**SECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

----

 

**FORM 10-Q**

 

**(Markone)**

 

| **ý** | **QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE  SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED MARCH 31, 2002** |
|------------|--------------------------------------------------------------------------------------------------------------------------------------------|

 

**or**

 

| **o** | **TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES  EXCHANGE ACT OF 1934** |
|-------|-----------------------------------------------------------------------------------------------|

 

**Commissionfile No. 0-30066**

 

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| **SANDERS  MORRIS HARRIS GROUP INC.**                          |
|----------------------------------------------------------------|
| (Exact name of  registrant as specified in its charter)        |
|                                                           |   |   |
| **Texas**                                                      |   | **76-0583569** |
| (State or other jurisdiction of incorporation or organization) |   | (I.R.S. Employer Identification No.) |
|                                                           |   |   |
| **600 Travis, Suite 3000**                                     |
| **Houston, Texas 77002**                                       |
| (Address of principal  executive office)                       |
|                                                           |   |   |
| **(713) 993-4610**                                             |
| (Registrant’s telephone number, including area code)      |

 

Indicate by checkmark whether the registrant:  (1) hasfiled all reports required to be filed by Section 13 or 15(d) of the SecuritiesExchange Act of 1934 during the preceding 12 months (or for such shorter periodthat the registrant was required to file such reports), and (2) has been subjectto such filing requirements for the past 90 days.   YES  ý         NO o

 

The number of shares ofthe registrant’s Common Stock, par value $0.01 per share, outstanding as of May5, 2002, was 16,595,022.

 

 

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**SANDERS MORRIS HARRIS GROUP INC. ANDSUBSIDIARIES**

 

# **INDEX**

 
| **PART I.    CONDENSED CONSOLIDATED FINANCIAL  INFORMATION** |
|-----------------------------------------------------------------------------|
|                                                                        |
| Item  1.                                                                    | Financial  Statements |
|                                                                        |   |
|                                                                        | Condensed  Consolidated Balance Sheet as of March 31, 2002 and December 31, 2001  (unaudited) |
|                                                                        |   |
|                                                                        | Condensed  Consolidated Statement of Operations for the Three Months Ended March 31,  2002 and 2001 (unaudited) |
|                                                                        |   |
|                                                                        | Condensed  Consolidated Statement of Shareholders’ Equity for the Three Months Ended  March 31, 2002 (unaudited) |
|                                                                        |   |
|                                                                        | Condensed  Consolidated Statement of Cash Flows for the Three Months Ended March 31,  2002 and 2001 (unaudited) |
|                                                                        |   |
|                                                                        | Notes  to Condensed Consolidated Financial Statements (unaudited) |
|                                                                        |   |
| Item  2.                                                                    | Management’s  Discussion and Analysis of Financial Condition and Results of Operations |
|                                                                        |   |
| Item  3.                                                                    | Quantitative  and Qualitative Disclosures About Market Risks |
|                                                                        |
| **PART II.    OTHER INFORMATION**                            |
|                                                                        |
| Item 1.                                                                     | Legal Proceedings |
|                                                                        |   |
| Item 6.                                                                     | Exhibits and  Reports on Form 8–K |
|                                                                        |   |

 

1

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**PART I.****FINANCIAL INFORMATION**

** **

**Item 1.*****Financial Statements***

* *

**SANDERS MORRIS HARRIS GROUP INC. AND SUBSIDIARIES**

**CONDENSED CONSOLIDATED BALANCE SHEET**

(inthousands, except share and per share amounts)

(unaudited)

 
|                                                                                                                  |   | **March 31,  2002** |    | **December  31,  2001** |   |
|-----------------------------------------------------------------------------------------------------------------------|--------|---------------------|---------|-------------------------|--------|
|                                                                                                                  |   |                |    |
| **ASSETS**                                                                                                            |   |                |    |                    |   |
| Cash and cash equivalents                                                                                             |   | $                   | 31,493  |                    | $      | 30,410 |   |
| Receivables, net of  allowance of $350 and $285, respectively                                                         |   |                |    |                    |   |
| Broker-dealers                                                                                                        |   | 1,940               |    | 540                     |   |
| Customers                                                                                                             |   | 2,035               |    | 1,918                   |   |
| Related parties                                                                                                       |   | 5,378               |    | 6,688                   |   |
| Other                                                                                                                 |   | 372                 |    | 631                     |   |
| Deposits with clearing  brokers                                                                                       |   | 250                 |    | 250                     |   |
| Securities owned                                                                                                      |   | 13,135              |    | 12,153                  |   |
| Securities available for  sale                                                                                        |   | 2,485               |    | 1,691                   |   |
| Intangible assets, net of  accumulated amortization of $4,268                                                         |   | 47,673              |    | 47,601                  |   |
| Furniture and equipment,  net                                                                                         |   | 2,124               |    | 1,924                   |   |
| Deferred income taxes, net                                                                                            |   | 260                 |    | 828                     |   |
| Other assets                                                                                                          |   | 1,209               |    | 675                     |   |
| Total assets                                                                                                          |   | $                   | 108,354 |                    | $      | 105,309 |   |
|                                                                                                                  |   |                |    |                    |   |
| **LIABILITIES AND SHAREHOLDERS’ EQUITY**                                                                         |   |                |    |                    |   |
| Liabilities:                                                                                                          |   |                |    |                    |   |
| Accounts payable and  accrued liabilities                                                                             |   | $                   | 9,759   |                    | $      | 8,538 |   |
| Payable to clearing  broker-dealers                                                                                   |   | 66                  |    | 63                      |   |
| Securities sold, not yet  purchased                                                                                   |   | 94                  |    | 122                     |   |
| Other liabilities                                                                                                     |   | 234                 |    | 252                     |   |
| Total liabilities                                                                                                     |   | 10,153              |    | 8,975                   |   |
| Commitments and  contingencies                                                                                        |   |                |    |                    |   |
|                                                                                                                  |   |                |    |                    |   |
| Minority interests                                                                                                    |   | 67                  |    | 51                      |   |
|                                                                                                                  |   |                |    |                    |   |
| Shareholders’ equity:                                                                                            |   |                |    |                    |   |
| Preferred stock, $0.10 par  value; 10,000,000 shares authorized; no shares issued and outstanding                     |   | —              |    | —                  |   |
| Common stock, $0.01 par  value; 100,000,000 shares authorized; 17,238,427 and 17,009,402 shares  issued, respectively |   | 172                 |    | 170                     |   |
| Additional paid-in capital                                                                                            |   | 109,945             |    | 109,159                 |   |
| Receivables for shares  issued                                                                                        |   | (630                | )       | (541                    | )      |
| Accumulated deficit                                                                                                   |   | (6,797              | )       | (8,766                  | )      |
| Accumulated other  comprehensive income (loss)                                                                        |   | 14                  |    | (57                     | )      |
| Unearned compensation                                                                                                 |   | (1,593              | )       | (1,097                  | )      |
| Treasury stock at cost,  670,780 and 597,038 shares, respectively                                                     |   | (2,977              | )       | (2,585                  | )      |
| Total shareholders’ equity                                                                                       |   | 98,134              |    | 96,283                  |   |
| Total liabilities and  shareholders’ equity                                                                      |   | $                   | 108,354 |                    | $      | 105,309 |   |

 

Theaccompanying notes are an integral part of the condensed consolidated financialstatements.

