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Merriman Holdings, Inc 10-Q 2010 SECURITIES
AND EXCHANGE COMMISSION
WASHINGTON,
D.C. 20549
FORM
10-Q
For the
quarterly period ended September 30, 2010
For the
Transition Period from ____________ to ____________.
Commission
file number: 1-15831
MERRIMAN
HOLDINGS, INC.
(Exact
Name of Registrant as Specified in its Charter)
(415)
248-5600
(Registrant’s
Telephone Number, Including Area Code)
Indicate
by check mark whether the registrant (1) has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes
x No ¨
Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files). Yes ¨ No ¨
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
definition of “large accelerated filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act.
Indicate
by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Act). Yes ¨ No x
The
number of shares of Registrant’s common stock outstanding as of November 10, 2010 was 2,157,575.
Merriman
Holdings, Inc.
Index
2
ITEM
1. Financial Statements (unaudited)
MERRIMAN
HOLDINGS, INC.
CONSOLIDATED
STATEMENTS OF OPERATIONS
(unaudited)
The
accompanying notes are an integral part of these consolidated financial
statements.
3
MERRIMAN
HOLDINGS, INC.
CONSOLIDATED
STATEMENTS OF FINANCIAL CONDITION
(unaudited)
The
accompanying notes are an integral part of these consolidated financial
statements.
4
MERRIMAN
HOLDINGS, INC.
CONSOLIDATED
STATEMENTS OF CASH FLOWS
(unaudited)
The
accompanying notes are an integral part of these consolidated financial
statements.
5
MERRIMAN
HOLDINGS, INC.
CONSOLIDATED
STATEMENTS OF CASH FLOWS - CONTINUED
(unaudited)
The
accompanying notes are an integral part of these consolidated financial
statements.
6
MERRIMAN
HOLDINGS, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
1.
Significant Accounting Policies
Basis
of Presentation
The
interim unaudited consolidated financial statements included herein for Merriman
Holdings, Inc. (formerly Merriman Curhan Ford Group, Inc. and MCF Corporation),
or the Company, have been prepared pursuant to the rules and regulations of the
Securities and Exchange Commission (SEC). In the opinion of management, the
consolidated financial statements included in this report reflect all normal
recurring adjustments that the Company considers necessary for the fair
presentation of the consolidated results of operations for the interim periods
covered and the consolidated financial position of the Company at the date of
the interim statement of financial condition. Certain information and footnote
disclosures normally included in annual consolidated financial statements
prepared in accordance with accounting principles generally accepted in the
United States have been condensed or omitted pursuant to such rules and
regulations. However, the Company believes that the disclosures are adequate to
understand the information presented. The operating results for interim periods
are not necessarily indicative of the operating results for the entire year.
These consolidated financial statements should be read in conjunction with the
Company’s 2009 audited consolidated financial statements and notes thereto
included in the Company’s Annual Report on Form 10-K and on Form 10-K/A for the
year ended December 31, 2009.
Under
Accounting Standards Codification Topic (“ASC”) 855, “Subsequent Events”, the
Company has evaluated all subsequent events through the date these consolidated
financial statements were issued.
At the
stockholders’ annual meeting on August 10, 2010, the stockholders approved the
adoption of an amendment to the Company’s Amended Certificate of Incorporation
changing the Company’s name from Merriman Curhan Ford Group, Inc. to Merriman
Holdings, Inc. In September 2010, the Company also changed the name
of its subsidiary from Merriman Curhan Ford & Co. to Merriman Capital, Inc.
(hereafter “MC”).
Reverse
Stock Split
At the
stockholders’ annual meeting on August 10, 2010, the stockholders also voted to
approve the amendment to the Company’s Amended Certificate of Incorporation to
affect a one-for-seven reverse stock split. The reverse stock split
became effective at 12:01 am, Eastern Time, on August 16, 2010. Pursuant to the
reverse stock split, each seven shares of authorized and outstanding common
stock was reclassified and combined into one share of new common stock. In
addition, upon the effectiveness of the reverse stock split, seven shares of
Series D Convertible Preferred Stock will be convertible into one share of
common stock of the Company. The reverse stock split did not change the number
of authorized shares or the par value per share of common stock or preferred
stock designated by the Company's Certificate of Incorporation. Currently, the
Company has authorized 300,000,000 shares of common stock. All references to
share and per share data for all periods presented have been retroactively
adjusted to give effect to the one-for-seven reverse stock split.
