----

----

**SECURITIES AND EXCHANGECOMMISSION**

**WASHINGTON D.C. 20549**

----

**FORM 10-QSB**

**Quarterly reportpursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934**

**For the Quarter ended June 30, 2001**

**Commission file number: 0-18188**

| **PAULSON CAPITAL CORP.**                             |
|-------------------------------------------------------|
| Exact name of  registrant as specified in its charter |

 

| **Oregon******                                | **93–0589534******           |
|-----------------------------------------------|-----------------------------------|
| (State of  incorporation)                     | (I.R.S. Employer  Identification) |
|                                          |                              |
|                                          |                              |
| **811  S.W. Naito Parkway  Portland, OR****** | **97204******                     |
| (Address of principal  executive offices)     | (Zip Code)                        |
|                                          |                              |

 

| Registrant's telephone number,  including area code: |   | (503)  243–6000 |
|------------------------------------------------------|--------|----------------------|
|                                                 |   |                      |

 

             Check whether the issuer (1) filedall reports required to be filed by Sections 13 or 15(d) of the SecuritiesExchange Act of 1934 during the past 12 months (or for such shorter period thatthe registrant was required to file such reports), and (2) has been subject tosuch filing requirements for the past 90 days.

Yes       ý         No        o

Number of shares outstanding of each of the issuer'sclasses of common stock, as of August 1, 2001:

Commonstock, no par value  - 3,206,866 shares

TransitionalSmall Business Disclosure Format           Yes       o         No        ý

----

----

 

**PART I — FINANCIAL INFORMATION**

**ITEM 1.  FINANCIALSTATEMENTS**

**PAULSON CAPITAL CORP. AND SUBSIDIARYCONSOLIDATED BALANCE SHEETS****(unaudited)**

| **ASSETS**                                     | **6/30/01** |       | **12/31/00** |   |
|------------------------------------------------|-------------|------------|--------------|--------|
|                                           |        |       |         |   |
| CURRENT ASSETS                                 |        |       |         |   |
|                                           |        |       |         |   |
| Cash and cash  equivalents                     | $           | 128,603    |         | $      | 104,309 |   |
| Receivable from  clearing organization         | 6,789,642   |       | 8,878,083    |   |
| Notes and other  receivables                   | 786,528     |       | 1,247,520    |   |
| Trading securities, at  market value           | 2,435,867   |       | 1,305,989    |   |
| Investment securities,  at market value        | 18,330,977  |       | 13,063,135   |   |
| Underwriter warrants,  at estimated fair value | —      |       | —       |   |
| Prepaid and deferred  expenses                 | 228,124     |       | 865,986      |   |
| Deferred income taxes                          | 2,778,000   |       | 5,298,000    |   |
|                                           |             |       |              |   |
|                                           |        |       |         |   |
| **Total current assets**                       | 31,477,741  |       | 30,763,022   |   |
|                                           |             |       |              |   |
|                                           |        |       |         |   |
| NOTE RECEIVABLE                                | 107,229     |       | 103,551      |   |
|                                           |             |       |              |   |
|                                           |        |       |         |   |
| FURNITURE AND  EQUIPMENT, net                  | 426,401     |       | 509,676      |   |
|                                           |             |       |              |   |
|                                           |        |       |         |   |
| INVESTMENT IN REAL  ESTATE                     | 169,900     |       | 169,900      |   |
|                                           |             |       |              |   |
|                                           |        |       |         |   |
|                                           | $           | 32,181,271 |         | $      | 31,546,149 |   |
|                                           |             |       |              |   |

Theaccompanying notes are an integral part of these statements.
**PAULSON CAPITAL CORP. ANDSUBSIDIARYCONSOLIDATED BALANCE SHEETS - CONTINUED(unaudited)**

