7,818,261 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 six-month period ended June 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 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 six-month periods ended June
30, 2002 decreased 60.2% and 42.3%, respectively, to $42,717 and $116,857 from
the comparable periods in 2002 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.
12
Clearance and execution charges for the three and six-month periods ended
June 30, 2003 increased 6.7% and decreased 15.8%, respectively, to $142,983 and
$253,730 from the comparable periods in 2002 primarily as a result of higher and
lower ticket volume in the respective periods.
Occupancy and communications costs for the three and six-month periods
ended June 30, 2003 decreased 11.5% and 21%, respectively, to $866,040 and
$1,653,696 from the comparable periods in 2002. This decrease is primarily a
result of the move 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, 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. Finally, during the three-month period
ended June 30, 2003, the Company recognized a loss for approximately $71,000
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. The
representative's located in these closed offices were primarily relocated to
other offices.
Professional fees for the three and six-month periods ended June 30, 2003
decreased 39.1% and 26.3%, respectively, to $217,388 and $358,346 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. The Company's landlord pursued legal action
and during the three-month period ended March 31, 2003 the court ruled in favor
of the landlord. During June 2003 the Company was informed that the final
settlement amounts to $227,000, which was fully accrued prior to the time of the
final payment. For the period from December 2001 through May 2003, the Company
continued to accrue on a monthly basis an amount equivalent to the straight-line
rent related to the San Diego lease.
Interest expense for the three and six-month periods ended June 30, 2003
increased 138% and decreased 118%, respectively, to $8,120 and $(6,086) from the
comparable periods in 2002. Interest expense increased during the three-month
period ended June 30, 2003 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 six-month period
ended June 30, 2003 the interest related to terminated representatives exceeded
the interest cost related to existing representatives by $6,086. To a lesser
extent interest expense decreased as a result of a reduction of inventory
positions purchased on margin and securities sold short, which are held at a
clearing broker and charged interest. The Company seeks to minimize its cash
balances and withdraws cash for operations from its trading accounts as needed.
To the extent necessary, inventory positions are utilized as collateral for such
withdrawals.
Other expenses for the three and six-month periods ended June 30, 2003
decreased 54.6% and 58.5%, respectively, to $337,477 and $516,122 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 two 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
decrease in the number of employees, 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.
13
Income tax benefit for the three and six-month periods ended June 30, 2003
were $507,738 and 1,305,991, 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 June 30, 2003 the
valuation allowance is approximately 65% 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 $1,519,820 and $2,716,703 for the three and six-month periods
ended June 30, 2003 compares to net loss of $338,937 and $997,942 for the three
and six-month periods ended June 30, 2002. This resulted primarily from the
change in revenues and expenses discussed above.
Liquidity and Capital Resources
At June 30, 2003, approximately 67% of the Company's assets were comprised
of cash and highly liquid securities.
Cash and cash equivalents amounted to $3,679,520 at June 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.
Due from Clearing Brokers amounted to $1,319,675 at June 30, 2003 as
compared to $559,303 at December 31, 2002. This 136% 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.
Securities Owned at June 30, 2003 were $2,450,087 as compared to $1,856,245
at December 31, 2002. This increase is primarily reflective of the increase in
equity securities maintained in the Company's investment account which should
yield a higher paying dividend as compared to the current money market fund
rate. The above increase is offset by a decrease in U.S. government and agency
obligations held in inventory with respect to the Company's retail activities.
Rebate Receivable amounted to $970,000 at June 30, 2003 as compared to
$964,000 at December 31, 2002. This line item is basically unchanged, however,
during the period the Company generated income and fees which increased this
line item by $318,500 offset by the collection of $312,500 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. In the future, 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 June 30, 2003 amounted to $367,741 as compared to
$547,914 at December 31, 2002. This 32.9% 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.
Furniture, Fixtures and Leasehold improvements, net, at June 30, 2003,
decreased to $290,075 as compared to $574,986 at December 31, 2002. This 49.6%
decrease primarily results from the depreciation of fixed assets and the
write-off of fixed assets for approximately $71,000 located in two branch
offices as previously discussed in the occupancy and communications in Result of
Operations.
14
Deferred Tax Assets, net at June 30, 2003 amounted to $1,250,592 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 June 30, 2003 the
valuation allowance is approximately 65% 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 June 30, 2003 the deferred tax assets amount to approximately
$3,616,000 and the recorded valuation allowance amounts to approximately
$2,366,000. If the Company continues to be profitable then it anticipates being
able to use the entire deferred tax asset.