Securities
Owned and Securities Sold, Not Yet Purchased
Securities
owned and securities sold, not yet purchased in the consolidated statements of
financial condition consist of financial instruments carried at fair value with
related unrealized gains or losses recognized in the consolidated statement of
operations. The securities owned are classified into
“marketable,” “non-marketable” and “other.” Marketable securities are
those that can readily be sold, either through a stock exchange or through a
direct sales arrangement. Non-marketable securities are typically
securities restricted under Rule 144A or have some restriction on their sale
whether or not a buyer is identified. Other securities consist of
investments accounted for under the equity method.
Fair
Value of Financial Instruments
Substantially
all of our financial instruments are recorded at fair value or contract amounts
that approximate fair value. Securities owned and securities sold, not yet
purchased, are stated at fair value, with any related changes in unrealized
appreciation or depreciation reflected in principal transactions in the
consolidated statements of operations. Financial instruments carried at contract
amounts include cash and cash equivalents and amounts due from and to brokers,
dealers and clearing brokers.
7
MERRIMAN
HOLDINGS, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS—CONTINUED
(unaudited)
1.
Significant Accounting Policies - continued
Fair
Value Measurement—Definition and Hierarchy
The
Company follows the provisions of ASC 820, “Fair Value Measurement and
Disclosures,”
for our financial assets and liabilities. Under ASC 820, fair value is defined
as the price that would be received to sell an asset or paid to transfer a
liability (i.e., the
“exit price”) in an orderly transaction between market participants at the
measurement date.
Where
available, fair value is based on observable market prices or parameters or
derived from such prices or parameters. Where observable prices or inputs are
not available, valuation models are applied. These valuation techniques involve
some level of management estimation and judgment, the degree of which is
dependent on the price transparency for the instruments or market and the
instruments’ complexity. Assets and liabilities recorded at fair value in the
consolidated statement of financial condition are categorized based upon the
level of judgment associated with the inputs used to measure their fair value.
The Company’s financial assets and liabilities measured and reported at fair
value are classified and disclosed in one of the following
categories:
Fair
Value Measurement—Definition and Hierarchy - continued
Level 1
—Unadjusted, quoted prices are available in active markets for identical assets
or liabilities at the measurement date. The types of assets and liabilities
carried at Level 1 fair value generally are G-7 government and agency
securities, equities listed in active markets, investments in publicly traded
mutual funds with quoted market prices and listed derivatives.
Level 2 —
Pricing inputs (other than quoted prices included in Level 1) are either
directly or indirectly observable for the asset or liability through correlation
with market data at the measurement date and for the duration of the
instrument’s anticipated life. Fair valued assets which are generally
included in this category are stock warrants for which market-based implied
volatilities are available, and unregistered common stock.
Level 3 —
Pricing inputs are both significant to the fair value measurement and
unobservable. These inputs generally reflect management’s best
estimate of what market participants would use in pricing the asset or liability
at the measurement date. Consideration is given to the risk inherent in the
valuation technique and the risk inherent in the inputs to the model. Fair
valued assets which are generally included in this category are stock warrants
for which market-based implied volatilities are not available.
In
certain cases, the inputs used to measure fair value may fall into
different levels of the fair value hierarchy. In such cases, for
disclosure purposes the level in the fair value hierarchy within which the fair
value measurement falls in its entirety is determined based on the lowest level
of input that is significant to the fair value measurement in its
entirety.
For
further information on financial assets and liabilities that are measured at
fair value on a recurring basis, and a description of valuation techniques, see
Note 5, Fair Value of Assets and Liabilities.
Investment
Banking Revenue
Investment
banking revenue includes underwriting and private placement agency fees earned
through the Company’s participation in public offerings, private placements of
equity and convertible debt securities, and fees earned as financial advisor in
mergers and acquisitions and similar transactions. Underwriting revenue is
earned in securities offerings in which the Company acts as an underwriter and
includes management fees, selling concessions and underwriting fees. Fee revenue
relating to underwriting commitments is recorded when all significant items
relating to the underwriting cycle have been completed and the amount of the
underwriting revenue has been determined.
