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SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

OR

001-14223

Commission File Number

KNIGHT TRADING GROUP, INC.

(Exact name of registrant as specified in its charter)

DELAWARE

(State or other jurisdiction of incorporation or organization)

22-3689303

(I.R.S. Employer Identification Number)

525 Washington Boulevard, Jersey City, NJ 07310

(Address of principal executive offices and zip code)

Registrant’s telephone number, including area code: (201) 222-9400

Securities registered pursuant to Section 12(b) of the Act:

None.

Securities registered pursuant to Section 12(g) of the Act:

Class A Common Stock, $0.01 par value

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x     No  ¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.     x

Indicate by check mark whether the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2).    Yes  x     No  ¨

The aggregate market value of the Class A Common Stock held by nonaffiliates of the Registrant was approximately $554,976,563 at June 30, 2003 (the last business day of the Registrant’s most recently completed second fiscal quarter) based upon the closing price for shares of the Registrant’s Class A Common Stock as reported by the National Market System of the Nasdaq Stock Market on that date. For purposes of this calculation, affiliates are considered to be officers, directors and holders of 10% or more of the outstanding common stock of the Registrant on that date.

At March 10, 2004 the number of shares outstanding of the Registrant’s Class A Common Stock was 116,716,449 and there were no shares outstanding of the Registrant’s Class B Common Stock as of such date.

DOCUMENTS INCORPORATED BY REFERENCE

Definitive Proxy Statement relating to the Company’s 2004 Annual Meeting of Stockholders to be filed hereafter (incorporated, in part, into Part III hereof).

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KNIGHT TRADING GROUP, INC.

FORM 10-K ANNUAL REPORT

For the Fiscal Year Ended December 31, 2003

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FORWARD LOOKING STATEMENTS

Certain statements contained in this Annual Report on Form 10-K, including without limitation, those under “Legal Proceedings” in Part I, Item 3, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part II, Item 7 (MD&A), and “Quantitative and Qualitative Disclosures about Market Risk” in Part II, Item 7A, and the documents incorporated by reference may constitute forward-looking statements. These forward-looking statements are not historical facts and are based on current expectations, estimates and projections about the Company’s industry, management’s beliefs and certain assumptions made by management, many of which, by their nature, are inherently uncertain and beyond our control. Accordingly, readers are cautioned that any such forward-looking statements are not guarantees of future performance and are subject to certain risks, uncertainties and assumptions that are difficult to predict. Since such statements involve risks and uncertainties, the actual results and performance of the Company may turn out to be materially different from the results expressed or implied by such forward-looking statements. Given these uncertainties, readers are cautioned not to place undue reliance on such forward-looking statements. Unless otherwise required by law, the Company also disclaims any obligation to update its view of any such risks or uncertainties or to announce publicly the result of any revisions to the forward-looking statements made in this report. Readers should carefully review the risks and uncertainties detailed under “Certain Factors Affecting Results of Operations” in MD&A and in “Risks Affecting our Business” in Part I, Item 1 herein, and in other reports or documents the Company files from time to time with the Securities and Exchange Commission. This discussion should be read in conjunction with the Company’s Consolidated Financial Statements and the Notes thereto contained in this report.

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PART I

Item 1.     Business

Overview

Knight Trading Group, Inc., a Delaware corporation, and its subsidiaries (collectively “Knight” or the “Company”) operate in three business segments: Equity Markets, Derivative Markets and Asset Management. Effective in the fourth quarter of 2003, the Company instituted a new segment reporting format to include three reportable business segments: Equity Markets, Derivative Markets, and Asset Management. Prior to this change, the Company reported two business segments: Equity Markets, which included equity and derivatives business activities, and Asset Management. This segment reporting change was made to better reflect management’s approach to operating and directing the businesses and to more closely align financial and managerial reporting. Prior period segment data has been restated to conform to the 2003 presentation.

The Company was organized in January 2000 as the successor to the business of Knight/Trimark Group, Inc. (the “Predecessor”). The Predecessor was organized in April 1998 as the successor to the business of Roundtable Partners, L.L.C., which was organized in March 1995. In May 2000, the Company changed its name from Knight/Trimark Group, Inc. to Knight Trading Group, Inc. Our corporate headquarters are located at 525 Washington Boulevard, Jersey City, New Jersey 07310, and our telephone number is (201) 222-9400.

Financial information concerning our business segments for each of 2003, 2002 and 2001, respectively, is set forth in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part II, Item 7 and the Consolidated Financial Statements and Notes thereto located in Part II, Item 8 entitled “Financial Statements and Supplementary Data.”

Available Information

Our Internet address is www.knighttradinggroup.com. We make available, free of charge, on or through the “Investors” section of our corporate web site under “SEC Filings”, annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, Forms 3, 4 and 5 filed on behalf of directors and executive officers, and any amendments to those reports filed or furnished pursuant to the Securities Exchange Act of 1934, and our proxy statements as soon as reasonably practicable after such material is electronically filed with, or furnished to, the United States Securities and Exchange Commission (“SEC”). Also posted on our corporate web site is our Code of Business Conduct and Ethics (the “Code”) governing our directors, officers and employees. Within the time period required by the SEC, we will post on our corporate web site any amendment to such Code and any waiver applicable to our senior financial officers, as defined in the Code.

In addition, our Board of Directors (the “Board”) has standing Finance and Audit, Compensation and Nominating and Corporate Governance Committees. Each of these Board Committees has a written charter approved by the Board. Our Board has also adopted a set of Corporate Governance Guidelines. Copies of each committee charter, along with the Corporate Governance Guidelines, are also posted on the Company’s web site. The information on our corporate web site is not incorporated by reference into this report.

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All of the above materials are also available in print, without charge, to any person who requests them by writing or telephoning:

Knight Trading Group, Inc.

Corporate Communication and Investor Relations

525 Washington Blvd., 23^rd Floor

Jersey City, NJ 07310

(201) 222-9400

Unless otherwise indicated, references to the “Company,” “Knight,” “We,” or “Our” shall mean Knight Trading Group, Inc. and its consolidated subsidiaries.

Equity Markets

Overview

Domestic Equity Markets Operations

We are a leading execution specialist providing comprehensive trade execution services to institutional and broker-dealer clients, offering capital commitment and access to a deep pool of liquidity across the depth and breadth of the U.S. equity markets. Our business model focuses on providing comprehensive trade execution services as well as superior client service. To do so, the model requires that we manage risk effectively as well as maintain efficient and reliable trading technology. Substantially all of our Equity Markets revenues and profitability come from our equity trading and market-making operations in the U.S.

Generally, market makers display the prices at which they are willing to bid, meaning buy, or offer, meaning sell, securities and adjust their bid and offer prices in response to the forces of supply and demand for each security. As a market maker operating in Nasdaq, the Nasdaq Intermarket^™ and the OTC Bulletin Board, we provide trade executions by offering to buy securities from, or sell securities to, institutions and broker-dealers. When acting as principal, we commit our own capital and derive revenues from the difference between the price paid when securities are bought and the price received when those securities are sold. We also provide trade executions on an agency or riskless principal basis, generating commissions or commission equivalents, respectively. We execute the majority of our equity transactions as principal.

Based on rankings published by The AutEx Group, a widely recognized industry reporting service that publishes daily trading volume and market share statistics reported by market makers, we have had the number one ranking in share volume in Nasdaq/OTC securities since 1998. According to the National Association of Securities Dealers, Inc. (“NASD”), we have also held the number one ranking, as measured in share volume, in the trading of the over-the-counter market for both New York Stock Exchange (“NYSE”) and American Stock Exchange (“AMEX”) listed securities in the Nasdaq Intermarket^™ since 1998. Additionally, based on information published by the Autex Group for the month of December 2003, we were ranked number three in share volume in listed securities and number one for OTC Bulletin Board share volume.

Our domestic Equity Markets activities are primarily transacted out of two subsidiaries, Knight Equity Markets, L.P. (“KEM”; formerly Knight Securities, L.P.) and Knight Capital Markets LLC (“KCM”). Both KEM and KCM are broker-dealers registered with the SEC and are members of the NASD.

International Equity Markets Operations

Europe:    Our international Equity Markets activities are primarily operated through Knight Securities International Ltd. (“KSIL”), a U.K. registered broker-dealer that provides agency execution services for European investors in U.S. and European equities. Originally, KSIL provided an agency execution business to European clients in U.S. equities. In 2001, we expanded this operation and established a European market-

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making venture, named Knight Roundtable Europe Limited (“KREL”), with 21 pan-European and U.S. banks and broker-dealers. KREL’s sole business is to own and operate KSIL. As of December 31, 2003, we owned approximately 85% of this venture.

Due to lower volumes, difficult market conditions and significant operating losses, we discontinued all European market-making and reduced European headcount by over 80% in 2002. Currently, KSIL primarily provides agency execution services for European investors in U.S. and European equities. We intend to expand our institutional business and product offerings in Europe in 2004.

In the first quarter of 2004, we made an offer to acquire the ownership interests of the minority owners of KREL. As of the filing of this report, most of the minority shareholders accepted the offer and sold their KREL stakes to Knight, and we currently own 99% of KREL.