 
 **6/30/01** **12/31/00**      **LIABILITIES AND  SHAREHOLDERS’ EQUITY**         CURRENT LIABILITIES         Accounts payable and  accrued liabilities$245,445 $194,399 Payable to clearing  organization1,593,459 828,859 Compensation, employee  benefits and payroll taxes1,658,124 1,037,465 Securities sold, not  yet purchased, at market value133,293 31,496 Income taxes payable289,562 3,896,000         **Total current liabilities**3,919,883 5,988,219         Deferred income taxes39,100 39,100      SHAREHOLDERS’ EQUITY         Preferred stock, no  par value; authorized, 500,000 shares; issued and outstanding, no shares— — Common stock, no par  value; authorized, 10,000,000 shares; issued and outstanding, 3,217,866 and  3,367,366, respectively1,045,626 1,080,011 Retained earnings27,176,662 24,438,819         Total shareholders’  equity28,222,288 25,518,830          $32,181,271 $31,546,149    
Theaccompanying notes are an integral part of these statements.****PAULSON CAPITAL CORP. ANDSUBSIDIARYCONSOLIDATED STATEMENTS OF OPERATIONSfor the three and six month periods endedJune 30, 2001 and June 30, 2000 (unaudited)(continued)**

** **
 **Three  months ended** **Six  months ended**  **6/30/01** **6/30/00** **6/30/01** **6/30/00** **Revenues**        Commissions$2,023,916 $3,693,646 $3,955,817 $10,042,081 Corporate finance612,302 1,544,545 983,684 1,560,289 Investment income8,315,345 (5,352,843)7,460,779 12,410,580 Trading income633,178 584,367 849,155 1,416,024 Interest and dividends7,629 20,063 18,493 40,087 Other352 610 1,025 3,304                11,592,722 490,388 13,268,953 25,472,365               **Expenses**        Commissions and  salaries3,130,003 3,131,254 5,146,892 11,150,830 Underwriting expenses161,274 378,266 378,671 383,188 Rent, telephone and  quotation services254,862 210,863 509,966 499,528 Interest expense40,796 30 40,799 30 Professional fees49,935 82,424 121,534 182,344 Bad debt expense30,000 30,000 60,000 60,155 Travel and  entertainment82,707 51,871 144,908 104,450 Settlements5,950 33,587 7,000 53,587 Other722,824 544,136 1,061,640 1,826,212                4,478,351 4,462,431 7,471,410 14,260,324               Earnings (loss) before  income taxes7,114,371 (3,972,043)5,797,543 11,212,041 
Theaccompanying notes are an integral part of these statements****PAULSON CAPITAL CORP. ANDSUBSIDIARYCONSOLIDATED STATEMENTS OF OPERATIONSfor the three and six month periods endedJune 30, 2001 and June 30, 2000 (unaudited)(Continued)**

 
 **Three  months ended** **Six  months ended**  **6/30/01** **6/30/00** **6/30/01** **6/30/00** Provision for income  taxes         Current326,730 (843,000)(200,000)3,285,000  Deferred2,520,000 (745,000)2,520,000 1,200,000               **Net Earnings (Loss)**$4,267,641 $(2,384,043)$3,477,543 $6,727,041               Earnings (loss) per  share, basic and diluted$1.31 $(0.68)$1.06 $1.91               Weighted average  number of shares outstanding, basic3,268,066 3,503,012 3,286,253 3,522,333 Weighted average  number of shares outstanding, dilutedN/A 3,506,038 3,289,010 3,523,830 
Theaccompanying notes are an integral part of these statements****PAULSON CAPITAL CORP. ANDSUBSIDIARYCONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITYFor the three year period ended December 31, 2000and the six months ended June 30, 2001 (unaudited)**

