Item 1. Description of Business
Our Business
General
Hudson Holding Corporation (“Holding”) is a holding company and is the parent of its wholly owned subsidiaries, namely Hudson Securities, Inc. (“Hudson”) and Hudson Technologies, Inc. (“Technologies”), (collectively the “Company”). Hudson is a registered broker-dealer under the Securities Exchange Act of 1934 and is a member of the Financial Industry Regulatory Authority ("FINRA"). The Company has offices in New Jersey and Florida. Technologies was formed for the purpose of providing software development and technology services for Hudson and for third parties.
On June 30, 2004, Hudson’s current management team consummated the purchase of all of the outstanding shares of the predecessor broker-dealer’s common stock. Subsequently, on July 21, 2004, the predecessor broker-dealer formed a wholly owned subsidiary named Hudson Capital Markets, Inc. ("HCMI"), which was organized in the state of Delaware. On July 31, 2004, the predecessor broker-dealer was merged into HCMI, with HCMI becoming the survivor ("HCMI Merger") and the name was changed to Hudson Securities, Inc.
In December 2004, Hudson entered into an Agreement and Plan of Merger (the "Agreement") with Health Outcomes Management, Inc. ("HOM"), a non-operating public company. On May 3, 2005, under the terms of the Agreement, Hudson's stockholders exchanged all of their shares of common stock and warrants for shares of HOM common stock (the "Exchange"). The HOM shares that were issued to Hudson stockholders in the merger represented 94% of HOM's outstanding interest at the time of this exchange. In connection with the legal form of this transaction, Hudson became a wholly owned subsidiary of HOM. On September 6, 2005, HOM changed its name to Hudson Holding Corporation and effectuated a one for eight reverse stock split for all stockholders of record as of the close of business on June 13, 2005. For financial reporting purposes, the Exchange represents a capital transaction of Hudson or a "reverse merger" rather than a business combination.
Operations
Hudson is a member of FINRA and is insured by the Securities Investor Protection Corporation. Hudson is a market maker trading more than 9,000 NASDAQ, non-NASDAQ OTC, listed and foreign securities, and specializes in providing liquidity in mid cap, small cap and micro cap stocks. Hudson has been in business since 1984.
As a market maker, Hudson provides its customers with order executions. When customers come to Hudson seeking to buy or sell securities, the firm works to satisfy the customers’ needs, either by finding counterparties willing to trade with the customers (obtaining liquidity) or, where appropriate, by taking the other side of the trades, thereby providing liquidity for its customers by purchasing or selling the securities itself. In a sense, liquidity is the product that Hudson sells to its customers.
Hudson’s customers are firms that require liquidity to complete stock trades, funds whose investment decisions call for shifts into or out of certain stocks, retail customers, professional traders who want to establish or liquidate their positions, and other retail brokerage firms whose individual investor clients wish to buy or sell securities. By trading with Hudson, its customers are able to obtain liquidity.
Providing trade executions generates two types of revenue for Hudson, commissions and fee revenue and trading revenue.
Commissions and fee revenue comes from the fees that Hudson charges its customers for executing their orders, generally a fixed price per share traded. Revenue may vary with the number and size of Hudson’s customers and with their level of trading activity. Commissions and fee revenue is free of market risk for Hudson since Hudson either transacts as an agent or on a riskless principal basis.
Trading revenue is derived from the profit and loss associated with purchases and sales of securities for Hudson’s trading account, for securities in which Hudson makes markets. In doing so, the firm itself is at risk to changes in stock prices. Trading profits are obtained by paying less to buy shares for its own account than the firm receives for selling those shares. Because the price for which the firm is willing to purchase shares (its “bid” price) is always less than the price at which it would then sell those shares (its “ask” price), trading with a customer presents a market maker with an opportunity to capture the difference between these prices (the “bid-ask spread”) provided it can find a contra-party with whom to trade in the same security before the stock price moves against the trader. Finding a counterparty to take the other side of a trade can be challenging, and failure to find a counterparty at the right price or time can lead to a loss.
Competitive Advantages
Hudson believes that it differentiates itself by the stocks it trades and by the customers it serves. While many of the firm’s competitors emphasize NASDAQ National Market stocks, Hudson focuses on providing liquidity in difficult-to-trade stocks, including shares quoted on the OTC Bulletin Board and Pink Sheets and second tier and Small-Cap NASDAQ stocks. Hudson’s strategy is to maintain and grow existing relationships with retail firms while seeking to attract new customers from among other retailers that the firm’s competitors neglect as well as targeted institutions.
Technology
Hudson maintains a multi-tier connectivity network to receive customers’ orders, to monitor the markets, and to communicate with trading partners. Hudson’s traders have the ability to trade all U.S. equities, using Sungard’s BRASS order management system to process incoming orders and its UMA market access system and the NASDAQ Level III system to enter orders. These systems interface with Goldman Sachs Execution & Clearing, L.P. (Hudson’s clearing broker) to ensure trades are processed. The firm’s Jersey City, Tinton Falls and Boca Raton offices are in constant communication and can serve as back-up for one another in case of system failures.
Hudson has migrated to Sungard’s “dedicated complex” on which Hudson can run its BRASS servers. The facility is capable of executing trades at peak rates of approximately triple the previous average rate. Its complete implementation has allowed Sungard to be more responsive to Hudson’s needs, provided the ability to make changes to the system during trading hours, and facilitated the addition of a dedicated FIX-protocol communications server, which simplified the setup of new customer connections.
Technologies is the hardware and software technology division of the Company. Technologies creates and develops software to enhance the trading environment of Hudson and to meet customers’ needs for customized services. To date, Technologies has created applications that advance the base functionality of BRASS, a Sungard Order Management System. The profit and loss system developed by Technologies is a tool for equities sales traders of Hudson which on a nightly basis calculates what they have earned based on their customer order flow. The system also creates a management report, as well as several other customer reports to enhance the value of Hudson to its clients. To the extent that these programs may be useful for other brokerage firms, Technologies may sell or license these programs to others.
Technologies, through its value added vendor relationships, has created several modules using the BRASS OAPI, (an open application programming interface which allows Hudson to write code to the application) which will be able to provide added functionality for the traders of Hudson. Technologies also operates a carrier neutral co-location data center where customers can rent cabinets, paying Technologies a monthly fee. Technologies also generates revenues by providing co-location customers with remote hands support.
Future Products and Services
Hudson is actively seeking to expand into complementary businesses, both by developing new product/service offerings that will be valuable to the firm’s existing customers and by entering into strategic partnerships with related businesses that can increase its number of new customers. There can be no assurance that we will meet our goal. Strategic partnership candidates include boutique investment banking and money management firms. It may be necessary to acquire new businesses or hire experienced personnel to effectuate expansion plans in these areas. Recently Hudson hired a capital placement team which specializes in raising funds for hedge funds, venture funds and private equity funds.
The Market
Hudson focuses on attracting orders from retail brokerage firms and buy-side institutions, such as mutual funds, hedge funds and trusts. Hudson’s business has a tendency to be strongest during the first calendar quarter of the year and weakest during the summer months.
Market makers’ main customers are retail brokers and institutions that require order executions for varieties of stocks, from widely traded issues, like those of S&P 500 and NASDAQ 100 companies, to less liquid securities such as NASDAQ Small-Cap, Bulletin Board, and Pink Sheet stocks.
While offering liquidity across a broad range of stocks to both institutional and retail brokerage customers, Hudson intends to focus its resources on increasing the firm’s market share as a liquidity provider to retail brokerage firms and institutions, plus on specializing in less liquid issues.
Management believes that retail order-entry firms are being neglected in the increasing competition among market makers for institutional customers, offering the firm an opportunity to increase its presence in that segment. Meanwhile, particularly as large competitors decrease their commitment to the market making business in light of recent “lean years,” lucrative retail brokerage customers may be interested in investigating alternative relationships, presenting Hudson with an opportunity to attract such customers. By establishing a large pool of retail orders, management believes that the firm will ultimately be better positioned to attract buy-side institutional firms in search of liquidity.
By focusing on less liquid stocks, the firm avoids some of the fiercest competition among market makers and other liquidity providers such as Electronic Crossing/Communication Networks (ECN’s). At the same time, Hudson provides a less available service, finding a firm willing to fill an order for little-known pink sheet stocks. However, trading less liquid issues exposes firms to greater price volatility and thus greater risk. There is less investor interest in trading such securities, but the wider spreads have greater profit potential. Hudson trades many of the most active NASDAQ National Market stocks, and by focusing on smaller issues management hopes to appeal to retail brokers in need of liquidity while maximizing the firm’s profit potential.
Industry Analysis
Historically, a handful of market makers have accounted for most of the shares traded on the NASDAQ, OTC Bulletin Board and Pink Sheets. Retail brokers and institutions prefer to have relationships with (and communication links to) more than one market-maker. This engenders competition among market makers, inducing them to offer fast executions, favorable prices, payment for order flow, liquidity, research, convenience, and trustworthiness.
Industry Participants
Over the last several years there has been a rapid consolidation in the market making industry, as global financial corporations that entered the business near the height of the market in the late 1990’s subsequently scaled back, as the market (and trading volumes and profits) retreated. While 200+ “market makers” are currently registered to trade bulletin board stocks*, we believe that many choose to register as market makers for technical reasons, and only a handful of these firms (including Hudson) actively compete to fill orders from retail brokers’ customers. Historically, two of the largest market makers, Knight Equity Markets and UBS Securities, dominate the market, accounting for a majority of NASDAQ, OTC Bulletin Board and Pink Sheet volume.
*according to http://www.otcbb.com/dynamic/tradingdata/MarketMakersPositions/MMakersdata.htm
Competition
Market making can be viewed by some as a commodity business, with participants all offering prompt executions of customer orders. But in an industry where everyone sells (or buys) identical shares of stock, there are criteria whereby market makers manage to distinguish themselves from their competition. Factors on which market makers compete include execution quality (speed and price), payment for orderflow, securities traded and available liquidity, research, service, ease of use and relationships.
Many of our competitors have greater financial, technical and personnel resources than Hudson. We compete with over 200 market makers, and specifically with Knight Trading Group and UBS Securities, two of the largest market makers. Our ability to continue to compete with other market makers will depend on our financial resources, trading ability, and our ability to provide other complementary services to our clients.
To help attract new customers, the firm is striving to increase the list of securities available for trading. Since the beginning of 2003, Hudson began making markets in additional NASDAQ stocks. In addition, the firm now trades securities which are listed on certain US and foreign exchanges. Management is committed to expanding the list even more going forward, particularly with the future expanded deployment of the firm’s automated trading system.
Future Growth
In addition to growing its market making business, the firm also intends to enter other (related) business lines, as discussed below. Management believes that entering other related businesses will help reduce earnings fluctuations. In addition, management hopes that the introduction of related business lines will help the firm to attract new customers to its market making business. The firm intends to pursue both organic growth and acquisitions to meet this goal, although there can be no assurance that management will meet these goals.
Government Regulation
The securities industry in the United States is subject to extensive regulation under both federal and state laws. Hudson is registered as a broker-dealer with the U.S. Securities and Exchange Commission (“SEC”) and certain state securities divisions. Much of the regulation of broker-dealers has been delegated to self-regulated organizations, principally FINRA, Nasdaq and national securities exchanges. These self-regulatory organizations adopt rules (subject to approval by the SEC) that govern the industry and conduct regular and periodic examinations of our operations. Securities firms are also subject to regulation by state securities administrators in those states in which they conduct business. The Company is also subject to oversight by the U.S. Department of Labor in connection with our benefit plans.
Significant legislation, rule-making and market structure changes have occurred over the last few years that have had an impact on the Company. First, decimalization was introduced in January 2001 in NYSE and AMEX listed securities, and in Nasdaq markets in April 2001. Decimalization, combined with the one-penny minimum price increment, has had a dramatic reduction in average spreads, which in turn has had a profound effect on our profitability. Second, in 2002 Nasdaq launched SuperMontage, a Nasdaq routing and execution system. SuperMontage transformed Nasdaq from a quote-driven market to a full-order-driven market as quotes and orders are treated the same. Under SuperMontage, market makers and ECNs are able to show trading interest at five different price levels, allowing investors to see individual and aggregated interest across all market participants at the National Best Bid or Offer (“NBBO”) and four additional layers above or below the NBBO. Third, the introduction of SuperMontage, which is not used by all market participants, and the increase in trading of Nasdaq-listed securities by other exchanges has created market fragmentation. This lack of linkage between market centers has resulted in an increase in locked and crossed markets, fragmented liquidity pools and different market centers using different sets of regulatory rules and regulations. Fourth, the U.S. Patriot Act of 2001, enacted in response to the terrorist attacks on September 11, 2001, contains anti-money laundering and financial transparency laws and mandates the implementation of various new regulations applicable to broker-dealers and other financial services companies, including standards for verifying client identification at account opening, and obligations to monitor client transactions and report suspicious activities. The increased obligations of financial institutions to identify their customers, watch for and report suspicious transactions, respond to requests for information by regulatory authorities and law enforcement agencies, and to share information with other financial institutions, requires the implementation and maintenance of internal practices, procedures and controls which will increase our costs and may subject us to regulatory inquiries, claims or penalties. Lastly, the Sarbanes-Oxley Act of 2002 has led to sweeping changes in corporate governance. This far reaching legislation has significantly affected public companies by enacting provisions covering corporate governance, board of directors and audit committee structure, management and control structure, new disclosure requirements, oversight of the accounting profession and auditor independence. The SEC also responded by, among other things, requiring chief executive officers and chief financial officers of public companies to certify the accuracy of certain financial reports and certain other SEC filings.
The regulatory environment in which we operate is subject to constant change. Our business, financial condition and operating results may be adversely affected as a result of new or revised legislation or regulations imposed by the U.S. Congress, the SEC, other U.S. and state governmental regulatory authorities, or FINRA. Our business, financial condition and operating results also may be adversely affected by changes in the interpretation or enforcement of existing laws and rules by these governmental authorities. Currently, new regulations are being discussed related to the over the counter market place which, if adopted, could have negative implications for the profitability of making markets in OTC Bulletin Board and Pink Sheet securities.
Additional regulation, changes in existing laws and rules, or changes in interpretations or enforcement of existing laws and rules often directly affect the method of operation and profitability of regulated broker-dealers.
FINRA and Net Capital Requirements
Regulatory bodies, including FINRA, are charged with safeguarding the integrity of the securities industry and with protecting the interests of investors participating in those markets. Broker-dealers are subject to regulations covering all aspects of the securities business, including sales methods, trade practices among broker-dealers, use and safekeeping of clients’ funds and securities, capital structure, record keeping and the conduct of directors, officers and employees.
The SEC, FINRA and various other regulatory agencies have rigid rules, including the maintenance of specific levels of net capital by securities brokers and dealers pursuant to the SEC’s Uniform Net Capital Rule 15c3-1 with which the Company must comply. As of March 31, 2008, the Company had total net capital of $4,870,737, which is $3,870,737 in excess of the Company’s minimum net capital requirement of $1,000,000.