Japan:    In the third quarter of 2000, we established a joint venture operation with Nikko Cordial Group (“Nikko”), called Knight Securities Japan Ltd. (“KSJ”), to provide market-making services in Japanese equity securities. We owned 60% of this joint venture. Due to changes in market structure, the withdrawal of Nasdaq Japan, poor market conditions and limited market-making opportunities in Japan, KSJ’s original business plan was significantly impaired and its operations ceased on May 2, 2003. After the cessation of trading, the Company and Nikko liquidated KSJ. For additional discussion related to KSJ, see the section entitled “Discontinued Operations,” set forth in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part II, Item 7 herein.

Clients and Product Offerings

Within Equity Markets, we provide services to two main client groups: institutions and broker-dealers. Our institutional clients primarily include mutual funds, pension plans, plan sponsors, hedge funds, trusts and endowments. Our broker-dealer clients primarily include global, national and regional broker-dealers and on-line brokers. During 2002, we restructured our sales force in order to better meet the needs of these two client groups and to provide greater access to all of our products and services. We estimate that our broker-dealer clients and institutional clients generated approximately 60% and 40%, respectively, of our Equity Markets revenues in 2003.

We seek to provide institutions with high quality and competitive trade executions, superior client service and a wide range of product offerings. Over the past two years, we have worked to aggressively expand our institutional business and offerings. As a result, we hired additional senior sales traders, opened regional offices in San Francisco and Chicago and expanded our Jersey City and Boston offices. At the end of 2003, we employed 65 institutional sales professionals, up from 50 at the end of 2002.

Our institutional product offerings include trade execution services, listed block trading, soft dollar and commission recapture programs, options, program trading, exchange traded funds, international equities and corporate services. In an effort to strengthen our institutional product offerings, on December 1, 2003, we acquired the business of Donaldson & Co., Incorporated (“Donaldson”), an Atlanta-based firm that offers soft dollar and commission recapture programs to institutions. In addition, we expanded our sales and trading teams that provide listed block and international trading services in 2003.

Our broker-dealer client group provides the majority of our equity order flow. We seek to provide broker-dealers with quality and competitive trade executions that enable them to satisfy their fiduciary duties to their customers to seek and obtain the best execution reasonably available in the marketplace. The majority of the orders received from broker-dealers are received electronically. We make payments to certain broker-dealers in return for them routing order flow to us. During the first quarter of 2003, we reduced our payment for order flow rates and expanded our program of charging execution fees to certain of our broker-dealer clients for certain order flow. We have adjusted our payment for order flow rates several times over the past three years to better reflect the value of our liquidity.

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In 2003, our largest broker-dealer client accounted for approximately 12.0% of the Company’s U.S. equity dollar value traded and 31.2% of the Company’s U.S. equity shares traded. No other client accounted for over 10% of our U.S. equity dollar value or shares traded.

Competition

Equity trading and market-making is constantly evolving and intensely competitive, a trend that we expect will continue. Our Equity Markets business segment competes primarily with global, national, and regional broker-dealers, the NYSE, the AMEX, regional exchanges and alternative trading venues, such as electronic communications networks (commonly referred to as ECNs). We compete primarily on the basis of our execution standards (including price, liquidity and speed), client relationships, reputation, product and service offerings and technology.

Over the past four years, the move to a decimalized trading environment, coupled with overall declines in valuations across the U.S. equity markets, has resulted in a market environment characterized by narrowed spreads and reductions in revenue capture metrics. Consequently, maintaining profitability has become extremely difficult for many market makers, resulting in some participants exiting the business. To remain profitable, some market makers have limited or ceased activity in illiquid or marginally profitable securities or, conversely, have sought to execute a greater volume of trades at a lower cost by increasing the automation and efficiency of their operations.

In addition, over the past few years, competition for order flow in the U.S. equity markets has intensified due to the implementation of the SEC Rules 11Ac1-5 and 11Ac1-6. These rules, applicable to broker-dealers, add greater disclosure of execution quality and order-routing practices. Rule 11Ac1-5 requires market centers that trade national market system securities to make available to the public monthly electronic reports that include uniform statistical measures of execution quality on a security-by-security basis. Rule 11Ac1-6 requires broker-dealers that route equity and option orders on behalf of their customers to make publicly available quarterly reports that describe their order routing practices and disclose the venues to which customer orders are routed for execution. Rule 11Ac1-6 also requires the disclosure of payment for order flow arrangements as well as internalization practices. The intent of the rules is to encourage routing of order flow to destinations based primarily on the demonstrable overall quality of executions at those destinations, supported by the order entry firms’ fiduciary requirement to seek to obtain best execution for their customers’ orders.

Competition for business from institutional clients is based on a variety of factors, including equity research, execution quality, soft dollar and commission recapture programs, client relationships and service and capital commitment. Based on industry surveys, over 50% of institutional equity commissions have historically been allocated to broker-dealers in exchange for either research or soft dollar and commission recapture programs. These industry surveys also indicate that execution quality is one of the primary reasons why institutions allocate commissions to broker-dealers other than for research or soft dollar and commission recapture programs. We do not provide research services. With our acquisition of the business of Donaldson, we strengthened the soft dollar and commission recapture programs we provide to our clients. In the future, due partly to the regulatory scrutiny over the past two years relating to equity research and soft dollar practices, and the continued focus by investors on execution quality and overall transaction costs, we believe that a greater percentage of institutional commissions will be allocated based on the quality of executions. However, there is no guarantee that this will occur.

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Financial Overview (in millions)

The following table shows the yearly amounts within our Equity Markets business segment for Revenues, expenses excluding international charges and writedown of assets and lease loss accrual (“Operating Expenses”) and income or loss before international charges, writedown of assets and lease loss accrual, income taxes, minority interest and discontinued operations (“Pre-tax Operating Earnings”).

For a reconciliation of Pre-Tax Operating Earnings to GAAP income before income taxes, minority interest and discontinued operations (“Pre-tax GAAP Income”), please see the reconciliation set forth in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part II, Item 7 herein.

Derivative Markets

Overview

Within Derivative Markets, we are a leading U.S. market maker and specialist across a significant number of U.S. listed option products. Similar to Equity Markets, our business model focuses on providing comprehensive trade execution services as well as superior client service. To do so, the model requires that we manage risk effectively as well as maintain efficient and reliable trading technology.

Our option market-making and specialist activities are transacted out of Knight Financial Products LLC (“KFP”) and our trade execution activities are transacted out of Knight Execution Partners LLC (“KEP”). Both KFP and KEP are broker-dealers registered with the SEC.

Trading of options on certain exchanges is conducted through an auction process. The auction process for each option is managed by the exclusive specialist for that option, whose primary role is to maintain a fair and orderly market in that option. We are members of the Chicago Board Options Exchange, the Chicago Board of Trade, the Chicago Mercantile Exchange, the International Securities Exchange (“ISE”) (of which we are a founding member), the New York Mercantile Exchange, the Pacific Stock Exchange, the Philadelphia Board of Trade, the Philadelphia Stock Exchange and the American Stock Exchange (“AMEX”), and operate on the Boston Options Exchange.

We believe that we are now the second largest U.S. equity options market maker, based on option contract volume provided by the Options Clearing Corporation. As of December 31, 2003, we acted as an options specialist in approximately 520 option classes. In January 2004, we sold our equity options trading posts on the AMEX. As of January 31, 2004, we were a specialist in 476 option classes. Through KEP, we route client order flow to all U.S. options exchanges, including those options in which we act as a specialist, in order to provide institutions and broker-dealers with best execution for their order flow.

In 2002, we closed our options market-making operations in Europe and Australia as they were not profitable and were non-core to our business strategy.

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Clients and Product Offerings

Within Derivative Markets, we operate as a specialist and market maker in U.S. listed options on individual equities, equity indices and commodities. Similar to Equity Markets, Derivative Markets provides services to two main client groups: institutions and broker-dealers. The majority of Derivative Markets’ volumes and revenues are derived from broker-dealers. We seek to provide broker-dealers with quality and competitive trade executions that enable them to satisfy their fiduciary duties to their customers to seek and obtain the best execution reasonably available in the marketplace. We make payments to certain broker-dealers in return for them routing order flow to us. During the first half of 2003, Derivative Markets hired a dedicated sales team to expand its business with institutional clients. Currently, revenues from institutional clients represent less than 10% of Derivative Markets’ revenues.

Competition

Derivative Markets competes with other options specialists and market makers. Options market-making is highly competitive and constantly evolving. In August 1999, the options exchanges began to aggressively compete with each other by listing options that had previously traded exclusively on only one exchange, giving brokers a choice of where to send their customers’ orders. Accordingly, exchanges and their members began competing intensely for those orders. This competition resulted in faster executions, lower transaction costs, and increased liquidity at the displayed quotes. Competition also has been heightened by the entry in 2000 of the first new options exchange in 27 years, the ISE. As of December 2003, the ISE was the largest options exchange in the U.S. In addition, the electronic Boston Options Exchange was approved for options trading by the SEC and commenced operations during the first quarter of 2004. Another factor affecting competition is that option prices have recently begun to be improved by a penny as opposed to a nickel. This may negatively impact revenue capture in the future.

Competition for order flow has produced a variety of results, including the narrowing of spreads. With this increased competition, options specialists and market makers have offered payments to brokers in return for brokers routing order flow to them. Payments for order flow have made it more expensive to transact business in the options markets, although rates for these payments have decreased in 2003 from 2002. Other factors have also contributed to increased competition in the options markets, such as “internalization” of retail options orders (i.e., firms trading as counterparties with their customer orders), or firms routing to affiliated specialists. As a result of all of these factors, revenue capture per options contract has declined over the last few years.

