Attached files
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended February 28, 2013
Commission file number 0-21210
JACOBS FINANCIAL GROUP, INC.
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(Exact name of registrant as specified in its charter)
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DELAWARE 84-0922335
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(State or other jurisdiction of (IRS Employer Identification No.)
incorporation)
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300 SUMMERS STREET, SUITE 970, CHARLESTON, WV 25301
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (304) 343-8171
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Indicated by a 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 proceeding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes[X] No[ ]
Indicate by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company.
Large accelerated filer [ ] Accelerated filer [ ]
Non-accelerated filer [ ] Smaller reporting company [X]
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act).
Yes[ ] No[X]
Indicate the number of shares outstanding of each of the registrant's classes of
common stock, as of the latest practicable date: 321,921,908 shares of common
stock as of April 22, 2013.
PART I -- FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
----------------------------
The following financial statements are included herein in response to Item 1:
Financial Statements (Unaudited) Page
-------------
Consolidated Condensed Balance Sheets F-1
Consolidated Condensed Statements of Operations F-2
Consolidated Condensed Statements of Comprehensive Income (Loss) F-3
Consolidated Condensed Statements of Cash Flows F-4
Consolidated Condensed Statements of Mandatorily Redeemable F-5 and
Preferred Stock and Stockholders Equity (Deficit) F-6
Notes to Consolidated Condensed Financial Statements F-7
-2-
JACOBS FINANCIAL GROUP, INC.
CONSOLIDATED CONDENSED BALANCE SHEETS (UNAUDITED)
FEBRUARY 28, 2013 MAY 31, 2012
--------------- --------------
ASSETS
INVESTMENTS AND CASH:
Bonds and mortgaged-back securities available for sale, at market value $ 6,435,343 $ 6,098,648
(amortized cost - 2/28/13 $6,292,393; 05/31/12 $5,915,428)
Equity investments available for sale, at market value, net 508,788 484,274
(amortized cost - 2/28/13 $523,403; 05/31/12 $519,120)
Short-term investments, at cost (approximates market value) 655,970 991,875
Cash 148,327 259,079
--------------- --------------
TOTAL INVESTMENTS AND CASH 7,748,428 7,833,876
Investment income due and accrued 25,734 42,981
Premiums and other accounts receivable 173,413 289,463
Prepaid reinsurance premium 160,353 243,877
Funds deposited with Reinsurers 79,389 42,458
Deferred policy acquisition costs 180,508 167,010
Furniture, automobile, and equipment, net of accumulated
depreciation of $110,630 and $102,606 respectively 14,391 22,404
Other assets 102,580 96,370
Intangible assets 150,000 150,000
--------------- --------------
TOTAL ASSETS $ 8,634,796 $ 8,888,439
=============== ==============
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Reserve for losses and loss expenses $ 1,165,747 $ 1,026,489
Reserve for unearned premiums 532,125 771,089
Advanced premium 208,298 139,402
Accrued expenses and professional fees payable 674,187 473,540
Accounts payable 220,014 172,627
Related party payable 122,384 109,309
Term and demand notes payable to related party 348,163 377,954
Notes payable 4,739,151 4,836,000
Accrued interest payable 2,149,665 1,716,884
Accrued interest payable to related party 260,453 209,069
Other liabilities 391,495 290,706
Mandatorily redeemable Series A Preferred Stock, $.0001 par value
per share; 1 million shares authorized; 1,126 shares issued and
outstanding at February 28, 2013 and May 31, 2012, respectively;
stated liquidation value of $1,000 per share 1,468,237 1,424,863
Mandatorily redeemable Series B Preferred Stock, $.0001 par value
per share; 3,136 shares authorized; 2,817 shares issued and outstanding
at February 28, 2013 and May 31, 2012; stated liquidation value of
$1,000 per share 4,893,877 4,610,224
--------------- --------------
TOTAL LIABILITIES 17,173,796 16,158,156
Series A Preferred Stock, $.0001 par value per share; 1 million
shares authorized; 1,549 shares issued and outstanding at February 28, 2013
and May 31, 2012, respectively; stated liquidation value of $1,000 per share 1,897,613 1,841,555
--------------- --------------
TOTAL MANDATORILY REDEEMABLE CONVERTIBLE PREFERRED STOCK 1,897,613 1,841,555
COMMITMENTS AND CONTINGENCIES (SEE NOTES)
STOCKHOLDERS' EQUITY (DEFICIT)
Series C Preferred Stock, $.0001 par value per share; 10,000 shares
authorized; 6,805 shares issued and outstanding at February 28, 2013
and May 31, 2012, respectively; includes $4,982,007 and $4,299,181
accrued Series C dividends, respectively 11,012,938 10,330,112
Common stock, $.0001 par value per share; 490 million shares
authorized; 310,847,903 and 270,352,831 shares issued and outstanding
at February 28, 2013 and May 31, 2012, respectively 31,085 27,035
Additional paid in capital 3,961,738 3,664,923
Accumulated deficit (25,570,709) (23,281,717)
Accumulated other comprehensive income 128,335 148,375
--------------- --------------
TOTAL STOCKHOLDERS' EQUITY (DEFICIT) (10,436,613) (9,111,272)
--------------- --------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT) $ 8,634,796 $ 8,888,439
=============== ==============
See accompanying notes.
F-1
JACOBS FINANCIAL GROUP, INC,
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS (UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED
FEBRUARY 28 AND 29, FEBRUARY 28 AND 29,
------------------------------ ---------------------------------
2013 2012 2013 2012
--------------- -------------- ------------------ --------------
REVENUES:
Investment advisory services $ 43,363 $ 46,963 $ 140,694 $ 178,034
Insurance premiums and commissions 197,877 225,084 674,496 922,831
Net investment income 50,801 72,369 170,516 207,468
Net realized investment gains (losses) 15,144 (2,363) 41,024 12,355
Other income 368 5,383 5,746 7,623
--------------- -------------- ------------------ --------------
TOTAL REVENUES 307,553 347,436 1,032,476 1,328,311
OPERATING EXPENSES:
Incurred policy losses 42,853 50,386 139,258 153,982
Insurance policy acquisition costs 65,868 71,876 203,325 225,184
General and administrative 317,531 314,451 1,074,109 990,498
Depreciation 2,671 2,679 8,014 8,065
--------------- -------------- ------------------ --------------
TOTAL OPERATING EXPENSES 428,923 439,392 1,424,706 1,377,729
--------------- -------------- ------------------ --------------
NET INCOME (LOSS) FROM OPERATIONS (121,370) (91,956) (392,230) (49,418)
Accrued dividends of Series A Mandatorily Redeemable
Preferred Stock (14,655) - (43,374) -
Accrued dividends and accretion of Series B Mandatorily
Redeemable Preferred Stock (96,781) (89,392) (283,652) (262,318)
Interest expense (231,393) (220,634) (830,852) (676,745)
--------------- -------------- ------------------ --------------
NET INCOME (LOSS) (464,199) (401,982) (1,550,108) (988,481)
Accretion of Mandatorily Redeemable Convertible
Preferred Stock, including accrued dividends (18,941) (32,282) (56,058) (95,542)
Accrued dividends on Series C Preferred Stock equity (232,979) (215,190) (682,826) (630,690)
--------------- -------------- ------------------ --------------
NET INCOME (LOSS) ATTRIBUTABLE TO COMMON STOCKHOLDERS $ (716,119) $ ( 649,454) $ (2,288,992) $ (1,714,713)
=============== ============== ================== ==============
BASIC AND DILUTIVE NET INCOME (LOSS) PER SHARE:
NET INCOME (LOSS) PER SHARE $ - $ - $ (0.01) $ (0.01)
=============== ============== ================== ==============
WEIGHTED-AVERAGE SHARES OUTSTANDING 309,815,347 257,684,080 289,575,312 251,312,413
=============== ============== ================== ==============
See accompanying notes.
F-2
JACOBS FINANCIAL GROUP, INC,
CONSOLIDATED CONDENSED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED
FEBRUARY 28 AND 29, FEBRUARY 28 AND 29,
--------------------------- -----------------------------
2013 2012 2013 2012
------------- ------------- -------------- --------------
COMPREHENSIVE INCOME (LOSS):
Net loss attributable to common stockholders $ (716,119) $ (649,454) $ (2,288,992) $ (1,714,713)
OTHER COMPREHENSIVE INCOME (LOSS):
Net unrealized gain (loss) of available-for-sale
investments arising during period (69,801) 106,720 (5,983) 147,252
Reclassification adjustment for realized (gain) loss
included in net loss 1,118 (513) (14,057) (7,255)
------------- ------------- -------------- --------------
Net unrealized gain (loss) attributable to
available-for-sale investments recognized in other
comprehensive income (loss) (68,683) 106,207 (20,040) 139,997
------------- ------------- -------------- --------------
COMPREHENSIVE LOSS ATTRIBUTABLE TO COMMON STOCKHOLDERS $ (784,802) $ (543,247) $ (2,309,032) $ (1,574,716)
============= ============= ============== ==============
See accompanying notes.
F-3
JACOBS FINANCIAL GROUP, INC.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS (UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED
FEBRUARY 28 AND 29, FEBRUARY 28 AND 29,
------------------------------ ----------------------------
2013 2012 2013 2012
------------------------------ ----------------------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net Loss $ (464,199) $ (401,982) $(1,550,108) $ (988,481)
Adjustments to reconcile net loss
to net cash provided by (used in) operating activities:
Unearned premium 13,528 106,105 (86,543) 18,743
Stock option expense - - - 370
Stock issued (or to be issued) in connection with
financing arrangements 27,306 10,479 207,906 55,616
Stock issued (or to be issued) in connection with
dividend arrangements 11,063 10,920 33,068 32,157
Stock issued (or to be issued) in connection with
services rendered - 4,470 59,890 4,470
Accrual of Series A preferred stock dividends 14,656 - 43,374 -
Accrual of Series B preferred stock dividends and accretion 96,782 89,392 283,653 262,318
Provision for loss reserves 42,853 50,386 139,258 153,982
Amortization of premium 26,824 19,604 64,615 61,300
Depreciation 2,671 2,678 8,013 8,064
Accretion of discount (6,264) - (17,400) -
Realized (gain) loss on sale of securities (15,144) 2,363 (41,024) (12,356)
Change in operating assets and liabilities:
Other assets (11,985) (74,807) (6,211) (68,888)
Premiums and other receivables 64,871 40,764 116,050 17,451
Investment income due and accrued 20,761 10,084 20,212 2,694
Deferred policy acquisition costs (25,387) (24,978) (13,498) 34,983
Related party accounts payable 10,525 1,025 13,075 13,575
Accounts payable and cash overdraft (16,779) 39,319 47,387 35,640
Accrued expenses and other liabilities 143,331 221,354 748,671 557,888
---------------- ------------- --------------- ------------
NET CASH FLOWS FROM (USED IN) OPERATING ACTIVITIES (64,587) 107,176 70,388 189,526
CASH FLOWS FROM INVESTING ACTIVITIES
Decrease (increase) in short-term investments (393,637) 270,757 335,905 760,682
Costs of bonds acquired (551,756) (371,556) (1,137,860) (1,325,124)
Costs of mortgaged-backed securities acquired - (288,829) (599,797) (634,182)
Purchase of equity securities (119,267) (81,817) (276,367) (220,815)
Proceeds from sale of securities available for sale 781,883 64,297 995,224 200,100
Repayment of mortgage-backed securities 257,203 199,335 631,360 677,233
(Purchase)/Collection - accrued interest (2,760) 4,273 (2,965) 1,008
---------------- ------------- --------------- ------------
NET CASH FLOWS USED IN INVESTING ACTIVITIES (28,334) (203,540) (54,500) (541,098)
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from related party debt 351,145 314,479 1,015,819 787,180
Repayment of related party debt (223,820) (355,091) (1,045,610) (790,589)
Proceeds from borrowings 12,000 382,500 320,000 794,000
Repayment of borrowings (118,849) (173,500) (416,849) (606,500)
---------------- ------------- --------------- ------------
NET CASH FLOWS FROM (USED IN) FINANCING ACTIVITIES 20,476 168,388 (126,640) 184,091
NET INCREASE (DECREASE) IN CASH (72,445) 72,024 (110,752) (167,481)
CASH AT BEGINNING OF PERIOD 220,772 51,064 259,079 290,569
---------------- ------------- --------------- ------------
CASH AT END OF PERIOD $ 148,327 $ 123,088 $ 148,327 $ 123,088
================ ============= =============== ============
SUPPLEMENTAL DISCLOSURES
Interest paid $ 24,479 $ 20,562 $ 98,095 $ 90,650
Income taxes paid - - - -
Non-cash investing and financing transaction:
Additional shares of stock paid for issuance of debt 27,306 10,479 207,906 55,788
See accompanying notes.
F-4
JACOBS FINANCIAL GROUP, INC.
CONSOLIDATED CONDENSED STATEMENT OF MANDATORILY REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY (DEFICIT) (UNAUDITED)
FOR THE THREE MONTH PERIOD ENDED FEBRUARY 28, 2013
----------------- ----------------------------------------------------------------------------------------
STOCKHOLDERS' EQUITY (DEFICIT)
----------------------------------------------------------------------------------------
SERIES A COMMON STOCK SERIES C PREFERRED ACCUMULATED
MANDATORILY REDEEMABLE ------------------------------ -------------------- OTHER
ADDITIONAL COMPREHENSIVE
PREFERRED STOCK PAID-IN AMOUNT ACCUMULATED INCOME
SHARES AMOUNT SHARES AMOUNT CAPITAL SHARES AND APIC DEFICIT (LOSS) TOTAL
------ ---------- ----------- ------- ---------- --------- ----------- ------------- -------- ------------
BALANCE,
NOVEMBER 30, 2012 1,549 $1,878,672 308,154,805 $30,816 $3,923,638 6,805 $10,779,959 $(24,854,590) $197,018 $(9,923,159)
Issuance of common
stock as additional
consideration for
financing arrangements - - 2,693,098 269 12,268 - - - - 12,537
Accrued dividends of
Series A mandatorily
redeemable convertible
preferred stock - 18,941 - - - - - (18,941) - (18,941)
Accrued dividends of
Series C equity
preferred stock - - - - - - 232,979 (232,979) - -
Accrual of common
shares to be issued
in connection with
financing arrangements - - - - 25,832 - - - - 25,832
Unrealized net loss
on available for sale
securities - - - - - - - - (68,683) (68,683)
Net loss,
three month period
ended February 28, 2013 - - - - - - - (464,199) - (464,199)
------ ---------- ----------- ------- ---------- --------- ----------- ------------- -------- ------------
BALANCE,
FEBRUARY 28, 2013 1,549 $1,897,613 310,847,903 $31,085 $3,961,738 6,805 $11,012,938 $(25,570,709) $128,335 $(10,436,613)
====== ========== =========== ======= ========== ======== =========== ============= ======== =============
----------------- ----------------------------------------------------------------------------------------
See accompanying notes.