 

2

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**SANDERS MORRIS HARRIS GROUP INC. AND SUBSIDIARIES**

**CONDENSEDCONSOLIDATED STATEMENT OF OPERATIONS**

(inthousands, except share and per share amounts)

(unaudited)

 
|                                                                                                                            |   | **Three  Months Ended  March 31,** |   |
|---------------------------------------------------------------------------------------------------------------------------------|--------|------------------------------------|--------|
|                                                                                                                            |   |                               |
|                                                                                                                            |   | **2002**                           |   | **2001** |   |
| Revenues:                                                                                                                       |   |                               |   |   |   |
| Commissions                                                                                                                     |   | $                                  | 9,660  |   | $ | 6,611 |   |
| Principal transactions                                                                                                          |   | 4,783                              |   | 1,994 |   |
| Investment banking                                                                                                              |   | 3,675                              |   | 4,025 |   |
| Fiduciary, custodial and  advisory fees                                                                                         |   | 1,713                              |   | 1,650 |   |
| Interest and dividends                                                                                                          |   | 427                                |   | 711 |   |
| Other income                                                                                                                    |   | 565                                |   | 361 |   |
| Total revenues                                                                                                                  |   | 20,823                             |   | 15,352 |   |
| Expenses:                                                                                                                       |   |                               |   |   |   |
| Employee compensation and  benefits                                                                                             |   | 13,423                             |   | 8,818 |   |
| Floor brokerage, exchange  and clearance fees                                                                                   |   | 923                                |   | 871 |   |
| Communications and data  processing                                                                                             |   | 1,005                              |   | 868 |   |
| Occupancy                                                                                                                       |   | 1,045                              |   | 871 |   |
| Amortization of intangible  assets                                                                                              |   | —                             |   | 502 |   |
| Other general and  administrative                                                                                               |   | 1,903                              |   | 1,375 |   |
| Total expenses                                                                                                                  |   | 18,299                             |   | 13,305 |   |
| Income from continuing  operations before equity in income (loss) of limited partnerships, income  taxes and minority interests |   | 2,524                              |   | 2,047 |   |
| Equity in income (loss) of  limited partnerships                                                                                |   | 623                                |   | (175 | ) |
|                                                                                                                            |   | 3,147                              |   | 1,872 |   |
| Provision for income taxes                                                                                                      |   | (1,162                             | )      | (1,010 | ) |
| Minority interests in net  (income) loss of consolidated companies                                                              |   | (16                                | )      | 40 |   |
|                                                                                                                            |   |                               |   |   |   |
| Income from continuing  operations                                                                                              |   | 1,969                              |   | 902 |   |
| Loss from discontinued  operations, net of tax                                                                                  |   | —                             |   | — |   |
|                                                                                                                            |   |                               |   |   |   |
| Net income                                                                                                                      |   | $                                  | 1,969  |   | $ | 902 |   |
|                                                                                                                            |   |                               |   |   |   |
| Earnings per share:                                                                                                             |   |                               |   |   |   |
| Basic:                                                                                                                          |   |                               |   |   |   |
| From continuing operations                                                                                                      |   | $                                  | 0.12   |   | $ | 0.06 |   |
| From discontinued operations                                                                                                    |   | —                             |   | — |   |
| Basic earnings per share                                                                                                        |   | $                                  | 0.12   |   | $ | 0.06 |   |
| Diluted:                                                                                                                        |   |                               |   |   |   |
| From continuing operations                                                                                                      |   | $                                  | 0.12   |   | $ | 0.06 |   |
| From discontinued  operations                                                                                                   |   | —                             |   | — |   |
| Diluted earnings per share                                                                                                      |   | $                                  | 0.12   |   | $ | 0.06 |   |
| Weighted average common  shares outstanding:                                                                                    |   |                               |   |   |   |
| Basic                                                                                                                           |   | 16,468,579                         |   | 15,238,876 |   |
| Diluted                                                                                                                         |   | 16,604,213                         |   | 15,389,709 |   |

 

Theaccompanying notes are an integral part of the condensed consolidated financialstatements.

 

3

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**SANDERSMORRIS HARRIS GROUP INC. AND SUBSIDIARIES**

**CONSOLIDATEDSTATEMENT OF SHAREHOLDERS’ EQUITY**

**For thethree months ended March 31, 2002**

(in thousands except shares)

(unaudited)

 
|                                                                    |   | **Amounts** |       |       |   | **Shares** |           |
|-------------------------------------------------------------------------|--------|-------------|------------|------------|--------|------------|----------------|
|                                                                    |   |        |       |       |   |       |           |
| **Common stock**                                                        |   |        |       |       |   |       |           |
| Balance, beginning of year                                              |   | $           | 170        |       |   |       | 17,009,402     |   |
| Stock issued pursuant to  employee benefit plan                         |   | 2           |       |       |   | 229,025    |           |
| Balance, end of period                                                  |   | 172         |       |       |   | 17,238,427 |           |
| **Additional  paid-in capital**                                         |   |        |       |       |   |       |           |
| Balance, beginning of year                                              |   | $           | 109,159    |       |   |       |           |   |
| Stock issued pursuant to  employee benefit plan                         |   | 1,205       |       |       |   |       |           |
| Dividends declared                                                      |   | (419        | )          |       |   |       |           |
| Balance, end of period                                                  |   | 109,945     |       |       |   |       |           |
| **Receivables  for shares issued**                                      |   |        |       |       |   |       |           |
| Balance, beginning of year                                              |   | $           | (541       | )          |   |       |           |   |
| Collection of receivable                                                |   | 48          |       |       |   |       |           |
| Issuance of restricted  stock                                           |   | (234        | )          |       |   |       |           |
| Amortization of notes  receivable                                       |   | 97          |       |       |   |       |           |
| Balance, end of period                                                  |   | (630        | )          |       |   |       |           |
| **Accumulated  deficit**                                                |   |        |       |       |   |       |           |
| Balance, beginning of year                                              |   | $           | (8,766     | )          |   |       |           |   |
| Net income                                                              |   | 1,969       |       | 1,969      |   |       |           |
| Balance, end of period                                                  |   | (6,797      | )          | 1,969      |   |       |           |
| **Accumulated  other comprehensive income (loss)**                      |   |        |       |       |   |       |           |
| Balance, beginning of year                                              |   | $           | (57        | )          |   |       |           |   |
| Net change in unrealized  appreciation on securities available for sale |   | 108         |       | 108        |   |       |           |
| Income tax provision on  change                                         |   | (37         | )          | (37        | )      |       |           |
| Balance, end of period                                                  |   | 14          |       | 71         |   |       |           |
| **Comprehensive  income**                                               |   |        |       | 2,040      |   |       |           |
| **Unearned  compensation**                                              |   |        |       |       |   |       |           |
| Balance, beginning of year                                              |   | $           | (1,097     | )          |   |       |           |   |
| Net issuance of restricted  stock                                       |   | (605        | )          |       |   |       |           |
| Amortization of unearned  compensation                                  |   | 109         |       |       |   |       |           |
| Balance, end of period                                                  |   | (1,593      | )          |       |   |       |           |
| **Treasury  stock**                                                     |   |        |       |       |   |       |           |
| Balance, beginning of year                                              |   | $           | (2,585     | )          |   |       | (597,038       | ) |
| Acquisition of treasury  stock                                          |   | (555        | )          |       |   | (111,018   | )              |
| Issuance of treasury stock                                              |   | 163         |       |       |   | 37,276     |           |
| Balance, end of period                                                  |   | (2,977      | )          |       |   | (670,780   | )              |
| **Total  shareholders’ equity and common shares outstanding**      |   | **$**       | **98,134** | ** ** |   |       | **16,567,647** | ** ** |

 

Theaccompanying notes are an integral part of these consolidated financialstatements.

