NATIONAL HOLDINGS CORP - FORM 10-Q

Attached files

file	filename
EX-32.2 - EXHIBIT 32.2 - NATIONAL HOLDINGS CORP	exhibit322nhld06302020.htm
EX-32.1 - EXHIBIT 32.1 - NATIONAL HOLDINGS CORP	exhibit321nhld06302020.htm
EX-31.2 - EXHIBIT 31.2 - NATIONAL HOLDINGS CORP	exhibit312nhld06302020.htm
EX-31.1 - EXHIBIT 31.1 - NATIONAL HOLDINGS CORP	exhibit311nhld06302020.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-Q

(Mark One)



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

For the quarterly period ended June 30, 2020



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

Commission File Number: 001-12629

NATIONAL HOLDINGS CORPORATION

(Exact name of registrant as specified in its charter)



Delaware	36-4128138
(State or other jurisdiction of	(I.R.S. Employer
incorporation or organization)	Identification No.)

200 Vesey Street, 25th Floor

New York, NY 10281

(Address of principal executive offices) (Zip Code)

Registrant’s telephone number, including area code: (212) 417-8000

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



Title of each class	Trading Symbol(s)	Name of each exchange on which registered:
Common Stock, $0.02 par value per share	NHLD	The Nasdaq Capital Market

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

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer”, “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.



Large Accelerated Filer	☐	Accelerated Filer	☐

Non-Accelerated Filer	☒	Smaller Reporting Company	☒

		Emerging Growth Company	☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). YES ☐ NO☒

As of July 31, 2020 there were 13,584,593 shares of the registrant’s common stock outstanding.

NATIONAL HOLDINGS CORPORATION

FORM 10-Q

QUARTERLY PERIOD ENDED JUNE 30, 2020

INDEX



PART I – FINANCIAL INFORMATION

	Item 1 – Condensed Financial Statements

		Condensed Consolidated Statements of Financial Condition as of June 30, 2020 (unaudited) and September 30, 2019	4

		Condensed Consolidated Statements of Operations for the three and nine months ended June 30, 2020 and 2019 (unaudited)	5

		Condensed Consolidated Statements of Changes in Stockholders’ Equity for the nine months ended June 30, 2020 and 2019 (unaudited)	6

		Condensed Consolidated Statements of Cash Flows for the nine months ended June 30, 2020 and 2019 (unaudited)	8

		Notes to Condensed Consolidated Financial Statements	10

	Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations		33

	Item 3 – Quantitative and Qualitative Disclosures About Market Risk		41

	Item 4 – Controls and Procedures		42

PART II – OTHER INFORMATION

	Item 1 – Legal Proceedings		43

	Item 1A – Risk Factors		43

	Item 2 – Unregistered Sales of Equity Securities and Use of Proceeds		43

	Item 3 – Defaults Upon Senior Securities		43

	Item 4 – Mine Safety Disclosures		43

	Item 5 – Other Information		43

	Item 6 – Exhibits		44

	Signatures		45

FORWARD-LOOKING STATEMENTS

The following information provides cautionary statements under the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. We identify important factors that could cause our actual results to differ materially from those projected in forward-looking statements we make in this report or in other documents that reference this report. All statements that express or involve discussions as to: expectations, beliefs, plans, objectives, assumptions or future events or performance (often, but not always, identified through the use of words or phrases such as we or our management believes, expects, anticipates or hopes and words or phrases such as will result, are expected to, will continue, is anticipated, estimated, projection and outlook, and words of similar import) are not statements of historical facts and may be forward-looking. These forward-looking statements are based largely on our expectations and are subject to a number of risks and uncertainties including, but not limited to, economic, competitive, regulatory, growth strategies, available financing and other factors discussed elsewhere in this report and in the documents filed by us with the Securities and Exchange Commission (“SEC”). Many of these factors are beyond our control. Actual results could differ materially from the forward-looking statements we make in this report or in other documents that reference this report. In light of these risks and uncertainties, there can be no assurance that the results anticipated in the forward-looking information contained in this report or other documents that reference this report will, in fact, occur.

These forward-looking statements involve estimates, assumptions and uncertainties, and, accordingly, actual results could differ materially from those expressed in the forward-looking statements. These uncertainties include, among others, the following: (i) general economic conditions; (ii) our ability to obtain future financing or funds when needed; (iii) our ability to maintain sufficient regulatory net capital; (iv) the ability of our broker-dealer operations to operate profitably in the face of intense competition from larger full service and discount brokers; (v) a general decrease in merger and acquisition activities and our potential inability to receive success fees as a result of transactions not being completed; (vi) increased competition from business development portals; (vii) technological changes; (viii) our potential inability to implement our growth strategy through acquisitions or joint ventures; (ix) acquisitions, business combinations, strategic partnerships, divestures, and other significant transactions may involve additional uncertainties; (x) our continued ability to maintain and execute our business strategy; (xi) the impact of the ongoing COVID-19 pandemic on our business operations; and (xii) the previously announced offer from B. Riley Financial regrading a potential transaction involving our shares of common stock.

Any forward-looking statement speaks only as of the date on which such statement is made, and we undertake no obligation to update any forward-looking statement to reflect events or circumstances after the date on which such statement is made or to reflect the occurrence of unanticipated events, except as required by law. New factors emerge from time to time and it is not possible for our management to predict all of such factors, nor can our management assess the impact of each such factor on the business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statement.

PART I. FINANCIAL INFORMATION

ITEM I. FINANCIAL STATEMENTS

NATIONAL HOLDINGS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION



	June 30, 2020 (Unaudited)			September 30, 2019
ASSETS
Cash	$	30,594,000		$	30,443,000
Restricted cash	961,000			960,000
Cash deposits with clearing organizations	653,000			436,000
Securities owned, at fair value	7,891,000			12,481,000
Receivables from broker-dealers and clearing organizations	3,645,000			3,490,000
Forgivable loans receivable	4,244,000			1,834,000
Other receivables, net	11,056,000			5,672,000
Prepaid expenses	3,396,000			3,639,000
Fixed assets, net	4,523,000			5,067,000
Intangible assets, net	10,420,000			5,441,000
Goodwill	7,903,000			5,153,000
Deferred tax asset, net	4,776,000			4,560,000
Operating lease assets	14,637,000			—
Other assets	1,475,000			2,031,000
Total Assets	$	106,174,000		$	81,207,000

LIABILITIES AND STOCKHOLDERS’ EQUITY

Liabilities
Accrued commissions and payroll payable	$	17,746,000		$	18,590,000
Accounts payable and accrued expenses	8,381,000			8,643,000
Deferred clearing and marketing credits	210,000			367,000
Contingent consideration	6,850,000			1,620,000
Operating lease liabilities	16,858,000			—
PPP loans	6,509,000			—
Other	1,870,000			388,000
Total Liabilities	58,424,000			29,608,000

Commitments and Contingencies (Note 13)

Stockholders’ Equity
Preferred stock, $0.01 par value, 10,000,000 shares authorized; none outstanding	—			—
Common stock $0.02 par value, authorized 75,000,000 shares at June 30, 2020 and September 30, 2019; 13,584,593 shares issued and outstanding at June 30, 2020 and 13,158,441 shares issued and outstanding at September 30, 2019	271,000			263,000
Additional paid-in-capital	92,336,000			90,354,000
Accumulated deficit	(44,857,000		)	(40,779,000		)
Total National Holdings Corporation Stockholders’ Equity	47,750,000			49,838,000
Non-controlling interest	—			1,761,000
Total Stockholders’ Equity	47,750,000			51,599,000

Total Liabilities and Stockholders’ Equity	$	106,174,000		$	81,207,000

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

NATIONAL HOLDINGS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)



	Three Month Period Ended June 30,						Nine Month Period Ended June 30,
	2020			2019			2020			2019
Revenues
Commissions	$	30,821,000		$	21,434,000		$	85,141,000		$	65,246,000
Net dealer inventory gains	1,421,000			167,000			1,393,000			933,000
Investment banking	14,730,000			15,824,000			37,515,000			52,692,000
Investment advisory	8,709,000			7,577,000			25,371,000			18,949,000
Interest and dividends	870,000			1,434,000			3,389,000			4,430,000
Transaction fees and clearing services	2,262,000			1,465,000			6,216,000			5,202,000
Tax preparation and accounting	2,807,000			2,675,000			8,046,000			7,572,000
Other	96,000			199,000			370,000			559,000
Total Revenues	61,716,000			50,775,000			167,441,000			155,583,000

Operating Expenses
Commissions, compensation and fees	53,183,000			42,077,000			147,825,000			132,120,000
Clearing fees	611,000			492,000			1,689,000			1,781,000
Communications	814,000			720,000			2,587,000			2,239,000
Occupancy	1,349,000			966,000			3,742,000			2,872,000
License and registration	1,084,000			934,000			3,067,000			2,260,000
Professional fees	2,360,000			1,130,000			6,431,000			4,848,000
Interest	26,000			8,000			63,000			26,000
Depreciation and amortization	755,000			461,000			2,098,000			1,320,000
Other administrative expenses	2,174,000			2,773,000			6,133,000			9,484,000
Total Operating Expenses	62,356,000			49,561,000			173,635,000			156,950,000
Income (Loss) before Other Income (Expense) and Income Taxes	(640,000		)	1,214,000			(6,194,000		)	(1,367,000		)

Other Income (Expense)
Gain on disposal of National Tax branch	—			—			297,000			—
Other income (expense)	10,000			6,000			131,000			18,000
Total Other Income	10,000			6,000			428,000			18,000
Income (Loss) before Income Taxes	(630,000		)	1,220,000			(5,766,000		)	(1,349,000		)

Income tax expense (benefit)	(235,000		)	88,000			(1,412,000		)	(652,000		)
Net Income (Loss)	(395,000		)	1,132,000			(4,354,000		)	(697,000		)

Net (income) loss attributable to non-controlling interest	(327,000		)	(899,000		)	276,000			(899,000		)
Net income (loss) attributable to National Holdings Corporation common shareholders	$	(722,000	)	$	233,000		$	(4,078,000	)	$	(1,596,000	)

Net income (loss) per share attributable to National Holdings Corporation common shareholders - Basic	$	(0.05	)	$	0.02		$	(0.31	)	$	(0.13	)
Net income (loss) per share attributable to National Holdings Corporation common shareholders - Diluted	$	(0.05	)	$	0.02		$	(0.31	)	$	(0.13	)

Weighted average number of shares outstanding - Basic	13,516,869			12,931,660			13,349,669			12,751,712
Weighted average number of shares outstanding - Diluted	13,516,869			13,251,379			13,349,669			12,751,712

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

NATIONAL HOLDINGS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY

(Unaudited)

FOR THE NINE MONTHS ENDED JUNE 30, 2020 AND 2019



	Common Stock			Additional Paid-in- Capital			Accumulated Deficit			Non-controlling Interest			Total Stockholders’ Equity
	Shares	$		Additional Paid-in- Capital			Accumulated Deficit			Non-controlling Interest			Total Stockholders’ Equity
Balance, September 30, 2019	13,158,441	$	263,000	$	90,354,000		$	(40,779,000	)	$	1,761,000		$	51,599,000
Stock-based compensation for restricted stock units	—	—		907,000			—			—			907,000
Issuance of shares of common stock with respect to vested restricted stock units, net of 52,291 shares valued at $139,000 tendered for tax withholding	120,394	2,000		(141,000		)	—			—			(139,000		)
Net income (loss)	—	—		—			(1,593,000		)	94,000			(1,499,000		)
Balance, December 31, 2019	13,278,835	265,000		91,120,000			(42,372,000		)	1,855,000			50,868,000
Stock-based compensation for restricted stock units	—	—		538,000			—			—			538,000
Issuance of shares of common stock with respect to vested restricted stock units, net of 48,689 shares valued at $131,000 tendered for tax withholding	197,684	4,000		(135,000		)	—			—			(131,000		)
Net loss	—	—		—			(1,763,000		)	(697,000		)	(2,460,000		)
Balance, March 31, 2020	13,476,519	269,000		91,523,000			(44,135,000		)	1,158,000			48,815,000
Stock-based compensation for restricted stock units	—	—		873,000			—			—			873,000
Issuance of shares of common stock with respect to vested restricted stock units, net of 40,807 shares valued at $58,000 tendered for tax withholding	108,074	2,000		(60,000		)	—			—			(58,000		)
Distributions to non-controlling interest	—	—		—			—			(1,485,000		)	(1,485,000		)
Net income (loss)	—	—		—			(722,000		)	327,000			(395,000		)
Balance, June 30, 2020	13,584,593	$	271,000	$	92,336,000		$	(44,857,000	)	$	—		$	47,750,000

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

NATIONAL HOLDINGS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS’ EQUITY, CONTINUED

(Unaudited)

FOR THE NINE MONTHS ENDED JUNE 30, 2020 AND 2019



	Common Stock			Additional Paid-in- Capital			Accumulated Deficit			Non-controlling Interest		Total Stockholders’ Equity
	Shares	$		Additional Paid-in- Capital			Accumulated Deficit			Non-controlling Interest		Total Stockholders’ Equity
Balance, September 30, 2018	12,541,890	$	250,000	$	86,510,000		$	(39,825,000	)	$	—	$	46,935,000
Cumulative effect of adoption of ASC 606							(135,000		)			(135,000		)
Balance, Balance, October 1, 2018	12,541,890	250,000		86,510,000			(39,960,000		)	—		46,800,000
Stock-based compensation for restricted stock units	—	—		1,322,000			—			—		1,322,000
Issuance of shares of common stock with respect to vested restricted stock units, net of 31,762 shares valued at $101,000 tendered for tax withholding	68,655	2,000		(103,000		)	—			—		(101,000		)
Net income	—	—		—			956,000			—		956,000
Balance, December 31, 2018	12,610,545	252,000		87,729,000			(39,004,000		)	—		48,977,000
Issuance of shares of common stock for warrant exercises	38	—		—			—			—		—
Stock-based compensation for restricted stock units	—	—		1,480,000			—			—		1,480,000
Issuance of shares of common stock with respect to vested restricted stock units, net of 45,228 shares valued at $131,000 tendered for tax withholding	289,283	6,000		(137,000		)	—			—		(131,000		)
Net loss	—	—		—			(2,785,000		)	—		(2,785,000		)
Balance, March 31, 2019	12,899,866	258,000		89,072,000			(41,789,000		)	$	—	47,541,000
Stock-based compensation for restricted stock units	—	—		720,000			—			—		720,000
Issuance of shares of common stock with respect to vested restricted stock units and awards, net of 43,726 shares valued at $127,000 tendered for tax withholding	165,098	3,000		(130,000		)	—			—		(127,000		)
Net income	—	—		—			233,000			899,000		1,132,000
Balance, June 30, 2019	13,064,964	$	261,000	$	89,662,000		$	(41,556,000	)	$	899,000	$	49,266,000