Financial Overview (in millions)

The following table shows the yearly amounts within our Derivative Markets business segment for Revenues, Operating Expenses and Pre-tax Operating Earnings.

For a reconciliation of Pre-Tax Operating Earnings to Pre-Tax GAAP Income, please see the reconciliation set forth in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part II, Item 7 herein.

Asset Management

Overview

We operate an Asset Management business through Deephaven. Deephaven is the investment manager and sponsor of certain hedge funds (the “Deephaven Funds”). Generally, hedge funds are defined as unregulated

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investment pools that may invest in any asset class, including derivatives, and use long and short positions, as well as leverage. A distinguishing feature of hedge funds is their use of long or short positions to offset market risks and isolate arbitrage opportunities.

As of December 31, 2003, Deephaven managed approximately $1.6 billion of assets, of which $201.1 million represented investments made by the Company. Across all assets under management, the Deephaven Funds generated an average return to investors of 13.9% in 2003, up from 7.8% in 2002. Deephaven commenced operations in 1994, and was acquired by Knight in 2000. Deephaven’s investment philosophy is to produce returns for its investors using market-neutral investment strategies focusing on the preservation of capital. The Deephaven Funds have historically had a low correlation to the equities markets. Its returns are primarily dependent upon equity trading volumes, equity volatility, mergers and acquisitions and secondary offering activity in the capital markets, and credit spread relationships.

Currently, the majority of the Deephaven Funds’ assets under management are within the Deephaven Market Neutral Master Fund (“Market Neutral Fund”). The general objective of “market neutral” strategies is to capture mispricings or spreads between related capital instruments. Because the primary basis of the Market Neutral Fund’s strategy is capturing mispricings or spreads between related instruments, rather than attempting to predict or follow absolute price movements, the performance of the Market Neutral Fund is expected to be substantially non-correlated with the general debt and equity markets, as well as with a number of other non-traditional investment strategies. Within the Market Neutral Fund, Deephaven employs a variety of market neutral investment strategies, including convertible arbitrage, event/risk arbitrage, relative value equity, distressed debt and private placements in public companies. As of the end of 2003, the majority of the assets within the Market Neutral Fund were invested within the global convertible arbitrage (approximately 50%), global event / risk arbitrage (approximately 19%) and relative value equity (approximately 17%) strategies.

On October 22, 2003, the Company announced that it had entered into new long-term employment contracts with the senior management team of Deephaven (the “Deephaven managers”). These employment agreements are for a three-year term starting January 1, 2004, and include an option for renewal by the Deephaven managers through 2009 under certain circumstances. In addition, the agreements provide that, in the event of a change of control of the Company, the Deephaven managers would have the option to obtain a 51% interest in Deephaven in exchange for the termination of their employment contracts and associated profit-sharing bonuses. If a change of control were to occur, and if the Deephaven managers exercised this option, the Company would retain a 49% interest in Deephaven.

Clients and Product Offerings

In Asset Management, our clients include institutions, fund-of-funds, pension plan sponsors, trusts, endowments and high-net-worth individuals. Included within Deephaven’s $1.6 billion of assets under management as of December 31, 2003 is an investment of approximately $201.1 million held by the Company and approximately $15.9 million of investments held by certain officers, directors and employees of the Company. In addition to the Company, investors holding more than 10% of Deephaven’s assets under management included two institutions that accounted for 15.4% and 10.8% of such assets, respectively.

Historically, Deephaven’s principal product offering was its multi-strategy Market Neutral Fund. In order to offer additional product choices, Deephaven launched a new single-strategy fund, the Deephaven Long/Short Equity Fund, as of January 1, 2004, with approximately $25 million in assets (included in this amount is a $20 million investment by the Company). In addition, Deephaven expects to launch another new fund, the Deephaven Event Arbitrage Fund, in the second quarter of 2004.

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Competition

There has been a growing trend among fund management companies and institutions to allocate more of their assets to hedge fund investments. This has influenced the growth in the hedge fund industry, as shown in the following table. The continued growth of the hedge fund industry may provide for greater competition in the future.

Source: Hedge Fund Research, Inc.

Historically, Deephaven competed primarily with other asset management companies that manage and sponsor market neutral portfolios. As Deephaven launches funds, such as the new Deephaven Long/Short Equity Fund and the Deephaven Event Arbitrage Fund, it will compete with other asset management companies with similar investment strategies. Competition is primarily based on reputation, client relationships, the experience and stability of the management team, investment strategies, leverage, risk profile and fund returns.

Financial Overview (in millions)

The following table shows the yearly amounts within our Asset Management business segment for Revenues, Operating Expenses and Pre-tax Operating Earnings.

Revenues for 2003, 2002 and 2001, in the above chart, include $23.9 million, $10.1 million and $5.0 million, respectively, of investment income related to our investment in the Deephaven Funds.

For a reconciliation of Pre-Tax Operating Earnings to Pre-Tax GAAP Income, please see the reconciliation set forth in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part II, Item 7 herein.

Marketing

We market aggressively through one-on-one meetings and continuous communications with existing and potential clients. Our marketing strategy for our Equity Markets and Derivative Markets segments is to continue to differentiate us from competitors by providing high quality and competitive trade execution services with superior client service. In our Asset Management segment, we differentiate ourselves on our reputation, client relationships, the experience and stability of the management team, investment strategies, leverage, risk profile and fund returns. In 2003, the Company undertook a campaign to improve the Company’s reputation, corporate identity and brand. We plan to leverage our stronger brand awareness when advertising our product and services offerings.

Clearing Arrangements

The Company has several clearing relationships within its Equity Markets and Derivative Markets segments, with one firm clearing the majority of the transactions. These arrangements are for defined periods of time and generally provide for termination provisions of between 60 and 180 days depending upon the occurrence of specified events. In the Asset Management segment, we have clearing relationships with various prime brokers.

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Technology

We have invested a significant amount of capital in order to expand our execution capacity and upgrade our trading systems and infrastructure and plan to continue to make additional investments in technology in 2004. Our ability to identify and deploy emerging technologies that facilitate the execution of trades is key to the successful execution of our business model. Not only has technology enhanced our capacity and ability to handle order flow, it has also been an important component of our strategy to comply with government regulations, achieve competitive execution standards, increase trading automation and provide superior client service. In order to improve our efficiency and lower costs, we have automated a portion of our execution services through our internally developed quantitative market-making model. We plan to increase our use of technology to further automate our execution services.

We use our proprietary technology and technology licensed from third parties to execute trades, monitor the performance of our traders, to assess our inventory positions, to manage risk effectively and to provide ongoing information to our clients. We are electronically linked to institutions and broker-dealers in order to provide them immediate access to our trading operations and to facilitate the handling of client orders. In addition, our business-to-business portal provides our clients with an array of web-based tools to interact with our Equity Markets’ trading systems. Broker-dealers use this portal to send us order flow and access reports.

Within Equity Markets, we use a customized version of the BRASS^® trading system originally built by SunGard Trading Systems for OTC equities. For listed equities, we use a customized version of the Appletree trading system originally built by TCAM. We also use an internally developed integrated institutional sales technology platform, which consists of an order management system for the entry, management and routing of institutional orders, a system for the simultaneous distribution of indications of interest and trade advertisements to various sources, and a rules-based trade allocation matching engine to receive allocation instructions from clients and automate post-trade processing. Within Derivative Markets, we use both an in-house developed proprietary system and an order routing system licensed from a third party. In the management of the Deephaven Funds, Asset Management uses both an in-house developed proprietary order management system and a third-party portfolio management system.

Business Continuity Capabilities

Alternative trading facilities are in place for our domestic Equity Markets operations in Westchester County, New York. This facility has been designed to allow us to substantially continue operations if we are prevented from accessing or utilizing our primary office locations for an extended period of time. Limited business continuity operations are in place for our Derivative Markets and Asset Management businesses.

Intellectual Property and Other Proprietary Rights

Our success and ability to compete are dependent to a degree on our intellectual property, which includes our proprietary technology, trade secrets and client base. We rely primarily on trade secret, trademark, domain name, patent and contract law to protect our intellectual property. In addition, it is our policy to enter into confidentiality, intellectual property ownership and/or non-competition agreements with our employees, independent contractors and business partners, and to control access to and distribution of our intellectual property.

Government Regulation and Market Structure

The securities industry in the United States is subject to extensive regulation under both federal and state laws. In addition, the SEC, the NASD, the CBOE, other self-regulatory organizations (commonly known as SROs), and other regulatory bodies, such as state securities commissions, promulgate numerous rules and regulations. As a matter of public policy, regulatory bodies are charged with safeguarding the integrity of the securities and other financial markets and with protecting the interests of investors in those markets. Broker-dealers are subject to intense regulation concerning certain aspects of their business, including trade practices, capital structure, record retention and the conduct of its officers, supervisors and registered employees. Failure to

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comply with any of these laws, rules or regulations could result in administrative or court proceedings, censure, fine, the issuance of cease-and-desist orders, the suspension or disqualification of the broker-dealer and/or its officers, supervisors or employees, and other penalties. We, and certain of our officers and other employees, have, in the past, been subject to claims alleging the violation of such laws, rules and regulations, which resulted in the payment of fines and settlements. Currently, we are subject to various legal and regulatory proceedings as further described in “Legal Proceedings” in Part I, Item 3 herein.

