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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549
 FORM 10-Q (Mark One) þ
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
 For the quarterly period ended September 30, 2004
 OR
 o
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
 For the transition period from _________________ to _________________ Commission file number 0-31049 TradeStation Group, Inc.  Florida
(State or other jurisdiction of
incorporation or organization)
    
    65-0977576
(I.R.S. Employer
Identification No.)
 8050 S.W. 10th Street, Suite 4000, Plantation, Florida 33324
(Address of principal executive offices)
(Zip Code) 954-652-7000
(Registrants telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.  Yes   x   No   
o Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).  Yes   x   No   
o As of November 1, 2004, there were 41,764,289 shares of the Registrants
Common Stock outstanding.




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TABLE OF CONTENTS  Section 302 Certification of Co-CEOSection 302 Certification of Co-CEOSection 302 Certification of CFOSection 906 Certification of Co-CEO'sSection 906 Certification of CFO    Table of Contents  TRADESTATION GROUP, INC. AND SUBSIDIARIES INDEX PagePART I.
    
    FINANCIAL INFORMATIONItem 1.
    
    Financial Statements:Consolidated Balance Sheets September 30, 2004 (unaudited) and December 31, 2003
    
    
    3Consolidated Statements of Income Three and Nine Months Ended September 30, 2004 and 2003 (unaudited)
    
    
    4Consolidated Statements of Cash Flows Nine Months Ended September 30, 2004 and 2003 (unaudited)
    
    
    5Notes to Consolidated Financial Statements
    
    
    6Item 2.
    
    Managements Discussion and Analysis of Financial Condition and Results of Operations
    
    
    17Item 3.
    
    Quantitative and Qualitative Disclosures about Market Risk
    
    
    37Item 4.
    
    Controls and Procedures
    
    
    38PART II.
    
    OTHER INFORMATIONItem 1.
    
    Legal Proceedings
    
    
    39Item 2.
    
    Unregistered Sales of Equity Securities and Use of Proceeds
    
    
    39Item 4.
    
    Submission of Matters to a Vote of Security Holders
    
    
    39Item 6.
    
    Exhibits and Reports on Form 8-K
    
    
    40Signature
    
    
    
    
    41
 2




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PART I  FINANCIAL INFORMATION 
 ITEM 1. FINANCIAL STATEMENTS TRADESTATION GROUP, INC. AND SUBSIDIARIES 
 CONSOLIDATED BALANCE SHEETS
 September 30,
    
    December 31,2004
    
    2003(Unaudited)ASSETS:Cash and cash equivalents, including restricted cash
of $1,911,426 and $2,150,354 at September 30, 2004
and December 31, 2003, respectively
    
    $
    28,674,514
    
    
    $
    30,485,229Cash segregated in compliance with federal regulations
    
    
    352,612,828
    
    
    
    532,273Marketable securities
    
    
    
    
    
    
    1,997,060Receivables from brokers, dealers, clearing organizations
and clearing agents
    
    
    23,011,734
    
    
    
    526,832Receivables from brokerage customers, net
    
    
    46,641,685
    
    
    
    Property and equipment, net
    
    
    3,155,459
    
    
    
    3,628,773Deferred income taxes, net
    
    
    5,644,192
    
    
    
    Deposits with clearing organizations and clearing agents
    
    
    9,030,790
    
    
    
    Other assets
    
    
    2,218,499
    
    
    
    830,385Total assets
    
    $
    470,989,701
    
    
    $
    38,000,552LIABILITIES AND SHAREHOLDERS EQUITY:LIABILITIES:Payables to brokers, dealers and clearing organizations
    
    $
    331,937
    
    
    $
    558,780Payables to brokerage customers
    
    
    418,806,536
    
    
    
    518,699Accounts payable
    
    
    2,160,680
    
    
    
    2,047,332Accrued expenses
    
    
    4,417,937
    
    
    
    5,129,715Total liabilities
    
    
    425,717,090
    
    
    