F-5
JACOBS FINANCIAL GROUP, INC.
CONSOLIDATED STATEMENT OF MANDATORILY REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY (DEFICIT) (UNAUDITED)
FOR THE NINE MONTH PERIOD ENDED FEBRUARY 28, 2013
----------------- ----------------------------------------------------------------------------------------
STOCKHOLDERS' EQUITY (DEFICIT)
----------------------------------------------------------------------------------------
SERIES A COMMON STOCK SERIES C PREFERRED ACCUMULATED
MANDATORILY REDEEMABLE ------------------------------ -------------------- OTHER
ADDITIONAL COMPREHENSIVE
PREFERRED STOCK PAID-IN AMOUNT ACCUMULATED INCOME
SHARES AMOUNT SHARES AMOUNT CAPITAL SHARES AND APIC DEFICIT (LOSS) TOTAL
------ ---------- ----------- ------- ---------- --------- ----------- ------------- -------- ------------
BALANCE, MAY 31, 2012 1,549 $1,841,555 270,352,831 $27,035 $3,664,923 6,805 $10,330,112 $(23,281,717) $148,375 $(9,111,272)
Issuance of common
stock as compensation
for services - - 22,600,000 2,260 57,630 - - - - 59,890
Issuance of common
stock as additional
consideration for
financing arrangements - - 17,895,072 1,790 203,930 - - - - 205,720
Accrued dividends of
Series A mandatorily
redeemable convertible
preferred stock - 56,058 - - - - - (56,058) - (56,058)
Accrued dividends of
Series C equity
preferred stock - - - - - - 682,826 (682,826) - -
Accrual of common
shares to be issued
in connection with
financing arrangements - - - - 35,255 - - - - 35,255
Unrealized net loss
on available for sale
securities - - - - - - - - (20,040) (20,040)
Net loss,
nine month period
ended February 28, 2013 - - - - - - - (1,550,108) - (1,550,108)
------ ---------- ----------- ------- ---------- -------- ----------- ------------- -------- ------------
BALANCE,
FEBRUART 28, 2013 1,549 $1,897,613 310,847,903 $31,085 $3,961,738 6,805 $11,012,938 $(25,570,709) $128,335 $(10,436,613)
====== ========== =========== ======= ========== ======== =========== ============= ======== ============
----------------- ----------------------------------------------------------------------------------------
See accompanying notes.
F-6
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
NOTE A - BASIS OF PRESENTATION
------------------------------
The accompanying unaudited financial statements are of Jacobs Financial Group,
Inc. (the "Company" or "JFG"). These financial statements were prepared in
accordance with accounting principles generally accepted in the United States of
America (US GAAP) for interim financial information and Article 8-03 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by accounting principles generally accepted in the United
States of America for complete financial statements. In the opinion of
management, all adjustments considered necessary for a fair presentation of the
results of operations and financial condition for the periods presented have
been included. Such adjustments are of a normal recurring nature. The results of
operations for the three and nine month periods ended February 28, 2013, are not
necessarily indicative of the results of operations that can be expected for the
fiscal year ending May 31, 2013. For further information, refer to the Company's
audited financial statements and footnotes thereto included in Item 8. of Form
10-K filed on September 13, 2012.
RECLASSIFICATIONS
Certain amounts have been reclassified in the presentation of the Consolidated
Condensed Financial Statements for the three and nine month periods ended
February 29, 2012 to be consistent with the presentation in the Consolidated
Condensed Financial Statements for the three and nine month periods ended
February 28, 2013. This reclassification had no impact on previously reported
net income, cash flow from operations or changes in stockholders equity.
LIQUIDITY AND GOING CONCERN
These financial statements are presented on the basis that the Company is a
going concern. Going concern contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business over a reasonable
length of time. The Company experienced income (loss) from operations of
approximately $16,000 and ($22,000) for the years ended May 31, 2012 and 2011.
The Company's income (or loss) decreases (or increases) when accretion of
mandatorily redeemable convertible preferred stock and accrued dividends on
mandatorily redeemable preferred stock are taken into account to approximately
($1,220,000) and ($1,440,000) for the years ended May 31, 2012 and 2011.
For the three month period ended February 28, 2013, the Company had a loss from
operations of approximately $121,000, or a loss of approximately $483,000 after
interest expense and accrued dividends on mandatorily redeemable preferred stock
are taken into account. For the nine month period ended February 28, 2013, the
Company had a loss from operations of approximately $392,000, or a loss of
approximately $1,606,000 after interest expense and accrued dividends on
mandatorily redeemable preferred stock are taken into account. Losses are
expected to continue until the Company's insurance company subsidiary, First
Surety Corporation ("FSC") develops a more substantial book of business. While
improvement is anticipated as the business plan is implemented, restrictions on
the use of FSC's assets, the Company's significant deficiency in working capital
and stockholders' equity raise substantial doubt about the Company's ability to
continue as a going concern.
Effective April 1, 2009, FSC entered into a reinsurance agreement with Lloyd's
of London for its coal reclamation surety bonding programs. This agreement has
provided additional bonding capacity to FSC and has enabled FSC to write more
bonds and of greater size for its coal reclamation bonding clients. Management
F-7
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
expects this reinsurance arrangement to continue FSC's expansion of market share
and to result in increased cash flow for each of the Company's operating
subsidiaries.
Expansion of FSC's business to other states is a key component of fully
implementing the Company's business plan. Regulatory approval and licensing is
required by each state in which FSC seeks to conduct business. In fiscal 2009,
the Company was able to increase the capital of FSC and reactivate FSC's
insurance license in Ohio and obtain authority to issue surety bonds in that
state. However, management has found that entry into other states (as a surety)
has been difficult without the benefit of more substantial capital and reserves
and based upon the financial condition of the parent company, notwithstanding
the reinsurance agreement entered into by FSC with Lloyd's of London and the
resulting increase in bonding capacity. Management believes that if FSC's
capital and surplus reserves were significantly more substantial and the
financial condition of the Company was stabilized, entry into other states would
be less challenging. Accordingly, management continues to pursue avenues that
can provide additional capital to increase the capacity of its insurance
subsidiary and to fund continuing operations as the business is being fully
developed.
Beginning in fiscal 2008 and completed during the first quarter of fiscal 2009,
the Company obtained two rounds of bridge financing totaling an aggregate of
$3,500,000. The purpose of the financing was to pay expenses of operations and
to pay fees and expenses incurred or expected to be incurred in connection with
a larger permanent financing and, in addition, to increase the capital surplus
of FSC to make possible the reactivation of FSC's surety license in the state of
Ohio. The terms of the bridge-financing arrangement provide for payment in full
upon consummation by the Company of a qualified equity offering providing net
proceeds of at least $15 million on or before September 10, 2013; and because
such a qualified equity offering was not consummated by September 10, 2008,
accrued interest-to-date was payable, and quarterly installments of principal
and interest became payable over five years commencing in December 2008. The
interest rates on such notes were fixed at 10%. Payments due December 2008 and
March 2009 were not made by the Company as scheduled, but a forbearance
agreement was subsequently entered into with the bridge lenders on June 5, 2009,
modifying payment terms to cure the default (including increasing the interest
rate on the loans to 17%), issuing additional common stock to the loan holders,
and pledging the stock of the Company's subsidiary, CMW, as security for
repayment of the loans. The modification required the Company to pay interest of
$224,515 on June 10, 2009 and increase the quarterly payments by $67,185 (to a
total of $291,700) for eight consecutive quarters beginning September 10, 2009
to satisfy the arrearage. Although the Company has failed to make the payment
that was due September 10, 2009 and the payments that were due in the ensuing
quarters, management has remained in close contact with the bridge lenders,
providing reports regarding its efforts to refinance or otherwise repay the
bridge loans. To date, none of the bridge lenders has elected to pursue legal
remedies.
Certain equity inducements in the form of common stock of the Company were
provided under the terms of the bridge loan documents. Upon issuance of the
bridge notes, an aggregate of 7% of the outstanding common stock of the Company
was issued to the bridge lenders. Upon retirement of the notes upon consummation
of a qualified equity offering, the Company will issue to the bridge lenders a
percentage of the outstanding common stock of the Company which, when added to
the stock initially issued, may equal as much as 28% of the common stock of the
Company that would otherwise have been retained by the holders of the Company's
common shares immediately prior to the financing. Finally, because a qualified
financing was not completed by September 10, 2008, the Company was required to
issue to the bridge lenders under the terms of the loan documents a total of
F-8
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
2.8% of the Company's outstanding common shares at such date. An additional 2.8%
of the Company's outstanding common shares are required to be issued upon each
six-month anniversary date thereof until retirement of the notes. (See Note D).
In anticipation of a proposed financing and as a condition thereof, the Company
and each of the bridge lenders entered into a Loan Modification Agreement dated
February 25, 2012 which provided for modification of the Promissory Notes,
including an extension of the term of the Promissory Notes, and Subscription
Agreements in exchange for a partial cash payment to each bridge lender. To
date, the proposed financing has not closed, and the Company has been unable to
remit the partial payment. On August 10, 2012, the Company entered into an
agreement with the bridge lenders, pursuant to which the bridge lenders formally
agreed to forbear from exercising their rights and remedies arising from the
accumulated acknowledged events of default with respect to the bridge loans
until such date. As consideration for this forbearance, the Company entered into
an Amended and Restated General Hypothecation and Pledge Agreement dated August
9, 2012 (the "August 2012 Pledge"), but effective September 23, 2011, granting
to the bridge lenders as security for the repayment of the loans a lien and
security interest in all of the Company's shares of capital stock of First
Surety Corporation. Under the August 2012 Pledge, the bridge lenders acknowledge
that the effectiveness of certain of the rights and remedies provided by such
agreement may be subject to prior approval by the Office of the Commissioner of
Insurance for the State of West Virginia. To date, none of the bridge lenders
has elected to pursue legal remedies under the Promissory Notes or the August
2012 Pledge.
Given current financial market conditions and the uncertainties as to when
stability will return to the financial markets, until permanent financing can be
secured, management will strive to reduce and then eliminate operating losses by
implementing further measures to control and reduce costs while maintaining and
growing the Company's current revenue base. Unless permanent financing can be
secured, future revenue growth can be expected to be achieved at a slower pace
than has been projected by the Company. Until such time that the Company's
operating costs can be serviced by the Company's revenue stream, management will
continue to seek to raise additional funds for operations through private
placements of stock, other long-term or permanent financing, or short-term
borrowings. However, the Company cannot be certain that it will be able to
continue to obtain adequate funding in order to reasonably predict whether it
will be able to continue as a going concern. The accompanying financial
statements do not include any adjustments that might result from the outcome of
this uncertainty.
NOTE B - RECENT ACCOUNTING PRONOUNCEMENTS
-----------------------------------------
In February 2013, the FASB issued Accounting Standards Update (ASU) 2013-02,
"Comprehensive Income: Reporting of Amounts Reclassified Out of Accumulated
Other Comprehensive Income". The objective of this update is to improve the
reporting of reclassifications out of accumulated other comprehensive income.
The amendments in this Update seek to attain that objective by requiring an
entity to report the effect of significant reclassification out of accumulated
other comprehensive income on the respective line items in net income of the
amount being reclassified is required under U.S. GAAP to be reclassified in its
entirety to net income. For other amounts that are not required under U.S. GAAP
to be reclassified in their entirety to net income in the same reporting period,
an entity is required to cross-reference other disclosures required under U.S.
GAAP that provide additional detail about those amounts. This would be the case
when a portion of the amount reclassified out of accumulated other comprehensive
income is reclassified to a balance sheet instead of directly to income or
expense in the same reporting period. This update is effective for annual
F-9
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
reporting periods beginning on or after December 15, 2012. Management does not
expect this update to have a material effect on the Company's financial
statements.
In January 2013, the FASB issued Accounting Standards Update 2013-01, "Balance
Sheet: Clarifying the Scope of Disclosures about Offsetting Assets and
Liabilities". The ASU clarifies that ordinary trade receivables and receivables
are not in the scope of ASU 2011-11. This update is effective for annual
reporting periods beginning on or after January 1, 2013 and interim periods
within that fiscal year. Management does not expect this update to have a
material effect on the Company's financial statements.
In December 2011, the FASB issued Accounting Standards Update 2011-12,
"Comprehensive Income: Deferral of the Effective Date for Amendments to the
Presentation of Reclassifications of Items Out of Accumulated Other
Comprehensive Income in Accounting Standards Update No. 2011-05". The object of
this Update is to defer only those changes in ASU No. 2011-05 that relate to the
presentation of reclassifications adjustments. This update is effective for
annual reporting periods beginning on or after December 15, 2011 and interim
periods within that fiscal year. This update did not have a material effect on
the Company's financial statements.
In December 2011, the FASB issued Accounting Standards Update 2011-11, "Balance
Sheet: Disclosures about Offsetting Assets and Liabilities". The differences in
the requirements for offsetting assets and liabilities in the presentation of
financial statements prepared in accordance with U.S. GAAP and financial
statements prepared in accordance with International Financial Reporting
Standards (IFRS) makes the comparability of those statements difficult. The
objective of this Update is to facilitate comparison between those financial
statements, specifically within the scope instruments and transaction eligible
for offset in the form of derivatives, sale and repurchase agreements and
reverse sale and repurchase agreements, and securities borrowing and securities
lending arrangements. This update is effective for annual reporting periods
beginning on or after January 1, 2013 and interim periods within that fiscal
year. Management does not expect this update to have a material effect on the
Company's financial statements.
