Firebrand Financial Group, Inc. (FFGI) - Description of business
Firebrand Financial Group, Inc. ("Firebrand Financial" or "the Company") owns 63.6% of EarlyBirdCapital.com Inc. ("EarlyBird.com"), which in turn owns 100% of EarlyBirdCapital, Inc. ("EarlyBirdCapital") and Dalewood Associates, Inc. ("Dalewood"). Firebrand Financial also owns 100% of GKN Securities Corp. ("GKN") and 80% of StreetWide Asset Recovery Group, Inc. ("StreetWide"). As of January 31, 2001 Firebrand Financial also owned 56.4% of Shochet Holding Corp. ("Shochet").
Through our subsidiaries, EarlyBirdCapital (formerly known as Southeast Research Partners, Inc.) and Dalewood, we provide investment banking, asset management, and securities brokerage services, with an emphasis on small- and mid-capitalization companies and early-stage growth companies. These services are provided through the following primary divisions:
o Investment banking o Securities brokerage o Asset management
We derive fee revenue primarily from investment banking and asset management services, as well as generating commission revenue through securities brokerage. The parent company also maintains a portfolio of securities; transactions in this portfolio have resulted in principal transaction profits and losses as indicated in the charts below.
During the first quarter of fiscal 2002, we established the StreetWide Asset Recovery Group ("StreetWide"). StreetWide is engaged by broker/dealers and other financial institutions to collect debt due to them from former employees or from customers. StreetWide generates revenues through retainer and collection fees.
The following table indicates the percentage of total revenues represented by each of our principal activities in our continuing operations during the past three fiscal years ended January 31:
2002 2001 2000 ---- ---- ---- Investment banking 40% 69% 0% Asset management 11% 24% 48% Commissions 34% - 10% Principal transactions (1)% (72)% 32% Interest 5% 19% 2% Other 11% 60% 8%
The following table illustrates our revenue breakdown by our principal activities:
2002 2001 2000 ---- ---- ---- Investment banking $ 1,545,000 $ 1,741,000 $ 42,000 Asset management 415,000 593,000 3,264,000 Commissions 1,297,000 - 699,000 Principal Transactions (65,000) (1,811,000) 2,130,000 Interest 210,000 468,000 152,000 Other 435,000 1,513,000 554,000 ----------- ---------- -----------
Net revenues $ 3,837,000 $ 2,504,000 $ 6,841,000 =========== =========== ===========
During the fiscal year ended January 31, 2001, we made the strategic decision to de-emphasize retail securities brokerage activity (see Changes in Corporate Composition and Discontinued Operations). Results of GKN Securities Corp. ("GKN") and Shochet Holding Corp. ("Shochet") are considered Discontinued Operations in the financial statements for fiscal 2002, 2001 and 2000. EarlyBirdCapital has assumed some of the accounts and brokers from GKN and Shochet.
Changes in Corporate Composition and Discontinued Operations
During the fiscal year ended January 31, 2001, we made the strategic decision to de-emphasize retail securities brokerage activity. Accordingly, we arranged to transfer our full service retail brokerage accounts at GKN to other broker/dealers, who in turn hired the GKN brokers. These broker/dealer firms are compensating GKN under arrangements discussed in footnote 3 to our consolidated financial statements in our Form 10-K for the fiscal year ended January 31, 2002.
During August 2001, GKN ceased operations of its Structured Finance Department. The financial impact of this action was insignificant to the Company.
On September 10, 2001, GKN filed a Form BDW with the NASD and SEC. By filing the Form, GKN gave notice that it was withdrawing from the securities business and returning its license to the regulatory authorities. The final withdrawal received approval of all necessary regulatory authorities.
In December 2000, the Company's Board approved a plan to dispose of its 53.5% interest in Shochet, whose principal operation, SSI Securities, Inc. ("SSI") (previously known as Shochet Securities, Inc.), provided discount retail brokerage services in South Florida.
On August 1, 2001 Shochet announced that SSI had signed a definitive agreement to transfer substantially all of its brokers, accounts and operating assets to another broker/dealer, BlueStone Capital Corp. ("BlueStone"). This transaction closed on August 31, 2001. As part of the transaction the name "Shochet Securities" was sold to BlueStone and Shochet Securities changed its name to SSI Securities, Inc. On November 7, 2001 BlueStone announced that it had sold substantially all of its operating assets to another independent broker/dealer, Sands Brothers & Co., Ltd. ("Sands"). See footnote 3. As a result of the sale of SSI, Shochet became a public shell.
On December 20, 2001, SSI filed a Form BDW with the NASD and SEC. By filing the Form, SSI gave notice that it was withdrawing from the securities business and returning its license to the regulatory authorities. The final withdrawal received approval of both the NASD and the SEC.