    8,254,526COMMITMENTS AND CONTINGENCIESSHAREHOLDERS EQUITY:Preferred stock, $.01 par value; 25,000,000
shares authorized, none issued and outstanding
    
    
    
    
    
    
    Common stock, $.01 par value; 200,000,000
shares authorized, 41,744,438 and 41,446,436
issued and outstanding at September 30, 2004 and
December 31, 2003, respectively
    
    
    417,444
    
    
    
    414,464Additional paid-in capital
    
    
    54,924,160
    
    
    
    50,540,630Accumulated deficit
    
    
    (10,068,993
    )
    
    
    (21,209,068
    )Total shareholders equity
    
    
    45,272,611
    
    
    
    29,746,026Total liabilities and shareholders equity
    
    $
    470,989,701
    
    
    $
    38,000,552
 See accompanying notes. 3




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TRADESTATION GROUP, INC. AND SUBSIDIARIES 
 CONSOLIDATED STATEMENTS OF INCOME
 (Unaudited)
 Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003REVENUES:Brokerage revenues, net
    
    $
    14,674,462
    
    
    $
    13,797,692
    
    
    $
    44,517,470
    
    
    $
    37,480,564Subscription fees
    
    
    2,108,667
    
    
    
    1,776,931
    
    
    
    6,052,957
    
    
    
    5,182,390Other
    
    
    413,329
    
    
    
    511,416
    
    
    
    1,305,907
    
    
    
    1,705,104Total revenues
    
    
    17,196,458
    
    
    
    16,086,039
    
    
    
    51,876,334
    
    
    
    44,368,058OPERATING EXPENSES:Clearing and execution costs
    
    
    5,527,725
    
    
    
    4,825,451
    
    
    
    16,762,562
    
    
    
    13,129,683Data center costs
    
    
    1,288,722
    
    
    
    1,365,344
    
    
    
    4,460,869
    
    
    
    3,724,425Technology development
    
    
    1,833,934
    
    
    
    1,773,915
    
    
    
    5,592,309
    
    
    
    5,491,769Sales and marketing
    
    
    2,905,573
    
    
    
    2,425,380
    
    
    
    8,224,629
    
    
    
    7,716,847General and administrative
    
    
    2,810,780
    
    
    
    2,269,186
    
    
    
    7,952,035
    
    
    
    6,552,798Total operating expenses
    
    
    14,366,734
    
    
    
    12,659,276
    
    
    
    42,992,404
    
    
    
    36,615,522Income from operations
    
    
    2,829,724
    
    
    
    3,426,763
    
    
    
    8,883,930
    
    
    
    7,752,536OTHER INCOME, net
    
    
    77,946
    
    
    
    113,722
    
    
    
    202,834
    
    
    
    95,136Income before income taxes
    
    
    2,907,670
    
    
    
    3,540,485
    
    
    
    9,086,764
    
    
    
    7,847,672INCOME TAX PROVISION (BENEFIT)
    
    
    1,075,269
    
    
    
    71,000
    
    
    
    (2,053,311
    )
    
    
    (729,829
    )Net income
    
    $
    1,832,401
    
    
    $
    3,469,485
    
    
    $
    11,140,075
    
    
    $
    8,577,501EARNINGS PER SHARE:Basic
    
    $
    0.04
    
    
    $
    0.08
    
    
    $
    0.27
    
    
    $
    0.21Diluted
    
    $
    0.04
    
    
    $
    0.08
    
    
    $
    0.25
    
    
    $
    0.20WEIGHTED AVERAGE SHARES
OUTSTANDING:Basic
    
    
    41,728,054
    
    
    
    40,863,350
    
    
    
    41,613,718
    
    
    
    40,183,181Diluted
    
    
    44,119,043
    
    
    
    44,746,892
    
    
    
    44,320,478
    
    
    
    42,977,658
 See accompanying notes. 4




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TRADESTATION GROUP, INC. AND SUBSIDIARIES 
 CONSOLIDATED STATEMENTS OF CASH FLOWS
 (Unaudited)
 Nine Months EndedSeptember 30,2004
    