 

4

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**SANDERSMORRIS HARRIS GROUP INC. AND SUBSIDIARIES**

**CONDENSEDCONSOLIDATED STATEMENT OF CASH FLOWS**

**For thethree months ended March 31, 2002 and 2001**

(in thousands)

(unaudited)

 
|                                                                                         |   | **2002** |   | **2001** |   |
|----------------------------------------------------------------------------------------------|--------|----------|--------|----------|--------|
| CASH FLOWS FROM  OPERATING ACTIVITIES:                                                       |   |     |   |     |   |
| Net income                                                                                   |   | $        | 1,969  |     | $      | 902 |   |
| Adjustments to  reconcile net income to net cash provided by (used in) operating activities: |   |     |   |     |   |
| Realized gain on  securities available for sale                                              |   | (4       | )      | —   |   |
| Depreciation                                                                                 |   | 199      |   | 193      |   |
| Amortization of  intangible assets                                                           |   | —   |   | 502      |   |
| Provision for  bad debts                                                                     |   | 183      |   | 3        |   |
| Compensation  expense related to amortization of notes receivable and unearned compensation  |   | 206      |   | 2        |   |
| Deferred income  taxes                                                                       |   | 532      |   | —   |   |
| Minority  interests in net income (loss) of consolidated companies                           |   | 16       |   | (40      | )      |
| Changes in  operating assets and liabilities:                                                |   |     |   |     |   |
| Increase in  receivables                                                                     |   | (131     | )      | (1,288   | )      |
| Increase in  securities owned                                                                |   | (982     | )      | (1,538   | )      |
| Increase in  other assets                                                                    |   | (536     | )      | (227     | )      |
| Decrease in  securities sold, not yet purchased                                              |   | (28      | )      | (495     | )      |
| Decrease in  other liabilities                                                               |   | (18      | )      | (1,505   | )      |
| Increase (decrease)  in payable to clearing broker-dealers                                   |   | 3        |   | (16      | )      |
| Increase  (decrease) in accounts payable and accrued liabilities                             |   | 731      |   | (577     | )      |
| Net cash  provided by (used in operating activities)                                         |   | 2,140    |   | (4,084   | )      |
| CASH FLOWS FROM  INVESTING ACTIVITIES:                                                       |   |     |   |     |   |
| Capital  expenditures                                                                        |   | (399     | )      | (234     | )      |
| Proceeds from  sale of assets                                                                |   | —   |   | 14       |   |
| Purchase of  securities available for sale                                                   |   | (859     | )      | (429     | )      |
| Proceeds from  sales and maturities of securities available for sale                         |   | 178      |   | 574      |   |
| Net cash used in  investing activities                                                       |   | (1,080   | )      | (75      | )      |
| CASH FLOWS FROM  FINANCING ACTIVITIES:                                                       |   |     |   |     |   |
| Purchase of  treasury stock                                                                  |   | (555     | )      | (517     | )      |
| Collection of  receivable for shares issued                                                  |   | 48       |   | —   |   |
| Proceeds from  shares issued                                                                 |   | 530      |   | 233      |   |
| Net cash  provided by (used in) financing activities                                         |   | 23       |   | (284     | )      |
| Net increase  (decrease) in cash and cash equivalents                                        |   | 1,083    |   | (4,443   | )      |
| CASH AND CASH  EQUIVALENTS AT BEGINNING OF PERIOD                                            |   | 30,410   |   | 25,059   |   |
| CASH AND CASH  EQUIVALENTS AT END OF PERIOD                                                  |   | $        | 31,493 |     | $      | 20,616 |   |
| Noncash  investing and financing activities:                                                 |   |     |   |     |   |
| Cash (paid)  refunded for income taxes                                                       |   | $        | (505   | )        | $      | 12 |   |

 

The accompanying notesare an integral part of the condensed consolidated financial statements.

 

5

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**SandersMorris Harris Group Inc. And Subsidiaries**

**Notes toCondensed Consolidated Financial Statements**

**(unaudited)**

 

**1.     BASIS OF PRESENTATION**

 

###### *Nature of Operations*

 

Through itsoperating subsidiaries Pinnacle Management & Trust Co. (“PMT”), SandersMorris Harris Inc. (“SMH”), SMH Capital Advisors (“SMCA”), and KissingerFinancial Services, Inc. (“Kissinger”), the Company provides a broad range offinancial services, including institutional and retail brokerage, investmentbanking, merchant banking, trust related services, investment management and financialplanning. The Company serves a diverse group of institutional, corporate andindividual clients.

 

The Company mergedwith and acquired its operating subsidiaries in 2001, 2000 and 1999.  The acquisitions were accounted for usingthe purchase method.

 

###### *Consolidation*

 

The unauditedcondensed consolidated financial statements of the Company include the accountsof its wholly owned subsidiaries. All material intercompany transactions andbalances have been eliminated in consolidation.

 

In management’s opinion,the unaudited condensed consolidated financial statements include alladjustments necessary for a fair presentation of our financial position atMarch 31, 2002, our results of operations for the three months ended March 31,2002 and 2001, and our cash flows for the three months ended March 31,2002  and 2001.  All the adjustments are of a normalrecurring nature. Interim results are not necessarily indicative of results fora full year.

 

These financialstatements and notes should be read in conjunction with the Company’s annualreport on Form 10-K for the year ended December 31, 2001.

 

###### *Effects of RecentlyIssued Accounting Standards*

 

SFAS No. 141 entitled “*Business Combinations”* was issued in June 2001 and becameeffective July 1, 2001.  SFAS No. 141requires that all business combinations be accounted for using the purchasemethod of accounting, which requires that acquisitions be recorded at fairvalue as of the date of acquisition. SFAS No. 142 entitled *“Goodwill andOther**Intangible Assets”*was also issued in June 2001, in concert with SFAS No. 141.  SFAS No. 142 became effective for us onJanuary 1, 2002.  As a result, theCompany ceased all goodwill amortization and did not recognize $561,000 ofgoodwill amortization expense that would have been recognized in the firstquarter of 2002 under the previous accounting standards.

