<PAGE>
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 September 29, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _______ to _______
Commission file number 0-19483
SOUTHWEST SECURITIES GROUP, INC.
(Exact name of registrant as specified in its charter)
Delaware 75-2040825
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1201 Elm Street, Suite 3500, Dallas, Texas 75270
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (214) 859-1800
(Former name, former address and former fiscal year, if changed since last
report)
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 November 6, 2000, there were 15,887,863 shares of the registrant's common
stock, $.10 par value, outstanding.
<PAGE>
SOUTHWEST SECURITIES GROUP, INC. AND SUBSIDIARIES
Index
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Statements of Financial Condition
September 29, 2000 (unaudited) and June 30, 2000
Consolidated Statements of Income and Comprehensive Income (Loss)
For the three months ended September 29, 2000 and September 24, 1999
(unaudited)
Consolidated Statements of Cash Flows
For the three months ended September 29, 2000 and September 24, 1999
(unaudited)
Notes to Consolidated Financial Statements (unaudited)
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Item 2. Changes in Securities and Use of Proceeds
Item 3. Defaults Upon Senior Securities
Item 4. Submission of Matters to a Vote of Security Holders
Item 5. Other Information
Item 6. Exhibits and Reports on Form 8-K
<PAGE>
SOUTHWEST SECURITIES GROUP, INC. AND SUBSIDIARIES
Consolidated Statements of Financial Condition
September 29, 2000 and June 30, 2000
(In thousands, except par values and share amounts)
<TABLE>
<CAPTION>
September
(unaudited) June
----------- ----------
Assets
<S> <C> <C>
Cash $ 24,217 $ 72,479
Assets segregated for regulatory purposes 286,038 393,697
Marketable equity securities available for sale 52,610 46,283
Receivable from brokers, dealers and clearing organizations 3,044,817 3,405,209
Receivable from clients, net 835,081 784,434
Loans held for sale, net 63,795 77,936
Loans, net 263,974 247,958
Securities owned, at market value 126,130 123,107
Other assets 84,070 77,932
---------- ----------
$4,780,732 $5,229,035
========== ==========
Liabilities and Stockholders' Equity
Short-term borrowings $ 53,200 $ 49,800
Payable to brokers, dealers and clearing organizations 2,991,875 3,388,679
Payable to clients 933,907 986,749
Deposits 288,543 265,804
Securities sold, not yet purchased, at market value 25,706 25,279
Drafts payable 27,493 30,089
Advances from Federal Home Loan Bank 12,059 42,868
Other liabilities 91,471 90,080
Exchangeable subordinated notes 44,982 57,500
---------- ----------
4,469,236 4,936,848
Minority interest in consolidated subsidiaries 1,655 1,047
Stockholders' equity:
Preferred stock of $1.00 par value. Authorized 100,000 shares;
none issued -- --
Common stock of $.10 par value. Authorized 60,000,000 shares,
issued 15,919,378 and outstanding 15,889,924 shares at
September 29, 2000; issued 15,910,152 and outstanding
15,892,516 shares at June 30, 2000 1,592 1,591
Additional paid-in capital 215,944 215,620
Retained earnings 47,607 43,809
Accumulated other comprehensive income - unrealized holding gain,
net of tax of $25,396 at September 29, 2000 and $16,129 at
June 30, 2000 44,758 30,198
Deferred compensation, net 952 634
Treasury stock (29,454 shares at September 29, 2000 and 17,636 shares
at June 30, 2000, at cost) (1,012) (712)
---------- ----------
Total stockholders' equity 309,841 291,140
Commitments and contingencies
---------- ----------
$4,780,732 $5,229,035
========== ==========
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
<PAGE>
SOUTHWEST SECURITIES GROUP, INC. AND SUBSIDIARIES
Consolidated Statements of Income and Comprehensive Income (Loss)
For the three months ended September 29, 2000 and September 24, 1999
(In thousands, except per share and share amounts)
(Unaudited)
<TABLE>
<CAPTION>
2000 1999
----------- -----------
<S> <C> <C>
Net revenues from clearing operations $ 15,208 $ 10,208
Commissions 15,664 15,232
Interest 76,565 53,185
Investment banking, advisory and administrative fees 8,987 7,191
Net gains on principal transactions (including net gains on the sale of Knight Trading
Group, Inc. ("Knight") common stock of $2,866 in 2000 and $2,986 in 1999 8,028 4,303
Other 6,716 4,120
----------- -----------
131,168 94,239
----------- -----------
Commissions and other employee compensation 35,781 28,132
Interest 54,052 34,364
Occupancy, equipment and computer service costs 7,926 6,887
Communications 3,591 3,980
Floor brokerage and clearing organization charges 1,814 1,990
Advertising and promotional 3,872 4,428
Other 10,233 6,751
----------- -----------
117,269 86,532
----------- -----------
Income before income taxes and minority interest in
consolidated subsidiaries 13,899 7,707
Income taxes 4,614 1,336
----------- -----------
Income before minority interest in consolidated subsidiaries 9,285 6,371
Minority interest in consolidated subsidiaries (1,067) (218)
----------- -----------
Income before cumulative effect of a change in accounting principle 8,218 6,153
Cumulative effect of a change in accounting principle, net of tax of $1,548 (2,874) --
----------- -----------
Net income 5,344 6,153
Other comprehensive income (loss):
Holding gain (loss) arising during period, net of tax
of $3,222 in 2000 and $(27,228) in 1999 5,956 (48,671)
Reclassification adjustment for gains realized in net income on the sale of
Knight common stock, net of tax of $1,003 in 2000 and $1,045 in 1999 (1,863) (1,941)
----------- -----------
Net gain (loss) recognized in other comprehensive income (loss) 4,093 (50,612)
----------- -----------
Comprehensive income (loss) $ 9,437 $ (44,459)
=========== ===========
Earnings per share - basic
Income before cumulative effect of a change in accounting principle $ .52 $ .39
Cumulative effect of a change in accounting principle, net of tax (.18) --
----------- -----------
Net income $.34 $.39
=========== ===========