In June 2011, the FASB issued Accounting Standards Update 2011-05,
"Comprehensive Income: Presentation of Comprehensive Income". The object of this
Update is to improve the comparability, consistency, and transparency of
financial reporting and to increase the prominence of items reported in other
comprehensive income. This update is effective for annual reporting periods
beginning on or after December 15, 2011 and interim periods within that fiscal
year. This update did not have a material effect on the Company's financial
statements.
In May 2011, the FASB issued Accounting Standards Update 2011-04, "Fair Value
Measurement: Amendments to Achieve Common Fair Value Measurement and Disclosure
Requirements in U.S. GAAP and IFRSs". The amendments in this Update will improve
the comparability of fair value measurements presented and disclosed in
financial statements prepared in accordance with U.S. GAAP and IFRS. This update
is effective for annual reporting periods beginning on or after December 15,
2011 and interim periods within that fiscal year. This update did not have a
material effect on the Company's financial statements.
In October 2010, the FASB issued Accounting Standards Update 2010-26, "Financial
Services - Insurance: Accounting for Costs Associated with Acquiring or Renewing
Insurance Contracts". This FASB is intended to specify costs incurred in the
acquisition of new and renewal contracts that should be capitalized as deferred
F-10
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
acquisition costs and amortized over time using amortization methods dependent
upon the nature of the underlying insurance contract. This update is effective
for annual reporting periods beginning on or after December 15, 2011 and interim
periods within that fiscal year. This update did not have a material effect on
the Company's financial statements.
NOTE C - INVESTMENTS AND FAIR VALUE DISCLOSURES
-----------------------------------------------
The Company classifies its investments as available-for-sale, and as such, they
are carried at fair value. The amortized cost of investments is adjusted for
amortization of premiums and accretion of discounts which are included in net
investment income. Changes in fair value are reported as a component of other
comprehensive income, exclusive of other-than-temporary impairment losses, if
any. For the three and nine month periods ended February 28, 2013, there have
been no other-than-temporary impairments. The Company intends and believes it
has the ability to hold all investments in an unrealized loss position until the
expected recovery in value, which may be at maturity.
The Company uses derivatives in the form of covered call options sold to
generate additional income and provide limited downside protection in the event
of a market correction. These transactions expose the Company to potential
market risk for which the Company receives a premium up front. The market risk
relates to the requirement to deliver the underlying security to the purchaser
of the call within a definite time at an agreed price regardless of the then
current price of the security. As a result, the Company takes the risk that it
may be required to sell the security at the strike price, which could be a price
less than the then market price. Should the security decline in price over the
holding period of the call option, the Company realizes the option premium
received as income and the Company lessens or mitigates this risk which may be
eliminated by a closing transaction for the covered call and sale of the
underlying security.
The Company invests in large capitalized US securities traded on major US
exchanges and writes standardized covered calls only against these positions
(covered calls), which are openly traded on major US exchanges. The use of such
underlying securities and standardized calls lessens the credit risk to the
furthest extent possible. The Company is not exposed to significant cash
requirements through the use of covered calls in that it sells a call for a
premium and may use these proceeds to enter a closing transaction for the call
at a later date.
The following table sets forth the amortized cost and estimated market value of
bonds and equity securities available-for-sale and carried at market value on
February 28, 2013.
Gross Unrealized Gross Unrealized
Amortized Cost Gains Losses Fair Market Value
------------------- -------------------- ------------------- --------------------
State and municipal securities $ 2,547,025 $ 20,772 $ 25,329 $ 2,542,468
Equity securities 539,714 22,966 30,038 532,642
Derivatives (16,311) (8,137) (594) (23,854)
Foreign obligations 201,873 - 6,503 195,370
U.S. government agency 3,543,495 159,619 5,609 3,697,505
mortgage-backed securities
------------------- -------------------- ------------------- --------------------
$ 6,815,796 $ 195,220 $ 66,885 $ 6,944,131
=================== ==================== =================== ====================
F-11
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
The following table sets forth the amortized cost and estimated market value of
bonds and equity securities available-for-sale and carried at market value on
May 31, 2012.
Gross Unrealized Gross Unrealized
Amortized Cost Gains Losses Fair Market Value
------------------- -------------------- ------------------- --------------------
State and municipal securities $ 2,077,399 $ 16,051 $ 6,110 $ 2,087,340
Equity securities 533,669 15,176 52,377 496,468
Derivatives (14,549) (2,344) (4,699) (12,194)
Foreign obligations 205,247 - 9,997 195,250
U.S. government agency 3,632,782 185,140 1,864 3,816,058
------------------- -------------------- ------------------- --------------------
$ 6,434,548 $ 214,023 $ 65,649 $ 6,582,922
=================== ==================== =================== ====================
The Company's short-term investments of $655,970 and $991,875 at February 28,
2013 and May 31, 2012 consisted of money-market investment funds.
Management believes the Company has the ability to hold all fixed income
securities to maturity. However, the Company determined it may dispose of
securities prior to their scheduled maturity due to changes in interest rates,
prepayments, tax and credit considerations, liquidity or regulatory capital
requirements or other similar factors, therefore the Company classifies all of
its fixed income securities (bonds) and equity securities as available-for-sale.
These securities are reported at fair value, with unrealized gains and losses,
net of deferred income taxes, reported in stockholders' equity as a separate
component of accumulated other comprehensive income.
There are no securities classified as held to maturity at May 31, 2012 or
February 28, 2013.
Invested assets are exposed to various risks, such as interest rate, market and
credit risks. Due to the level of risk associated with certain of these invested
assets and the level of uncertainty related to changes in the value of these
assets, it is possible that changes in risks in the near term may significantly
affect the amounts reported in the Consolidated Condensed Balance Sheets and
Statements of Operations.
Fair value is the price that would be received to sell an asset or paid to
transfer a liability in an orderly transaction between market participants at
the measurement date. The Company uses the following fair value hierarchy in
selecting inputs, with the highest priority given to Level 1, as these are the
most transparent or reliable:
O Level 1 - Quoted prices for identical instruments in active markets.
O Level 2 - Quoted prices for similar instruments in active markets;
quoted prices for identical or similar instruments in markets that are
not active; and model-derived valuations in which all significant
inputs are observable in active markets.
O Level 3 - Valuations derived from valuation techniques in which one or
more significant inputs are unobservable.
Fair market values are provided by the Company's independent investment
custodians that utilize third-party quotation services for the valuation of the
fixed-income investment securities and money-market funds held. The Company's
investment custodians are large money-center banks.
F-12
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
The following section describes the valuation methodologies used to measure
different financial instruments at fair value, including an indication of the
level in the fair value hierarchy in which the instrument is generally
classified.
FIXED INCOME SECURITIES
Securities valued using Level 1 inputs include highly liquid government bonds
for which quoted market prices are available. Securities using Level 2 inputs
are valued using pricing for similar securities, recently executed transactions,
cash flow models with yield curves and other pricing models utilizing observable
inputs. Most fixed income securities are valued using Level 2 inputs. Level 2
includes corporate bonds, municipal bonds, asset-backed securities and mortgage
pass-through securities.
EQUITY SECURITIES
Level 1 includes publicly traded securities valued using quoted market prices.
SHORT-TERM INVESTMENTS
The valuation of securities that are actively traded or have quoted prices are
classified as Level 1. These securities include money market funds and U.S.
Treasury bills. Level 2 includes commercial paper, for which all significant
inputs are observable.
Assets measured at fair value on a recurring basis are summarized below:
February 28, 2013
--------------------------------------------------------------------
Fair Value Measurements Using
Assets At
Level 1 Level 2 Level 3 Fair Value
---------------- --------------- ----------------- -----------------
Assets:
Fixed income securities at fair value $ - $ 6,435,343 $ - $ 6,435,343
Equity securities at fair value
(includes derivatives) 508,788 - - 508,788
Short-term investments at fair value 655,970 - - 655,970
---------------- --------------- ----------------- -----------------
Total Assets $ 1,164,758 $ 6,435,343 $ - $ 7,600,101
================ =============== ================= =================
May 31, 2012
--------------------------------------------------------------------
Fair Value Measurements Using
Assets At
Level 1 Level 2 Level 3 Fair Value
---------------- --------------- ----------------- -----------------
Assets:
Fixed income securities at fair value $ - $ 6,098,648 $ - $ 6,098,648
Equity securities at fair value
(includes derivatives) 484,274 - - 484,274
Short-term investments at fair value 991,875 - - 991,875
---------------- --------------- ----------------- -----------------
Total Assets $ 1,476,149 $ 6,098,648 $ - $ 7,574,797
================ =============== ================= =================
F-13
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
The Company had no assets or liabilities measured at fair value on a recurring
basis using significant unobservable inputs (Level 3) at either May 31, 2012 or
at February 28, 2013.
During the three months ended February 28, 2013, the Company recognized gross
realized gains on the sale of securities classified as available-for-sale as
follows:
Gross Gross
Gross Realized Realized
Proceeds Gains Losses
------------------ ------------------ ------------------
State and municipal securities $ 700,224 $ 18,108 $ $ -
Equity securities 56,797 1,700 (2,743)
Equity securities (derivatives) 13,897 2,339 (4,260)
------------------ ------------------- ------------------
Total $ 770,918 $ 22,147 $ (7,003)
================== =================== ==================
During the nine months ended February 28, 2013, the company recognized gross
realized gains on the sale of securities classified as available-for-sale as
follows:
Gross Gross
Gross Realized Realized
Proceeds Gains Losses
------------------ ------------------ ------------------
State and municipal securities $ 700,224 $ 18,108 $ -
Equity securities 229,236 10,704 (4,161)
Equity securities (derivatives) 64,002 22,050 (5,677)
------------------ ------------------- ------------------
Total $ 993,462 $ 50,862 $ (9,838)
================== =================== ==================
F-14
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
NOTE D - NOTES PAYABLE AND ADVANCES FROM RELATED PARTY
------------------------------------------------------
The Company had the following notes payable to individuals and businesses as of
February 28, 2013 and May 31, 2012 respectively:
February 28, 2013 May 31, 2012
------------------ ------------------
Unsecured demand notes payable to individuals
and others; interest rate fixed @ 10% ($75,000
to related party) $ 1,262,151 $ 1,589,000
Secured demand note payable to individual;
interest rate fixed @ 12% 15,000 15,000
Secured demand note payable to individuals;
interest rate fixed @ 14%; secured by accounts
receivable for investment advisory fees 222,000 62,000
Secured demand note payable to individuals;
interest rate fixed @ 10%; secured by accounts
receivable for investment advisory fees 175,000 105,000
Unsecured short-term advances to principal
shareholder and chief executive officer;
interest rate fixed @ 12% (86,837) (57,046)
Unsecured note(s) payable to individual(s) under
a bridge-financing arrangement described below
($360,000 to related party) 3,500,000 3,500,000
------------------ ------------------
Notes payable $ 5,087,314 $ 5,213,954
================== ==================
In accordance with the terms of the first round bridge-financing of $2.5 million
on March 10, 2008, the holders of such notes were paid accrued interest-to date
and issued 5% of the Company's common shares. Holders of the second round of
bridge-financing notes of $1.0 million received 2% of the Company's common
shares. Upon retirement of the notes subsequent to consummation of a qualified
equity offering, the Company shall issue to the holders of the bridge financing
notes additional Company common stock that, when added to the stock initially
issued to the holders of the notes, will equal the noteholder's pro rata share
of the applicable percentage of the outstanding common stock of the Company as
follows: If the qualified financing consists of $50 million or more, the holders
of such notes will receive 28% of the common stock of the Company that would
otherwise be retained by the holders of the Company's common shares immediately
prior to the financing; if the qualified financing is for an amount less than
$50 million, the percentage will be reduced on a sliding scale to a fraction of
28% of the amount retained by the holders of the Company's common shares (where
the numerator is the amount of financing and the denominator is $50 million).
F-15
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
Beginning September 10, 2008, because a qualified financing had not been
completed, the Company became required under the terms of the bridge financing
to issue 2.80% of the Company's outstanding common shares and shall issue 2.80%
of the Company's outstanding common shares upon each six-month anniversary date
thereof until retirement of the notes. The following table summarizes the common
shares issued to those note holders.
Date of Issuance Shares Issued
-------------------------- ----------------
September 10, 2008 4,870,449
March 10, 2009 5,010,640
September 10, 2009 5,354,642
March 10, 2010 6,005,925
September 10, 2010 6,213,285
March 10, 2011 6,738,900
September 10, 2011 7,043,710
March 10, 2012 7,430,017
September 10, 2012 8,573,594
----------------
57,241,162
================
Pursuant to the terms of the Promissory Notes, the first two of 20 equal
quarterly installments of principal and interest payable thereunder were to have
been paid on December 10, 2008 and March 10, 2009 (the "INITIAL AMORTIZATION
PAYMENTS"). As the result of upheavals and dislocations in the capital markets,
the Company was unable to either refinance the indebtedness evidenced by the
Promissory Notes or make the Initial Amortization Payments to the Holders when
due; and an Event of Default (as defined in the Promissory Notes) occurred under
the Promissory Notes as a result of the Company's failure to pay the Initial
Amortization Payments within 14 days after same became due and payable.
On June 5, 2009 the Company entered into an agreement with the bridge lenders to
forbear from exercising their rights and remedies arising from the Acknowledged
Events of Default. As consideration for the forbearance, the Company issued
5,171,993 shares of Common stock, and pledged the stock of the Company's
subsidiary, Crystal Mountain Water (CMW), as security for repayment of the
loans. The original repayment schedule called for quarterly payments of
$224,515. The Holders agreed that under the forbearance the Company may satisfy
its obligation by increasing the quarterly payments by $67,185, (to a total of
$291,700) for eight consecutive quarters beginning September 10, 2009 to satisfy
the arrearage. In addition, the interest rate was increased to 17%. Although the
Company has failed to make the payment that was due September 10, 2009 and the
payments that were due in the ensuing quarters, management has remained in close
contact with the bridge lenders, providing reports regarding its efforts to
refinance or otherwise repay the bridge loans. To date, none of the bridge
lenders has elected to pursue legal remedies.
