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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
/X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended December 31, 1998
or
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
Commission file number 1-14243
RAGEN MACKENZIE GROUP INCORPORATED
(Exact name of registrant as specified in its charter)
Washington 91-1898738
(State or other jurisdiction of (IRS Employer
incorporation of organization) Identification Number)
999 Third Avenue, Suite 4300 Seattle, Washington 98104
(Address of principal executive offices and zip code)
Registrant's telephone number, including area code (206) 343-5000
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes __X__ No _____
As of February 1, 1999 the Company had 13,182,719 shares of common stock
outstanding.
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RAGEN MACKENZIE GROUP INCORPORATED
REPORT ON FORM 10-Q FOR THE QUARTERLY PERIOD ENDED DECEMBER 31, 1998
INDEX PAGE
PART I. FINANCIAL INFORMATION
<TABLE>
<CAPTION>
<S> <C>
Item 1. Financial Statements
Consolidated Statements of Financial Condition 3
Consolidated Statements of Income 4
Consolidated Statements of Cash Flows 5
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations 8
Item 3. Quantitative and Qualitative Disclosures About Market Risk 11
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 13
Item 2. Changes in Securities and Use of Proceeds 13
Item 3. Defaults Upon Senior Securities 13
Item 4. Submission of Matters to a Vote of Security Holders 14
Item 5. Other Information 14
Item 6. Exhibits and Reports on Form 8-K 14
SIGNATURES 15
EXHIBIT INDEX 16
</TABLE>
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Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
RAGEN MACKENZIE GROUP INCORPORATED AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(in thousands, except share amounts)
<TABLE>
<CAPTION>
December 31, September 25,
1998 1998
------------ -------------
(unaudited)
<S> <C> <C>
ASSETS
Cash $ 7,419 $ 2,143
Cash and market value of securities segregated for the
exclusive benefit of customers 359,443 315,997
Deposits with clearing organizations 1,607 1,207
Receivable from:
Brokers, dealers, and clearing organizations 2,161 2,661
Customers 127,565 110,428
Securities owned, at market value 135,469 169,410
Securities purchased under agreements to resell 129,523 172,384
Securities borrowed 5,278 2,144
Furniture, equipment, and leasehold improvements - net 1,266 1,293
Other assets 3,773 4,182
-------- --------
Total $773,504 $781,849
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES:
Borrowings $ -- $ 47,225
Payable to:
Brokers, dealers, and clearing organizations 7,745 11,986
Customers 471,082 390,697
Securities sold but not yet purchased, at market value 124,385 164,095
Securities sold under agreements to repurchase 42,500 45,900
Accrued compensation and related benefits 7,916 8,300
Other liabilities and accrued expenses 7,165 4,707
-------- --------
Total liabilities 660,793 672,910
SHAREHOLDERS' EQUITY:
Preferred stock, $.01 par value--Authorized 10,000,000
shares; no shares issued and outstanding
Common stock, $.01 par value--Authorized 50,000,000
shares; issued and outstanding, 13,457,390 shares 135 135
Additional paid-in capital 47,842 47,872
Common shares issuable under deferred compensation
arrangements, less unamortized purchase discount of $180 677
Treasury stock - 184,550 and 50,600 shares, at cost ( 1,957) ( 511)
Retained earnings 66,014 61,443
-------- --------
Total shareholders' equity 112,711 108,939
-------- --------
Total $773,504 $781,849
======== ========
</TABLE>
See Notes to Consolidated Financial Statements
3
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RAGEN MACKENZIE GROUP INCORPORATED AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share amounts)
(unaudited)
<TABLE>
<CAPTION>
Three-Month Period Ended
------------------------
December 31, December 31,
1998 1997
------------ -----------
<S> <C> <C>
REVENUES:
Principal transactions, net $ 8,261 $ 6,433
Commissions 8,362 10,375
Other 1,490 1,708
------- -------
Total operating revenues 18,113 18,516
Interest Income 9,375 9,412
------- -------
Total revenues 27,488 27,928
------- -------
Interest expenses 5,771 6,244
------- -------
Net revenues 21,717 21,684
------- -------
NONINTEREST EXPENSES:
Compensation and benefits 10,821 11,212
Occupancy and equipment 1,239 1,385
Communications 947 908
Clearing and exchange fees 585 769
Other 1,189 1,047
------- -------
Total noninterest expenses 14,781 15,321
------- -------
INCOME BEFORE TAXES ON INCOME 6,936 6,363
TAXES ON INCOME 2,365 2,463
------- -------
NET INCOME $ 4,571 $ 3,900
======= =======
WEIGHTED-AVERAGE NUMBER OF
COMMON SHARES OUTSTANDING:
Basic 13,336 10,293
Diluted 13,478 10,818
EARNINGS PER COMMON SHARE:
Basic $.34 $.38
Diluted .34 .36
</TABLE>
See Notes to Consolidated Financial Statements
4
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RAGEN MACKENZIE GROUP INCORPORATED AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
<TABLE>
<CAPTION>
Three-Month Period Ended
---------------------------
December 31, December 31,
1998 1997
----------- -----------
<S> <C> <C>
OPERATING ACTIVITIES:
Net income $ 4,571 $ 3,900
Adjustments to reconcile net income to net cash provided (used) by
operating activities:
Depreciation and amortization 165 116
Stock option expense 700
Deferred tax benefit (196)
Amounts retained under deferred compensation arrangements 677