Weighted average shares outstanding - basic 15,889,997 15,848,160
=========== ===========
Earnings per share - diluted
Income before cumulative effect of a change in accounting principle $ .51 $ .38
Cumulative effect of a change in accounting principle, net of tax (.18) --
----------- -----------
Net income $ .33 $ .38
=========== ===========
Weighted average shares outstanding - diluted 16,024,707 16,034,207
=========== ===========
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
<PAGE>
SOUTHWEST SECURITIES GROUP, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
For the three months ended September 29, 2000 and September 24, 1999
(In thousands)
(Unaudited)
<TABLE>
<CAPTION>
2000 1999
--------- --------
<S> <C> <C>
Cash flows from operating activities:
Net income $ 5,344 $ 6,153
Adjustments to reconcile net income to net cash used in operating activities:
Depreciation and amortization 975 784
Provision for doubtful accounts 794 204
Deferred income taxes 550 538
Deferred compensation expense 13 503
Gain on sale of marketable equity securities (2,866) (2,986)
Net change in minority interest in consolidated subsidiaries 608 (292)
Cumulative effect of change in accounting principle, net of tax 2,874 --
Reclassification from other comprehensive income for SFAS No. 133 (837) --
Change in operating assets and liabilities:
Decrease in assets segregated for regulatory purposes 107,659 14,797
Net change in broker, dealer and clearing organization accounts (36,412) 55,185
Net change in client accounts (103,754) (97,849)
Net change in loans held for sale 14,141 23,343
Net change in loans (16,545) (20,053)
Decrease (increase) in securities owned (3,023) 5,636
Increase in other assets (6,681) (4,527)
Decrease in drafts payable (2,596) (1,522)
Increase (decrease) in securities sold, not yet purchased 427 (4,571)
Decrease in other liabilities (4,888) (9,269)
--------- --------
Net cash used in operating activities (44,217) (33,926)
--------- --------
Cash flows from investing activities:
Purchase of fixed assets (989) (1,472)
Proceeds from sale of marketable equity securities 2,878 2,995
--------- --------
Net cash provided by investing activities 1,889 1,523
--------- --------
Cash flows from financing activities:
Increase in short-term borrowings 3,400 36,000
Increase (decrease) in deposits 22,739 (4,842)
Increase (decrease) in advances from Federal Home Loan Bank (30,809) 187
Proceeds from issuance of exchangeable subordinated notes -- 7,500
Debt issue costs -- (242)
Payment of cash dividends on common stock - parent (1,430) (767)
Payment of cash dividends on common stock - pooled company -- (1,850)
Net proceeds from exercise of stock options 166 34
Proceeds from employees for Stock Purchase Plan -- 250
Proceeds related to Deferred Compensation Plan 300 509
Purchase of treasury stock (300) (509)
--------- --------
Net cash provided by (used in) financing activities (5,934) 36,274
--------- --------
Net increase (decrease) in cash (48,262) 3,871
Cash at beginning of period 72,479 21,750
--------- --------
Cash at end of period $ 24,217 $ 25,621
========= ========
</TABLE>
See accompanying Notes to Consolidated Financial Statements.
<PAGE>
SOUTHWEST SECURITIES GROUP, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(Unaudited)
GENERAL AND BASIS OF PRESENTATION
The interim consolidated financial statements include the accounts of Southwest
Securities Group, Inc. ("Parent") and its consolidated subsidiaries listed below
fcollectively, the "Company"):
Brokerage Group
Southwest Securities, Inc. "Southwest"
SWS Financial Services, Inc. "SWSFS"
Mydiscountbroker.com, Inc. "MDB"
Southwest Clearing Corporation "Clearing"
Asset Management Group
Westwood Management Corporation "Westwood"
Westwood Trust "Trust"
SW Capital Corporation "Capital"
Southwest Investment Advisors, Inc. "Advisors"
Banking Group
First Savings Bank, FSB "FSB"
First Consumer Credit, L.L.C. "First Consumer"
FSB Financial, L.L.C. "FSB Financial"
FSB Development, L.L.C. "FSB Development"
Other
SWS Technologies Corporation "Technologies"
Southwest is a New York Stock Exchange ("NYSE") registered broker/dealer, and
SWSFS, MDB and Clearing are National Association of Securities Dealers ("NASD")
registered broker/dealers under the Securities Exchange Act of 1934 ("1934
Act"). Clearing has not yet begun operations. Advisors and Westwood are
registered investment advisors under the Investment Advisors Act of 1940. Trust
is chartered and regulated by the Texas Department of Banking. FSB is a
federally chartered savings association regulated by the Office of Thrift
Supervision.
FSB was acquired on April 28, 2000 in a transaction accounted for as a pooling-
of-interests. Accordingly, the consolidated financial statements of the Company
for all interim periods prior to the combination have been restated to include
the operations of FSB.
The interim consolidated financial statements as of September 29, 2000, and for
the three-month periods ended September 29, 2000 and September 24, 1999, are
unaudited; however, in the opinion of management, these interim statements
include all adjustments, consisting only of normal recurring adjustments,
necessary for a fair presentation of the financial position, results of
operations and cash flows. These financial statements should be read in
conjunction with the audited consolidated financial statements and related notes
as of and for the year ended June 30, 2000 filed on Form 10-K. Amounts included
for June 30, 2000 are from the audited consolidated financial statements as
filed on Form 10-K.
All significant intercompany balances and transactions have been eliminated.
Certain amounts have been reclassified to conform to fiscal 2001 presentation.
CASH FLOW REPORTING
Cash paid for interest was $54,051,000 and $32,352,000 for the three-month
periods ended September 29, 2000 and September 24, 1999, respectively. Cash paid
for income taxes was $6,600,000 for the three months ended September 29, 2000.
No tax payments were made in the quarter ended September 24, 1999.