Significant legislation, rule-making and market structure changes have occurred over the last few years that have had an impact on the Company and its business segments. First, decimalization was introduced in January 2001 in NYSE and AMEX listed securities, and in Nasdaq markets in April 2001. Decimalization, combined with the one-penny minimum price spread, has had a dramatic reduction in average spreads, which in turn has had a profound effect on our Equity Markets and Derivative Markets profitability. Second, in 2002 Nasdaq launched SuperMontage, a Nasdaq routing and execution system. SuperMontage transformed Nasdaq from a quote-driven market to a full-order-driven market where the order drives the quote. The introduction of SuperMontage, which is not used by all market participants, and the increase in trading of Nasdaq-listed securities by other exchanges and ECNs has created market fragmentation in the Equity Markets segment. This lack of linkage between market centers has resulted in fragmented liquidity pools and different market centers using different sets of regulatory rules and regulations. Third, the U.S. Patriot Act of 2001 contains anti-money laundering and financial transparency laws and mandates the implementation of various new regulations applicable to broker-dealers and other financial services companies, including standards for verifying client identification at account opening, and obligations to monitor client transactions and report suspicious activities. The increased obligations of financial institutions to identify their customers, watch for and report suspicious transactions, respond to requests for information by regulatory authorities and law enforcement agencies, and to share information with other financial institutions, requires the implementation and maintenance of internal practices, procedures and controls which will increase our costs and may subject us to regulatory inquiries, claims or penalties. Lastly, the Sarbanes-Oxley Act of 2002 has led to sweeping changes in the corporate governance area and has increased costs for public companies. This legislation has significantly affected public companies by enacting provisions covering corporate governance, Board of Directors and committee structure, management and control structure, new disclosure requirements, oversight of the accounting profession and auditor independence.

The regulatory environment in which we operate is subject to constant change. Our business, financial condition and operating results may be adversely affected as a result of new or revised legislation or regulations imposed by the U.S. Congress, the SEC, other United States or foreign governmental regulatory authorities, the NASD, the CBOE or other SROs or regulatory bodies. Additional regulation, changes in existing laws and rules, or changes in interpretations or enforcement of existing laws and rules often directly affect the method of operation and profitability of regulated broker-dealers. For example, there has been increased regulatory and legislative scrutiny of soft dollar practices. This may result in increased disclosure requirements by mutual funds, the elimination or reduction of the use of soft dollar programs by mutual funds and/or the threatened abolishment or curtailment of soft dollars by the legislative and/or regulatory authorities. Other areas of focus by the regulatory and legislative authorities are related to a variety of market structure proposals in the Equity Markets and Derivative Markets segments, including, but not limited to, proposed Regulation NMS (uniform trade-through rule, uniform market access rule, sub-penny quoting and dissemination of market data) and proposed Regulation SHO (short sale rule). We cannot predict the effects, if any, of these or other potential changes.

In addition, we have London-based subsidiaries. The brokerage industry in many foreign countries, like the U.S., is heavily regulated. The varying compliance requirements of these different regulatory jurisdictions and other factors may limit our ability to conduct business or expand internationally.

Our asset management subsidiary, Deephaven, is a private asset management company that is not registered as an investment adviser and, as such, is subject to limited regulatory oversight by the SEC. Although Deephaven is not registered as an investment adviser, it is subject to the anti-fraud provisions of the Investment Advisers Act of 1940 (the “Advisers Act”), including Section 206(3). Deephaven is registered with the Commodity Futures

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Trading Commission (CFTC) and is a member of the National Futures Association (NFA) as a “commodity pool operator” and a “commodity trading adviser”. Due to the nature of Deephaven’s client base, however, Deephaven is exempt from many of the CFTC/NFA regulations.

Recent regulatory initiatives by the federal government concerning anti-money laundering and privacy have imposed certain further obligations on Deephaven related to verifying the identity of their ultimate investors (or confirming that the financial intermediaries through which such investors invest in the Deephaven Funds have done so) and what can be disclosed about such investors to third parties. Recently, there has been increased legislative and regulatory scrutiny regarding hedge funds. This may result in additional responsibilities, obligations and restrictions on Deephaven’s business, including the requirement for Deephaven to become a registered investment adviser under the Advisers Act.

The Company believes that it is in material compliance with applicable regulations.

Net Capital Requirements

Certain of our subsidiaries are subject to the SEC’s Net Capital Rule. This rule, which specifies minimum net capital requirements for registered broker-dealers, is designed to measure the general financial integrity and liquidity of a broker-dealer and requires that at least a minimum part of its assets be kept in relatively liquid form. In general, net capital is defined as net worth (assets minus liabilities), plus qualifying subordinated borrowings and certain discretionary liabilities, and less certain mandatory deductions that result from excluding assets that are not readily convertible into cash and from valuing conservatively certain other assets. Among these deductions are adjustments, commonly called haircuts, which reflect the possibility of a decline in the market value of an asset before disposition, and non allowable assets.

Failure to maintain the required net capital may subject a firm to suspension or revocation of registration by the SEC and suspension or expulsion by the NASD and other regulatory bodies and ultimately could require the firm’s liquidation. The Net Capital Rule prohibits payments of dividends, redemption of stock, the prepayment of subordinated indebtedness and the making of any unsecured advance or loan to a stockholder, employee or affiliate, if such payment would reduce the firm’s net capital below required levels.

The Net Capital Rule also provides that the SEC may restrict for up to 20 business days any withdrawal of equity capital, or unsecured loans or advances to stockholders, employees or affiliates (capital withdrawal), if such capital withdrawal, together with all other net capital withdrawals during a 30-day period, exceeds 30% of excess net capital and the SEC concludes that the capital withdrawal may be detrimental to the financial integrity of the broker-dealer.

A change in the Net Capital Rule, the imposition of new rules or any unusually large charges against net capital could limit our operations that require the intensive use of capital and also could restrict our ability to withdraw capital from our broker-dealer subsidiaries. A significant operating loss or any unusually large charge against net capital could adversely affect our ability to expand or even maintain our present levels of business.

Additionally, certain of our foreign subsidiaries in London are subject to capital adequacy requirements of the Financial Services Authority in the United Kingdom.

During 2003, we were in compliance with our capital adequacy requirements. For additional discussion related to net capital, please see Footnote 18 to the Consolidated Financial Statements included elsewhere in this document.

Employees

We reduced our headcount to 933 full-time employees at December 31, 2003, compared to 1,027 full-time employees at December 31, 2002. Of our 933 full-time employees at December 31, 2003, 894 were employed in the U.S. and 39 in the United Kingdom. None of our employees are subject to a collective bargaining agreement. We believe that our relations with our employees are good.

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Risks Affecting Our Business

We face a number of risks that may adversely affect our business, financial condition and results. These include, but are not limited to, the following:

The securities business generally is, by its nature, volatile. It is directly affected by numerous national and international factors that are beyond our control, including, among others, economic, political and market conditions; the availability of short-term and long-term funding and capital; the level and volatility of interest rates; legislative and regulatory changes; currency values and inflation. Any one or more of these factors may contribute to reduced levels of activity in the securities markets generally, or increased market volatility, which could result in lower revenues. The terrorist attacks in the United States in 2001, the U.S. military actions in 2002 and 2003 and the economic downturn in the United States have impacted the U.S. securities markets. Any reduction in revenues or any loss resulting from the above factors could have a material adverse effect on the Company’s business, financial condition and operating results.

The securities industry in the United States is subject to extensive regulation under both federal and state laws. Broker-dealers are subject to regulations concerning all aspects of their business, including trade practices, best execution practices, capital structure, record retention and the conduct of its officers, supervisors and registered employees. Our operations and profitability may be directly affected by, among other things, additional legislation; changes in rules promulgated by the SEC, the NASD, the CBOE, the Federal Reserve, the various stock exchanges of which we are members and other SROs or regulatory bodies; and changes in the interpretation or enforcement of existing laws and rules. Failure to comply with these laws, rules or regulations could result in administrative or court proceedings, censure, fine, the issuance of cease-and-desist orders or the suspension or disqualification of a broker-dealer’s officers, supervisors or registered employees. Our ability to comply with applicable laws and rules is largely dependent on our internal system to ensure compliance, as well as our ability to attract and retain qualified compliance personnel. We could be subject to disciplinary or other actions in the future due to claimed noncompliance. Currently, we are subject to various legal and regulatory proceedings as further described in “Legal Proceedings” in Part I, Item 3 herein. Regulatory actions, legislation and changes in market customs and practices could have a material adverse effect on our business, financial condition and results of operations.

Recently, various regulatory and enforcement agencies have been reviewing mutual fund and hedge fund trading, regulatory reporting obligations and best execution, trading and soft dollar practices as they relate to the brokerage industry. These reviews could result in enforcement actions or new regulations which could adversely affect our operations.

Many aspects of our business involve substantial risks of liability. We are exposed to liability under federal and state securities laws, other federal and state laws and court decisions, as well as rules and regulations promulgated by the SEC, the NASD, the CBOE, the various stock exchanges and other SROs and regulatory bodies. We are also subject to the risk of litigation. We, and certain of our past and present officers, directors and employees, have been named as parties in legal actions, regulatory investigations, securities arbitrations and administrative claims in the past and have been subject to claims alleging the violation of such laws, rules and regulations, which resulted in the payment of fines and settlements. Currently, we are subject to various legal and regulatory proceedings as further described in “Legal Proceedings” in Part I, Item 3 herein.