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

NATIONAL HOLDINGS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)



	For The Nine Month Period Ended June 30,
	2020			2019
CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss)	$	(4,354,000	)	$	(697,000	)
Adjustments to reconcile net income (loss) to net cash (used in) provided by operating activities
Depreciation and amortization	2,098,000			1,320,000
Amortization of forgivable loans	649,000			500,000
Stock-based compensation	2,318,000			3,522,000
Provision (recovery) for doubtful accounts	253,000			(93,000		)
Amortization of deferred clearing and marketing credit	(157,000		)	(157,000		)
Increase in fair value of contingent consideration	74,000			47,000
Deferred tax (benefit) expense	(1,412,000		)	26,000
Gain on disposal of National Tax branch	(297,000		)	—
Amortization of operating lease assets	2,366,000			—
Changes in assets and liabilities, net of business acquisitions
Cash deposits with clearing organizations	(10,000		)	—
Securities owned, at fair value	5,701,000			197,000
Receivables from broker-dealers and clearing organizations	(106,000		)	715,000
Forgivable loans receivable	(3,238,000		)	(549,000		)
Other receivables, net	(4,677,000		)	(1,857,000		)
Prepaid expenses	675,000			(724,000		)
Other assets	69,000			68,000
Accrued commissions and payroll payable, accounts payable and accrued expenses and other liabilities	(1,343,000		)	(1,908,000		)
Securities sold, but not yet purchased, at fair value	(203,000		)	1,000
Net cash provided by (used in) operating activities	(1,594,000		)	411,000

CASH FLOWS FROM INVESTING ACTIVITIES
Acquisition of businesses, net of cash received (Note 7)	(2,021,000		)	(387,000		)
Purchase of fixed assets	(119,000		)	(1,686,000		)
Collection on notes receivable	59,000			86,000
Net cash used in investing activities	(2,081,000		)	(1,987,000		)

CASH FLOWS FROM FINANCING ACTIVITIES
Repurchase of common stock for tax withholding	(328,000		)	(359,000		)
Principal payments under finance lease obligations	(175,000		)	(166,000		)
Principal payments under finance obligations	(222,000		)	(225,000		)
Proceeds from PPP related loans	6,497,000			—
Contingent consideration payments	(460,000		)	(457,000		)
Distributions to non-controlling interest	(1,485,000		)	—
Net cash provided by (used in) financing activities	3,827,000			(1,207,000		)

NET INCREASE (DECREASE) IN CASH AND RESTRICTED CASH	152,000			(2,783,000		)

CASH AND RESTRICTED CASH BALANCE
Beginning of the period	31,403,000			29,273,000
End of the period	$	31,555,000		$	26,490,000

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

NATIONAL HOLDINGS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS, CONTINUED

(Unaudited)



	For The Nine Month Period Ended June 30,
	2020			2019
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid during the period for:
Interest	$	43,000		$	26,000
Income taxes, net of refunds	$	58,000		$	162,000

SUPPLEMENTAL DISCLOSURES OF NONCASH INVESTING AND FINANCING ACTIVITIES
Fixed assets (acquired but not paid)	$	7,000		$	40,000
Finance obligation	$	—		$	958,000
Businesses acquired (See Note 7)
Assets acquired including goodwill	$	10,121,000		$	1,815,000
Contingent consideration payable	(5,616,000		)	(1,428,000		)
Additional consideration payable (net operating capital)	(873,000		)	—
Escrow deposit	(500,000		)	—
Cash received	(1,111,000		)	—
Cash paid, net of cash received	$	2,021,000		$	387,000
Sale of National Tax branch:
Notes receivable (included in other receivables)	$	636,000		$	—
Disposal of goodwill	(239,000		)	—
Disposal of intangible assets, net	(100,000		)	—
Gain on disposal of National Tax branch	$	297,000		$	—

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

NATIONAL HOLDINGS CORPORATION AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

JUNE 30, 2020

(Unaudited)

NOTE 1. BASIS OF PRESENTATION

The accompanying condensed consolidated financial statements of the Company have been prepared in accordance with generally accepted accounting principles in the United States (“GAAP”) for interim financial statements and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and disclosures required for annual financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. The condensed consolidated financial statements as of June 30, 2020 and for the three and nine months ended June 30, 2020 and 2019 are unaudited. The results of operations for the interim periods are not necessarily indicative of the results of operations for the respective fiscal years. The consolidated statement of financial condition at September 30, 2019 has been derived from the audited financial statements at that date, but does not include all of the information and notes required by GAAP for complete financial statement presentation. The accompanying consolidated financial information should be read in conjunction with the Company's Annual Report on Form 10-K for the fiscal year ended September 30, 2019 for additional disclosures and accounting policies.

Certain items in the condensed consolidated statement of operations for the fiscal 2019 period have been reclassified to conform to the presentation in the fiscal 2020 period. Such reclassifications did not have a material impact on the presentation of the overall financial statements.

Non-controlling Interest

The Company’s wholly-owned subsidiary, National Asset Management, Inc., a Washington corporation (“NAM”) has a majority voting interest in Innovation X Management, LLC (“Innovation X”), which together serve as the investment manager of an investment fund (See Note 19). Because NAM has the majority voting interest in Innovation X, the results of operations of Innovation X are included in the Company's consolidated financial statements, and the amount attributable to the other investor is recorded as a non-controlling interest.

NOTE 2. ORGANIZATION AND DESCRIPTION OF BUSINESS

National Holdings Corporation (“National” or the “Company”), a Delaware corporation organized in 1996, operates through its wholly-owned subsidiaries which principally provide financial services. Through its broker-dealer and investment advisory subsidiaries, the Company (1) offers full service retail brokerage and investment advisory services to individual, corporate and institutional clients, (2) provides investment banking, merger, acquisition and advisory services to micro, small and mid-cap high growth companies and (3) engages in trading securities, including making markets in micro and small-cap, NASDAQ and other exchange listed stocks.

The Company's broker-dealer subsidiary is National Securities Corporation, a Washington corporation (“NSC”). NSC conducts a national securities brokerage business through its main offices in New York City, New York and Boca Raton, Florida. NSC is an introducing broker and clears all transactions through clearing organizations, on a fully disclosed basis. NSC is registered with the Securities and Exchange Commission (“SEC”) and is a member of the Financial Industry Regulatory Authority (“FINRA”) and the Securities Investor Protection Corporation (the “SIPC”).

The Company’s wholly-owned subsidiary, NAM, is a federally-registered investment adviser providing asset management advisory services to retail clients for a fee based upon a percentage of assets managed.

The Company’s wholly-owned subsidiaries, National Insurance Corporation, a Washington corporation (“National Insurance”) and Prime Financial Services, a Delaware corporation (“Prime Financial”), provide fixed insurance products to their clients, including life insurance, disability insurance, long term care insurance and fixed annuities.

The Company’s wholly-owned subsidiary, National Tax and Financial Services, Inc. (“National Tax”), provides tax preparation and accounting services to individuals and small to midsize companies.

The Company’s wholly-owned subsidiary, GC Capital Corporation (“GC”), provides licensed mortgage brokerage services in New York and Florida.

On December 31, 2019, the Company completed its acquisition of all of the outstanding equity interests of Winslow Evans & Crocker, Inc., a Massachusetts corporation (“WEC”), Winslow, Evans & Crocker Insurance Agency, Inc., a Massachusetts corporation (“WIA”), and Winslow Financial, Inc., a Massachusetts corporation (“WF”). See Note 7 for additional information.

NOTE 3. RECEIVABLES FROM BROKER-DEALERS AND CLEARING ORGANIZATIONS AND OTHER RECEIVABLES

At June 30, 2020 and September 30, 2019, the receivables of $3,645,000 and $3,490,000, respectively, from broker-dealers and clearing organizations represent net amounts due for fees and commissions associated with the Company’s retail brokerage business as well as asset-based fee revenues associated with the Company’s investment advisory business.

Other receivables at June 30, 2020 and September 30, 2019 consist of the following:



	June 30,			September 30,
	2020			2019
Trailing fees	$	1,713,000		$	947,000
Accounts receivable for tax and accounting services	997,000			686,000
Allowance for doubtful accounts - tax and accounting services	(399,000		)	(282,000		)
Advances to registered representatives	2,012,000			1,383,000
Investment banking receivable	1,630,000			411,000
Advisory fees	522,000			483,000
Notes receivable	1,235,000			665,000
Other	3,346,000			1,379,000
Total other receivables, net	$	11,056,000		$	5,672,000

NOTE 4. FORGIVABLE LOANS RECEIVABLE

From time to time, the Company’s operating subsidiaries may make loans, evidenced by promissory notes, primarily to newly recruited independent financial advisors as an incentive for their affiliation. The notes receivable balance is comprised of unsecured non-interest-bearing and interest-bearing loans (weighted average interest rate of 4%). These notes have various schedules for repayment or forgiveness based on production or retention requirements being met and mature at various dates through 2029. Forgiveness of loans amounted to $649,000 and $500,000 for the nine months ended June 30, 2020 and 2019, respectively, and the related compensation was included in commissions, compensation and fees in the condensed consolidated statements of operations. In the event the advisor’s affiliation with the subsidiary terminates, the advisor is required to repay the unamortized balance of any notes payable.

The Company provides an allowance for doubtful accounts on the notes based on historical collection experience and continually evaluates the receivables for collectability and possible write-offs where a loss is deemed probable. As of June 30, 2020 and September 30, 2019, no allowance for doubtful accounts was required.

Forgivable loan activity for the nine months ended June 30, 2020 is as follows:



Balance, September 30, 2019	$	1,834,000
Additions	3,238,000
Acquired through the Winslow acquisition (see Note 7)	91,000
Amortization	(649,000		)
Reclassification to other receivables	(270,000		)
Balance, June 30, 2020	$	4,244,000

NOTE 5. FAIR VALUE OF ASSETS AND LIABILITIES

Authoritative accounting guidance defines fair value, establishes a framework for measuring fair value, and establishes a fair value hierarchy which prioritizes the inputs to valuation techniques. 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. A fair value measurement assumes that the transaction to sell the asset or transfer the liability occurs in the principal market for the asset or liability or, in the absence of a principal market, the most advantageous market. Valuation techniques that are consistent with the market or income approach are used to measure fair value.

The fair value hierarchy ranks the quality and reliability of the information used to determine fair values. Financial assets and liabilities carried at fair value are classified and disclosed in one of the following three categories:

Level 1 - Unadjusted quoted prices in active markets for identical assets or liabilities.

Level 2 - Inputs other than quoted market prices that are observable, either directly or indirectly, and reasonably available. Observable inputs reflect the assumptions market participants would use in pricing the asset or liability and are developed based on market data obtained from sources independent of the Company.

Level 3 - Unobservable inputs which reflect the assumptions that the Company develops based on available information about what market participants would use in valuing the asset or liability.

The following tables present the carrying values and estimated fair values at June 30, 2020 and September 30, 2019 of financial assets and liabilities, excluding financial instruments that are carried at fair value on a recurring basis, and information is provided on their classification within the fair value hierarchy. Such instruments are carried at amounts that approximate fair value due to their short-term nature and generally negligible credit risk.



	June 30, 2020
Assets	Carrying Value		Level 1		Level 2		Total Estimated Fair Value
Cash	$	30,594,000	$	30,594,000	$	—	$	30,594,000
Cash deposits with clearing organizations	653,000		653,000		—		653,000
Receivables from broker-dealers and clearing organizations	3,645,000		—		3,645,000		3,645,000
Forgivable loans receivable	4,244,000		—		4,244,000		4,244,000
Other receivables, net	11,056,000		—		11,056,000		11,056,000
	$	50,192,000	$	31,247,000	$	18,945,000	$	50,192,000

Liabilities
Accrued commissions and payroll payable	$	17,746,000	$	—	$	17,746,000	$	17,746,000
Accounts payable and accrued expenses	8,381,000		—		8,381,000		8,381,000
	$	26,127,000	$	—	$	26,127,000	$	26,127,000



	September 30, 2019
Assets	Carrying Value		Level 1		Level 2		Total Estimated Fair Value
Cash	$	30,443,000	$	30,443,000	$	—	$	30,443,000
Cash deposits with clearing organizations	436,000		436,000		—		436,000
Receivables from broker-dealers and clearing organizations	3,490,000		—		3,490,000		3,490,000
Forgivable loans receivable	1,834,000		—		1,834,000		1,834,000
Other receivables, net	5,672,000		—		5,672,000		5,672,000
	$	41,875,000	$	30,879,000	$	10,996,000	$	41,875,000

Liabilities
Accrued commissions and payroll payable	$	18,590,000	$	—	$	18,590,000	$	18,590,000
Accounts payable and accrued expenses	8,643,000		—		8,643,000		8,643,000
	$	27,233,000	$	—	$	27,233,000	$	27,233,000

The following tables present the financial assets and liabilities measured at fair value on a recurring basis at June 30, 2020 and September 30, 2019:



	June 30, 2020
Assets	Carrying Value		Level 1		Level 2		Level 3		Total Estimated Fair Value
Securities owned:
Corporate stocks	$	793,000	$	793,000	$	—	$	—	$	793,000
Municipal bonds	320,000		320,000		—		—		320,000
Restricted stock	799,000		—		799,000		—		799,000
Corporate bonds	1,216,000				1,216,000		—		1,216,000
Warrants	4,763,000		—		801,000		3,962,000		4,763,000
	$	7,891,000	$	1,113,000	$	2,816,000	$	3,962,000	$	7,891,000

Liabilities
Contingent consideration	$	6,850,000	$	—	$	—	$	6,850,000	$	6,850,000
	$	6,850,000	$	—	$	—	$	6,850,000	$	6,850,000



	September 30, 2019
Assets	Carrying Value		Level 1		Level 2		Level 3		Total Estimated Fair Value
Securities owned:
Corporate stocks	$	6,282,000	$	6,282,000	$	—	$	—	$	6,282,000
Municipal bonds	20,000		20,000		—		—		20,000
Restricted stock	725,000		—		725,000		—		725,000
Warrants	5,454,000		—		1,529,000		3,925,000		5,454,000
	$	12,481,000	$	6,302,000	$	2,254,000	$	3,925,000	$	12,481,000

Liabilities
Contingent consideration	$	1,620,000	$	—	$	—	$	1,620,000	$	1,620,000
	$	1,620,000	$	—	$	—	$	1,620,000	$	1,620,000

Changes in Level 3 assets measured at fair value on a recurring basis for the nine months ended June 30, 2020:



	Beginning Balance as of September 30, 2019		Net realized Gain or (losses)		Net Change in Unrealized Appreciation (Depreciation)			Purchases		Sales		Transfer Into Level 3 (a)		Transfer Out of Level 3		Ending Balance as of June 30, 2020
Assets
Warrants	$	3,925,000	$	—	$	(105,000	)	$	—	$	—	$	142,000	$	—	$	3,962,000

(a) The Company received warrants as part of investment banking transactions.