    2003CASH FLOWS FROM OPERATING ACTIVITIES:Net income
    
    $
    11,140,075
    
    
    $
    8,577,501Adjustments to reconcile net income to net cash
provided by operating activities:Depreciation and amortization
    
    
    1,529,132
    
    
    
    1,699,558Deferred income taxes
    
    
    (2,202,678
    )
    
    
    Loss on sale of investments
    
    
    
    
    
    
    54,823(Increase) decrease in:Cash segregated in compliance with federal regulations
    
    
    (352,080,555
    )
    
    
    (161,417
    )Receivables from brokers, dealers, clearing organizations
and clearing agents
    
    
    (22,484,902
    )
    
    
    (118,257
    )Receivables from brokerage customers
    
    
    (46,641,685
    )
    
    
    Deposits with clearing organizations and clearing agents
    
    
    (9,030,790
    )
    
    
    Income tax receivable
    
    
    
    
    
    
    (873,949
    )Other assets
    
    
    (1,285,896
    )
    
    
    (567
    )Increase (decrease) in:Payables to brokers, dealers and clearing organizations
    
    
    (226,843
    )
    
    
    174,212Payables to brokerage customers
    
    
    418,287,837
    
    
    
    46,786Accounts payable
    
    
    113,348
    
    
    
    555,651Accrued expenses
    
    
    (529,629
    )
    
    
    (640,253
    )Net cash (used in) provided by operating activities
    
    
    (3,412,586
    )
    
    
    9,314,088CASH FLOWS FROM INVESTING ACTIVITIES:Capital expenditures
    
    
    (1,009,172
    )
    
    
    (1,049,367
    )Decrease in restricted cash
    
    
    238,928
    
    
    
    849,880Proceeds from sale/maturity of marketable securities
    
    
    1,997,060
    
    
    
    46,577Acquisition of intangible assets
    
    
    
    
    
    
    (15,000
    )Net cash provided by (used in) investing activities
    
    
    1,226,816
    
    
    
    (167,910
    )CASH FLOWS FROM FINANCING ACTIVITIES:Proceeds from issuance of common stock
    
    
    796,132
    
    
    
    4,802,086Repayment of capital lease obligations
    
    
    (182,149
    )
    
    
    (1,030,464
    )Net cash provided by financing activities
    
    
    613,983
    
    
    
    3,771,622NET (DECREASE) INCREASE IN UNRESTRICTED
CASH AND CASH EQUIVALENTS
    
    
    (1,571,787
    )
    
    
    12,917,800UNRESTRICTED CASH AND CASH EQUIVALENTS,
beginning of period
    
    
    28,334,875
    
    
    
    12,982,856UNRESTRICTED CASH AND CASH EQUIVALENTS,
end of period
    
    $
    26,763,088
    
    
    $
    25,900,656SUPPLEMENTAL DISCLOSURE OF CASH FLOW
INFORMATION:Cash paid for interest
    
    $
    7,850
    
    
    $
    65,901Cash paid for income taxes, net
    
    $
    23,960
    
    
    $
    142,217NONCASH INVESTING AND FINANCING ACTIVITIES:Tax benefit on exercise of stock options
    