Cash provided (used) by changes in operating assets and liabilities:
Cash and market value of securities segregated for the
exclusive benefit of customers (43,446) (7,534)
Deposits with clearing organizations (400) (200)
Receivable from:
Brokers, dealers, and clearing organizations 500 (11,575)
Customers (17,137) (15,099)
Securities owned 33,941 (20,488)
Securities purchased under agreements to resell 42,861 (7,763)
Securities borrowed (3,134) 4,267
Other assets 605 115
Payable to:
Brokers, dealers, and clearing organizations (4,241) (931)
Customers 80,385 (9,660)
Securities sold but not yet purchased (39,710) 8,249
Securities sold under agreements to repurchase (3,400) 1,000
Accrued compensation and related benefits (384) (3,024)
Other liabilities and accrued expenses 2,458 1,978
-------- --------
Net cash provided (used) by operating activities 54,115 (55,949)
INVESTING ACTIVITIES:
Purchases of furniture, equipment, and leasehold improvements (138) (163)
FINANCING ACTIVITIES:
Proceeds from (repayment of) borrowings, net (47,225) 53,925
Proceeds from issuance of common stock 55 760
Repurchases of common stock for treasury (1,531) (487)
-------- --------
Net cash provided (used) by financing activities (48,701) 54,198
-------- --------
INCREASE (DECREASE) IN CASH 5,276 (1,914)
CASH:
Beginning of period 2,143 4,980
-------- --------
End of period $ 7,419 $ 3,066
======== ========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the fiscal quarter for:
Interest $ 6,355 $ 6,274
Federal income taxes 0 600
</TABLE>
See Notes to Consolidated Financial Statements
5
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RAGEN MACKENZIE GROUP INCORPORATED AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Note 1: BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements include Ragen
MacKenzie Group Incorporated and its subsidiary (collectively, the Company).
Ragen MacKenzie Group Incorporated is a holding company engaged, through its
subsidiary, in securities brokerage and related investment services that include
retail and institutional brokerage of securities, investment research, market
making, trading, underwriting, distribution of corporate securities and
correspondent clearing. Ragen MacKenzie Group Incorporated's operating
subsidiary, Ragen MacKenzie Incorporated (RMI), is registered with the
Securities and Exchange Commission (the SEC) as a broker/dealer, is a member
firm of the New York Stock Exchange (the NYSE) and has retail offices located in
Washington, Oregon, and Alaska.
These financial statements have been prepared pursuant to the rules and
regulations of the SEC and, therefore, do not include all information and notes
required by generally accepted accounting principles for complete financial
statements. The interim financial statements reflect all adjustments
(consisting only of normal recurring adjustments) which are, in the opinion of
management, necessary for a fair presentation of the results for the periods
presented. The nature of the Company's business is such that the results of any
interim period are not necessarily indicative of results for a full year. These
financial statements should be read in conjunction with the consolidated
financial statements and footnotes thereto for the year ended September 25, 1998
included in the Company's Annual Report on Form 10-K (the 1998 Annual Report)
as filed with the SEC.
Note 2: SHAREHOLDERS' EQUITY
In August 1998, the Board of Directors authorized the repurchase of up to
1,000,000 shares of the Company's common stock over the following 12 months.
Purchases of the common stock may be made from time to time at prevailing prices
in the open market, by block purchases, or in privately negotiated transactions.
The repurchased shares are to be accounted for as treasury stock and used for
the Company's employee stock option plans and other general corporate purposes.
During the quarter ended December 31, 1998 the Company repurchased 142,300
shares at a total cost of $1,531,000.
During the quarter ended December 31, 1998, 8,350 shares of the Company's
treasury stock were issued upon the exercise of options under the Company's
employee stock option plans.
Note 3: NET CAPITAL REQUIREMENTS
RMI is subject to the Uniform Net Capital Rule 15c3-1 (the Rule) under the
Securities Exchange Act of 1934. RMI has elected to compute net capital under
the alternative provisions of the Rule, which require RMI to maintain net
capital, as defined, equal to the greater of $1,000,000 or 2% of aggregate debit
items arising from customer transactions, as defined. At December 31, 1998,
RMI's net capital was $100,780,000, which was 77% of aggregate debit items, and
which exceeded the minimum net capital requirement of $2,615,000 by $98,165,000.
The net capital rules of the NYSE also provide that equity capital may not be
withdrawn or cash dividends paid without notification if resulting net capital
would be less than 5% of aggregate debit items.
Note 4: EARNINGS PER COMMON SHARE
Beginning December 31, 1997, basic earnings per share (EPS) and diluted EPS are
required to be computed using the methods specified in Statement of Financial
Accounting Standards No. 128, Earnings per Share. Basic EPS is calculated using
the weighted average number of common shares outstanding for the period and
diluted EPS is computed using the weighted average number of shares and dilutive
common equivalent shares outstanding calculated under the treasury stock method.