<PAGE>
ACCOUNTING PRONOUNCEMENTS
The Company adopted Statement of Financial Accounting Standards No. 133 (SFAS
No. 133) "Accounting for Derivative Instruments and Hedging Activities", as
amended, effective July 1, 2000. SFAS No. 133 is applicable to the Company's 5%
Exchangeable Subordinated Notes (the "Notes"). The Notes contain an equity-
based derivative designed to hedge changes in fair value of 1,014,332 shares of
the Company's investment in Knight. The embedded derivative has been designated
as a fair value hedge of the Company's investment in Knight shares. SFAS No.
133 requires fair value recognition of the Notes' embedded derivative in the
consolidated statements of financial condition. Changes in the fair value of
the embedded derivative are required to be recognized in earnings, along with
the change in fair value of the Knight shares. Under SFAS No. 133, the Company
has recognized a net transition loss of $4,422,000, or $2,874,000 net of tax,
which includes gains on the change in the value of the embedded derivative, net
of losses on the change in value of the corresponding Knight common stock
reclassified from other comprehensive income. The net transition loss
represents the differences in time value of money related to the embedded
derivative. To properly adjust the value of the embedded derivative on the
statement of financial condition upon adoption of SFAS No. 133, the Company
reduced the Notes' liability by $17,956,000, and recorded offsetting increases
to accumulated other comprehensive income of $14,546,000 and deferred tax
liability of $6,284,000.
For the first quarter of fiscal 2001, the Company reclassified a
gain of $837,000 from other comprehensive income to other revenue on the
consolidated statements of income and comprehensive income. The gain for the
quarter represents gains on the change in the value of Knight, net of losses on
the change in the value of the embedded derivative. Under SFAS No. 133, such
gain or loss will be calculated on a quarterly basis and will be reclassified
from other comprehensive income until such time as the embedded derivative
ceases to exist. To properly adjust the value of the embedded derivative on the
statement of financial condition as of September 29, 2000, the Company increased
the Notes' liability by $5,438,000, and recorded offsetting decreases to
accumulated other comprehensive income of $4,079,000 and deferred tax liability
of $2,196,000.
ASSETS SEGREGATED FOR REGULATORY PURPOSES
At September 29, 2000, the Company had reverse repurchase agreements of
$198,090,000 and U.S. Treasury securities with a market value of $87,948,000
segregated in a special reserve bank account for the exclusive benefit of
customers under Rule 15c3-3 of the 1934 Act. The reverse repurchase agreements
were collateralized by U.S. Government securities with a market value of
approximately $214,390,000. At June 30, 2000, the Company had U.S. Treasury
securities with a market value of $393,697,000 segregated in special reserve
bank accounts for the exclusive benefit of customers under Rule 15c3-3 of the
1934 Act.
MARKETABLE EQUITY SECURITIES
The investment in Knight common stock is classified as marketable equity
securities available for sale, and the unrealized holding gains (losses), net of
tax, are recorded as a separate component of stockholders' equity on the
consolidated statements of financial condition. The following table summarizes
the cost and market value of the investment in Knight at September 29, 2000 and
June 30, 2000 (in thousands):
<TABLE>
<CAPTION>
Gross Gross
Unrealized Unrealized Market
Cost Gains Losses Value
----------------------------------------------
<S> <C> <C> <C> <C>
September
Marketable equity securities $ 188 52,422 - $52,610
==============================================
June
Marketable equity securities $ 200 46,083 - $46,283
==============================================
</TABLE>
The "specific identification" method is used to determine the cost of marketable
securities sold. In the three-month periods ended September 29, 2000 and
September 24, 1999, the Company sold approximately 91,000 and 70,000 shares of
Knight, respectively, with proceeds from the sales totaling $2,878,000 and
$2,995,000, respectively. Realized gains on these sales totaled approximately
$2,866,000 and $2,986,000 for the three-month periods ended September 29, 2000
and September 24, 1999, respectively.
<PAGE>
RECEIVABLE FROM AND PAYABLE TO BROKERS, DEALERS AND CLEARING ORGANIZATIONS
At September 29, 2000 and June 30, 2000, the Company had receivable from and
payable to brokers, dealers and clearing organizations related to the following
(in thousands):
September June
----------- -----------
Receivable
Securities failed to deliver $ 32,776 $ 56,683
Securities borrowed 2,943,650 3,253,896
Correspondent broker/dealers 35,619 53,368
Clearing organizations 1,539 1,575
Other 31,233 39,687
----------- -----------
$ 3,044,817 $ 3,405,209
=========== ===========
Payable
Securities failed to receive $ 30,228 $ 57,111
Securities loaned 2,933,040 3,270,701
Correspondent broker/dealers 13,517 46,355
Other 15,090 14,512
----------- -----------
$ 2,991,875 $ 3,388,679
=========== ===========
LOANS AND ALLOWANCE FOR POSSIBLE LOAN LOSSES
Loans receivable at September 29, 2000 and June 30, 2000 are summarized as
follows (in thousands):
September June
--------- ---------
First mortgage loans (principally conventional):
Real estate $ 125,615 $ 125,218
Construction 91,059 85,101
--------- ---------
216,674 210,319
--------- ---------
Consumer and other loans:
Commercial 17,607 13,681
Other 29,145 25,379
--------- ---------
46,752 39,060
--------- ---------
Factored receivables 11,275 11,008
--------- ---------
274,701 260,387
Unearned income (8,077) (8,730)
Allowance for possible loan losses (2,650) (3,699)
--------- ---------
$ 263,974 $ 247,958
========= =========
Impairment of loans with a recorded investment of approximately $2,223,000 and
$3,725,000 at June 30, 2000 and June 25, 1999, respectively, has been recognized
in conformity with SFAS No. 114 as amended by SFAS No. 118. An analysis of the
allowance for possible loan losses for the three-month periods ended September
29, 2000 and September 24, 1999 is as follows (in thousands):
2000 1999
------- -------
Balance at beginning of period $ 3,699 $ 3,308
Provision for loan losses 529 205
Loans charged to the allowance, net (1,578) (134)
------- -------
Balance at end of period $ 2,650 $ 3,379
======= =======
<PAGE>
SECURITIES OWNED AND SECURITIES SOLD, NOT YET PURCHASED
At September 29, 2000 and June 30, 2000, the Company held securities owned and
securities sold, not yet purchased as follows (in thousands):
<TABLE>
<CAPTION>
September June
--------- ---------
<S> <C> <C>
Securities owned
Corporate equity securities $ 23,969 $ 13,186
Municipal obligations 19,773 21,636
U.S. Government and Government agency obligations 12,952 15,519
Corporate obligations 21,242 24,490
Funds and trusts 48,189 48,155
Other 5 121
--------- ---------
$ 126,130 $ 123,107
========= =========
Securities sold, not yet purchased
Corporate equity securities $ 6,087 $ 5,198
Municipal obligations 991 715
U.S. Government and Government agency obligations 2,359 4,187
Corporate obligations 1,100 2,057
Funds and trusts 15,069 12,747
Other 100 375
--------- ---------
$ 25,706 $ 25,279
========= =========
</TABLE>
SHORT-TERM BORROWINGS
The Company has credit arrangements with commercial banks, which include broker
loan lines up to $350,000,000. These lines of credit are used primarily to
finance securities owned, securities held for Correspondent broker/dealer
accounts and receivables in customers' margin accounts. These lines may also be
used to release pledged collateral against day loans. These credit arrangements
are provided on an "as offered" basis and are not committed lines of credit.