See changes in Level 3 liabilities (contingent consideration) measured at fair value on a recurring basis for the nine months ended June 30, 2020 in Note 7.

The table below presents information on the valuation techniques, significant unobservable inputs and their ranges for the Company’s financial assets measured at fair value on a recurring basis with a significant Level 3 balance.



Financial Instruments Owned	Fair Value		Valuation Technique	Significant Unobservable Input(s)	Input/Range
Warrants	$	3,962,000	Market Approach	Discount for lack of marketability Volatility	26% - 43% 66% - 115%

Certain positions in common stock and warrants were received as compensation for investment banking services. Restricted common stock and warrants may be freely traded only upon the effectiveness of a registration statement covering them or upon the satisfaction of the requirements of Rule 144, including the requisite holding period. The unrealized (loss) gain for the change in fair value of such positions for the nine months ended June 30, 2020 and 2019 amounted to approximately $(989,000) and $(1,065,000), respectively, which is included in net dealer inventory losses.

Warrants are carried at fair value as determined by using the Black-Scholes option pricing model. This model takes into account the underlying securities’ current market values, the underlying securities’ market volatility, the terms of the warrants, exercise prices, and the risk-free return rate. A discount is applied for the warrants’ lack of marketability. The discount is based on the value of a protective put.

Debt securities are valued based on recently executed transactions.

NOTE 6. FIXED ASSETS

Fixed assets as of June 30, 2020 and September 30, 2019 consist of the following:



	June 30, 2020			September 30, 2019			Estimated Useful Lives
Equipment and software	$	1,973,000		$	1,835,000		3 - 7
Furniture and fixtures	840,000			761,000			5
Leasehold improvements	3,651,000			3,662,000			Lesser of useful life or term of lease
Finance leases (primarily composed of computer equipment)	907,000			907,000			3 - 7
	7,371,000			7,165,000
Less accumulated depreciation and amortization	(2,848,000		)	(2,098,000		)
Fixed assets, net	$	4,523,000		$	5,067,000

Depreciation expense associated with fixed assets for the three months ended June 30, 2020 and 2019 was $255,000 and $168,000, respectively.

Depreciation expense associated with fixed assets for the nine months ended June 30, 2020 and 2019 was $750,000 and $509,000, respectively.

NOTE 7. BUSINESS COMBINATION, CONTINGENT CONSIDERATION AND DISPOSAL OF BRANCH

Tax & Accounting Acquisitions

In December 2019 and January 2020, National Tax acquired certain assets of two tax preparation and accounting businesses that per accounting guidance were deemed to be a business combination. The consideration for the transactions consisted of cash payments at closing totaling $432,000, and contingent consideration payable in cash having a fair value of $1,595,000, for which a liability (included in contingent consideration) was recognized based on the estimated acquisition date fair value of the potential earn-outs. The earn-outs are based on revenue, as defined in the acquisition agreements, during various periods following the closing. The fair value of the acquired assets totaling $2,027,000 was allocated to customer relationships, which are being amortized over seven years.

The contingent consideration liability recognized in the above acquisitions was valued using an income-based approach using unobservable inputs (Level 3) and reflects the Company’s own assumptions. The liabilities will be revalued at each balance sheet date with changes therein recorded in earnings. Results of operations of the acquired business is included in the accompanying condensed consolidated statements of operations from the date of acquisition and was not material. In addition, based on materiality, pro forma results are not presented.

Winslow Acquisition

On August 26, 2019, the Company entered into a stock purchase agreement (as amended, the “Winslow Agreement” and the transactions contemplated thereunder, the “Winslow Acquisition”) whereby the Company agreed to acquire all of the outstanding equity interests (the “Purchased Shares”) of Winslow Evans & Crocker, Inc. (“WEC”), Winslow, Evans & Crocker Insurance Agency, Inc. (“WIA”), and Winslow Financial, Inc. (“WF” and collectively with WEC and WIA, the “Winslow Targets”). The Company entered into an amendment to the Winslow Agreement on October 11, 2019, to reflect certain clarifications to the terms of the Winslow Agreement as agreed to by the parties.

On December 31, 2019, the Company completed the acquisition of all of the outstanding equity interests of the Winslow Targets.

Under the terms of the Winslow Agreement, at the closing of the Winslow Acquisition, the Company acquired the Purchased Shares for an aggregate purchase price of approximately $3.2 million paid at closing in cash, subject to certain adjustments, plus additional consideration to be based on (i) the amount of net operating capital of WEC and WF as of the closing, payable in three annual installments and not to exceed $1.0 million in the aggregate, (ii) the aggregate pre-tax net income (loss) of the Winslow Targets through September 22, 2022, provided that such additional consideration shall not be less than $1.5 million and shall not exceed $3.0 million in the aggregate, and (iii) a portion of the synergies achieved through September 20, 2022. At the signing of the Winslow Agreement, the Company deposited $500,000 into escrow, which was applied to the amount payable at closing.

WEC is a Boston-based, full-service investment firm established in 1991. WEC is an SEC Registered Investment Advisor and a FINRA registered broker-dealer. More than 50 financial professionals including Certified Financial Planners, Investment Advisor Representatives, Financial Consultants, brokers and other specialists are part of the Winslow team. Located in the heart of the financial district in Boston, MA, the Company believes that WEC is a strategic location for the Company to build out its banking platform.

The acquisition was accounted for using the acquisition method of accounting under which assets and liabilities of the Winslow Targets were recorded at their respective fair values including an amount for goodwill representing the difference between the acquisition consideration and the fair value of the identifiable net assets. A deferred tax liability has been recorded for the excess of financial statement basis over tax basis of the acquired assets and assumed liabilities with a corresponding increase to goodwill. The goodwill attributable to the acquisition has been recorded as a non-current asset and is not amortized, but is

subject to an annual review for impairment. Goodwill, which is non-deductible for income tax purposes, is part of the brokerage and advisory services segment.

The acquisition price was allocated to the tangible and identified intangible assets acquired and liabilities assumed as of the closing date. The fair values assigned to tangible and identifiable intangible assets acquired and liabilities assumed are based on management’s estimates and assumptions. The estimated fair values of assets acquired and liabilities assumed are considered preliminary and are based on the most recent information available. The Company believes that the information provides a reasonable basis for assigning the fair values of assets acquired and liabilities assumed. Thus, the provisional measurements of fair value set forth below are subject to change. The Company expects to finalize the valuation as soon as practicable, but not later than one year from the acquisition date.

The table below summarizes the assets acquired and liabilities assumed in connection with the Winslow acquisition as of December 31, 2019.



	Estimated Fair Value
Assets

Cash	$	1,111,000
Cash deposits with clearing organizations	207,000
Securities owned at fair value	1,111,000
Receivables from broker dealers and clearing organizations	49,000
Forgivable loans receivable	91,000
Other receivables, net	113,000
Prepaid expenses	432,000
Fixed assets, net	80,000
Intangible assets, net	4,400,000
Operating lease assets	1,206,000
Other assets	12,000
Total assets acquired	8,812,000

Liabilities
Securities sold, not yet purchased at fair value	203,000
Accrued commissions and payroll payable	390,000
Accounts payable and accrued expenses	188,000
Operating lease liabilities	1,514,000
Deferred tax liability	1,196,000
Other	216,000
Total liabilities assumed	3,707,000
Net identifiable assets acquired	$	5,105,000
Goodwill	2,989,000
Total Purchase price	$	8,094,000

The intangible assets as of the closing date of the acquisition included:	Amount

Customer relationships	4,100,000
Brand name	300,000
	$	4,400,000

Indications of fair value of the intangible assets acquired in connection with the acquisition were determined using either the income, market or replacement cost methodologies. The intangible assets are being amortized over periods which reflect the pattern in which economic benefits of the assets are expected to be realized. The customer relationships are being amortized on an accelerated basis over an estimated useful life of twelve years and the brand name is being amortized on a straight-line basis over five years.



Initial purchase price	$	3,200,000
Additional consideration payable (net operating capital)	873,000
Earnout (contingent consideration)	4,021,000
Total purchase price	$	8,094,000

Pro Forma Financial Information

The following table presents the unaudited pro forma combined results of operations of the Company and Winslow for the three and nine months ended June 30, 2020 and 2019 as if the acquisition of Winslow had occurred on October 1, 2018. The pro forma financial information is presented for informational purposes only and is not necessarily indicative of the results of operations that would have been achieved if the acquisition had taken place at the beginning of the Company’s fiscal year 2019.



	Three Months Ended June 30,					Nine Months Ended June 30,
	2020			2019		2020			2019
Net revenues	$	61,716,000		$	53,462,000	$	170,381,000		$	163,548,000
Net Income (Loss)	$	(395,000	)	$	1,002,000	$	(4,282,000	)	$	(1,322,000	)
Net Income (Loss) attributable to common stockholders	$	(722,000	)	$	103,000	$	(4,006,000	)	$	(2,221,000	)

Net income (loss) per common share:
Basic	$	(0.05	)	$	0.01	$	(0.30	)	$	(0.17	)
Diluted	$	(0.05	)	$	0.01	$	(0.30	)	$	(0.17	)

Contingent Consideration

Set forth below are changes in the carrying value of the contingent consideration for the nine months ended June 30, 2020 related to acquisitions:



Fair value of contingent consideration at September 30, 2019	$	1,620,000
Fair value of contingent consideration in connection with 2020 Tax & Accounting acquisitions	1,595,000
Fair value of contingent consideration in connection with Winslow acquisition	4,021,000
Payments	(460,000		)
Change in fair value	74,000
Fair value of contingent consideration at June 30, 2020	$	6,850,000

Disposal of National Tax Branch

In January 2020, the Company sold one of its National Tax branches for a note in the aggregate principal amount of $636,000 which, after allocating a portion of goodwill and unamortized intangibles of $239,000 and $100,000, respectively, resulted in a gain on disposal of $297,000. Principal and interest on the note is payable monthly over 120 months with an interest rate of 3% per annum. Notes receivables are included in other receivables in the statement of financial condition.

NOTE 8. INTANGIBLE ASSETS

Intangibles consisted of the following at June 30, 2020 and September 30, 2019:



	June 30, 2020
Intangible asset	Cost		Accumulated Amortization		Carrying Value		Estimated Useful Life (years)
Customer relationships	$	15,176,000	$	5,566,000	$	9,610,000	3-12
Brand name	1,010,000		208,000		802,000		3-5
Software license	45,000		37,000		8,000		3
Total	$	16,231,000	$	5,811,000	$	10,420,000



	September 30, 2019
Intangible asset	Cost		Accumulated Amortization		Carrying Value		Estimated Useful Life (years)
Customer relationships	$	9,326,000	$	4,614,000	$	4,712,000	3-10
Brand name	710,000		—		710,000		Indefinite
Software license	45,000		26,000		19,000		3
Total	$	10,081,000	$	4,640,000	$	5,441,000

Amortization expense associated with intangible assets for the three months ended June 30, 2020 and 2019 was $500,000 and $293,000, respectively.

Amortization expense associated with intangible assets for the nine months ended June 30, 2020 and 2019 was $1,348,000 and $811,000, respectively.

The estimated future amortization expense of the finite lived intangible assets for the next five fiscal years and thereafter is as follows:



Fiscal year ending September 30,
Three months ending September 30, 2020	$	684,000
2021	2,019,000
2022	1,785,000
2023	1,387,000
2024	1,055,000
Thereafter	3,490,000
Total	$	10,420,000

NOTE 9. ACCOUNTS PAYABLE AND ACCRUED EXPENSES

Accounts payable and accrued expenses as of June 30, 2020 and September 30, 2019 consist of the following:



	June 30, 2020		September 30, 2019
Legal	$	1,120,000	$	900,000
Audit	178,000		239,000
Telecommunications	120,000		125,000
Data services	435,000		296,000
Regulatory	1,152,000		292,000
Settlements	885,000		1,817,000
Deferred rent	—		772,000
Other	4,491,000		4,202,000
Total	$	8,381,000	$	8,643,000

At June 30, 2020, other primarily consists of $151,000 for investment banking deal expense accruals, $1,226,000 for soft dollar accruals, $371,000 for finance obligation of the implementation costs of the general ledger system, $105,000 for tax return preparation fees and $49,000 for rent. At September 30, 2019, other primarily consists of $319,000 for investment banking deal expense accruals, $1,188,000 for soft dollar accruals, $119,000 for tax return preparation fees, $595,000 for finance obligation of the annual subscription fee and implementation costs of the new general ledger system, $380,000 for fixed assets acquired but not paid, $396,000 for rent and $228,000 for clearing fees.

NOTE 10. PER SHARE DATA

Basic net income (loss) per share of common stock attributable to the Company is computed on the basis of the weighted average number of shares of common stock outstanding. Diluted net income (loss) per share is computed on the basis of such weighted average number of shares of common stock outstanding plus the dilutive effect of incremental shares of common stock potentially issuable under outstanding options, warrants and unvested restricted stock units utilizing the treasury stock method. A reconciliation of basic and diluted common shares used in the computation of per share data follows:



	Three Month Period Ended June 30,		Nine Month Period Ended June 30,
	2020	2019	2020	2019
Basic weighted-average shares	13,516,869	12,931,660	13,349,669	12,751,712
Effect of dilutive securities:
Unvested restricted stock units	—	319,719	—	—
Diluted weighted-average shares	13,516,869	13,251,379	13,349,669	12,751,712

At June 30, 2020 and 2019, options, warrants and unvested restricted stock units totaling 9,631,309 and 9,383,186 shares, respectively, were excluded from the computation of diluted net income (loss) per share as their effect would have been anti-dilutive.

NOTE 11. OFF BALANCE SHEET RISK AND CONCENTRATION OF CREDIT RISK

The Company is engaged in trading and providing a broad range of securities brokerage and investment services to a diverse group of retail and institutional clientele, as well as corporate finance and investment banking services to corporations and businesses. Counterparties to the Company’s business activities include broker-dealers and clearing organizations, banks and other financial institutions. The Company uses clearing brokers to process transactions and maintain customer accounts for the Company on a fee basis. The Company permits the clearing firms to extend credit to its clientele secured by cash and securities in the client’s account. The Company’s exposure to credit risk associated with the non-performance by its customers and counterparties in fulfilling their contractual obligations can be directly impacted by volatile or illiquid trading markets, which may impair the ability of customers and counterparties to satisfy their obligations to the Company. The Company has agreed to indemnify the clearing brokers for losses they incur while extending credit to the Company’s clients.