On March 12, 2002 we announced that we had entered into an agreement to sell most of our interest in Shochet to Sutter Opportunity Fund 2 LLC. This transaction closed on March 28, 2002. See footnote 16.
In July 2000, EarlyBirdCapital acquired the assets of Angeltips.com, a company involved in attracting angel investors to early-stage companies. EarlyBird issued 1,129,623 shares of its common stock and $1,018,000 in cash for the assets. This transaction was subsequently renegotiated and 782,940 of the shares issued were recaptured. Angeltips.com was subsequently closed down. As part of the renegotiation of the transaction and the close down, EarlyBirdCapital recognized a loss of $1,363,000 in fiscal 2001.
In October 2001, EarlyBird.com sold its ownership interest in EBCapital (Europe) AG to its managing director. This transaction is discussed in footnote 3 to the consolidated financial statements of this document.
In fiscal 2000, we sold our Institutional and Research divisions.
In the first quarter of fiscal 2002, we established the StreetWide Asset Recovery Group ("StreetWide"). StreetWide is engaged by broker/dealers and other financial institutions to collect debt due to them from prior broker employees or from customers. The broker debts are generated through brokers reneging on employment contracts or brokers generating other losses due to their respective firms. The customer debt is usually generated through unsecured margin loans on which the customers have refused to repay the firms.
StreetWide pursues the collection of these debts through the NASD Arbitration process, or through direct negotiation with the obligor. StreetWide currently employs two individuals. As of January 31, 2002, StreetWide had 13 customers under contract. For the year ended January 31, 2002, StreetWide generated $116,000 of operating revenue.
StreetWide anticipates future growth through the solicitation of additional broker/dealers and clearing firms as customers.
GKN, Shochet, SSI and the Institutional and Research divisions are considered discontinued operations for the financial statements for the fiscal years ended January 31, 2001 and 2000. Certain revenue and expense amounts in prior years have been reclassified to reflect the impact of the discontinued operations, as well as certain balance sheet items. Each transaction described herein is discussed in footnote 3 or 16 to the consolidated financial statements of this document.
Our operations in fiscal 2002 and 2001 consumed substantial amounts of cash and have generated significant net losses. We have curtailed or discontinued many of the product lines we previously offered. These matters raise doubt about our ability to continue as a going concern, as cited in Footnote 1 to the consolidated financial statements. We believe that our future success is dependent upon our ability to (i) streamline our operation to reduce costs, and (ii) generate new sources of revenue. We have begun reducing costs and have expanded into new lines of business. Notwithstanding the foregoing, the Company's cash resources remain constrained and are not sufficient to meet existing contractual obligations and liabilities.
Prior Capital Raising Activities
In November 1999, we transferred all our shares of Shochet Securities, our then wholly-owned discount brokerage subsidiary, to a newly formed holding company, Shochet Holding Corp. In March 2000, Shochet completed its initial public offering and raised gross proceeds of $9,405,000 through the sale of 1,045,000 shares of its common stock, which were traded on the Nasdaq Smallcap Market under the symbol "SHOC." As of January 31, 2002 we owned a 56.4% majority of the outstanding stock of Shochet. On March 28, 2002, we closed a transaction whereby we sold all of our interest in Shochet, except for 52,785 shares. See footnote 16.
We offer investment banking services and asset management through our majority-owned holding company EarlyBirdCapital.com Inc. EarlyBirdCapital.com wholly-owns (i) EarlyBirdCapital, Inc., an investment banking broker-dealer, (ii) Dalewood Associates, Inc., the manager and general partner of a private investment fund, and (iii) EarlyBirdCapital Management Limited, the investment advisor to an offshore investment company. In February 2000, we raised approximately $11,000,000 in gross proceeds for EarlyBirdCapital.com Inc. through the sale of preferred stock. As of January 31, 2002 we owned 64.5% of EarlyBirdCapital.com.
Brokerage and Distribution
Although we have transferred the retail brokerage businesses of GKN and SSI, (which are considered discontinued operations), we still realize revenues from commissions, reflecting EarlyBird's assumption of certain GKN accounts and brokers, and overrides to GKN from other broker/dealers. We charge commissions to our individual and institutional clients for executing buy and sell orders of securities on national and regional exchanges and in the over-the-counter markets. During fiscal 2002, our brokerage business generated $1,297,000 in securities commissions. As of March 31, 2002, EarlyBird had 3,500 customer accounts, representing $58.5 million of customer assets.
