SECURITIES AND EXCHANGE COMMISSION
WASHINGTON D.C. 20549
----------
FORM 10-QSB
Quarterly report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the Quarter ended March 31, 1996
Commission file number: 0-18188
PAULSON CAPITAL CORP.
---------------------
Exact name of registrant as specified in its charter
Oregon 93-0589534
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(State of incorporation) (I.R.S. Employer
Identification)
811 S.W. Front Avenue
Portland, OR 97204
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(Address of principal (Zip Code)
executive offices)
Registrant's telephone number, including area code: (503) 243-6000
--------------
Check whether the issuer (1) filed all reports required to be filed by
Sections 13 or 15(d) of the Securities Exchange Act of 1934 during the past
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
----- -----
Number of shares outstanding of each of the issuer's classes of common
stock, as of May 11, 1996:
Common stock, no par value - 4,295,739 shares
Transitional Small Business Disclosure Format Yes No X
----- -----
1
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PART I
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
PAULSON CAPITAL CORP. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEET
ASSETS
------
(unaudited)
3/31/96 12/31/95
------- --------
CURRENT ASSETS
Cash and cash equivalents $ 97,064 $ 174,029
Receivables from brokers or dealers and
clearing organizations 5,763,108 4,041,470
Notes and other receivables 323,068 342,822
Refundable income taxes -- 157,138
Trading securities and investments 2,712,358 3,260,397
Investment Securities 2,381,999 918,990
Prepaid and deferred expenses 41,447 338,038
Secured demand notes 100,000 100,000
Deferred income taxes 82,000 82,000
----------- -----------
Total current assets 11,501,044 9,414,884
----------- -----------
FURNITURE AND EQUIPMENT, net 114,808 115,881
----------- -----------
DEFERRED INCOME TAXES 10,900 10,900
----------- -----------
$11,626,752 $ 9,541,665
=========== ===========
The accompanying notes are an integral part of this statement.
2
<PAGE>
PAULSON CAPITAL CORP. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEET - CONTINUED
LIABILITIES AND SHAREHOLDERS' EQUITY
------------------------------------
(unaudited)
3/31/96 12/31/95
------- --------
CURRENT LIABILITIES
Bank Overdraft $ 46,087 $ --
Accounts payable 405,712 334,422
Brokers or dealers and clearing organ-
izations 2,293,199 2,809,546
Compensation, employee benefits
and payroll taxes 1,140,042 1,066,182
Securities sold, not yet purchased, at
market 1,879,077 345,550
Income taxes payable 82,317 --
Deferred income taxes -- --
Subordinated notes payable 100,000 100,000
----------- -----------
Total current liabilities 5,946,434 4,655,700
----------- -----------
COMMITMENTS AND CONTINGENCIES -0- -0-
SHAREHOLDERS' EQUITY
Preferred stock, no par value,
authorized, 500,000 shares;
issued and outstanding, no shares -- --
Common stock, no par value, authorized,
10,000,000 shares; issued and outstand-
ing, 4,295,739 and 4,324,539,
respectively 707,089 735,889
Retained earnings 4,973,229 4,150,076
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5,680,318 4,885,965
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$11,626,752 $ 9,541,665
=========== ===========
The accompanying notes are an integral part of this statement.