    $
    3,590,378
    
    
    $
    
 See accompanying notes. 5




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TRADESTATION GROUP, INC. AND SUBSIDIARIES 
 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 (All notes and related disclosures applicable to
the three and nine months ended September 30, 2004 and 2003 are unaudited) TradeStation Group, Inc. (the Company), a Florida corporation formed in
2000, is the successor to a publicly-held trading software company that was
formed in 1982. TradeStation Group is listed on The Nasdaq National Market
under the symbol TRAD. TradeStation Securities, Inc. and TradeStation
Technologies, Inc. are TradeStation Groups two operating subsidiaries. TradeStation Securities, a securities broker-dealer and futures commission
merchant, offers TradeStationto institutional, professional and serious,
active individual traders. TradeStationis an electronic trading platform that
enables customers to design, test and monitor their own custom trading
strategies and then automate them with direct-access order execution. The
trading platform currently offers streaming real-time equities, options,
futures and forex market data, manual or automated direct-access execution of
equities, options and futures trades, and manual execution of forex trades
through a third-party platform. Prior to September 2004, all equities trades
were cleared through Bear, Stearns Securities Corp. Beginning in September
2004, TradeStation Securities commenced equities self-clearing operations for
its active trader client base and commenced omnibus clearing of its
standardized equity option trades through Broadcort, a division of Merrill
Lynch. TradeStation Securities continues to clear DVP/RVP and other
institutional account equities trades through Bear, Stearns Securities Corp.
Futures trades are cleared through R.J. OBrien & Associates and forex trades
are cleared through R.J. OBrien Foreign Exchange (Bear, Stearns Securities
Corp., Broadcort, R.J. OBrien & Associates and R.J. OBrien Foreign Exchange
are collectively referred to as clearing agents or clearing agent firms). TradeStation Securities is a member and subject to the rules and
requirements of the National Association of Securities Dealers (NASD),
Securities Investor Protection Corporation, National Futures Association, the
National Securities Clearing Corporation and Depository Trust Company
(together, the Depository Trust & Clearing Corporation or DTCC), American
Stock Exchange, Archipelago Exchange, Boston Options Exchange, Chicago Board
Options Exchange, Eurex US, International Stock Exchange, Pacific Exchange and
Philadelphia Stock Exchange, and has pending membership applications with the
New York Stock Exchange and the Options Clearing Corporation. TradeStation
Securities business is also subject to rules and requirements of the
Securities and Exchange Commission, Commodity Futures Trading Commission and
state regulatory authorities. The DTCC, Options Clearing Corporation and any
equities or futures exchange that performs a similar role for its futures
commission merchant or broker-dealer members are referred to in this report as
clearing organizations. TradeStation Technologies develops and offers strategy trading software
tools and subscription services, and owns and operates the
TradeStationWorld.comstrategy trading and development community. The accompanying consolidated financial statements should be read in
conjunction with the Consolidated Financial Statements and Notes to
Consolidated Financial Statements included in the Annual Report on Form 10-K of
TradeStation Group for the year ended December 31, 2003. In the opinion of
management, all adjustments (consisting only of normal recurring adjustments)
necessary to present fairly the Companys consolidated financial position as of
September 30, 2004, consolidated results of operations for the three and nine
months ended September 30, 2004 and 2003, and consolidated results of cash
flows for the nine months ended September 30, 2004 and 2003 have been recorded.
The results of operations and cash flows for an interim period are not
necessarily indicative of the results of operations or cash flows that may be
reported for the year or for any subsequent period. Certain prior period
amounts have been reclassified to conform to the current period presentation. 6