It is the Company’s policy to review, as necessary, the credit standing of its customers and counterparties. Amounts due from customers that are considered uncollectible by the clearing broker are charged back to the Company by the clearing broker when such amounts become determinable. Upon notification of a charge back, such amounts, in total or in part, are then either (i) collected from the customers, (ii) charged to the broker initiating the transaction and/or (iii) charged to operations, based on the particular facts and circumstances.

The Company maintains cash in bank deposits, which, at times, may exceed federally insured limits. The Company has not experienced and does not expect to experience losses on such accounts.

A short sale involves the sale of a security that is not owned in the expectation of purchasing the same security (or a security exchangeable) at a later date at a lower price. A short sale involves the risk of a theoretically unlimited increase in the market price of the security that would result in a theoretically unlimited loss.

To the extent the Company invests in marketable securities, the Company is subject to various market risks related to the

portfolio.

As a result of the spread of COVID-19, economic uncertainties have arisen which have negatively impacted and are likely to continue to negatively impact our businesses, financial condition, results of operations, cash flows, strategies and prospects. The extent of the impact of COVID-19 on our operational and financial performance will depend on certain developments, including the duration and spread of the outbreak and impact on our clients, employees, vendors and the markets in which we operate our businesses, all of which are uncertain at this time and cannot be predicted. The extent to which COVID-19 may impact our financial condition or results of operations cannot be reasonably estimated at this time.

NOTE 12. NEW ACCOUNTING GUIDANCE

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842), which supersedes the existing guidance for lease accounting, Leases (Topic 840). ASU 2016-02 requires the lessee to recognize the right to use lease assets and lease liabilities that arise from leases, and present them in its statement of financial condition. The recognition of these lease assets and lease liabilities represents a change from previous US GAAP requirements, which did not require lease assets and lease liabilities to be recognized for most leases. The recognition, measurement, and presentation of expenses and cash flows arising from a lease by a lessee, have not significantly changed from previous US GAAP requirements. The Company adopted the provisions of Topic 842 on October 1, 2019, using the modified retrospective approach and the option presented under ASU 2018-11 to transition only active leases as of October 1, 2019. All comparative periods prior to October 1, 2019 are not adjusted and continue to be reported in accordance with Topic 840.

The Company elected to utilize the package of practical expedients permitted within the new standard, which among other things, allowed the Company to carryforward the historical lease classification. The Company made an accounting policy election to keep leases with an initial term of 12 months or less off the Company’s consolidated statements of financial condition which resulted in recognizing those lease payments in the consolidated statements of operations on a straight-line basis over the lease term.

Adoption of the new standard resulted in the recording of right-of-use assets and corresponding lease liabilities of $14,720,000 and $16,309,000, respectively, as of October 1, 2019. The difference between the right-of-use assets and the lease liabilities was recorded to eliminate existing deferred rent balances and remaining balances of lease incentives recorded under Topic 840. The adoption of the new standard did not materially impact the Company's consolidated statements of operations and had no impact on the Company's consolidated statements of cash flows. The Company's current lease arrangements expire through 2032. See Note 21 for further information.

In August 2018, the FASB issued ASU 2018-13, "Fair Value Measurement - Disclosure Framework - Changes to the Disclosure Requirements for the Fair Value Measurement," which removes or modifies certain current disclosures, and adds additional disclosures. The changes are meant to provide more relevant information regarding valuation techniques and inputs used to arrive at measures of fair value, uncertainty in the fair value measurements, and how changes in fair value measurements impact an entity's performance and cash flows. Certain disclosures in ASU 2018-13 will need to be applied on a retrospective basis and others on a prospective basis. The standard is effective for the Company beginning October 1, 2020 for both interim and annual periods. Early adoption is permitted. The company is currently assessing the impact that the adoption of ASU 2018-13 will have on its financial statements.

In December 2019, the FASB issued ASU 2019-12, "Simplifying the Accounting for Income Taxes". The amendments in ASU 2019-12 simplify the accounting for income taxes by removing certain exceptions to the general principles in ASC Topic 740, Income Taxes. The amendments also improve consistent application of and simplify GAAP for other areas of Topic 740 by clarifying and amending existing guidance. ASU 2019-12 will be effective for the Company's fiscal year beginning October 1, 2021, with early adoption permitted. The transition requirements are dependent upon each amendment within this update and will be applied either prospectively or retrospectively. The company is currently assessing the impact that the adoption of ASU 2019-12 will have on its financial statements.

NOTE 13. COMMITMENTS AND CONTINGENCIES

Litigation and Regulatory Matters

The Company and its subsidiaries are defendants or respondents in various pending and threatened arbitrations, administrative proceedings and lawsuits seeking compensatory damages. Several cases have no stated alleged damages. Claim amounts are infrequently indicative of the actual amounts the Company will be liable for, if any. Further, the Company has a history of collecting amounts awarded in these types of matters from its registered representatives that are still affiliated, as well as from those that are no longer affiliated. Many of these claimants also seek, in addition to compensatory damages, punitive or treble damages, and all seek interest, costs and fees. These matters arise in the normal course of business. The Company intends to vigorously defend itself in these actions, and the ultimate outcome of these matters cannot be determined at this time.

On July 3, 2019, a lawsuit was filed against National Securities Corporation, National Asset Management, Inc., the Company, the Company’s current board members and certain former board members, certain officers of the Company, John Does 1–10, and the Company as a nominal defendant, in the United States District Court for the Southern District of New York, captioned Kay Johnson v. National Securities Corporation, et al., Case No. 1:19-cv-06197-LTS. The complaint presents three purported derivative causes of action on behalf of the Company, and five causes of action by the plaintiff directly. As part of the derivative claims, the complaint generally alleges that certain of the individual defendants failed to establish and maintain adequate internal controls to ensure that the Company’s board of directors (the “Board”) acted in accordance with its fiduciary duties to prevent and uncover alleged legal and regulatory misconduct and wrongdoing on the part of a National officer. As part of its claims brought directly by the plaintiff, the complaint generally alleges that certain individual and corporate defendants wrongfully terminated the employment of the plaintiff in violation of the Dodd-Frank Act and applicable common law, or conspired to do so. The complaint further alleges that certain corporate defendants violated the Equal Pay Act with regards to the plaintiff’s compensation. The complaint seeks monetary damages in favor of the Company, an order directing the Company’s board members to take actions to enhance the Company’s governance, compensatory and punitive damages in favor of the plaintiff, and attorneys’ fees and costs. On February 2, 2020, the plaintiff filed an amended complaint presenting additional causes of action. The Company has notified its insurer of the lawsuit and believes it has valid defenses to the asserted claims of the complaint. On March 18, 2020, the defendants filed a motion to dismiss the amended complaint. The plaintiff filed an opposition to the defendants’ motion to dismiss on April 15, 2020, and the defendants filed a reply in further support of the motion to dismiss on May 6, 2020.

In accordance with applicable accounting standards, the Company establishes an accrued liability for contingent litigation and regulatory matters when those matters present loss contingencies that are both probable and can be reasonably estimated. In such cases, there still may be an exposure to loss in excess of any amounts reasonably estimated and accrued. When a loss contingency is not both probable and estimable, the Company does not establish an accrued liability, but continues to monitor, in conjunction with any outside counsel handling a matter, further developments that would make such loss contingency both probable and reasonably estimable. Once the Company establishes an accrued liability with respect to a loss contingency, the Company continues to monitor the matter for further developments that could affect the amount of the accrued liability that has been previously established, and any appropriate adjustments are made each quarter.

In making these decisions, management bases its judgments on its knowledge of the situations, consultations with legal counsel and its historical experience in resolving similar matters. In many lawsuits, arbitrations and regulatory proceedings, it is not possible to determine whether a liability has been incurred or to estimate the amount of that liability until the matter is close to resolution.

Because of the broad differences in value ascribed to each case by each plaintiff and the Company, management cannot estimate the possible loss or range of loss, if any, in excess of any amounts reasonably estimated and accrued.

At June 30, 2020 and September 30, 2019, the Company accrued approximately $885,000 and $1,817,000, respectively in liabilities for contingent litigation and regulatory matters. These amounts are included in accounts payable and accrued expenses in the condensed consolidated statements of financial condition. Amounts charged to operations for settlements and potential losses during the three months ended June 30, 2020 and 2019 were $9,000 and $715,000, respectively, and during the nine months ended June 30, 2020 and 2019, were $283,000 and $3,198,000, respectively. These amounts are included in other administrative expenses in the condensed consolidated statements of operations. The Company has included in professional fees, litigation and arbitration related expenses of $607,000 and $401,000 for the three months ended June 30, 2020 and 2019, respectively, and $1,513,000 and $1,329,000 for the nine months ended June 30, 2020 and 2019, respectively.

Other Commitments

As of June 30, 2020, the Company and its subsidiaries had one outstanding letter of credit, which has been issued in the maximum amount of $961,000 as security for a property lease, and which is collateralized by the restricted cash as reflected in the condensed consolidated statements of financial condition.

NOTE 14. NET CAPITAL REQUIREMENTS

NSC is subject to the SEC's Uniform Net Capital Rule (Rule 15c3-1), which, among other things, requires the maintenance of minimum net capital. At June 30, 2020, NSC had net capital of $8,103,137 which was $7,103,137 in excess of its required minimum net capital of $1,000,000. NSC is exempt from the provisions of Rule 15c3-3 since it is an introducing broker-dealer that clears all transactions on a fully disclosed basis and promptly transmits all customer funds and securities to clearing brokers.

WEC is also subject to the Net Capital Rule, which, among other things, requires the maintenance of minimum net capital and requires that the ratio of aggregate indebtedness to net capital, both as defined under the Net Capital Rule, shall not exceed 15 to 1. At June 30, 2020, WEC had net capital of $1,163,064 which was $1,046,476 in excess of its required net capital of $116,588. WEC's ratio of aggregate indebtedness to net capital was 1.5 to 1. WEC is exempt from the provisions of Rule 15c3-3 since it is an introducing broker-dealer that clears all transactions on a fully disclosed basis and promptly transmits all customer funds and securities to clearing brokers.

NOTE 15. STOCKHOLDERS' EQUITY

Stock Options

Information with respect to stock option activity during the nine months ended June 30, 2020 follows:



	Options		Weighted Average Exercise Price Per Share		Weighted Average Grant Date Fair Value Per Share		Weighted Average Remaining Contractual term (years)	Aggregate Intrinsic Value
Outstanding at September 30, 2019	604,200		$	6.19	$	1.58	2.29	$	—
Forfeited	(3,500	)	$	5.00	$	2.30		$	—
Outstanding at June 30, 2020	600,700		$	6.20	$	1.57	1.53	$	—
Vested and exercisable at June 30, 2020	600,700		$	6.20	$	1.57	1.53	$	—

All compensation expense associated with the grants of stock options was recognized in prior years.

Warrants

The following table summarizes information about warrant activity during the nine months ended June 30, 2020:



	Warrants	Weighted Average Exercise Price Per Share		Weighted Average Remaining Contractual Term
Outstanding at September 30, 2019	5,398,907	$	3.25	2.30
Forfeited	—	$	—
Outstanding and exercisable at June 30, 2020	5,398,907	$	3.25	1.55

Restricted Stock Units and Awards

A summary of the Company's non-vested restricted stock units (“RSUs”) and restricted stock awards (“RSAs”) for the nine months ended June 30, 2020 is as follows:



	Shares		Weighted Average Grant Date Fair Value
Non-vested restricted stock units and awards at September 30, 2019	3,318,640		$	10,006,000
Granted	904,616		2,188,000
Vested	(579,695	)	(2,116,000		)
Forfeited	(11,859	)	(38,000		)
Non-vested restricted stock units and awards at June 30, 2020	3,631,702		$	10,040,000

In December 2019, the Company granted 702,000 RSUs to certain employees of the Company. RSUs vest based on certain performance conditions. The fair value of the RSU awards issued in December 2019 was $1,839,000.

In January 2020, the Company granted 39,216 RSUs to an employee of the Company. RSUs vest based on certain service conditions. The fair value of the RSU awards issued in January 2020 was $99,000.

In April 2020, the Company granted 163,400 RSUs to certain directors of the Company. RSUs vest based on certain service conditions. The fair value of the RSU awards issued in April 2020 was $250,000.

One RSU or RSA gives the right to one share of the Company’s common stock. RSUs and RSAs that vest based on service and performance are measured based on the fair values of the underlying stock on the date of grant. The Company used a Lattice model to determine the fair value of the RSUs with a market condition. Compensation with respect to RSU and RSA awards is expensed on a straight-line basis over the vesting period.

For the three and nine months ended June 30, 2020, the Company recognized compensation expense of $873,000 and $2,318,000, respectively, related to RSUs and RSAs. For the three and nine months ended June 30, 2019, the Company recognized compensation expense of $720,000 and $3,522,000, respectively, related to RSUs and RSAs. At June 30, 2020, unrecognized compensation with respect to RSUs and RSAs amounted to $4,999,000, assuming all performance-based compensation will vest.

NOTE 16. INCOME TAXES

The Company files a consolidated federal income tax return and certain combined state and local income tax returns with its subsidiaries. Income taxes for the three and nine month period ended June 30, 2020 and 2019 are based on the estimated annual effective tax rate. Each quarter the Company updates its estimate of the annual effective tax rate and records cumulative adjustments as necessary.

The effective tax rate for the three and nine month period ended June 30, 2020 differs from the federal statutory income tax rate principally due to non-deductible expenses, state and local income taxes and income (loss) allocated to the non-controlling interest for which no tax expense (benefit) was provided.

At June 30, 2020, the Company's net deferred tax asset is principally comprised of net operating loss carryforwards. Management believes that is more likely than not that its deferred tax assets will be realized and, accordingly, has not provided a valuation allowance against such amount.

NOTE 17. SEGMENT INFORMATION

The Company has two reportable segments. The brokerage and advisory services segment includes broker-dealer and investment advisory services, the sale of insurance products and licensed mortgage brokerage services provided by NSC, NAM, National Insurance, Prime Financial, Winslow and GC. The tax and accounting services segment includes tax preparation and accounting services provided by National Tax.

The Corporate pre-tax income (loss) consists of certain items that have not been allocated to reportable segments.