 
 Common Stock        Shares Amount Retained  Earnings            Balance  at December 31, 19973,970,536 $794,416 $16,256,322        Issuance  of common stock in lieu of directors’ cash compensation4,283 16,500 -        Redemption  of common stock(177,967)(35,593)(451,323)       Net  loss for the year- - (1,768,640)           Balance  at December 31, 19983,796,852 775,323 14,036,359        Issuance  of common stock in lieu of directors’ cash compensation1,783 8,500 -        Redemption  of common stock(257,400)(51,480)(1,065,332)       Net  earnings for the year- - 11,711,236            Balance  at December 31, 19993,541,235 732,343 24,682,263        Stock  option grants- 317,750 -        Stock  options exercised16,000 71,000 -        Redemption  of common stock(189,869)(41,082)(1,235,230)       Net  earnings for the year- - 991,786            Balance  at December 31, 20003,367,366 1,080,011 24,438,819        Redemption  of common stock(149,500)(34,385)(739,700)       Net  earnings for year to date- - 3,477,543            Balance  at June 30, 20013,217,866 $1,045,626 $27,176,662     
Theaccompanying notes are an integral part of these statements****PAULSON CAPITAL CORP. ANDSUBSIDIARY****CONSOLIDATEDSTATEMENTS OF CASH FLOWS (unaudited)for the six month periods ended June 30, 2001 and June 30, 2000**

 
 **6/30/01** **6/30/00**  **** **** Increase  (Decrease) in Cash and Cash Equivalents         Cash  flows from operating activities     Net  earnings (loss)$3,477,543 $6,727,041  Adjustments  to reconcile net earnings (loss) to net cash provided by (used in) operating  activities     Unrealized  (appreciation) depreciation on investment securities(4,287,027)(1,847,113) Realized  gain on investment securities(3,173,752)(10,563,467) Depreciation  and amortization100,191 86,706  Deferred  income taxes2,520,000 (3,642,500) Stock  option grant— 317,750  Change  in assets and liabilities     Receivables2,545,760 (7,779,516) Trading  securities(1,129,878)(1,750,103) Prepaid  and deferred expenses637,862 496,400  Accounts  payable and accrued liabilities1,436,305 (211,613) Securities  sold, not yet purchased101,797 882,012  Income  taxes payable(3,606,438)4,752,450           Net  cash provided by (used in) operating activities(1,377,637)(12,531,953)              Cash  flows from investing activities     Purchases  of investment securities(19,118,044)(81,491,868) Proceeds  from sale of investment securities21,310,980 94,666,959  Additions  to furniture and equipment(16,920)(100,894) Proceeds  from sale of furniture and equipment— —          Net  cash provided by (used in) investing activities$2,176,016 $13,074,197    
Theaccompanying notes are an integral part of these statements****CONSOLIDATED STATEMENTS OF CASHFLOWS (unaudited) - CONTINUED**
 **6/30/01** **6/30/00**  **** ****      Cash  flows from financing activities     Proceeds  from exercise of stock options-- --  Payments  to retire common stock(774,085)(480,106)          Net  cash provided by (used in) financing activities(774,085)(480,106)          NET  INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS24,294 62,138      Cash  and cash equivalents at beginning of period104,309 48,210         Cash  and cash equivalents at June 30$128,603 $110,348              Cash paid during the three months for          Interest$40,796 $30           Income  taxes$2,596,650 $756,419     
Theaccompanying notes are an integral part of these statements
**NOTES TO CONDENSED CONSOLIDATEDFINANCIAL STATEMENTS(Unaudited)**

1. Basis ofPresentation

             Theaccompanying unaudited consolidated financial statements have been prepared inaccordance with the instructions for interim financial statements in Article 10of Regulation S–X and, therefore, do not include all information andfootnotes required by generally accepted accounting principles for completefinancial statements.  In the opinion ofmanagement, the interim financial statements include all adjustments(consisting only of normal recurring adjustments) necessary to state fairly theinformation shown therein.  The natureof the Company's business is such that the results of any interim period arenot necessarily indicative of results for a full fiscal year.

2. Securities Owned

             Any losses from the disposition ofsecurities are reflected in trading revenues on the income statement for theperiod.