Additionally, the Company is subject to periodic, routine finance and operations reviews by SEC and FINRA staff, plus state securities divisions. It should be noted that the Company has a disciplinary record with FINRA and fines have been levied against the Company for violations that occurred during the tenure of the prior management. Given FINRA’s policy of progressive disciplinary actions, this prior record could adversely impact the Company if we are cited for additional violations. A regulatory investigation is currently underway. On May 5, 2008, Hudson received a letter from FINRA alleging a failure to supervise and implement written supervisory procedures related to trading and market making and anti-money laundering rules. There is no indication of what amount of fines or sanctions FINRA may demand in connection with these allegations. On June 16, 2008, Hudson submitted a response to FINRA. Hudson intends to contest this matter vigorously. Although there can be no assurances that such matters will not have a material adverse effect on the results of operations or financial condition of the Company in any future period, depending in part on the results for such period, in the opinion of the Company’s management, the ultimate resolution of the regulatory investigation will have no material adverse effect on the Company's financial condition.
Employees
As of June 20, 2008, we employed 95 permanent individuals, of which 91 are full-time employees. Of the 95 employees, 7 are in management; 24 are in trading; 37 are in sales; 2 are in compliance; 2 are product specialists; 7 are in technology and 16 are in administration. We believe our relations with our employees are good. None of our employees are represented by a union or any collective bargaining agreements.
Corporate Information
Our principal offices are located at 111 Pavonia Avenue, Suite 1500A, Jersey City, New Jersey 07310 and our telephone number is (201) 216-0100. Our corporate website is http://www.hudsonholdingcorp.com. The information on our website is not incorporated by reference to this annual report. We file reports and other information with the SEC. The SEC maintains an internet site that contains reports, proxy, information statements and other information at http://www.sec.gov .
Risk Factors
An investment in our securities is extremely risky. You should carefully consider the following risks, in addition to the other information presented in this annual report before deciding to purchase or to sell our securities. If any of the following risks actually materialize, our business and prospects could be seriously harmed, the price and value of our securities could decline and you could lose all or part of your investment.
Risks Related to Our Business
Stock market volatility and other securities industry risks could adversely affect our business.
Substantially all of our revenues are derived from securities market activities. As a result, we are directly affected by economic and political conditions, broad trends in business and finance and changes in volume and price levels of securities transactions. In recent years, the U.S. securities markets have been very volatile, which has reduced trading volume and net revenues. The tightening of credit, the terrorist attacks in the United States on September 11, 2001, the invasion of lraq in 2003 and other events have also resulted in substantial market volatility and accompanying reductions in trading volume and net revenues. In addition, any general economic downturn would adversely affect trading volumes and net revenues. Severe market fluctuations or weak economic conditions could reduce our trading volume and net revenues and adversely affect our profitability.
We are subject to market exposure and could be adversely affected by a decrease in the price of securities which we hold in our trading accounts.
We conduct our market-making activities predominantly as principal, which subjects our capital to significant risks. These activities involve the purchase, sale or short sale of securities for our own account and, accordingly, involve risks of price fluctuations and illiquidity, or rapid changes in the liquidity of markets that may limit or restrict our ability to either resell securities we purchase or to repurchase securities we sell in such transactions. From time to time, we may have large position concentrations in securities of a single issuer or issuers engaged in a specific industry, which might result in higher trading losses than would occur if our positions and activities were less concentrated. Further, we trade on margin, which permits us to borrow funds from our clearing broker in order to take positions for our own account that exceed the available funds that we have deposited with our clearing broker, which might result in higher trading losses than would occur if our positions and activities were restricted to our funds on deposit. The success of our market-making activities primarily depends upon our ability to attract order flow, the skill of our personnel, general market conditions, the amount of, and volatility in, our quantitative market-making and program trading portfolios, effective hedging strategies, the price volatility of specific securities and the availability of capital. To attract order flow, we must be competitive on price, size of securities positions traded, liquidity, order execution, technology, reputation and client relationships and service. In our role as a market maker, we attempt to derive a profit from the difference between the prices at which we buy and sell securities. However, competitive forces often require us to match the quotes other market makers display and to hold varying amounts of securities in inventory. By having to maintain inventory positions, we are subject to a high degree of risk. There can be no assurance that we will be able to manage such risk successfully or that we will not experience significant losses from such activities.
There is a risk that our future operating results may fluctuate significantly.
We may experience significant variation in our future results of operations. These fluctuations may result from, among other things:
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introductions of or enhancements to market-making services by us or our competitors;
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the value of our securities positions and our ability to manage the risks attendant thereto;
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the volume of our market-making activities;
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the dollar value of securities traded;
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volatility in the securities markets;
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our market share with institutional clients;
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our ability to manage personnel, overhead and other expenses, including our occupancy expenses under our office leases and legal fees relating to legal and regulatory proceedings;
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the strength of our client relationships; the amount of, and volatility in, our quantitative market-making and program trading portfolios;
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changes in payments for order flow and clearing costs;
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the addition or loss of executive management and sales, trading and technology professionals;
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compensation expenses associated with recruiting new employees;
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legislative, legal and regulatory changes;
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legal and regulatory matters;
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geopolitical risk;
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the amount and timing of capital expenditures and divestitures;
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the incurrence of costs associated with acquisitions and dispositions;
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investor sentiment;
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technological changes and events;
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seasonality; and
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competition and market and economic conditions.
If demand for our services declines due to any of the above factors, and we are unable to timely adjust our cost structure, our operating results could be materially and adversely affected.
Our traders may take larger risks than permitted which could result in large losses.
Although we require our traders to adhere to certain position limits (generally no more than $500,000 in total positions for the most experienced traders), sometimes a trader takes a position beyond these limits and subjects our company to greater risks. We have established procedures to guard against this, including real-time position monitoring which should promptly alert management to any excessive risks. However, there can be no assurance that management will be able to guard against all risks taken by each employee.
We are dependent on our clearing broker, which may go out of business or charge us for a default by a counterparty to a trade.
As a market maker, the majority of our securities transactions are conducted as principal with broker-dealer and institutional counterparties located in the United States. We clear our securities transactions through an unaffiliated clearing broker. Under the terms of the agreement between us and our clearing broker, the clearing broker has the right to charge us for losses that result from a counterparty's failure to fulfill its contractual obligations. No assurance can be given that any such counterparty will not default on its obligations, which default could have a material adverse effect on our business, financial condition and operating results. In addition, at any time, a substantial portion of our assets are held by our clearing broker and, accordingly, we are subject to credit risk with respect to such clearing broker. Consequently, we are reliant on the ability of our clearing broker to adequately discharge its obligations on a timely basis. We are also dependent on the solvency of such clearing broker. Any failure by the clearing broker to adequately discharge its obligations on a timely basis, or failure by the clearing broker to remain solvent, or any event adversely affecting the clearing broker, could have a material adverse effect on our business, financial condition and operating results. If our clearing broker was to go out of business or decide not to continue to act as our clearing broker, our operating results would be adversely affected until we could replace them.
Reduced market volume, price and liquidity can impact our revenues.
Our revenues may decrease in the event of a decline in market volume, prices or liquidity. Declines in the volume of securities transactions and in market liquidity generally result in lower revenues from market-making activities. Lower price levels of securities may also result in reduced revenue capture, and thereby reduced revenues from market-making transactions, as well as result in losses from declines in the market value of securities held in inventory. Sudden sharp declines in market values of securities can result in illiquid markets, declines in the market values of securities held in inventory, the failure of buyers and sellers of securities to fulfill their obligations and settle their trades, and increases in claims and litigation. Any decline in market volume, price or liquidity or any other of these factors could have a material adverse effect on our business, financial condition and operating results.
We operate in a highly regulated industry and compliance failures could adversely affect our business.
The securities industry is subject to extensive regulation covering all aspects of the securities business. The various governmental authorities and industry self-regulatory organizations that supervise and regulate us generally have broad enforcement powers to censure, fine, issue cease-and-desist orders or suspend or expel us or any of our officers or employees who violate applicable laws or regulations. We may also be subject to an enforcement action for failure to supervise if any of our employees or traders violates applicable laws or regulations. Our ability to comply with all applicable laws and rules is largely dependent on our establishment and maintenance of compliance and reporting systems, as well as our ability to attract and retain qualified compliance and other personnel. If we do not comply with the rules and regulations established, we could be subject to disciplinary or other regulatory or legal actions in the future. In addition, it is possible that any past noncompliance could subject us to future civil lawsuits, the outcome of which could have a material adverse effect on our financial condition and operating results.
We are required to keep accurate books and records. There is considerable fluctuation during any year and from year-to-year in the volume of transactions we must process. We record security transactions and post our books daily. Operations personnel monitor operations to determine compliance with applicable laws, rules and regulations. Failure to keep current and accurate books and records can render us liable to disciplinary action by governmental and self-regulatory authorities, as well as to claims by our clients.
We have a prior disciplinary record with FINRA, which could have an adverse effect on our ability to operate if we become subject to additional FINRA disciplinary action.
During the period from approximately 1990 through July 31, 2004, primarily while our operating subsidiary Hudson was owned by and supervised by the prior management of the prior owners and operating under a different name, we were cited by FINRA for violations of FINRA's Rules of Fair Practice and Marketplace Rules on at least 20 occasions and were fined amounts ranging from $250 to $82,500. The total amount of such fines was approximately $405,000. The existence of such prior violations could have an adverse effect on us should such violations recur under the supervision of current management. To date, no additional fines have been assessed. A regulatory investigation is currently underway. On May 5, 2008, Hudson received a letter from FINRA alleging a failure to supervise and implement written supervisory procedures related to trading and market making and anti-money laundering rules. There is no indication of what amount of fines or sanctions FINRA may demand in connection with these allegations. On June 16, 2008, Hudson submitted a response to FINRA. Although there can be no assurances that such matters will not have a material adverse effect on the results of operations or financial condition of the Company in any future period, depending in part on the results for such period, in the opinion of the Company’s management, the ultimate resolution of the regulatory investigation will have no material adverse effect on the Company's financial condition.
We face substantial competition that could reduce our market share and harm our financial performance.
All aspects of our business are highly competitive. We compete directly with national and regional full service broker-dealers and, to a lesser extent, with discount brokers, investment advisors and certain commercial banks. The financial services industry has become considerably more concentrated as numerous securities firms have either ceased operations or have been acquired by or merged into other firms. These mergers and acquisitions have increased competition from these firms, many of which have significantly greater capital and financial and other resources than we have. With respect to retail brokerage activities, certain regional firms with which we compete have operated in certain markets longer than we have and have established long-standing client relationships. We also compete with others in the financial services industry in recruiting registered representatives and new employees as well as retaining current personnel, and we could be adversely affected in the event we were to lose registered representatives who either individually or in the aggregate accounted for a significant percentage of our revenues.
We may not be able to grow as planned.
As part of our long-term growth strategy, we intend to recruit individual registered representatives and to evaluate the acquisition of other firms or assets that would complement or expand our business in attractive service markets or that would broaden our customer relationships. We cannot assure you that we will be successful in our recruiting efforts or that we will be able to identify suitable acquisition candidates available for sale at reasonable prices or that we will be able to consummate any acquisition. Further, future acquisitions may further increase our leverage or, if we issue equity securities to pay for the acquisitions, our stockholders could suffer dilution of their interests.
We also plan to expand into complementary businesses, both by developing new product/service offerings that will be valuable to our existing customers and by entering into strategic partnerships with related businesses that can bring new customers. In addition, we plan to explore creating a retail brokerage division. There can be no assurance that any of the new products or services will be developed. If we are unable to raise adequate capital, we will not have the available funds to create new products.
If we lose senior management and key personnel or are unable to attract and retain skilled employees when needed, we may not be able to operate our business successfully.
We are particularly dependent on the services of Mark Leventhal (Executive Vice President), Martin Cunningham and Keith Knox. The loss of any of these individuals would have a significant negative effect on our business. In addition, we believe that our success will depend in large part upon our continued ability to attract and retain skilled traders and other employees, which is difficult because the market for the services of such individuals is very competitive. On January 4, 2007, the Company entered into five year employment agreements, effective as of January 1, 2007, as amended May 19, 2008, with Mr. Martin C. Cunningham and Mr. Keith R. Knox, whereby each will continue in their present positions, Chief Executive Officer and President, respectively.
If we lose certain key personnel, we may incur a charge as a result of unrecoverable prepaid compensation.
If we lose certain key personnel to whom we have advanced compensation as a recruiting incentive, we are entitled to recover some or all of the funds advanced if they leave before predetermined dates or terminated for cause. However, collection could be subject to disputes or may require legal action in order to enforce the contract.
Currently, one employee has indicated that he disputes certain terms of his contract which would permit us to recover the prepaid compensation, if he terminated employment or if he was terminated for cause. At this juncture, this employee remains actively employed with the Company. We believe that the executed agreement represents a binding contract. However, if the employment agreement was terminated at a time that the employee is obligated to return or repay to us the funds that we advanced, there can be no assurance that we will be successful in recovering the funds advanced.
We need to comply with stringent capital requirements and therefore if we suffer significant losses we would be below our net capital requirement.
Many of the regulatory agencies, securities exchanges and other industry self-regulatory organizations that regulate us have stringent rules with respect to the maintenance of specific levels of net capital by securities broker-dealers. Net capital is the net worth of a broker or dealer, less deductions for certain types of assets. Currently, we are required to maintain net capital of at least $1,000,000. As of March 31, 2008, we had net capital of $4,870,737 and excess net capital (that is, net capital less required net capital) of $3,870,737. We intend to maintain such funds as are necessary to operate our business and to maintain compliance with regulatory net capital requirements. Changes to our business may require us to maintain higher net capital levels than currently. If we fail to maintain the required net capital, we may be subject to suspension or revocation of our licenses. If such net capital rules are changed or expanded, or if there is an unusually large charge against our net capital, we might be required to limit or discontinue those portions of our business that require the intensive use of capital. A large operating loss or charge against net capital could adversely affect our ability to expand or even maintain our present levels of business.
Our exposure to possible litigation and regulatory proceedings could adversely affect our business.
The Company has been named as a defendant in various actions relating to its activities as a broker-dealer including a civil action and a regulatory investigation. From time to time, we are engaged in arbitrations and proceedings be self-regulatory organizations. Many aspects of the securities brokerage business involve substantial risks of liability. In recent years, there has been an increasing incidence of litigation involving the securities brokerage industry, including class action and other suits that generally seek substantial damages, including in some cases punitive damages. Any such litigation brought in the future could have a material adverse effect on our business, financial condition and operating results.