Segment information for the three and nine months ended June 30, 2020 and 2019 is as follows:



	Brokerage and Advisory Services		Tax and Accounting Services			Corporate				Total
Three Months Ended June 30,
2020
Revenues	$	58,909,000	$	2,807,000		$	—			$	61,716,000
Pre-tax income (loss)	1,272,000		(39,000		)	(1,863,000		)	(a)	(630,000		)
Assets	76,081,000		9,867,000			20,226,000			(b)	106,174,000
Depreciation and amortization	389,000		193,000			173,000				755,000
Interest	26,000		—			—				26,000
Capital expenditures (reimbursements)	—		15,000			—				15,000
2019
Revenues	$	48,100,000	$	2,675,000		$	—			$	50,775,000
Pre-tax income (loss)	1,610,000		430,000			(820,000		)	(a)	1,220,000
Assets	50,470,000		5,344,000			14,662,000			(b)	70,476,000
Depreciation and amortization	207,000		137,000			117,000				461,000
Interest	8,000		—			—				8,000
Capital expenditures	461,000		6,000			909,000				1,376,000



	Brokerage and Advisory Services			Tax and Accounting Services		Corporate				Total
Nine Months Ended June 30,
2020
Revenues	$	159,393,000		$	8,046,000	$	2,000			$	167,441,000
Pre-tax income (loss)	(1,164,000		)	281,000		(4,883,000		)	(a)	(5,766,000		)
Assets	76,081,000			9,867,000		20,226,000			(b)	106,174,000
Depreciation and amortization	1,064,000			519,000		515,000				2,098,000
Interest	63,000			—		—				63,000
Capital expenditures (reimbursements)	(73,000		)	62,000		137,000				126,000
2019
Revenues	$	148,011,000		$	7,572,000	$	—			$	155,583,000
Pre-tax income (loss)	1,359,000			1,503,000		(4,211,000		)	(a)	(1,349,000		)
Assets	50,470,000			5,344,000		14,662,000			(b)	70,476,000
Depreciation and amortization	605,000			341,000		374,000				1,320,000
Interest	26,000			—		—				26,000
Capital expenditures	633,000			77,000		1,666,000				2,376,000


(a)	Consists of professional fees, depreciation expense and other expenses not allocated to reportable segments by management.


(b)	Consists principally of deferred tax assets, cash, prepaid and fixed asset balances held at Corporate.

NOTE 18. ACQUISITION OF CONTROLLING INTEREST IN THE COMPANY

On November 14, 2018, B. Riley Financial, Inc. (“B. Riley”) and FBIO Acquisition, Inc. (“FBIO Acquisition”), a subsidiary of Fortress Biotech, Inc. (“Fortress”), entered into a stock purchase agreement whereby FBIO Acquisition agreed to sell to a wholly-owned subsidiary of B. Riley FBIO Acquisition’s majority stake in the Company (the “FBIO Sale”). Under the terms of the agreement, B. Riley agreed to purchase 7,037,482 shares of the Company's common stock from FBIO Acquisition, which represented approximately 56.1% of the Company's outstanding common stock and Fortress’s entire economic interest in the Company. An aggregate of 3,010,054 shares were purchased immediately at $3.25 per share. After approval from FINRA was received on February 4, 2019, B. Riley purchased an additional 3,149,496 shares of the Company's common stock on February 11, 2019 and assigned its right to purchase the remaining 877,932 shares to third parties.

Further, in connection with the FBIO Sale, the Company entered into an agreement with B. Riley (the “B. Riley Agreement”), pursuant to which B. Riley agreed to certain customary standstill provisions, effective as of the date of the B. Riley Agreement through December 31, 2021 (the “Standstill Period”), prohibiting B. Riley and any of its affiliates or associates, directly or indirectly, from among other things: (i) acquiring, agreeing to acquire or otherwise seeking to acquire any beneficial interest in the Company’s share capital or any of its material assets other than (x) the FBIO Sale and (y) pursuant to B. Riley’s pro rata participation rights described in the B. Riley Agreement; (ii) making a take-over bid, tender offer or exchange offer for all or any part of the Company’s share capital; (iii) announcing, or taking any action which would require the announcement of, any proposals by B. Riley for any business combination or any other similar transaction involving the securities of the Company or its material assets or businesses; (iv) soliciting proxies with respect to any securities of the Company or otherwise influencing any shareholders of the Company for any action or transaction; (v) requesting that the Board expand or reduce the number of directors or the number of Board designees nominated by otherwise designated by B. Riley; (vi) take any other action that would constitute a “business combination” for purposes of Section 203 of the Delaware General Corporation Law (including any successor statute thereto) (“Section 203”) (other than any transactions covered by Section 203(c)(3)(v) of the Delaware General Corporation Law that are in the ordinary course of the Company’s business operations); (vii) make any public announcement with respect to any of the foregoing, except as, and solely to the extent, legally required or compelled (and provided that the reason for any such required announcement is not the result of any action taken by B. Riley) or (viii) contest the validity of the standstill terms of the B. Riley Agreement or initiate or participate in any judicial proceeding to amend, waive, terminate or seek a release of the restrictions of such standstill terms.

Pursuant to the B. Riley Agreement, the Company granted to B. Riley the right to appoint B. Riley representatives to attend meetings of the Board and any committee thereof in a non-voting observer capacity. If B. Riley’s beneficial ownership of the Company’s common stock is reduced to below 24%, its rights to designate board observers will be reduced to one board observer, and if B. Riley’s beneficial ownership of the Company’s common stock is reduced to below 5%, its rights to designate board observers will cease.

The B. Riley Agreement further permits B. Riley to participate pro rata in any bona fide common stock equity offering by the Company (including the offering of any securities convertible into common stock) if the offering price of the Company’s common stock in such offering is equal to or less than $3.25 per share, as adjusted for stock splits, stock dividends, stock combinations and similar events, subject to certain exceptions. This participation right will end upon the earlier of (x) the end of the Standstill Period and (y) a change in control of the Company, as defined in the B. Riley Agreement.

The Agreement also contains non-solicitation terms that prohibit either the Company or B. Riley, or any of their respective affiliates, associates and related parties, from hiring any executive officer or member of senior management of the other party during the Standstill Period, subject to certain exceptions.

In connection with the Agreement, the Board waived the applicability of Section 203 of the Delaware General Corporation Law to B. Riley in connection with the FBIO Sale.

Upon final closing of the FBIO Sale, the warrants held by FBIO Acquisition ceased to be outstanding.

B. Riley Proposal

On April 30, 2020, B. Riley and the Company entered into a waiver of certain provisions of the B. Riley Agreement and in connection therewith, B. Riley amended its Schedule 13D filing relating to the Company and sent the Board a letter containing a proposal regarding the Company. The Company’s Board formed a Special Committee of non-executive, independent directors to review the B. Riley proposal. The Company does not anticipate having any further comment unless and until a definitive agreement is reached.

NOTE 19. VARIABLE INTEREST ENTITIES

The Company has entered into agreements to provide investment banking and advisory services to numerous investment funds (the “Funds”) that are considered variable interest entities (“VIEs”) under the accounting guidance. These Funds are established primarily to make and manage investments in equity or convertible debt securities of privately held companies that the Company, as investment advisor to the Funds, believes possess innovative or disruptive technologies and present opportunities for an initial public offering (“IPO”) or other similar liquidity event within approximately one to five years from the date of investment. The Funds intend to hold the investments until an IPO or other similar liquidity event and then to make distributions to its investors when contractually permitted, which is estimated to be approximately six months following such IPO or liquidity event.

The Company earns fees from the Funds in the form of placement agent fees and carried interest. For placement agent fees, the Company receives a cash fee of generally 7% to 10% of the amount of raised capital for the Funds and the fee is recognized at the time the placement services occurred. The Company receives carried interest as a percentage allocation (8% to 15%) of the profits of the Funds as compensation for asset management services provided to the Funds and it is recognized at the time of distribution. Once fund investors have received distributions in an amount equal to one hundred percent (100%) of their total capital contributions, the Company as the manager of the Funds will be entitled to share in any profits of the Funds to the extent of the carried interest. As the fee arrangements under such agreements are arm's-length and contain customary terms and conditions and represent compensation that is considered fair value for the services provided, the fee arrangements are not considered variable interests and accordingly, the Company does not consolidate such VIEs.

Placement agent fees attributable to such arrangements for the three months ended June 30, 2020 and 2019 were $6,685,000 and $6,395,000, respectively, and are included in investment banking in the condensed consolidated statements of operations.

Placement agent fees attributable to such arrangements for the nine months ended June 30, 2020 and 2019 were $17,028,000 and $31,484,000, respectively, and are included in investment banking in the condensed consolidated statements of operations.

NOTE 20. REVENUES FROM CONTRACTS AND SIGNIFICANT CUSTOMERS

Performance Obligations

The Company recognizes revenue from contracts with customers when, or as, the Company satisfies its performance obligations by transferring the promised goods or services to the customers. A good or service is transferred to a customer when, or as, the customer obtains control of that good or service. A performance obligation may be satisfied over time or at a point in time. Revenue from a performance obligation satisfied over time is recognized by measuring progress in satisfying the performance obligation in a manner that depicts the transfer of the goods or services to the customer. Revenue from a performance obligation satisfied at a point in time is recognized at the point in time that the Company determines the customer obtains control over the promised good or service.

Transaction Price and Variable Consideration

The amount of revenue recognized reflects the consideration (“transaction price”) the Company expects to be entitled to in exchange for the transfer of the goods or services to the customer services. In determining the transaction price, the Company considers multiple factors, including the effects of variable consideration. Variable consideration is included in the transaction price only to the extent it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainties with respect to the amount are resolved. In determining when to include variable consideration in the transaction price, the Company considers the range of possible outcomes, the predictive value of past experiences, the time period of when uncertainties expect to be resolved and the amount of consideration that is susceptible to factors outside of influence, such as market volatility or the judgment and actions of third parties.

Contract Assets

Contract assets represent the Company’s right to consideration in exchange for goods or services that the Company has transferred to a customer, excluding unconditional rights to consideration that are presented as receivables.

Contract Liabilities

Contract liabilities represent the Company’s obligation to deliver products or provide data to customers in the future for which cash has already been received.

The following provides detailed information on the recognition of the Company’s revenues from contracts with customers:

Commissions and Transaction Fees and Clearing Services. The Company earns commission and transaction fee and clearing services revenue based on the execution of transactions for clients in stocks, mutual funds, variable annuities and other financial products and services as well as from trailing commissions. Trade execution and settlement, when provided together, represent a single performance obligation as the services are not separately identifiable in the context of the contract. Commission and transaction fee and clearing services revenues are recognized at a point in time on trade-date. Commission and transaction fee and clearing services revenues are generally paid on settlement date and the Company records a receivable between trade-date and payment on settlement date. For trailing commissions, the performance obligation is satisfied at the time of the execution of the transactions but the amount to be received for trailing commissions is uncertain, as it is dependent on the value of the investments at future points in time as well as the length of time the investor holds the investments, both of which are highly susceptible to variable factors outside the Company’s influence. The Company does not believe that it can overcome this constraint until the market value of the investment and the investor activities are known, which are usually monthly or quarterly. The Company’s consolidated statement of operations reflects trailing commissions for services performed and performance obligations satisfied in previous periods and are recognized in the period that the constraint is overcome.

Investment Banking. The Company provides clients with a full range of investment banking services. Investment banking services include underwriting and placement agent services in both equity and debt, including private equity placements, initial public offerings, follow-on offerings and equity-linked convertible securities transactions and private debt. Underwriting and placement agent revenues are recognized at a point in time on trade-date, as the client obtains the control and benefit of the investment banking offering at that point. Costs associated with investment banking transactions are deferred until the related revenue is recognized or the engagement is otherwise concluded and are recorded on a gross basis as the Company is acting as a principal in the arrangement. Any expenses reimbursed by the Company’s clients are recognized as investment banking revenues. Where the Company is the lead underwriter, revenue and expenses will be first allocated to other members of a syndicate because the Company is acting as an agent for the syndicate. Accordingly, the Company records revenue on a net basis. When the Company is not the lead underwriter, the Company will recognize its share of revenue and expenses on a gross

basis, because the Company is acting as the principal. Under accounting standards in effect for prior periods, the Company recognized all underwriting revenue on a net basis.

The Company’s revenues from advisory services primarily consist of fees generated in connection with mergers and acquisition and advisory transactions. Advisory fees from mergers and acquisitions engagements are recognized at a point in time when the related transaction is completed, as the performance obligation is to successfully execute a specific transaction. Fees received prior to the completion of the transaction are deferred within other liabilities in the consolidated statements of financial condition. A significant portion of the fees the Company receives for advisory services are considered variable as they are contingent upon a future event and are excluded from the transaction price until the uncertainty associated with the variable consideration is subsequently resolved, which is expected to occur upon achievement of the specified milestone. Payment for advisory services is generally due promptly upon completion of a specified milestone or, for retainer fees, periodically over the course of the engagement. The Company recognizes a receivable between the date of completion of the milestone and payment by the customer. Expenses associated with investment banking advisory engagements are deferred only to the extent they are explicitly reimbursable by the client and the related revenue is recognized at a point in time. All other investment banking advisory related costs are expensed as incurred. All investment banking advisory expenses are recognized within their respective expense category on the consolidated statements of operations and any expenses reimbursed by the clients are recognized as investment banking revenues. The Company controls the service as it is transferred to the customer, and is therefore acting as a principal. Accordingly, the Company records revenues and out-of-pocket reimbursements on a gross basis. Under accounting standards in effect for prior periods, the Company recorded expenses net of client reimbursements and/or netted against revenues.

Investment Advisory/Asset Management Fees. The Company receives management and performance fees in connection with investment advisory services provided to various funds and accounts, which are satisfied over time as the customer receives the benefits of the services evenly throughout the term of the contract. Management and performance fees are considered variable as they are subject to fluctuation (e.g., changes in assets under management, market performance) and/or are contingent on a future event during the measurement period (e.g., meeting a specified benchmark) and are recognized only to the extent it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty is resolved. Management fees are generally based on month-end assets under management or an agreed upon notional amount and are included in the transaction price at the end of each month when the assets under management or notional amount is known. Performance fees are received when the return on assets under management for a specified performance period exceed certain benchmark returns, “high-water marks” or other performance targets. The performance period related to performance fees is annual, semiannual or at the recognition of a liquidation event. Accordingly, performance fee revenue will generally be recognized only at the end of the performance period to the extent that the benchmark return has been met.

Tax Preparation and Accounting. The Company charges fees in connection with tax preparation and accounting services. Revenues are recorded upon completion of the services.