 

6

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The following table presents the impact of SFAS 142 onnet income and net income per share had the standard been in effect for thefirst quarter of 2001 (in thousands):

 

|                                     |   | **Three Months Ended** |   |
|------------------------------------------|--------|------------------------|--------|
|                                     |   | **March 31, 2002**     |   | **March 31, 2001** |   |
| Reported net  income                     |   | 1,969                  |   | 902 |   |
| Adjustment:                              |   |                   |   |   |   |
| Amortization of  goodwill                |   | —                 |   | 502 |   |
| Adjusted net  income                     |   | 1,969                  |   | 1,404 |   |
|                                     |   |                   |   |   |   |
| Reported net  income per share - basic   |   | $                      | 0.12   |   | $ | 0.06 |   |
| Adjusted net  income per share - basic   |   | $                      | 0.12   |   | $ | 0.09 |   |
|                                     |   |                   |   |   |   |
| Reported net  income per share - diluted |   | $                      | 0.12   |   | $ | 0.06 |   |
| Adjusted net  income per share - diluted |   | $                      | 0.12   |   | $ | 0.09 |   |

 

SFAS 142 requires the completion of a transitionalimpairment test within six months of adoption, with any impairments treated asa cumulative effect of a change in accounting principle as of the date ofadoption.  The Company will complete thetransitional impairment test by the end of the second quarter of fiscal2002.  Thereafter, SMHG will be requiredto perform goodwill impairment tests on at least an annual basis.  There can be no assurance that futuregoodwill impairment tests will not result in a charge to earnings.

 

As of the date ofadoption, the Company had unamortized goodwill in the amount of $47.6million.  Amortization expense relatedto goodwill was $2.2 million for the year ended December 31, 2001 and $502,000for the three months ended March 31, 2001.

 

*Reclassifications*

 

Certain reclassificationshave been made to the 2001 condensed consolidated financial statements toconform them with the 2002 presentation.  The reclassifications had no effect on accumulated deficit, results of operationsor cash flows as previously reported.

 

**2.     ACQUISITIONS**

 

On April 5, 2001, the Company acquired Kissinger, aBaltimore, Maryland based financial planning firm.  The former owner of Kissinger received a total of 600,000 of theCompany’s common shares.  Theacquisition was accounted for as a purchase and, accordingly the financialinformation of Kissinger has been included in the Company’s consolidatedfinancial statements from April 5, 2001. The purchase price of approximately $3.4 million exceeded the fair valueof identifiable net assets acquired by approximately $3.3 million, which hasbeen recorded as goodwill and subject to SFAS No. 142, is no longer beingamortized.

 

7

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The following summarized unaudited financial informationpresents the three months ended March 31, 2001 as if the above transactionoccurred on January 1, 2001 compared to the actual results for the three monthsended March 31, 2002:

 
|                                                             |   | **Three Months Ended March 31,**             |   |
|------------------------------------------------------------------|--------|----------------------------------------------|--------|
|                                                             |   | **Actual 2002**                              |   | **Proforma 2001** |   |
|                                                             |   | **(in thousands, except per share amounts)** |   |
|                                                             |   |                                         |   |   |   |
| Revenues                                                         |   | $                                            | 20,823 |   | $ | 16,017 |   |
| Income from  continuing operations                               |   | 1,969                                        |   | 902 |   |
| Basic and  diluted earnings per share from continuing operations |   | $                                            | 0.12   |   | $ | 0.06 |   |

 

These unaudited pro forma amounts are derived from thehistorical financial information of the acquired business and reflectadjustments for amortization of intangible assets for 2001 and for incometaxes.  The unaudited pro formafinancial information does not necessarily represent results that would haveoccurred if the acquisition had taken place on the basis assumed above, nor arethey indicative of the results of future combined operations.

 

During January 2002, the former institutional equityprofessionals of Sutro and Co. (the Juda Group) joined the Company.  Tom Juda, who headed the Juda Group, wasnamed to lead the institutional equity division of SMH.  The Company agreed to reimburse Sutro foroffice and equipment expenses related to the Juda Group.  SMH committed to pay Mr. Juda certain annualminimum levels of compensation for 2002 through 2005, provided Mr. Juda remainsas an employee of SMH.  Additionally,under its Incentive Plan, the Company issued to Mr. Juda an aggregate of357,909 shares of SMHG common stock at a total purchase price that waseffectively at a discount of 33 1/3% to the closing sales price of the stock onthe Nasdaq National Market. Approximately one-third of these shares vest 50% after one year and 25%after the second and third years.  Thediscount totaling $568,000 has been recorded as unearned compensation, and isbeing amortized to expense over the three year vesting period.

 

8

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**3.     SECURITIES OWNED AND SECURITIES SOLD, NOTYET PURCHASED**

 

Securities owned and securities sold, not yetpurchased as of March 31, 2002 were as follows:

 
| ** **                                 |   | **Owned**          |   | **Sold, Not Yet  Purchased** |   |
|--------------------------------------------|--------|--------------------|--------|------------------------------|--------|
|                                       |   | **(in thousands)** |   |
| Marketable:                                |   |               |   |                         |   |
| Corporate stocks  (cost $1,269)            |   | $                  | 707    |                         | $      | (94 | ) |
|                                       |   |               |   |                         |   |
| Not readily  marketable:                   |   |               |   |                         |   |
| Partnerships                               |   | 7,545              |   |                         |   |
| Corporate stocks  and warrants (cost $647) |   | 4,883              |   | —                       |   |
|                                       |   | $                  | 13,135 |                         | $      | (94 | ) |

 

Securities not readily marketable include investmentsecurities (a) for which there is no market on a securities exchange or noindependent publicly quoted market, (b) that cannot be publicly offered or soldunless registration has been effected under the Securities Act of 1933, asamended, or (c) that cannot be offered or sold because of other arrangements,restrictions, or conditions applicable to the securities or to the Company.

 

Securities not readily marketable consist ofinvestments in limited partnerships, equities, options and warrants.  The investments in limited partnerships areaccounted for using the equity method, which approximates fair value, andprincipally consist of Environmental Opportunities Fund, L.P., EnvironmentalOpportunities Fund II, L.P., Environmental Opportunities Fund II(Institutional), L.P., Corporate Opportunities Fund, L.P., CorporateOpportunities Fund (Institutional), L.P., Sanders Opportunity Fund, L.P.,Sanders Opportunity Fund (Institutional), L.P., Tactical Opportunities HighYield Fund, L.P., and Life Sciences Opportunity Fund, L.P.