From time to time, we may also be engaged in various legal proceedings not related to securities. We currently maintain various types of insurance, including employment practices liability insurance, the proceeds of which may help to reduce the amount we may otherwise be required to pay with respect to certain types of claims. However, there can be no assurance that we will be able to obtain such insurance in the future. If it can be obtained, the price for such insurance may be unreasonable. Even if such insurance is in force, the amount of any award may exceed the maximum coverage provided by such insurance, in which case we will be required to pay any uncovered portion.
Risks Associated with our Securities
Our Common Stock is not actively traded, so you may be unable to sell at or near ask prices or at all if you need to sell your Shares to raise money or otherwise desire to liquidate your Shares.
Our Common Stock has historically been sporadically traded on the OTC Bulletin Board, meaning that the number of persons interested in purchasing our Common Stock at or near ask prices at any given time has been, and may continue to be, relatively small or non-existent. This situation is attributable to a number of factors, including the fact that we are a small company which is relatively unknown to stock analysts, stock brokers, institutional investors and others in the investment community that generate or influence sales volume, and that even if we came to the attention of such persons, they tend to be risk-adverse and would be reluctant to purchase or recommend the purchase of our shares until such time as we became more seasoned and viable. As a consequence, there may be periods of several days or more when trading activity in our shares is minimal or non-existent, as compared to a seasoned issuer which has a large and steady volume of trading activity that will generally support continuous sales without an adverse effect on share price. We cannot assure you that a broader or more active public trading market for our Common Stock will develop or be sustained, or that current trading levels will be sustained or not diminish.
The application of the "penny stock" rules to our Common Stock could limit the trading and liquidity of the Common Stock, adversely affect the market price of our Common Stock and increase your transaction costs to sell those shares.
As long as the trading price of our Common Stock is below $5.00 per share, the open-market trading of our Common Stock will be subject to the "penny stock" rules. The "penny stock" rules impose additional sales practice requirements on broker-dealers who sell securities to persons other than established customers and accredited investors (generally those with assets in excess of $1,000,000 or annual income exceeding $200,000 or $300,000 together with their spouse). These regulations require the delivery, prior to any transaction involving a penny stock, of a disclosure schedule explaining the penny stock market and the associated risks. Under these regulations, certain brokers who recommend such securities to persons other than established customers or certain accredited investors must make a special written suitability determination regarding such a purchaser and receive such purchaser's written agreement to a transaction prior to sale. These regulations have the effect of limiting the trading activity of the Common Stock, reducing the liquidity of an investment in the Common Stock and increasing the transaction costs for sales and purchases of our Common Stock as compared to other securities.
The market price for our Common Stock is particularly volatile given our status as a relatively unknown company with a small and thinly traded public float, limited operating history and variable profitability which could lead to wide fluctuations in our share price. You may be unable to sell your Common Stock at or above your purchase price, which may result in substantial losses to you.
The market for our Common Stock is characterized by significant price volatility when compared to seasoned issuers, and we expect that our share price will continue to be more volatile than a seasoned issuer for the indefinite future. The volatility in our share price is attributable to a number of factors. First, as noted above, our Common Stock is sporadically and thinly traded. As a consequence of this lack of liquidity, the trading of relatively small quantities of shares by our stockholders may disproportionately influence the price of those shares in either direction. The price for our Shares could, for example, decline precipitously in the event that a large number of shares of our Common Stock are sold on the market without commensurate demand, as compared to a seasoned issuer which could better absorb those sales without adverse impact on its share price. Secondly, we are a speculative or "risky" investment due to our limited operating history, and uncertainty of future market acceptance for our services. As a consequence of this enhanced risk, more risk adverse investors may, under the fear of losing all or most of their investment in the event of negative news or lack of progress, be more inclined to sell their shares on the market more quickly and at greater discounts than would be the case with the stock of a seasoned issuer.
Many of these factors are beyond our control and may decrease the market price of our Common Stock, regardless of our operating performance. We cannot make any predictions or projections as to what the prevailing market price for our Common Stock will be at any time, including as to whether our Common Stock will sustain its current market price, or as to what effect that the sale of shares or the availability of Common Stock for sale at any time will have on the prevailing market price.
In addition, the market price of the Common Stock could be subject to wide fluctuations in response to:
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quarterly variations in our revenues and operating expenses;
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fluctuations in interest rates;
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the operating and stock price performance of other companies that investors may deem comparable to us; and
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news reports relating to trends in our markets or general economic conditions.
The stock market in general and the market prices for brokerage-related companies in particular, have experienced volatility that often has been unrelated to the operating performance of such companies. These broad market and industry fluctuations may adversely affect the price of our stock, regardless of our operating performance.
Stockholders should be aware that, according to SEC Release No. 34-29093, the market for penny stocks has suffered in recent years from patterns of fraud and abuse. Such patterns include (1) control of the market for the security by one or a few broker-dealers that are often related to the promoter or issuer; (2) manipulation of prices through prearranged matching of purchases and sales and false and misleading press releases; (3) boiler room practices involving high-pressure sales tactics and unrealistic price projections by inexperienced sales persons; (4) excessive and undisclosed bid-ask differential and markups by selling broker-dealers; and (5) the wholesale dumping of the same securities by promoters and broker-dealers after prices have been manipulated to a desired level, along with the resulting inevitable collapse of those prices and with consequent investor losses. The occurrence of these patterns or practices could increase the volatility of our share price.
We do not intend to pay dividends to our stockholders.
We do not have any current plans to pay dividends to our stockholders. We currently intend to retain any future earnings for funding growth and, therefore, do not expect to pay any dividends in the foreseeable future.
Four employees control approximately 37% of the voting capital stock of our company.
Our three executive officers and Steven Winkler, our NASDAQ trading manager at the Company’s wholly-owned broker-dealer subsidiary, each own approximately 7-11% of our common stock. In the event that these individuals vote together on any or all issues, you will have no effective voice in our management. Accordingly, these four individuals could substantially influence the outcome of any matters submitted to a vote of our stockholders and have the ability to determine all management policy and financing decisions.
Future sales of our Common Stock could put downward selling pressure on our shares, and adversely affect the stock price. There is a risk that this downward pressure may make it impossible for a stockholder to sell its shares at any reasonable price, if at all.
Future sales of substantial amounts of our Common Stock in the public market, or the perception that such sales could occur, could put downward selling pressure on our shares, and adversely affect the market price of our Common Stock.
The large number of recently issued shares to investors and shares issuable upon exercise of warrants could have an adverse affect on our stock price.
In a November 2006 private placement, the Company issued 9,575,325 shares of Common Stock, 4,787,664 investor warrants with an exercise price of $0.85 and 574,520 placement agent warrants with an exercise price of $0.60. In addition, another 1,760,590 warrants with an exercise price of $1.0494 remain outstanding. Subsequent to the private placement, 7,908,655 shares of Common Stock and 3,954,329 shares of Common Stock issuable upon exercise of warrants with an exercise price of $0.85 were registered by the Company. Given the effectiveness of the Registration Statement, such investors now have the ability to sell such shares without any volume restrictions.
In a June 2008 private placement, the Company issued 8,000,000 shares of Common Stock and a warrant to purchase 4,000,000 shares at an exercise price of $0.75 per share. The securities were sold subject to a registration rights agreement which mandates that the Company use its commercially reasonable efforts to file a registration statement within 30 days of the closing and to obtain effectiveness within 90 days after the closing (120 days if the SEC reviews the registration statement).+
The price of our common stock could significantly decline if such investors elect to sell their shares in the market at times when there are not a corresponding number of investors willing to purchase such shares. In addition, the large number of outstanding warrants will likely cause an overhang on the market and prevent the market price of the Common Stock from rising above the warrant exercise price.
There are limitations in connection with the availability of quotes and order information on the OTC Bulletin Board
Trades and quotations on the Over the Counter Bulletin Board (the "OTCBB") involve a manual process, and the market information for such securities cannot be guaranteed. In addition, quote information, or even firm quotes, may not be available. The manual execution process may delay order processing and intervening price fluctuations may result in the failure of a limit order to execute or the execution of a market order at a significantly different price. Execution of trades, execution reporting and the delivery of legal trade confirmation may be delayed significantly. Consequently, one may not be able to sell shares of our Common Stock at the optimum trading prices.
There are delays in order communication on the OTCBB.
Electronic processing of orders is not available for securities traded on the OTCBB and high order volume and communication risks may prevent or delay the execution of one's OTCBB trading orders. This lack of automated order processing may affect the timeliness of order execution reporting and the availability of firm quotes for shares of our Common Stock. Heavy market volume may lead to a delay in the processing of OTCBB security orders for shares of our Common Stock, due to the manual nature of the market. Consequently, one may not able to sell shares of our Common Stock at the optimum trading prices.
There is limited liquidity on the OTCBB.
When fewer shares of a security are being traded on the OTCBB, volatility of prices may increase and price movement may outpace the ability to deliver accurate quote information. Due to lower trading volumes in shares of our Common Stock, there may be a lower likelihood of one's orders for shares of our Common Stock being executed, and current prices may differ significantly from the price one was quoted by the OTCBB at the time of one's order entry.
There is a limitation in connection with the editing and canceling of orders on the OTCBB.
Orders for OTCBB securities may be canceled or edited like orders for other securities. All requests to change or cancel an order must be submitted to, received and processed by the OTCBB. Due to the manual order processing involved in handling OTCBB trades, order processing and reporting may be delayed, and one may not be able to cancel or edit one's order. Consequently, one may not able to sell shares of our Common Stock at the optimum trading prices.
The large number of restricted stock shares and options to purchase shares that have been granted, and may continue to be granted, to new and existing employees may dilute the ownership interest of existing shareholders and may adversely affect the stock price.
As of March 31, 2008, options to purchase 3,495,000 shares of common stock are outstanding, 8,361,666 shares of unvested restricted stock have been issued and an additional 12,143,334 shares are available for issuance as awards under the 2005 Plan and 2007 Plan. The 2005 Plan and 2007 Plan have been registered. Given the effectiveness of the Registration Statement, the holders have the ability to sell the shares upon exercise of the options or the vesting of restricted stock. The price of our common stock could significantly decline if such investors elect to sell their shares in the market at times when there are not a corresponding number of investors willing to purchase such shares. In addition, the large number of outstanding options will likely cause an overhang on the market and prevent the market price of the Common Stock from rising above the option exercise prices.
Increased dealer compensation could adversely affect the stock price.
The dealer's spread (the difference between the bid and ask prices) may be large and may result in substantial losses to the seller of shares of our Common Stock on the OTCBB if the stock must be sold immediately. Further, purchasers of shares of our Common Stock may incur an immediate "paper" loss due to the price spread. Moreover, dealers trading on the OTCBB may not have a bid price for shares of our Common Stock on the OTCBB. Due to the foregoing, demand for shares of our Common Stock on the OTCBB may be decreased or eliminated.
Shares eligible for future sale may adversely affect the market.
In addition, from time to time, certain of our stockholders may be eligible to sell all or some of their shares of common stock by means of ordinary brokerage transactions in the open market pursuant to Rule 144, promulgated under the Securities Act of 1933, as amended, which we refer to herein as the Securities Act, subject to certain limitations. Approximately 11,673,000 shares held for more than 6 months by non-affiliates shares may be available for public sale without regard to volume limitations and by means of ordinary brokerage transactions in the open market pursuant to Rule 144.
In general, pursuant to Rule 144, after satisfying a six-month holding period: (i) affiliated stockholder (or stockholders whose shares are aggregated) may, under certain circumstances, sell within any three-month period a number of securities which does not exceed the greater of 1% of the then outstanding shares of common stock or the average weekly trading volume of the class during the four calendar weeks prior to such sale and (ii) non-affiliated stockholders may sell without such limitations, provided we are current in our public reporting obligations. Rule 144 also permits the sale of securities by non-affiliates that have satisfied a one-year holding period without any limitation or restriction. Any substantial sale of our common stock pursuant to Rule 144 or pursuant to any resale prospectus may have a material adverse effect on the market price of our securities.
Item 2.
Item 2. Description of Property
Our corporate headquarters are located in 26,875 square feet of office space at Pavonia Avenue in Jersey City, New Jersey, which incorporates a state-of-the-art trading floor that was abandoned by a competitor. This lease expires in August 30, 2012 and our initial monthly base rent is $33,594. We believe that our new headquarters space is more than adequate to support our existing business, plus any intermediate term business expansion. In addition, we maintain trading and sales offices in Tinton Falls, New Jersey and Boca Raton, Florida. Our offices include a total of 176 trading stations: 140 at headquarters in New Jersey, 16 in Tinton Falls and 20 in Florida.
Item 3.
Item 3. Legal Proceedings
The Company has been named as a defendant in various actions relating to its activities as a broker-dealer including a civil action and a regulatory investigation. On May 5, 2008, Hudson received a letter from FINRA alleging a failure to supervise and implement written supervisory procedures related to trading and market making and anti-money laundering rules. There is no indication of what amount of fines or sanctions FINRA may demand in connection with these allegations. On June 16, 2008, Hudson submitted a response to FINRA. Hudson intends to contest this matter vigorously. From time to time, the Company is also involved in arbitrations and proceedings by self-regulatory organizations. Although the ultimate outcome of these matters involving the Company cannot be predicted with certainty, management believes it has meritorious defenses to all such actions and intends to defend each of these actions vigorously. Although there can be no assurances that such matters will not have a material adverse effect on the results of operations or financial condition of the Company in any future period, depending in part on the results for such period, in the opinion of the Company's management the ultimate resolution of such actions against the Company will have no material adverse effect on the Company's financial condition.
Item 4.
Item 4. Submission of Matters to a Vote of Security Holders
On February 13, 2008, our Board of Directors adopted and approved an increase in the number of shares of the Company's Common Stock reserved for issuance under the 2007 Long-Term Incentive Compensation Plan (“2007 Plan”) from 10,000,000 shares to 22,000,000 shares. On March 4, 2008, a majority of consenting stockholders adopted and approved the increase in the 2007 Plan authorized shares pursuant to the Written Consent. After giving effect to this increase, as of March 31, 2008, there were 12,143,334 shares available for issuance as awards under the 2007 Plan.
PART II
Item 5.
Item 5. Market for Common Equity and Related Stockholder Matters and Issuer Purchases of Equity Securities
Market for Common Equity
Our common stock has been listed and quoted on the OTC Bulletin Board under the symbol “HDHL.OB” since September 5, 2005, and prior to that date, our common stock traded under the symbol “HOMI”. All prices reflected herein have been adjusted to reflect the 1-for-8 reverse split of our common stock that was effected on September 6, 2005.
We have 286 holders of record of our common stock as of June 20, 2008.
The following table sets forth the high and low sales prices for our common stock for the periods indicated, as reported by the OTC Bulletin Board:
The high and low sales prices as reported on the OTC Bulletin Board on June 20, 2008 were both $0.45.
We have not declared or paid any cash dividends on our common stock and do not anticipate declaring or paying any cash dividends in the foreseeable future. We currently expect to retain future earnings, if any, for the development of our business. Dividends may be paid on our common stock only if and when declared by our board of directors.