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(1) COMMENCEMENT OF SELF-CLEARING OPERATIONS In September 2004, TradeStation Securities commenced self-clearing of
equities trades for its active trader client base. Clearing operations include
the confirmation, settlement, delivery and receipt of securities and funds and
record-keeping functions involved in the processing of securities transactions.
As the clearing broker for its equities active trader client base,
TradeStation Securities maintains custody and control over the assets in those
clients accounts and provides the following back office functions: maintaining
customer accounts; extending credit in a margin account to the customer;
settling stock transactions with the DTCC (and, for options, with Options
Clearing Corporation if, as and when membership is obtained); settling
commissions and clearing fees; preparing customer trade confirmations and
statements; performing designated cashier functions, including the delivery and
receipt of funds and securities to or from the customer; possession or control
of customer securities, safeguarding customer funds, transmitting tax
accounting information to the customer and to the applicable tax authorities;
and forwarding prospectuses, proxies and other shareholder information to
customers. TradeStation Securities makes margin loans to customers which are
collateralized by customer securities. Margin requirements determine the
amount of equity required to be held in an account for a purchase of equities
on credit. Margin lending is subject to the margin rules of the Board of
Governors of the Federal Reserve System, the margin requirements of NASD, DTCC
rules and requirements, limits imposed by clearing agent firms, and
TradeStation Securities own internal policies. By permitting customers to
purchase and maintain securities positions on margin, TradeStation Securities
takes the risk that a market decline will reduce the value of the collateral
securing its margin loan to an amount that renders the margin loan unsecured
or, depending on the type of securities position, creates even larger unsecured
indebtedness to TradeStation Securities. Under applicable securities laws and
regulations, once a margin account has been established, TradeStation
Securities is obligated to require from the customer initial margin of no lower
than 50% for purchases of securities and then is obligated to require the
customer to maintain margin in the account equal to at least 25% of the value
of the securities in the account. However, its current internal requirement is
that the customers margin not be allowed to fall below 35% of the value of the
securities in the account. If it does fall below 35%, TradeStation Securities
requires the customer to increase the accounts margin to 35% of the value of
the securities in the account. These requirements can be, and often are,
raised as TradeStation Securities deems necessary for certain accounts, groups
of accounts, securities or groups of securities. However, there is no
assurance that a customer will be willing or able to satisfy a margin call or
pay unsecured indebtedness owed to TradeStation Securities. In September 2004, upon commencement of self-clearing of equities trades,
TradeStation Securities changed its calculation of net capital requirements to
the alternative method, which requires the maintenance of minimum net
capital, as defined by applicable rules, equal to the greater of (i) $250,000
and (ii) 2.0% of aggregate customer debit balances. For further discussion,
see Note 11 NET CAPITAL REQUIREMENTS. In addition to increased net capital
requirements, as a self-clearing broker-dealer TradeStation Securities is
subject to clearing organization, omnibus clearing agent and other cash deposit
requirements which are and may continue to be large in relation to the
Companys total liquid assets, and which may fluctuate significantly from time
to time based upon the nature and size of TradeStation Securities active
trader clients trading activity. If TradeStation Securities membership
application with the Options Clearing Corporation is approved, and TradeStation
Securities then moves from omnibus to full self-clearing of standardized equity
option trades, significant additional cash deposits may be required. As a result of the commencement of self-clearing operations, TradeStation
Group has several new significant accounting policies and has added several new
captions to its Consolidated Balance Sheet. Following is an update to the
significant accounting policies, as previously described in Note 1 of Notes to
Consolidated Financial Statements  DESCRIPTION OF BUSINESS AND SUMMARY OF
SIGNIFICANT ACCOUNTING POLICIES in the Companys December 31, 2003 Annual
Report on Form 10-K: 7