These arrangements can be terminated at any time by the lender. Any outstanding
balance under these credit arrangements is due on demand and bears interest at
rates indexed to the federal funds rate. At September 29, 2000, the amount
outstanding under these secured arrangements was $53,200,000 which was
collateralized by firm securities valued at $46,089,000 and non-customer
securities valued at $47,511,000. There was $46,300,000 outstanding at June 30,
2000 on these credit arrangements which was collateralized by securities held
for firm accounts valued at $48,046,000 and $3,500,000 which was collateralized
by securities held for non customer accounts valued at $48,599,000.
In addition to the broker loan lines, the Company has a $20,000,000 unsecured
line of credit that is due on demand and bears interest at rates indexed to the
federal funds rate. There were no amounts outstanding under this line of credit
at September 29, 2000 and June 30, 2000.
At September 29, 2000 and June 30, 2000, the Company had no repurchase
agreements outstanding.
DEPOSITS
Deposits at September 29, 2000 and June 30, 2000 are summarized as follows
(dollars in thousands):
<TABLE>
<CAPTION>
September June
Amount Percent Amount Percent
----------------- -----------------
<S> <C> <C> <C> <C>
Noninterest bearing demand accounts $ 13,455 4.7% $ 13,358 5.0%
Interest bearing demand accounts 3,151 1.1 2,047 0.7
Savings accounts 570 0.2 449 0.2
Limited access money market accounts 12,618 4.4 11,222 4.2
Certificates of deposit, less than $100,000 212,108 73.5 192,859 72.6
Certificates of deposit, $100,000 and greater 46,641 16.1 45,869 17.3
----------------- -----------------
$288,543 100.0% $265,804 100.0%
----------------- -----------------
</TABLE>
<PAGE>
The weighted average interest rate on deposits was approximately 6.1% at
September 29, 2000 and 5.7% at June 30, 2000.
At September 29, 2000, scheduled maturities of certificates of deposit were as
follows (in thousands):
<TABLE>
2001 2002 2003 Thereafter Total
-------- ------- ------ ---------- --------
<S> <C> <C> <C> <C> <C>
4.00% to 4.99% $ 1,647 $ 36 $ 36 $ 283 $ 2,002
5.00% to 5.99% 42,107 4,251 978 51 47,387
6.00% to 6.99% 59,905 65,107 8,250 2,888 136,150
7.00% to 7.99% 41,156 13,641 223 18,190 73,210
-------- ------- ------ ---------- --------
$144,815 $83,035 $9,487 $21,412 $258,749
======== ======= ====== ========== ========
</TABLE>
ADVANCES FROM THE FEDERAL HOME LOAN BANK
At September 29, 2000 and June 30, 2000, advances from the FHLB were due as
follows (in thousands):
September June
--------- -------
Maturity:
Due within one year $ 3,008 $34,512
Due within two years 141 317
Due within five years 4,129 3,340
Due within seven years 394 408
Due within ten years 1,467 1,305
Due within twenty years 2,920 2,986
------- -------
$12,059 $42,868
======= =======
Pursuant to collateral agreements, the advances from the FHLB, with interest
rates ranging from 5.3% to 7.7%, are secured by approximately $72,214,000 of
collateral value (as defined) in qualifying first mortgage loans at September
29, 2000.
NET CAPITAL REQUIREMENTS
Brokerage Group. The broker/dealer subsidiaries are subject to the Securities
and Exchange Commission's Uniform Net Capital Rule (the "Rule"), which requires
the maintenance of minimum net capital. Southwest has elected to use the
alternative method, permitted by the Rule, which requires that it maintain
minimum net capital, as defined in Rule 15c3-1 under the 1934 Act, equal to the
greater of $1,500,000 or 2% of aggregate debit balances, as defined in Rule
15c3-3 under the 1934 Act. At September 29, 2000, Southwest had net capital of
$173,776,000, or approximately 17.5% of aggregate debit balances, which is
$153,939,000 in excess of its minimum net capital requirement of $19,837,000 at
that date. Additionally, the net capital rule of the New York Stock Exchange,
Inc. (the "Exchange") provides that equity capital may not be withdrawn or cash
dividends paid if resulting net capital would be less than 5% of aggregate debit
items. At September 29, 2000, Southwest had net capital of $124,184,000 in
excess of 5% of aggregate debit items.