3
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PAULSON CAPITAL CORP. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
for the three month periods ended March 31, 1996
and March 31, 1995 (unaudited)
3/31/96 3/31/95
----------- ----------
REVENUES
Commissions $3,118,131 $2,074,755
Corporate finance 1,262,979 551,672
Investment income 724,189 1,938
Trading income 342,907 155,389
Interest and dividends 2,090 4,602
Other 3,715 6,540
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5,454,011 2,794,896
---------- ----------
EXPENSES
Commissions and salaries 3,143,607 2,022,599
Underwriting expenses 304,560 141,444
Rent, telephone and quotation services 177,748 223,425
Interest expense 2,098 1,770
Professional fees 94,737 103,031
Bad debt expense 44,889 33,608
Travel and entertainment 28,148 25,980
Settlements 19,625 24,250
Branch office expenses -- --
Other 266,646 179,454
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4,082,058 2,755,561
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Earnings (loss) before income
taxes and extraordinary gain 1,371,953 39,335
Provision (credit) for income taxes
Current 548,800 16,000
Deferred -0- -0-
---------- ----------
NET EARNINGS (LOSS) $ 823,153 $ 23,335
========== ==========
Earnings (loss) per share $ .19 $ .005
========== ==========
The accompanying notes are an integral part of this statement
4
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PAULSON CAPITAL CORP. AND SUBSIDIARY
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
Three year period ended December 31, 1995
and the three months ended March 31, 1996 (unaudited)
<TABLE>
<CAPTION>
Retained
Common Stock Earnings
Shares Amount (Deficit)
-------- ------- ---------
<S> <C> <C> <C>
Balance at December 31, 1992 4,569,096 $ 997,473 $ 1,469,029
Issuance of common stock in
lieu of Directors' cash
compensation 7,745 10,000 --
Redemption of common stock (128,300) (140,400)
Net earnings for the year -- -- 836,476
--------- ----------- -----------
Balance at December 31, 1993 4,448,541 $ 867,073 $ 2,305,505
Issuance of common stock in
lieu of Directors' cash
compensation 21,960 16,500 --
Redemption of common stock (107,000) (107,843)
Net loss for the year -- -- (1,080,462)
--------- ----------- -----------
Balance at December 31, 1994 4,363,501 $ 775,730 $ 1,225,043
Issuance of common stock in
lieu of Directors' cash
compensation 10,338 10,500 --
Redemption of common stock (49,300) (50,341)
Net earnings for year -- -- 2,925,033
--------- ----------- -----------
Balance at December 31, 1995 4,324,539 $ 735,889 $ 4,150,076
Redemption of common stock (28,800) (28,800)
Net earnings for year to date -- -- 823,153
--------- ----------- -----------
Balance at March 31, 1996 4,295,739 $ 707,089 $ 4,973,229
========= =========== ===========
The accompanying notes are an integral part of this statement
</TABLE>
5
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PAULSON CAPITAL CORP. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)
for the three month periods ended March 31, 1996 and March 31, 1995
3/31/96 3/31/95
----------- ---------
Increase (Decrease) in cash and cash
equivalents
Cash flows from operating activities
Net earnings (loss) $ 823,153 $ 23,335
----------- ---------
Adjustments to reconcile net earnings
(loss) to net cash provided by operating
activities
Unrealized (appreciation) loss in
investment securities 48,373 (1,938)
Realized gain on investment
securities (772,562) -0-
Depreciation and amortization 12,792 11,962
Gain from sale of furniture and
equipment -0- -0-
Change in assets and liabilities
(Increase) decrease in
receivables (1,701,884) 66,110
(Increase) decrease in
refundable income taxes 157,138 500,765
(Increase) decrease in trading
securities 548,039 374,075
(Increase) decrease in prepaid
and deferred expenses 296,591 (21,203)
Increase (decrease) in accounts
payable and accrued expenses (371,197) (449,127)
Increase (decrease) in securities
sold, not yet purchased 1,533,527 (43,406)
Increase (decrease) in
bank overdraft 46,087 (51,888)
Increase (decrease) in income
taxes payable 82,317 -0-
----------- ---------
Total adjustments (120,779) 385,350
----------- ---------
Net cash provided by (used in)
operating activities 702,374 408,685
----------- ---------
Cash flows from investing activities
Purchases of short-term investment
securities (5,154,547) -0-
Proceeds from sale of short-term
investment securities 4,415,727 -0-
Additions to furniture and equipment (11,719) (3,768)
Proceeds from sale of furniture and
equipment -0- -0-
----------- ---------
Net cash provided by (used in)
investing activities ($ 750,539) ($ 3,768)
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The accompanying notes are an integral part of this statement.