3. Commitments andContingencies

             InOctober 1998, Russell W. Cummings, a former PIC customer, filed a lawsuit inCalifornia state court asserting claims against PIC and a former PIC registeredrepresentative alleging violations of the California Consumers Legal RemediesAct, fraud, negligent misrepresentation, breach of contract, tortious breach ofthe implied covenant of good faith and fair dealing, breach of fiduciary dutyand negligence.  Plaintiff had agreed toarbitrate the matter before the NASD but never did so.  Consequently, in July 2000, the Californiastate court dismissed the case.  InNovember 2000, the California state court reinstated the case and, in January2001, Cummings filed an arbitration claim against PIC and its former registeredrepresentative.  The complaint seeks$250,000 in actual damages and $1,500,000 in punitive damages.  PIC has not had an opportunity to fullyinvestigate this claim, but believes it has meritorious defenses and intends todefend this matter vigorously.

             InAugust 2000, Patricia Staples, a former PIC customer, filed an NASD arbitrationclaim against PIC and one of its registered representatives alleging that PICand its registered representative made certain misrepresentations and committedviolations of law.  Claimant is seeking$100,000 in compensatory and punitive damages. Claimant's statement of claim is vague and does not specify the allegedmisrepresentations or violations of law. PIC has filed a motion to require a more definite and certain statementof claim by claimant.  PIC also hasfiled an answer denying any liability. PIC has not had an opportunity to fully investigate this matter butintends to defend this matter vigorously. The matter is set for arbitration on November 8, 2001.

             InJanuary 2001, V.J.E. Enterprises, Inc. and Vincent and Diana Nartker, formerPIC customers, filed a complaint with PIC regarding the handling of theiraccount by PIC and one of its registered representatives.  They have asserted that their account wasmismanaged and that PIC failed to supervise its registered representative.  They have requested that PIC pay them$275,100.  PIC has not had anopportunity to fully investigate this claim, but believes it has meritoriousdefenses and intends to defend this matter vigorously if an arbitration isfiled.
             In April 2001, Michael Swan, a PICcustomer, complained that a PIC broker failed to place a stop loss order on astock that Swan held in one of his PIC accounts.  The price of the stock subsequently declined significantly andSwan now claims that PIC and its broker failed to place the stop loss,resulting in a loss of $125,000.  Swanhas demanded that PIC pay this amount to him. PIC has not had an opportunity to fully investigate this claim butbelieves it has meritorious defenses and intends to defend this mattervigorously.

             In April 1999, AshleyPuma, the minor daughter of a former PIC representative, filed a complaint in aCalifornia state court against Santa Monica County Bank for breach of contractand negligence.  Claimant alleges thatSanta Monica County Bank was negligent in allowing her father to withdraw up to$465,000 from an account that was held for her benefit.  In April 2001, U.S. Bank, the successor toSanta Monica County Bank, identified PIC as one of the "John Doe"cross-defendants and filed cross-claims against PIC for conversion, declaratoryrelief and indemnity.  U.S. Bank claimsthat PIC mishandled certain funds that originally derived from Ashley Puma'sSanta Monica County bank account.  U.S.Bank later dropped the conversion claim and now seeks only declaratory reliefand indemnity against PIC.  PIC has nothad an opportunity to fully investigate this claim, but believes it hasmeritorious defenses and intends to defend this matter vigorously.

             Anadverse outcome in certain of the matters described above could have a materialadverse effect on PIC or the Company. PIC has been named in certain other legal proceedings and has receivednotice that certain customers may commence legal proceedings against PIC.  The Company believes, based upon informationreceived to date and, where the Company believes it appropriate, discussionswith legal counsel, that resolution of this additional pending or threatenedlitigation will have no material adverse effect on the consolidated financialcondition, results of operations, or business of the Company.
ITEM 2.  MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLANOF OPERATION

**Three Months Ended June 30, 2001 vs.Three Months Ended June 30, 2000**

             **Results of Operations**

             The revenues and operating resultsof the Company's operating subsidiary, Paulson Investment Company, Inc.("PIC"), are influenced by fluctuations in the equity underwritingmarkets as well as general economic and market conditions, particularlyconditions in the over-the-counter market, where PIC's investment account,trading inventory positions and underwriter warrants are heavilyconcentrated.  Significant fluctuationscan occur in PIC's revenues and operating results from one period to another.  PIC's financial results depend upon manyfactors, such as the number of companies that are seeking public financing, thequality and financial condition of those companies, market conditions ingeneral, the performance of previous PIC underwritings and interest in certainindustries by investors.  As a result,revenues and income derived from these activities may vary significantly fromperiod to period.  In the table below,"Trading Income" is the net gain or loss from trading positionsbefore commissions paid to the representatives in the trading department.