Investment Banking Division
Our company has been involved in the investment banking business in excess of ten years. In February 2000, we broadened our investment banking business and established the operations of EarlyBirdCapital, Inc. EarlyBirdCapital, Inc. provides client-companies with advisory services and access to capital, and institutions and accredited investors with readily accessible investment opportunities. EarlyBirdCapital, Inc. engages in the business of financing early stage, emerging-growth companies through the sale of their equity securities to investors in private offerings conducted through conventional methods. During fiscal 2002, EarlyBirdCapital recorded revenues of $2,639,000 and losses of ($1,703,000), partially reflecting the current business environment for private placements. EarlyBirdCapital raised $21,464,000 of capital for companies through five private placements during fiscal 2002.
Following the discontinuance of GKN operations, the private placement of equity or equity-related securities for both private and publicly held companies has become the primary source of revenues. Historically, our expertise and proven ability to assist emerging growth companies, which often have limited access to other sources of capital, have created a significant source of ongoing and potential new investment banking clients.
Asset Management Division
We entered the merchant banking and asset management business in 1996 with the acquisition of Dalewood Associates, Inc. Dalewood is the managing partner of Dalewood Associates L.P., a private investment partnership that makes investments in certain carefully selected companies and provides them with financing to advance their business to the next stage of their development. At December 31, 2001, Dalewood Associates L.P. had total assets of approximately $18 million, of which $9 million was invested in nine industry sectors.
As general partner of Dalewood Associates, LP, Dalewood Associates, Inc., is entitled to an annual management fee based on the assets of the limited partnership and an incentive fee based on the performance of the fund each year. Through our limited partnership ownership position in Dalewood, we also record equity in Dalewood's earnings. The fee revenues generated by Dalewood Associates, Inc. for fiscal 2002 were $328,000, versus $827,000 in fiscal 2001. During fiscal 2002 Dalewood recognized a write-down of its assets of 43%.
In fiscal 2001, EarlyBirdCapital.com established an offshore investment manager, EarlyBirdCapital Management Limited ("EBCM"). EBCM was responsible for managing the assets of Dalewood 2 Private Technology Limited during fiscal 2002. During fiscal 2002, EBCM was entitled to an annual management fee based on the assets of Dalewood 2 and an incentive fee based on the performance of Dalewood 2 each year. As of January 31, 2002, Dalewood 2 had total assets of approximately $6.0 million. During fiscal 2002 Dalewood 2 recognized a write-down of 22%. The revenues generated by EBCM for fiscal 2002 were $422,000.
StreetWide Asset Recovery Group
In the first quarter of fiscal 2002, we established the StreetWide Asset Recovery Group ("StreetWide"). StreetWide is engaged by broker/dealers and other financial institutions to collect debt due to them from former employees or from customers. The broker debts are generated through brokers reneging on employment contracts or brokers generating other losses due to their respective firms. The customer debt is usually generated through unsecured margin loans on which the customers have refused to repay the firms.
StreetWide pursues the collection of these debts through the NASD Arbitration process, or through direct negotiation with the obligor. StreetWide currently employs two individuals. As of January 31, 2002, StreetWide had 13 customers under contract. For the twelve months ended January 31, 2002, StreetWide generated $116,000 of operating revenue.
StreetWide anticipates future growth through the solicitation of additional broker/dealers and clearing firms as customers.
In connection with our investment banking activities of raising capital and providing advisory services for client companies, we typically receive warrants, which entitle us to purchase securities of these client companies. These warrants, which are held in our investment account, vary in value based upon the market prices of the underlying securities. Warrants are usually exercisable for four years beginning one year after issuance and are valued by management based on a significant discount to the current market values of the underlying securities. At January 31, 2002 we owned warrants to purchase securities of 15 companies for which we have performed investment-banking services. These warrants had an underlying market value of $245,000 as of January 31, 2002, of which we recognized $122,000 in value or 50%. Accordingly, during fiscal 2002, we recognized total gains of $122,000 on the investment account warrants.
We do not hold any funds or securities of our securities brokerage customers. EarlyBirdCapital uses the services of BNY Clearing Services LLC as its clearing agent on a fully disclosed basis. BNY Clearing Services processes all securities transactions and maintains customer accounts on a fee basis. Customer accounts are protected through the Securities Investor Protection Corporation for up to $500,000 per account, of which coverage for cash balances is limited to $100,000. Additional protection of up to $49.5 million per account is provided by BNY Clearing Services. Pursuant to the terms of our agreement with our clearing broker, we have agreed to indemnify and hold our clearing broker harmless from certain liabilities and claims, including claims arising from transactions of our customers. The services of BNY Clearing Services include billing, credit control, receipt, and custody and delivery of securities. BNY Clearing Services provides operational support necessary to process, record, and maintain securities transactions for our brokerage and distribution activities. BNY Clearing Services provides these services to us and our customers at a total cost which is less than it would cost us to process such transactions on our own.