For the purpose of calculating the dilutive effect of stock options in diluted
EPS for periods prior to the completion of the Company's initial public offering
(IPO) of common stock on June 26, 1998, the Company utilizes the per-share book
value at the end of each corresponding period as the Company's share repurchase
plan in effect prior to the IPO required selling shareholders to offer their
shares to the Company for redemption at book value as
6
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calculated in accordance with the terms of the share repurchase plan. The
following table sets forth the computations for basic and diluted earnings per
common share (in thousands, except per share amounts):
<TABLE>
<CAPTION>
Three-Month Period Ended
------------------------
December 31, 1998 December 31, 1997
----------------- -----------------
Basic Diluted Basic Diluted
----- ------- ----- -------
NUMERATOR:
<S> <C> <C> <C> <C>
Net income $ 4,571 $ 4,571 $ 3,900 $ 3,900
DENOMINATOR:
Weighted average shares outstanding 13,336 13,336 10,293 10,293
Dilutive effect of stock options 142 525
-------- -------- -------- -------
Adjusted weighted average shares outstanding 13,336 13,478 10,293 10,818
-------- -------- -------- -------
Earning per common share $ .34 $ .34 $ .38 $ .36
======== ======== ======== =======
</TABLE>
Options to purchase 177,652 shares for 1998 were not included in the computation
of diluted earnings per share because the options' exercise prices were greater
than the average market price of the common shares for the period.
Note 5: SUBSEQUENT EVENT
On January 27, 1999, the Company agreed to acquire all of the outstanding common
stock of Columbia Pacific Securities Inc., a privately held retail brokerage
firm with independent contractors operating branches located in California,
Idaho, Montana, Oregon, Washington, and Wyoming. The consideration to be paid
for the acquisition includes the issuance of shares of the Company's common
stock and cash as specified in the purchase agreement. The Company anticipates
that it will utilize common shares held in treasury to satisfy the stock
consideration of the acquisition. The transaction will be accounted for as a
purchase and is anticipated to be completed during the Company's second fiscal
quarter ended March 26, 1999.
7
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Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion and analysis should be read in conjunction with the
Company's Consolidated Financial Statements and the related Notes thereto
appearing in Item 1 of this report. In addition to historical information, this
Form 10-Q contains and may incorporate by reference statements which may
constitute forward-looking statements that involve risks and uncertainties. The
words "believe", "expect", "intend", "anticipate", variations of such words, and
similar expressions identify forward-looking statements, but their absence does
not mean that the statement is not forward-looking. These forward-looking
statements are not guarantees of future performance and are subject to certain
risks, uncertainties and assumptions that are difficult to predict. Accordingly,
actual results may differ materially from those anticipated or expressed in such
statements. Potential risks and uncertainties include, among other things, the
general risks of the securities industry, risks of reduced revenue during
periods of lower stock prices or reduced trading volume; dependence on, and
ability to retain and recruit, key personnel; recent changes in management;
risks relating to the departure of Brooks G. Ragen and related personnel;
dependence on proprietary research; significant fluctuations in quarterly
operating results; regional concentration; competition; management of growth of
new and existing businesses; and the risks relating to proprietary trading and
correspondent brokerage services; risks of extension of credit; risks relating
to regulation; risks relating to litigation and potential securities law
liability; risks relating to Year 2000 compliance; and market, credit and
liquidity risks associated with market-making, principal trading and
underwriting activities. More information about factors that could affect the
Company's financial results is included in the section of the Company's 1998
Annual Report entitled "Additional Factors That May Affect Future Results."
The Company's discussion of the issues surrounding the Year 2000 contain
forward-looking statements. These forward-looking statements include, but are
not limited to, discussions concerning (1) the financial impact of the Year 2000
project; (2) the Company's estimated timetables for completion of each phase of
the project; (3) the readiness of third-party service providers, including the
functioning of the Company's core brokerage software provided by an outside
software provider; and (4) contingency plans. Many factors, including those
outside of the control of the Company and those that are difficult or impossible
to predict at this time, could cause actual results to be materially different
than those anticipated and expressed in these forward-looking statements.
OVERVIEW
The Company's primary business is retail securities brokerage, which it conducts
in its Seattle headquarters and 10 additional offices in Washington, Oregon and
Alaska, which include four offices operated by independent contractors. This
business is directly supported by the Company's proprietary research efforts,
which are based on a value-oriented, contrarian approach to investing. The
Company's research department covers approximately 100 publicly traded companies
headquartered in the Pacific Northwest and maintains a recommended list of
selected regional and national stocks. Other aspects of the Company's business
include proprietary trading of certain fixed income securities, institutional
brokerage services, correspondent brokerage services and investment banking
services.
RESULTS OF OPERATIONS
Comparison of three months ended December 31, 1998 and December 31, 1997
Net revenues increased modestly from the first three months of fiscal 1998 to
the same period in fiscal 1999. The increase in net revenues was due primarily
to increased revenue from the Company's proprietary trading of U.S. government
and agency zero coupon bonds which was partially offset by lower retail
brokerage commissions during the first three months of fiscal 1999 as compared
to the same period in fiscal 1998.