Clearing also follows the alternative method. At September 29, 2000, Clearing
had net capital of $1,294,000, which is $1,044,000 in excess of its minimum net
capital requirement of $250,000 at that date.
SWSFS and MDB follow the primary (aggregate indebtedness) method under Rule
15c3-1, which requires the maintenance of minimum net capital of $250,000. At
September 29, 2000, the net capital and excess net capital were $318,000 and
$68,000, respectively, for SWSFS and $588,000 and $338,000, respectively, for
MDB.
<PAGE>
Asset Management Group. Trust is subject to the capital requirements of the
Texas Department of Banking, and has a minimum capital requirement of
$1,000,000. Trust had total stockholder's equity of approximately $3,159,000,
which is $2,159,000 in excess of its minimum capital requirement at September
29, 2000.
Banking Group. FSB is subject to various regulatory capital requirements
administered by federal agencies. Quantitative measures, established by
regulation to ensure capital adequacy, require the maintaining of minimum
amounts and ratios (set forth in the table below) of total and Tier I capital
(as defined in the regulations) to risk-weighted assets (as defined), and of
Tier I capital (as defined) to average assets (as defined). Management
believes, as of September 29, 2000, that FSB meets all capital adequacy
requirements to which it is subject.
As of September 29, 2000 and June 30, 2000, FSB is considered "well capitalized"
under the regulatory framework for prompt corrective action. To be categorized
as "well capitalized," FSB must maintain minimum total risk-based, Tier I risk-
based, Tier I leverage ratios as set forth in the table. FSB's actual capital
amounts and ratios are presented in the following tables (in thousands):
<TABLE>
<CAPTION>
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
Amount Ratio Amount Ratio Amount Ratio
----------------- ------------------ ------------------
<S> <C> <C> <C> <C> <C> <C>
September 29, 2000:
Total capital (to risk weighted assets) $36,450 12.0 % $24,346 8.0 % $30,433 10.0 %
Tier I capital (to risk weighted assets) 35,119 11.5 12,173 4.0 18,260 6.0
Tier I capital (to adjusted total assets) 35,119 10.2 13,750 4.0 17,187 5.0
June 30, 2000:
Total capital (to risk weighted assets) $32,322 10.9 % $23,657 8.0 % $29,571 10.0 %
Tier I capital (to risk weighted assets) 31,766 10.7 11,828 4.0 17,742 6.0
Tier I capital (to adjusted total assets) 31,766 9.3 13,694 4.0 17,118 5.0
</TABLE>
EARNINGS PER SHARE
A reconciliation between the weighted average shares outstanding used in the
basic and diluted EPS computations is as follows for the three months ended
September 29, 2000 and September 24, 1999 (in thousands, except share and per
share amounts):
<TABLE>
<CAPTION>
Three Months Ended
2000 1999
---------------------------------
<S> <C> <C>
Income before cumulative effect of a change in accounting principle $ 8,218 $ 6,153
Cumulative effect of a change in accounting principle (2,874) --
---------------------------------
Net income $ 5,344 $ 6,153
=================================
Weighted average shares outstanding - basic 15,889,997 15,848,160
Effect of dilutive securities:
Assumed exercise of stock options 134,710 186,047
---------------------------------
Weighted average shares outstanding - diluted 16,024,707 16,034,207
=================================
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Three Months Ended
2000 1999
--------------------------
<S> <C> <C>
Earnings per share - basic
Income before cumulative effect of a change in accounting principle $ .52 $ .39
Cumulative effect of a change in accounting principle (.18) --
--------------------------
Net income $ .34 $ .39
==========================
Earnings per share - diluted
Income before cumulative effect of a change in accounting principle $ .51 $ .38
Cumulative effect of a change in accounting principle (.18) --
--------------------------
Net income $ .33 $ .38
==========================
</TABLE>
At September 29, 2000, the Company had two stock option plans, the Southwest
Securities Group, Inc. Stock Option Plan (the "1996 Plan") and the Southwest
Securities Group, Inc. 1997 Stock Option Plan (the "1997 Plan"). At September
29, 2000, there were approximately 1,074,000 options outstanding under the 1996
Plan and approximately 41,000 options outstanding under the 1997 Plan. For the
three months ended September 29, 2000, all outstanding options were dilutive and
were included in the calculation of weighted average shares outstanding -
diluted, except approximately 285,000 shares under the 1996 Plan and 18,000
shares under the 1997 Plan.
SEGMENT REPORTING
The Company operates three principal segments within the financial services
industry: the Brokerage Group, the Asset Management Group and the Banking Group.
There have been no changes in the basis of segmentation or in the basis of
measurement of segment profit or loss since last reported.
<TABLE>
<CAPTION>
Consolidated
Asset Other Southwest
Brokerage Management Banking Consolidated Securities
(in thousands) Group Group Group Entities Group, Inc.
----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Three months ended September 29, 2000
Net revenues from external sources $111,520 $4,568 $14,147 $ 933 $131,168
Net intersegment revenue (expense) (1,864) 165 (23) 1,722 --
Income (loss) before income taxes and
minority interest in consolidated
subsidiaries 8,702 1,868 5,518 (2,189) 13,899
Three months ended September 24, 1999
Net revenues from external sources $ 80,980 $3,235 $ 9,628 $ 396 $ 94,239
Net intersegment revenue (expense) (1,319) 100 -- 1,219 --
Income (loss) before income taxes and
minority interest in consolidated
subsidiaries 3,690 713 3,913 (609) 7,707
</TABLE>
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
FACTORS AFFECTING FORWARD-LOOKING STATEMENTS
From time to time, Southwest Securities Group, Inc. (the "Parent") and
subsidiaries (collectively, the "Company") may publish "forward-looking
statements" within the meaning of section 27A of the Securities
<PAGE>
Act of 1933, as amended, and Section 21E of the Securities and Exchange Act of
1934, as amended, (the "Acts") or make oral statements that constitute forward-
looking statements. These forward-looking statements may relate to such matters
as anticipated financial performance, future revenues or earnings, business
prospects, projected ventures, new products, anticipated market performance and
similar matters. The Private Securities Litigation Reform Act of 1995 provides a
safe harbor for forward-looking statements. In order to comply with the terms of
the safe harbor, the Company cautions readers that a variety of factors could
cause the Company's actual results to differ materially from the anticipated
results or other expectations expressed in the Company's forward-looking
statements. These risks and uncertainties, many of which are beyond the
Company's control, include, but are not limited to (1) transaction volume in the
securities markets; (2) volatility of the securities markets; (3) fluctuations
in interest rates; (4) changes in regulatory requirements which could affect the
cost of doing business; (5) general economic conditions, both domestic and
foreign; (6) changes in the rate of inflation and related impact on securities
markets; (7) competition from existing financial institutions and other new
participants in the securities markets; (8) legal developments affecting the
litigation experience of the securities industry; (9) successful implementation
of technology solutions; and (10) changes in federal and state tax laws which
could affect the popularity of products sold by the Company. The Company does
not undertake any obligation to publicly update or revise any forward-looking
statements.