In March 2004, Knight Securities L.P. (“KSLP,” now known as KEM) and its former CEO, Kenneth D. Pasternak, received Wells Notices from the staff of the SEC’s Division of Enforcement and from NASD’s

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Department of Market Regulation. The Wells Notices from the SEC’s Division of Enforcement indicate that the Division is considering recommending that the SEC bring civil and administrative enforcement actions against KSLP and Mr. Pasternak for possible violations of securities laws. These Wells Notices pertain to investigations into specific trade activity, conduct, supervision and record-keeping that occurred in 1999 through 2001. The Wells Notices from NASD’s Department of Market Regulation indicate that NASD intends to bring formal disciplinary proceedings against both parties relating to similar trade activity and conduct that occurred in 1999 and 2000. We understand that three former KSLP employees have also received Wells Notices. The section entitled “Legal Proceedings” in Part I, Item 3 herein provides a further description of the Company’s current legal and regulatory proceedings.

In addition, certain corporate events, such as a reduction in our workforce, could also result in additional litigation or arbitration. As we intend to defend vigorously any such litigation or proceeding, legal expenses could be incurred. An adverse resolution of any current or future lawsuits, proceedings or claims against us could have a material adverse effect on the Company’s business, financial condition and operating results.

We are highly dependent on a limited number of key executive officers. Our success will be dependent to a large degree on our ability to retain the services of our existing key executive officers and to attract and retain additional qualified personnel in the future. Competition for such personnel is intense. The loss of the services of any of our key executive officers or the inability to identify, hire and retain necessary highly qualified executive management in the future could have a material adverse effect on our business, financial condition and results of operations.

Our success also depends, in part, on the highly skilled, and often specialized, individuals we employ. Our ability to attract and retain management, sales, trading and technology professionals is important to our business strategy. The Company strives to provide high quality services that will allow it to establish and maintain long-term relationships with its clients. The Company’s ability to do so depends, in large part, upon the individual employees who represent the Company in its dealings with such clients. There can be no assurance that the Company will not lose such professionals due to increased competition or other factors in the future. The loss of sales, trading or technology professionals, particularly senior professionals with broad industry expertise, could have a material adverse effect on the Company’s business, financial condition and operating results.

We conduct our market-making activities predominantly as principal, which subjects our capital to significant risks. These activities involve the purchase, sale or short sale of securities for our own account and, accordingly, involve risks of price fluctuations and illiquidity, or rapid changes in the liquidity of markets that may limit or restrict our ability to either resell securities we purchase or to repurchase securities we sell in such transactions. From time to time, we may have large position concentrations in securities of a single issuer or issuers engaged in a specific industry, which might result in higher trading losses than would occur if our positions and activities were less concentrated. The success of our market-making activities primarily depends upon our ability to attract order flow, the skill of our personnel, general market conditions, the amount of, and volatility in, our quantitative market-making and program trading portfolios, effective hedging strategies, the price volatility of specific securities and the availability of capital. To attract order flow, we must be competitive on price, size of securities positions traded, liquidity offerings, order execution, technology, reputation and client relationships and service. In our role as a market maker, we attempt to derive a profit from the difference between the prices at which we buy and sell securities. However, competitive forces often require us to match the quotes other market makers display and to hold varying amounts of securities in inventory. By having to maintain inventory positions, we are subject to a high degree of risk. There can be no assurance that we will be able to manage such risk successfully or that we will not experience significant losses from such activities. All of the above factors could materially adversely affect our business, financial condition and operating results.

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We may experience significant variation in our future results of operations. These fluctuations may result from, among other things, introductions of or enhancements to market-making services by us or our competitors; the value of our securities positions and our ability to manage the risks attendant thereto; the volume of our market-making activities; the dollar value of securities traded; volatility in the securities markets; our market share with institutional clients; the performance of our international operations; our ability to manage personnel, overhead and other expenses, including our occupancy expenses under our office leases and legal fees relating to legal and regulatory proceedings; the strength of our client relationships; the amount of, and volatility in, our quantitative market-making and program trading portfolios; changes in payments for order flow and clearing costs; the addition or loss of executive management and sales, trading and technology professionals; legislative, legal and regulatory changes; legal and regulatory matters; geopolitical risk; the amount and timing of capital expenditures and divestitures; the incurrence of costs associated with acquisitions and dispositions; investor sentiment; the level of assets under management; technological changes and events; seasonality; competition and market and economic conditions. Such factors may also have an impact on our ability to achieve our strategic objectives, including, without limitation, increases in our market share and revenue capture in our Equity Markets and Derivative Markets segments, and increases in our fund returns and assets under management in our Asset Management segment. If demand for our services declines in any of our business segments due to any of the above factors, and we are unable to adjust our cost structure on a timely basis, our operating results could be materially and adversely affected. There also can be no assurance that we will be able to return to the rates of revenue growth that we have experienced in the past or, that we will be able to improve our operating results.

We derive substantially all of our revenues from trading and market-making and asset management activities. The market for these services is constantly evolving and intensely competitive, a trend that we expect will continue. We face direct competition in our Equity Markets business primarily from global, national and regional broker-dealers, and also alternative trading systems, including ECNs. In our Derivative Markets business, we compete with other options specialists and market makers, while our Asset Management business primarily competes with other asset management companies. Equity Markets and Derivative Markets compete primarily on the basis of our execution standards (including price, liquidity and speed), client relationships, reputation, product and service offerings and technology. In Asset Management, we compete primarily on our reputation, client relationships, the experience and stability of the management team, investment strategies, leverage, risk profile and fund returns. A number of our competitors have greater financial, technical, marketing and other resources than we do. Some of our competitors offer a wider range of services and financial products than we do and have greater name recognition and a more extensive client base than we do. These competitors may be able to respond more quickly than us to new or evolving opportunities and technologies, market changes, and client requirements and may be able to undertake more extensive promotional activities and offer more attractive terms to clients. Moreover, current and potential competitors have established or may establish cooperative relationships among themselves or with third parties or may consolidate to enhance their services and products. It is possible that new competitors, or alliances among competitors, may also emerge and they may acquire significant market share. There can be no assurance that we will be able to compete effectively with current or future competitors, which could have a material adverse effect on our business, financial condition and results of operations.

The majority of our revenues are derived from trading and market-making activities in our Equity Markets and Derivative Markets businesses. We expect this to continue for the foreseeable future. Any factor adversely affecting trading and market-making in general, or our market-making activities in particular, could adversely affect our business, financial condition and operating results. Our future success will depend on continued demand for our trading and market-making services and our ability to respond to regulatory and technological changes, as well as client demands. If demand for our trading and market-making services fails to grow, grows more slowly than we currently anticipate, or declines, our business, financial condition and operating results could be materially and adversely affected.

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As a market maker of OTC and listed equities, and as a market maker and specialist in listed options, the majority of our securities transactions are conducted as principal with broker-dealer and institutional counterparties located in the United States. We clear our securities transactions through unaffiliated clearing brokers. Under the terms of the agreements between us and our clearing brokers, the clearing brokers have the right to charge us for losses that result from a counterparty’s failure to fulfill its contractual obligations. No assurance can be given that any such counterparty will not default on its obligations, which default could have a material adverse effect on our business, financial condition and operating results. In addition, at any time, a substantial portion of our assets are held at one or more clearing brokers and, accordingly, we are subject to credit risk with respect to such clearing brokers. One firm clears the majority of our trades and holds the majority of our assets within Equity Markets and Derivative Markets. Consequently, we are reliant on the ability of our clearing brokers to adequately discharge their obligations on a timely basis. We are also dependent on the solvency of such clearing brokers. Any failure by the clearing brokers to adequately discharge their obligations on a timely basis, or failure by a clearing broker to remain solvent, or any event adversely affecting the clearing brokers, could have a material adverse effect on our business, financial condition and operating results.

At times, a limited number of Equity Markets clients have accounted for a significant portion of our equity order flow, and we expect a large portion of the future demand for our Equity Markets trading and market-making services to remain concentrated within a limited number of clients. None of our clients are contractually obligated to utilize us as a market maker and, accordingly, these clients may direct their trading activities to other market makers at any time. Some of these clients have purchased market makers and specialist firms to internalize order flow. There can be no assurance that we will be able to retain these major clients or that such clients will maintain or increase their demand for our trading and market-making activities. In 2003, one client accounted for 12.0% of our total U.S. equity dollar value traded and 31.2% of our U.S. equity shares traded in our Equity Markets segment. At December 31, 2003, in addition to our investment in the Deephaven Funds, there were two institutions that accounted for 15.4% and 10.8%, respectively, of the Deephaven Funds’ assets under management. The loss, or a significant reduction, of demand for our services from any of these clients could have a material adverse effect on our business, financial condition and operating results.

Our revenues may decrease in the event of a decline in market volume, prices or liquidity. Declines in the volume of securities transactions and in market liquidity generally result in lower revenues from market-making activities. Lower price levels of securities may also result in reduced revenue capture, and thereby reduced revenues from market-making transactions, as well as result in losses from declines in the market value of securities held in inventory. Sudden sharp declines in market values of securities can result in illiquid markets, declines in the market values of securities held in inventory, the failure of buyers and sellers of securities to fulfill their obligations and settle their trades, and increases in claims and litigation. Any decline in market volume, price or liquidity or any other of these factors could have a material adverse effect on our business, financial condition and operating results.