6
<PAGE>
CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited) - CONTINUED
3/31/96 3/31/95
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Cash flows from financing activities
Additions to notes payable -0- -0-
Payments on contracts payable and
obligations under capital leases -0- -0-
Payments on subordinated notes payable -0- -0-
Payments to retire common stock (28,800) -0-
--------- --------
Net cash provided by (used in)
financing activities (28,800) -0-
--------- --------
NET INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS (76,965) 404,917
Cash and cash equivalents at beginning of
year 174,029 145,417
--------- --------
Cash and cash equivalents at
March 31 $ 97,064 $550,334
========= ========
Cash paid during the three months
Interest $ 2,098 $ 1,770
========= ========
Income taxes $ 24,900 $ 200
========= ========
The accompanying notes are an integral part of this statement.
7
<PAGE>
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. Basis of Presentation
The accompanying unaudited consolidated financial statements have been
prepared in accordance with the instructions for interim financial
statements in Article 10 of Regulation S-X and, therefore, do not include
all information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of management,
the interim financial statements include all adjustments (consisting only
of normal recurring accruals) necessary to state fairly the information
shown therein. 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 fiscal year.
2. Securities Owned
Any losses from the disposition of securities are reflected in trading
revenues on the income statement for the period.
3. Commitments and Contingencies
PIC and Chester L.F. Paulson, Paulson Capital's president, are
defendants in Kevin J. O'Rourke, et. al v. With Design In Mind
International, Inc., filed in U.S. District Court for the Central District
of California in February 1993, an asserted class action alleging
violations of Sections 11 and 12(2) of the Securities Act of 1933, relating
to alleged misstatements in the prospectus used in connection with a May
1991 public offering in which PIC acted as the managing underwriter. Mr.
Paulson has not been served with the complaint. PIC sold $4.96 million of
securities in the offering. PIC believes it has meritorious defenses to the
lawsuit. Although a tentative settlement had been reached between the
parties, plaintiffs failed to complete preparation of the necessary papers.
Plaintiffs have now filed a notice of dismissal of all claims against all
defendants. It is possible that plaintiffs may attempt to refile a similar
suit in the future. PIC believes that it has meritorious defenses if a
subsequent lawsuit is filed on similar grounds.
PIC has been named as respondent in Mokhtari v. Paulson Investment
Company, Inc., et al., an NASD arbitration, filed in February 1995.
Claimants, former PIC customers, allege breach of fiduciary duty,
negligence, fraud and securities fraud. Claimants seek $27,000 in
compensatory damages and $73,000 in punitive damages. An arbitration
hearing commenced on April 9 and 10, 1996. The hearing is scheduled for
completion on May 17 and 18, 1996. PIC believes it has meritorious defenses
and is defending this matter vigorously.
8
<PAGE>
NASD arbitrations in the two cases of Rosner v. Investors Associates,
Inc. et al. and MRS Investments v. Investors Associates, Inc. et al.,
reported in PIC's annual report on Form 10-KSB for the year ended December
31, 1995, were settled prior to hearing without admission of liability by
payment to the claimants of an amount which is not material to the
financial condition or results of operations of PIC. PIC continues to deny
any and all liability in respect of the claims.
PIC has been named as respondent in Eaton v. Paulson Investment
Company, Inc., an NASD arbitration filed in July 1995. Claimant, a former
PIC customer, alleges securities fraud, including unsuitability, breach of
fiduciary duty, negligence, negligent supervision and hiring, and
intentional misrepresentations relating to claimant's account with PIC.
Claimant seeks $41,800 in compensatory damages, attorney fees, and an
unspecified amount of punitive damages. An arbitration date has been set
for June 10, 1996. PIC believes it has meritorious defenses and intends to
defend this matter vigorously.
PIC has been named as respondent in Volkert v. Investors Associates,
Inc., et al., an NASD arbitration filed in February 1995. Claimants, former
PIC customers, allege fraud, negligent hiring and supervision, unfair
business practices, and intentional and negligent infliction of emotional
distress. Claimant seeks $21,700 in compensatory damages, treble damages,
attorney fees and an unspecified amount of punitive damages. An arbitration
date has been set for September 11, 1996. PIC believes that it has
meritorious defenses and intends to defend this matter vigorously.