 

**4.     SECURITIES AVAILABLE FOR SALE**

 

Securities available for sale at March 31, 2002 were as follows:

 
|                                    |      | **Amortized  Cost** |       | **Gross Unrealized** |   | **Estimated  Fair Value** |   |
|-----------------------------------------|-----------|---------------------|------------|----------------------|--------|---------------------------|--------|
|                                    | **Gains** |                | **Losses** |                 |
|                                    |      | **(in thousands)**  |       |
|                                    |      |                |       |                 |   |                      |   |   |   |
| U.S. Government  and agency obligations |      | $                   | 300        |                 | $      | 1                         |   | $ | (10 | ) | $ | 291 |   |
| Corporate bonds                         |      | 100                 |       | —               |   | (2                        | )      | 98 |   |
| Marketable  equity securities           |      | 2,067               |       | 120                  |   | (91                       | )      | 2,096 |   |
| Total                                   |      | $                   | 2,467      |                 | $      | 121                       |   | $ | (103 | ) | $ | 2,485 |   |

 

9

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The contractual maturities of debt securitiesavailable for sale at March 31, 2002 were as follows:

 

| Due after 1 year  through 5 years   |   | $   | 239    |   |
|-------------------------------------|--------|-----|--------|--------|
| Due after 5  years through 10 years |   | 150 |   |
|                                |   | $   | 389    |   |

 

Gross gains on sales ofsecurities available for sale were $7,000 and $96,000 for the three monthsended March 31, 2002 and 2001, respectively. Gross realized losses, on securities available for sale were $3,000 and$96,000 for the three months ended March 31, 2002 and 2001, respectively.

 

**5.     INCOME TAXES**

 

The differences between the effective tax ratereflected in the income tax provision for continuing operations and thestatutory federal rate were as follows:

 
|                                    |   | **Three Months Ended  March 31,** |   |
|-----------------------------------------|--------|-----------------------------------|--------|
|                                    |   |                              |
|                                    |   | **2002**                          |   | **2001** |   |
|                                    |   | **(in thousands)**                |
|                                    |   |                              |   |   |   |
| Tax computed  using the statutory rate  |   | $                                 | 1,070  |   | $ | 636 |   |
| Nondeductible  amortization of goodwill |   | —                            |   | 171 |   |
| State income  taxes and other           |   | 92                                |   | 203 |   |
| Total                                   |   | $                                 | 1,162  |   | $ | 1,010 |   |

 

The Company’s effective tax rate was 37% and 54% forthe three months ended March 31,  2002and 2001, respectively.

### ** **

**6.     COMMITMENTS AND CONTINGENCIES**

 

There were no firm underwriting commitments open atMarch 31, 2002.

 

The Company and its subsidiaries have obligationsunder operating leases that expire by 2007 with initial noncancelable terms inexcess of one year.

 

The Company is a party to various legal proceedingsthat are of an ordinary or routine nature incidental to its operations.  The Company believes it has adequatelyreserved for such litigation matters and that they will not have a materialadverse effect on the Company’s consolidated financial condition, results ofoperations, or cash flows.

 

The Company has uncommitted financing arrangementswith clearing brokers who finance customer accounts, certain broker-dealerbalances and firm trading positions. Although these customer accounts and broker-dealer balances are notreflected on the consolidated balance sheet for financial accounting reportingpurposes, the Company has generally agreed to indemnify these clearing brokersfor losses they may sustain in connection with the accounts and therefore,retains risk on these accounts.  The Companyis required to maintain certain cash or securities on deposit with its clearingbrokers.

 

10

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**7.     EARNINGS PER COMMON SHARE**

 

Basic and dilutedearnings per–share computations for the periods indicated were asfollows:

 

 
|                                                                                              |   | **Three Months Ended March 31,**                       |        |
|---------------------------------------------------------------------------------------------------|--------|--------------------------------------------------------|-------------|
|                                                                                              |   | **2002**                                               |        | **2001** |   |
|                                                                                              |   | **(in thousands, except share and per share amounts)** |        |
| Computation of  basic and diluted earnings per common share for the three months ended March  31: |   |                                                   |        |   |   |
| Net income                                                                                        |   | $                                                      |  1,969 |   | $ |  902 |   |
| Weighted average  number of common shares outstanding                                             |   | 16,468,579                                             |        | 15,238,876 |   |
| Common shares  issuable under stock option plan                                                   |   | 1,065,348                                              |        | 986,248 |   |
| Less shares  assumed repurchased with proceeds                                                    |   | (929,714                                               | )           | (835,415 | ) |
| Weighted average  common shares outstanding                                                       |   | 16,604,213                                             |        | 15,389,709 |   |
| Basic earnings  per common share                                                                  |   | $                                                      |  0.12  |   | $ |  0.06 |   |
| Diluted earnings  per common share                                                                |   | $                                                      |  0.12  |   | $ |  0.06 |   |

 

Stock optionsoutstanding of 247,000 and 50,000 at March 31, 2002 and 2001, respectively,have not been included in diluted earnings per common share because theirinclusion would have been antidilutive for the periods presented.

 

**8.     BUSINESS SEGMENT INFORMATION**

 

The Company’s businesses operate in two reportablebusiness segments.  The Company’sinvestment banking and brokerage segment includes the operations of SMH.  SMH is an investment banking and brokerageservices firm whose activities primarily include securities underwriting andretail brokerage services.  The Company’sinvestment management segment includes the operations of PMT, SMH CapitalAdvisors and Kissinger.   PMT is a statechartered trust company providing a variety of trust services, includinginvestment management, estate settlement and retirement planning.  SMH Capital Advisors provides investmentmanagement services to investors who include fixed income securities as a majorpart of their investment portfolios. Kissinger provides financial planning services to individuals.  The following summarizes certain financialinformation of each reportable segment for the three months ended March 31,2002 and 2001, respectively.

 
|                                                                                                 |   | **As of or for the Three Months Ended March 31,** |       |
|------------------------------------------------------------------------------------------------------|--------|---------------------------------------------------|------------|
|                                                                                                 |   | **2002**                                          |       | **2001** |   |
|                                                                                                 |   | **Investment********Banking and  Brokerage**      |       | **Investment  Management** |   | **Investment  Banking and  Brokerage** |   | **Investment  Management** |   |
|                                                                                                 |   | **(in thousands)**                                |       | **(in thousands)** |   |
|                                                                                                 |   |                                              | ** ** |   | ** ** |   | ** ** |   | ** ** |
| Revenues                                                                                             |   | $                                                 | 19,498     |   | $ | 1,309 |   | $ | 14,477 |   | $ | 732 |   |
| Income before  equity in income (loss) of limited partnerships, income taxes and minority  interests |   | 3,007                                             |       | 186 |   | 2,860 |   | 38 |   |
| Equity in income  (loss) of limited partnerships                                                     |   | 623                                               |       | — |   | (175 | ) | — |   |
| Total assets                                                                                         |   | 71,191                                            |       | 5,860 |   | 63,346 |   | 5,424 |   |
|                                                                                                      |        |                                                   |            |  |  |  |  |  |  |  |  |  |  |

 