Disaggregation of Revenue

The following presents the Company’s revenues from contracts with customers disaggregated by major business activity and segment for the three and nine months ended June 30, 2020 and 2019:



For the Three Months Ended June 30, 2020	Brokerage and Advisory Services		Tax and Accounting Services		Corporate		Total
Revenues from customer contracts:
Commissions and transaction fees and clearing services	$	33,083,000	$	—	$	—	$	33,083,000
Investment banking	14,730,000		—		—		14,730,000
Investment advisory	8,709,000		—		—		8,709,000
Tax preparation and accounting	—		2,807,000		—		2,807,000
Sub-total revenue from contracts with customers	56,522,000		2,807,000		—		59,329,000
Other revenue	2,387,000		—		—		2,387,000
Total revenue	$	58,909,000	$	2,807,000	$	—	$	61,716,000



For the Nine Months Ended June 30, 2020	Brokerage and Advisory Services		Tax and Accounting Services		Corporate		Total
Revenues from customer contracts:
Commissions and transaction fees and clearing services	$	91,357,000	$	—	$	—	$	91,357,000
Investment banking	37,515,000		—		—		37,515,000
Investment advisory	25,371,000		—		—		25,371,000
Tax preparation and accounting	—		8,046,000		—		8,046,000
Sub-total revenue from contracts with customers	154,243,000		8,046,000		—		162,289,000
Other revenue	5,150,000		—		2,000		5,152,000
Total revenue	$	159,393,000	$	8,046,000	$	2,000	$	167,441,000



For the Three Months Ended June 30, 2019	Brokerage and Advisory Services		Tax and Accounting Services		Corporate		Total
Revenues from customer contracts:
Commissions and transaction fees and clearing services	$	22,899,000	$	—	$	—	$	22,899,000
Investment banking	15,824,000		—		—		15,824,000
Investment advisory	7,577,000		—		—		7,577,000
Tax preparation and accounting	—		2,675,000		—		2,675,000
Sub-total revenue from contracts with customers	46,300,000		2,675,000		—		48,975,000
Other revenue	1,800,000		—		—		1,800,000
Total revenue	$	48,100,000	$	2,675,000	$	—	$	50,775,000



For the Nine Months Ended June 30, 2019	Brokerage and Advisory Services		Tax and Accounting Services		Corporate		Total
Revenues from customer contracts:
Commissions and transaction fees and clearing services	$	70,448,000	$	—	$	—	$	70,448,000
Investment banking	52,692,000		—		—		52,692,000
Investment advisory	18,949,000		—		—		18,949,000
Tax preparation and accounting	—		7,572,000		—		7,572,000
Sub-total revenue from contracts with customers	142,089,000		7,572,000		—		149,661,000
Other revenue	5,922,000		—		—		5,922,000
Total revenue	$	148,011,000	$	7,572,000	$	—	$	155,583,000

Information on Remaining Performance Obligations and Revenue Recognized from Past Performance

The Company does not disclose information about remaining performance obligations pertaining to contracts that have an original expected duration of one year or less. The transaction price allocated to remaining unsatisfied or partially unsatisfied performance obligations with an original expected duration exceeding one year was not material at June 30, 2020. Investment banking advisory fees that are contingent upon completion of a specific milestone are also excluded as the fees are considered variable and not included in the transaction price at June 30, 2020.

Contract Balances

The timing of the Company’s revenue recognition may differ from the timing of payment by customers. The Company records a receivable when revenue is recognized prior to payment and the Company has an unconditional right to payment.

Alternatively, when payment precedes the provision of the related services, the Company records deferred revenue until the performance obligations are satisfied.

Contract Costs

Incremental contract costs are expensed when incurred when the amortization period of the asset that would have been recognized is one year or less. Otherwise, incremental contract costs are recognized as an asset and amortized over time as services are provided to a customer.

NOTE 21. LEASES

The Company’s lease agreements primarily cover office space in various states expiring at various dates. The Company’s leases are predominantly operating leases, which are included in operating lease assets and operating lease liabilities on the Company’s condensed consolidated statements of financial condition. The Company’ current lease arrangement expire from 2020 through 2032, some of which include options to extend or terminate the lease. However, the Company in general is not reasonably certain to exercise options to renew or terminate, and therefore renewal and termination options are not considered in the lease term or the right-of-use asset and lease liability balances.

The Company’s lease population does not include any residual value guarantees, and therefore none were considered in the calculation of the lease balances. The Company has leases with variable payments, most commonly in the form of common area maintenance charges which are based on actual costs incurred. These variable payments were excluded from the right-of-use asset and lease liability balances since they are not fixed or in-substance fixed payments. The Company has lease agreements with lease and non-lease components. The Company has elected the practical expedient to account for lease and non-lease components as a single lease component.

For leases with terms greater than 12 months, right-of-use assets and lease liabilities are recognized at the lease commencement date based on the present value of the future lease payments over the lease term. The discount rate used to determine the commencement date present value of lease payments is the interest rate implicit in the lease, or when that is not readily determinable, the Company utilizes its incremental borrowing rate. The Company's lease agreements generally do not provide a readily determinable implicit rate nor is it available to the Company from its lessors. Instead, the Company estimates the Company’s incremental borrowing rate based on information available at either the implementation date of Topic 842 or at lease commencement for leases entered into thereafter in determining the present value of future payments. Lease expense for net present value of payments is recognized on a straight-line basis over the lease term. Leases with an initial term of 12 months or less with purchase options or extension options that are not reasonably certain to be exercised are not recorded on the condensed consolidated statements of financial condition. The Company recognizes lease expense for these leases on a straight-line basis over the term of the lease.

In October 2018, the Company entered into an agreement to lease equipment under a finance lease for 24 months. The equipment under the lease is collateral for the lease obligation and is included within fixed assets in the condensed consolidated statements of financial condition. The leased equipment is amortized on a straight line basis over 7 years. The interest rate related to the lease obligation is 5.6 percent and the maturity date is September 2020. The finance lease obligation is included within other liabilities in the condensed consolidated statements of financial condition.

The components of lease expense were as follows:



	Three Month Period Ended June 30, 2020		Nine Month Period Ended June 30, 2020
Operating lease cost:	$	1,425,000	$	3,859,000

Finance lease cost:
Amortization of finance lease assets	$	19,000	$	58,000
Interest on finance lease liabilities	2,000		9,000
Total finance lease cost	$	21,000	$	67,000

Sublease income:	$	119,000	$	227,000

The table below summarizes the Company’s scheduled future minimum lease payments under operating and finance leases, recorded on the condensed consolidated statements of financial condition as of June 30, 2020:



Fiscal Year Ending September 30,	Operating Leases		Finance Lease
Three months ending September 30, 2020	$	1,098,000	$	112,000
2021	4,240,000		—
2022	2,615,000		—
2023	2,456,000		—
2024	2,264,000		—
Thereafter	8,280,000		—
Total minimum lease payments	20,953,000		$	112,000
Less: Amounts representing interest not yet incurred	4,095,000		1,000
Present value of lease obligations	$	16,858,000	$	111,000

The following table presents the balances for operating and finance right-of-use assets and lease liabilities:



Leases	Classification	June 30, 2020

Assets
Operating lease assets	Operating lease assets	$	14,637,000
Finance lease assets	Fixed assets	355,000
Total lease assets		$	14,992,000

Liabilities
Operating lease liabilities	Operating lease liabilities	$	16,858,000
Finance lease liabilities	Other liabilities	111,000
Total lease liabilities		$	16,969,000

The table below presents additional information related to the Company’s leases as of June 30, 2020:



	Nine Month Period Ended June 30, 2020
Supplemental cash flow information and non-cash activity:
Cash paid for amounts included in the measurement of lease liabilities:
Operating cash flows from finance leases	$	9,000
Operating cash flows from operating leases	$	2,820,000
Financing cash flows from finance leases	$	175,000
Operating lease assets obtained in exchange for lease liabilities	$	1,018,000

Weighted Average Remaining Lease Term:
Operating Leases	7.46 years

Weighted Average Discount Rate:
Operating Leases	5.50		%

NOTE 22. PAYCHECK PROTECTION PROGRAM

On April 10, 2020, NSC entered into a Promissory Note (the “NSC Note”) with Axos Bank as the lender (the “Lender”), pursuant to which the Lender agreed to make a loan to NSC under the Paycheck Protection Program (the “NSC Loan”) offered by the U.S. Small Business Administration (the “SBA”) pursuant to the Coronavirus Aid, Relief, and Economic Security (“CARES”) Act to qualified small businesses (the “PPP”) in a principal amount of $5,523,738. On April 15, 2020, WEC also entered into a Promissory Note (the “WEC Note” and together with the NSC Note, the “PPP Notes”) with the Lender, pursuant to which the Lender agreed to make a loan to WEC under the PPP (the “WEC Loan” and together with the NSC Loan, the “PPP Loans”) in a principal amount of $973,062.

The interest rate on each PPP Note is a fixed rate of 1% per annum. Interest is calculated by applying the ratio of the interest rate over a year of 360 days, multiplied by the outstanding principal balance, multiplied by the actual number of days the principal balance is outstanding. The applicable borrower is required to make monthly payments commencing on the first day of the first full calendar month following the end of a statutorily defined deferral period (the “Deferral Period”), and such payments shall continue to be due and payable on the first day of each calendar month thereafter until the date that is two (2) years following the funding date (the “Maturity Date”), or April 13, 2022 in the case of the NSC Note and April 16, 2022 in the case of the WEC Note. Monthly payment amounts are based on repayment of interest accrued during the Deferral Period, interest accruing until and including the Maturity Date, and full amortization of the outstanding principal balance. The PPP loans are recorded as debt.

The proceeds of each PPP Loan are to be used to pay for payroll costs, continuation of group health care benefits during periods of paid sick, medical, or family leave, or insurance premiums; salaries or commissions or similar compensation; rent; utilities; and interest on certain other outstanding debt; however, 60% of the proceeds of each PPP Loan must be used for payroll purposes.

According to the terms of the PPP, all or a portion of loans under the PPP may be forgiven if certain conditions set forth in the CARES Act and the rules of the SBA are met.

At its option, each of NSC and WEC may prepay all or a portion of its PPP Loan without penalty.

Each PPP Note includes events of default, the occurrence and continuation of which would provide the Lender with the right to exercise remedies against NSC or WEC, as applicable, including the right to declare the entire unpaid principal balance under the applicable PPP Note and all accrued unpaid interest immediately due.

NOTE 23. SUBSEQUENT EVENT

B. Riley Proposal

On July 24, 2020, B. Riley amended its Schedule 13D filing relating to the Company and sent the Board a letter containing a revised proposal regarding the Company. The Company’s Special Committee is currently reviewing the B. Riley revised proposal. The Company does not anticipate having any further comment unless and until a definitive agreement is reached.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The Private Securities Litigation Reform Act of 1995 provides a safe harbor for forward-looking statements. This Report may contain certain statements of a forward-looking nature relating to future events or future business performance. Any such statements that refer to our estimated or anticipated future results or other non-historical facts are forward-looking and reflect our current perspective of existing trends and information. These statements involve risks and uncertainties that cannot be predicted or quantified and, consequently, actual results may differ materially from those expressed or implied by such forward-looking statements. Such risks and uncertainties include, among others, risks and uncertainties detailed under the section titled "Risks Factors" of our Form 10-K for the year ended September 30, 2019. Any forward-looking statements contained in this Quarterly Report on Form 10-Q speak only as of the date of this Report. We undertake no obligation to update publicly any forward-looking statement, whether as a result of new information, future events or otherwise, except as required by law.

OVERVIEW

We are engaged in independent brokerage and advisory services and asset management services, investment banking, equity research and institutional sales and trading, through our broker-dealer subsidiaries, NSC and WEC. We are committed to establishing a significant presence in the financial services industry by meeting the varying investment needs of our retail, corporate and institutional clients. Our wholly-owned subsidiary, NAM, is a federally-registered investment adviser that provides asset management advisory services to clients for a fee based upon a percentage of assets managed. We also provide tax preparation services through National Tax, which provides tax preparation services to individuals, predominantly in the middle and upper income tax brackets and accounting services to small and midsize companies.

NSC and WEC are subject to regulation by, among others, the SEC, FINRA and is a member of the SIPC. In addition, NSC is licensed to conduct its brokerage activities in all 50 states, plus the District of Columbia and Puerto Rico and the U.S. Virgin Islands. National Tax is also subject to regulation by, among others, the Internal Revenue Service.

On December 31, 2019, we completed our previously announced acquisition of all of the outstanding equity interests of Winslow Evans & Crocker, Inc., a Massachusetts corporation (“WEC”), Winslow, Evans & Crocker Insurance Agency, Inc., a Massachusetts corporation (“WIA”), and Winslow Financial, Inc., a Massachusetts corporation (“WF”). See Note 7 of the notes to the condensed consolidated financial statements for additional information.

As of June 30, 2020, we had approximately 940 associated personnel serving retail and institutional customers, trading and investment banking clients. In addition to our 32 Company offices located in New York, New Jersey, Florida, Texas, Massachusetts and Washington, we had approximately 98 other registered offices, owned and operated by independent owners who maintain all appropriate licenses and are responsible for all office overhead and expenses.

Our registered representatives offer a broad range of investment products and services. These products and services allow us to generate both commissions (from transactions in securities and other investment products) and fee income (for providing investment advisory services, namely managing clients’ accounts). The investment products and services offered include but are not limited to stocks, bonds, mutual funds, annuities, insurance, and managed money accounts.

COVID-19 Update

The COVID-19 outbreak continues to cause significant disruption in business activity and the financial markets both globally and in the United States. As a result of the spread of COVID-19, economic uncertainties have arisen which have negatively impacted and are likely to continue to negatively impact our businesses, financial condition, results of operations, cash flows, strategies and prospects. The extent of the impact of COVID-19 on our operational and financial performance will depend on certain developments, including the duration and spread of the outbreak and impact on our clients, employees, vendors and the markets in which we operate our businesses, all of which are uncertain at this time and cannot be predicted. The extent to which COVID-19 may impact our financial condition or results of operations cannot be reasonably estimated at this time.

We continue to be cautious due to events that may be driven by the evolution of this pandemic that are unknown, are highly uncertain, and cannot be predicted as it relates to the Company’s clients, employees, vendors, and the markets in which the Company operates its businesses.

B. Riley Proposal Update

RESULTS OF OPERATIONS

Three Months Ended June 30, 2020 Compared to Three Months Ended June 30, 2019

Summary

Our third quarter ended June 30, 2020 resulted in a 22% increase in revenues and a 26% increase in operating expenses as compared to the comparative period last year. The COVID-19 outbreak has had a negative impact on our investment banking and private shares businesses, our higher margin businesses, in the current quarter ended June 30, 2020.

Revenues

Total revenues increased $10,941,000, or 22%, to $61,716,000, in the current quarter as compared to $50,775,000 recorded in the comparative period last year.