Revenues from principal transactions increased by $1,828,000, or 28.4%, to
$8,261,000 for the first three months of fiscal 1999 as compared to the same
period in fiscal 1998. Revenues from trading debt securities increased by
$1,752,000, or 51.4%, to $5,162,000, due primarily to significant revenue growth
from trading in U.S. government and agency zero coupon bonds, resulting in part
from the opportunistic reconstitution of certain U.S. government and agency zero
coupon bonds. Similar opportunities for growth in the trading of U.S.
government and agency zero coupon bonds may not recur in future periods.
Revenues from principal transactions in equity securities increased by $76,000,
or 2.5%, to $3,099,000 for the first three months of fiscal 1999 as compared to
the same period in fiscal 1998. The increase reflects a rise in sales credits
from retail trading activity partially offset by lower trading profits due to
increased competition and greater regulatory supervision of these markets.
8
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Commissions revenues decreased by $2,013,000, or 19.4%, to $8,362,000 for the
first three months of fiscal 1999 as compared to the same period in fiscal 1998
primarily due to a reduction in retail brokerage activity.
Other revenue decreased by $218,000, or 12.8%, to $1,490,000 for the first three
months of fiscal 1999 compared to the same period in fiscal 1998, primarily due
to lower fees from investment banking.
Net interest income increased by $436,000, or 13.8%, to $3,604,000 for the first
three months of fiscal 1999 as compared to the same period in fiscal 1998.
Interest income decreased modestly to $9,375,000 due to lower interest rates
earned on customer credit and margin balances, which was partially offset by an
increase in margin and money-market balances. Interest expense decreased by
$473,000, or 7.6%, to $5,771,000 due to the application of $18,634,000 net
proceeds from the Company's June 1998 IPO to pay down current short-term
borrowings and lower interest rates paid on customer credit balances.
Noninterest expenses decreased by $540,000, or 3.5%, to $14,781,000 for the
first three months of fiscal 1999 as compared to the same period of fiscal 1998,
primarily due to a decrease in compensation and benefits expenses.
Compensation and benefits expenses decreased by $391,000, or 3.5%, to
$10,821,000 for the first three months of fiscal 1999 as compared to the same
period in fiscal 1998. Commission and other sales compensation expenses
decreased by $965,000, or 18.0%, to $4,391,000 for the fiscal 1999 period,
primarily as a result of the decrease in commission revenues, and to a lesser
extent, a decrease in guaranteed broker salary payments that the Company
provides to recently hired brokers. Stock option expense in the first quarter
of fiscal 1999 was $700,000 under the Company's variable-award, book-value-based
stock option plans. No expense was recorded in the first quarter of fiscal 1999
as the Company's stock option plans became fixed-award, fair-value-based plans
upon consummation of the Company's June 1998 IPO. These decreases were
partially offset by an increase in employee compensation and benefits due to
increased staffing to support the Company's expanding retail brokerage business
and higher incentive bonus compensation paid to trading-related personnel
generally resulting from increased trading revenue.
Occupancy and equipment expenses decreased $146,000, or 10.5%, to $1,239,000,
due to lower technology costs while communications expenses were generally
unchanged. Clearing and exchange fees decreased by $184,000, or 23.9%, to
$585,000, due to lower trade-related costs and decreased trading volume in
retail and correspondent brokerage services. Other expenses increased by
$142,000, or 13.6%, to $1,189,000, due to higher state and local taxes in the
1999 period combined with refunds received in the 1998 period for overpayments
in prior years, which was partially offset by lower professional fees.
The Company's effective income tax rate was 34.1% in the first three months of
fiscal 1999 and 38.7% in the first three months of fiscal 1998. The Company's
1998 effective income tax rate was higher than the federal statutory rate
primarily due to nondeductible stock option plan expenses which had the effect
of increasing the effective tax rate by 3.9% in the first three months of fiscal
1998. As a result of the conversion of the variable-award, book-value-based
stock option plans to fixed-award, fair-value-based stock option plans upon
consummation of the Company's June 1998 IPO, the Company expects that its
effective income tax rate will remain consistent with the first three months of
fiscal 1999 in future periods.
LIQUIDITY AND CAPITAL RESOURCES
The Company has historically satisfied a large portion of its funding needs with
its own capital resources, consisting largely of internally generated retained
earnings and funds received upon exercise of employee stock options. A
majority of the Company's assets are highly liquid and short term in nature. The
Company's cash, cash equivalents and liquid assets, consisting of receivables
from customers, brokers and dealers, securities purchased under agreements to
resell, securities owned, securities borrowed and deposits with clearing
organizations, represented in excess of 99% of the Company's assets as of
September 25, 1998 and December 31, 1998. Substantially all of the Company's
receivables are secured by customer securities or security transactions in the
process of settlement.