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Securities and Futures Transactions Customer securities transactions are recorded on a settlement date basis
with such transactions generally settling three business days after the trade
date. Revenues and expenses related to securities transactions are recorded
on a trade date basis. Securities owned by customers, including those that
collateralize margin loans or similar transactions, are not reflected in the
Companys consolidated financial statements. Customer futures transactions and related revenues and expenses are
recorded on a trade date basis. Futures positions owned by customers are not
reflected in the Companys consolidated financial statements. Cash Segregated In Compliance With Federal Regulations Cash segregated in compliance with federal regulations, consisting
primarily of interest-bearing cash deposits of $352.6 million and $532,000 as
of September 30, 2004 and December 31, 2003, respectively, have been segregated
in special reserve bank accounts for the exclusive benefit of customers under
Rule 15c3-3 of the Securities Exchange Act of 1934 and other regulations. Securities Borrowed and Loaned Securities borrowed transactions are recorded at the amount of cash
collateral advanced to the lender. Securities borrowed transactions require
TradeStation Securities to provide the counterparty with collateral in the form
of cash. TradeStation Securities monitors the market value of securities
borrowed on a daily basis, and collateral is adjusted as necessary based upon
market prices. As of September 30, 2004, securities borrowed are carried at market value and are
included in Receivables from brokers, dealers, clearing organizations and
clearing agents. TradeStation Securities does not lend securities to other
broker-dealers. Receivables from Brokerage Customers, Net TradeStation Securities performs periodic credit evaluations and provides
allowances for potential credit losses based upon their assessment of unsecured
receivables and other factors. Allowances for potential credit losses were
$350,000 and $0 at September 30, 2004 and December 31, 2003, respectively.
See Note 6 of Notes to Consolidated Financial Statements  RECEIVABLES FROM
BROKERAGE CUSTOMERS, NET. Exchange Memberships Exchange memberships, included in Other Assets, are recorded at cost and
evaluated for impairment as circumstances may warrant. No impairment has
occurred. Deposits With Clearing Organizations and Clearing Agents As a self-clearing broker-dealer TradeStation Securities is subject to
clearing organization, omnibus clearing agent and other cash deposit
requirements which are and may continue to be large in relation to the
Companys total liquid assets, and which may fluctuate significantly from time
to time based upon the nature and size of TradeStation Securities active
trader clients trading activity. As of September 30, 2004, TradeStation
Securities had interest-bearing security deposits totaling $9.0 million with
clearing organizations and clearing agents for the self-clearing of stock
trades and the omnibus clearing of standardized equity option trades.
Deposits are recorded at market value. Related-Party Loans Certain directors and executive officers of the Company maintain margin
accounts with TradeStation Securities. There were no margin loans to
directors or executive officers outstanding as of September 30, 2004. Any
margin loans in these accounts are made in the ordinary course of
TradeStation Securities business on terms no more favorable than those
available for comparable transactions in other brokerage accounts. 8




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(2) EARNINGS PER SHARE Weighted average shares outstanding for the three and nine months ended
September 30, 2004 and 2003 are calculated as follows: For the Three Months
    
    For the Nine MonthsEnded September 30,
    
    Ended September 30,2004
    
    2003
    
    2004
    
    2003Weighted average shares
outstanding (basic)
    
    
    41,728,054
    
    
    
    40,863,350
    
    
    
    41,613,718
    
    
    
    40,183,181Impact of dilutive stock options
and warrants after applying
the treasury stock method
    
    
    2,390,989
    
    
    
    3,883,542
    
    
    
    2,706,760
    
    
    
    2,794,477Weighted average shares
outstanding (diluted)
    
    
    44,119,043
    
    
    
    44,746,892
    
    
    
    44,320,478
    
    
    
    42,977,658
 Stock options outstanding for the three and nine months ended September
30, 2004 and 2003, which are not included in the calculation of diluted
earnings per share because their impact is antidilutive, are presented below.
All unexercised warrants expired in June 2004. For the Three Months
    
    For the Nine MonthsEnded September 30,
    
    Ended September 30,2004
    
    2003
    
    2004
    
    2003Stock options
    
    
    1,343,089
    
    
    
    27,375
    
    
    
    792,553
    
    
    
    27,375
 (3) STOCK-BASED COMPENSATION  PRO FORMA NET INCOME In accordance with Statement of Financial Accounting Standards (SFAS)
No. 123, Accounting for Stock-Based Compensation, in accounting for stock-based
transactions with non-employees the Company records compensation expense in the
statement of income when such equity instruments are issued. No such
compensation expense was recorded for the three and nine months ended September
30, 2004 or 2003. As currently permitted by SFAS No. 123, the Company accounts for its
stock-based compensation paid to employees using the intrinsic value method in
accordance with the recognition and measurement principles of Accounting
Principles Board Opinion No. 25, Accounting for Stock Issued to Employees,and
related interpretations. Generally, no stock-based employee compensation cost
is reflected in net income, as all options granted under the Companys plans
have an exercise price equal to the fair value of the underlying common stock
on the date of grant. The following table illustrates the effect on net income and earnings per
share if the Company had applied the fair value recognition provisions of SFAS
No. 123 to stock-based employee compensation. For the Three Months
    