Securities Authorized for Issuance under Equity Compensation Plans
The table above reflects the status of the Company's equity compensation plans as of March 31, 2008.
Recent Sales of Unregistered Securities
During the period covered by this report, we did not issue any securities that were not registered under the Securities Act of 1933, as amended, (the “Securities Act”) except as previously reported in a quarterly report on Form 10-QSB or on a current report on Form 8-K.
Recent Repurchases of Common Stock
There were no repurchases of our common stock during the fourth quarter of the fiscal year covered by this report.
Item 6.
Item 6. Selected Financial Data
Pursuant to Item 301 (c) of Regulation S-K, we are not required to provide information under this item.
Item 7.
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following discussion of results of operations and financial condition is based upon, and should be read in conjunction with, our consolidated financial statements and accompanying notes thereto included elsewhere herein.
Results of Operations - Quarter Ended March 31, 2008 Compared to Quarter Ended March 31,
We had overall revenues consisting of net trading gains, commission and fee revenue, plus interest and other income of approximately $9.9 million for the 2008 fourth quarter, as compared to approximately $5.4 million for the 2007 fourth quarter. Commission and fee revenues increased to $4.9 million from $1.0 million during the prior fiscal year, due to a significant expansion of our institutional sales effort. The increase in commission revenues is consistent with an increase in the number of sales personnel from 29 to 37. Net trading gains increased to approximately $4.5 million from approximately $4.3 million during the prior year fourth quarter. Other revenues increased to $0.4 million for the three months ended March 31, 2008 from $0.1 million during the three months ended March 31, 2007, primarily due to an increase in referral fees from introducing brokers.
We had overall expenses of approximately $9.2 million for the 2008 fourth quarter, as compared to approximately $6.0 million for the 2007 fourth quarter. Salaries and related costs increased to $1.9 million from $1.0 million during the prior year fourth quarter, primarily due to an increase in salaried technology, trading, marketing and sales personnel, salary increases, recruiting incentives, plus an increase in stock-based compensation expense. Trader and salesperson commissions were $4.5 million (45% of revenues) for the 2008 fourth quarter compared to $2.4 million (45% of revenues) for the 2007 fourth quarter, an increase of $2.1 million or 84%. Execution and clearance charges of $0.5 million (5% of revenues) for the three months ended March 31, 2008 increased compared to $0.4 million (7% of revenues) for the three months ended March 31, 2007, an increase of $0.1 million or 25%. Communications costs were flat for the three months ended March 31, 2008 and 2007, with each costing $1.3 million. Occupancy expenses remained relatively the same for the three months ended March 31, 2008 and 2007, with each costing approximately $0.3 million. Professional fees increased to approximately $0.3 million from approximately $0.2 million during the prior year fourth quarter. Business development expenses increased to approximately $0.2 million from approximately $0.1 million during the prior year fourth quarter. Other expenses increased to $0.3 million for the three months ended March 31, 2008 from $0.2 million during the three months ended March 31, 2007.
We had a pre-tax profit of $0.7 million for the 2008 fourth quarter, as compared to a $0.6 million pre-tax loss for the 2007 fourth quarter, primarily as a result of the increase in revenues. Income taxes are an expense of $0.3 million during the 2008 fourth quarter, as compared to a benefit of $0.2 million during the 2007 fourth quarter, primarily due to the increase in the pre-tax results. We had net income of $0.4 million during three months ended March 31, 2008 compared to a net loss of $0.4 million during the three months ended March 31, 2007.
Results of Operations - Fiscal Year Ended March 31, 2008 Compared to Fiscal Year Ended March 31, 2007
We had overall revenues consisting of net trading gains, commission and fee revenue, plus interest and other income of approximately $26.8 million for fiscal 2008, as compared to approximately $20.9 million for fiscal 2007. Commission and fee revenues increased to $10.1 million from $2.7 million during the prior fiscal year, due to a significant expansion of our institutional sales effort. The increase in commission revenues is consistent with an increase in the number of sales personnel from 29 to 37. Net trading gains decreased to approximately $15.5 million from approximately $17.9 million during the prior fiscal year, primarily due to an approximately $600,000 loss associated with a single trading error, other proprietary trading losses and a general decline in market activity associated with recent market turbulence. Other revenues increased to $1.2 million from $0.3 million during fiscal 2008, primarily due to an increase in referral fees from introducing brokers.
Our cost structure consists of both variable costs, such as commissions, execution and clearing charges, and fixed costs, such as salaries and related costs (including payroll taxes and benefits), communications (quote, trading, order management and telecommunication services), occupancy (rent, electricity, maintenance and real estate taxes) professional fees (attorneys and auditors), business development (travel, entertainment and advertising) and other operating costs. From a compensation perspective, roughly 45% of our employees are salaried, while most of our traders and salespersons receive revenue-based commission payments.
Despite the increase in overall revenues, we had a pre-tax loss of $2.6 million as compared to a $0.5 million pre-tax loss during the prior year, as expenses increased by $8.0 million, primarily as a result of a $4.3 million increase in commission costs (commissions, execution, and clearing costs) and a $1.8 million increase in salaries and related costs, primarily due to an increase in salaried technology, trading, marketing and sales personnel, salary increases, recruiting incentives, plus an increase in stock-based compensation expense. Trader and salesperson commissions were $12.7 million (48% of revenues) in the current fiscal year compared to $8.6 million (41% of revenues) in the prior fiscal year, an increase of $4.1 million or 47%, primarily due to the increase in the revenue mix toward higher-payout riskless commission revenues. Execution and clearance charges of $2.0 million (8% of revenues) in the current fiscal year increased compared to $1.8 million (9% of revenues) in the prior fiscal year, an increase of $0.2 million or 12%, primarily due to the impact of proprietary trading losses. Communication costs were $5.0 million in the year ending March 31, 2008 compared to $4.5 million in the prior fiscal year. Professional fees were $1.1 million compared to $0.5 million in the prior year, primarily due to the outsourcing of certain functions plus an increase in professional services devoted to regulatory compliance requirements. Business development expenses were $0.7 million in the year ending March 31, 2008 compared to $0.4 million in the prior year, due to an expansion of our marketing efforts. Other expenses were $1.1 million in the year ending March 31, 2008 compared to $0.8 million in the prior year, due to increased amortization costs associated with our internally developed software and the timing of certain regulatory assessments.
We had a net loss of $1.6 million during fiscal 2008 compared to a net loss of $0.4 million during the prior year. Income taxes are a benefit of $1.0 million during fiscal 2008, as compared to a benefit of $0.1 million during the prior year, primarily due to the decline in the pre-tax results.
Liquidity and Capital Resources
Recent Developments
On June 20, 2008, the Company closed on a private placement of $4 million of securities, with net proceeds to Holding of $3.9 million after deducting offering costs. In connection with the private placement, the Company issued 8,000,000 shares of common stock and delivered a warrant to purchase an aggregate of 4,000,000 shares of our common stock. The warrant entitles the holder to purchase shares of the Company’s common stock for a period of five years from the date of issuance at an exercise price of $0.75 per share.
The Company intends to use the proceeds to enhance working capital reserves in order to pursue various strategic opportunities as they arise, including the acquisition of complementary businesses and the recruitment of additional proven producers.
The discussion below does not reflect the addition of this additional capital.
Working Capital
During the past fiscal year, our working capital (current assets less current liabilities) declined to $6.6 million from $11.1 million, primarily as a result of $3.0 of incentives provided to new recruits, $0.8 million used for capital expenditures and $0.6 million associated with our net loss ($1.6 million), after adjusting for non-cash items ($1.0 million). We have not declared and paid, nor do we expect to declare and pay in the intermediate future, any dividends on our common stock. Current assets include cash and cash equivalents, receivable from clearing broker (cash on deposit with our clearing broker), marketable securities owned, income taxes receivable, and certain other assets. Current liabilities include securities sold but not purchased, commissions payable and accrued expenses.
We currently do not have any outstanding bank borrowings or long-term debt. On April 20, 2006, we deposited a $225,000 letter of credit with the landlord associated with our new headquarters space, after depositing $225,000 of collateral with the issuing financial institution in the form of an automatically renewable fourteen-month time deposit.
Our requirement for funding is, and will be, driven by both working capital and regulatory net capital requirements associated with current operations, recruiting incentives, the enhancement of our technology, software development, and by potential future expansion into related activities and possible acquisition opportunities. See Note K to the consolidated financial statements for additional details related to regulatory net capital requirements. We expect that any significant expansion or acquisition opportunities will require additional subordinated debt or common stock issuances in order to maintain the required levels of working capital or net capital. There can be no assurance that we will be successful in attracting such funding.
Technologies was formed as a Delaware corporation on May 22, 2006 and was funded with a total of $550,000 during the fiscal year ended March 31, 2007, in order to accommodate an initial expense budget of approximately $25,000 per month, which is now running at a rate of approximately $50,000 per month. The purpose of Technologies is to perform software development and technology services, both for the Company and for customers. Our contractual commitments consist primarily of office and equipment leases, plus certain employment agreements (see the table on the next page).
Our cash position increased by $1.1 million to $6.2 million during the fiscal year ended March 31, 2008, after increasing by $4.6 million during the fiscal year ended March 31, 2007. However, it should be noted that our cash position is primarily a function of how much of our funds are invested in marketable securities or on deposit with our clearing broker.
Operating Activities
Net cash provided by operating activities was $1.8 million during fiscal 2008, primarily due to a $6.3 million decrease in net securities positions and a $0.2 million decrease in the current income tax receivable, partially offset by a $1.5 million increase in the receivable from clearing broker balance and $0.6 million generated from our net loss ($1.6 million), after adjusting for non-cash items ($1.0 million). Net cash used in operating activities was $0.2 million during fiscal 2007, primarily due to a $2.6 million increase in net securities positions and a $1.2 million increase in the current income tax receivable, partially offset by a $3.9 million decrease in the receivable from clearing broker balance and $0.1 million generated from our net loss ($0.4 million), after adjusting for non-cash items ($0.5 million).
Investing Activities
Net cash used in investing activities was $0.8 million and $0.7 million during fiscal years 2008 and 2007, respectively. During fiscal 2008 and 2007, the usage of cash included the purchase of $0.2 million and $0.2 million of furniture, equipment, and leasehold improvements, and $0.6 million and $0.2 million of capitalized software expenditures plus in fiscal 2007 another $0.2 million was set aside as restricted cash in order to collateralize the letter of credit issued in favor of the landlord of the new headquarters space, respectively.
Financing Activities
Net cash provided by financing activities was $5.5 million during fiscal 2007, due to private placements of common stock and warrants. Most of the stock sold during fiscal 2007 was subject to registration rights and a registration statement went effective on April 5, 2007 related to 7,908,655 common shares plus 3,954,329 common shares underlying warrants.
Contractual Obligations
In connection with our operating activities, we enter into certain contractual obligations. Our future cash payments associated with our contractual obligations are summarized below:
Off-Balance Sheet Arrangements
As of March 31, 2008, we did not have any off-balance sheet arrangements, as defined in Item 303(c)(2) of SEC Regulation S-B. On April 20, 2006, a financial institution issued a one-year, automatically renewable, irrevocable $225,000 standby letter of credit, on our behalf, to the landlord associated with our new office space lease as a security deposit. The Company is obligated to maintain the letter of credit until sixty days after the August 30, 2012 expiration of the lease. The Company deposited $225,000 with the financial institution in the form of an automatically renewable fourteen-month time deposit, in order to collateralize the letter of credit.
Critical Accounting Policies
Hudson Holding Corporation's significant accounting policies, including the assumptions and judgments underlying them, are more fully described in our "Notes to Consolidated Financial Statements" included in this Form 10-K. Some of our accounting policies require the application of significant judgment by management in the preparation of the consolidated financial statements, and as a result, they are subject to a greater degree of uncertainty. In applying these policies, management uses its judgment to determine the appropriate assumptions to be used in calculating estimates that affect the reported amounts of assets, liabilities, revenues and expenses. Management bases its estimates and assumptions on historical experience and on various other factors that are believed to be reasonable under the circumstances. Hudson Holding Corporation has identified certain of its accounting policies as being most important to our consolidated financial condition and results of operations and which require management to make its most difficult and subjective judgments, often as a result of the need to make estimates of matters that are inherently uncertain.
Hudson Holding Corporation's critical accounting policies include the following:
Securities transactions
The Company records transactions in securities and the related revenue and expenses on a trade-date basis.
Commissions and fees include agency commissions and fees earned on riskless principal trades. Riskless principal trades are transacted through the firm’s proprietary account with a customer order in hand, resulting in no market risk to the firm.
Securities owned and securities sold, but not yet purchased, are stated at market value with the resulting unrealized gains and losses reflected in trading gains, net.
Securities which do not have a readily ascertainable market value are valued at their estimated fair value as determined by management.
Goodwill
The Company accounts for its goodwill in accordance with Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets" ("SFAS No. 142"). Under SFAS No. 142, goodwill is not subject to amortization, but rather an assessment of impairment, by applying a fair value based test. The Company reviews goodwill for impairment annually, during the fourth quarter of each year, and also between annual tests upon the occurrence of trigger events. The reviews are performed at the Hudson level, generally by using the market capitalization of the Company as an indicator of fair value, since Hudson currently represents the most significant component of the consolidated entity. Impairment is potentially indicated when the carrying value of Hudson, including goodwill, exceeds its fair value. If potential impairment were indicated, the fair value of Hudson would be measured against the fair value of its underlying assets and liabilities, excluding goodwill, to estimate an implied fair value of Hudson’s goodwill. If the fair value was less than the carrying value of goodwill, an impairment would be recorded. As a result of its assessment, the Company has determined no such potential impairment was indicated during the year ended March 31, 2008.
Income taxes
The Company accounts for income taxes in accordance with the provisions of Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes" ("SFAS No. 109"). SFAS No. 109 requires that the Company recognize deferred tax liabilities and assets for the expected future tax consequences of items that have been included or excluded in the financial statements or tax returns. Under this method, deferred tax liabilities and assets are determined on the basis of the difference between the tax basis of liabilities and assets and their respective financial reporting amounts ("temporary differences") at enacted tax rates in effect for the years in which the temporary differences are expected to reverse. The Company records an estimated valuation allowance on its deferred income tax assets if it is not more than likely that these deferred income tax assets will be realized. As of March 31, 2008, the Company has a $113,000 valuation allowance related to certain state net operating loss carryforwards which expire in 2011, 2013 and 2014.
Stock-based compensation
Commencing with the first issuance of stock options on May 26, 2006, the Company accounts for stock options issued under the recognition and measurement principles of Statement of Financial Accounting Standards No. 123 (revised 2004), “Share-Based Payment”, (“SFAS 123(R)”). Under the provisions of SFAS 123(R), the Company is required to measure the cost of services received in exchange for an award of equity instruments based on the fair value of the award. For employees and directors, the award is measured on the grant date and for non-employees, the award is generally remeasured on interim financial reporting dates until the service period is complete, in accordance with EITF Issue No. 96-18 , “Accounting for Equity Instruments That Are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services”. The fair value amount is then recognized over the period during which services are required to be provided in exchange for the award, usually the vesting period.