The majority of the Company's assets are financed through daily operations by
securities sold under repurchase agreements, securities sold but not yet
purchased, bank loans, securities loaned, and payables to customers, brokers and
dealers. Short-term funding is generally obtained at rates relating to daily
federal funds rates. Other borrowing costs are negotiated depending on
prevailing market conditions. The Company monitors overall liquidity by tracking
the extent to which unencumbered marketable assets exceed short-term unsecured
borrowings. The Company maintains borrowing arrangements with two financial
institutions, which funds are used primarily to finance U.S. government and
agency zero coupon bond inventories. As of December 31, 1998, the Company had a
security repurchase arrangement with $42,500,000 outstanding, and a secured bank
line of credit with no
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outstanding borrowings and available borrowing capacity of approximately
$78,500,000. The ratio of assets to equity as of December 31, 1998 was
approximately 6.9:1.
On August 25, 1998, the Board of Directors authorized the repurchase of up to
1,000,000 shares of the Company's common stock over the following twelve months.
Purchases of the common stock may be made from time to time at prevailing prices
in the open market, by block purchases, or in privately negotiated transactions
using funds from operations or the Company's other existing financing sources.
The repurchased shares are to be accounted for as treasury stock and used for
the Company's employee stock option plans and other general corporate purposes.
During the quarter ended December 31, 1998 the Company repurchased 142,300
shares at a total cost of $1,531,000. At December 31, 1998, the remaining number
of shares authorized to be repurchased, in the open market or otherwise, under
the Company's common stock repurchase program was 807,100 shares.
Certain minimum amounts of capital must be maintained by RMI, the Company's
broker-dealer subsidiary, to satisfy the regulatory requirements of the SEC and
the NYSE. RMI's regulatory net capital has historically exceeded these
minimum requirements. See Note 3 to the Company's Notes to Consolidated
Financial Statements.
The Company believes that its current level of liquid assets, combined with
funds anticipated to be generated from operations, will be adequate to fund its
operations for the next 18 to 24 months.
YEAR 2000 COMPLIANCE
The Company uses, and depends on third-parties who use, a wide variety of
computer programs and devices, some of which have used only the last two digits
of each year to represent the calendar year portion of dates. As a result,
calculations performed with these abbreviated date fields could misinterpret the
year 2000 resulting in erroneous calculations or program failures that could
cause significant disruptions in the Company's operations (the "Year 2000
Problem").
In 1996, the Company established a Year 2000 Committee to address the risks
associated with the Year 2000 Problem. The Committee is comprised of key
personnel from information technology, finance and operations departments within
the Company. With the direction of the Year 2000 Committee, the Company is
executing a project plan in an attempt to achieve Year 2000 compliance. In
developing the project plan, the Year 2000 Committee used an enterprisewide
approach and grouped all of the Company's operations into the following five
broad areas: Business Partners, Computers and Technology (including hardware
and software associated with mainframe, distributed and desktop computer systems
operated by the Company as well as the Company's core brokerage software
obtained from an unaffiliated software provider), Information Data Feeds
(including all data interfaces with external parties), Facilities and Work
Environments, and Customers and Correspondents. Within each of these areas, the
Year 2000 Committee has organized its activities to include the following steps
or phases: inventory, assessment, remediation, testing and contingency
planning.
To date, the Company has completed the inventory phase within all areas of the
project plan and is currently working to complete the remaining steps. The
remediation phase of the Company's plan specifies a remediation strategy for
each area of the Company's project plan. Certain technology used by the Company
may be replaced or retired as part of the Company's remediation strategy.
Assessment and remediation of assets included in the Computers and Technology,
Facilities and Work Environments and Customers and Correspondents groups are
scheduled for completion in June 1999, with many elements of assessment and
remediation of Computers and Technology now having been completed. The remaining
two categories, Business Partners and Information Data Feeds, involve an
extensive network of third-party relationships and external providers of
products and services that include the major securities exchanges, self-
regulatory organizations, industry clearing and depository institutions, other
broker-dealers, and hardware and software technology providers. The Company has
inquired of these parties whether they are making the necessary efforts to
correct their own Year 2000 problems and expects to complete the assessment and
remediation steps by June 1999. For crucial relationships, the Company's
procedures may include joint testing of systems.
A significant aspect of the Company's Year 2000 project within the Computers and
Technology area relates to the functioning of the Company's core brokerage
software. This software, which is provided by an outside software provider under
a servicing contract, is used by the Company for the electronic processing and
recording of all data pertinent to securities transactions and general
accounting. While the Company is not directly responsible for the work or costs
associated with making this system Year 2000 ready, the Year 2000 Committee
closely monitors the remediation work performed by the software provider through
regular progress updates and reviews. To date, the software provider has
completed remediation and testing of all twenty-six software subsystems
identified for the Company's core brokerage software system and these are
currently in-use by the Company.
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The testing phase of the plan began in December 1998. Integrated, system-wide
internal testing began in January 1999 upon the completion of remediation and
testing of the Company's core brokerage software in December 1998. This
internal testing is anticipated to be completed in the first calendar quarter of
1999. Testing of Information Data Feeds began in December 1998 and is expected
to continue through 1999. This testing will include securities industry-wide
testing scheduled for March and April 1999. To date, the Company has completed
all preliminary testing necessary to participate in the securities industry-wide
testing.