PIC has been named as respondent in Shapiro v. Paulson Investment
Company, Inc., an NASD arbitration filed in September 1995. Claimant
alleges securities fraud, including claims of unsuitability, churning and
unauthorized trading, and seeks $47,000 in compensatory damages. An
arbitration date will be set for July or August, 1996. PIC believes it has
meritorious defenses and intends to defend this matter vigorously.
PIC was named as a defendant in Sanchez v. Paulson Investment Company,
Inc., et al., filed in Multnomah County (Oregon) court. Claimant, a former
PIC customer, alleges breach of contract and fraud. Claimant sought $30,000
in compensatory damages and $90,000 in punitive damages. PIC believes it
has meritorious defenses and intends to defend this matter vigorously. The
case has been dismissed, but the plaintiff has indicated he intends to
refile the case.
PIC was named as a defendant in Attard, et al. v. Paulson Investment
Company, Inc., et al. and Wright, et al. v. Paulson Investment Company,
Inc., et al., both filed in December 1995 in U.S. District Court for the
Southern District of California. The cases are asserted class actions
alleging violations of Section
9
<PAGE>
12(2) of the Securities Act of 1933, Section 10(b) of the Securities
Exchange Act of 1934 and Rule 10b-5 thereunder. The claims related to
alleged misstatements in connection with an October 1993 public offering of
approximately $27 million of preferred stock in which PIC acted as the
managing underwriter. The judge has signed a stipulated dismissal of PIC
from this matter without prejudice.
In November 1995, PIC was informed that a judgment had been entered in
Euro American Group, Inc. v. P.F.D.S. Partners Development Ltd., dba
Paulson Investment Company, Inc. in the Supreme Court of New York in the
amount of $70,024.98 plus post judgment interest of 9 percent. The judgment
was taken by default and the plaintiff now asserts that PIC is liable for
the judgment amount. The case involved a lease entered into by a former PIC
independent contractor for certain equipment and services. PIC does not
believe it is a party to or otherwise liable for the judgment, or that it
was properly served in the matter.
PIC has been named as a defendant in Smith, Benton & Hughes, Inc. v.
Paulson Investment Company, Inc., an NASD arbitration served on PIC in
February 1996. Claimant, an NASD broker-dealer, alleges that PIC was
negligent in supervising one of its employees who maintained a securities
account at the claimant. Claimant alleges that the former Paulson employee
engaged in various acts of fraud, misrepresentation, violation of federal
securities laws and breach of contract, and seeks in excess of $104,000 in
compensatory damages, attorney fees and interest against PIC. PIC has not
had an opportunity to fully investigate this claim, but believes it has
meritorious defenses and intends to defend this matter vigorously.
Frank Fritzie Arbitration. In February 1996, Frank Fritzie, a former
customer of PIC, requested an NASD arbitration alleging unauthorized
trading in his PIC account. PIC has not had an opportunity to fully
investigate this claim or to determine what losses, if any, Mr. Fritzie's
accounts at PIC incurred. PIC believes it has meritorious defenses and
intends to defend this matter vigorously if it is filed.
Jack Kimberlin Arbitration. PIC was named as a respondent in Jack
Kimberlin v. Paulson Investment Company, Inc., ete al., an NASD arbitration
filed in April 1996. Claimant, a former PIC customer, alleges breach of
contract, breach of fiduciary duty, negligence, fraud, securities and mail
fraud, racketeering and violations of the Texas Deceptive Trade Practices
Act. Claimant seeks $350,000 in compensatory damages, plus interest,
attorney fees, punitive damages and treble damages. PIC has not yet filed
an answer and discovery has not begun. PIC is investigating this matter and
is unable to comment on the merit, if any, of claimant's allegations.