BNY Clearing Services lends funds to our customers through the use of margin credit. These loans are made to customers on a secured basis, with BNY Clearing Services maintaining collateral in the form of saleable securities, cash or cash equivalents. Under the terms of the clearing agreement, the brokerage subsidiaries indemnify BNY Clearing Services for any loss on these credit arrangements. At April 25, 2002, EarlyBird had approximately $1.0 million of margin credit outstanding to our customers through BNY Clearing Services.
The securities industry in the United States is subject to extensive and frequently changing federal and state laws and substantial regulation under such laws by the SEC and various state agencies and self-regulatory organizations, such as the NASD. EarlyBirdCapital, Inc. is a registered broker-dealer with the SEC and is a member firm of the NASD. Much of the regulation of broker-dealers has been delegated to self-regulatory organizations, principally NASD Regulation, Inc., NASDR, the regulatory arm of the NASD, which has been designated by the SEC as EarlyBirdCapital, Inc.'s primary regulator. NASDR adopts rules, which are subject to approval by the SEC, that govern its members and conducts periodic examinations of member firms' operations. Securities firms are also subject to regulation by state securities administrators in those states in which they conduct business. EarlyBirdCapital, Inc. is registered as a broker-dealer in 46 states and the District of Columbia.
Broker-dealers are subject to regulations which cover all aspects of the securities business, including sales methods and supervision, trading practices among broker-dealers, use and safekeeping of customers' funds and securities, capital structure of securities firms, record keeping and the conduct of directors, officers and employees. Additional legislation, changes in rules promulgated by the SEC and self-regulatory organizations, or changes in the interpretation or enforcement of existing laws and rules, may directly affect the mode of operation and profitability of broker-dealers. The SEC, self-regulatory organizations, and state securities commissions may conduct administrative proceedings which can result in censure, fine, the issuance of cease-and-desist orders or the suspension or expulsion of a broker-dealer, its officers or employees. The principal purpose of regulation and discipline of broker-dealers is the protection of customers and the integrity of the securities markets.
Broker-dealers are also subject to the SEC's net capital rule. The net capital rule, which specifies minimum net capital requirements for registered brokers and dealers, is designated to measure the general financial integrity and liquidity of a broker-dealer and requires that at least a minimum part of its assets be kept in relatively liquid form. Net capital is essentially defined as net worth (assets minus liabilities), plus qualifying subordinated borrowings and less certain mandatory deductions that result from excluding assets not readily convertible into cash and from valuing certain other assets, such as a firm's positions in securities, conservatively. Among these deductions are adjustments in the market value of securities to reflect the possibility of a market decline prior to disposition.
EarlyBirdCapital, Inc. has elected to compute its net capital under the standard aggregate indebtedness method permitted by regulatory rules, which requires that the ratio of aggregate indebtedness to net capital, both as defined, shall not exceed 15-to-1. At January 31, 2002, EarlyBirdCapital, Inc. had net capital and a net capital requirement of $366,000 and $100,000, respectively; its ratio of aggregate indebtedness to net capital was 0.54 to 1.
Failure to maintain the required net capital may subject a firm to suspension or expulsion by the NASD, the SEC and other regulatory bodies and ultimately may require its liquidation. The net capital rule also prohibits payments of dividends, redemption of stock and the prepayment or payment in respect of principal of subordinated indebtedness if net capital, after giving effect to the payment, redemption or repayment, would be less than specified percentage of the minimum net capital requirement. Compliance with the net capital rule could limit those operations of our brokerage subsidiaries that require the intensive use of capital, such as underwriting and trading activities, and also could restrict our ability to withdraw capital from our operating subsidiary, which in turn, could limit our ability to pay dividends, repay debt and redeem or purchase shares of our outstanding capital stock.
We encounter intense competition in all aspects of the securities business and compete directly with other securities and asset management firms, a significant number of which have greater capital and other resources. In addition to competition from firms currently in the securities and asset management business, there has recently been increasing competition from other sources, such as commercial banks, Internet companies and insurance companies offering financial services, and from other investment alternatives. We believe that the principal factors affecting competition in the securities industry are the quality and abilities of professional personnel, and the quality, range, and relative prices of services and products offered.
We have filed for tradename protection regarding the name EarlyBirdCapital. This application was denied. We have been advised by the United States Patent and Trademark Office, and by an unaffiliated third party, that such third party also has claimed the name and has been granted the trademark. We have filed a Petition for Cancellation with the United States Patent and Trademark Office concerning the tradename that has been issued. This Petition is pending. We intend to enforce our rights to the name EarlyBirdCapital. There is no assurance that we will be successful in doing so. If we are forced to cease using the name, we will incur additional expense to change the name and to establish good will with respect to the new name.
At March 31, 2002, we had a total of 31 full-time employees and one part-time employee in continuing operations, including five registered representatives. We consider our relationship with our employees to be good.