Other assets increased by 4.4% to $665,688 at June 30, 2003, from $637,924
at December 31, 2002. The increase is attributable to the increase in
commissions due the Company related to the sale of unit investment trusts and
mutual funds. Commissions related to the unit investment trusts are expected to
be paid approximately sixty to ninety days after their closing dates, while the
mutual fund commissions were collected entirely during July 2003. The above
increase is offset by (i) 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; (ii) 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; and (iii) decrease in prepaid expenses related to the amortization of
expenses related to the Company's operations.
Securities sold, not yet purchased amounted to $249,341 at June 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 $1,949,380 at June 30, 2003 as compared to
$1,694,183 at December 31, 2002, a 15.1% 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 June 30, 2003 were $2,236,886 as
compared to $2,269,672 at December 31, 2002, a 1.4% decrease. 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 $2,187,500 at June 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 six-month period ended June 30, 2003 the Company repayed $312,500 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.
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
15
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 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.
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 June 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 $ 161,852 $ 75,886 $ 51,906 $ 22,614 $ 11,446 $ -
Office Lease obligations 1,767,401 552,836 824,596 309,486 80,483 -
Employment contract
obligations 3,900,833 377,500 755,000 755,000 755,000 1,258,333
------------ ------------- ------------- -------------- ------------ --------------
$ 5,830,086 $ 1,006,272 $ 1,631,502 $ 1,087,100 $ 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 addition, our market
16
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 June 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 1: LEGAL PROCEEDINGS
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.
Also in July 2003, the NASD staff informed Kirlin Securities that it has
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. Kirlin Securities has been given an opportunity
to respond to the potential recommendation by the NASD staff. 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.
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
18
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.
ITEM 2: SALES OF UNREGISTERED SECURITIES
Consideration Received
and Description of If Option, Warrant
Underwriting or Other or Convertible
Discounts to Market Security, Terms of
Number Sold Price Afforded to Exemption from Exercise or
Date of Sale Titel of Security or forfeited Purchasers Registration Claimed Conversions
- ----------------- ----------------- --------------- ------------------------- --------------------- ----------------------
4/1/03 Options to 9,284 Options granted under 4(2) Fully exercisable
purchase 1994 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 $1.92 per share.
4/1/03 Options to 22,750 Options granted under 4(2) Fully exercisable
purchase 1996 Stock Plan - no commencing 4/1/06
Common Stock cash consideration until 10 years from
received by the Company. date of grant, at an
exercise price of
$1.65 per share.
4/29/03 Options to 400,000 Options granted under 4(2) Fully exercisable
purchase 1996 Stock Plan - no commencing 4/29/06
Common Stock cash consideration until 7 years from
received by the Company. date of grant, at an
exercise price of
$1.45 per share.
4/29/03 Options to 170,000 Options granted under 4(2) Fully exercisable
purchase 1994 Stock Plan - no commencing 4/29/07
Common Stock cash consideration until 7 years from
received by the Company. date of grant, at an
exercise price of
$1.45 per share.
4/29/03 Options to 45,000 Options granted under 4(2) Fully exercisable
purchase 1994 Stock Plan - no commencing 4/29/04
Common Stock cash consideration until 5 years from
received by the Company. date of grant, at an
exercise price of
$1.45 per share.
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company held its Annual Meeting of Stockholders on June 23, 2003. At
the meeting the director nominated for election, Harold Paul, was re-elected to
a three year term expiring in 2006 with 1,591,468 shares voted in favor of his
election and 426,380 shares withheld authority to vote. The term of office of
Anthony J. Kirincic and John Milcetich will expire at the Annual Meeting of
Stockholders held in 2004 and the terms of office of David O. Lindner and Edward
J. Casey will expire at the Annual Meeting of Stockholders held in 2005. At the
meeting the stockholders authorized an amendment to the 1996 Stock Plan to
19
increase the number of shares of common stock available for issuance under the
plan from 1,000,000 shares of common stock to 2,500,000 shares of common stock
with 1,070,450 shares voted in favor of this amendment, 45,621 shares voted
against this amendment, 5,858 shares abstained from the vote of this amendment,
and 495,921 shares were broker non-votes.
ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K
(a) 10.3.1 Amendment, approved by stockholders on June 23,
2003, to 1996 Stock Plan.
10.21.1 Amendment, dated June 23, 2003, to Employment
Agreement, dated August 29, 2001 between
Registrant and David O. Lindner.
10.22.1 Amendment, dated June 23, 2003, to Employment
Agreement, dated August 29, 2001 between
Registrant and Anthony J. Kirincic.
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
20
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: August 14, 2003 By: /s/ Anthony J. Kirincic
-----------------------
Anthony J. Kirincic
President
Dated: August 14, 2003 By: /s/ Barry E. Shapiro
-----------------------
Barry E. Shapiro
Chief Financial Officer
(and principal accounting officer)
21