10
<PAGE>
Assessment from State of California In July and September 1994, the
California Employment Development Department (the "EDD") issued employment
tax notices of deficiency against PIC for the period April 1, 1991 through
March 31, 1994. The claimed deficiencies total approximately $498,948 plus
interest and penalties. The EDD asserts that PIC's registered
representatives in California were employees of PIC and not independent
contractors. PIC's position is that its California registered
representatives were independent contractors, and that PIC was not
obligated to make contributions for unemployment insurance or to withhold
state personal income taxes. PIC has filed petitions for reconsideration
and of protest, requesting that the deficiencies be found erroneous on that
basis. PIC has also requested that any deficiencies be recomputed, and that
credits be applied against any deficiency amounts for the personal income
tax paid by the registered representatives individually. A hearing before
the California Unemployment Insurance Appeals Board has yet to be
scheduled. An unfavorable result could require, in addition to payment by
PIC of the deficiencies plus interest and penalties, additional
contributions (plus earnings) to the Company's qualified retirement plan
for the excluded individuals, in order to avoid disqualification of the
plan. PIC believes, however, that the EDD's position is erroneous,
particularly in light of PIC's compliance with proposed rules that would
permit PIC's treatment of its California registered representatives as
independent contractors. The Company is unable to provide an estimate of
the amount or range of potential loss should the outcome be unfavorable.
There have been no material developments in these proceedings since it was
reported in the Company's Form 10-KSB for the period ended December 31,
1995.
Employment Claim by Jack Alexander. A claim has been asserted against
PIC by Jack Alexander, who performed services for PIC in California between
1991 and 1995. The claimant has made allegations of age discrimination,
breach of employment contract and wrongful termination against PIC, and
demanded payment of $750,000. The claimant has indicated that, if he
commences litigation against PIC, the requested damages would be $1,218,000
and would include claims for attorney fees and punitive damages. In October
1995, claimant filed a complaint with the California Delpartment of Fair
Employment and Housing, but has not institutued formal legal proceedings,
either through an administrative agency or in court. PIC has denied these
claims, believes they are unfounded, and will vigorously defend any action
that may be brought. There have been no material developments in regard to
this claim since it was reported in the Company's Form 10-KSB for the
period ended December 31, 1995.
Pearce Systems. The Company and PIC are defendants in Holly Millar v.
Pearce International Systems, Inc., et al., filed in San Francisco Superior
Court, State of California, in March 1996. An asserted class action,
plaintiff alleges violations of the
11
<PAGE>
California Securities Law, deceit, negligent misrepresentation and unfair
business practices relating to alleged misstatements in the prospectus used
in connection with a February 1994 public offering in which PIC acted as
the managing underwriter. The offering consisted of 675,000 units at a
price of $7.25 per unit. Neither the Company nor PIC has filed an answer
and discovery has not begun. At this early stage, the Company and PIC have
not had an opportunity to investigate this matter fully, but believe they
have meritorious defenses and intend to defend this matter vigorously.
Additionally, the Company does not believe the California state courts have
jurisdiction.
MusicSource. PIC has been informed that Norman Kaufman, Sanford Powers,
Anthony Costanzo, Nicola Caron, Thomas Spry, Craig Smith, M.L. Stutte and
Charles Thomas, former PIC customers, will file an NASD arbitration
alleging fraud, breach of fiduciary duty and lack of supervision in
connection with their purchases in 1994 of MusicSource stock. Claimants
allege that their aggregate losses were in excess of $85,000 and have
indicated that they will also seek to recover interest, attorney fees and
punitive damages. PIC is investigating this matter and is unable to comment
on the merit, if any, of claimants' allegations.
An adverse outcome in certain of the matters described above could
have a material adverse effect on PIC or the Company. PIC has been named in
certain other legal proceedings and has received notice that certain
customers may commence legal proceedings against PIC. Management of the
Company believes, based upon information received to date and, where
management believes it appropriate, discussions with counsel, that
resolution of this additional pending litigation will have no material
adverse effect on the consolidated financial condition, results of
operations, or business of the Company.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
OR PLAN OF OPERATION
Three Months Ended March 31, 1996 vs.
Three Months Ended March 31, 1995
Results of Operations
---------------------
The revenues and operating results of the Company's operating
subsidiary, Paulson Investment Company, Inc. ("PIC"), are influenced by
fluctuations in the equity underwriting markets as well as general economic
and market conditions, particularly conditions in the over-the-counter
market, where PIC's investment account, trading inventory positions and
underwriter warrants are heavily concentrated. Significant fluctuations can
occur in PIC's revenues and operating results from one period to another.