The Company has computed the fair value of options granted using the Black-Scholes option pricing model. Option valuation models require the input of highly subjective assumptions, including the expected term of the options and the expected volatility of the underlying common stock, which can materially affect the fair value estimate. Given that the Company’s shares have only been publicly traded since May 3, 2005, the Company developed an expected volatility figure based on a review of the historical volatilities, over a period of time, equivalent to the expected life of these options, of similarly positioned public companies within its industry, during the early stages of their life as a public company.
Internally developed software
During April 2006, the Company began capitalizing certain costs incurred in connection with developing or obtaining internal use software pursuant to statement of Position 98-1, “Accounting for the Costs of Computer Software Developed or Obtained for Internal Use”. Unamortized capitalized software development costs of approximately $536,672 represents software in service which is being amortized over its estimated useful life and is being carried in furniture, equipment capitalized software and leasehold improvements in the Consolidated Statement of Financial Condition as of March 31, 2008. In addition, $87,781 of unamortized capitalized software development costs represents software that is still in development and is not being amortized.
Item 8.
Item 8. Financial Statements and Supplementary Data
Our consolidated financial statements and the related notes begin on Page, which are included in this Annual Report on Form 10-K.
Item 9.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A(T).
Item 9A(T). Controls and Procedures
Disclosure Controls and Procedures
Disclosure controls are procedures that are designed with the objective of ensuring that information required to be disclosed in our reports filed under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), such as this annual report, is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms. Disclosure controls are also designed with the objective of ensuring that such information is accumulated and communicated to our management, including the CEO and CFO, as appropriate to allow timely decisions regarding required disclosure. Internal controls are procedures which are designed with the objective of providing reasonable assurance that (1) our transactions are properly authorized, recorded and reported; and (2) our assets are safeguarded against unauthorized or improper use, to permit the preparation of our consolidated financial statements in conformity with United States generally accepted accounting principles.
As of the end of the period covered by this annual report, we carried out an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Exchange Act Rule 13a- -15(e) and 15d-15(e)). Based upon that evaluation, our Chief Executive Officer ("CEO") and Chief Financial Officer ("CFO") concluded that, as of the end of the period covered by this annual report on Form 10-K, our disclosure controls and procedures were adequate.
Management’s Report on Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rule 13a-15(f) under the Exchange Act. Internal control over financial reporting refers to a process designed by, or under the supervision of, our Chief Executive Officer and Chief Financial Officer and effected by our Board, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles, including those policies and procedures that:
·
pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of our assets;
·
provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and
·
provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of our assets that could have a material effect on our consolidated financial statements.
Because of its inherent limitations, internal control over financial reporting cannot provide absolute assurance of the prevention or detection of misstatements. In addition, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
In connection with the preparation of this Annual Report on Form 10-K for the year ended March 31, 2008, management, with the participation of our Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our internal controls over financial reporting, pursuant to Rule 13a-15 under the Exchange Act. Our Chief Executive Officer and Chief Financial Officer have concluded that the design and operation of our internal controls and procedures are effective as of March 31, 2008. There were no significant changes in our internal controls over financial reporting that occurred during the fourth fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.
This Annual Report on Form 10-K does not include an attestation report of Eisner LLP, our independent registered public accounting firm, regarding internal control over financial reporting. Management's report was not subject to attestation by our registered public accounting firm pursuant to temporary rules of the Securities and Exchange Commission that permit us to provide only management's report in this Annual Report on Form 10-K.
Item 9B.
Item 9B. Other Information
None.
PART III
Item 10.
Item 10.
Directors, Executive Officers and Corporate Governance;
Compliance with Section 16(a) of the Exchange Act
The following table sets forth information regarding the members of our board of directors and our executive officers.
Name
Age
Position
Martin C. Cunningham
Chairman of the Board of Directors
and Chief Executive Officer
Keith R. Knox
President, Secretary and Director
Mark Leventhal
Executive Vice President and Director
Mark Bisker
Director
Peter J. Zugschwert
Director
Joanne V. Landau
Director
Carmine V. Chiusano
Director
The principal occupations for the past five years (and, in some instances, for prior years) of each of our directors and officers are as follows:
Martin Cunningham has been a director of Holding and has served as its Chief Executive Officer since 2004. From August 2003 until joining Hudson, Mr. Cunningham was an employee of Wien Securities, Inc. From February 2003 until August 2003, Mr. Cunningham was President of Wien Securities, Inc. From 1996 to December 2002, Mr. Cunningham was Senior Vice President and Head of Equity Trading at Schwab Capital Markets (formerly Mayer & Schweitzer).
Keith Knox has been a director of Holding and has served as its President since 2004. From January 2003 until joining Hudson, Mr. Knox was a Vice President of Wien Securities, Inc. From 1984 to December 2002, Mr. Knox was a trader with Schwab Capital Markets (formerly Mayer & Schweitzer).
Mark Leventhal has been a director of Holding and has served as its Executive Vice President since 2004. From January 2003 until joining Hudson, Mr. Leventhal was a Vice President of Wien Securities, Inc. From 1989 to December 2002, Mr. Leventhal was manager of NASDAQ Trading at Schwab Capital Markets (formerly Mayer & Schweitzer).
Mark Bisker has been a director of the Company since September 2007. Mr. Bisker has been the Senior Vice President of Banking and Financial Services of EPAM Systems, which provides technology consulting services to the Company, since 2007. From 2003 to 2007, he was the Chief Executive Officer of B2BITS, which provided technology consulting services to the Company. In these roles, Mr. Bisker serves as the Company’s Chief Technology Officer.
Peter J. Zugschwert has been a director of the Company since October 1997, served as President of the Company from December 1997 through May 2005 and served as CEO of the Company from September 1997 to May 2005. Mr. Zugschwert has been a Private Equity Consultant since 1997.
Joanne V. Landau has been a Director since May 2006. Ms. Landau has been the President of Kurtsam Realty Corp. since 2003. From 2000 to 2002, she was Senior Vice President, Head of Strategic Marketing and Communications with Zurich Scudder - Deutsche Asset Management/Investments and from 1990 to 1999, Ms. Landau was with The Citibank Private Bank/Investments, a subsidiary of Citigroup, most recently as Vice President, Head of Global Marketing and Communications.
Carmine V. Chiusano has been a Director since May 2006. In 2004, Mr. Chiusano retired from Schwab Capital Markets (formerly Mayer & Schweitzer) where he was employed since 1968, most recently as Senior Vice President, Chief Operating Officer.
All directors hold office until the next annual meeting of stockholders and the election and qualification of their successors. Three of our seven directors are considered "independent" under the SEC's new independence standards. Officers are elected annually by the board of directors and serve at the discretion of the board.
There are no family relationships among our directors and executive officers. No director or executive officer has been a director or executive officer of any business which has filed a bankruptcy petition or had a bankruptcy petition filed against it. No director or executive officer has been convicted of a criminal offense or is the subject of a pending criminal proceeding. No director or executive officer has been the subject of any order, judgment or decree of any court permanently or temporarily enjoining, barring, suspending or otherwise limiting his involvement in any type of business, securities or banking activities. No director or officer has been found by a court to have violated a federal or state securities or commodities law.
None of our directors or executive officers or their respective immediate family members or affiliates is indebted to us. As of the date of this filing, there is no material proceeding to which any of our directors, executive officers or affiliates is a party or has a material interest adverse to us.
Board Committees
Our board of directors has three standing committees to assist it with its responsibilities. These committees are described below.
The Audit Committee, which was established in May 2006, is comprised solely of directors who satisfy the SEC and American Stock Exchange audit committee membership requirements, is governed by a board-approved charter, which is incorporated by reference as Exhibit 10.7, that contains, among other things, the committee's membership requirements and responsibilities. The audit committee oversees our accounting, financial reporting process, internal controls and audits, and consults with management and the independent registered public accounting firm (the "independent auditors") on, among other items, matters related to the annual audit, the quarterly financial statements and the application of United States generally accepted accounting principles. As part of its duties, the audit committee appoints, evaluates and retains our independent auditors. It maintains direct responsibility for the compensation, termination and oversight of our independent auditors and evaluates the independent auditors' qualifications, performance and independence. The committee also monitors compliance with our policies on ethical business practices and reports on these items to the board. The audit committee has established policies and procedures for the pre-approval of all services provided by the independent auditors. Our audit committee is comprised of Ms. Landau and Messrs. Zugschwert and Chiusano, and Mr. Zugschwert is the chairman of the committee.
The board has determined that Mr. Zugschwert, who currently is a member of the board of directors and chairman of the audit committee, is the audit committee financial expert, as defined under the Securities Exchange Act of 1934, as amended (the "Exchange Act"). In addition, the board has determined that Mr. Zugschwert is an independent director as that term is defined in Item 7(d)(3)(iv) of Schedule 14A under the Exchange Act. The board made a qualitative assessment of Mr. Zugschwert's level of knowledge and experience based on a number of factors, including his formal education, including an MBA in Finance, and experience as a Chief Financial Officer for more than ten years.
The Compensation Committee, which was established in May 2006, is comprised solely of independent directors, determines all compensation for our Chief Executive Officer; reviews and approves corporate goals relevant to the compensation of our Chief Executive Officer and evaluates our Chief Executive Officer's performance in light of those goals and objectives; reviews and approves objectives relevant to other executive officer compensation; reviews and approves the compensation of other executive officers in accordance with those objectives; advises our board regarding our stock option plans; approves severance arrangements and other applicable agreements for executive officers; and consults generally with management on matters concerning executive compensation and on pension, savings and welfare benefit plans where board or stockholder action is contemplated with respect to the adoption of or amendments to such plans. The compensation committee is governed by a Board-approved charter, which is incorporated by reference as Exhibit 10.8. Our compensation committee is comprised of Ms. Landau and Messrs. Zugschwert and Chiusano, and Mr. Chiusano is the chairman of the committee.
The Nominating and Corporate Governance Committee, which was established in May 2006, considers and makes recommendations on matters related to the practices, policies and procedures of the board and takes a leadership role in shaping our corporate governance. The committee is governed by a Board-approved charter, which is incorporated by reference as Exhibit 10.9. As part of its duties, the committee assesses the size, structure and composition of the board and board committees, coordinates evaluation of board performance and reviews board compensation. The committee also acts as a screening and nominating committee for candidates considered for election to the board. In this capacity it concerns itself with the composition of the board with respect to depth of experience, balance of professional interests, required expertise and other factors. The committee evaluates prospective nominees identified on its own initiative or referred to it by other board members, management, stockholders or external sources and all self-nominated candidates. The committee uses the same criteria for evaluating candidates nominated by stockholders and self-nominated candidates as it does for those proposed by other board members, management and search companies. Our nominating committee is comprised of Ms. Landau and Messrs. Zugschwert and Chiusano, and Ms. Landau is the chairman of the committee.
Code of Business Conduct and Ethics
We have adopted a Code of Business Conduct and Ethics applying to our directors, officers and employees. The Code is reasonably designed to deter wrongdoing and promote (i) honest and ethical conduct, including the ethical handling of actual or apparent conflicts of interest between personal and professional relationships, (ii) full, fair, accurate, timely and understandable disclosure in reports and documents filed with, or submitted to, the SEC and in other public communications made by us, (iii) compliance with applicable governmental laws, rules and regulations, (iv) the prompt internal reporting of violations of the code to appropriate persons identified in the code, and (v) accountability for adherence to the Code. The Code is incorporated by reference as Exhibit 14. In addition, we undertake to provide copies of the Code to any person, at no charge, upon receipt of a written request addressed to Mr. Keith Knox, President, Hudson Holding Corporation, 111 Town Square Place, Suite 1500A, Jersey City, New Jersey 07310.
Compliance with Section 16(a) of the Exchange Act
Section 16(a) of the Exchange Act requires our executive officers and directors, and persons who own more than 10% of any publicly traded class of our equity securities, to file reports of ownership and changes in ownership of our equity securities with the SEC. Officers, directors, and greater than ten percent stockholders are required by SEC regulation to furnish the Company with copies of all Section 16(a) forms that they file.
Based solely on the reports received and on the representations of the reporting persons, we believe that these persons have complied with all applicable filing requirements of Section 16(a) of the Exchange Act during fiscal 2007, except for (1) the following individuals that inadvertently filed late reports, including Mark Bisker (1 Form 3), Steven L. Winkler (4 Form 4), Peter J. Zugschwert (1 Form 4), Carmine V. Chiusano (1 Form 4), and Joanne V. Landau (1 Form 4).
Item 11.
Item 11. Executive Compensation
Summary Compensation Table
(1)
Amount represents health, dental, life and disability insurance benefits as well as vehicle allowances and parking fees, as applicable.
Employment and Consulting Arrangements and Change in Control Arrangements
The Compensation Committee of our board of directors have approved the terms of each of the employment agreements, as amended, described below. As of January 1, 2007, we entered into the employment agreements described below, as amended on May 19, 2008, with each of the following persons.
Martin Cunningham as our Chief Executive Officer. The agreement, as amended, provides for an initial term of five years, an annual salary to Mr. Cunningham of $200,000 and an annual bonus based on a formula of 5% of the firm’s net profits before taxes, payable quarterly, provided that net profits in such fiscal quarter is equal to or exceeds $750,000. Our board of directors may increase the amount of the bonus. The agreement also provides for the executive’s ability to participate in our health insurance program and a car allowance of $1,000 per month. In the event that Mr. Cunningham’s employment is terminated by the Company, other than with good cause, he will receive any bonus payment due through his termination date, all remaining salary payments, plus certain health insurance benefits.
Keith Knox as our President. The agreement, as amended, provides for an initial term of five years, an annual salary to Mr. Knox of $200,000 and an annual bonus, based on a formula of 4% of the firm’s net profits before taxes, payable quarterly, provided that net profits in such fiscal quarter is equal to or exceeds $750,000. Our board of directors may increase the amount of the bonus. The agreement also provides for the executive’s ability to participate in our health insurance program and a car allowance of $1,000 per month. In the event that Mr. Knox’s employment is terminated by the Company, other than with good cause, he will receive any bonus payment due through his termination date, all remaining salary payments, plus certain health insurance benefits.
Stock Option Plan
The Stock Option Plan (the "2005 Plan"), which was approved by the stockholders on July 26, 2005, is administered by the Board of Directors. The 2005 Plan is available for the issuance of awards of up to an aggregate of 2,000,000 shares of common stock to our employees, officers, directors and consultants, in the form of either non-qualified stock options or incentive stock options. The purpose of the 2005 Plan is to provide additional incentive to those persons who are responsible for the management and growth of the Company.
As of March 31, 2008, there were 2,000,000 options outstanding under the 2005 Plan and no options remained available for issuance under the plan.