    For the Nine MonthsEnded September 30,
    
    Ended September 30,2004
    
    2003
    
    2004
    
    2003Net income, as reported
    
    $
    1,832,401
    
    
    $
    3,469,485
    
    
    $
    11,140,075
    
    
    $
    8,577,501Deduct: Total stock-based
employee compensation
expense determined under the
fair value based method for
all awards, net of tax impact
    
    
    (261,747
    )
    
    
    (376,802
    )
    
    
    (886,884
    )
    
    
    (1,353,284
    )Pro forma net income
    
    $
    1,570,654
    
    
    $
    3,092,683
    
    
    $
    10,253,191
    
    
    $
    7,224,217
 9




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For the Three Months
    
    For the Nine MonthsEnded September 30,
    
    Ended September 30,2004
    
    2003
    
    2004
    
    2003Earnings per share:Basic, as reported
    
    $
    0.04
    
    
    $
    0.08
    
    
    $
    0.27
    
    
    $
    0.21Diluted, as reported
    
    $
    0.04
    
    
    $
    0.08
    
    
    $
    0.25
    
    
    $
    0.20Basic, pro forma
    
    $
    0.04
    
    
    $
    0.08
    
    
    $
    0.25
    
    
    $
    0.18Diluted, pro forma
    
    $
    0.04
    
    
    $
    0.07
    
    
    $
    0.23
    
    
    $
    0.17
 The fair value of each option grant is estimated on the date of grant
using the Black-Scholes model with the following assumptions: For the Three Months
    
    For the Nine MonthsEnded September 30,
    
    Ended September 30,2004
    
    2003
    
    2004
    
    2003Risk free interest rate
    
    
    3
    %
    
    
    2
    %
    
    
    3
    %
    
    
    2
    %Dividend yield
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Volatility factor
    
    
    63
    %
    
    
    68
    %
    
    
    63
    %
    
    
    68
    %Weighted average life (years)
    
    
    4
    
    
    
    4
    
    
    
    4
    
    
    
    4
 (4) COMPREHENSIVE INCOME Comprehensive income is defined as the change in a business enterprises
equity during a period arising from transactions, events or circumstances
relating to non-owner sources, such as unrealized gains or losses on
available-for-sale securities and foreign currency translation adjustments. It
includes all changes in equity during a period except those resulting from
investments by, or distributions to, owners. The Company held an investment in
corporate stock during 2003, classified as an available-for-sale security, at
market value. Temporary unrealized holding gains and losses were excluded from
earnings and reported in comprehensive income. A reconciliation of net income to comprehensive income is as follows: For the Three Months
    
    For the Nine MonthsEnded September 30,
    
    Ended September 30,2004
    
    2003
    
    2004
    
    2003Net income
    
    $
    1,832,401
    
    
    $
    3,469,485
    
    
    $
    11,140,075
    
    
    $
    8,577,501Unrealized holding losses
on available-for-sale securities
arising during period,
net of tax
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (19,423
    )Reclassification adjustment for
loss on available-for-sale
securities included in net
income, net of tax
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    54,823Comprehensive income
    
    $
    1,832,401
    
    
    $
    3,469,485
    
    
    $
    11,140,075
    
    
    $
    8,612,901
 10




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##### Table of Contents



(5) RECEIVABLES FROM BROKERS, DEALERS, CLEARING ORGANIZATIONS AND CLEARING AGENTS Amounts receivable from brokers, dealers, clearing organizations and
clearing agents consist of the following as of September 30, 2004 and December
31, 2003: September 30,
    
    December 31,2004
    
    2003Securities borrowed from broker-dealers
    
    $
    14,194,460
    
    
    $
    Receivables from clearing organizations
for open transactions
    
    
    7,934,266
    
    
    
    Securities failed to deliver to broker-dealers
    
    
    391,962
    
    
    
    Fees and commissions receivable from clearing agents
    
    
    491,046
    
    
    