Nearly every aspect of the Company's business depends on the accurate processing
of date-related information. As a result, failure by the Company or one or more
of the third parties with which the Company has a relationship to successfully
remediate systems for Year 2000 issues poses the risk of material disruption to
operations and material financial loss. A failure on the part of the Company to
identify and implement solutions to all aspects of the Year 2000 Problem could
result in systems failures or outages, inaccuracies in processing trades or
other transactions affecting customer or proprietary accounts, an inability to
reconcile to and settle with counterparties and other business disruptions. In
addition, third parties with which the Company has a relationship could fail in
some element of their Year 2000 efforts. The Company's operations are highly
dependent on the services of the securities exchanges, depositories, its core
brokerage software provider, certain banking relationships, electric utilities
and telecommunications networks, and a failure by one of these institutions
could disrupt the operations of the Company as well as the securities industry
as a whole. The scope of Company's relationship with individual customers,
broker-dealer counterparties and vendors varies widely as does the resulting
risk should any one of them fail to achieve Year 2000 compliance. The Company
has on going communications with important third-parties with which it has
relationships, including its core brokerage software provider, regarding third
party Year 2000 risks. The likelihood of such third parties achieving Year 2000
compliance cannot be adequately gauged at this time.
The Company is in the process of developing contingency plans to be executed
should a Year 2000 failure affect the Company's operations or those of a
significant third party. The contingency planning effort is scheduled to be
completed by the end of April 1999. There can be no assurance that alternative
arrangements will be identified for every material risk or contingency, or that
these contingency plans will be effective.
Based on information currently available, including information provided by
third party vendors, the Company expects that the total cost of addressing the
Year 2000 Problem for its internal systems will not be material. Costs related
to the Year 2000 Problem are expensed as incurred. A significant portion of
these costs will not be incremental costs to the Company, but rather will
represent the redeployment of existing information technology and operations
personnel, primarily to test the remediation efforts of the Company's third
party vendors. The Company expects to fund all Year 2000 related costs through
operating cash flows and a reallocation of the Company's overall information
technology developmental spending. The costs of the Company's Year 2000 project
and the date on which the Company plans to complete the Year 2000 modifications
are based on management's best current estimates, which were derived utilizing
numerous assumptions of future events, including the continued availability of
certain resources, third party compliance plans and other factors. However,
there can be no assurance that these estimates will prove correct and actual
results could differ materially from those plans.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
DERIVATIVE FINANCIAL INSTRUMENTS
A derivative financial instrument represents a contractual agreement between
counterparties and has value that is derived from changes in the value of some
other underlying asset such as the price of another security, interest rates,
currency exchange rates, specified rates (e.g. LIBOR) or indices (e.g. S&P 500),
or the value referenced in the contract.
The Company does not act as dealer, trader or end-user of complex derivatives
such as swaps, collars and caps. From time to time, the Company enters into
exchange-listed financial futures contracts for the purpose of hedging certain
dealing activities. As such, any futures contract commitments are considered
held for trading purposes and are carried at market value. Financial futures
contracts are transactions in which one party agrees to deliver a financial
instrument to a counterparty at a specified price on a specified date. The
Company's exposure to market risk arises from the possibility of unfavorable
changes in the market price of the underlying financial instrument. The
Company's exposure to credit risk at any point is represented by the fair value
or replacement cost on contracts in which the Company has recorded an unrealized
gain. The risks inherent in derivative financial instruments are managed
consistent with the Company's overall risk management policies. See "-- Risk
Management".
11
<PAGE>
At December 31, 1998 the contract value of the Company's financial futures
commitments was $600,000. The contract amounts of these instruments reflect the
Company's extent of involvement in the particular class of financial instrument.
They do not include positions which may substantially reduce any potential
market risk and do not represent the Company's risk of loss due to counterparty
nonperformance.
RISK MANAGEMENT
Exposure to risk and the ways the Company manages the various types of risks on
a day-to-day basis are critical to the Company's survival and financial success.
The Company monitors its market, credit and correspondent risks on a daily basis
through a number of control procedures designed to identify and evaluate the
various risks to which the Company is exposed. There can be no assurance,
however, that the Company's risk management procedures and internal controls
will prevent losses from occurring as a result of such risks.
The Company's primary market risk relates to the fact that it owns a variety of
investments that are subject to changes in value and could result in the
Company's incurring material gains or losses. The Company also engages in
proprietary trading and makes dealer markets in equity securities, investment-
grade corporate debt, U.S. government and agency securities and collateralized
mortgage obligation (CMO) securities. As such, the Company may be required to
maintain certain amounts of inventories in order to facilitate customer order
flow. The Company seeks to cover its exposure to market risk by limiting its net
long or short positions, by selling or buying similar instruments and by
utilizing various financial instruments such as futures. The Company also often
acts as a principal in customer-related transactions in financial instruments,
which exposes it to risks of default by customers and counterparties.
Trading activities generally result in the creation of inventory positions.