Our Asset Management business is subject to a variety of risks. These risks include the departure of key management, redemptions by investors, volatility of the funds’ returns and regulatory or legislative changes. The general objective of “market neutral” strategies, such as those employed by the Deephaven Funds, is to capture mispricings or spreads between related capital instruments. Because the primary basis of the Deephaven Funds’ strategy is capturing mispricings or spreads between related instruments, rather than attempting to predict or follow absolute price movements, the performance of the Deephaven Funds is expected to be substantially non-correlated with the general debt and equity markets, as well as with a number of other non-traditional investment strategies. However, there will be unhedged credit risk in the convertible arbitrage portfolio and that part of the portfolio will have some correlation to credit spreads. Market neutral trading involves substantial risks.

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Disruptions in historical pricing relationships can result in significant losses. In addition, market neutral strategies are subject to the risk of a tightening of dealer credit, forcing the premature liquidation of positions. Lastly, the asset management industry has been subject to recent scrutiny over its practices that could result in increased oversight by the regulatory authorities and/or legislative enactment. If any of these events were to occur, it could have a material adverse effect on our business, financial condition and operating results.

We are the second largest investor in the Deephaven Funds as of December 31, 2003, with $201.1 million invested. A decline in the Deephaven Funds’ returns could also have a material adverse effect on the value of our investment and our operating results.

Our market-making activities are heavily dependent on the integrity and performance of the computer and communications systems supporting them. Our systems and operations are vulnerable to damage or interruption from human error, natural disasters, power loss, computer viruses, intentional acts of vandalism and similar events. Extraordinary trading volumes or other events could cause our computer systems to operate at an unacceptably low speed or even fail. While we have invested significant amounts of capital in the last few years to upgrade the capacity, reliability and scalability of our systems, there can be no assurance that our systems will be sufficient to handle such extraordinary trading volumes. Many of our systems are, and much of our infrastructure is, designed to accommodate additional growth without redesign or replacement; however, we may need to make significant investments in additional hardware and software to accommodate growth. Failure to make necessary expansions and upgrades to our systems and infrastructure could lead to failures and delays. Such failures and delays could cause substantial losses for our clients and could subject us to claims from our clients for losses, including litigation claiming fraud or negligence. In the past, high trading volume has caused significant delays in executing some trading orders, resulting in some clients’ orders being executed at prices they did not anticipate. From time to time, we have reimbursed our clients for losses incurred in connection with systems failures and delays. Capacity constraints, systems failures and delays may occur again in the future and could cause, among other things, unanticipated disruptions in service to our clients, slower system response times resulting in transactions not being processed as quickly as our clients desire, decreased levels of client service and client satisfaction, and harm to our reputation. If any of these events were to occur, we could suffer a loss of clients or a reduction in the growth of our client base, increased operating expenses, financial losses, additional litigation or other client claims, and regulatory sanctions or additional regulatory burdens. In addition, we currently have business continuity operations in place for the majority of our Equity Markets business and limited business continuity operations in place for our Derivative Markets and Asset Management businesses. If we are prevented from using any of our current trading operations, we may not have complete business continuity. This could have a material adverse effect on our business, financial condition and operating results.

We lease approximately 266,000 square feet at our 545 Washington Boulevard location in Jersey City, NJ, which is currently unoccupied. We have decided to move into a portion of that facility within the next 12 to 18 months. This move will involve a number of risks. If we are unsuccessful in transferring our technology and operational infrastructure over to this new location in a smooth and stable manner, we could incur business delays or disruptions. In addition, issues related to the move will result in our management having to spend additional time and resources, taking them away from the day-to-day management of the business. Lastly, the cost of the move is estimated to be $40 million. If the construction and build-out are not completed in a timely manner or if plans are changed or delays occur, we could incur additional costs above the budgeted amount. If any of the above factors were to occur, it could result in a material adverse effect on the Company’s business, financial condition and operating results.

The markets in which we compete are characterized by rapidly changing technology, evolving industry standards, frequent new product and service announcements, introductions and enhancements and changing client demands. If we are not able to keep up with these rapid changes on a timely and cost-effective basis, we

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may be at a competitive disadvantage. In addition, the widespread adoption of new Internet, networking or telecommunications technologies or other technological changes could require us to incur substantial expenditures to modify or adapt our services or infrastructure. Any failure by us to anticipate or respond adequately to technological advancements, client requirements or changing industry standards, or any delays in the development, introduction or availability of new services, products or enhancements could have a material adverse effect on our business, financial condition and operating results.

We may in the future pursue strategic acquisitions of, or investments in, businesses and technologies. Acquisitions may entail numerous risks, including difficulties in assessing values for acquired businesses and technologies, difficulties in the assimilation of acquired operations and products, diversion of management’s attention from other business concerns, assumption of unknown material liabilities of acquired companies, potential loss of clients or key employees of acquired companies and potential changes in legislative or regulatory policy affecting the acquired business. We may not be able to integrate successfully any operations, personnel, services or products that we acquire in the future. Strategic investments may also entail some of the risks described above. If these investments are unsuccessful, we may need to incur a charge against earnings. We have also established a number of strategic relationships. These relationships and others we may enter into in the future may be important to our business and growth prospects. We may not be able to maintain these relationships or develop new strategic alliances.

Our Class A Common Stock, and the U.S. securities markets in general, have experienced significant price fluctuations in recent years. The price of our Class A Common Stock could decrease substantially. In addition, because the market price of our Class A Common Stock tends to fluctuate significantly, we may become the object of securities class action litigation which may result in substantial costs and a diversion of management’s attention and resources. In addition, our future quarterly operating results may not consistently meet the expectations of securities analysts or investors, which could have a material adverse effect on the market price of our Class A Common Stock.

Item 2.     Properties

Our corporate headquarters are located in Jersey City, New Jersey. We lease approximately 118,000 square feet at 525 Washington Boulevard under a lease that expires in March 2006, and we have an option to extend the lease term for an additional five-year period. We also lease approximately 266,000 square feet at 545 Washington Boulevard that expires in October 2021, which is currently not occupied. We intend to move into a portion of our new facility at 545 Washington Boulevard within the next 12 to 18 months. We also lease approximately 220,000 square feet for our offices in Atlanta, GA; Boston, MA; Chicago, IL; Jericho, NY; Minnetonka, MN; New York, NY; Philadelphia, PA; Purchase, NY; Red Bank, NJ; San Francisco, CA; Santa Clara, CA; and London, England.

During 2003, we reserved $9.6 million in lease loss accruals related to excess real estate capacity at our 545 Washington Boulevard location in Jersey City, NJ. The Company engaged a real estate broker in order to sub-lease approximately 78,000 square feet based on an assessment of our real estate needs. This accrual was derived from assumptions and estimates based on lease terms of an anticipated sub-lease agreement, which assumed a sub-lease would have commenced in the second quarter of 2005, anticipated market prices along the Jersey City waterfront and estimated up-front costs including broker fees and build-out allowances.

We believe that our present facilities, together with our current options to extend lease terms and occupy additional space, exceed our needs. We are actively reviewing our real estate needs and may in the future sublet, assign or return some of our space.

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Item 3.     Legal Proceedings

From time to time, we and certain of our past and present officers, directors and employees are named as parties to legal actions, securities arbitrations and regulatory proceedings arising in connection with the conduct of our businesses. We are subject to several of these actions. Although there can be no assurances, at this time the Company believes, based on information currently available, that it is not probable that the ultimate outcome of each of the actions will have a material adverse effect on the consolidated financial condition of the Company, although they might be material to operating results for any particular period, depending, in part, upon operating results for that period.

Legal

KEM Arbitration:    On December 27, 2001, pursuant to an employee arbitration agreement, a former employee of Knight Securities, L.P. (“KSLP”) (effective as of September 1, 2003, now known as Knight Equity Markets, L.P., “KEM”) filed an arbitration claim with NASD Dispute Resolution, Inc. seeking damages relating to his employment (the “KEM Arbitration”; formerly the KS Arbitration). The former employee’s central allegation involves his alleged improper termination. However, he also alleged, among other things, damages based on his belief that during a defined period of time the Company allowed frontrunning of institutional orders to occur (the “purported improper trading practice”). On June 4, 2002, The Wall Street Journal published an article concerning the purported improper trading practice. The Company has investigated the allegations and believes them to be unfounded and without merit. The Company is vigorously defending itself and has denied the allegations in the arbitration. The Company has filed counterclaims against the former employee. The hearing commenced in April 2003. The claimant has concluded the presentation of his case. The Company is scheduled to begin presenting its witnesses on March 30, 2004.

Trading Litigation:    As mentioned in previous filings, and in the description of the KEM Arbitration above, following the publication of the above-mentioned June 4, 2002 The Wall Street Journal article, a number of putative class action lawsuits were filed against the Company by the Company’s shareholders. These actions appeared to have been based upon the newspaper report of allegations made in the KEM Arbitration claim about the purported improper trading practice. Following consolidation, these actions comprised one lawsuit in U.S. District Court in New Jersey entitled Roth et al. v. Knight Trading Group, Inc. et al (“Roth”). In Roth, the plaintiffs asserted claims under Section 10(b) and Rule 10b-5 and Section 20(a) of the federal securities laws based on allegations by individuals who purchased the Company’s common stock during a defined period of time that the Company, among other things, failed to reveal the existence of the purported improper trading practice alleged in the KEM Arbitration. Pursuant to Court Order, dated November 7, 2003, this matter was dismissed with prejudice.