11

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The followingtables reconcile the reportable segments to the consolidated revenues, incomefrom continuing operations before equity in income (loss) of limitedpartnerships, income taxes and minority interests, and assets reported in thecondensed consolidated statement of operations and the condensed consolidatedbalance sheet for the three months ended March 31, 2002 and 2001, respectively:

 
|                                                                                                                            |   | **Three Months Ended March 31,** |       |
|---------------------------------------------------------------------------------------------------------------------------------|--------|----------------------------------|------------|
|                                                                                                                            |   | **2002**                         |       | **2001** |   |
|                                                                                                                            |   | **(in thousands)**               |       |
| Revenues:                                                                                                                       |   |                             |       |
| Investment  Banking and Brokerage                                                                                               |   | $                                | 19,498     |   | $ | 14,477 |   |
| Investment  Management                                                                                                          |   | 1,309                            |       | 732 |   |
| Corporate                                                                                                                       |   | 16                               |       | 143 |   |
| Consolidated  revenues                                                                                                          |   | $                                | 20,823     |   | $ | 15,352 |   |
|                                                                                                                            |   |                             | ** ** |   | ** ** |
| Income before  equity in income (loss) of limited partnerships, income taxes and minority  interests:                           |   |                             | ** ** |   | ** ** |
|                                                                                                                            |   |                             |       |   |   |
| Investment  Banking and Brokerage                                                                                               |   | $                                | 3,007      |   | $ | 2,860 |   |
| Investment  Management                                                                                                          |   | 186                              |       | 38 |   |
|                                                                                                                            |   | 3,193                            |       | 2,898 |   |
| Amortization of  intangible assets                                                                                              |   | —                           |       | (502 | ) |
| Corporate  revenues and expenses, net                                                                                           |   | (669                             | )          | (349 | ) |
| Income from  continuing operations before equity in income (loss) of limited partnerships,  income taxes and minority interests |   | $                                | 2,524      |   | $ | 2,047 |   |

 
|                              |   | **As of**          |    |
|-----------------------------------|--------|--------------------|---------|
|                              |   | **March 31, 2002** |    | **December 31, 2001** |   |
|                              |   | **(in thousands)** |    |
| Assets:                           |   |               |    |
| Investment  Banking and Brokerage |   | $                  | 71,191  |   | $ | 67,408 |   |
| Investment  Management            |   | 5,860              |    | 5,997 |   |
| Corporate and  other              |   | 31,582             |    | 31,904 |   |
| Consolidated  assets              |   | $                  | 108,633 |   | $ | 105,309 |   |

 

**9.     EMPLOYEE BENEFIT PLANS**

 

Under its 1998 Incentive Plan, the Board of Directorshas reserved 15% of the issued and outstanding Common Stock of the Company, or1,100,000 shares of  Common Stock,whichever is greater for the purpose of issuing incentive awards under theIncentive Plan.  The Company had 188,383shares of Common Stock available for grant under the Incentive Plan at March31, 2002.

 

**Stock Options**

 

The Incentive Plan provides for the issuance toeligible employees of, among other things, incentive and non-qualified stock options,which may expire as much as 10 years from the date of grant.   The outstanding

 

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options vest over varying periods and have an exercise price equal tothe closing price of the Company’s stock on the date of the grant.

 

**Restricted and Capital Incentive Plan(“CIP”)**

 

Effective January 2, 2001, the Company adopted the CIPunder its Incentive Plan in which eligible employees may purchase shares of theCompany’s restricted common stock at a price equal to 66.6% of the 20-dayaverage of the closing sales prices for a shares of the Company’s common stock,ending on the day prior to the date the shares are issued.  The CIP was amended effective November 1,2001 to include eligible consultants as potential participants under theprogram.

 

All shares issued are valued at the closing price onthe date the shares are issued. Consideration paid by the employees is recorded as compensation expenseon the date the shares are issued.  Thedifference between the value of the shares issued and the consideration paid isrecorded as unearned compensation and is shown as a separate component ofshareholders’ equity.  Additionally,shares are issued under the CIP in conjunction with notes receivable, which arealso shown as a separate component of shareholders’ equity.  Unearned compensation and the notesreceivable are amortized to compensation expense over the three-year vestingperiods.  The value of shares issuedunder the CIP aggregated $1.2 million and $487,000, respectively during thethree months ended March 31, 2002 and 2001. Additions to unearned compensation aggregated $605,000 and $252,000,respectively during the three months ended March 31, 2002 and 2001.  Additions to notes receivable aggregated$234,000 during the three months ended March 31, 2002.  Additionally, amortization of unearnedcompensation and notes receivable during the three months ended March 31, 2002was $109,000 and $97,000, respectively.

 

**10.   RELATED PARTIES**

 

The Company had receivables from related partiestotaling $5.4 million at March 31, 2002, primarily consisting of $1.6 millionof unpaid management fees earned on the Company’s investments in limitedpartnerships and $3.3 million of notes receivable from employees.

 

The Company consolidated certain notes receivable andadvanced an additional $1.3 million to the limited partnerships during thethree months ended March 31, 2001, resulting in a new note in the originalprincipal amount of $2,847,000.  Thisnote was repaid in full during the third quarter of 2001.

 

In connection with the January 1999 combination,certain employees of the financial services firms exercised warrants andoptions for the purchase of shares in their respective companies, which werethen exchanged for shares of the Company. To exercise the warrants and options, the employees borrowed theaggregate price from the Company.  Theloans were evidenced by recourse promissory notes and were secured by pledgesof the SMHG common shares acquired as part of the exchange.  Interest accrued on the unpaid principalbalance of the federal rate published by the Internal Revenue Service forobligations of comparable maturity. During 2000 and 2001, the Company exchanged a portion of the notes receivablefrom employees (plus the issuance of immediately exercisable stock options tothe employee) for the Company’s common shares that were pledged to secure thenotes.  One remaining note with aprincipal balance of $48,000 was outstanding at December 31, 2001.  This note was exchanged for the commonshares that were pledged to secure the note during February 2002.

 

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**Item 2.**  ***Management’s Discussion and Analysis of Financial Conditionand Results of Operations***

 

The followingdiscussion should be read in conjunction with the Condensed ConsolidatedFinancial Statements and their related notes.

 

**General**

 

We provide diversified financial services through oursubsidiaries, including institutional and retail brokerage, investment banking,merchant banking, trust related services, investment management and financialplanning. All of these activities are highly competitive and are sensitive tomany factors outside our control, including those factors listed under “FactorsAffecting Forward-Looking Statements.”

 

We closely monitor our operating environment to enableus to respond promptly to market cycles. In addition, we seek to lessenearnings volatility by controlling expenses, increasing fee-based business anddeveloping new revenue sources. Nonetheless, operating results for any specificperiod should not be considered representative of future performance.

 

On April 5, 2001, we acquired Kissinger FinancialServices, Inc. (“Kissinger”).  Theformer owner of Kissinger received a total of 600,000 of our commonshares.  Kissinger, based in Baltimore,Maryland, provides financial planning services to individuals.  The acquisition was accounted for under thepurchase method, and thus, the financial information for Kissinger has beenincluded in our consolidated financial statements from April 5, 2001.

 

On January 2, 2002, the former institutional equityprofessionals of Sutro & Co. (the “Juda Group”) joined Sanders MorrisHarris.  The 23 professionals thatmakeup the Juda Group will complement Sanders Morris Harris’ existinginstitutional division by increasing our customer base and by adding equityresearch coverage in areas that we did not previously serve.  As an inducement for the principal of theJuda Group to join Sanders Morris Harris, we issued an aggregate of 357,909shares of SMHG common stock to the principal under our 1998 Incentive Plan at atotal purchase price that represented effectively a 33 1/3% discount to thethen closing sales price of our common stock on the Nasdaq National Market.  Approximately one-third of these shares, or107,223 shares, vest over a three year period, with 50% of these shares vestingafter one year and 25% of these shares vesting after the second and thirdyears.