GENERAL
The Company is primarily engaged in securities execution and clearance,
securities brokerage, investment banking, securities lending and borrowing and
trading as a principal in equity and fixed income securities. The Company also
engages in full-service banking and asset management activities. All of these
activities are highly competitive and are sensitive to many factors outside the
control of the Company, including volatility of securities prices and interest
rates; trading volume of securities; economic conditions in the regions where
the Company does business; income tax legislation; and demand for financial
services. While revenues are dependent upon the level of trading and
underwriting volume, which may fluctuate significantly, a large portion of the
Company's expenses remain fixed. Consequently, net earnings can vary
significantly from period to period.
RESULTS OF OPERATIONS
During the first quarter of fiscal 2001, net income totaled $5,344,000, a
decrease of $809,000, or 13%, from the first quarter of fiscal 2000.
Income for the quarter was reduced $2,874,000 by the adoption of Statement of
Financial Accounting Standards No. 133 "Accounting for Derivative Instruments
and Hedging Activities" ("SFAS No. 133"). SFAS No. 133 is applicable to the
Company's 5% Exchangeable Subordinated Notes (the "Notes"). The Notes contain an
equity-based derivative designed to hedge changes in fair value of 1,014,332
shares of the Company's investment in Knight. The imbedded derivative has been
designated as a fair value hedge of the Company's investment in Knight shares.
SFAS No. 133 requires fair value recognition of the Notes' embedded derivative
in the consolidated statements of financial condition. Changes in the fair value
of the embedded derivative are required to be recognized in earnings, along with
the change in fair value of the Knight shares. Under SFAS No. 133, the Company
has recognized a net transition loss, which includes gains on the change in the
value of the embedded derivative, net of losses on the change in value of the
corresponding Knight common stock reclassified from other comprehensive income.
The net transition loss represents the differences in time value of money
related to the embedded derivative. To properly adjust the value of the embedded
derivative on the statement of financial condition upon adoption of SFAS No.
133, the Company reduced the Notes' liability by $17,956,000, and recorded
offsetting increases to accumulated other comprehensive income of $14,546,000
and deferred tax liability of $6,284,000.
For the first quarter of fiscal 2001, the Company reclassified a gain of
$837,000 from other comprehensive income to other revenue on the consolidated
statements of income and comprehensive income. The gain for the quarter
represents gains on the change in the value of Knight, net of losses on the
change in the value of the embedded derivative. Under SFAS No. 133, such gain or
loss will be calculated on a quarterly basis and will be reclassified from other
comprehensive income until such time as the embedded derivative ceases to exist.
To properly adjust the value of the embedded derivative on the statement of
financial condition as of September 29, 2000, the Company increased the Notes'
liability by $5,438,000, and recorded offsetting decreases to accumulated other
comprehensive income of $4,079,000 and deferred tax liability of $2,196,000. At
September 29, 2000, the Company held 1.5 million shares of Knight common stock.
Income before the cumulative effect of the change in accounting principle
totaled $8,218,000 in the quarter ended September 29, 2000, an increase of
$2,065,000, or 34%, over the comparable prior year quarter.
<PAGE>
The following is a summary of increases (decreases) in categories of net
revenues and operating expenses for the three-month periods ended September 30,
2000 and September 24, 1999 (dollars in thousands):
<TABLE>
<CAPTION>
Amount Percent
--------------------
<S> <C> <C>
Net revenues:
Net revenues from clearing operations $ 5,000 49%
Commissions 432 3%
Net interest 3,692 20%
Investment banking, advisory and administrative fees 1,796 25%
Net gains on principal transactions 3,725 87%
Other 2,596 63%
--------------------
17,241 29%
--------------------
Operating expenses:
Commissions and other employee compensation 7,649 27%
Occupancy, equipment and computer service costs 1,039 15%
Communications (389) (10%)
Floor brokerage and clearing organization charges (176) (9%)
Advertising and promotional (556) (13%)
Other 3,482 52%
--------------------
11,049 21%
--------------------
Income before income taxes and minority interest $6,192 80%
====================
</TABLE>
Net Revenues from Clearing Operations. Net revenues from clearing increased as
a result of an increase in transaction volumes. Total transactions processed in
fiscal 2001 increased 46% to approximately 13.5 million from approximately 9.3
million in fiscal 2000.
Commissions. The increase in commissions in fiscal 2001 over fiscal 2000 is
primarily attributable to increased commissions from Mydiscountbroker.com, Inc.
("MDB"), the Company's on-line brokerage subsidiary, an increase in production
from the Company's private client group, offset by decreases in production from
the SWS Financial Services, Inc. ("SWSFS") independent contractor network, as
well as from the Company's fixed income representatives. Commissions at MDB
increased approximately 147% over the prior year. The number of MDB on-line
accounts increased to 32,888 at September 29, 2000 from 9,612 at September 24,
1999, an increase of 242%.