**Summary of Changes in MajorCategories of Revenues and Expenses**

 
 **Quarter  Ended June 30** **Six  Months Ended June 30**  **2001  vs. 2000** **2001vs.  2000** Revenues:        Sales Commissions$(1,669,730)(45.2%)$(6,086,264)(60.6%)Corporate Finance(932,243)(60.4%)(576,605)(37.0%)Investment Income13,668,188 N/A (4,949,801)(39.9%)Trading Income48,811 8.4% (566,869)(40.0%)Other(12,692)(61.4%)(23,873)(55.0%)       Total$11,102,334 2,264.0% $(12,203,412)(47.9%)Expenses:                 Commissions and  Salaries$(1,251)(0.0%)$(6,003,938)(53.8%)Underwriting Expenses(216,992)(57.4%)(4,517)(1.2%)Rent, Telephone and  Quotes43,999 20.9% 10,438 2.1% Other190,164 25.6% (790,897)(35.5%)       Total$15,920 0.4% $(6,788,914)(47.6%)         Pretax Income$11,086,414 N/A $(5,414,498)(48.3%)
             Totalrevenues for the second quarter of 2001 rose 2,264.0 percent from the secondquarter of 2000, from $490,388 to $11,592,722. As shown in the table above, sales commissions fell $1,669,730, or 45.2percent, from $3,693,646 in the second quarter of 2000 to $2,023,916 in thecomparable 2001 period.  This decreaseresulted primarily from the less favorable price movements and trading levelsin the very small capitalization issues (the primary focus of PIC's investmentbanking and trading businesses) in the 2001 quarter compared to 2000, despitegenerally better market conditions in the 2001 period.  The Nasdaq Industrial Average fell 12.31percent in the second quarter of 2000 but rose 23.28 percent in the secondquarter of 2001.  Corporate financerevenues fell $932,243 in the second quarter of 2001 compared to the secondquarter of 2000, to $612,302 from $1,544,545. One transaction for $10.4 million was completed in the second quarter of2001; two transactions were completed in the 2000 quarter, raisingapproximately $38 million for the issuers. Corporate finance revenue is directly related to the amount of moneyraised in completed transactions. Investment income rose from a loss of $5,352,843 in the second quarterof 2000 to a gain of $8,315,345 in the second quarter of 2001.  All investment income in the 2001 period wasa net profit in investment securities unrelated to underwriter warrants.  Investment income in 2000 included$8,647,530 of gain from the sale of a previously exercised underwriter warrant,a loss in value of $809,269 from underwriter warrants that had not yet beenexercised, and $13,191,105 of net loss in investment securities unrelated tounderwriter warrants.  No underwriterwarrants were exercised in either the 2000 or 2001 quarters. Trading incomerose $48,811, or 8.4 percent, to $633,178 in the second quarter of 2001 from$584,367 in the comparable 2000 period. This increase was primarily due to increased prices, volume and tradingprofits in one security.  Other Incomedeclined $12,692, from $20,673 in the second quarter of 2000 to $7,981 in the2001 quarter, due primarily to a decline in interest and dividend income.