Long-Term Incentive Plan
The Stock Option Plan (the "2007 Plan"), which was approved by the stockholders on July 26, 2005, is administered by the Board of Directors. The 2007 Plan is available for the issuance of awards of up to an aggregate of 22,000,000 shares of common stock to our employees, officers, directors and consultants, in the form of either non-qualified stock options or incentive stock options, following a 12,00,000 share increase to the authorized shares being approved by the Hudson Board on February 13, 2008 and by a majority of Hudson’s shareholders on March 4, 2008. The purpose of the 2007 Plan is to provide additional incentive to those persons who are responsible for the management and growth of the Company.
As of March 31, 2008, there were 1,495,000 options and 8,361,666 shares of restricted stock outstanding under the 2007 Plan and 12,143,334 shares remained available for issuance under the plan.
Outstanding Equity Awards at Fiscal Year End
No option, stock appreciation right or long-term incentive plan awards were granted to or exercised by any of the Named Executive Officers during the fiscal year ended March 31, 2008 and no such awards are currently outstanding.
Director Compensation
Directors were not compensated for their service during the fiscal year ended March 31, 2006. On August 15, 2006, the board of directors resolved that compensation for each of the independent directors for the ensuing year would be $600 per month, plus immediately vested, five -year options to purchase 10,000 shares of the Company’s common stock with an exercise price equal to the market price of the Company’s common stock on the August 15, 2006 grant date. On June 28, 2007 the board of directors resolved that compensation for each of the independent directors would be increased to $800 per month, effective immediately. On July 19, 2007 the board of directors resolved that each of the independent directors would be granted immediately vested, five-year options to purchase 25,000 shares of the Company’s common stock with an exercise price equal to the market price of the Company’s common stock on the July 19, 2007 grant date. On May 5, 2008, each of the four outside directors were granted 100,000 shares of immediately vested common stock of the Company.
Director Compensation Table
(1)
Amounts represent the value of 25,000 and 10,000 stock options granted to each of the independent members of the Board of Directors during the fiscal years ended March 31, 2008 and 2007, respectively. The options were valued using the Black-Sholes pricing model (For assumptions used in this calculation, See Note B[9] in the consolidated financial statements, included within this annual report). These are the only options granted to these directors which are outstanding at March 31, 2008.
(2)
Amount represents the value of 250,000 stock options granted to Mark Bisker in his role as a consultant to the Company during the fiscal year ended March 31, 2008. The options were valued using the Black-Sholes pricing model (For assumptions used in this calculation, See Note B[9] in the consolidated financial statements, included within this annual report). These are the only options granted to Mr. Bisker which are outstanding at March 31, 2008.
(3)
Amount represents compensation paid, primarily during the period from April 1, 2006 to May 15, 2006.
(4)
Mr. Bisker provides consulting services to the Company via EPAM Systems and formerly via B2BITS. Mr. Bisker receives compensation from those firms and he previously held a 31.5% ownership interest in B2BITS.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Securities Authorized for Issuance under Equity Compensation Plans
The table above reflects the status of the Company's equity compensation plans as of March 31, 2008.
Security Ownership of Certain Beneficial Owners
The following table sets forth information regarding the number of shares of our common stock beneficially owned on June 20, 2008 by:
o each person who is known by us to beneficially own 5% or more of our common stock;
o each of our directors and executive officers; and
o all of our directors and executive officers, as a group.
Except as otherwise set forth below, the address of each of the persons listed below is Hudson Holding Corporation, 111 Pavonia Avenue, Suite 1500A, Jersey City, New Jersey 07310.
* Less than 1% of outstanding shares
(1) Unless otherwise indicated, includes shares owned by a spouse, minor children and relatives sharing the same home, as well as entities owned or controlled by the named person.
(2) Based upon 45,125,185 shares of our common stock outstanding on June 20, 2008.
(3) Includes 35,000 shares of Common Stock issuable upon exercise of Stock options to these directors
(4) Includes 83,333 shares of Common Stock issuable upon exercise of stock options to this director
(5) Includes 833,335 shares of Common Stock issuable upon exercise of Warrants. The address for Mr. Pasternak is 111 E. Saddle River Road, Saddle River, N.J. 07458.
(6) Mr. Winkler is employed by Hudson Securities, Inc., a wholly-owned subsidiary of Hudson Holding Corporation, as Nasdaq Trading Manager.
(7) Includes 1,125,000 shares of common stock issuable upon exercise of warrants. Aaron Wolfson and Abraham Wolfson are the General Partners of South Ferry #2 LP, however, all of the voting and dispositive power over South Ferry #2’s portfolio has been delegated to Morris Wolfson, its portfolio manager. Aaron Wolfson, Abraham Wolfson and Morris Wolfson each disclaim beneficial ownership over the shares owned by South Ferry #2 LP. The address for South Ferry #2 LP is One State Street Plaza, 29th Floor, New York, New York 10004.
(8) Includes 4,000,000 shares of Common Stock issuable upon exercise of Warrants. Seaport Hudson LLC is not otherwise affiliated with Hudson Holding Corporation or its subsidiaries. The address for Seaport Hudson LLC is c/o The Seaport Group LLC, 360 Madison Avenue, 22nd Floor, New York, NY 10017.
Item 13.
Item 13. Certain Relationships and Related Transactions, and Director Independence
The Chief Technology Officer (as a consultant) and Director (since September 2007) of Hudson, was the Chief Executive Officer and a Director of a consulting firm that provided information technology management and software development services to the Company and its affiliates, an entity in which he held a 31.5% ownership interest, until November 29, 2007 when the consulting firm was sold to a third party. Through November 29, 2007, services valued at $235,064 were provided to the Company and its affiliates by this consulting firm during the year ended March 31, 2008. Of these amounts, none remained unpaid as of March 31, 2008. Mr. Bisker received, and continues to receive, compensation from the independent firms, which provide technology consulting services to the Company.
Three of our seven directors are considered "independent" under the SEC's new independence standards.
Item 14.
Item 14. Principal Accountant Fees and Services
Audit Fees
The aggregate fees billed for professional services rendered was $136,000 and $142,697 for the audits of the Company's annual consolidated financial statements for the fiscal years ended March 31, 2008 and 2007, respectively, which services include the cost of the audits of the consolidated financial statements included in the Company’s annual Forms 10-K for each respective year and the reviews of the related quarterly Form 10-QSB’s.
Audit-Related Fees
The principal accountant billed $11,200 related to the review of a registration statement, the review of a response to an SEC comment letter and Sarbanes-Oxley project discussions during the fiscal year ended March 31, 2008 and $7,600 related to the review of a registration statement during the fiscal year ended March 31, 2007.
Tax Fees
For the years ended March 31, 2008 and 2007, the principal accountant billed $29,750 and $54,500, respectively, for tax compliance. The billing for the fiscal year ended March 31, 2007 included services related to tax returns for three periods.
All Other Fees
The principal accountant billed $28,728 related to several audits of anti-money laundering procedures during the fiscal year ended March 31, 2007.
Audit Committee Policies and Procedures
Effective with the formation of our Audit Committee, all auditing services and permitted non-audit services (including the fees and terms thereof) to be performed for the Company by its independent auditors will be pre-approved, subject to the de-minimus exceptions for non-audit services described in Section 10A(i)(1)(B) of the Securities Exchange Act of 1934, which should be nonetheless be approved by the Board of Directors prior to the completion of the audit. At the beginning of the fiscal year, the Audit Committee will evaluate other known potential engagements of the independent auditor, including the scope of work proposed to be performed and the proposed fees, and approve or reject each service, taking into account whether the services are permissible under applicable law and the possible impact of each non-audit service on the independent auditor's independence from management. At each such subsequent meeting, the auditor and management may present subsequent services for approval. Typically, these would be services such as due diligence for an acquisition, that would not have been known at the beginning of the year.
Item 15.
Item 15. Exhibits, Financial Statement Schedules
(1) Consolidated Financial Statements.
See Table of Contents to Consolidated Financial Statements.
(2) Financial Statement Schedules.
See Table of Contents to Consolidated Financial Statements.
(3) Exhibits
See below.
Exhibit No.
Description
2.1
Agreement and Plan of Merger, dated June 13, 2005, among Health Outcomes Management, Inc. and Hudson Holding Corporation (1)
2.2
Agreement and Plan of Merger, dated December 22, 2004, among Health Outcomes Management, Inc., Hudson Acquisition Inc. and Hudson Securities, Inc. (2)
3.1
Certificate of Incorporation of Hudson Holding Corporation (1)
3.2
Bylaws of Hudson Holding Corporation (1)
4.1
Rights of Dissenting Shareholders (1)
4.2
Form of Warrant (3)
4.3
Warrant to purchase shares of common stock in the Company, issued to Investor, dated as of June 20, 2008 (10)
10.1
Subscription Agreement, dated January 10, 2006, between Kenneth Pasternak
and Hudson Holding Corporation (4)
10.2
Stock Option Plan (1)
10.3
Form of Securities Purchase Agreement (3)
10.4
Form of Registration Rights Agreement (3)
10.5
Employment Agreement, effective as of January 1, 2007, by and between Hudson Holding Corporation and Martin C. Cunningham (5)
10.6
Employment Agreement, effective as of January 1, 2007, by and between Hudson Holding Corporation and Keith R. Knox (5)
10.7
Audit Committee Charter (6)
10.8
Compensation Committee Charter (6)
10.9
Nominating and Corporate Governance Committee Charter (6)
10.10
Complaint Procedures for Accounting, Internal Accounting Control, and Auditing Matters (6)
10.11
Long-Term Incentive Plan (7)
10.12
Employment Agreement, effective as of November 28, 2007, by and between Hudson Securities, Inc. and Vincent Pelosi (8)
10.13
Employment Agreement, effective as of November 28, 2007, by and between Hudson Securities, Inc.
and Dana Pascucci (8)
10.14
Employment Agreement, effective as of January 10, 2008, by and between Hudson Securities, Inc. and David Scialabba (9)
10.15
Amendment No. 1 to the Employment Agreement, dated as of May 19, 2008, by and between Hudson Holding Corporation and Martin C. Cunningham
10.16
Amendment No. 1 to the Employment Agreement, dated as of May 19, 2008, by and between Hudson Holding Corporation and Keith R. Knox
10.17
Securities Purchase Agreement, entered into by and between the Company and Investor, dated as of June 20, 2008 (10)
10.18
Form of Registration Rights Agreement, entered into by and between the Company and Investor, dated as of June 20, 2008 (10)
Code of Business Conduct and Ethics and Compliance Program (6)
Subsidiaries of Hudson Holding Corporation
23.1
Consent of Eisner LLP
31.1
Certification of Chief Executive Officer pursuant to section 302 of the Sarbanes-Oxley Act of 2002
31.2
Certification of Chief Financial Officer pursuant to section 302 of the Sarbanes-Oxley Act of 2002
32.1
Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 *
32.2
Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 *
99.1
Press Release No. 1 Related to Hudson Holding Corporation's Earnings for the Year Ended March 31, 2008
99.2
Press Release No. 2 Related to Hudson Holding Corporation's Earnings for the Year Ended March 31, 2008
* These Exhibits attached to this Form 10-K shall not be deemed "filed" for purposes of Section 18 of the Securities Exchange Act of 1934 (the “Exchange Act”) or otherwise subject to liability under that section, nor shall it be deemed incorporated by reference in any filing under the Securities Act of 1933, as amended, or the Exchange Act, except as expressly set forth by specific reference in such filing.
(1) Incorporated by reference to the exhibits included with our Definitive Proxy Statement on Schedule 14A, filed with the SEC on July 1, 2005.
(2) Incorporated by reference to the exhibits included with our Current Report on Form 8-K filed with the SEC on December 28, 2004.
(3) Incorporated by reference to the exhibits included with our Current Report on Form 8-K filed with the SEC on December 1, 2006, as amended.
(4) Incorporated by reference to the exhibits included with our Current Report on Form 8-K filed with the SEC on January 19, 2006, as amended.
(5) Incorporated by reference to the exhibits included with our Current Report on Form 8-K filed with the SEC on January 4, 2007, as amended.
(6) Incorporated by reference to the exhibits included with our Form 10-KSB filed with the SEC on June 29, 2006.
(7) Incorporated by reference to the exhibits included with our Definitive Proxy Statement on Schedule 14A, filed with the SEC on July 20, 2007.
(8) Incorporated by reference to the exhibits included with our Current Report on Form 8-K filed with the SEC on December 4, 2007.
(9) Incorporated by reference to the exhibits included with our Form 10-QSB filed with the SEC on February 14, 2008.
(10) Incorporated by reference to the exhibits included with our Current Report on Form 8-K filed with the SEC on June 24, 2008.
SIGNATURES
In accordance with Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
HUDSON HOLDING CORPORATION
Dated: June 26, 2008
By: /s/ Martin C. Cunningham
Martin C. Cunningham
Chairman of the Board
Chief Executive Officer and Director
(Principal Executive Officer)
Dated: June 26, 2008
By: /s/ Keith R. Knox
Keith R. Knox
President, Secretary and Director
(Principal Financial and Accounting Officer)
HUDSON HOLDING CORPORATION AND SUBSIDIARIES
Table of Contents to Consolidated Financial Statements
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors
Hudson Holding Corporation
We have audited the consolidated statements of financial condition of Hudson Holding Corporation (the "Company") and subsidiaries as of March 31, 2008 and 2007, and the related consolidated statements of operations, changes in stockholders' equity and cash flows for the years ended March 31, 2008 and 2007. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Company’s internal control over financial reporting. Our audits include consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Hudson Holding Corporation as of March 31, 2008 and 2007, and the consolidated results of its operations and its cash flows for the years ended March 31, 2008 and 2007 in conformity with U.S. generally accepted accounting principles.
/s/ Eisner LLP
New York, New York
June 26,
HUDSON HOLDING CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
See notes to these consolidated financial statements.
HUDSON HOLDING CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
See notes to these consolidated financial statements.
HUDSON HOLDING CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
See notes to these consolidated financial statements.
HUDSON HOLDING CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
See notes to these consolidated financial statements.
HUDSON HOLDING CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - ORGANIZATION, OPERATIONS AND BASIS OF PRESENTATION
The consolidated financial statements include the accounts of Hudson Holding Corporation ("Holding") and its wholly-owned subsidiaries, Hudson Securities, Inc. ("Hudson") and Hudson Technologies, Inc. (“Technologies”) (collectively the "Company"). Holding was formed in 1987, is currently incorporated in the State of Delaware, and is a holding company. Hudson was formed in 1984, is a registered broker-dealer under the Securities Exchange Act of 1934 and is a member of the Financial Industry Regulatory Authority ("FINRA"). Hudson is a market maker specializing in providing liquidity in less liquid, difficult to trade stocks. Hudson is an introducing broker and clears all transactions through a clearing organization on a fully disclosed basis. Accordingly, Hudson is exempt from rule 15c3-3 of the Securities Exchange Act of 1934. On May 22, 2006, Technologies was formed as a Delaware corporation for the purpose of providing software development and technology services for Hudson and for third parties. As of March 31, 2008, Technologies had total assets of $775,456 and for the years ended March 31, 2008 and 2007, Technologies had revenues of $140,841 and $62,281 and net income (loss) of $(9,005) and $19,950, respectively. All significant intercompany transactions among the companies have been eliminated. The Company has offices in New Jersey and Florida.