PIC's operations depend upon many factors, such as the number of
12
<PAGE>
companies that are seeking public financing, the quality and financial
condition of those companies, market conditions in general, the performance
of previous PIC underwritings and interest in certain industries by
investors. As a result, revenues and income derived from these activities
may vary significantly from period to period. In the table below, "Trading
Income" is the net gain or loss from trading positions before commissions
paid to the representatives in the trading department. "Investment Income"
includes amounts received, if any, from the exercise of PIC's underwriter
warrants.
Summary of Changes in Major Categories
of Revenues and Expenses
1st Quarter
1996 vs. 1995
-------------
REVENUES:
SALES COMMISSIONS $1,043,376 50.3%
CORPORATE FINANCE 711,307 128.9%
INVESTMENT INCOME 722,251 N/A
TRADING INCOME 187,518 120.7%
OTHER ( 5,337) ( 47.9%)
TOTAL $2,659,115 95.1%
EXPENSES:
COMMISSIONS/SALARIES $1,121,008 55.4%
UNDERWRITING EXPENSES 163,116 115.3%
RENT,TELEPHONE/QUOTES ( 45,677) ( 20.4%)
OTHER 88,050 23.9%
TOTAL $1,326,497 48.1%
PRETAX INCOME $1,332,618 N/A
Total revenues for the first quarter of 1996 rose 95.1 percent from
the first quarter of 1995, from $2,794,896 to $5,454,011. As shown in the
table above, sales commissions rose $1,043,376, or 50.3 percent, from
$2,074,755 in the first quarter of 1995 to $3,118,131 in the comparable
1996 period. This increase resulted primarily from the more favorable price
movements and trading levels in smaller capitalization issues in the 1996
quarter, compared to more moderate levels in 1995. The Nasdaq Industrial
Average rose 5.80 percent in the first quarter of 1996 compared to 7.83
percent in the comparable 1995 period, but PIC's focus is on very small
capitalization issues which experienced a more favorable market in the 1996
quarter. Specifically, very active trading levels in the securities of the
two issuers for which PIC completed corporate finance transactions in 1996
increased sales commissions. Corporate finance revenues rose 128.9 percent,
or $711,307, in the
13
<PAGE>
first quarter of 1996 compared to the first quarter of 1995. Two
transactions were completed in the 1996 quarter, raising a total of $ 44.84
million for the issuers; two transactions were completed in the 1995
quarter, raising an aggregate of $10 million for the issuers. Corporate
finance revenue is directly related to the amount of money raised in
completed transactions. Investment income increased $722,251, from $1,938
in the first quarter of 1995 to $724,189 in the first quarter of 1996,
primarily due to the exercise in the 1996 quarter of two underwriter
warrants received from previous corporate finance transactions, while no
such exercises took place in 1995. Trading income rose $187,518, or 120.7
percent, from $155,389 in the first quarter of 1995 to $342,907 in the
comparable 1996 period. This increase was also due to the better market
conditions in the 1996 quarter compared to the volume levels in the 1995
quarter for small capitalization OTC stocks.
Total expenses rose $1,326,497 in the first quarter of 1996 from the
comparable 1995 period, an increase of 48.1 percent, from $2,755,561 to
$4,082,058. Commissions and salaries rose $1,121,008, or 55.4 percent, from
$2,022,599 in the 1995 period to $3,143,607 in 1996. This increase was
primarily due to increased commission revenues resulting in a higher level
of commissions paid. Higher percentage commission levels are generally paid
to employee registered representatives at higher production levels.
Underwriting expenses increased by $163,116, or 115.3 percent, due
primarily to increased legal and other fees accrued for the two corporate
finance transactions completed in the 1996 quarter compared to the much
smaller corporate finance transactions completed in the 1995 quarter. Rent,
telephone and quote expenses decreased from $223,425 in the 1995 period to
$177,748 in 1996, a decrease of 20.4 percent, due primarily to the closing
of certain branch offices. Other expenses increased 23.9 percent, from
$368,093 in the first quarter of 1995 to $456,143 in the first quarter of
1996. This increase was primarily due to accruals for profit sharing and
401(k) contributions for the benefit of employees.