Trading and inventory accounts are monitored on an ongoing basis, and the
Company has established written position limits. Position and exposure reports
are prepared at the end of each trading day by operations staff in each of the
business groups engaged in trading activities for traders, trading managers,
department managers and management personnel. Such reports are reviewed
independently on a daily basis by the Company's corporate accounting group. In
addition, on a daily basis, the corporate accounting group prepares a
consolidated summarized position report indicating both long and short exposure,
which is distributed to various levels of management throughout the Company and
enables senior management to review inventory levels and monitor results of the
trading groups. The Company also reviews and monitors, at various levels of
management, inventory pricing, concentration and securities ratings.
In addition to position and exposure reports, the Company produces a daily
revenue report that summarizes the trading, interest, commissions, fees,
underwriting and other revenue items for each of its business groups. The daily
revenue report is distributed to various levels of senior management and,
together with the position and exposure report, assists senior management in
monitoring and reviewing overall activity of the trading groups.
Credit risk represents the amount of accounting loss the Company would incur
should counterparties to its proprietary transactions fail to perform and the
value of any collateral prove inadequate. Credit risk relating to various
financing activities is reduced by the industry practice of obtaining and
maintaining collateral until commitments are settled. The Company monitors its
exposure to counterparty risk on a daily basis by using credit exposure
information and monitoring collateral values. Senior management approves various
actions, including setting higher margin requirements for large or concentrated
accounts, requiring 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. The Company actively manages the credit exposure
relating to its trading activities entering into master agreements that permit
netting, when feasible, monitoring the creditworthiness of counterparties and
their related trading limits on an ongoing basis, requesting additional
collateral when deemed necessary and limiting the amount and duration of
exposure to individual counterparties.
Management of risk relating to clearing activities for the Company's
correspondent firms begins with a review by certain members of senior management
of each prospective correspondent firm prior to commencing the relationship.
This review includes an examination of the firm's employees, trading history and
finances. Each new correspondent is required to maintain a security deposit. The
amount required is based upon the volume and type of business to be done. The
correspondent agreement requires each correspondent to submit to RMI copies of
all financial information they are required to file with the SEC and the NASD
Regulation monthly or quarterly, including Financial and Operational Combined
Uniform Single Reports ("FOCUS Reports"). Correspondent FOCUS Reports and other
financial statements are reviewed by management. Additionally, each
correspondent's settlements are reviewed daily.
12
<PAGE>
MARKET RISK
Market risk represents the potential loss the Company may incur as a result of
absolute and relative price movements in financial instruments due to changes in
interest rates, foreign exchange rates, equity prices, and other political
factors. The Company is not subject to direct market risk due to changes in
foreign exchange rates. However, the Company is subject to market risk as a
result of changes in interest rates and equity prices, which are affected by
global economic conditions. The principal source of this risk arises from
maintaining securities inventory positions and trading and market-making in
these securities. The Company carries inventories of marketable securities
including equities and municipal, U.S. government and agency zero coupon,
corporate, and CMO fixed income securities for resale to its retail and
institutional brokerage customers and other broker-dealers. All of the Company's
inventories are held for trading purposes.
In connection with the Company's dealing activities, the Company is exposed to
interest rate risk due to changes in the level or volatility of interest rates,
changes in the yield curve, mortgage prepayments and credit spreads. The Company
is exposed to equity price risk due to changes in the level and volatility of
equity prices primarily in the Nasdaq and over-the-counter markets. The Company
controls its market risk primarily through notional limits on trading
inventories. In addition, the Company attempts to mitigate its exposure to
interest rate risk on its long CMO and U.S. government and agency inventories by
entering into hedging transactions through the use of short cash positions in
U.S. government obligations and, to a lesser extent, financial futures
contracts.
The following table shows the quoted market values of the Company's securities
owned ("long"), securities sold but not yet purchased ("short"), net positions
and overall position limits as of December 31, 1998:
<TABLE>
<CAPTION>
Long Short Net Limit
------------ -------------- ------------ ----------------------
<S> <C> <C> <C> <C>
Corporate bonds, debentures, and notes $ 2,289,000 $ (859,000) $ 1,430,000 Long $ 7,000,000
U.S. Government and government
agency obligations 123,143,000 (123,341,000) (198,000) Long $180,000,000 (1)
Collateralized mortgage obligations 6,784,000 (77,000) 6,707,000 Long $30,000,000 (2)
State and municipal obligations 2,591,000 2,591,000 Long $5,000,000
Corporate stocks 662,000 (108,000) 554,000 Long $2,500,000
Short $2,500,000
</TABLE>
(1) $175,000,000 of total long position limit must be adequately hedged.
(2) Unless approval is given, long inventory must be adequately hedged.
The information regarding the Company's market risk included above does not
consider other factors that may influence the Company's market risk, such as
credit spread risk, prepayment risk on CMOs, or changes in the shape of the
yield curve. Information with regard to the Company's securities borrowed,
securities loaned, borrowings, and securities sold under agreements to
repurchase is not included, as the interest rates for such instruments are
generally reset on a daily basis.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Not applicable
Item 2. Changes in Securities and Use of Proceeds
Not applicable
Item 3. Defaults Upon Senior Securities
Not applicable
13
<PAGE>
Item 4. Submission of Matters to a Vote of Security Holders
The annual meeting of stockholders was held on January 28, 1999. At the
meeting all of the Company's existing directors were nominated for reelection.