Syndicate
expenses related to securities offerings in which the Company acts as
underwriter or agent are deferred until the related revenue is recognized or we
determine that it is more likely than not that the securities offerings will not
ultimately be completed. Underwriting revenue is presented net of related
expenses. As co-manager for registered equity underwriting transactions,
management must estimate the Company’s share of transaction related expenses
incurred by the lead manager in order to recognize revenue. Transaction related
expenses are deducted from the underwriting fee and therefore reduces the
revenue that is recognized as co-manager. Such amounts are adjusted to reflect
actual expenses in the period in which the Company receives the final
settlement, typically 90 days following the closing of the
transaction.
Merger
and acquisition fees and other advisory service revenue are generally earned and
recognized only upon successful completion of the engagement. Unreimbursed
expenses associated with private placement and advisory transactions are
recorded as expenses as incurred.
8
MERRIMAN
HOLDINGS, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS—CONTINUED
(unaudited)
1.
Significant Accounting Policies — continued
Commissions
and Principal Transactions Revenue
Commissions
revenue includes revenue resulting from executing trades in stock
exchange-listed securities, over-the- counter securities and other transactions
as agent for the Company’s clients. Principal transactions consist of a portion
of dealer spreads attributed to the Company’s securities trading activities as
principal in exchange-listed and other securities, and include transactions
derived from activities as a market-maker. Additionally, principal transactions
include gains and losses resulting from market price fluctuations that occur
while holding positions in trading security inventory. Commissions revenue and
related clearing expenses are recorded on a trade-date basis as security
transactions occur. Principal transactions in regular-way trades are recorded on
the trade date, as if they had settled. Profit and loss arising from all
securities and commodities transactions entered into for the account and risk of
the Company are recorded on a trade-date basis.
Stock-based
Compensation Expense
The
Company measures and recognizes compensation expense based on estimated fair
values for all stock-based awards made to employees and directors, including
stock options, restricted stock and warrants. The Company estimates fair value
of stock-based awards on the date of grant using the Black-Scholes
option-pricing model. The value of the portion of the award that is ultimately
expected to vest is recognized as expense in the Company’s consolidated
statements of operations over the requisite service periods. Stock-based
compensation expense recognized in the Company’s consolidated statement of
operations includes compensation expense for stock-based awards granted
(i) prior to, but not yet vested as of December 31, 2005, based on the
grant date fair value, and (ii) subsequent to December 31, 2005.
Compensation expense for all stock-based awards subsequent to December 31,
2005 is recognized using the straight-line single-option method. Because
stock-based compensation expense is based on awards that are ultimately expected
to vest, stock-based compensation expense has been reduced to account for
estimated forfeitures. Forfeitures are estimated at the time of grant and
revised, if necessary, in subsequent periods if actual forfeitures differ from
those estimates.
To
calculate stock-based compensation resulting from the issuance of options, and
warrants, the Company uses the Black-Scholes option pricing model, which is
affected by the Company’s stock price as well as assumptions regarding a number
of subjective variables. These variables include, but are not limited to the
Company’s expected stock price volatility over the term of the awards, and
actual and projected employee stock option exercise behaviors. No tax benefits
were attributed to the stock-based compensation expense because a valuation
allowance was maintained for all net deferred tax assets.
Income
Taxes
The
Company uses the asset and liability method of accounting for income taxes.
Deferred tax assets and liabilities are recognized for the estimated future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases. Deferred tax assets and liabilities are determined based on temporary
differences between the financial statement carrying amounts and the tax basis
of assets and liabilities using enacted tax rates in effect in the years in
which temporary differences are expected to reverse. A valuation allowance is
recorded to reduce deferred tax assets to an amount whose realization is more
likely than not. The effect on deferred tax assets and liabilities of a change
in tax rates is recognized in the consolidated statements of operations in the
period that includes the enactment date.
9
MERRIMAN
HOLDINGS, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS—CONTINUED
(unaudited)
1.
Significant Accounting Policies — continued
Use
of Estimates
The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States requires management to make estimates,
judgments and assumptions that affect the reported amounts of assets,
liabilities, revenue and expenses. Actual results could differ from those
estimates.