In anticipation of a proposed financing and as a condition thereof, the Company
and each of the bridge lenders entered into a Loan Modification Agreement dated
February 25, 2012 which provided for modification of the Promissory Notes,
including an extension of the term of the Promissory Notes, and Subscription
Agreements in exchange for a partial cash payment to each bridge lender. To
date, the proposed financing has not closed, and the Company has been unable to
remit the partial payment. On August 10, 2012, the Company entered into an
agreement with the bridge lenders, pursuant to which the bridge lenders formally
agreed to forbear from exercising their rights and remedies arising from the
accumulated acknowledged events of default with respect to the bridge loans
until such date. As consideration for this forbearance, the Company entered into
F-16
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
an Amended and Restated General Hypothecation and Pledge Agreement dated August
9, 2012 (the "August 2012 Pledge"), but effective September 23, 2011, granting
to the bridge lenders as security for the repayment of the loans a lien and
security interest in all of the Company's shares of capital stock of First
Surety Corporation. Under the August 2012 Pledge, the bridge lenders acknowledge
that the effectiveness of certain of the rights and remedies provided by such
agreement may be subject to prior approval by the Office of the Commissioner of
Insurance for the State of West Virginia. To date, none of the bridge lenders
has elected to pursue legal remedies under the Promissory Notes or the August
2012 Pledge.
During the three and nine months ended February 28, 2013 and the year ended May
31, 2012, a company owned by a board member provided consulting services. This
company provided services totaling $15,525 and $46,575 in the three and nine
months ended February 28, 2013 and $15,525 and $46,575 in the three and nine
months ended February 29, 2012. Amounts owed to this company are treated as
related party payables in the amounts $122,384 and $109,309 at February 28, 2013
and May 31, 2012.
Advances have been made to the Company by its principal shareholder and chief
executive officer to fund ongoing operations under a pre-approved unsecured
financing arrangement bearing interest at the rate of 12%. The following table
summarizes the activity under such arrangement for the three and nine month
periods ended February 28, 2013.
Three month Nine month
period ended period ended
February 28, 2013 February 28, 2013
------------------ ------------------
Balance owed, beginning of period $ (214,162) $ (57,046)
Proceeds from borrowings 168,110 610,915
Assumption of company debt 97,785 319,654
Accrued payroll offsetting repayments 85,250 85,250
Repayments (223,820) (1,045,610)
------------------ ------------------
Balance owed, end of period $ (86,837) $ (86,837)
================== ==================
Scheduled maturities and principal payments for each of the next five years
ending May 31 are as follows:
2013 (including demand notes) $ 4,785,065
2014 156,834
2015 145,415
2016 - 2017 -
---------------
$ 5,087,314
===============
NOTE E-STOCKHOLDERS EQUITY
--------------------------
In the three month period ending February 28, 2013, the Company issued 259,000
shares of the Company's common stock in connection with new and continued
borrowings totaling $259,000. The shares were valued at approximately $.005694
per share based on the average quoted closing price of the Company's stock for
the 20-day period preceding the date of the transaction and totaled $1,476.
F-17
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
On January 1, 2013 the Company issued 2,434,098 shares of the Company's common
stock in connection with the additional 2% stock dividend associated with Series
B Preferred shares that had requested redemption upon maturity. The shares were
valued at approximately $.004545 per share based on the average quoted closing
price of the Company's stock for the 20-day period preceding the date of the
transaction and totaled $11,063.
In the three month period ending November 30, 2012, the Company issued 1,002,000
shares of the Company's common stock in connection with new and continued
borrowings totaling $762,000. The shares were valued at approximately $.006930
per share based on the average quoted closing price of the Company's stock for
the 20-day period preceding the date of the transaction and totaled $6,944.
On October 1, 2012 the Company issued 719,543 shares of the Company's common
stock in connection with the additional 2% stock dividend associated with Series
B Preferred shares that were requested to be redeemed upon maturity. The shares
were valued at approximately $.015375 per share based on the average quoted
closing price of the Company's stock for the 20-day period preceding the date of
the transaction and totaled $11,063.
In the three month period ending November 30, 2012, the Company issued 8,573,594
shares of the Company's common stock in connection with the semi-annual issuance
of shares under terms of the bridge-financing arrangement. The shares were
valued at approximately $.018740 per share based on the average quoted closing
price of the Company's stock for the 20-day period preceding the date of the
transaction and totaled $160,669.
On July 9, 2012 the Company issued 22,600,000 shares of the Company's common
stock to employees and other individuals for services rendered. The shares were
valued at approximately $.002650 per share based on the average quoted closing
price of the Company's stock for the 20-day period preceding the date of the
transaction and totaled $59,890.
In the three month period ending August 31, 2012, the Company issued 1,061,000
shares of the Company's common stock in connection with new and continued
borrowings totaling $969,000. The shares were valued at approximately $.003359
per share based on the average quoted closing price of the Company's stock for
the 20-day period preceding the date of the transaction and totaled $3,564.
On July 1, 2012 the Company issued 3,845,837 shares of the Company's common
stock in connection with the additional 2% stock dividend associated with Series
B Preferred shares that were requested to be redeemed upon maturity. The shares
were valued at approximately $.002845 per share based on the average quoted
closing price of the Company's stock for the 20-day period preceding the date of
the transaction and totaled $10,941.
F-18
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
NOTE F-PREFERRED STOCK
----------------------
REDEEMABLE PREFERRED STOCK
On December 30, 2005, through a private placement, the Company issued 350 shares
of 4% Non-Voting Series A Preferred Stock (Series A Preferred Stock), along with
1,050,000 warrants for common shares of Company stock as additional
consideration, for a cash investment in the amount of $350,000, in connection
with the Company's acquisition of FSC. Holders of Series A Preferred Stock are
entitled to participate in FSC's partially collateralized bonding programs,
subject to continuing satisfaction of underwriting criteria, based upon the
bonding capacity of FSC attributable to capital reserves of FSC established with
the subscription proceeds (i.e., bonding capacity equal to ten times
subscription proceeds) and for so long as the subscriber holds the Series A
shares. Holders of the Series A Preferred Stock are entitled to receive, when
and as declared by the board of directors, cumulative preferential cash
dividends at a rate of four percent of the $1,000 liquidation preference per
annum (equivalent to a fixed annual rate of $40 per share). The Series A
Preferred Stock ranks senior to the Company's common stock and pari passu with
the Company's Series B Preferred and Series C Preferred Stock with respect to
dividend rights and rights upon liquidation, dissolution or winding up of the
Company. The holder may redeem the Series A Preferred Stock on or after the
seventh anniversary of the Issue Date, if the holder provides a written
statement to the Company that it will no longer require surety bonds issued by
the Company's insurance subsidiary (FSC) under its partially collateralized
bonding programs and, if no such surety bonds are then outstanding, the Company,
at the option of the holder, will redeem all or any portion of the Series A
Preferred Stock of such holder at a price per share equal to the Series A
Preferred Stock Issue Price plus all accrued and unpaid dividends with respect
to the shares of the Series A Preferred Stock of such holder to be redeemed. The
conditional redemption shall not be available to any holder of Series A
Preferred Stock for so long as surety bonds of the Company's insurance
subsidiary issued on a partially collateralized basis remain outstanding for the
benefit of such holder, and upon redemption, such holder shall no longer be
eligible to participate in the partially collateralized bonding programs of the
insurance subsidiary. The Company is authorized to issue up to 1,000,000 shares
of the Series A Preferred Stock. As of May 31, 2012, the Company had issued
2,675 shares of Series A Preferred Stock in exchange for cash investments in the
amount of $2,675,000. No shares were issued in the nine month period ending
February 28, 2013.
The Company's outstanding Series A Preferred stock matures on the seventh
anniversary of the issuance date and thereafter holders of the Series A Stock
are eligible to request that the Company redeem their Series A Shares. As of
this report, the Company has received requests for redemption of 100 shares of
Series A Preferred. The aggregate amount to which the holders requesting
redemption are entitled as of March 31, 2013, is $133,476.
Under the terms of the Series A Preferred Stock, upon receipt of such a request,
the Company's Board was required to make a good faith determination regarding
(A) whether the funds of the Company legally available for redemption of shares
of Series A Stock are sufficient to redeem the total number of shares of Series
A Stock to be redeemed on such date and (B) whether the amounts otherwise
legally available for redemption would, if used to effect the redemption, not
result in an impairment of the operations of the Insurance Subsidiary. If the
Board determines that there is a sufficiency of legally available funds to
accomplish the redemption and that the use of such funds to affect the
redemption will not result in an impairment of the operations of the Insurance
Subsidiary, then the redemption shall occur on the Redemption Date. If, however,
F-19
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
the Board determines either that there are not sufficient funds legally
available to accomplish the redemption or that the use of such funds to effect
the redemption will result in an impairment of the operations of the Insurance
Subsidiary, then (X) the Company shall notify the holders of shares that would
otherwise have been redeemed of such fact and the consequences as provided in
this paragraph, (Y) the Company will use those funds which are legally available
therefor and which would not result in an impairment of the operations of the
Insurance Subsidiary to redeem the maximum possible number of shares of Series A
Stock for which Redemption Notices have been received ratably among the holders
of such shares to be redeemed based upon their holdings of such shares, and (Z)
thereafter, until such shares are redeemed in full, the dividends accruing and
payable on such shares of Series A Stock to be redeemed shall be increased by 2%
of the Series A Face Amount, with the amount of such increase (i.e., 2% of the
Series A Face Amount) to be satisfied by distributions on each Dividend Payment
Date of shares of Common Stock having a value (determined by reference to the
average closing price of such Common Stock over the preceding 20 trading days)
equal to the amount of such increase. The shares of Series A Stock not redeemed
shall remain outstanding and entitled to all the rights and preferences provided
herein. At any time thereafter when additional funds of the Company are legally
available for the redemption of shares of Series A Stock and such redemption
will not result in an impairment of operations of the Insurance Subsidiary, such
funds will immediately be used to redeem the balance of the shares of Series A
Stock to be redeemed. No dividends or other distributions shall be declared or
paid on, nor shall the Company redeem, purchase or acquire any shares of, the
Common Stock or any other class or series of Junior Securities or Equal Ranking
Preferred of the Company unless the Redemption Price per share of all shares for
which Redemption Notices have been given shall have been paid in full, provided
that the redemption price of any Equal Ranking Preferred subject to redemption
shall be paid on a pari passu basis with the Redemption Price of the Series A
Stock subject to redemption in accordance herewith. Until the Redemption Price
for each share of Series A Stock elected to be redeemed shall have been paid in
full, such share of Series A Stock shall remain outstanding for all purposes and
entitle the holder thereof to all the rights and privileges provided herein, and
Dividends shall continue to accrue and, if unpaid prior to the date such shares
are redeemed, shall be included as part of the Redemption Price.
On April 4, 2013, the Company's Board of Directors determined based on the
criteria established under the terms of the Preferred Stocks that there were
insufficient funds available for the redemption of Preferred Stocks.
On December 30, 2005, through a private placement, the Company issued 3,980
shares of 8% Non-Voting Series B Convertible Preferred Stock (Series B Preferred
Stock), along with 19,900,000 warrants for common shares of Company stock as
additional consideration, for a cash investment in the amount of $2,985,000; and
issued 4,890 shares of Series B Preferred Stock, along with 24,452,996 warrants
for common shares of Company stock as additional consideration, for a conversion
of $3,667,949 of indebtedness of the Company, in connection with the Company's
acquisition of FSC. Holders of the Series B Preferred Stock are entitled to
receive, when and as declared by the board of directors, cumulative preferential
cash dividends at a rate of eight percent of the $1,000 liquidation preference
per annum (equivalent to a fixed annual rate of $80 per share). The Series B
Preferred Stock ranks senior to the Company's common stock and pari passu with
the Company's Series A Preferred and Series C Preferred Stock with respect to
dividend rights and rights upon liquidation, dissolution or winding up of the
Company. Each share of the Series B Preferred Stock is convertible at the option
of the holder, at any time after the original issue date, into 1,000 fully paid
and non-assessable shares of the Company's common stock at a conversion price of
$1.00 per common share. The Company may redeem the Series B Preferred Stock at
F-20
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
any time after the first anniversary of the Original Issue Date at a price per
share equal to the Series B Preferred Stock Face Amount plus all accrued and
unpaid dividends with respect to the shares of the Series B Preferred Stock of
such holder to be redeemed. To the extent that the Series B Preferred Stock has
not been redeemed by the Company, the holder may redeem the Series B Preferred
Stock on or after the fifth anniversary of the Original Issue Date at a price
per share equal to the Series B Preferred Stock Face Amount plus all accrued and
unpaid dividends with respect to the shares of the Series B Preferred Stock of
such holder to be redeemed. The Company is authorized to issue up to 10,000
shares of the Series B Preferred Stock. The Company has not issued any
additional shares of Series B Preferred Stock during this fiscal year.
The Company's outstanding Series B Preferred stock matured on December 30, 2010,
meaning that the holders of the Series B Stock became entitled to request that
the Company redeem their Series B Shares. As of this report, the Company has
received requests for redemption of 2,219 shares of Series B Preferred. The
aggregate amount to which the holders requesting redemption are entitled as of
March 31, 2013, is $3,941,501.