The Company had a pretax profit of $1,371,953 in the first quarter of
1996 compared to a pretax profit of $39,335 in the comparable 1995 period.
The primary reasons for this increase were the profits from the exercise of
underwriter warrants in the 1996 quarter, along with general increases in
commission business, corporate finance profits and trading income.
Significant fluctuations can occur in PIC's revenues and operating results
from one period to another.
The Company also accrued $548,800 in income taxes for the first
quarter of 1996, compared to an accrual for income taxes in the first
quarter of 1995 of $16,000. Independent of investment income, the Company
would have had a profit before income taxes of
14
<PAGE>
$647,764 in the first quarter of 1996 compared to a profit before income
taxes of $37,397 in the comparable 1995 period.
Liquidity and Capital Resources
The majority of PIC's assets are cash and assets readily convertible
to cash. PIC's securities inventory is stated at market value. The
liquidity of the market for many of PIC's securities holdings, however,
varies with trends in the stock market. Since many of the securities held
by PIC are thinly traded, and PIC is in many cases a primary market maker
in the issues held, any significant sales of PIC's positions could
adversely affect the liquidity of the issues held. In general, falling
prices in OTC securities (which make up most of PIC's trading positions)
lead to decreased liquidity in the market for these issues, while rising
prices in OTC issues tend to increase the liquidity of the market for these
securities. The overall increase in prices for the OTC securities traded by
PIC in both 1995 and 1996 was combined with a general increase in the
liquidity of the markets for these securities. PIC's investment account and
trading inventory accounts are stated at fair market value, which is at or
below quoted market price.
PIC owed $100,000 at March 31, 1996 pursuant to a subordinated loan
from an investor. PIC also borrows money from its clearing firm in the
ordinary course of its business, pursuant to an understanding under which
the clearing firm agrees to finance PIC's trading accounts. As of March 31,
1996, no net loans were outstanding pursuant to this arrangement. PIC and
the Company are generally able to meet their compensation and other
obligations out of current liquid assets.
Another source of capital to PIC and the Company has been the exercise
of underwriter warrants issued to PIC in connection with its corporate
finance activities and the sale of the underlying securities. These
warrants are not reflected on the balance sheet of PIC or Paulson Capital.
While the warrants and the securities issuable upon exercise of the
warrants are not immediately saleable, PIC receives the right to require
the issuer to register the underlying securities for resale to the public.
Profits, if any, from the warrants are realized based upon the difference
between the market price and the exercise price on the date of exercise.
Further profits or losses are subsequently realized when the underlying
securities are sold. Profits and losses realized from the warrants are
recorded as "Investment Income." There is no public market for the
underwriter warrants. The securities receivable upon exercise of the
underwriter warrants cannot be resold unless the issuer has registered
these securities with the SEC and the states in which the securities will
be sold or exemptions are available. Any delay or other problem in the
registration of these securities would have an adverse impact upon
15
<PAGE>
PIC's ability to obtain funds from the exercise of the underwriter warrants
and the resale of the underlying securities. At March 31, 1996, PIC owned
34 underwriter warrants (from 33 issuers), of which 28 were currently
exercisable and three had an exercise price below the current market price
of the securities receivable upon exercise. The value of the firm's
underwriter warrants depends on the prices of the underlying securities.
These prices are influenced by general movements in the prices of OTC
securities as well as the success of the issuers of the underwriter
warrants.
In the three months ended March 31, 1996, $702,374 of net cash was
provided by operating activities of the Company. The major adjustments to
reconcile this result to the Company's net profit included an increase in
receivables of $1,701,884, a realized gain on investment securities of
$772,562 and a decrease in accounts payable and accrued expenses of
$371,197, offset by an increase in securities sold but not yet purchased of
$1,533,527, a decrease in trading securities of $548,039, a decrease in
prepaid and deferred expenses of $296,591 and a decrease in refundable
income taxes of $157,138. The primary reason for the increase in
receivables was that certain proceeds from the sales of securities
underlying underwriter warrants remained in PIC's account at its clearing
firm. In the quarter, $750,539 of net cash was used by the Company in
investing activities, primarily resulting from $4,415,727 of proceeds from
the sale of short-term investment securities being more than offset by the
purchase of $5,154,547 of short-term investment securities. $28,800 of net
cash was used in financing activities in the quarter for payments to retire
common stock. The net decrease in cash and cash equivalents for the quarter
totaled $76,965. See "Financial Statements -- Consolidated Statements of
Cash Flows."