Segment
Reporting
The
Company has determined that it has only one operating and reportable segment,
Merriman Capital, Inc. (formerly Merriman Curhan Ford & Co.), for the
purpose of making operating decisions and assessing performance, which comprised
more than 90% of the Company’s consolidated total assets as of September 30,
2010 and December 31, 2009, and consolidated total revenues for the
three months and nine months period ended September 30, 2010 and
2009.
New
Accounting Pronouncements
In
January 2010, the Financial Accounting Standards Board (“FASB”) issued
Accounting Standards Updates (“ASU”) No. 2010-06, "Fair Value Measurements and
Disclosures (Topic 820): Improving Disclosures about Fair Value
Measurements," which amends the disclosure requirements related to
recurring and nonrecurring fair value measurements. The guidance requires new
disclosures on the transfers of assets and liabilities between Level 1 (quoted
prices in active market for identical assets or liabilities) and Level 2
(significant other observable inputs) of the fair value measurement hierarchy,
including the reasons and the timing of the transfers. Additionally, the
guidance requires a roll forward of activities on purchases, sales, issuance,
and settlements of the assets and liabilities measured using significant
unobservable inputs (Level 3 fair value measurements). The guidance also
clarifies the existing disclosure requirements in ASC 820-10 regarding: i) the
level of disaggregation of fair value measurements; and ii) the disclosures
regarding inputs and valuation techniques. The guidance became effective for the
Company with the reporting period beginning January 1, 2010, except for the
disclosure on the roll forward activities for Level 3 fair value measurements,
which will become effective for the Company with the reporting period beginning
January 1, 2011, with early adoption permitted. Comparative
disclosure for earlier reporting periods that ended before initial adoption is
encouraged but not required. Effective April 1, 2010, the Company early adopted
the guidance in ASC 820-10 related to the disclosure on the roll forward
activities for Level 3 fair value measurements. Other than requiring
additional disclosures, the adoption of this new guidance did not have an impact
on our consolidated financial statements. (See Note 5 - Fair Value of Assets and
Liabilities.)
In July
2010, the FASB issued ASU No. 2010-20, “Receivables (Topic
310): Disclosures
about the Credit Quality of Financing Receivables and the Allowance for Credit
Losses” (“ASU 2010-20”). The objective of ASU 2010-20 is to provide
financial statement users with greater transparency about an entity’s allowance
for credit losses and the credit quality of its financing receivables. Under ASU
2010-20, an entity is required to provide disclosures so that financial
statement users can evaluate the nature of the credit risk inherent in the
entity’s portfolio of financing receivables, how that risk is analyzed and
assessed to arrive at the allowance for credit losses, and the changes and
reasons for those changes in the allowance for credit losses. ASU 2010-20 is
applicable to all entities, both public and non-public and is effective for
interim and annual reporting periods ending on or after December 15, 2010.
Comparative disclosure for earlier reporting periods that ended before initial
adoption is encouraged but not required. However, comparative disclosures are
required to be disclosed for those reporting periods ending after initial
adoption. Other than requiring additional disclosures, the adoption of this new
guidance will not have an impact on our consolidated financial
statements.
On July
21, 2010, President Barack Obama signed into law the Dodd-Frank Wall Street
Reform and Consumer Protection Act (Wall Street Reform Act). The Wall
Street Reform Act permanently exempts small public companies with less than $75
million in market capitalization (nonaccelerated filers) from the requirement to
obtain an external audit on the effectiveness of internal financial reporting
controls provided in Section 404(b) of the Sarbanes-Oxley Act of 2002 (SOX).
Section 404(b) requires a registrant to provide an attestation report on
management’s assessment of internal controls over financial reporting by the
registrant’s external auditor. As a result, the Company is not
required and is not planning to obtain an attestation report on management’s
assessment of internal controls over financial reporting from the Company’s
external auditor as of December 31, 2010. Disclosure of management attestations
on internal control over financial reporting under existing Section 404(a)
continues to be required for smaller companies.
10
MERRIMAN
HOLDINGS, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS—CONTINUED
(unaudited)
2.