Under the terms of the Series B Preferred Stock, upon receipt of such a request,
the Company's Board was required to make a good faith determination regarding
(A) whether the funds of the Company legally available for redemption of shares
of Series B Stock are sufficient to redeem the total number of shares of Series
B Stock to be redeemed on such date and (B) whether the amounts otherwise
legally available for redemption would, if used to effect the redemption, not
result in an impairment of the operations of the Insurance Subsidiary. If the
Board determines that there is a sufficiency of legally available funds to
accomplish the redemption and that the use of such funds to affect the
redemption will not result in an impairment of the operations of the Insurance
Subsidiary, then the redemption shall occur on the Redemption Date. If, however,
the Board determines either that there are not sufficient funds legally
available to accomplish the redemption or that the use of such funds to effect
the redemption will result in an impairment of the operations of the Insurance
Subsidiary, then (X) the Company shall notify the holders of shares that would
otherwise have been redeemed of such fact and the consequences as provided in
this paragraph, (Y) the Company will use those funds which are legally available
therefor and which would not result in an impairment of the operations of the
Insurance Subsidiary to redeem the maximum possible number of shares of Series B
Stock for which Redemption Notices have been received ratably among the holders
of such shares to be redeemed based upon their holdings of such shares, and (Z)
thereafter, until such shares are redeemed in full, the dividends accruing and
payable on such shares of Series B Stock to be redeemed shall be increased by 2%
of the Series B Face Amount, with the amount of such increase (i.e., 2% of the
Series B Face Amount) to be satisfied by distributions on each Dividend Payment
Date of shares of Common Stock having a value (determined by reference to the
average closing price of such Common Stock over the preceding 20 trading days)
equal to the amount of such increase. The shares of Series B Stock not redeemed
shall remain outstanding and entitled to all the rights and preferences provided
herein. At any time thereafter when additional funds of the Company are legally
available for the redemption of shares of Series B Stock and such redemption
will not result in an impairment of operations of the Insurance Subsidiary, such
funds will immediately be used to redeem the balance of the shares of Series B
Stock to be redeemed. No dividends or other distributions shall be declared or
paid on, nor shall the Company redeem, purchase or acquire any shares of, the
Common Stock or any other class or series of Junior Securities or Equal Ranking
Preferred of the Company unless the Redemption Price per share of all shares for
which Redemption Notices have been given shall have been paid in full, provided
that the redemption price of any Equal Ranking Preferred subject to redemption
shall be paid on a pari passu basis with the Redemption Price of the Series B
Stock subject to redemption in accordance herewith. Until the Redemption Price
F-21
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
for each share of Series B Stock elected to be redeemed shall have been paid in
full, such share of Series B Stock shall remain outstanding for all purposes and
entitle the holder thereof to all the rights and privileges provided herein, and
Dividends shall continue to accrue and, if unpaid prior to the date such shares
are redeemed, shall be included as part of the Redemption Price.
On March 8, 2011, the Company's Board of Directors determined based on the
criteria established under the terms of the Series B Preferred Stock that there
were insufficient funds available for the redemption of Series B Stock.
For the three months ended February 28, 2013, the Company experienced a loss
after accretion of mandatorily redeemable convertible preferred stock and
accrued dividends on mandatorily redeemable preferred stock of $483,140 as
compared with a loss after accretion of mandatorily redeemable convertible
preferred stock and accrued dividends on mandatorily redeemable preferred stock
of $434,264 for the three months ended February 29, 2012.
For the nine months ended February 28, 2013, the Company experienced a loss
after accretion of mandatorily redeemable convertible preferred stock and
accrued dividends on mandatorily redeemable preferred stock of $1,606,166 as
compared with a loss after accretion of mandatorily redeemable convertible
preferred stock and accrued dividends on mandatorily redeemable preferred stock
of $1,084,023 for the nine months ended February 29, 2012.
EQUITY PREFERRED STOCK
As a means of alleviating obligations associated with the Company's Series B
Preferred Stock, which by its terms matured at the end of 2010, management
proposed a recapitalization to assist in stabilizing the financial position of
the Company. The Company's Certificate of Incorporation provides for two classes
of capital stock, known as common stock, $0.0001 par value per share (the
"COMMON STOCK"), and preferred stock, $0.0001 par value per share (the
"PREFERRED STOCK"). The Company's Board is authorized by the Certificate of
Incorporation to provide for the issuance of the shares of Preferred Stock in
series, and by filing a certificate pursuant to the applicable law of the State
of Delaware, to establish from time to time the number of shares to be included
in such series and to fix the designations, preferences and rights of the shares
of each such series and the qualifications, limitations and restrictions
thereof. Board deemed it advisable to designate a Series C Preferred Stock and
fixed and determined the preferences, rights, qualifications, limitations and
restrictions relating to the Series C Preferred Stock as follows:
1. Designation. The shares of such series of Preferred Stock are
designated "Series C Preferred Stock" (referred to herein as the
"SERIES C STOCK"). The date on which the first share of Series C Stock
is issued shall hereinafter be referred to as the "ORIGINAL ISSUE
DATE".
2. Authorized Number. The number of shares constituting the Series C
Stock are 10,000.
3. Ranking. The Series C Stock ranks, (a) as to dividends and upon
Liquidation senior and prior to the Common Stock and all other equity
securities to which the Series C ranks prior, with respect to
dividends and upon Liquidation (collectively, "JUNIOR SECURITIES"),
(b) pari passu with the Corporation's Series A Preferred Stock, par
value $0.0001 per share (the "SERIES A STOCK"), the Corporation's
Series B Stock, and any other series of Preferred Stock subsequently
F-22
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
established by the Board with equal ranking (any such other series of
Preferred Stock, together with the Series C Stock, the Series B Stock
and Series A Stock are collectively referred to as the "EQUAL RANKING
PREFERRED") and (c) junior to any other series of Preferred Stock
subsequently established by the Board with senior ranking.
4. Dividend Accrual and Payment. The holders of the Series C Stock shall
be entitled to receive, in preference to the holders of Junior
Securities, dividends ("DIVIDENDS") on each outstanding share of
Series C Stock at the rate of 8% per annum of the sum of (i) the
Series C Face Amount plus (ii) an amount equal to any accrued, but
unpaid, dividends on such Series C Stock, including for this purpose
the exchanged Series B Amount outstanding with respect to such Series
C Stock. For purposes hereof, the "SERIES B AMOUNT" means an amount
equal to the dividend that would have accrued on such Series C Stock
held by such holder from and after the Series B Original Issue Date
applicable to such share of Series C Stock, through the Original Issue
Date as if such Series C Stock had been issued on such Series B
Original Issue Date, less all amounts thereof distributed by the
Corporation with respect to such Series C Stock. Dividends shall be
payable quarterly in arrears on each January 1, April 1, July 1 and
October 1 following the Original Issue Date, or, if any such date is a
Saturday, Sunday or legal holiday, then on the next day which is not a
Saturday, Sunday or legal holiday (each a "DIVIDEND PAYMENT DATE"), as
declared by the Board and, if not paid on the Dividend Payment Date,
shall accrue. Amounts available for payment of Dividends (including
for this purpose the Series B Amount) shall be allocated and paid with
respect to the shares of Series C Preferred and any other Equal
Ranking Preferred, FIRST, among the shares of Equal Ranking Preferred
pro rata in accordance with the amounts of dividends accruing with
respect to such shares at the current Dividend Payment Date, and,
THEN, any additional amounts available for distribution in accordance
with the accrued, but unpaid, dividends (and the Series B Amount then
outstanding) at each prior Dividend Payment Date, in reverse
chronological order, with respect to all shares of the Equal Ranking
Preferred then outstanding in accordance with amounts accrued, but
unpaid. For purposes hereof, the term "SERIES B ORIGINAL ISSUE DATE"
shall mean, with respect to any share of Series C Stock issued by the
Corporation in exchange for a share of Series B Stock, the date on
which the Corporation originally issued such share of Series B Stock.
The Recapitalization consisted of the exchange of Series B Shares for a
combination of Series C Shares and Common Stock. For each Series B Share, the
participating holder received (i) one Series C Share and (ii) 2,000 shares of
JFG Common Stock (for no additional consideration).
For the year ending May 31, 2010, 6,805 shares of Series B Stock were
surrendered and exchanged for 6,805 shares of Series C Stock. This exchange
amounted to $6,269,051 of carrying value of Series B stock being exchanged for
Series C and Common Stock. 13,609,872 shares of Common Stock were issued to the
Series C Stock holders at the rate of 2,000 Common shares for each exchanged
Series B Stock, with the related cost associated with the Common issuance
offsetting the Series C carrying value by $265,120. The shares were valued at
approximately $.01948 per share based on the average quoted closing price of the
Company's stock for the 20-day period proceeding the date of the transaction.
Series C stock may be redeemed by the Company but does not have a fixed maturity
date and, thus, is classified as permanent equity.
The accrual of dividends on the equity preferred stock resulted in a charge to
common stockholders' equity of $232,979 and $682,826 for the three and nine
month periods ending February 28, 2013, as compared with a charge to common
F-23
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
stockholders' equity of $215,190 and $630,690 for the three and nine month
periods ending February 29, 2012.
DIVIDEND PREFERENCE AND ACCRETION
The Series A Shares are entitled to receive cumulative dividends at the rate of
4% per annum.
The Series B Shares have an 8% per annum compounding dividend preference, are
convertible into Common Shares of JFG at the option of the holders at a
conversion price of $1.00 per Share (as adjusted for dilution) and, to the
extent not converted, must be redeemed by the Corporation at any time after
December 31, 2010 at the option of the holder. Any such redemption is subject to
legal constraints, such as the availability of capital or surplus out of which
to pay the redemption, and to a determination by our Board of Directors that the
redemption will not impair the operations of First Surety.
The Series C Shares issued in the Recapitalization have the same 8% per annum
compounding dividend preference and carry over from the Series B Shares the same
accrued but unpaid dividends. While dividends had never been declared on the
Series B shares, they had been accrued, increasing the dividend preference and
the redemption price and liquidity preference of such shares and increasing the
liability represented thereby based upon the Series B Shares fixed maturity
date. The accrued (but undeclared) dividends associated with the Series C
exchange amounted to $2,295,624 and are included in the total amount exchanged
for Series C Shares. Unlike the Series B Shares with their fixed maturity date,
the Series C Shares are permanent equity, with accruing dividends only
increasing the preference amount that must be satisfied before junior securities
may participate in dividends or on liquidation. Accordingly, the effect of the
accrual of dividends with respect to the Series C Shares on the Company's
balance sheet is to increase the aggregate claim of the Series C Shares on the
equity of the corporation and to increase the deficit in common equity, while
having no effect on the net equity of the corporation as a whole. The
entitlement of the Series C Shares to a priority in relation to junior
securities with respect to dividends and on liquidation does not create an
obligation to the Company and therefore no liability is recorded until the
dividends are declared by the Board of the Company. The Series C Shares are pari
passu with the Corporation's Series A Preferred Stock and Series B Shares (to
the extent any remain outstanding following the Recapitalization) and no
dividends or other distributions will be paid upon Common Shares or any other
class of Shares that is junior in priority to the Series C Preferred while
dividends are in arrears. In addition, the Series C Shares are convertible into
Common Shares of JFG at the option of the holders at a conversion price of $0.10
per Share. The Series C Shares may be redeemed by the Corporation, at its
option, when it is in a financial position to do so.
Holders of over 70% of the outstanding Series B Preferred Shares elected to
participate in the recapitalization. Those Series B Preferred Shareholders that
chose not to convert at this time are listed in the Liabilities section of the
Balance Sheet, and therefore the accretion and dividends associated with the
Series B stock after November 30, 2009 are deductions from net income. As the
redemption date on the Series B shares got closer, it became apparent that it
was unlikely that the shares would be converted to common at $1.00, and thus the
classification was changed. Dividends on Series B mandatorily redeemable
preferred stock deducted from net income amounted to $96,781 for the three-month
period ended February 28, 2013 and $283,652 for the nine month period ending
February 28, 2013. The remaining Series B shares not converted were accreted
from carrying value to the face amount for the 5 year period from the date of
issuance. Series C stock has no accretion. There were no shares of Series B
Stock surrendered or exchanged in the nine month period ending February 28,
2012.
F-24
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
During the year ended May 31, 2012, two holders of Series A stock released all
of their outstanding bonds held with FSC. The shares of these Series A Preferred
shareholders are listed in the liability section of the Balance Sheet in the
amount of $1,468,237, which consists of $1,126,000 face value of stock and
$342,237 in dividends payable. The dividends associated with these shares of
Series A stock are a deduction from net income in the amount of $14,655 and
$43,374 for the three and nine month periods ended February 28, 2013. There was
no accretion on these shares of Series A stock.
As of February 28, 2013 the Company has chosen to defer payment of dividends on
the Series A Preferred Stock with such accrued and unpaid dividends amounting to
$690,848 through February 28, 2013.
As of February 28, 2013 the Company has chosen to defer payment of dividends on
the Series B and Series C Preferred Stock with such accrued and unpaid dividends
amounting to $2,079,398 and $4,982,007 through February 28, 2013.
NOTE G - COMMITMENTS, CONTINGENCIES, AND MATERIAL AGREEMENTS
------------------------------------------------------------
As of February 28, 2013, the Company had accrued and withheld approximately
$294,000 in Federal payroll taxes and approximately $40,000 in estimated
penalties and interest, which are reflected in the financial statements as other
liabilities. Management is in discussion with the IRS and intends to satisfy
this obligation as soon as possible.
As of February 28, 2013, the Company had accrued and withheld approximately
$67,000 in State of West Virginia payroll withholdings and approximately $13,000
in interest and penalties, which are reflected in the accompanying financial
statements as other liabilities. In August 2012 the Company entered into a
payment plan with the State of West Virginia to satisfy this obligation in full
over a 15 month payment period, but the Company is not currently up to date on
the scheduled payments.
F-25
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
NOTE H - SEGMENT REPORTING
--------------------------
The Company has two reportable segments, investment advisory services and surety
insurance products and services. The following table presents revenue and other
financial information by industry segment.
THREE MONTH PERIOD ENDED
INDUSTRY SEGMENT FEBRUARY 28, FEBRUARY 29,
---------------- 2013 2012
---------------- --------------
REVENUES:
Investment advisory $ 43,731 $ 52,346
Surety insurance 263,822 295,090
Corporate - -
---------------- --------------
Total revenues $ 307,553 $ 347,436
================ ==============
NET INCOME (LOSS):
Investment advisory $ 8,082 $ 14,895
Surety insurance 42,676 65,809
Corporate (514,957) (482,686)
---------------- --------------
Total net income (loss) $ (464,199) $ (401,982)
================ ==============
NINE MONTH PERIOD ENDED
INDUSTRY SEGMENT FEBRUARY 28, FEBRUARY 29,
---------------- 2013 2012
---------------- --------------
REVENUES:
Investment advisory $ 146,440 $ 185,656
Surety insurance 886,036 1,142,655
Corporate - -
---------------- --------------
Total revenues $ 1,032,476 $ 1,328,311
================ ==============
NET INCOME (LOSS):
Investment advisory $ 12,846 $ 44,924
Surety insurance 227,510 402,214
Corporate (1,790,464) (1,435,619)
---------------- --------------
Total net income (loss) $ (1,550,108) $ (988,481)
================ ==============
F-26
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
NOTE I - REINSURANCE
--------------------
The Company limits the maximum net loss that can arise from large risks by
reinsuring (ceding) certain levels of such risk with reinsurers. Ceded
reinsurance is treated as the risk and liability of the assuming companies. The
Company cedes insurance to other companies and these reinsurance contracts do
not relieve the Company from its obligations to policyholders.