Short Selling Litigation:    In or around June 2002, KEM, along with numerous other broker-dealers, was named in a Texas based lawsuit entitled JAG Media Holdings, Inc. et al. v. A.G. Edwards & Sons, Inc. et al., in which it was generally alleged that the firm improperly engaged in short sale transactions concerning a single security. Since that filing, KEM and/or the Company, again together with a number of broker-dealers, has also been named in similar actions in other jurisdictions concerning additional securities. The plaintiffs in all of these lawsuits are limited to either the issuer and/or shareholder(s) of the issuer. These lawsuits are in their preliminary stages. To date, no discovery has been conducted and no trial dates have been set. The Company, however, believes that it has meritorious defenses to each lawsuit and is defending each lawsuit vigorously.

Other Litigation:

In October 2003, Keener, a pro se plaintiff, filed a putative class action against the Company, Ameritrade Holdings Inc. and certain individuals in the United States District Court for the District of Nebraska, entitled Keener et al. v. Ameritrade Holdings, Inc. et al. The plaintiff commenced his lawsuit on behalf of persons who became clients of Ameritrade during the period from March 29, 1995 through September 30, 2003. In general, the plaintiff asserts that he (and those individuals he seeks to represent) placed certain orders for purchases and sales of securities as clients of Ameritrade which were in turn routed to KEM and that these orders were not

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executed properly. The plaintiff claims that the Company’s conduct violated certain provisions of the federal securities laws. Plaintiff further claims the individual defendants are liable as “control persons” for the claimed wrongs attributed to the Company and Ameritrade. In his request for relief, plaintiff requests monetary damages and/or rescissionary relief in the amount of $4.5 billion against all defendants, jointly and severally. The Company, and the individual defendants, believe they have meritorious legal defenses and intend to defend the action vigorously. This matter is in its preliminary stages, no discovery has been exchanged and no trial dates have been set.

In January 2004, thirty-five securities firms, including the Company and its subsidiary, Knight Financial Products LLC (collectively the “market maker defendants”), as well as four options exchanges, were named in a complaint filed in the United States District Court for the Northern District of Illinois entitled Last Atlantis Capital LLC et al. v. Chicago Board Options Exchange, Inc. et al. The plaintiffs in the action allegedly submitted orders to buy and sell options on the four named options exchanges, and the market maker defendants were prospective and/or actual counterparties to those orders. The plaintiffs allege that during the period of September 11, 2000 through the present day the market maker defendants, among other things, failed to provide a competitive and orderly market for the purchase and sale of the options and issued false and misleading price quotations that deceived the plaintiffs. The plaintiffs allege that this conduct violated certain sections of the Sherman and Clayton Acts, the federal securities laws and Illinois state law, and also should result in common law liability. The plaintiffs have requested unspecified monetary damages and injunctive relief. The Company is defending this matter vigorously and believes it has meritorious defenses. This matter is in its preliminary stages, no discovery has been exchanged and no trial date has been set.

Regulatory

The Company owns subsidiaries which are regulated broker-dealers and which are subject to extensive oversight under federal, state and applicable international laws. Changes in market structure and the need to remain competitive require constant changes to our systems and order handling procedures. The Company makes these changes while continuously endeavoring to comply with many complex laws and rules. Compliance, surveillance or trading issues, common in the securities industry, and which are monitored by or reported to the SEC or SROs, are reviewed in the ordinary course of business by our primary regulators: the SEC, NASD and the CBOE. The Company, as a major order flow execution destination, is named from time to time, or is asked to respond to a number of regulatory matters brought by the SEC or SROs that arise from its trading activity. In some instances, these matters may rise to an SEC or SRO disciplinary action and/or civil or administrative action.

Subsequent to the filing of the KEM Arbitration against the Company, the SEC initiated an examination of the purported improper trading practice through its Office of Compliance Inspections and Examinations. The SEC’s Division of Enforcement obtained a formal order of investigation that was discovered and disclosed by the Company in the third quarter of 2002. In addition, subsequent to the filing of the KEM Arbitration, the NASD’s Department of Market Regulation began an inquiry.

In March 2004, KSLP and its former CEO, Kenneth D. Pasternak, received Wells Notices from the staff of the SEC’s Division of Enforcement and from NASD’s Department of Market Regulation.

The Wells Notices from the SEC’s Division of Enforcement indicate that the Division is considering recommending that the SEC bring civil and administrative enforcement actions against KSLP and Mr. Pasternak for possible violations of securities laws. These Wells Notices pertain to investigations into specific trade activity, conduct, supervision and record-keeping that occurred in 1999 through 2001. The Wells Notices from NASD’s Department of Market Regulation indicate that NASD intends to bring formal disciplinary proceedings against both parties relating to similar trade activity and conduct that occurred in 1999 and 2000. We understand that three former KSLP employees have also received Wells Notices.

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A Wells Notice from the SEC affords recipients an opportunity to present information and defenses in response to the SEC’s Division of Enforcement staff prior to the staff making its formal recommendation to the SEC on whether any disciplinary action should be authorized. Similar to the SEC’s procedures, NASD allows the recipients of its Wells Notices to present information and defenses in response to NASD’s Department of Market Regulation staff prior to the staff making its formal recommendation to NASD’s Office of Disciplinary Affairs on whether any disciplinary action should be authorized.

Since receiving the Wells Notices, the Company has not yet presented its response or met with the SEC or NASD to discuss the proposed charges. As a result, it is premature to fully assess the potential impact of these Wells Notices to the Company, the outcome of the investigations or the timing of their resolution. There can be no assurance that these matters will not have a material adverse effect on the Company’s results of operations in any future period and a substantial judgment or other resolution could have a material adverse impact on the Company’s financial condition and results of operations. However, it is the opinion of management, based on information currently available, that it is not probable that the ultimate outcome of these matters will have a material adverse effect on the consolidated financial condition of the Company, although they might be material to the operating results for any particular period, depending, in part, upon the operating results for that period.

Other Matters

In addition to the matters described above, in the normal course of business, the Company has been named, from time to time, as a defendant or respondent in various client, employee or business related legal actions, including arbitrations, class actions, and other litigation, arising in connection with its business activities as a consolidated group of regulated broker-dealers providing execution and trading services. Certain of these legal actions include claims for substantial compensatory and/or punitive damages or claims for indeterminate amounts of damages. In view of the inherent difficulty of predicting the outcome of such matters, particularly in cases in which claimants seek substantial or indeterminate damages, the Company cannot predict with certainty the eventual loss or range of loss related to such matters. The Company is contesting liability and/or the amount of damages in each pending matter.

Item 4.     Submission of Matters to a Vote of Security Holders

None.

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PART II

Item 5.     Market for Registrant’s Common Equity and Related Stockholder Matters

Our Class A Common Stock is traded on the Nasdaq National Market under the symbol “NITE.” Public trading of our Class A Common Stock commenced on July 8, 1998. Before that, no public market for our Class A Common Stock existed. The following table sets forth, for the past two years, the high and low quarterly sales price per share of the Class A Common Stock in the Nasdaq National Market:

The closing sale price of our Class A Common Stock as reported on the Nasdaq National Market as of March 10, 2004, was $12.19 per share. As of that date there were 526 holders of record of our Class A Common Stock based on information provided by our transfer agent. The number of stockholders does not reflect the actual number of individual or institutional stockholders that hold our stock because certain stock is held in the name of nominees. Based on information made available to us by the transfer agent, there are approximately 62,000 beneficial holders of our Class A Common Stock.

We have never declared or paid a cash dividend on our Class A Common Stock. We currently intend to retain all of our future earnings, if any, to finance the development and expansion of our business and, therefore, do not anticipate paying any cash dividends in the foreseeable future. The payment of cash dividends is within the discretion of our Board of Directors and will depend on many other factors, including, but not limited to, our results of operations, financial condition, capital requirements, restrictions imposed by financing arrangements, general business conditions and legal requirements.

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Item 6.     Selected Financial Data

The following selected consolidated financial data are qualified by the Consolidated Financial Statements of Knight Trading Group, Inc. and the Notes thereto included elsewhere in this document. You should read the following in conjunction with the Consolidated Financial Statements and the discussion under “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” included elsewhere in this document. The Consolidated Statements of Operations Data for 2001, 2002 and 2003 and the Consolidated Statements of Financial Condition Data at December 31, 2002 and 2003 have been derived from our audited Consolidated Financial Statements included elsewhere in this document. The Consolidated Statements of Operations Data for 1999 and 2000 and the Consolidated Statements of Financial Condition Data at December 31, 1999, 2000 and 2001 are derived from Consolidated Financial Statements not included in this document.

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Item 7.     Management’s Discussion and Analysis of Financial Condition and Results of Operations

Executive Overview

Effective in the fourth quarter of 2003, the Company instituted a new segment reporting format to include three reportable business segments: Equity Markets, Derivative Markets, and Asset Management. Prior to this change, the Company reported two business segments: Equity Markets, which included equity and derivatives business activities, and Asset Management. This segment reporting change was made to better reflect management’s approach to operating and directing the businesses and to more closely align financial and managerial reporting. Prior period segment data has been restated to conform to the 2003 presentation.