Liquidity
We
incurred substantial losses and negative cash flows from operations in 2009 and
2008. We had net losses of $5,462,000 and $30,274,000 in 2009 and 2008,
respectively, and negative operating cash flows of $12,648,000 and $24,945,000
for the same respective years. For the nine months ended September 30, 2010, we
also incurred net losses of $6,604,000 and negative operating cash flows of
$2,495,000. Furthermore, as of September 30, 2010, we had an
accumulated deficit of $131,420,000. While we believe our current funds will be
sufficient to enable us to meet our current expenditures, if anticipated
operating results are not achieved, management has the intent and believes it
has the ability to delay or reduce expenditures and/or to raise additional
capital. We plan to raise additional permanent capital to ensure our operating
flexibility and to reduce our cost of underwriting capital. Failure
to generate sufficient cash flows from operations, raise additional capital or
reduce certain discretionary spending could have a material adverse effect on
our ability to achieve our intended business objectives.
3.
Issuance of Notes and Warrants
Convertible
Notes
On May
29, 2009, the Company sold and issued $525,000 in principal amount of Secured
Convertible Promissory Notes (each a “Note,” and collectively, the
“Notes”). On June 1, 2009, the Company issued an additional $100,000
of Notes. The investor group included eight individuals, comprised of
certain officers and employees of the Company as well as an outside
investor. The Notes were issued in a private placement exempt from
registration requirements. There were no underwriters, underwriting
discounts or commissions involved in the transactions. The Notes were
converted into Series D Convertible Preferred Stock on September 8, 2009 (see
Note 4). No Notes remain outstanding as of September 30,
2010.
The Notes
were issued with warrants to purchase additional shares of common stock of the
Company at $3.50 per share on a post-reverse split basis for a number of shares
of common stock equal to 75% of the principal amount of the Notes purchased,
divided by $3.50. The warrants issued in connection with the Notes
remain outstanding as of September 30, 2010 and are exercisable at any
time.
Bridge
Note
Ronald L.
Chez is a member of the Company’s Board of Directors. Prior to Mr.
Chez joining the Board, he received a secured promissory note (the “Chez Note”)
in the principal amount of $500,000 from the Company in July
2009. The Chez Note was issued in a private placement to Mr. Chez as
an accredited investor exempt from registration requirements. The
Chez Note carried an interest rate of 9% per annum, payable on
maturity. The Chez Note was issued with ten-year warrants to purchase
166,113 shares of the Company’s common stock at $4.55 per share on a
post-reverse split basis. The principal and interest accrued under
the Chez Note was converted into Series D Convertible Preferred Stock on
September 8, 2009. As of September 30, 2010, no portion of the Chez
Note remains outstanding. The warrants remain outstanding and may be
exercised at the discretion of the holder. The Chez Note was
personally guaranteed by Messrs. Merriman and Coleman.
As
compensation for their personal guarantees, D. Jonathan Merriman, the Company’s
Chief Executive Officer, and Peter V. Coleman, the Chief Financial Officer, each
originally received ten-year warrants to purchase 83,056 shares of the Company’s
common stock at $4.55 per share on a post-reverse split
basis. Subsequent to issuance, Messrs. Merriman and Coleman each
transferred ownership of 32,618 warrants to Mr. Chez and retained ownership of
41,528 warrants each. The balance of 8,910 warrants was transferred
by each of Messrs. Merriman and Coleman to third parties in connection with
investments in the Company’s Series D Preferred Convertible Stock strategic
transaction of September 2009.
11
MERRIMAN
HOLDINGS, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS—CONTINUED
(unaudited)
3.
Issuance of Notes and Warrants — continued
XL
Settlement Warrants
On
February 12, 2010, the Company settled its lawsuit with XL Specialty Insurance
Company. As part of its settlement agreement dated September 8, 2009
with DGB Investment, Inc., Craig Leipold, Heritage Bank of Commerce, Modern
Bank, Valley Community Bank, AEG Facilities and the Federal Deposit Insurance
Company (“FDIC”) as receiver for Security Pacific Bank (the “Litigants”), the
Company assigned certain rights of recovery to the Litigants. The
settlement was for $5,750,000, of which the Company’s portion, pursuant to the
settlement agreement, was $325,000 less expenses. As a result of the
receipt of the proceeds as insurance recovery on the legal settlement, the
Company was obligated to issue 53,366 warrants to purchase shares of the
Company’s common stock at a price per share of $6.09 on a post-reverse split
basis. As of December 31, 2009, the Company had accrued for the
$325,000 liability that was paid out as warrants during the first quarter of
2010.