Effective April 1, 2009, FSC entered into a reinsurance agreement with various
syndicates at Lloyd's of London ("Reinsurer") for its coal reclamation surety
bonding programs. The agreement has been renewed annually with the Reinsurer,
with the most recent renewal effective July 1, 2012. The reinsurance agreement
is an excess of loss contract which protects the Company against losses up to
certain limits over stipulated amounts and can be terminated by either party by
written notice of at least 90 days prior to any July 1. The contract calls for a
premium rate of 35% subject to a minimum premium $490,000. Deposits are made to
the reinsurers quarterly in arrears in equal amounts of $140,000. At February
28, 2013 and May 31, 2012, the Company had prepaid reinsurance premiums of
$160,353 and $243,877 and ceded reinsurance deposited of $79,389 and $42,458.
At the close of the contract year ended June 30, 2012, the Company had written
$407,274 in ceded premium on coal reclamation surety bonds. In order to meet the
contract minimum of $490,000 of ceded premium written, the Company had to record
an additional $82,726 in ceded premium at June 30, 2012.
There were no ceded losses and LAE expenses for the nine months ended February
28, 2013 or February 29, 2012.
The effects of reinsurance on premium written and earned for the three and nine
month periods ending February 28, 2013 and February 29, 2012 are as follows;
THREE MONTH THREE MONTH THREE MONTH THREE MONTH
PERIOD ENDING PERIOD ENDING PERIOD ENDING PERIOD ENDING
FEBRUARY 28, FEBRUARY 28, FEBRUARY 29, FEBRUARY 29,
2013 - 2013 - 2012 - 2012 -
WRITTEN EARNED WRITTEN EARNED
------------ ---------- ---------- -----------
DIRECT $ 232,467 $ 291,779 $ 506,129 $ 340,413
CEDED $ 78,861 $ 94,365 176,084 115,761
------------ ---------- ---------- -----------
NET $ 153,606 $ 197,414 $ 330,045 $ 224,652
============ ========== ========== ===========
NINE MONTH NINE MONTH NINE MONTH NINE MONTH
PERIOD ENDING PERIOD ENDING PERIOD ENDING PERIOD ENDING
FEBRUARY 28, FEBRUARY 28, FEBRUARY 29, FEBRUARY 29,
2013 - 2013 - 2012 - 2012 -
WRITTEN EARNED WRITTEN EARNED
------------ ---------- ---------- -----------
WRITTEN
DIRECT $ 713,426 $ 952,391 $ 912,375 $ 1,039,878
CEDED $ 313,151 $ 396,676 314,010 353,351
------------ ---------- ---------- -----------
NET $ 400,275 $ 555,715 $ 598,365 $ 686,527
============ ========== ========== ===========
F-27
JACOBS FINANCIAL GROUP, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)
Under the terms of its reinsurance agreement, the Company is entitled to a No
Claims Bonus from the reinsurers for each claim year in which no claims are
received. The bonus is 20% of the annual reinsurance premium and is to be
recorded upon the completion of each contract year. On August 31, 2011 the
Company recorded receipt of $213,281 from its reinsurers representing the
cumulative No Claims Bonus under the terms of its reinsurance agreement for the
claim years ending June 30, 2010 and June 30, 2011. For the contract year ended
June 30, 2012, the Company recorded a No Claims Bonus in the amount of $98,000.
The No Claims Bonus is not included in the analysis of written and earned
premium above.
NOTE J-STOCK-BASED COMPENSATION
-------------------------------
On June 30, 2009 the compensation committee of the board of directors awarded
10,000,000 incentive stock options to acquire common shares at an exercise price
of four cents ($.04) per share, of which 4,700,000 shares vested immediately and
the remaining 5,300,000 options vested over the next three years ending in June
2011. The term of the options is five years and expires in June 2014.
NOTE K - SUBSEQUENT EVENTS
--------------------------
Subsequent to February 28, 2013, the Company extended borrowings of $19,500 from
individuals to fund ongoing operation and made repayments of $215,767 on
existing debt. Such borrowings were obtained under demand notes bearing an
interest rate of 10%. This borrowing, and the continuation of existing
borrowings, included the issuance of 69,500 shares of its common stock as
additional consideration. Additionally, the Company obtained borrowings of
$227,573 from its principal shareholder and chief executive officer under its
pre-approved financing arrangement bearing interest at the rate of 12% and made
repayments totaling $165,840. After taking into account the net accrued payroll
owed that is to be offset against these borrowings, the balance owed to the
principal shareholder is $79,336 at the date of this filing.
On March 10, 2013, the Company issued 8,947,444 shares of the Company's common
stock in connection with the semi-annual issuance of shares under the
bridge-financing arrangements (see Note D).
On March 31, 2013, the Company elected to continue to defer payment of dividends
on its Series A Preferred Stock, Series B Preferred Stock and Series C Preferred
Stock, with such cumulative accrued and unpaid dividends amounting to $724,045,
$2,175,985 and $5,214,516, respectively.
On April 1, 2013 the Company issued 2,057,061 shares of common stock as
additional 2% dividend to holders of Series B Preferred that had requested
redemption.
On April 4, 2013 the Company's Board of Directors met to consider the
Corporation's financial condition, including the Corporation's unrestricted
assets, the current maturities of the Corporation's indebtedness and the
Corporation's substantial capital deficit, for the purpose of considering
redemption request for its Series A Preferred and Series B Preferred shares. It
was the determination of the Board that no funds are legally available to effect
the redemption or partial redemption of Preferred Shares.
F-28
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
--------------------------------------------------------------------------------
During fiscal 2012 and the nine-month period ended February 28, 2013, the
Company has focused its primary efforts on the development and marketing of its
surety business in West Virginia and Ohio, arranging for potential strategic
relationships that will accelerate the progression of the Company's business
plan and raising additional capital to increase the capital base of its
insurance subsidiary, First Surety Corporation ("FSC"), to facilitate entry into
other state markets.
RESULTS OF OPERATIONS FOR THE THREE-MONTH PERIOD ENDED FEBRUARY 29, 2012
The Company experienced a loss from operations for the three-month period ended
February 28, 2013 of $121,370 as compared with a loss from operations of $91,956
for the corresponding period ended February 29, 2012.
REVENUES
Revenues from operations for the three-month period ended February 28, 2013 were
$307,553 as compared with $347,436 for the corresponding period ended February
29, 2012. The overall decrease in revenues is largely attributable to a decrease
in premiums written by FSC in the current year, despite more gains recognized in
the current year on the sale of investments held by the Company. For the
three-month period ended February 28, 2013 net investment income declined due to
the re-allocation of assets in the investment portfolio compared to the previous
year. Some interest bearing mortgage backed securities were sold at various
times during the previous twelve-month period and replaced with non-interest
bearing, or zero coupon bonds. In addition, investment advisory fees declined
due to the slight decrease in assets under management.
INVESTMENT ADVISORY REVENUES
Quarterly revenues from the Company's investment management segment (Jacobs &
Company or J&C), net of advisory referral fees, were $43,363 for the three-month
period ended February 28, 2013 as compared with $46,963 for the corresponding
period ended February 29, 2012. Investment advisory fees are based on the market
value of assets under management, some fluctuation will occur due to overall
market conditions. For the most part, however, such revenues will remain
relatively constant from quarter to quarter with any large fluctuations being
attributable to the growth or decline of assets under management.
INSURANCE AND INVESTMENT REVENUES
Quarterly revenues from the Company's surety insurance segment, consisting of
FSC and Triangle Surety Agency, Inc ("TSA"), were $263,822 for the three-month
period ended February 28, 2013 as compared with $295,090 for the corresponding
period ended February 29, 2012. Revenues attributable to premium earned, net
investment income and commissions earned are as follows:
-3-
Three-month Period Ended
February 28 and 29,
-----------------------------------
2013 2012
----------------- -----------------
Premium earned $ 197,414 $ 224,652
Commissions earned 463 432
Net investment income 50,801 72,369
Net realized investment gains (losses) 15,144 (2,363)
----------------- -----------------
Total $ 263,822 $ 295,090
================= =================
Premium revenue is recognized ratably over the term of the policy period and
thus is relatively stable from period to period with fluctuations for comparable
periods generally reflecting the overall growth or loss of business. Commission
revenue, which is dependent on the timing of issuance or renewal of bonds, is
somewhat more seasonal from quarter-to-quarter with fluctuations for comparable
periods largely reflecting the overall growth or loss of business. The decrease
in premium earned for the three-month period ended February 28, 2013 in
comparison to the corresponding period from the prior year is a result of
decrease in bonds issued for existing clients.
Investment income should remain relatively consistent but can fluctuate based on
interest rates, dividends and market conditions as well as the average assets
held for investment. The decrease in corresponding periods reflects a slight
decrease in average assets held for investment in FSC's investment portfolio,
from $7.836 million for the three-month period ended February 29, 2012 to $7.652
million for the three-month period ended February 28, 2013, as well as a
decrease in investment yield from approximately 3.67% for the three-month period
ended February 29, 2012 to 2.46% for the three-month period ended February 28,
2013. This decrease in investment yield is mostly attributable to the
diversification of some invested assets from interest earning, mortgage backed
securities to tax-exempt zero coupon bonds. The ultimate effect of zero coupon
bonds will be reflected over the life of the bond through accretion rather than
yield. During the period, equity securities in the portfolio provided dividends
and gains from the covered call strategy utilized on the equities.
During the three-month period ending February 28, 2013, the Company sold certain
equity investments and municipal bonds for $770,918, resulting in realized gains
of $15,144. In the three-month period ending February 29, 2012, the Company sold
certain equity investments for $57,826, resulting in realized losses of $2,363.
EXPENSES
INCURRED POLICY LOSSES
The Company has experienced no claims for losses as of February 28, 2013.
However, "incurred but not reported" (IBNR) policy losses for the three-month
periods ending February 28, 2013 and February 29, 2012 amounted to $42,853 and
$50,386 respectively. Such amounts represent the provision for estimated loss
and loss adjustment expense attributable to surety bonds issued by FSC. Such
-4-
estimates are based on industry averages adjusted for factors that are unique to
FSC's underwriting approach and are routinely reviewed for adequacy based on
current market conditions and other factors unique to FSC's business. For each
of these periods, IBNR policy losses were approximately 22% and 22% of earned
premium.
POLICY ACQUISITION COSTS
Insurance policy acquisition costs of $65,868 and $71,876 for the three-month
periods ended February 28, 2013 and February 29, 2012, respectively, represent
charges to operations for policy acquisition expense and premium tax
attributable to surety polices issued by FSC and are recognized ratably over the
period in which premiums are earned. Such cost as a percentage of earned premium
was approximately 33% and 32% for the periods ended February 28, 2013 and
February 29, 2012 respectively.
GENERAL AND ADMINISTRATIVE
General and administrative expenses for the three-month periods ended February
28, 2013 and February 29, 2012 were $317,531 and $314,451 respectively,
representing an increase of approximately $3,000, and were comprised of the
following:
Three-month Period Ended
February 28 and 29,
-------------------------------------
2013 2012 Difference
------------------ ------------------ -------------------
Salaries and related costs $ 170,017 $ 161,047 $ 8,970
General office expense 26,367 27,891 (1,524)
Legal and other professional fees and costs 18,022 46,482 (28,460)
Audit, accounting and related services 30,743 19,638 11,105
Travel, meals and entertainment 22,993 21,093 1,900
Other general and administrative 49,389 38,300 11,089
------------------ ------------------ -------------------
Total general and administrative $ 317,531 $ 314,451 $ 3,080
================== ================== ===================
Salaries and related costs, net of deferred internal policy acquisition costs,
increased approximately $9,000 and are comprised of the following:
Three-month Period Ended
February 28 and 29,
--------------------------------------
2013 2012 Difference
------------------- ------------------ -------------------
Salaries and taxes $ $ 151,266 $ 168,212 $ (16,946)
Commissions 12,391 64,486 (52,095)
Fringe benefits 21,422 20,029 1,393
Key-man insurance 13,115 12,608 507
Deferred payroll costs (28,177) (104,288) 76,111
------------------- ------------------ -------------------
Total salaries and related costs $ 170,017 $ 161,047 $ 8,970
=================== ================== ===================
-5-
The decrease in salaries and taxes is due to the retirement of an employee. The
decrease in commissions is attributable to the timing of payment of commissions
based upon collections. The Company's commission structure pays a larger
commission percentage on the origination of a policy but reduced for subsequent
policy renewals.
Legal and other professional fees and costs were comprised of the following:
Three-month Period Ended
February 28 and 29,
--------------------------------------
2013 2012 Difference
-------------------- ------------------- -----------------
General corporate services $ 5,623 $ 1,309 $ 4,314
Coal reclamation consulting 6,100 12,130 (6,030)
Acquisition and financing related costs 6,299 33,043 (26,744)
-------------------- ------------------- -----------------
Total legal and other professional fees $ 18,022 $ 46,482 $ (28,460)
==================== =================== =================
The increase in general corporate services expense results primarily from
increased legal and consulting expenses affecting the insurance subsidiary. Coal
reclamation consulting costs decreased in the current quarter compared to the
previous year due to the prior year's additional efforts to expand the surety
business into nearby states and the additional understanding needed of
regulatory issues in those states. Legal and other professional services and
costs related to the Company's pending acquisitions and on-going efforts to
obtain financing necessary to expand the Company's business and penetrate new
markets amounted to $6,299 and $33,043 for the three-month periods ended
February 28, 2013 and February 29, 2012, respectively.
Other general and administrative expense increased approximately $11,000 for the
three-month period ended February 28, 2013 as compared to the corresponding 2012
period. This increase is attributable to increases in bank fees, outside
contracted services and temporary help, as well as overall increases in several
less significant items.
INTEREST EXPENSE
Interest expense for the three-month period ended February 28, 2013 was $231,393
as compared with $220,634 for the corresponding period ended February 29, 2012.