As a securities broker-dealer, the Company's wholly owned subsidiary,
PIC, is required by SEC regulations to meet certain liquidity and capital
standards. At March 31, 1996, the Company had no material commitments for
capital expenditures.
In general, the primary ongoing sources of PIC's, and therefore the
Company's, liquidity, including PIC's trading positions, borrowings on
those positions and profits realized upon the exercise of underwriter
warrants, all depend in large part on the trend in the general markets for
OTC securities. Rising OTC price levels will tend to increase the value and
liquidity of PIC's trading positions, the amount that can be borrowed from
its clearing firm based upon those positions, and the value of PIC's
underwriter warrants. The Company believes its liquidity is sufficient to
meet its needs for the foreseeable future.
Inflation
Because PIC's assets are primarily liquid, they are not significantly
affected by inflation. The rate of inflation affects
16
<PAGE>
PIC's expenses, such as employee compensation, office leasing and
communications costs. These costs may not readily be recoverable in the
price of services offered by the Company. To the extent inflation results
in rising interest rates and has other adverse effects in the securities
markets and the value of securities held in inventory or PIC's investment
account, it may adversely affect the Company's financial position and
results of operations.
17
<PAGE>
PART II
OTHER INFORMATION
Item 1. Legal Proceedings.
See Note 3 of Notes to Condensed Consolidated Financial
Statements in Item 1.
Item 2. Changes in Securities.
None
Item 3. Defaults upon Senior Securities.
None
Item 4. Submission of Matters to a Vote of Security Holders.
None
Item 5. Other Information.
None
Item 6. Exhibits and Reports on Form 8-K
None
18
<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.
PAULSON CAPITAL CORP.
Date: MAY 13, 1996 By: CHESTER L.F. PAULSON
------------------------ ------------------------------------
Chester L.F. Paulson
President
Date: MAY 13, 1996 By: CAROL RICE
------------------------ ------------------------------------
Carol Rice
Principal Accounting Officer
19
<PAGE>
EXHIBIT INDEX
Exhibit Sequential
No. Description Page No.
------- ----------- ----------
27 Financial Data Schedule
20
<TABLE> <S> <C>
<ARTICLE> BD
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM
THE CONSOLIDATED BALANCE SHEET OF PAULSON CAPITAL CORP. AND
SUBSIDIARY AS OF MARCH 31, 1996 AND THE RELATED CONSOLIDATED
STATEMENTS OF OPERATIONS, SHAREHOLDERS' EQUITY AND CASH FLOWS FOR
THE THREE MONTHS IN THE PERIOD ENDED MARCH 31, 1996 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> DEC-31-1996
<PERIOD-END> MAR-31-1996
<CASH> 97
<RECEIVABLES> 6,086
<SECURITIES-RESALE> 0
<SECURITIES-BORROWED> 0
<INSTRUMENTS-OWNED> 5,094
<PP&E> 115
<TOTAL-ASSETS> 11,627
<SHORT-TERM> 100
<PAYABLES> 3,967
<REPOS-SOLD> 0
<SECURITIES-LOANED> 0
<INSTRUMENTS-SOLD> 1,879
<LONG-TERM> 0
0
0
<COMMON> 707
<OTHER-SE> 4,973
<TOTAL-LIABILITY-AND-EQUITY> 11,627
<TRADING-REVENUE> 343
<INTEREST-DIVIDENDS> 2
<COMMISSIONS> 3,118
<INVESTMENT-BANKING-REVENUES> 1,263
<FEE-REVENUE> 0
<INTEREST-EXPENSE> 2
<COMPENSATION> 3,144
<INCOME-PRETAX> 1,372
<INCOME-PRE-EXTRAORDINARY> 1,372
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 823
<EPS-PRIMARY> .19
<EPS-DILUTED> .19
</TABLE>