Net Interest Income. The Company's net interest income is dependent upon the
level of customer and stock loan balances as well as the spread between the
rates it earns on those assets compared with the cost of funds. Net interest is
the primary source of income for FSB and represents the amount by which interest
and fees generated by earning assets exceed the cost of funds, primarily
interest paid to FSB's depositors on interest-bearing accounts. The components
of interest earnings are as follows (in thousands):
September 30, September 24,
2000 1999
-------------------------------
Interest revenue:
Customer margin accounts $17,624 $13,487
Assets segregated for regulatory purposes 4,302 2,481
Stock borrowed 40,114 26,618
Loans 11,383 8,487
Other 3,142 2,112
------- -------
$76,565 $53,185
------- -------
<PAGE>
September 30, September 24,
2000 1999
------------- -------------
Interest expense:
Customer funds on deposit $13,148 $ 7,791
Stock loaned 35,085 22,550
Deposits 4,171 2,944
Other 1,648 1,079
------------- -------------
54,052 34,364
------------- -------------
Net interest $22,513 $18,821
============= =============
For the three months ended September 29, 2000, net interest income accounted for
29% of the Company's net revenue versus 31% for the three months ended September
24, 1999. Net interest revenue generated by FSB accounted for approximately 9%
of net revenue in the first quarter of 2001 and in the first quarter of fiscal
2000. Interest revenue from customer margin balances and interest expense from
customer funds on deposit have fluctuated in relation to average balances over
the past two fiscal years. Net interest revenue generated from securities
lending activities has increased relative to average balances borrowed and
loaned in the current fiscal year versus the prior two fiscal years. At FSB,
changes in net interest revenue are generally attributable to the timing of loan
payoffs and volume.
Average balances on interest-earning assets and interest-bearing liabilities are
as follows (in thousands):
Three Months Ended
September 30, September 24,
2000 1999
-----------------------------
Average interest-earning assets:
Customer margin balances $ 754,000 $ 684,000
Stock borrowed 3,037,000 2,728,000
Loans held for investment 255,000 212,000
Loans held for sale 72,000 36,000
Average interest-bearing liabilities:
Customer funds on deposit 957,000 736,000
Stock loaned 3,042,000 2,718,000
Certificates of deposit, NOW, money market
and savings 262,000 218,000
Rates on customer margin balances and funds on deposit are influenced by changes
in leading market interest rates and competitive factors. Spreads on securities
lending transactions are influenced by the types of securities borrowed or
loaned, market conditions and counter-party risk. Interest rate trends,
changes in the economy and the scheduled maturities and interest rate
sensitivity of the investment and loan portfolios and deposits affect the
spreads earned by FSB.
Net Gains on Principal Transactions. For the three months ended September 29,
2000 and September 24, 1999, $2,866,000 and $2,986,000, respectively, represent
net gains realized on the sale of approximately 91,000 shares and 70,000 shares,
respectively, of Knight common stock to fund MDB's advertising commitments.
Excluding these gains, net gains on principal transactions were $5,162,000 and
$1,317,000 for the three-month periods ended September 29, 2000 and September
24, 1999, respectively. Net gains increased when comparing the three months
ended September 29, 2000 to the same period of the prior year. These results
are attributed to an improvement in the trading environment in both the equity
and fixed income markets in the first quarter of fiscal 2001 and to expansion of
the equity trading area. Coverage from market making activities has increased
to 667 over-the-counter
<PAGE>
securities and 410 listed securities. Revenue in this
area can fluctuate significantly from quarter to quarter based on market
conditions.
Other Revenue. Other revenue increased due to gains on the sale of assets by
FSB Financial as well as increased revenue from insurance products and a gain of
approximately $837,000 on the embedded derivative in the DART obligation as
required by SFAS No. 133.
Commissions and Other Employee Compensation. Commissions and other employee
compensation are generally affected by the level of operating revenues, earnings
and the number of employees. During the three month periods ended September 29,
2000, commissions and other employee compensation expense increased over the
same periods in the prior year. This was principally due to increased
commissions and benefits paid to revenue-producing employees generating higher
levels of operating revenues and the addition of 92 full-time employees. The
number of full-time employees increased to 1,097 at September 29, 2000 compared
to 1,005 at September 24, 1999.
Occupancy, Equipment and Computer Service Costs. Occupancy, equipment and
computer service costs increased for three month period ended September 29, 2000
over the same period of the prior year due to an increase in leased computer
hardware related to the implementation of its new brokerage software,
Comprehensive Software Systems, Ltd. ("CSS").
Other Expense. Other expense increased due to additional contract labor and
professional consulting costs associated with the Company's implementation of
the CSS system.
LIQUIDITY AND CAPITAL RESOURCES
The Company's assets are substantially liquid in nature and consist mainly of
cash or assets readily convertible into cash. These assets are financed by the
Company's equity capital, short-term bank borrowings, interest bearing and non-
interest bearing client credit balances, Correspondent deposits and other
payables. The Company maintains an allowance for doubtful accounts which
represents amounts, in the judgment of management, that are necessary to
adequately absorb losses from known and inherent risks in receivables from
clients, clients of Correspondents and Correspondents.
The Company has credit arrangements with commercial banks, which include broker
loan lines up to $350,000,000. These lines of credit are used primarily to
finance securities owned, securities held for Correspondent broker/dealer
accounts and receivables in customers' margin accounts. These credit
arrangements are provided on an "as offered" basis and are not committed lines
of credit. Outstanding balances under these credit arrangements are due on
demand, bear interest at rates indexed to the federal funds rate and are
collateralized by securities of the Company and its clients. At September 29,
2000, the amount outstanding under these secured arrangements was $53,200,000
which was collateralized by firm securities valued at $46,089,000 and non-
customer securities valued at $47,511,000. In the opinion of management, these
credit arrangements are adequate to meet the short-term operating needs of the
Company.
In addition to the broker loans lines, the Company has a $20,000,000 unsecured
line of credit that is due on demand and bears interest at rates indexed to the
federal funds rate. There were no amounts outstanding under this line of credit
at September 29, 2000.