	Three Months Ended June 30,				Increase (Decrease)
	2020		2019		Amount			Percent
Commissions	$	30,821,000	$	21,434,000	$	9,387,000		44	%
Net dealer inventory gains	1,421,000		167,000		1,254,000			751
Investment banking	14,730,000		15,824,000		(1,094,000		)	(7	)
Investment advisory	8,709,000		7,577,000		1,132,000			15
Interest and dividends	870,000		1,434,000		(564,000		)	(39	)
Transaction fees and clearing services	2,262,000		1,465,000		797,000			54
Tax preparation and accounting	2,807,000		2,675,000		132,000			5
Other	96,000		199,000		(103,000		)	(52	)
Total Revenues	$	61,716,000	$	50,775,000	$	10,941,000		22	%

Commissions increased $9,387,000, or 44%, to $30,821,000 in the current quarter as compared to $21,434,000 recorded in the comparative period last year. This was mainly attributable to an increase in trading commission revenue and $1.2 million in incremental revenue due to the Winslow acquisition. Customer trading volumes across the industry (according to Bloomberg) increased 78% for the three months ended June 30, 2020 compared to the prior year period, which we attribute to COVID-19 related market volatility.

Net dealer inventory gains increased $1,254,000, or 751%, to $1,421,000 in the current quarter as compared to $167,000 recorded in the comparative period last year. The increase is primarily due to higher security market values during the current quarter thus resulting in higher gains. In addition, $0.3 million in incremental revenue is due to the Winslow acquisition.

Investment banking fees decreased $1,094,000, or 7%, to $14,730,000 in the current quarter as compared to $15,824,000 recorded in the comparative period last year. The prior year quarter was particularly strong in both our traditional investment banking business as well as our private shares business.

Investment advisory fees increased $1,132,000, or 15%, to $8,709,000 in the current quarter as compared to $7,577,000 recorded in the comparative period last year. The increase is primarily due to the incremental revenue as a result of the Winslow acquisition.

Interest and dividend income decreased $564,000, or 39%, to $870,000 in the current quarter as compared to $1,434,000 recorded in the comparative period last year. This was attributable to the drop in the Federal funds rate, as interest rates overall are near zero.

Transaction fees and clearing services increased $797,000, or 54%, to $2,262,000 in the current quarter as compared to $1,465,000 recorded in the comparative period last year. This was attributable to an increase in customer trading volumes as noted above.

Tax preparation and accounting fees increased $132,000, or 5%, to $2,807,000 in the current quarter as compared to $2,675,000 recorded in the comparative period last year. The current period increase is attributable to revenue generated by new business acquisitions.

Other revenue decreased $103,000, or 52%, to $96,000 in the current quarter as compared to $199,000 recorded in the comparative period last year. This decrease is primarily due to a decline of client participation in our fully paid stock lending program. Client participation in this program varies quarter to quarter.

Operating Expenses

Total operating expenses increased $12,795,000, or 26%, to $62,356,000 in the current quarter as compared to $49,561,000 recorded in the comparative period last year. Operating expenses have increased due to higher commissions expense associated with the increase in commissions revenue, and higher legal and professional fee expenses associated with the B. Riley proposal.



	Three Months Ended June 30,				Increase (Decrease)
	2020		2019		Amount			Percent
Commissions, compensation and fees	$	53,183,000	$	42,077,000	$	11,106,000		26	%
Clearing fees	611,000		492,000		119,000			24
Communications	814,000		720,000		94,000			13
Occupancy	1,349,000		966,000		383,000			40
License and registration	1,084,000		934,000		150,000			16
Professional fees	2,360,000		1,130,000		1,230,000			109
Interest	26,000		8,000		18,000			225
Depreciation and amortization	755,000		461,000		294,000			64
Other administrative expenses	2,174,000		2,773,000		(599,000		)	(22	)
Total Operating Expenses	$	62,356,000	$	49,561,000	$	12,795,000		26	%

Commissions, compensation, and fees increased $11,106,000, or 26%, to $53,183,000 in the current quarter as compared to $42,077,000 recorded in the comparative period last year. Commissions, compensation, and fees include expenses based on commission revenue earned, investment banking and investment advisory revenues, as well as compensation to our non-broker employees. The increase is due to higher commissions revenue and therefore higher variable compensation expense. Commissions is our lowest margin business. In addition, $1.9 million in incremental expense is due to the Winslow acquisition. Cost-savings actions taken by us during the fiscal third quarter contributed to a reduction in our salary and benefits expenses.

Clearing fees increased $119,000, or 24%, to $611,000 in the current quarter as compared to $492,000 recorded in the comparative period last year. The increase is primarily due to the incremental expense as a result of the Winslow acquisition.

Communications expenses increased $94,000, or 13%, to $814,000 in the current quarter as compared to $720,000 recorded in the comparative period last year. The increase is primarily due to the incremental expense as a result of the Winslow acquisition.

Occupancy expenses increased $383,000, or 40%, to $1,349,000 in the current quarter as compared to $966,000 recorded in the comparative period last year. The increase is primarily due to the incremental expense as a result of the Winslow acquisition.

License and registration expense increased by $150,000, or 16%, to $1,084,000 in the current quarter as compared to $934,000 recorded in the comparative period last year. This increase is attributable to new licenses for software applications as we continue to invest in and implement technology enhancements.

Professional fees increased by $1,230,000, or 109% to $2,360,000 in the current quarter as compared to $1,130,000 recorded in the comparative period last year. This increase is primarily due to legal and consulting fees related to the B. Riley proposal and business acquisition matters.

Interest expense increased by $18,000 to $26,000 in the current quarter as compared to $8,000 recorded in the comparative period last year.

Depreciation and amortization expenses increased $294,000, or 64% to $755,000 in the current quarter as compared to $461,000 recorded in the comparative period last year due to higher amortization expense for new customer list intangibles as a result of new business acquisitions.

Other administrative expenses decreased $599,000, or 22%, to $2,174,000 in the current quarter as compared to $2,773,000 recorded in the comparative period last year. This decrease as compared to the prior year quarter, is primarily due to higher costs for arbitration settlements recorded in the prior year quarter.

Nine Months Ended June 30, 2020 Compared to Nine Months Ended June 30, 2019

Summary

Our nine months ended June 30, 2020 resulted in an 8% increase in revenues and 11% increase in operating expenses as compared to the comparative period last year. Lower margin commission revenue replaced higher margin investment banking revenues, contributing to the higher increase in operating expenses.

Revenues

Total revenues increased $11,858,000, or 8%, to $167,441,000 in the nine months ended June 30, 2020 as compared to $155,583,000 recorded in the comparative period last year.



	Nine Months Ended June 30,				Increase (Decrease)
	2020		2019		Amount			Percent
Commissions	$	85,141,000	$	65,246,000	$	19,895,000		30	%
Net dealer inventory gains	1,393,000		933,000		460,000			49
Investment banking	37,515,000		52,692,000		(15,177,000		)	(29	)
Investment advisory	25,371,000		18,949,000		6,422,000			34
Interest and dividends	3,389,000		4,430,000		(1,041,000		)	(23	)
Transaction fees and clearing services	6,216,000		5,202,000		1,014,000			19
Tax preparation and accounting	8,046,000		7,572,000		474,000			6
Other	370,000		559,000		(189,000		)	(34	)
Total Revenues	$	167,441,000	$	155,583,000	$	11,858,000		8	%

Commissions increased $19,895,000, or 30%, to $85,141,000 in the nine months ended June 30, 2020 as compared to $65,246,000 recorded in the comparative period last year. Retail commissions increased due to COVID-19 related higher customer trading volumes in the current quarter and $2.3 million in incremental revenue due to the Winslow acquisition, compared to the slower period a year ago which was impacted by interest rate concerns, volatile markets and the impending government shutdown.

Net dealer inventory gains increased $460,000, or 49%, to $1,393,000 in the nine months ended June 30, 2020 as compared to $933,000 recorded in the comparative period last year. The increase is primarily due to the incremental revenue as a result of the Winslow acquisition.

Investment banking fees decreased $15,177,000, or 29%, to $37,515,000 in the nine months ended June 30, 2020 as compared to $52,692,000 recorded in the comparative period last year. The prior year was particularly strong in both our traditional investment banking business as well as our private shares business. Additionally due to the COVID-19 outbreak, investment banking and private share deals have been delayed, deferred and, in certain cases canceled.

Investment advisory fees increased $6,422,000, or 34%, to $25,371,000 in the nine months ended June 30, 2020 as compared to $18,949,000 recorded in the comparative period last year. A net increase in assets under management, due to increased registered representative recruiting, market valuation levels, and the continuing reallocation of some client assets to our investment advisory business contributed to the increase. In addition, $2.6 million in incremental revenue is due to the Winslow acquisition.

Interest and dividends decreased $1,041,000, or 23%, to $3,389,000 in the nine months ended June 30, 2020 as compared to $4,430,000 recorded in the comparative period last year. This decrease is primarily attributable to the drop in the Federal funds rate as interest rates trend towards zero.

Transaction fees and clearing services increased $1,014,000, or 19%, to $6,216,000 in the nine months ended June 30, 2020 as compared to $5,202,000 recorded in the comparative period last year. This increase is primarily attributable to an increase in customer trading volumes.

Tax preparation and accounting fees increased $474,000, or 6%, to $8,046,000 in the nine months ended June 30, 2020 as compared to $7,572,000 recorded in the comparative period last year. The current period increase is attributable to revenue generated by new business acquisitions.

Other revenue decreased $189,000, or 34%, to $370,000 in the nine months ended June 30, 2020 from $559,000 recorded in the comparative period last year. This decrease is primarily due to a decline of client participation in our fully paid stock lending program. Client participation in this program varies quarter to quarter.

Operating Expenses

Total operating expenses increased $16,685,000, or 11%, to $173,635,000 in the nine months ended June 30, 2020 as compared to $156,950,000 recorded in the comparative period last year.



	Nine Months Ended June 30,				Increase (Decrease)
	2020		2019		Amount			Percent
Commissions, compensation and fees	$	147,825,000	$	132,120,000	$	15,705,000		12	%
Clearing fees	1,689,000		1,781,000		(92,000		)	(5	)
Communications	2,587,000		2,239,000		348,000			16
Occupancy	3,742,000		2,872,000		870,000			30
License and registration	3,067,000		2,260,000		807,000			36
Professional fees	6,431,000		4,848,000		1,583,000			33
Interest	63,000		26,000		37,000			142
Depreciation and amortization	2,098,000		1,320,000		778,000			59
Other administrative expenses	6,133,000		9,484,000		(3,351,000		)	(35	)
Total Operating Expenses	$	173,635,000	$	156,950,000	$	16,685,000		11	%

Commissions, compensation, and fees increased $15,705,000, or 12%, to $147,825,000 in the nine months ended June 30, 2020 as compared to $132,120,000 recorded in the comparative period last year. Commissions, compensation, and fees include expenses based on commission revenue, net dealer inventory gains, investment banking and investment advisory, as well as compensation to our non-broker employees. The increase is primarily related to higher commissions revenue and therefore higher variable compensation expense. Commissions is our lowest margin business. In addition, $3.9 million in incremental expense is due to the Winslow acquisition.

Clearing fees decreased $92,000, or 5%, to $1,689,000 in the nine months ended June 30, 2020, as compared to $1,781,000 recorded in the comparative period last year. This decrease is primarily due to higher charge backs to registered representatives for clearing fees offset in part by the incremental expense as a result of the Winslow acquisition.

Communications expenses increased $348,000, or 16%, to $2,587,000 in the nine months ended June 30, 2020, as compared to $2,239,000 recorded in the comparative period last year. The increase is primarily due to the incremental expense as a result of the Winslow acquisition.

Occupancy expenses increased $870,000, or 30%, to $3,742,000 in the nine months ended June 30, 2020, as compared to $2,872,000 recorded in the comparative period last year. The increase is primarily due to several small locations opened later in fiscal year 2019 as part of the company's geographical expansion as well as the incremental expense as a result of the Winslow acquisition.

License and registration fees increased $807,000, or 36%, to $3,067,000 in the nine months ended June 30, 2020, as compared to $2,260,000 recorded in the comparative period last year. This increase is attributable to licenses for software applications as we continue to invest in and implement technology enhancement.

Professional fees increased $1,583,000, or 33%, to $6,431,000 in the nine months ended June 30, 2020, as compared to $4,848,000 recorded in the comparative period last year. This increase is primarily due to legal and consulting fees related to the B. Riley proposal and business acquisitions matters.

Interest expense increased $37,000 to $63,000 in the nine months ended June 30, 2020, as compared to $26,000 recorded in the comparative period last year.

Depreciation and amortization expenses increased $778,000, or 59%, to $2,098,000 in the nine months ended June 30, 2020, as compared to $1,320,000 recorded in the comparative period last year. Higher amortization expense for new customer list intangibles as a result of new business acquisitions contributed to the majority of the increase.

Other administrative expenses decreased $3,351,000, or 35%, to $6,133,000 in the nine months ended June 30, 2020, as compared to $9,484,000 recorded in the comparative period last year. This decrease as compared to the prior year period, is primarily due to higher costs for arbitration settlements recorded in the prior year period.

NON-GAAP INFORMATION

Management considers earnings before interest, taxes, depreciation and amortization, or EBITDA, as adjusted, an important indicator in evaluating our business on a consistent basis across various periods. Due to the significance of non-recurring items, EBITDA, as adjusted, enables our Board and management to monitor and evaluate our business on a consistent basis. We use EBITDA, as adjusted, as a primary measure, among others, to analyze and evaluate financial and strategic planning decisions regarding future operating investments and potential acquisitions. We believe that EBITDA, as adjusted, eliminates items that are not part of our core operations, such as interest expense and amortization expense associated with intangible assets, or items that do not involve a cash outlay, such as stock-related compensation. EBITDA, as adjusted should be considered in addition to, rather than as a substitute for pre-tax income (loss), net income (loss) and cash flows from operating activities.

For the three months ended June 30, 2020 and 2019, EBITDA, as adjusted, was $2,219,000 and $2,020,000, respectively. The increase of $199,000, or 10%, resulted primarily from higher revenue generation in the current period.

For the nine months ended June 30, 2020 and 2019, EBITDA, as adjusted, was $1,763,000 and $4,185,000, respectively. The decrease of $2,422,000, or 58%, resulted primarily from lower profitability in the current period.