Components of interest expense are comprised of the following:
Three-month Period Ended
February 28 and 29,
-----------------------------------
2013 2012 Difference
----------------- ----------------- -----------------
Interest expense on bridge-financing $ 146,713 $ 148,343 $ (1,630)
Expense of common shares issued or to be issued in
connection with bridge financing and other arrangements 39,155 26,984 12,171
Interest expense on demand and term notes 41,802 43,103 (1,301)
Other finance charges 3,723 2,204 1,519
----------------- ----------------- -----------------
Total interest expense $ 231,393 $ 220,634 $ 10,759
================= ================= =================
-6-
The increased expense of common shares issued (or to be issued) for the
three-month period ended February 28, 2013 as compared to the previous year
period is attributable to rise in market value of the common stock used to
calculate the price of shares to be issued for the semi-annual bridge loan
issuance. Other finance charges for the three-month period ended February 28,
2013 consists of interest charged on past due Federal and State payroll taxes.
ACCRETION AND DIVIDENDS
Accretion of mandatorily redeemable convertible preferred stock issued at a
discount and accrued dividends for three-month periods ended February 28, 2013
and February 29, 2012 are as follows:
Three-month Period Ended
February 28 and 29,
--------------------------------------
2013 2012 Difference
-------------------- ------------------ ------------------
Accrued dividends - mandatorily redeemable preferred stock $ 18,941 32,282 $ (13,341)
Accrued dividends - equity preferred stock 232,979 215,190 17,789
-------------------- ------------------ ------------------
Total accretion and dividends $ 251,920 $ 247,472 $ $ 4,448
==================== ================== ==================
The remaining Series B class of stock became treated as a liability November 30,
2009 after the majority was exchanged for Series C equity stock. Therefore, for
the three-month period ending February 28, 2013, dividends of $96,781 associated
with the Series B after November 30, 2009 are deductions from net income and not
included in the table above. For the thee-month period ending February 29, 2012,
dividends of $89,392 associated with the Series B remaining after that date are
deductions from net income and not included in the table above. During the year
ended May 31, 2012, two holders of Series A stock released all of their
outstanding bonds held with FSC. Therefore, these shares of Series A Preferred
are listed in the liability section of the Consolidated Condensed Balance Sheet
and the dividends after February 29, 2012 associated with these shares are a
deduction from net income in the amount of $14,655 (for the three-month period
ended February 28, 2013) and not included in the table above. Series C equity
stock is not mandatorily redeemable and does not accrete.
RESULTS OF OPERATIONS FOR THE NINE-MONTH PERIOD ENDED FEBRUARY 28, 2013
The Company experienced a loss from operations for the nine-month period ended
February 28, 2013 of $392,230 as compared with a loss from operations of $49,418
for the corresponding period ended February 29, 2012.
REVENUES
Revenues from operations for the nine-month period ended February 28, 2013 were
$1,032,476 as compared with $1,328,311 for the corresponding period ended
February 29, 2012. The decrease in revenues is largely attributable to the
receipt in 2012 of a cumulative No Claims Bonus from its reinsurers for the two
years ending June 30, 2010 and June 30, 2011, as well as the need to recognize
additional ceded premium in the current year in order to meet the minimum amount
-7-
set forth in the Reinsurance contract. For the nine-month period ended February
28, 2013 net investment income declined due to the re-allocation of assets in
the investment portfolio compared to the previous year. Some interest bearing
mortgage backed securities were sold at various times during the previous
twelve-month period and replaced with U.S. Treasury-backed zero coupon bonds. In
addition, investment advisory fees declined due to the decrease in the amount of
assets in portfolios under management.
INVESTMENT ADVISORY REVENUES
Quarterly revenues from the Company's investment management segment, Jacobs &
Company (J&C), net of advisory referral fees, were $140,694 for the nine-month
period ended February 28, 2013 as compared with $178,034 for the corresponding
period ended February 29, 2012. Investment advisory fees are based on the market
value of assets under management and some fluctuation will occur due to overall
market conditions. For the most part, however, such revenues will remain
relatively constant from quarter to quarter with any large fluctuations being
attributable to the growth or loss of assets under management.
INSURANCE AND INVESTMENT REVENUES
Quarterly revenues from the Company's surety insurance segment, consisting of
FSC and Triangle Surety Agency, Inc. ("TSA"), were $886,036 for the nine-month
period ended February 28, 2013 as compared with $1,142,654 for the corresponding
period ended February 29, 2012. Revenues attributable to premium earned, net
investment income and commissions earned are as follows:
Nine-month Period Ended
February 28 and 29,
-----------------------------------
2013 2012
----------------- -----------------
Premium earned $ 555,715 $ 686,527
Commissions earned 20,781 23,023
No Claims Bonus from Reinsurers 98,000 213,281
Net investment income 170,516 207,468
Net realized investment gains 41,024 12,355
----------------- -----------------
Total $ 886,036 $ 1,142,654
================= =================
Premium revenue is recognized ratably over the term of the policy period and
thus is relatively stable from period to period with fluctuations for comparable
periods generally reflecting the overall growth or loss of business. Commission
revenue is dependent on the timing of issuance or renewal of bonds and is
somewhat more seasonal quarter-to-quarter, with fluctuations for comparable
periods largely reflecting overall growth or loss of business. The decrease in
premium earned for the nine-month period ended February 28, 2013, in comparison
to the corresponding period from the prior year is a result of the need to
recognize additional ceded premium in the current year in order to meet the
minimum premium set forth in the Reinsurance contract, as well as a decrease in
premium written for existing clients.
For the nine-month period ended February 29, 2012, the Company's insurance
subsidiary, FSC, recorded $213,281 from its reinsurers representing cumulative
No Claims Bonus under the terms of its reinsurance agreement for the claim years
-8-
ending June 30, 2010 and June 30, 2011. For the nine-month period ended February
28, 2013 the Company recorded $98,000 of No Claims Bonus for the claim year
ending June 30, 2012.
Investment income should remain relatively consistent, but can fluctuate based
on interest rates and market conditions. The decrease in corresponding periods
reflects a decrease in average assets held for investment in FSC's investment
portfolio, from approximately $7.740 million for the nine-month period ended
February 29, 2012 to approximately $7.630 million for the nine-month period
ended February 28, 2013, as well as a decrease in investment yield from
approximately 3.62% for the nine-month period ended February 29, 2012 to
approximately 2.78% for the nine-month period ended February 28, 2013. This
decrease in investment yield is mostly attributable to the diversification of
some invested assets from interest earning, mortgage backed securities to
non-interest earning, zero coupon bonds. The ultimate effect of zero coupon
bonds will be reflected over the life of the bond through accretion rather than
yield. During the period, equity securities in the portfolio provided dividends
and gains from the covered call strategy utilized on the equities.
During the nine-month period ending February 28, 2013, the Company sold certain
equity investments and municipal bonds for $993,462, resulting in realized gains
of $41,024. During the nine-month period ending February 29, 2012, the Company
sold certain US Government agency mortgage backed securities and equity
investments for $186,395, resulting in realized gains of $12,355.
EXPENSES
INCURRED POLICY LOSSES
The Company has experienced no claims for losses as of February 28, 2013.
However, "incurred but not reported" (IBNR) policy losses for the nine-month
period ended February 28, 2013 and February 29, 2012 amounted to $139,258 and
$153,982 respectively. Such amounts represent the provision for loss and loss
adjustment expense that may be incurred by surety bonds issued by FSC. Those
estimates are based on industry averages adjusted for factors that are unique to
the FSC's underwriting approach and are routinely reviewed for adequacy based on
current market conditions and other factors unique to FSC's business. IBNR
policy loss provisions were approximately 25% and 22% of earned premium for the
nine-month periods ending February 28, 2013 and February 29, 2012, respectively.
The increase as a percentage of earned premium for the current period is due to
FSC's need to recognize the minimum ceded premium amount required in the
Reinsurance contract, without corresponding premium written.
POLICY ACQUISITION COSTS
Insurance policy acquisition costs of $203,325 and $225,184 for the nine-month
periods ended February 28, 2013 and February 29, 2012, respectively, represent
charges to operations for policy acquisition expense and premium tax
attributable to surety polices issued by FSC and are recognized ratably over the
period in which premiums are earned. Such costs as a percentage of earned
premium were approximately 37% and 33% for the periods ended February 28, 2013
-9-
and February 29, 2012 respectively. The increase as a percentage of earned
premium for the current period is due to FSC's need to recognize the minimum
ceded premium amount required in the Reinsurance contract, without corresponding
premium written.
GENERAL AND ADMINISTRATIVE
General and administrative expenses for the nine-month periods ended February
28, 2013 and February 29, 2012 were $1,074,109 and $990,498 respectively,
representing an increase of approximately $84,000, and were comprised of the
following:
Nine-month Period Ended
February 28 and 29,
-------------------------------------
2013 2012 Difference
------------------ ------------------ -------------------
Salaries and related costs $ 573,951 $ 510,466 $ 63,485
General office expense 81,462 83,643 (2,181)
Legal and other professional fees and costs 112,730 110,404 2,326
Audit, accounting and related services 112,613 105,693 6,920
Travel, meals and entertainment 66,074 65,030 1,044
Other general and administrative 127,279 115,262 12,017
------------------ ------------------ -------------------
Total general and administrative $ 1,074,109 $ 990,498 $ 83,611
================== ================== ===================
Salaries and related costs, net of deferred internal policy acquisition costs,
increased approximately $63,000 and are comprised of the following:
Nine-month Period Ended
February 28 and 29,
--------------------------------------
2013 2012 Difference
--------------------- ----------------- ------------------
Salaries and taxes $ 508,441 $ 436,191 $ 72,250
Commissions 26,253 120,244 (93,991)
Stock option expense - 370 (370)
Fringe benefits 72,262 65,641 6,621
Key-man life insurance 47,624 44,664 2,960
Deferred policy acquisition costs (80,629) (156,644) 76,015
--------------------- ----------------- ------------------
Total salaries and related costs $ 573,951 $ 510,466 $ 63,485
===================== ================= ==================
The increase in salaries and taxes is due to the issuance of Company stock to
its employees as compensation for services rendered. The decrease in commissions
is partially attributable to FSC's commission structure that pays a larger
commission percentage on the origination of a policy but reduced for subsequent
policy, as well as to the timing of payment of commissions based upon
collections. In addition, two customers were purchased by a multi-national firm
with existing surety capacity, resulting in the release of those bonds and the
subsequent reduced commissions.
-10-
Legal and other professional fees and costs were comprised of the following:
Nine-month Period Ended
February 28 and 29,
--------------------------------------
2013 2012 Difference
--------------------- ------------------ -----------------
General corporate services $ 25,111 $ 7,842 $ 17,269
Coal reclamation consulting 30,513 26,046 4,467
Statutory examination costs - 7,675 (7,675)
Acquisition and financing related costs 57,106 41,341 15,765
Acquisition and financing related costs - due diligence - 27,500 (27,500)
--------------------- ------------------ -----------------
Total legal and other professional fees $ 112,730 $ 110,404 $ 2,326
===================== ================== =================
The increase in general corporate services expense results primarily from
increased legal and consulting expenses affecting the insurance subsidiary.
Legal and other professional services and costs related to the Company's pending
acquisitions and on-going efforts to obtain financing necessary to expand the
Company's business and penetrate new markets amounted to $57,106 and $41,341 for
the nine-month periods ended February 28, 2013 and February 29, 2012,
respectively. In the nine-month period ending February 29, 2012, the Company
incurred costs associated with a statutory examination of its insurance
subsidiary by the West Virginia Insurance Commission. In the nine months ended
February 29, 2012, the Company incurred $27,500 in costs associated with the due
diligence performed by third parties for the benefit of investors considering a
substantial investment in the Company.
INTEREST EXPENSE
Interest expense for the nine-month period ended February 28, 2013 was $830,852
as compared with $676,745 for the corresponding period ended February 29, 2012.
Components of interest expense are comprised of the following:
Nine-month Period Ended
February 28 and 29,
-----------------------------------
2013 2012 Difference
----------------- ----------------- -----------------
Interest expense on bridge financing $ 445,028 $ 446,658 $ (1,630)
Expense of common shares issued or to be issued in
connection with bridge financing and other arrangements 248,592 96,136 152,456
Interest expense on demand and term notes 124,630 130,314 (5,684)
Other finance charges 12,602 3,637 8,965
----------------- ----------------- -----------------
Total interest expense $ 830,852 $ 676,745 $ 154,107
================= ================= =================
The increase in the expense of common shares issued (or to be issued) for the
nine-month period ended February 28, 2013, as compared to the corresponding
period of the previous year is attributable to rise in market value of the
common stock used to calculate the price of shares to be issued for the
semi-annual bridge loan issuance. Other finance charges for the nine-month
-11-
period ended February 28, 2013 consists of interest charged on past due accounts
payable and Federal and State payroll taxes.
ACCRETION AND DIVIDENDS
Accretion of mandatorily redeemable convertible preferred stock issued at a
discount and accrued dividends for nine-month periods ended February 28, 2013
and February 29, 2012 are as follows:
Nine-month Period Ended
February 28 and 29,
------------------------------------
2013 2012 Difference
------------------- ----------------- ------------------
Accrued dividends - mandatorily redeemable preferred stock $ 56,058 $ 95,542 $ (39,484)
Accrued dividends - equity preferred stock 682,826 630,690 52,136
------------------- ----------------- ------------------
Total accretion and dividends $ 738,884 $ 726,232 $ 12,652
=================== ================= ==================
The Series B class of stock became treated as a liability November 30, 2009
after the majority was exchanged for Series C equity stock. Therefore, for the
nine-month period ending February 28, 2013, dividends of $283,652 associated
with the Series B outstanding after November 30, 2009 are deductions from net
income and not included in the table above. For the nine-month period ending
February 29, 2012 accretion of $251 and dividends of $262,067 associated with
the Series B remaining after that date are deductions from net income and not
included in the table above. During the year ended May 31, 2012, two holders of
Series A stock, which matures after December 30, 2012, released all of their
outstanding bonds held with FSC. Therefore, these soon to be eligible for
redemption shares of Series A Preferred Shareholders are listed in the liability
section of the Consolidated Condensed Balance Sheet and the dividends after
February 29, 2012 associated with these shares are a deduction from net income
in the amount of $43,374 (for the nine-month period ended February 28, 2013) and
not included in the table above. Series C equity stock is not mandatorily
redeemable and does not accrete.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
INTANGIBLE ASSETS
In exchange for the purchase price of $2.9 million for the 2005 acquisition of
FSC, the Company received cash and investments held by FSC totaling $2.75
million, with the difference being attributed to the multi-line property and
casualty licenses of FSC in the states of West Virginia, Ohio and Indiana. Such
licenses have indefinite lives and are evaluated annually for recoverability and
impairment loss. Impairment loss, if any, is measured by estimating future cash
flows attributable to such assets based on forecasts and projections and
comparing such discounted cash flow amounts to the carrying value of the asset.