On June 30, 2004, an investor group purchased all of the outstanding common stock of the broker-dealer which was the predecessor to Hudson for a purchase price of approximately $7,136,000. As a result, the predecessor broker-dealer recorded goodwill of approximately $1,111,000, which represented the excess of the purchase price over the estimated fair value of the assets acquired and liabilities assumed.
On July 21, 2004, the predecessor broker-dealer formed a wholly-owned subsidiary named Hudson Capital Markets, Inc. ("HCMI"), which was organized in the state of Delaware. HCMI was authorized to issue 30,000,000 shares of common stock with a par value of $.001 per share. On July 31, 2004, the predecessor broker-dealer was merged into HCMI, with HCMI becoming the survivor ("HCMI Merger") and the name was changed to Hudson Securities, Inc. In connection with this merger, the stockholders of the predecessor broker-dealer received 83,333.33 shares of Hudson for each share of the predecessor broker-dealer shares owned. The historical capital accounts were retroactively adjusted to reflect the equivalent number of shares issued by HCMI in the HCMI Merger, while the predecessor broker-dealer historical retained earnings were carried forward.
In December 2004, Hudson entered into an agreement and Plan of Merger (the "Agreement") with Health Outcomes Management, Inc. ("HOM"), a non-operating public company. On May 3, 2005, under the terms of the Agreement, Hudson’s stockholders exchanged all 10,967,000 shares of their common stock for 19,334,084 post reverse-split shares of HOM common stock, and Hudson’s warrant holders exchanged 998,667 warrants with an exercise price of $1.85 for 1,760,590 post reverse-split warrants to purchase HOM common stock at $1.0494 per share (the "Exchange"). The HOM shares that were issued represent 94% of HOM's outstanding interest at the time of this exchange. In connection with the legal form of this transaction, Hudson became a wholly owned subsidiary of HOM. On September 6, 2005 HOM was reincorporated in Delaware, and changed its name to Hudson Holding Corporation. For financial reporting purposes, the Exchange represents a capital transaction of Hudson Securities, Inc., or a "reverse merger" rather than a business combination. Accordingly, the historical stockholders equity of Hudson Securities, Inc. was adjusted to give effect to the shares cancelled in connection with the HOM Merger, while the historical retained earnings were carried forward. On March 2, 2007, the Company issued 10,966,999 shares of common stock to Hudson.
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
[1] Securities transactions:
Hudson records transactions in securities and the related revenue and expenses on a trade-date basis. Commissions and fees include agency commissions and fees earned on riskless principal trades. Riskless principal trades are transacted through the firm’s proprietary account with a customer order in hand, resulting in no market risk to the firm. Securities owned and securities sold, but not yet purchased, are stated at fair value with any resulting unrealized gains and losses reflected in trading gains, net. Securities which do not have a readily ascertainable market value are valued at their estimated fair value as determined by management. Because of the inherent uncertainty of valuation estimates, the management determined values may differ significantly from values that would have been used had a ready market for these securities existed and the differences could be material.
[2] Income taxes:
The Company accounts for income taxes in accordance with the provisions of Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes" ("SFAS No. 109"). SFAS No. 109 requires that the Company recognize deferred tax liabilities and assets for the expected future tax consequences of items that have been included or excluded in the financial statements or tax returns. Under this method, deferred tax liabilities and assets are determined on the basis of the difference between the tax basis of liabilities and assets and their respective financial reporting amounts ("temporary differences") at enacted tax rates in effect for the years in which the temporary differences are expected to reverse. The Company records an estimated valuation allowance on its deferred income tax assets if it is not more than likely that these deferred income tax assets will be realized. The Company has elected an accounting policy whereby interest and penalties assessed by jurisdictions, if any, would be classified as an operating expense.
[3] Furniture, equipment, leasehold improvements, capitalized software and depreciation and amortization:
Furniture, equipment and leasehold improvements are recorded at cost. Depreciation and amortization is computed using the straight-line method over the estimated useful life of the related asset or, in the case of leasehold improvements, over the shorter of its estimated useful life or the lease term.
During April 2006, the Company began capitalizing certain costs incurred in connection with developing or obtaining internal use software pursuant to Statement of Position 98-1, Accounting for the Costs of Computer Software Developed or Obtained for Internal Use. Unamortized capitalized software development costs of approximately $536,672 represents software in service which is being amortized over its estimated useful life and is being carried in furniture, equipment, capitalized software and leasehold improvements in the Consolidated Statement of Financial Condition as of March 31, 2008. In addition, $87,781 of unamortized capitalized software development costs represents software that is still in development and is not being amortized.
[4] Use of estimates:
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amount of income and expenses during the reporting period. Actual results could differ from those estimates.
[5] Concentrations of credit risk:
Hudson is engaged in trading on a principal and/or agency basis with and for primarily other securities broker-dealers and institutional investors such as mutual funds, hedge funds, banks and similar businesses. Counterparties to Hudson's business activities include broker-dealers and clearing organizations, and can include banks and other financial institutions. Hudson uses one clearing broker to process transactions and maintain customer accounts. The clearing broker extends credit to Hudson's clientele which is secured by cash and securities in the clients' account. Hudson's exposure to credit risk associated with the non-performance by its customers and counterparties in fulfilling their contractual obligations can be directly impacted by volatile or illiquid trading markets, which may impair the ability of customers and counterparties to satisfy their obligations to Hudson. Additionally, Hudson has agreed to indemnify the clearing broker for losses it incurs while extending credit to Hudson's clients. Amounts due from customers that are considered uncollectible are charged back to Hudson by the clearing broker when such amounts become determinable.
In the normal course of business, Hudson enters into transactions in various derivative instruments for trading purposes. These transactions include securities sold short, but not yet purchased, and option and warrant contracts.
Securities sold short, but not yet purchased, represent obligations of Hudson to deliver the underlying securities sold; and option and warrant contracts written represent obligations of Hudson to purchase or deliver the specified security at the contracted price. Hudson's ultimate obligation on such instruments may exceed the amount recognized in the statement of financial condition. Hudson monitors its positions continuously to reduce the risk of the potential loss due to changes in market value or failure of counterparties to perform.
Substantially all of Hudson's cash and security positions are deposited with its clearing broker for safekeeping purposes. Hudson maintains cash in bank accounts, which, at times, may exceed federally insured limits. Hudson has not experienced any losses in such accounts and believes it is not exposed to any significant credit risk on cash.
[6] Cash and cash equivalents:
The Company considers all highly liquid investments purchased with an original maturity of three months or less to be a cash equivalent. Restricted cash represents an automatically renewable, fourteen month time deposit which collateralizes a letter of credit (see Note J [3]).
[7] Goodwill
The Company accounts for its goodwill in accordance with Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets" ("SFAS No. 142"). Under SFAS No. 142, goodwill is not subject to amortization, but rather an assessment of impairment, by applying a fair value based test. The Company reviews goodwill for impairment annually, during the fourth quarter of each year, and also between annual tests upon the occurrence of trigger events. The reviews are performed at the Hudson level, generally by using the market capitalization of the Company as an indicator of fair value, since Hudson currently represents the most significant component of the consolidated entity. Impairment is potentially indicated when the carrying value of Hudson, including goodwill, exceeds its fair value. If a potential impairment is indicated, the fair value of Hudson would be measured against the fair value of its underlying assets and liabilities, excluding goodwill, to estimate an implied fair value of Hudson’s goodwill. If that fair value was less than the carrying value of goodwill, impairment would be recorded. As a result of its assessment, the Company has determined that no such potential impairment was indicated during the year ended March 31, 2008.
[8] Commissions receivable reserve:
Commissions receivable represent cumulative draws and benefits provided to traders and salespersons in excess of cumulative commissions earned. The Company will collect these receivables if future earned commissions exceed future draws and benefits. The Company establishes reserves as an offset to the receivable balance on the basis of historical collections and estimates of future collections. As of March 31, 2008, the Company had $84,847 of commissions receivable offset by a reserve of the same amount.
[9] Stock based compensation:
Commencing with the first issuance of stock options on May 26, 2006, the Company accounts for stock options issued under the recognition and measurement principles of Statement of Financial Accounting Standards No. 123 (revised 2004), “Share-Based Payment” (“SFAS 123(R)”). Under the provisions of SFAS 123(R), the Company is required to measure the cost of services received in exchange for an award of equity instruments based on the fair value of the award. For employees and directors, the award is measured on the grant date and for non-employees, the award is generally remeasured on interim financial reporting dates until the service period is complete, in accordance with EITF Issue No. 96-18, “Accounting for Equity Instruments That Are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, goods or Services”. The fair value amount is then recognized over the period during which services are required to be provided in exchange for the award, usually the vesting period.
[10] Reclassifications:
Certain fiscal 2007 amounts have been reclassified to conform with the fiscal 2008 presentation.
[11] Loss per share:
Basic loss per share ("EPS") has been calculated by dividing net loss by the weighted average shares of common stock outstanding during the year. Diluted EPS reflects the change in EPS, using the treasury stock method to reflect the impact of common share equivalents as if dilutive securities such as stock options or warrants were exercised or converted into common stock.
The following is a reconciliation of the numerators and denominators of the basic and diluted loss per share computations for the years ended March 31, 2008 and 2007:
At March 31, 2008, 8,361,666 shares of unvested restricted stock, outstanding stock options to purchase 3,495,000 shares of common stock and warrants to purchase 7,122,774 shares of common stock were excluded from the calculation of diluted earnings per share because their impact would have been anti-dilutive.
[12] Recently issued accounting standards:
In June 2006, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 48, "Accounting for Uncertainty in Income Taxes - an interpretation of FASB Statement No. 109" ("FIN 48"), for which adoption was required for fiscal years beginning after December 15, 2006. This interpretation was issued to clarify the accounting for uncertainty in income taxes recognized in the financial statements by prescribing a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. FIN 48 requires that the Company determine whether the benefits of tax positions are more likely than not of being sustained upon audit based on the technical merits of the tax position. For tax positions that are more likely than not of being sustained upon audit, the Company recognizes the largest amount of the benefit that is greater than 50% likely of being realized upon ultimate settlement in the financial statements. For tax positions that are not more likely than not of being sustained upon audit, the Company does not recognize any portion of the benefit in the financial statements. The Company adopted this interpretation effective April 1, 2007. The adoption did not have any effect on the Company’s consolidated financial statements.
In September 2006, the FASB issued Statement of Financial Accounting Standard 157, “Fair Value Measurements” (“SFAS 157”). SFAS 157 requires the use of a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three levels: quoted market prices in active markets for identical assets and liabilities (Level 1), inputs other than quoted market prices that are observable for the asset or liability, either directly or indirectly (Level 2), and unobservable inputs for the asset or liability (Level 3). SFAS 157 is effective for the Company’s financial statements issued for the fiscal year beginning April 1, 2008. Adoption of SFAS 157 is not expected to have a material impact on the Company's financial statements.
In February 2007, the FASB issued Statement of Financial Accounting Standard 159, “The Fair Value Option for Financial Assets and Financial Liabilities - Including an amendment of FASB Statement No. 115” (“SFAS 159”). SFAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value that are not currently required to be measured at fair value. SFAS 159 is effective for the Company’s fiscal year beginning April 1, 2008. Adoption of SFAS 159 is not expected to have a material impact on the Company’s financial statements.
In December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements - An Amendment of ARB No. 51” (SFAS 160). SFAS 160 establishes accounting and reporting standards for the noncontrolling interest in a subsidiary (previously referred to as minority interests). SFAS 160 also requires that a retained noncontrolling interest upon the deconsolidation of a subsidiary be initially measured at its fair value. Upon adoption of SFAS 160, companies will be required to report noncontrolling interests as a separate component of stockholders’ equity. Companies will also be required to present net income allocable to noncontrolling interests and net income attributable to stockholders separately in their statements of income. Currently, minority interests are reported as a liability or temporary equity on the balance sheet and the related income attributable to the minority interests is reflected as an expense in arriving at net income (loss). SFAS 160 is effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2008. SFAS 160 requires retroactive adoption of the presentation and disclosure requirements for existing minority interests. All other requirements of SFAS 160 shall be applied prospectively. The Company does not currently have any noncontrolling interests in subsidiaries. SFAS would only have an impact on subsequent acquisitions of noncontrolling interests.
In December 2007, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 141R, “Business Combinations” (SFAS 141R), which replaces SFAS No. 141, “Business Combinations.” SFAS 141R establishes principles and requirements for determining how an enterprise recognizes and measures the fair value of certain assets and liabilities acquired in a business combination, including noncontrolling interests, contingent consideration, and certain acquired contingencies. SFAS 141R also requires acquisition-related transaction expenses and restructuring costs be expensed as incurred rather than capitalized as a component of the business combination. SFAS 141R will be applicable prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. SFAS 141R would only have an impact on accounting for any businesses acquired after the effective date of this pronouncement.
In March 2008, the FASB issued Statement of Financial Accounting Standards No. 161, “Disclosures about Derivative Instruments and Hedging Activities - an amendment of FASB Statement No. 133” (“SFAS 161”). SFAS 161 changes the disclosure requirements for derivative instruments and hedging activities. Entities are required to provide enhanced disclosures about (a) how and why an entity uses derivative instruments, (b) how derivative instruments and related hedged items are accounted for under SFAS No. 133 and its related interpretations, and (c) how derivative instruments and related hedged items affect an entity’s financial position, financial performance and cash flow. The guidance in SFAS 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged. This Statement encourages, but does not require, comparative disclosures for earlier periods at initial adoption. At this time management is evaluating the implications of SFAS 161 and its impact on the financial statements has not yet been determined.
NOTE C - RECEIVABLE FROM CLEARING BROKER
At March 31, 2008, the receivable from clearing broker amount in the consolidated statement of financial condition represents the Company's cash balance with its clearing broker.
NOTE D - SECURITIES OWNED AND SECURITIES SOLD, BUT NOT YET PURCHASED
Securities owned and securities sold, but not yet purchased, at March 31, 2008 and 2007 consist of:
NOTE E - PREPAID COMPENSATION
During the year ended March 31, 2008, Hudson has loaned $3,019,000 to employees as an incentive for affiliating with the Company. The employees signed employment agreements and promissory notes with Hudson bearing interest at rates ranging from 4% to 5%. The employment agreements specify that Hudson will forgive the loans, or a portion thereof, if the employees remain employed with Hudson for a certain duration. The loans are being amortized on a straight-line basis over the period specified in the employment agreement. Loan amortization charged to salaries and related costs in the statements of operations was $616,389 for the year ended March 31, 2008.