As of
September 30, 2010 and December 31, 2009, the Company had 4,229,081 and
4,146,235 of total warrants outstanding, respectively.
Long
Term Subordinated Loan
On
September 29, 2010, the Company borrowed $1,000,000 from nine individual
lenders, all of whom are directors, officers or employees of the Company,
pursuant to a series of Unsecured Promissory Notes. The Unsecured
Promissory Notes are for a term of three years and provide for interest
comprising two components: (i) Six Percent (6.0%) per annum to be paid in cash
monthly (the “Current Interest”); and (ii) Eight (8.0%) per annum to be accrued
and paid in cash upon maturity. Additional consideration was paid to
the lenders at closing comprising a number of shares of common stock of the
Company equal to: (A) 30% of the principal amount lent; divided by (B) $3.01 per
share. The total effective interest on the note is approximately
21.73%. Proceeds were used to supplement underwriting capacity and
working capital for our broker dealer subsidiary, Merriman Capital,
Inc.
The total
proceeds of $1,000,000 raised in the transaction above is accounted for as an
issuance of debt with stocks. The total proceeds of $1,000,000 have
been allocated to these individual instruments based on the relative fair values
of each instrument. Based on such allocation method, the value of the
stocks issued in connection with the Unsecured Promissory Notes was $206,000,
which was recorded as a discount on the debt and applied against the Unsecured
Promissory Notes.
As of
September 30, 2010, the Unsecured Promissory Notes of $794,000, net of $206,000
discount, remain outstanding and is included in subordinated loan to related
parties – long term in the Company’s consolidated statement of financial
condition. The discount on the note is amortized over the term of the
loan using the effective interest method. For the three and
nine-months ended September 30, 2010, the Company incurred less than $500 as
fees on the Unsecured Promissory Notes, which also remain outstanding as of
September 30, 2010 and is included in accrued expenses in the consolidated
statements of financial position.
Temporary
Subordinated Loan
During
the year, the Company issued several loans in the form of temporary subordinated
loans to supplement the Company’s net capital and enable it to underwrite
initial public offerings, in accordance with Rule 15c3-1 of the Securities
Exchange Act of 1934. All temporary subordinated loan transactions
are disclosed separately in Note 13, Related Party Transactions.
12
MERRIMAN
HOLDINGS, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS—CONTINUED
(unaudited)
4. Series
D Convertible Preferred Stock
On
September 8, 2009, the Company issued 23,720,916 shares of Series D Convertible
Preferred Stock along with 5-year warrants to purchase 3,388,702 shares of the
Company’s common stock with an exercise price of $4.55 per share on a
post-reverse split basis. The investor group consisted of 56
individuals and entities, including certain officers, directors and employees of
the Company, as well as outside investors.
The
Series D Convertible Preferred Stock was issued in a private placement exempt
from registration requirements pursuant to Regulation D of the Securities Act of
1933. Effective upon the reverse-stock split as mentioned in Note 1,
seven shares of Series D Convertible Preferred Stock are convertible into one
share of common stock of the Company. The Series D Convertible
Preferred Stock carries a dividend rate of 6% per annum, payable in cash
monthly. For the three and nine months ended September 30, 2010,
total Series D Convertible Preferred Stock dividends were $146,400 and $446,100,
respectively. As of September 30, 2010, the Company has an
outstanding cash dividends payable of $48,800 which are included in
accounts payable in the consolidated statements of financial
position.
The
warrants issued in connection with the Series D Convertible Preferred Stock will
expire five years from the date of the transaction. Holders of the
Series D Convertible Preferred Stock may convert them into shares of the
Company’s common stock at any time in amounts no less than $100,000 unless all
of the shares held by the holder are for a lesser amount. The Series
D Convertible Preferred Stock will automatically convert at the discretion of
the Company upon 10-day notice given when the average closing price of the
Company’s common stock over a 30-day period is at or above $21.00 per share on a
post-reverse split basis and when the average trading volume for the immediately
prior four-week period is 4,285 shares or more, provided that the shares have
been effectively registered with the Securities and Exchange Commission or all
of the Series D Convertible Preferred Stock may be sold under Rule 144 of the
1933 Exchange Act.
The
Company has accounted for this transaction as issuance of convertible preferred
stock with detachable stock warrants. The total value of the Series D
Convertible Preferred Stock strategic transaction was $10,200,000, which
consists of $8,808,000 of cash proceeds and $1,392,000 of noncash proceeds from
conversions of prior notes and legal services. Of the total cash
proceeds, $4,300,000 was used to settle certain legal claims which were in the
aggregate amount of $43,577,000. The remaining cash of $4,508,000 was
used for working capital.