 

**Components of Revenues and Expenses**

 

*Revenues*.      Ourrevenues are comprised primarily of (1) commission revenue from retail andinstitutional brokerage transactions, fees from asset-based advisory services,and principal and agent transactions, (2) investment banking revenue fromcorporate finance fees, mergers and acquisitions fees and merchant banking feesand (3) fees from asset management, financial planning and fiduciaryservices.  We also earn interest on thecash held and dividends received from the equity securities held by us for ourcorporate capital accounts and have gains (or losses) in our inventoryaccount.  Interest income results frominterest earned on our inventories of fixed income securities prior to sale,and from interest and dividends earned on investments in our capitalaccounts.  Other sources of revenueinclude revenue earned from gains on the sale of securities held in ourcorporate accounts, and from realized and unrealized gains (or losses) onsecurities in our possession.

 

*Expenses.*      Ourexpenses consist of (1) compensation and benefits, (2) brokerage and clearingcosts, (3) interest expense and (4) other expenses.  Compensation and benefits is our largest expense item andincludes wages, salaries, and benefits. During the first three months of 2002,compensation and benefits represented 73% of total expenses, and 64% of totalrevenues.  Compensation and benefitshave both a variable component based on revenue production and a fixedcomponent.  The variable componentincludes institutional and retail sales commissions, bonuses, overrides, andtrading desk incentives.  Retail andinstitutional commissions are based on a competitive commission schedule.  The investment banking group and theresearch group receive a salary and 

 

14

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discretionary bonus as compensation. The fixed component includes administrative and executive salaries,payroll taxes, employee benefits, and temporary employee costs.

 

Brokerage and clearance expenses include clearing andsettlement costs associated with the retail and institutional brokeragebusiness at SMH.  SMH clears itstransactions primarily through the Pershing Division of Donaldson, Lufkin andJenrette Securities Corporation, a Credit Suisse First Boston Company, andother clearing brokers.

 

Other expenses include (1) occupancy and equipmentexpenses, such as rent and utility charges for facilities, and (2)communications and data processing expense, such as third-party systems, data,and software program providers.

 

Amortization expense in 2001 reflects the amortizationof the goodwill recorded through mergers and acquisitions.

 

**Resultsof Operations**

 

*ThreeMonths Ended March 31, 2002 Compared to Three Months Ended March 31, 2001*

 

Kissinger was acquired onApril 5, 2001, hence their operating results are not included in the Company’sfinancial statements for the first three months of 2001.  The data for the three months ended March31, 2002 reflects the operating results of Kissinger for the entire quarter.

 

In January 2002, 23 formerinstitutional equity professionals of the Juda Group joined Sanders MorrisHarris complementing our existing institutional division by increasing ourcustomer base and by adding equity research coverage in areas that we did notpreviously serve.  Accordingly, theaddition of the Juda Group is reflected in our operating results for the threemonths ended March 31, 2002, but not for the comparable first quarter in 2001.

 

Total revenues rose to $20.8million in 2002 from $15.4 million in 2001 primarily due to an increase incommission revenue resulting from the addition of the former institutionalequity professionals of the Juda Group, and an increase in principal revenuesrelated to fixed income brokerage. Total expenses for the period increased to $18.3 million from $13.3million in the previous year primarily due to compensation expenses related tothe increase in revenues, and to the increase in other expenses associated withthe addition of the Juda Group and the acquisition of Kissinger.  Equity in income (loss) of limited partnershipsincreased from a loss of $175,000 during the first three months of 2001 toincome of $623,000 during the first quarter of 2002, primarily due to increasesin the values of certain securities held in the investment portfolios of thelimited partnerships managed by the Company. Income from continuing operations for the three months ended March 31,2002 increased to $2.0 million in 2002 from $902,000 in 2001.  Approximately $502,000 of the increase inincome from continuing operations is attributable to a goodwill charge incurredin 2001 without a corresponding charge for the first quarter of 2002.  Basic and diluted income per share fromcontinuing operations was $0.12 for the three months ended March 31, 2002compared to $0.06 for the same period in 2001.

 

Commissions revenueincreased to $9.7 million in 2002 from $6.6 million in 2001 primarily as aresult of the addition of the Juda Group. Principal transactions revenue totaled $4.8 million in 2002 versus $2.0million in 2001.  The first three monthsof 2002 include approximately $3.9 million of principal transaction revenuesrelated to fixed income brokerage, compared to $1 million during the prior yearquarter.  Investment banking revenuefrom advisory services and public and private security offerings declined to$3.7 million in 2001 from $4.0 million in 2001.  Interest and dividend income declined to $427,000 in 2002 from$711,000 in the same period last year reflecting a decline in interest ratesfrom 2001 to 2002.

 

During the three months endedMarch 31, 2002, employee compensation and benefits, increased to $13.4 millionfrom $8.8 million in the same period last year due to the increase in revenuesand the addition of the Juda Group and the acquisition of Kissinger.  Floor brokerage, exchange and clearance feesincreased to $923,000 in 2002 from $871,000 in 2001. Communication and dataprocessing costs, primarily related to costs at SMH and upgrades in technologyand services (including quotes and market data services) increased to $1 millionin 2002 from $868,000 in the same period last year principally from inclusionof the Juda Group and Kissinger for the

 

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first quarter in 2002.  Occupancy costs increased to $1 million in2002 from $871,000 in 2001 primarily from the additional rent expense foroffice leases for the Juda Group and Kissinger.  Due to adoption of SFAS 142 on January 1, 2002, the Company nolonger amortizes goodwill.  During thefirst quarter of 2001, goodwill amortization totaled $502,000.  Other general and administrative expensesincreased to $1.9 million from $1.4 million mainly due to the addition of theJuda Group and the acquisition of Kissinger.

 

The effective tax rate fromcontinuing operations was 37% for the three months ended March 31, 2002compared to 54% for the three months ended March 31, 2001.  Our effective tax rate exceeds the federalstatutory income tax rate primarily as a result of nondeductible goodwillamortization in 2001 and state income taxes for both 2002 and 2001.

 

**Liquidity and Capital Resources**

 

We intend to satisfy a large portion of our fundingneeds with our own capital resources, consisting largely of internallygenerated earnings and liquid assets we currently hold.

 

At March 31, 2002, we had approximately $31.5 millionin cash and cash equivalents, which together with receivables frombroker-dealers, deposits with clearing brokers, marketable securities owned,and securities available for sale represented about 34% of our total assets atthe end of the first quarter.

 

For the three months ended March 31, 2002, net cashprovided by operations totaled $2.1 million versus cash used in operations of$4.1 million during the first quarter of 2001. Accounts receivable increased by $1.3 million during the first quarterof 2001, primarily related to increases in management fees and notes receivablefrom the Company’s proprietary funds, and in notes receivable from otherrelated parties.  Other liabilities,consisting of net liabilities of discontinued operations, declined by $1.5million during the three months ended March 31, 2001, principally due to thesale of the remaining assets of Spires and the payment of final expensesassociated with the disposition of Engineered Systems, Inc.  Accounts payable and accrued liabilitiesdeclined by $577,000 in the first quarter of 2001 reflecting the payment ofaccrued compensation costs; while increasing by $769,000 during the first threemonths of 2002, due to increases in income taxes payable and dividends payable.