             Total expenses rose $15,920 in thesecond quarter of 2001 from the comparable 2000 period, an increase of 0.4percent, from $4,462,431 to $4,478,351. Commissions and salaries fell $1,251, from $3,131,254 in the 2000 periodto $3,130,003 in 2001.  This slightdecrease, a much smaller decline than sales commission revenue, was primarilydue to bonus and compensation arrangements related to investment and tradingprofits.  Underwrit­ing expenses fell$216,992, or 57.4 percent, from $378,266 in the 2000 quarter to $161,274 in thesecond quarter of 2001.  Twotransactions were completed in the 2000 period, while one transaction wascompleted in 2001.  Rent, telephone andquote expenses increased from $210,863 in the 2000 period to $254,862 in 2001,an increase of 20.9 percent, primarily due to expenses related to improvementsin quotation systems in the 2001 quarter. The aggregate of all other expenses rose 25.6 percent, from $742,048 inthe second quarter of 2000 to $932,212 in the second quarter of 2001, primarilydue to increased accrual for PIC's profit sharing.

             The Company had a pretax profit of$7,114,371 in the second quarter of 2001 compared to a pretax loss of$3,972,043 in the comparable 2000 period, primarily due to the increase ininvestment income offsetting declines in sales commission and corporate financerevenues. Significant fluctuations can occur in PIC's revenues and operatingresults from one period to another.

             The Company also accrued $2,846,730in income taxes for the second quarter of 2001, compared to an estimated taxbenefit for income taxes in the second quarter of 2000 of $1,588,000.****Liquidity and Capital Resources**

             The majority of PIC's assets arecash and assets readily convertible to cash. PIC's securities inventory is stated at market value.  The liquidity of the market for many ofPIC's securities holdings, however, varies with trends in the stockmarket.  Since many of the securitiesheld by PIC are thinly traded, and PIC is in many cases a primary market makerin the issues held, any significant sales of PIC's positions could adverselyaffect the liquidity of the issues held. In general, falling prices in OTC securities (which make up most ofPIC's trading positions) lead to decreased liquidity in the market for theseissues, while rising prices in OTC issues tend to increase the liquidity of themarket for these securities.  Theoverall increase in prices for the OTC securities traded by PIC in early 2000and 1999 was combined with a general increase in the liquidity of the marketsfor these securities.  The decline inprices for the OTC securities traded by PIC to date in 2001 and late 2000 wascombined with a general decrease in the liquidity of the markets for thesesecurities.  PIC's investment accountand trading inventory accounts are stated at fair market value, which is at orbelow quoted market price.

             PIC borrows money from its clearingfirm in the ordinary course of its business, pursuant to an understanding underwhich the clearing firm agrees to finance PIC's trading accounts.  As of June 30, 2001, no net loans wereoutstanding pursuant to this arrangement. PIC and the Company are generally able to meet their compensation andother obligations out of current liquid assets.