13
MERRIMAN
HOLDINGS, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS—CONTINUED
(unaudited)
5.
Fair Value of Assets and Liabilities
Fair
value is defined as the price at which an asset would sell for or an amount paid
to transfer a liability in an orderly transaction between market participants at
the measurement date (the exit price). Where available, fair value is based on
observable market prices or parameters or derived from such prices or
parameters. Where observable prices or parameters are not available, valuation
models are applied. These valuation techniques involve some level of management
estimation and judgment, the degree of which is dependent on the price
transparency for the instruments or the market on which they are primarily
traded, and the instruments’ complexity. Assets and liabilities recorded at fair
value in the consolidated statements of financial condition are categorized
based upon the level of judgment associated with the inputs used to measure
their fair value.
A
description of the valuation techniques applied to the Company’s major
categories of assets and liabilities measured at fair value on a recurring basis
follows.
Corporate
Equities
Corporate
equities are comprised primarily of exchange-traded equity securities that the
Company takes selective proprietary positions based on expectations of future
market movements and conditions.
Also, as
compensation for investment banking services, the Company frequently receives
common stock of the client as an additional compensation to cash
fees. The common stock is typically issued prior to a registration
statement is effective. The Company classifies these securities as
“not-readily marketable securities” as they are restricted stock and may be
freely traded only upon the effectiveness of a registration statement covering
them or upon the satisfaction of the requirements to qualify under the exemption
to the Federal Securities Act of 1933 provided by SEC Rule 144 (“Rule 144”),
including the requisite holding period. Once a registration statement
covering the securities is declared effective by the SEC or the securities have
satisfied the Rule 144 requirements, the Company classifies them as “marketable
securities.”
Typically,
the common stock is traded on stock exchanges and most are classified as Level 1
securities. The fair value is based on observed closing stock price
at the measurement date.
Certain
securities are traded infrequently and therefore do not have observable prices
based on actively traded markets. These securities are classified as
Level 3 securities, if pricing inputs or adjustments are both significant to the
fair value measurement and unobservable. The Company determines the
fair value of infrequently trading securities using the observed closing price
at measurement date, discounted for the put option value calculated through the
Black-Scholes model or similar valuation techniques. Valuation inputs
used in the Black-Scholes model include interest rate, stock volatility,
expected term and market price of the underlying stock.
Stock
Warrants
Also as
partial compensation for investment banking services, the Company may receive
stock warrants issued by the client. Stock warrants provide their
holders with the right to purchase equity in a company. If the
underlying stock of the warrants is freely tradable, the warrants are considered
to be marketable. If the underlying stock is restricted, subject to a
registration statement or to satisfying the requirements for a Rule 144
exemption, the warrants are considered to be non-marketable. Such
positions are considered illiquid and do not have readily determinable fair
values, and therefore require significant management judgment or
estimation.
The fair
value of the stock warrants is determined using the Black-Scholes model or
similar valuation techniques. Valuation inputs used in the Black-Scholes model
include interest rate, stock volatility, expected term and market price of the
underlying stock. As these require significant management assumptions, they are
classified as Level 3 securities.
14
MERRIMAN
HOLDINGS, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS—CONTINUED
(unaudited)
5.
Fair Value of Assets and Liabilities – continued
Underwriters’
Purchase Options
The
Company may receive partial compensation for its investment banking services
also in the form underwriters’ purchase options (“UPOs”). UPOs are
identical to warrants other than with respect to the securities for which they
are exercisable. UPOs grant the holder the right to purchase a “bundle” of
securities, including common stock and warrants to purchase common
stock. UPOs grant the right to purchase securities of companies for
which the Company acted as an underwriter to account for any overallotment of
these securities in a public offering. Such positions are considered
illiquid and do not have readily determinable fair values, and therefore require
significant management judgment or estimation.