The Company has issued $57.5 million of Notes due June 30, 2004. At maturity,
the principal of the Notes will be paid in shares of the Class A common stock of
Knight or, at the option of the Company, their cash equivalent. The Notes,
which are in the form of DARTSSM (or, "Derivative Adjustable Ratio
SecuritiesSM"), were issued in denominations of $56.6875, the closing bid price
of Knight on June 10, 1999. At maturity, Noteholders are entitled to one share
of Knight common stock for each DARTS if the average price for the 20 days
immediately preceding the Notes' maturity is equal to or less than the DARTS
issue price. Noteholders are entitled to .833 shares of Knight common stock for
each DARTS if the average price of Knight's common stock is 20% or more greater
than the DARTS' issue price. If the average price of the Knight common stock is
between the Notes' issue price and 20% greater than the issue price, the
exchange rate will be determined by a formula.
<PAGE>
Net cash used in operating activities during the three-month period ended
September 29, 2000 was $44,217,000. The use of cash was due to the increase in
receivables from customers, as well as from brokers, dealers and clearing
organizations, net of a decrease in assets segregated for regulatory purposes.
The Company's broker/dealer subsidiaries are subject to the requirements of the
Securities and Exchange Commission relating to liquidity, capital standards and
the use of client funds and securities. The Company has historically operated
in excess of the minimum net capital requirements.
MARKET RISK
Market risk generally represents the risk of loss that may result from the
potential change in value of a financial instrument as a result of fluctuations
in interest rates, equity prices, and changes in credit ratings of the issuer.
The Company's exposure to market risk is directly related to its role as a
financial intermediary in customer-related transactions and to its proprietary
trading activities.
Interest Rate Risk. Interest rate risk is a consequence of maintaining
inventory positions and trading in interest-rate-sensitive financial
instruments. The Company does not maintain material positions in interest-rate-
sensitive financial instruments. The Company's fixed income activities also
expose it to the risk of loss related to changes in credit spreads. Credit
spread risk arises from the potential that changes in an issuer's credit rating
or credit perception could affect the value of financial instruments. At FSB,
interest rate risk arises when an interest-earning asset matures or when its
rate of interest changes in a timeframe different from that of the supporting
interest-bearing liability.
Equity Price Risk. The Company is exposed to equity price risk as a result of
making markets in equity securities. Equity price risk results from changes in
the level or volatility of equity prices, which affect the value of equity
securities or instruments that derive their value from a particular stock, a
basket of stocks or a stock index.
Credit Risk. Credit risk arises from the potential nonperformance by
counterparties, customers or debt security issuers. The Company is exposed to
credit risk as a trading counterparty to dealers and customers, as a holder of
securities and as a member of exchanges and clearing organizations.
Managing Risk Exposure. The Company manages risk exposure through the
involvement of various levels of management. Position limits in trading and
inventory accounts are well established and monitored on an ongoing basis.
Current and proposed underwriting, banking and other commitments are subject to
due diligence reviews by senior management, as well as professionals in the
appropriate business and support units involved. FSB seeks to reduce the risk
of significant adverse effects of market rate fluctuations by minimizing the
difference between rate-sensitive assets and liabilities, referred to as "gap",
by maintaining an interest rate sensitivity position within a particular
timeframe. Credit risk related to various financing activities is reduced by
the industry practice of obtaining and maintaining collateral. The Company
monitors its exposure to counterparty risk through the use of credit exposure
information, the monitoring of collateral values and the establishment of credit
limits.
Market Risk Analysis. The Company has performed an analysis of the Company's
financial instruments and has assessed the related risk and materiality in
accordance with the rules. Based on this analysis, in the opinion of
management, the market risk associated with the Company's financial instruments
at September 29, 2000 will not have a material adverse effect on the
consolidated financial position or operating results of the Company.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
The information required by this item is incorporated in Item 2. Management's
Discussion and Analysis of Financial Condition and Results of Operations under
the caption Market Risk.
<PAGE>
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
None Reportable (229.103)
Item 2. Changes in Securities and Use of Proceeds
None Reportable (Per Instructions to Form 10-Q)
Item 3. Defaults upon Senior Securities
None Reportable (Per Instructions to Form 10-Q)
Item 4. Submission of Matters to a Vote of Security Holders
None Reportable (Per Instructions to Form 10-Q)
Item 5. Other Information
None Reportable (Per Instructions to Form 10-Q)
Item 6. Exhibits and Reports on Form 8-K
EXHIBITS
27 Financial Data Schedule*
* Filed herewith
REPORTS ON FORM 8-K
The Company filed three Reports on Form 8-K during the three-month period ended
September 29, 2000:
<TABLE>
<CAPTION>
Type Date Filed Description
--------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
8-K/A July 11, 2000 Amendment under item 7 to file the required financial statements not previously
included in the Report on Form 8-K filed May 12, 2000 announcing the consummation of
the acquisition of ASBI Holdings, Inc.
8-K July 26, 2000 Reported under item 5 that the Company entered into an agreement in principle to
acquire Matrix Bancorp, Inc. ("Matrix").
8-K August 18, 2000 Reported under item 5 the termination of the letter of intent between the Company and
Matrix concerning the proposed acquisition of Matrix by the Company.
</TABLE>
<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.
Southwest Securities Group, Inc.
--------------------------------
(Registrant)
November 13, 2000 /s/ David Glatstein
----------------- --------------------------------
Date (Signature)
David Glatstein
President and Chief Executive Officer
(Principal Executive Officer)
November 13, 2000 /s/ Stacy M. Hodges
----------------- --------------------------------
Date (Signature)
Stacy M. Hodges
Treasurer and Chief Financial Officer
(Principal Financial Officer)
November 13, 2000 /s/ Laura Leventhal
----------------- --------------------------------
Date (Signature)
Laura Leventhal
Controller
(Principal Accounting Officer)