The following table presents a reconciliation of EBITDA, as adjusted, to net income (loss) as reported in accordance with generally accepted accounting principles, or GAAP:



	Three Months Ended June 30,					Nine Months Ended June 30,
	2020			2019		2020			2019
Net income (loss) attributable to common shareholders, as reported	$	(722,000	)	$	233,000	$	(4,078,000	)	$	(1,596,000	)
Interest expense	26,000			8,000		63,000			26,000
Income taxes	(235,000		)	88,000		(1,412,000		)	(652,000		)
Depreciation	255,000			168,000		750,000			509,000
Amortization	500,000			293,000		1,348,000			811,000
EBITDA	(176,000		)	790,000		(3,329,000		)	(902,000		)
Non-cash compensation expense	873,000			720,000		2,318,000			3,522,000
Forgivable loan amortization	262,000			167,000		649,000			500,000
Unrealized loss (gain) on the firm's warrant portfolio	18,000			343,000		989,000			1,065,000
Real estate restructuring costs	91,000			—		98,000			—
Professional fee costs associated with the B. Riley proposal	548,000			—		548,000			—
Legal and arbitration costs associated with pre-fiscal 2017 lawsuits not covered by insurance	113,000			—		297,000			—
New York City occupancy tax - fiscal 2007 through fiscal 2012	490,000			—		490,000			—
Gain on disposal of National Tax branch	—			—		(297,000		)	—
EBITDA, as adjusted	$	2,219,000		$	2,020,000	$	1,763,000		$	4,185,000

EBITDA, adjusted for non-cash compensation expense, forgivable loan amortization, unrealized loss (gain) on the firm’s warrant portfolio, real estate restructuring costs, professional fee costs associated with the B. Riley proposal, legal and arbitration costs associated with pre-fiscal 2017 lawsuits not covered by insurance, New York City occupancy tax - fiscal 2007 through fiscal 2012 and gain on disposal of National Tax branch, is a key metric we use in evaluating our business. EBITDA and EBITDA, as adjusted, are considered non-GAAP financial measure as defined by Regulation G, promulgated by the SEC.

Liquidity and Capital Resources



	Ending balance at June 30,				Average balance during the first nine months of fiscal year ending September 30,
	2020		2019		2020		2019
Cash	$	30,594,000	$	25,331,000	$	25,426,000	$	27,487,000
Receivables from broker-dealers and clearing organizations	3,645,000		3,252,000		3,441,000		3,356,000
Securities owned (excludes warrants)	3,128,000		2,115,000		4,545,000		1,874,000

Accrued commissions and payroll payable, accounts payable and accrued expenses	26,127,000		20,082,000		23,401,000		20,816,000

At June 30, 2020 and 2019 respectively, 35% and 44% of our total assets consisted of cash, securities owned and receivables from clearing brokers and other broker-dealers. The level of cash used in each asset class is subject to fluctuation based on market volatility, revenue production and trading activity in the marketplace.

NSC is subject to the Net Capital Rule, which, among other things, requires the maintenance of minimum net capital. At June 30, 2020, NSC had net capital of $8,103,137 which was $7,103,137 in excess of its required minimum net capital of $1,000,000. NSC is exempt from the provisions of the Customer Protection Rule since it is an introducing broker-dealer that clears all transactions on a fully disclosed basis and promptly transmits all customer funds and securities to clearing brokers.

Advances, dividend payments and other equity withdrawals from NSC and WEC are restricted by the regulations of the SEC, and other regulatory agencies. These regulatory restrictions may limit the amounts that NSC and WEC may dividend or advance to us. During the first three and nine months of fiscal 2020 and 2019, NSC and WEC were in compliance with the rules governing dividend payments and other equity withdrawals.

We extend unsecured credit in the normal course of business to our brokers. The determination of the appropriate amount of the reserve for uncollectible accounts is based upon a review of the amount of credit extended, the length of time each receivable has been outstanding, and the specific individual brokers from whom the receivables are due.

The objective of liquidity management is to ensure that we have ready access to sufficient funds to meet commitments, fund deposit withdrawals and efficiently provide for the credit needs of customers.

Our primary sources of liquidity include our cash flow from operations and the sale of our securities and other financing activities. We believe that we have sufficient funds from operations to fund our ongoing operating requirements for at least the next twelve months. However, we may need to raise funds to enhance our working capital and for strategic purposes.

We do not have any material commitments for capital expenditures. We routinely purchase computer equipment and technology to maintain or enhance the productivity of our employees and such capital expenditures amounted to $126,000 and $2,376,000 during the first nine months of fiscal 2020 and 2019, respectively.

Certain of our subsidiaries have received loans from the Small Business Administration’s Payroll Protection Plan program, a significant part of the U.S. government’s pandemic stimulus. We anticipate that our use of proceeds from the PPP loans may result in loans being forgiven. See Note 22 of the notes to the condensed consolidated financial statements for additional information.

Cash Flows - Operating Activities

Net cash (used in) provided by operating activities was $(1,594,000) and $411,000 for the nine months ended June 30, 2020 and 2019, respectively.

During the nine months ended June 30, 2020, net cash used in operating activities was primarily attributable to:


•	$(4,354,000) of net loss, which included $5,892,000 in non-cash items, consisting primarily of (i) $2,318,000 of stock-based compensation expense, (ii) $2,098,000 of depreciation and amortization expense, and (iii) $2,366,000 of amortization of operating lease assets. These items were partially offset by $1,412,000 of deferred tax benefit; and


•	Changes in operating assets and liabilities consisting primarily of (i) a $4,677,000 increase in other receivables, (ii) a $1,343,000 decrease in accounts payable, accrued expense and other liabilities and (iii) a $3,238,000 increase in forgivable loans receivable. These items were partially offset by (i) a $5,701,000 decrease in securities owned and (ii) a $675,000 decrease in prepaid expenses.

During the nine months ended June 30, 2019, net cash provided by operating activities was primarily attributable to:


•	$(697,000) of net loss, which included $5,165,000 in non-cash items, consisting primarily of (i) $3,522,000 of stock-based compensation expense, (ii) $1,320,000 of depreciation and amortization expense, and (iii) $500,000 of amortization of forgivable loans; and

•

Changes in operating assets and liabilities consisting primarily of (i) a $724,000 increase in prepaid expenses, (ii) a $1,857,000 increase in other receivables, (iii) a $549,000 increase in forgivable loans receivable and (iv) a $1,908,000 decrease in accounts payable. These items were partially offset by (i) a $715,000 decrease in receivables from broker dealers and clearing organizations and (ii) a $197,000 decrease in securities owned.

Cash Flow - Investing Activities

Net cash used in investing activities was $2,081,000 and $1,987,000 for the nine months ended June 30, 2020 and 2019, respectively. Net cash used in investing activities during the nine months ended June 30, 2020 was primarily attributable to the acquisition of businesses and during the nine months ended June 30, 2019, was primarily attributable to the acquisition of businesses and the purchase of fixed assets.

Cash Flow - Financing Activities

Net cash provided by (used in) financing activities was $3,827,000 and $(1,207,000) for the nine months ended June 30, 2020 and 2019, respectively. Net cash provided by (used in) financing activities for the nine months ended June 30, 2020, was primarily attributable to (i) $(328,000) for the repurchase of common stock for tax withholding, (ii) $(460,000) of contingent considerations payments, (iii) $(222,000) for principal payments under finance obligations, (iv) $(1,485,000) of distributions to non-controlling interest and (v) $6,497,000 of proceeds from PPP related loans. Net cash used in financing activities for the nine months ended June 30, 2019, was primarily attributable to the repurchase of common stock for tax withholding, principal payments under finance obligations and contingent consideration payments.

OFF-BALANCE SHEET ARRANGEMENTS

We do not have any off-balance sheet arrangements that have or are reasonably likely to have a material current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.

INFLATION

We believe inflation has not had a material effect on our financial condition as of June 30, 2020, and September 30, 2019, or on our results of operations and cash flows for the nine months ended June 30, 2020 and 2019.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Market Risk

Our primary market risk arises from the fact that we engage in proprietary trading and make dealer markets in equity securities. Accordingly, we may maintain certain amounts of inventories in order to facilitate customer order flow. We may incur losses as a result of price movements in these inventories due to changes in interest rates, foreign exchange rates, equity prices and other political factors. We are not subject to direct market risk due to changes in foreign exchange rates. However, we are subject to market risk as a result of changes in interest rates and equity prices, which are affected by global economic conditions. We manage our exposure to market risk by limiting our net long or short positions. Trading and inventory accounts are monitored daily by management and we have instituted position limits. Our ability to manage market risk associated with our carried interest in our private shares program may be limited by contractual lock-ups, which prevent us from protecting against market decline in those shares.

Credit risk represents the amount of accounting loss we could incur if counterparties to our proprietary transactions fail to perform and the value of any collateral proves inadequate. Although credit risk relating to various financing activities is reduced by the industry practice of obtaining and maintaining collateral, we maintain more stringent requirements to further reduce our exposure. We monitor our exposure to counterparty risk on a daily basis by using credit exposure information and monitoring collateral values. Our clearing firms, in conjunction with our risk department, review margin requirements for large or concentrated accounts and set higher requirements or require a reduction of either the level of margin debt or investment in high-risk securities or, in some cases, requiring the transfer of the account to another broker-dealer.

We monitor our market and credit risks daily through internal control procedures designed to identify and evaluate the various risks to which we are exposed. There can be no assurance, however, that our risk management procedures and internal controls will prevent losses from occurring as a result of such risks.

The following table shows the fair values of our securities owned as of June 30, 2020. We performed an entity-wide analysis of our financial instruments and assessed the related market risk. Based on this analysis, we do not expect that the market risk associated with our financial instruments at June 30, 2020 will have a material adverse effect on our consolidated financial position or results of operations.



	Securities owned
Corporate stocks	$	793,000
Municipal bonds	320,000
Restricted stock	799,000
Corporate bonds	1,216,000
Warrants	4,763,000
Total	$	7,891,000

Operational Risk

Operational risk generally refers to the risk of loss resulting from our operations, including, but not limited to, improper or unauthorized execution and processing of transactions, deficiencies in our technology or financial operating systems and inadequacies or breaches in our control processes. We operate in a dynamic market and are reliant on the ability of our employees and systems to process a large number of transactions. These risks are less direct and quantifiable than credit and market risk, but managing them is critical, particularly in a rapidly changing environment with increasing transaction volumes. In the event of a breakdown or improper operation of systems or improper action by employees, we could suffer financial loss, regulatory sanctions and damage to our reputation. Business continuity plans exist for critical systems, and redundancies are built into the systems as deemed appropriate. In order to mitigate and control operational risk, we have developed and continue to enhance specific policies and procedures that are designed to identify and manage operational risk at appropriate levels throughout our organization and within various departments. These control mechanisms attempt to ensure that operational policies and procedures are being followed and that our employees operate within established corporate policies and limits.

Risk Management

We have established various committees to oversee the management of risks associated with our business. Our Audit Committee was established for the primary purpose of overseeing (i) the integrity of our unaudited and audited condensed consolidated financial statements, (ii) our compliance with legal and regulatory requirements that may impact our unaudited condensed consolidated financial statements or financial operations, (iii) the independent auditor’s qualifications and independence and (iv) the performance of our independent auditor and internal audit function.

In addition, we have written policies and procedures that govern the conduct of business by our employees and our relationship with our clients. Our client policies address the extension of credit for client accounts, data and physical security, compliance with industry regulation and codes of ethics to govern employee conduct among other matters.

ITEM 4. CONTROLS AND PROCEDURES

Evaluation of disclosure controls and procedures.

Disclosure controls and procedures are our controls and other procedures that are designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act, are recorded, processed, summarized and reported within the time period specified by the SEC’s rules and forms. Disclosure and control procedures are also designed to ensure that such information is accumulated and communicated to management, including our Principal Executive Officer and Principal Financial Officer, to allow timely decisions regarding required disclosures.

Based on our evaluation of disclosure controls and procedures (as defined in the Exchange Act Rules 13a-15(e) and 15d-15(e)) required by the Exchange Act Rules 13a-15(b) or 15d-15(b), our Principal Executive Officer and Principal Financial Officer have concluded that, as of the end of the period covered by this report, our disclosure controls and procedures were adequate and effective at the reasonable assurance level.

Changes in internal controls.

There were no changes in our internal control over financial reporting during the quarter ended June 30, 2020, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II – OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

On July 3, 2019, a lawsuit was filed against National Securities Corporation, National Asset Management, Inc., the Company, the Company’s current board members and certain former board members, certain officers of the Company, John Does 1–10, and the Company as a nominal defendant, in the United States District Court for the Southern District of New York, captioned Kay Johnson v. National Securities Corporation, et al., Case No. 1:19-cv-06197-LTS. The complaint presents three purported derivative causes of action on behalf of the Company, and five causes of action by the plaintiff directly. As part of the derivative claims, the complaint generally alleges that certain of the individual defendants failed to establish and maintain adequate internal controls to ensure that the Board acted in accordance with its fiduciary duties to prevent and uncover alleged legal and regulatory misconduct and wrongdoing on the part of a National officer. As part of its claims brought directly by the plaintiff, the complaint generally alleges that certain individual and corporate defendants wrongfully terminated the employment of the plaintiff in violation of the Dodd-Frank Act and applicable common law, or conspired to do so. The complaint further alleges that certain corporate defendants violated the Equal Pay Act with regards to the plaintiff’s compensation. The complaint seeks monetary damages in favor of the Company, an order directing the Company’s board members to take actions to enhance the Company’s governance, compensatory and punitive damages in favor of the plaintiff, and attorneys’ fees and costs. On February 2, 2020, the plaintiff filed an amended complaint presenting additional causes of action. The Company has notified its insurer of the lawsuit and believes it has valid defenses to the asserted claims of the complaint. On March 18, 2020, the defendants filed a motion to dismiss the amended complaint. The plaintiff filed an opposition to the defendants’ motion to dismiss on April 15, 2020, and the defendants filed a reply in further support of the motion to dismiss on May 6, 2020.

ITEM 1A. RISK FACTORS

There have been no material changes from the risk factors discussed in our Annual Report on Form 10-K for the fiscal year ended September 30, 2019 and our Quarterly Reports on Form 10-Q for the quarterly periods ended December 31, 2019 and March 31, 2020.

ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

None.

ITEM 3. DEFAULTS UPON SENIOR SECURITIES

None.

ITEM 4. MINE SAFETY DISCLOSURES

Not applicable.

ITEM 5. OTHER INFORMATION

None.

ITEM 6. EXHIBITS



31.1	Principal Executive Officer’s Certificate pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2	Principal Financial Officer’s Certificate pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1	Principal Executive Officer’s Certificate pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2	Principal Financial Officer’s Certificate pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS	XBRL Instance Document
101.SCH	XBRL Taxonomy Extension Schema
101.CAL	XBRL Taxonomy Extension Calculation Linkbase
101.DEF	XBRL Taxonomy Extension Definition Linkbase
101.LAB	XBRL Taxonomy Extension Labels Linkbase
101.PRE	XBRL Taxonomy Extension Presentation Linkbase

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.

NATIONAL HOLDINGS CORPORATION



August 13, 2020	By:	/s/ Michael A. Mullen
		Michael A. Mullen
		Chief Executive Officer
		(Principal Executive Officer)

August 13, 2020	By:	/s/ Glenn C. Worman
		Glenn C. Worman
		Chief Financial Officer
		(Principal Financial Officer)

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