Kirby L. Cramer, John L. MacKenzie, Peter B. Madoff and Robert J. Mortell, Jr.
were elected by the shareholders to hold office until the next annual meeting of
shareholders or until their successors have been duly elected and qualified.
Arthur W. Harrigan, Jr., Gregory B. Maffei, Mark A. McClure and Lesa A. Sroufe
were elected by the shareholders to hold office until the 2001 annual meeting of
shareholders or until their successors have been duly elected and qualified.
The votes for the election of each director are tabulated below.
<TABLE>
<CAPTION>
Against
Election Of Directors For or Withheld
- ----------------------------------- --------- ------------
<S> <C> <C>
Kirby L. Cramer 9,534,616 137,350
John L. MacKenzie 9,629,466 42,500
Peter B. Madoff 9,635,716 36,250
Robert J. Mortell, Jr. 9,567,165 104,801
Arthur W. Harrigan, Jr. 9,637,866 34,100
Gregory B. Maffei 9,636,716 35,250
Mark A. McClure 9,467,725 204,241
Lesa A. Sroufe 9,569,825 102,141
</TABLE>
Item 5. Other Information
On January 28, 1999, immediately following the Company's annual meeting of
shareholders, the Board of Directors of the Company appointed James (Jim) P.
Kerr to the Board of Directors. Kerr joined the Company as its President on
January 5, 1999 to, among other duties, oversee the Company's retail brokerage
business. A 23-year brokerage industry veteran, Kerr previously served as
Northwest Regional Director of Minneapolis-based Dain Rauscher Corporation,
where he was responsible for overseeing management of 15 offices employing 200
investment executives.
As disclosed in the 1998 Annual Report, the Company has been engaged in
settlement discussions with the NYSE and the NASDR enforcement divisions
relating to issues raised during their 1997 examinations of the Company. In
early 1999 the Company entered into a final joint settlement of these issues
with the NYSE and the NASDR enforcement divisions with no material impact to the
Company.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
11 Computation of Earnings Per Share*
27 Financial Data Schedule (This financial data schedule is only required to
be submitted with the registrant's Quarterly Report on Form 10-Q as filed
electronically to the SEC's EDGAR database.)
* See Note 4 to the Company's Notes to Consolidated Financial Statements.
(b) Reports on Form 8-K
The Company filed no reports on Form 8-K during the quarter ended December 31,
1998.
14
<PAGE>
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.
RAGEN MACKENZIE GROUP INCORPORATED
(REGISTRANT)
DATE: FEBRUARY 4, 1999 BY: /s/ Lesa A. Sroufe
-------------------------
Lesa A. Sroufe
Chairman of the Board and Chief Executive
Officer (Principal Executive Officer)
DATE: FEBRUARY 4, 1999 BY: /s/ V. Lawrence Bensussen
------------------------------
V. Lawrence Bensussen
Senior Vice President, Chief Financial
Officer and Secretary (Principal
Financial and Accounting Officer)
15
<PAGE>
EXHIBIT INDEX
EXHIBIT NUMBER DESCRIPTION
- -------------- -----------
11 Computation of Earnings per Share.*
27 Financial Data Schedule.
* See Note 4 to the Company's Notes to Consolidated Financial Statements
16
<TABLE> <S> <C>
<PAGE>
<ARTICLE> BD
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM RAGEN
MACKENZIE'S DECEMBER 31, 1998 FORM 10-Q AND IS QUALIFIED IN ITS ENTIRETY BY
REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> SEP-25-1998
<PERIOD-START> SEP-26-1998
<PERIOD-END> DEC-31-1998
<CASH> 7,419
<RECEIVABLES> 129,726
<SECURITIES-RESALE> 488,966
<SECURITIES-BORROWED> 5,278
<INSTRUMENTS-OWNED> 135,469
<PP&E> 1,266
<TOTAL-ASSETS> 773,504
<SHORT-TERM> 0
<PAYABLES> 478,827
<REPOS-SOLD> 42,500
<SECURITIES-LOANED> 0
<INSTRUMENTS-SOLD> 124,385
<LONG-TERM> 0
0
0
<COMMON> 135
<OTHER-SE> 112,576
<TOTAL-LIABILITY-AND-EQUITY> 773,504
<TRADING-REVENUE> 8,261
<INTEREST-DIVIDENDS> 9,375
<COMMISSIONS> 8,362
<INVESTMENT-BANKING-REVENUES> 0
<FEE-REVENUE> 1,490
<INTEREST-EXPENSE> 5,771
<COMPENSATION> 10,821
<INCOME-PRETAX> 6,936
<INCOME-PRE-EXTRAORDINARY> 4,571
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 4,571
<EPS-PRIMARY> .34
<EPS-DILUTED> .34
</TABLE>