NOTE F - FURNITURE, EQUIPMENT, CAPITALIZED SOFTWARE AND LEASEHOLD IMPROVEMENTS
A summary of the furniture, equipment, and leasehold improvement activity is as follows:
A summary of the accumulated depreciation activity is as follows:
NOTE G - STOCKHOLDERS' EQUITY
[1] Private placements:
(a) January 2006 private placement
On January 10, 2006, the Company sold 6,581,784 shares of its common stock for $2,000,000. There were no underwriting discounts or commissions paid in connection with the sale of the common stock.
(b) November 2006 private placement
On November 28, 2006, the Company sold securities at a purchase price of $.60 per unit. The units consisted of common stock and warrants to purchase shares of common stock (the "Warrants"). The Company sold an aggregate of 9,575,325 shares of common stock and delivered Warrants to purchase an aggregate of 4,787,664 shares of our common stock, in exchange for gross proceeds of $5,745,190, pursuant to a private placement agreement (“Agency Agreement”) dated October 24, 2006. The Warrants entitle the holders to purchase shares of the Company’s common stock for a period of five years from the date of issuance at an exercise price of $.85 per share. The Warrants are redeemable by us on terms specified in the warrant agreement.
Under the terms of the Agency Agreement, the placement agent received, among other compensation, a cash commission fee of four percent (4%; or approximately $229,808) of the gross proceeds to the Company of the securities sold. In addition, pursuant to the terms of the Agency Agreement, the Company agreed to issue to the placement agent warrants to purchase common stock during a period of five years in an amount equal to six percent (6%) of the Shares sold in the private placement (the "Placement Agent Warrants"). The 574,520 Placement Agent Warrants are exercisable at $.60 per share.
The Company’s net proceeds from the private placement were $5,480,698, after deducting the placement agent cash commission plus $32,185 of legal fees and $2,500 of transfer agent fees associated with the private placement.
[2] Warrants:
The Company has 1,760,590 warrants outstanding, in addition to the Warrants issued in connection with the private placement described above, which are exercisable for common stock at an exercise price of $1.0494 per share and expire in 2009. The warrants may be redeemed by the Company at $.01 per redeemable warrant, upon not less than thirty days written notice, if the average of the closing sale price of the common stock is at least $2.10 for a period of 20 consecutive days ending on the third day prior to the date of the notice of redemption. Any right to exercise the warrant expires on the business day immediately preceding the date of redemption.
A summary of the Company's warrants and related information for the years ended March 31, 2008 and 2007 is as follows:
[3] Stock plans:
The Stock Option Plan (the "2005 Plan"), which was approved by the Hudson Board on June 8, 2005 and by Hudson’s shareholders on July 26, 2005, provides for the granting of incentive and/or nonqualified stock options to purchase up to an aggregate of 2,000,000 shares of Hudson’s common stock. The 2007 Long-Term Incentive Compensation Plan (the "2007 Plan"), which was approved by the Hudson Board on June 28, 2007 and by Hudson’s shareholders on August 14, 2007, provided for the granting of incentive and/or nonqualified stock options, stock appreciation rights, restricted stock awards, performance units and performance bonuses to purchase up to an aggregate of 10,000,000 shares of the Company’s common stock. A 12,000,000 share increase to the authorized shares of the 2007 Plan, to 22,000,000 shares, was approved by the Hudson Board on February 13, 2008 and by a majority of Hudson’s shareholders on March 4, 2008. Under both plans (collectively the “Plans”), (1) awards may be granted to employees, consultants, independent contractors, officers and directors; (2) the maximum term of any award shall be ten years from the date of grant; (3) the exercise price of any award shall not be less than the fair value on the date of grant; and (4) awards will typically result in the issuance of new common shares.
[4] Stock option grants:
The Company recognized $161,232 and $55,843 of compensation expense during the years ended March 31, 2008 and 2007, respectively, related to employee stock option grants, which is reflected as salaries and related costs in the Statement of Operations. As of March 31, 2008, there was $356,309 of unrecognized employee stock-based compensation expense related to stock option grants that will be amortized over a weighted average period of 1.7 years.
In addition, the Company recognized $15,000 and $17,400 during the years ended March 31, 2008 and 2007, respectively, of professional fees expense in the consolidated condensed statement of operations, related to immediately vested director stock option grants.
On May 2, 2007, the Company granted options to a consultant to purchase an aggregate of 250,000 shares of the Company’s common stock at an exercise price of $0.80 per share under the 2005 Plan. The options, which expire on November 2, 2010, vest equally on each of the first three anniversaries of the date of grant. Consultant options are revalued based on the Black-Scholes option pricing model on financial reporting dates during the service period. The Company recognized stock-based compensation expense of $8,405 as professional fees expense for the year ended March 31, 2008. The Company will record additional expense relating to these options during their vesting period with a final adjustment based on the options’ fair value on the vesting dates.
The Company has computed the fair value of options granted using the Black-Scholes option pricing model. Under SFAS 123(R) forfeitures are estimated at the time of valuation and reduce expense ratably over the vesting period. This estimate will be adjusted periodically based on the extent to which actual forfeitures differ, or are expected to differ, from the previous estimate, when it’s material. The expected term of options granted represents the estimated period of time that options granted are expected to be outstanding. Given that the Company’s shares have only been publicly traded since May 3, 2005, the Company developed an expected volatility figure based on a review of the historical volatilities, over a period of time, equivalent to the expected life of these options, of similarly positioned public companies within its industry, during the early stages of their life as a public company. The risk-free interest rate was determined from the implied yields from U.S. Treasury zero-coupon bonds with a remaining term consistent with the expected term of the options.
In applying the Black-Scholes option pricing model, the Company used the following weighted average assumptions:
The weighted average estimated fair value of the stock options granted during the years ended March 31, 2008 and 2007 was $0.10 and $0.38 per share, respectively.
As of March 31, 2006, the Company had not issued any options under the Plans. A summary of the status of the options issued under the Plans during the years ended March 31, 2008 and 2007, is presented in the table below:
The following table presents information related to stock options at March 31, 2008:
[5] Restricted stock grants:
The Company recognized $229,536 during the year ended March 31, 2008 of compensation expense related to employee restricted stock option grants, which is reflected as salaries and related costs in the consolidated statement of operations. As of March 31, 2008, there was $3,215,085 of unrecognized employee stock-based compensation expense related to restricted stock grants that will be amortized over a weighted average period of 3.6 years.
A summary of restricted stock activity for the year ended March 31, 2008 is presented in the table below:
NOTE H - INCOME TAXES
The Company files a federal income tax return on a consolidated basis with its wholly-owned subsidiaries, as well as state income tax returns in certain jurisdictions. The Company is subject to minimum taxes at the state and local level which are based on measures other than income. If these minimum taxes exceed the amounts based on income, such amounts have been included below.
The income tax provision (benefit) consists of the following:
For the years ended March 31, 2008 and 2007, the expected tax expense based on the statutory rate is reconciled with actual tax expense as follows:
The principal components of the net deferred tax asset at March 31, 2008 are as follows:
The Company files a consolidated federal income tax return, as well as state income tax returns in certain jurisdictions. Federal and state income tax returns, beginning with those filed for the ten months ended October 31, 2004 and the twelve months ended December 31, 2003, respectively, and through March 31, 2007, remain subject to exam. For the year ended March 31, 2008, the Company had approximately $1,603,000 of federal net operating losses (“NOLs”) of which (a) approximately $1,231,000 is eligible to be carried back against prior period taxable income and for which the Company has recognized approximately $419,000 of current income tax receivables; plus (b) approximately $372,000 represent federal NOL carryforwards which expire in 2028. In addition, the Company has approximately $2,763,000 of state NOL carryforwards, which expire in 2011, and 2014. A valuation allowance has been established to offset a portion of the deferred tax asset to the extent the Company has not determined that it was more likely than not that the future tax benefits will be realized. During the year ended March 31, 2008, the valuation allowance increased by $41,500.
NOTE I - SALARY REDUCTION RETIREMENT PLAN
The Company sponsors a 401(k) Savings Plan (the "Savings Plan") which covers all eligible employees. Participants may contribute no less than 1% and up to the maximum allowable per the Internal Revenue Service regulations. In addition, the Company may make discretionary contributions to the Savings Plan, subject to certain limitations. For the years ended March 31, 2008 and 2007, the Company made no matching contributions.
NOTE J - COMMITMENTS AND CONTINGENCIES:
[1] Leases
The Company currently leases office space in Jersey City, New Jersey and two satellite locations. On April 4, 2006, Hudson entered into an agreement to sublease 26,875 rentable square feet of office space in Jersey City, New Jersey. The sublease is guaranteed by Holding. The lease commenced on June 21, 2006 and expires on August 30, 2012. The Company occupied the new Jersey City headquarters location during September 2006. Initially, the Company maintained the original Jersey City office space as a back-up site. During September 2007, the Company eliminated network connectivity at the site and recognized a lease abandonment charge of approximately $75,000, representing the Company’s remaining lease commitments, in preparation for the November 30, 2007 lease expiration. On February 1, 2007, the Company entered into an agreement to sublease an additional 2,744 rentable square feet of office space in Tinton Falls, New Jersey. The lease commenced on March 1, 2007 and expires on March 31, 2010.
As of March 31, 2008, the Company had a deferred lease liability of $233,764 which represents the excess of rent expense recognized on a straight-line basis over the term of the leases as compared to cash rental payments and is included in accrued expenses and other liabilities on the statement of financial condition.
Future minimum commitments related to non-cancelable operating leases as of March 31, 2008 are as follows:
Rent expense, net of sublease income, was approximately $1,388,000 and $1,215,000 for the years ended March 31, 2008 and 2007, respectively.
[2] Employment agreements:
On January 4, 2007, Hudson entered into five year employment agreements, effective as of January 1, 2007, with Mr. Martin C. Cunningham and Mr. Keith R. Knox, whereby each will continue in their present positions, Chief Executive Officer and President, respectively. Mr. Cunningham and Mr. Knox are key employees of the Company and these employment agreements are deemed to be commitments of the Company. The agreements, as amended, provide that each shall receive a salary of $200,000 per year, plus a formula-based annual bonus. In addition, the Company entered into a two year employment agreement with another key employee, effective as of December 1, 2006, which provides that the employee shall receive a salary of $150,000 per year.
The Company has outstanding employee loan commitments of $1,750,000, which were provided as an incentive for affiliating with the Company and will be funded in installments between May and September 2008. Employee loans are evidenced by promissory notes, bear interest at rates of 4-5%, are forgiven over contractual service periods and are amortized on a straight-line basis over the same service period.
Future minimum salary commitments pursuant to these employment agreements are as follows:
[3] Letter of credit:
In connection with the new Jersey City office lease, on April 20, 2006 Hudson deposited a one-year $225,000 irrevocable standby letter of credit with the landlord as security, which automatically renews for additional one-year terms, unless sixty days written notice is provided. Pursuant to the lease agreement, Hudson is required to maintain the letter of credit until sixty days following the expiration of the lease. On April 5, 2006, Hudson deposited $225,000 with the issuing financial institution in the form of an automatically renewable, fourteen-month time deposit, in order to collateralize the letter of credit. The time deposit, plus accrued interest, is included in cash-restricted on the accompanying statement of financial condition.
[4] Contingencies:
The Company has been named as a defendant in various actions relating to its activities as a broker-dealer including a civil action and a regulatory investigation. On May 5, 2008, Hudson received a letter from FINRA alleging a failure to supervise and implement written supervisory procedures related to trading and market making and anti-money laundering rules. There is no indication of what amount of fines or sanctions FINRA may demand in connection with these allegations. On June 16, 2008, Hudson submitted a response to FINRA. Hudson intends to contest this matter vigorously. From time to time, the Company is also involved in arbitrations and proceedings by self-regulatory organizations. Although the ultimate outcome of these matters involving the Company cannot be predicted with certainty, management believes it has meritorious defenses to all such actions and intends to defend each of these actions vigorously. Although there can be no assurances that such matters will not have a material adverse effect on the results of operations or financial condition of the Company in any future period, depending in part on the results for such period, in the opinion of the Company’s management, the ultimate resolution of such actions against the Company will have no material adverse effect on the Company's financial condition.
NOTE K - NET CAPITAL REQUIREMENT
Hudson is subject to various regulatory requirements, including the SEC's Uniform Net Capital Rule (SEC rule 15c3-1), which is intended to ensure the general financial soundness and liquidity of broker-dealers by requiring the maintenance of minimum levels of net capital. These regulations place limitations on certain transactions, such as repaying subordinated borrowings, paying cash dividends, and making loans to its parent, affiliates or employees. Broker-dealers are prohibited from such transactions which would result in a reduction of its total net capital to less than 120% of its required minimum net capital. Moreover, broker-dealers are required to notify the SEC before entering into such transactions which, if executed, would result in a reduction of 30% or more of its excess net capital (net capital less the minimum requirement). The SEC has the ability to prohibit or restrict such transactions if the result is detrimental to the financial integrity of the broker-dealer.
At March 31, 2008, Hudson had net capital of $4,870,737 under the alternative method, which was $3,870,737 in excess of its required net capital of $1,000,000.
NOTE L - RELATED PARTY TRANSACTIONS
Mark Bisker, Chief Technology Officer (as a consultant) and Director (effective September 2007) of the Company, was the Chief Executive Officer and a Director of a consulting firm that provides information technology management and software development services to the Company, an entity in which he held a 31.5% ownership interest, until November 29, 2007 when the consulting firm was sold to a third party. During his term as a Director and through November 29, 2007, services valued at $235,064 were provided to the Company by this consulting firm, most of which has been capitalized as internally developed software and has been fully paid as of March 31, 2008 (see Note B[3]).
NOTE M - SUBSEQUENT EVENTS
[1] June 2008 private placement:
On June 20, 2008, the Company closed on a private placement of $4 million of securities, with net proceeds to Holding of $3.9 million after deducting offering costs. In connection with the private placement, the Company issued 8,000,000 shares of common stock and delivered a warrant to purchase an aggregate of 4,000,000 shares of our common stock. The warrant entitles the holder to purchase shares of the Company’s common stock for a period of five years from the date of issuance at an exercise price of $0.75 per share.
[2] Stock option grants:
On May 6, May 19, and June 2, 2008, the Company granted options to purchase an aggregate of 1,365,000 shares of common stock at exercise prices ranging from $0.60 to $0.75 to new and existing employees, pursuant to the 2007 Plan. The options expire after three and a half years. The $201,050 grant date fair value will be amortized over the three year vesting period.
[3] Restricted stock grants:
On May 5, 2008, the Company granted 100,000 shares of immediately vested restricted stock to each of four non-employee directors, pursuant to the 2007 Plan, for a total of 400,000 shares at a market value of $0.41. Accordingly, the $164,000 grant date fair value of the grants will result in an immediate charge to the statement of operations, pursuant to SFAS 123(R).