The fair
value of the UPO is determined using the Black-Scholes model or similar
technique, applied in two stages. The first stage is to determine the
value of the warrants contained within the “bundle” which is then added to the
fair value of the stock within the bundle. Once the fair value of the
underlying “bundle” is established, the Black-Scholes model is used again to
estimate a value for the UPO. The fair value of the “bundle” as
estimated by Black-Scholes in the first stage is used instead of the price of
the underlying stock as one of the inputs in the second stage of the
Black-Scholes. The use of the valuation techniques requires
significant management assumptions and therefore UPOs are classified as Level 3
securities.
Preferred
Stock
Preferred
stock represents preferred equity in companies. The preferred stock
owned by the Company is convertible at the Company’s discretion. For these
securities, the Company uses the exchange-quoted price of the common stock
equivalents to value the securities. They are classified within Level 2 or Level
3 of the fair value hierarchy depending on the availability of an observable
stock price on actively traded markets.
Securities
Sold, Not Yet Purchased
Securities
sold, not yet purchased are comprised primarily of exchange-traded equity
securities that the Company sold short based on expectations of future market
movements and conditions. They are generally valued based on quoted prices from
the exchange. To the extent these securities are actively traded, valuation
adjustments are not applied and they are categorized in Level 1 liability of the
fair value hierarchy.
15
MERRIMAN
HOLDINGS, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS—CONTINUED
(unaudited)
5.
Fair Value of Assets and Liabilities — continued
Assets
and liabilities measured at fair value on a recurring basis are summarized
below:
16
MERRIMAN
HOLDINGS, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS—CONTINUED
(unaudited)
5.
Fair Value of Assets and Liabilities — continued
The
following summarizes the change in carrying values associated with Level 3
financial instruments for the nine months ended September 30, 2010 and
2009:
17
MERRIMAN
HOLDINGS, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS—CONTINUED
(unaudited)
5.
Fair Value of Assets and Liabilities — continued
The
following summarizes the change in carrying values associated with Level 3
financial instruments for the three months ended September 30, 2010 and
2009:
18
MERRIMAN HOLDINGS, INC. NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS—CONTINUED
(unaudited)
5.
Fair Value of Assets and Liabilities — continued
The
amounts of unrealized losses for the nine months ended September 30, 2010
included in the table above are all attributable to those assets held as of
September 30, 2010. Net gains and losses (both realized and unrealized) for
Level 3 financial assets are a component of principal transactions in the
consolidated statements of operations.
Transfers
within the Fair Value Hierarchy
We assess
our financial instruments on a quarterly basis to determine the appropriate
classification within the fair value hierarchy, as defined by ASC Topic 820.
Transfers between fair value classifications occur when there are changes in
pricing observability levels. Transfers of financial instruments among the
levels occur at the end of the reporting period. There were no significant
transfers between our Level 1 and Level 2 classified instruments during the
nine months ended September 30, 2010.
6.
Stock-Based Compensation Expense
Stock
Options
As
of September 30, 2010, there were 2,155,915 shares authorized for issuance under
the Option Plans, and 87,551 shares authorized for issuance outside of the
Option Plans. As of September 30, 2010, 517,398 shares were available for future
option grants under the Option Plans. There were no shares available for future
option grants outside of the Option Plans. Compensation expense for stock
options during the three and nine months ended September 30, 2010 was $258,000
and $1,254,000, respectively. Of the total stock compensation expense
for the nine months ended September 30, 2010, $138,000 was incurred due to
acceleration of vesting terms of stock options of three employees upon their
termination. Compensation expense for stock options during the
three months and nine months ended September 30, 2009 was $119,000 and
$329,000, respectively.
The
following table is a summary of the Company’s stock option activity for the nine
months ended September 30, 2010:
19
MERRIMAN
HOLDINGS, INC.
NOTES
TO CONSOLIDATED FINANCIAL STATEMENTS—CONTINUED
(unaudited)
6. Stock-based Compensation Expense —
continued
The
following table summarizes information with respect to stock options vested and
outstanding at September 30, 2010:
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