The following table sets forth the revenues, expenses excluding international charges and writedown of assets and lease loss accrual (“Operating Expenses”) and income (loss) before international charges, writedown of assets and lease loss accrual, income taxes, minority interest and discontinued operations (“Pre-Tax Operating Earnings”) of our segments and on a consolidated basis (in millions):

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Our diluted earnings per share were $0.33 for 2003, up from a loss of $0.36 per share in 2002. Total revenues in 2003 increased 28% from 2002, while Operating Expenses increased 3%. Our Pre-Tax Operating Earnings increased to $113.8 million in 2003, up from a loss of $15.7 million in 2002.

The improvement in our 2003 financial results were primarily a result of the strong turnaround in our Equity Markets business, driven by the improvement in market conditions, the growth of our institutional business and cost cutting in the U.S., and the closure of our unprofitable international market-making businesses in Europe and Japan. Pre-tax Operating Earnings from our Asset Management business increased by over 100% in 2003 due to greater fund returns, the growth in our assets under management and the increase in our investment in the Deephaven Funds. Derivative Markets results also improved due to higher contract volumes and cost cutting.

A reconciliation of Pre-Tax Operating Earnings to GAAP income before income taxes, minority interest and discontinued operations (“Pre-Tax GAAP Income”) is included elsewhere in this section.

Market and Economic Conditions in 2003

During the first few months of 2003, investors continued to be concerned with weak corporate earnings and increased uncertainty about the strength and pace of the domestic economic recovery coupled with increased geopolitical unrest. However, U.S. market and economic conditions improved significantly as the year progressed. As a result, U.S. financial markets rebounded and experienced increased volumes as investors began to re-enter the financial markets. During 2003, the Nasdaq Composite Index was up 50% from December 31, 2002. Similarly, the DJIA and the S&P 500 were up 25% and 26%, respectively, from December 31, 2002.

Certain Factors Affecting Results of Operations

We have experienced, and expect to continue to experience, significant fluctuations in operating results due to a variety of factors, including, but not limited to, introductions or enhancements to market-making services by us or our competitors; the value of our securities positions and our ability to manage the risks attendant thereto; the volume of our market-making activities; the dollar value of securities traded; volatility in the securities markets; our market share with institutional clients; the performance of our international operations; our ability to manage personnel, overhead and other expenses, including our occupancy expenses under our office leases and legal fees related to our legal proceedings; the strength of our client relationships; the amount of, and volatility in, the results of our quantitative market-making and program trading portfolios; changes in payments for order flow and clearing costs; the addition or loss of executive management and sales, trading and technology professionals; legislative, legal and regulatory changes; legal and regulatory matters; geopolitical risk; the amount and timing of capital expenditures and divestitures; the incurrence of costs associated with acquisitions and dispositions; investor sentiment; the level of assets under management; technological changes and events; seasonality; competition and market and economic conditions. Such factors may also have an impact on our ability to achieve our strategic objectives, including, without limitation, increases in our market share and revenue capture in our Equity and Derivative Markets segments and increases in our fund returns and assets under management in our Asset Management segment. If demand for our services declines in any of our business segments due to any of the above factors, and we are unable to adjust our cost structure on a timely basis, our operating results and strategic objectives could be materially and adversely affected.

As a result of the foregoing factors, period-to-period comparisons of our revenues and operating results are not necessarily meaningful and such comparisons cannot be relied upon as indicators of future performance. There also can be no assurance that we will be able to maintain the current rate of revenue growth or return to the rates of revenue growth that we have experienced in the past or that we will be able to improve our operating results.

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Trends

We believe that our business is currently impacted by the following trends that may affect our financial condition and results of operations.

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Income Statement Items

The following section briefly describes the key components of, and drivers to, our significant revenues and expenses.

Revenues

Our revenues consist principally of net trading revenue from U.S. securities trading and market-making activities from both Equity and Derivative Markets. Net trading revenue, which consists of trading gains net of trading losses and commission equivalents, is primarily affected by changes in the amount and mix of U.S. equity trade and share volumes and U.S. option contract volumes, our revenue capture, dollar value of equities traded, our ability to derive trading gains by taking proprietary positions, changes in our execution standards, volatility in the marketplace, our mix of broker-dealer and institutional clients and by regulatory changes and evolving industry customs and practices.

Securities transactions with clients are executed as principal, riskless principal or agent. Profits and losses on principal transactions and commission equivalents on riskless principal transactions are included within net trading revenue, and commissions earned on agency transactions are included within commissions and fees. We execute the majority of our institutional client orders on a riskless principal or agency basis, generating commission equivalents or commissions, respectively. We execute the majority of our broker-dealer client orders as principal. We also receive fees for providing certain information to market data providers and for directing trades to certain destinations for execution. Commissions and fees are primarily affected by changes in our trade and share volumes in listed securities, changes in commission rates as well as by changes in fees earned for directing trades to certain destinations for execution.

Asset management fees represent fees earned by Deephaven Capital Management LLC (“Deephaven”) for sponsoring and managing the Deephaven investment funds (the “Deephaven Funds”). Asset management fees are primarily affected by the rates of return earned on the Deephaven Funds and changes in the amount of assets under management.

We earn interest income from our cash held at banks and cash held in trading accounts at clearing brokers. The Company’s clearing agreements call for payment or receipt of interest income, net of transaction-related interest charged by clearing brokers for facilitating the settlement and financing of securities transactions. Net interest is primarily affected by interest rates, the changes in cash balances held at banks and clearing brokers and our level of securities positions in which we are long compared to our securities positions in which we are short.

Investment income and other income primarily represents income earned, net of losses, related to our investment in the Deephaven Funds and, to a lesser extent, our strategic investments. Investment income and other income are primarily affected by the rates of return earned by the Deephaven Funds as well as the performance and activity of our strategic investments.

Expenses

Our operating expenses largely consist of employee compensation and benefits, payments for order flow and execution and clearance fees. Employee compensation and benefits expense fluctuates, for the most part, based on changes in net trading revenue, asset management fees, our profitability and our number of employees. Payments for order flow fluctuate based on U.S. equity share and option volume, our profitability, the mix of market orders and limit orders, the mix of orders received from broker-dealers and institutions who accept payments for order flow and changes in our payment for order flow policy. Execution and clearance fees primarily fluctuate based on changes in equity trade and share volume, option contract volume, clearance fees charged by clearing brokers and fees paid to access ECNs, exchanges and certain regulatory bodies.

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Employee compensation and benefits expense primarily consists of salaries and wages paid to all employees and profitability based compensation, which includes compensation paid to market-making and sales personnel primarily based on their individual and overall performance and incentive compensation paid to other employees based on our overall profitability. Compensation for employees engaged in sales activities is determined primarily based on a percentage of their gross revenues net of expenses including payments for order flow, execution and clearance costs and overhead allocations (“net profitability”). Through October 2002, compensation for our Equity Markets market-making personnel was determined primarily based on a percentage of net profitability. Effective November 2002, the compensation model for our Equity Markets market-making personnel changed to a salary and discretionary bonus. The compensation model for our Derivative Markets market-making personnel was based on a salary and discretionary bonus from 2001 to 2003. The majority of compensation in Asset Management is determined based on a profitability-based formula.

Execution and clearance fees primarily represent clearance fees paid to clearing brokers for equities and options transactions, transaction fees paid to Nasdaq and other regional exchanges and regulatory bodies, option exchange fees, payments made to third parties for exchange seat leases and execution fees paid to third parties, primarily for executing trades in listed securities on the NYSE and AMEX, and for executing orders through ECNs.

Payments for order flow represent payments to certain clients, in the normal course of business, for directing their order flow in U.S. equities and U.S. option contracts to us and payments to institutions in connection with our commission recapture programs. Payments for order flow fluctuate as we modify our payment rates and as our percentage of clients whose policy is not to accept payments for order flow varies. Due to lower revenue capture and lower overall profitability, we reduced our payment for order flow rates several times over the past three years.

International charges consists of charges from continuing operations related to the reduction of European businesses as well as charges related to the writedown of certain international strategic investments to fair value.

The writedown of assets and lease loss accrual related to our domestic businesses consists of costs associated with impairment charges on intangible assets, excess real estate, fixed assets that are no longer actively used, the writedown of certain domestic strategic investments and exchange seats to fair value.

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Results of Operations

The following table sets forth the consolidated statement of operations data as a percentage of total revenues:

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Years Ended December 31, 2003 and 2002

Revenues

Net trading revenue from Equity Markets increased 25.8% to $384.7 million in 2003, from $305.8 million in 2002. Equity Markets’ trading revenues are almost entirely comprised of revenues from U.S. equity trading and market-making. This increase in equity trading revenue was primarily due to a 33.9% increase in total U.S. equity dollar value traded in 2003 as compared to 2002, offset, in part, by a 4.5% decrease in average revenue capture per U.S. equity dollar value traded. The total U.S. equity dollar value traded amount represents the aggregate dollar amount of principal and riskless principal transactions executed during the period.

Net trading revenue from Derivative Markets increased 5.5% to $126.7 million in 2003, from $120.1 million in 2002. The increase was primarily due to a 27.0% increase in the number of option contracts traded in 2003 as compared to 2002, offset, in part, by a 17.4% decrease in average revenue capture per contract.