             Another source of capital to PICand the Company has been the underwriter warrants issued to PIC in connectionwith its corporate finance activities and the sale of the underlyingsecurities.  These warrants are reflectedon the balance sheet of PIC and the Company at their estimated fair value, withestimated discounts for lack of marketability. While the warrants and the securities issuable upon exercise of thewarrants are not immediately saleable, PIC receives the right to require theissuer to register the underlying securities for resale to the public.  Profits, if any, from the warrants arerecognized based upon the difference between the market price and the exerciseprice less discounts, if any, for trading volume, the remaining warrantexercise period and other factors. Further profits or losses are subsequently realized when the underlyingsecurities are sold.  Profits and lossesrecognized from the warrants are recorded as "InvestmentIncome."  There is no public marketfor the underwriter warrants. The securities receivable upon exercise of theunderwriter warrants cannot be resold unless the issuer has registered thesesecurities with the SEC and the states in which the securities will be sold orexemptions are available.  Any delay orother problem in the registration of these securities would have an adverseimpact upon PIC's ability to obtain funds from the exercise of the underwriterwarrants and the resale of the underlying securities.  At June 30, 2001, PIC owned 25 underwriter warrants (from 23issuers), of which 21 were currently exercisable; three had an exercise pricebelow the current market price of the securities receivable upon exercise. Thevalue of the firm's underwriter warrants depends on the prices of theunderlying securities. (A warrant with anexercise price above the market price for the underlying security is valued atzero. If the exercise price is below the market price, the value is the amountof the aggregate spread, discounted for lack of liquidity.) These prices are influenced by general movementsin the prices of OTC securities as well as the success of the issuers of theunderwriter warrants. As of June 30, 2001, the Company placed no valueon PIC's underwriter warrants that had an exercise price below the currentmarket price of the securities issuable upon exercise. This estimate includesestimates by the Company of discounts for lack of marketability, risk offailure of the issuer to register the securities for resale and other possibledifficulties that may prevent the Company from realizing the value of theunderwriter warrants. The prices of the securities underlying the underwriterwarrants are very volatile, and substantial fluctuations in the Company'sestimate of their value can be expected in the future.
             In the six months ended June 30,2001, $1,377,637 of net cash was used in operating activities of theCompany.  The major adjustments toreconcile this result to the Company's net earnings of $3,477,543 includeunrealized appreciation on investment securities of $4,287,027, a decrease inincome taxes payable of $3,606,438, a realized gain on investment securities of$3,173,752  and an increase in tradingsecurities of $1,129,878 more than offsetting a decrease in receivables of$2,545,760, a decrease in deferred income taxes of $2,520,000, an increase inaccounts payable and accrued liabilities of $1,436,305 and  a decrease in prepaid and deferred expensesof $637,862.  In the period, $2,176,016of net cash was provided by the Company’s investing activities, the result of$21,310,980 in proceeds from the sale of investment securities more thanoffsetting the purchase of $19,118,044 of investment securities and $16,920 ofadditions to furniture and equipment. $774,085 in cash was used in financing activities by the Company in thesix months, the result of payments to retire common stock.  See "Financial Statements —Consolidated Statements of Cash Flows."

             As a securities broker–dealer,the Company's wholly owned subsidiary, PIC, is required by SEC regulations tomeet certain liquidity and capital standards. At June 30, 2001, the Company had no material commitments for capitalexpenditures.

             In general, the primary ongoingsources of PIC's, and therefore the Company's, liquidity, including PIC'strading positions, borrowings on those positions and profits recognized fromunderwriter warrants, all depend in large part on the trend in the generalmarkets for OTC securities.  Rising OTCprice levels will tend to increase the value and liquidity of PIC's tradingpositions, the amount that can be borrowed from its clearing firm based uponthose positions, and the value of PIC's underwriter warrants.  The Company believes its liquidity issufficient to meet its needs for the foreseeable future.

**Inflation**

             Because PIC's assets are primarilyliquid, they are not significantly affected by inflation.  The rate of inflation affects PIC'sexpenses, such as employee compensation, office leasing and communicationscosts.  These costs may not readily berecoverable in the price of services offered by the Company.  To the extent inflation results in risinginterest rates and has other adverse effects in the securities markets and thevalue of securities held in inventory or PIC's investment account, it mayadversely affect the Company's financial position and results of operations.

 

**PART IIOTHER INFORMATION**

Item 1. LegalProceedings.

                           See Note 3 of Notesto Condensed Consolidated Financial Statements in Item 1.

Item 2. Changes inSecurities.                           None

Item 3. Defaultsupon Senior Securities.                           None

Item 4. Submissionof Matters to a Vote of Security Holders.

             The Company held its annual meetingon June 12, 2001.  The six Companydirectors (Chester L.F. Paulson, Jacqueline M. Paulson, Glen Davis, Shannon P.Pratt, Paul Shoen and John Westergaard) were elected for additional one yearterms.  For each director3,138,253 shares were voted for and 4,000 shares abstained.

Item 5. OtherInformation.                           None

Item 6. Exhibitsand Reports on Form 8-K

Exhibits - None

No Reports on Form8-K were filed during the quarter ended June 30, 2001.
**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 thereunto dulyauthorized.
  PAULSON CAPITAL CORP.        Date:August 7, 2001By:/s/ CHESTER L.F. PAULSON     Chester L.F. Paulson   President    Date:August 8, 2001By:/s/ CAROL RICE     Carol Rice   Principal Accounting Officer
 

**EXHIBITINDEX**

None************