Should actual results differ from such forecasts and projections, such assets
may be subject to future impairment charges.
-12-
RESERVE FOR LOSSES AND LOSS EXPENSES
Reserves for unpaid losses and loss adjustment expenses of the insurance
subsidiary are estimated using individual case-basis valuations in conjunction
with estimates derived from industry and company experience. FSC has experienced
no claims for losses as of February 28, 2013.
FSC holds licenses to write coal permit and miscellaneous fixed-liability limit
surety bonds in West Virginia and Ohio. Coal permit bonds are required by
regulatory agencies to assure the reclamation of land that has been disturbed by
mining operations and accordingly is a highly regulated process by federal and
state agencies. Such bonds are generally long-term in nature with mining
operations and reclamation work conducted in unison. Additionally, no two
principals and properties are alike due to varied company structures and unique
geography and geology of each site.
In underwriting coal reclamation bonds, management obtains estimates of costs to
reclaim the relevant properties in accordance with the specifications of the
mining permit prepared by independent outside professionals experienced in this
field of work. Such estimates are updated periodically and contrasted to the
principal's pledged asset account, which FSC requires to mitigate risk exposure.
Should the principal default in its obligation to reclaim the property as
specified in the mining permit, FSC would then use the funds in the collateral
account to reclaim the property or as an offset in forfeiting the face amount of
the surety bond. Losses can occur if the costs of reclamation exceed the
estimates obtained at the time the bond was underwritten or upon subsequent
re-evaluations if sufficient collateral is not obtained or if the collateral has
experienced significant deterioration in value and FSC is not otherwise able to
recover under its contractual rights to indemnification.
In general, miscellaneous fixed-liability surety bonds are collateralized in
full by the principal's cash investment in a collateral investment account
managed by Jacobs & Co. that mitigates FSC's exposure to loss. Losses can occur
should the principal default on the performance required by the bond and the
collateral investment account experiences deterioration in value.
In establishing its reserves for losses and loss adjustment expense, management
routinely reviews its exposure to loss based on periodic monitoring and
inspection reports, along with industry averages and historical experience.
Management estimates such losses based on industry experience adjusted for
factors that are unique to the Company's approach, and in consultation with
actuaries experienced in the surety field.
ANALYSIS OF LIQUIDITY, CAPITAL RESOURCES AND FINANCIAL POSITION AND RECENT
DEVELOPMENTS AND FUTURE DIRECTION OF COMPANY
The Company experienced income (loss) from operations of approximately $16,000
and ($22,000) for the years ended May 31, 2012 and 2011, respectively. The
Company's income decreases (or loss increases) when accretion of mandatorily
redeemable convertible preferred stock and accrued dividends on mandatorily
redeemable preferred stock are taken into account, to approximately ($1,220,000)
and ($1,440,000) for the years ended May 31, 2012 and 2011, respectively.
-13-
For the nine-month period ended February 28, 2013 the Company had a loss from
operations of approximately $392,000, which, when accrued dividends on
mandatorily redeemable preferred stock are taken into account, results in a loss
of approximately $1,606,000. The Company had positive cash flow of approximately
$70,000 from operating activities for the nine-month period ended February 28,
2013. A substantial portion of the Company's cash flow is generated by its
insurance subsidiary and is subject to certain withdrawal restrictions. Despite
the continued reduction of operating expenses, the Company has not been able to
pay certain amounts due to professionals and others, continues to be unable to
pay its preferred stock dividend obligation or to cure its default in certain
quarterly payments due its bridge-financing lenders. While management expects
revenue growth and cash flow to increase significantly when its business plan is
fully implemented, it is anticipated that losses will continue and the Company
will be cash constrained until FSC develops a more substantial book of business.
The Company is restricted in its ability to withdraw monies from FSC without
prior approval of the Insurance Commissioner. Of the Company's investments and
cash of $7,748,428 as of February 28, 2013, $7,747,083 is restricted to FSC.
By Order dated March 26, 2012 the West Virginia Insurance Commissioner
terminated the conditions imposed upon FSC by Consent Order dated December 23,
2005 and the Amended Consent Order dated June 8, 2007, which, among other
conditions, included limitations before seeking license or Extension of its
Authority in other states without obtaining prior approval of the Commissioner.
Effective April 1, 2009, and continuing through annual renewals, the most recent
of which was July 1, 2012, various syndicates of Lloyd's of London have
reinsured FSC for its coal reclamation surety bonding programs. This agreement
has provided additional bonding capacity to FSC and has enabled the underwriting
of more and greater size bonds for its coal reclamation bonding clients. This
reinsurance arrangement has allowed FSC to expand its market share and increase
cash flow for each of the Company's operating subsidiaries.
Expansion of FSC's business to other states is a key component to fully
implementing the Company's business plan. In fiscal 2009, the Company was able
to increase the capital of FSC, reactivate FSC's insurance license in Ohio and
obtain authority to issue surety bonds in that state. However, management has
found that entry into other states (as a surety) has been difficult due to FSC's
relatively small capital base and the financial condition of the Company.
Management believes that if FSC's capital and surplus reserves were more
substantial and the financial condition of the Company stabilized, entry into
other states would be less challenging. Accordingly, management continues to
pursue investor relationships that will provide additional capital to its
insurance subsidiary and fund operations as the business fully develops.
As a means of alleviating obligations associated with the Company's Series B
Preferred Stock, which by its terms matured at the end of 2010, management
proposed a recapitalization to assist in stabilizing the financial position of
the Company. Holders of the Series B Preferred Stock were offered the
opportunity to exchange their Series B Shares for an equal number of shares of a
new series of JFG preferred stock designated as Series C Preferred Stock plus
2,000 shares of JFG Common Stock. Series C Preferred Stock is equal in priority
to the Series B Preferred Stock, is entitled to dividends at the same rate as
-14-
Series B Preferred Stock, is entitled to convert to common stock of the Company
at a conversion rate of $.10 per common share (in contrast to $1.00 per share
for Series B Preferred) and may be redeemed by the Company but does not have a
fixed maturity date and, thus, is classified as permanent equity. Holders of
over 70% of the outstanding Series B Preferred Shares elected to participate in
the recapitalization.
Through the sharing of resources (primarily personnel) to minimize operating
costs, the Company and its subsidiaries attempt to minimize operating expenses
and preserve resources. Although FSC is cash flow positive, the use of its
assets and profits are restricted to its stand-alone operation by regulatory
authority until its capital and surplus reserves reaches a more substantial
level. Although the growth of FSC provides additional cash flow to the Company's
other subsidiaries, Jacobs and Triangle Surety, it is anticipated that working
capital deficiencies will continue and need to be met either through the raising
of additional capital or borrowings. However, there can be no assurance that
additional capital (or debt financing) will be available when and to the extent
required or, if available, on terms acceptable to the Company. Accordingly,
concerns as to the Company's ability to continue as a going concern are
substantial. The consolidated financial statements do not include any
adjustments that might result from the outcome of this uncertainty.
The Company's exposure to the subprime mortgage risk is minimal due to its
investment in mortgage-backed securities being limited to only those securities
backed by the United States government (i.e. Government National Mortgage
Association or GNMA securities). The Company also holds municipal obligations
that have been fully defeased through the purchase of Resolution Funding
Corporation ("REFCORP") strips that were placed in escrow and provide means for
the bond repayment. REFCORP was created by the Financial Institutions Reform,
Recovery and Enforcement Act of 1989 ("FIRREA") to provide funds to the
Resolution Trust Corporation ("RTC") in order to help resolve the Savings and
Loan failures. REFCORP operates as a United States Treasury agency under the
direction of the RTC Oversight Board, whose chair is the secretary of the United
States Treasury, and its obligations are ultimately backed by the United States
government.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
------------------------------------------------------------------
As the Registrant qualifies as a small reporting company as defined by
ss.229.10(f)(1) of Regulation S-K, the Registrant is not required to provide the
information required by this item.
ITEM 4T. CONTROLS AND PROCEDURES
--------------------------------
We maintain disclosure controls and procedures designed to ensure that
information required to be disclosed in the reports that the Company files or
submits under the Securities and Exchange Act is recorded, processed,
summarized, and reported within the time periods specified in the SEC's rules
and forms, and that such information is accumulated and communicated to the
Company's management, including its Chief Executive Officer and Chief Financial
Officer, as appropriate, to allow timely decisions regarding required
disclosures.
-15-
Our management, with the participation of its Chief Executive Officer and Chief
Financial Officer, has evaluated the effectiveness of our disclosure controls
and procedures as defined in Rules 13a-15(e) under the Securities Exchange Act
of 1934, as of February 28, 2013. As previously reported in our Annual Report on
Form 10-K for the year ended May 31, 2012, control deficiencies were identified
that constitute a material weakness in internal control over financial
reporting. Such control deficiencies relate to the use of internally developed
non-integrated accounting systems, lack of internal review of account
reconciliations, and lack of internal review of general journal entries,
elimination entries and the financial statement consolidation process. Based
upon their evaluation, the Chief Executive Officer and Chief Financial Officer
concluded that the Company's disclosure controls and procedures, as of February
28, 2013, were ineffective. Changes will be considered as additional financial
resources and accounting staff become available.
Notwithstanding the above, management believes the unaudited consolidated
condensed financial statements in this Quarterly Report on Form 10-Q fairly
present, in all material respects, the Company's financial condition as of
February 28, 2013 and May 31, 2012 and the results of its operations and cash
flows for the nine month period ended February 28, 2013 and February 29, 2012 in
conformity with U.S. generally accepted accounting principals (GAAP).
-16-
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
-------------------------
None.
ITEM 1A. RISK FACTORS
---------------------
As the Registrant qualifies as a small reporting company as defined by
ss.229.10(f)(1) of Regulation S-K, the Registrant is not required to provide the
information required by this item.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES
-----------------------------------------------
Certificates of Designations, Powers, Preferences and Rights of Series A
Preferred Stock adopted by the Board of Directors of the Company on December 22,
2005 is set forth as Exhibit 4.1
In the nine months ended February 28, 2013, 2,322,000 common shares were issued
as additional consideration to various lenders in private placements pursuant to
short-term borrowings and 8,573,594 common shares were issued to the Bridge
lenders. In the nine months ended February 28, 2013, 6,999,478 common shares
were issued as additional 2% stock dividend for holders of Series B Preferred
shares that had requested to be redeemed upon maturity and 22,600,000 common
shares were issued to employees and individuals as compensation for services
rendered. Subsequent to February 28, 2013, 69,500 common shares were issued in
private placement to various individuals pursuant to short term borrowings;
8,947,444 shares were issued to the Bridge lenders; 1,994,439 common shares were
issued as stock dividends to Series B Preferred shareholders and 62,622 common
shares were issued as stock dividends to Series A Preferred shareholders.
The issuance of the aforementioned securities is exempt from registration
provisions of the Securities Act of 1933, as amended (the "Securities Act"), by
reason of the provision of Section 4(2) of the Securities Act, as transactions
not involving any public offering, in reliance upon, among other things, the
representations made by the investors, including representations regarding their
status as accredited investors (as such term is defined under Rule 501
promulgated under the Securities Act), and their acquisition of the securities
for investment and not with a current view to distribution thereof. The
securities contain a legend to the effect that such securities are not
registered under the Securities Act pursuant to an exemption from such
registration. The issuance of the securities was not underwritten.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
---------------------------------------
The Company has incurred an event of default with respect to quarterly interest
and principal payments under its bridge-financing arrangement. As of the date of
filing this report, the amount required to cure the default is $4,375,506.
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ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
-----------------------------------------------------------
None.
ITEM 5. OTHER INFORMATION
-------------------------
None.
ITEM 6. EXHIBITS
----------------
3.1 Company's Articles of Incorporation (1)
3.2 Company's By-laws (1)
3.3 Certificate of the Designations, Powers, Preferences and Rights of Series A
Preferred Stock of Jacobs Financial Group (1)
3.4 Certificate of the Designations, Powers, Preferences and Rights of Series B
Preferred Stock of Jacobs Financial Group (1)
4.1 Certificate of the Designations, Powers, Preferences and Rights of Series A
Preferred Stock of Jacobs Financial Group (1)
4.2 Certificate of the Designations, Powers, Preferences and Rights of Series B
Preferred Stock of Jacobs Financial Group (1)
10.1 Agreement to acquire by merger Reclamation Surety Holding Company, Inc. (2)
(4)
10.2 Stock Purchase Agreement with National Indemnity Company to purchase Unione
Italiana Insurance Company of America dated August 20, 2008 (5) (6)
31.1 Certification of Chief Executive Officer and Chief Financial Officer
pursuant to Rule 13a-146.1 promulgated under the Securities Exchange Act of
1934
32.1 Certification of Chief Executive Officer and Chief Financial Officer
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of
the Sarbanes-Oxley Act of 2002
99.1 Form of Subscription Agreement and Promissory Note (Bridge-financing) (3)
--------------------------------------------------------------------------------
(1) Incorporated by reference to the Company's Current Report on form 8-K
dated December 29, 2005.
(2) Incorporated by reference to the Company's Current Report on form 8-K
dated February 8, 2008.
(3) Incorporated by reference to the Company's Current Report on form 8-K
dated June 6, 2008
(4) Incorporated by reference to the Company's Current Report on form 8-K
dated June 24, 2008
(5) Incorporated by reference to the Company's Current Report on form 8-K
dated August 20, 2008
(6) Incorporated by reference to the Company's Current Report on form 8-K
dated November 13, 2008
-18-
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Date: April 22, 2013 JACOBS FINANCIAL GROUP, INC.
----------------------------------------------
(Registrant)
By:
/s/John M. Jacobs
----------------------------------------------
John M. Jacobs, President
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