 

Capital expenditures for the first quarter of 2002were $399,000, mainly for the purchase of furniture and computer equipment andsoftware, as well as for leasehold improvements, necessary for our growth.  During the first three months of 2002, wereacquired 111,018 of our common shares at a total cost of approximately$555,000.

 

At March 31, 2002, SMH, our registered broker-dealersubsidiary, was in compliance with the net capital requirements of theSecurities and Exchange Commission’s Uniform Net Capital Rules and had capitalin excess of the required minimum.  PMTwas in compliance with the Texas Department of Banking net capital requirementand had capital in excess of the required minimum.

 

We are a party to various legal proceedings that areof an ordinary or routine nature incidental to our operations.  We believe we have adequately reserved forsuch litigation matters and that they will not have a material adverse effecton our consolidated financial condition, results of operations, or cash flows.

 

A portion of our assets is highly liquid andshort-term in nature, consisting of cash and assets readily convertible intocash.  Securities borrowed andsecurities loaned, along with receivables from customers and payables tocustomers, fluctuate as a result of the changes in the level of positions heldto facilitate customer transactions and changes in market conditions.  Receivables from others and payables toothers fluctuate primarily due to the change in adjustment to securities ownedon a trade date basis.

 

**FactorsAffecting Forward–Looking Statements**

 

This quarterly report on Form 10–Q includes“forward–looking statements” within the meaning of Section 27A of theSecurities Act of 1933, as amended, and Section 21E of the Securities andExchange Act of 1934, as

 

16

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amended, (the “Acts”). These forward–looking statements mayrelate to such matters as anticipated financial performance, future revenues orearnings, business prospects, projected ventures, new products, anticipatedmarket performance and similar matters. The Private Securities LitigationReform Act of 1995 provides a safe harbor for forward–looking statements.To comply with the safe harbor, the Company cautions readers that a variety offactors could cause the Company’s actual results to differ materially from theanticipated results or other expectations expressed in the Company’s forward–lookingstatements. These risks and uncertainties, many of which are beyond theCompany’s control, include, but are not limited to (1) trading volume in thesecurities markets; (2) volatility of the securities markets and interestrates; (3) changes in regulatory requirements which could affect the demand forthe Company’s services or the cost of doing business; (4) general economicconditions, both domestic and foreign, especially in the regions where theCompany does business; (5) changes in the rate of inflation and related impacton securities markets; (6) competition from existing financial institutions andother new participants in the securities markets; (7) legal developmentsaffecting the litigation experience of the securities industry; (8) successfulimplementation of technology solutions; (9) changes in valuations of theCompany’s trading and warrant portfolios resulting form mark-to-marketadjustments; (10) dependence on key personnel and (11) demand for the Company’sservices. The Company does not undertake to publicly update or revise anyforward–looking statements.

 

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**Item3*.  Quantitative and Qualitative DisclosuresAbout Market Risks***

 

**Market Risks**

 

At March 31, 2002, PMThad equity securities under management with a fair value of $474 million.  PMT’s fee income for the period ended March31, 2002 would have been reduced by approximately $61,000 assuming ahypothetical 10% decrease in the value of its equity securities undermanagement.  PMT’s fee income could alsobe reduced from changes in interest rates to the extent that such changes reducethe carrying value of securities under management.  Additionally, PMT’s securities available for sale are recorded ata fair value of approximately $2.5 million at March 31, 2002.  These securities are subject to equity pricerisk.  These securities have an originalcost of $2.5 million.  At March 31,2002, the unrealized decline in market value totaling $17,000, less tax of$3,000, has been included as a separate component of shareholders’ equity.

 

Management evaluates the realizability of securitiesavailable for sale to determine if a decline in value is other thantemporary.  Such evaluation considersthe length of time and the extent to which market value has been less thancost, the financial condition and near-term prospects of the issuer, and the intentand ability of the Company to retain its investment in the issuer for a periodof time sufficient to allow for any anticipated recovery in market value.  Management believes the remaining unrealizedlosses are temporary at March 31, 2002. However, a write-down accounted for as a realized loss may be necessaryin the future.

 

SMH’s trading equity securities are marked to marketon a daily basis.  At March 31, 2002,SMH’s trading equity securities were recorded at a fair value of approximately$707,000.  These trading equitysecurities are subject to equity price risk. This risk would amount to approximately $71,000 based on a potentialloss in fair value from a hypothetical 10% decrease in the market value of suchequity securities.  The actual equityprice risk related to the trading equity securities may differ substantially.

 

**PARTII.   OTHER INFORMATION**

 

**Item1.  *Legal Proceedings***

 

We are a party to various legal proceedings that areof an ordinary or routine nature incidental to our operations.  Certain of our litigation and claims arecovered by insurance with a maximum deductible of $50,000.    We believe we have adequately reserved forsuch litigation matters and that they will not have a material adverse effecton our consolidated financial condition, results of operations, or cash flows.

 

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**Item6**.  ***Exhibits and Reports on Form 8-K***

 
| **Exhibit  Number** |   | **Description**                                                                                                                                                                                         |
|---------------------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 3.1                 |   | Articles of Incorporation of  the Company, as amended.(Filed as Exhibit 3.1 to the Company’s Form 10-K for  the year ended December 31, 2001 (File No. 000-30066) and incorporated by  reference). |
|                |   |                                                                                                                                                                                                    |
| 3.2                 |   | Amended and Restated Bylaws of  the Company (Filed as an exhibit to the Company’s Form 10-K for the year  ending December 31, 1998 (File No. 333-65417) and incorporated herein by  reference).    |
| 9.1                 |   | Sanders Morris Harris Group Inc. Capital Incentive  Program (as amended and restated effective November 1, 2001).                                                                                       |

 

(b) Reports on Form 8–K.

 

On March 14, 2002, theCompany filed a current report on Form 8-K relating to the declaration by itsboard of directors of a cash dividend in the amount of $0.025 per share ofcommon stock.

 

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**SIGNATURES**

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned, thereuntoduly authorized.

 
|                               |   | **SANDERS MORRIS HARRIS GROUP INC.** |
|------------------------------------|--------|--------------------------------------|
|                               |   |
|                               |   | By                                   | /s/  ROBERT  E. GARRISON II |
|                               |   |                                 | **Robert E. Garrison II** |
|                               |   |                                 | **President & Chief Executive  Officer** |
|                               |   |                                 |   |
|                               |   |                                 |   |
|                               |   | By                                   | /s/  RICK  BERRY |
|                               |   |                                 | **Rick Berry** |
|                               |   |                                 | **Chief Financial Officer** |
|                               |   |                                 |   |
|                               |   |                                 |   |
|                               |   |                                 |   |
| **Date:   May 13, 2002** |   |                                 |
|                                    |        |                                      |  |  |

 

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