    526,832$
    23,011,734
    
    
    $
    526,832
 TradeStation Securities services many of its institutional equities
accounts through Bear, Stearns Securities Corp. and its futures and forex
customer accounts through R.J. OBrien & Associates and R.J. OBrien Foreign
Exchange, respectively, on a fully-disclosed basis. These clearing agents
provide services, handle TradeStation Securities customers funds, hold
securities, futures and forex positions and remit monthly activity statements
to the customers on behalf of TradeStation Securities. (6) RECEIVABLES FROM BROKERAGE CUSTOMERS, NET Receivables from brokerage customers consist primarily of margin loans to
TradeStation Securities brokerage customers of $46.6 million (net of a
$350,000 allowance for potential credit losses) at September 30, 2004.
Securities owned by brokerage customers are held as collateral for margin
loans. Such collateral is not reflected in the consolidated financial
statements. At September 30, 2004, TradeStation Securities was charging margin
interest at a rate of 5.875% per annum on debit balances in brokerage customer
accounts. There were no receivables from brokerage customers at December 31,
2003. TradeStation Securities became obligated to satisfy credit extended by one
of its clearing agent firms to one of its customers in a margin transaction
when the customers collateral was not sufficient to fully cover losses that
the customer incurred following a sudden, adverse price movement in a stock in
which the brokerage client held a concentrated short position. The customer
has made partial payments on the amount owed and the remaining balance was
$260,000 as of September 30, 2004. In September 2004, after TradeStation
Securities began its equities self-clearing operations, a sudden, adverse price
movement in a stock for which a brokerage client account held a concentrated
short position resulted in an unsecured net debit in that account of
approximately $207,000. TradeStation Securities has filed an NASD arbitration
demand to try to collect this unsecured debit, but no assurance can be given
that any of these unsecured debits will be collected. See Note 14 
COMMITMENTS AND CONTINGENCIES  General Contingencies and Guarantees. (7) OTHER ASSETS Other assets consist of the following as of September 30, 2004 and
December 31, 2003: September 30,
    
    December 31,2004
    
    2003Prepaid insurance
    
    $
    589,622
    
    
    $
    22,379Other receivables
    
    
    501,302
    
    
    
    402,517Exchange memberships
    
    
    455,000
    
    
    
    40,000Other prepaid expenses
    
    
    600,510
    
    
    
    243,365Other
    
    
    72,065
    
    
    
    122,124$
    2,218,499
    
    
    $
    830,385
 11




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##### Table of Contents



(8) PAYABLES TO BROKERS, DEALERS AND CLEARING ORGANIZATIONS As of September 30, 2004, amounts payable to brokers, dealers and clearing
organizations consist primarily of amounts payable for securities failed to
receive and amounts payable to clearing organizations for open transactions and
unsettled trades. As of December 31, 2003, amounts payable represented
introducing broker-dealer deposits with TradeStation Securities and accrued
customer commissions. (9) PAYABLES TO BROKERAGE CUSTOMERS As of September 30, 2004, payables to brokerage customers consist
primarily of cash balances in brokerage customer accounts. These funds are the
principal source of funding for margin lending. At September 30, 2004,
TradeStation Securities was paying interest at a rate of 0.75% per annum on
cash balances in brokerage customer accounts. As of December 31, 2003,
payables to brokerage customers were comprised of customer credits and
deposits. (10) ACCRUED EXPENSES Accrued expenses consist of the following as of September 30, 2004 and
December 31, 2003: September 30,
    
    December 31,2004
    
    2003Payroll and related accruals
    
    $
    969,612
    
    
    $
    953,844Deferred rent and related concessions
    
    
    896,167
    
    
    
    861,789Data and exchange fees
    
    
    721,852
    
    
    
    753,638Professional fees
    
    
    424,355
    
    
    
    465,132Estimated loss on sublease of facilities
    
    
    353,717
    
    
    
    512,888Uninsured loss reserves
    
    
    25,000
    
    
    
    525,000Other
    
    
    1,027,234
    
    
    
    1,057,424$
    4,417,937
    
    
    $
    5,129,715
 Other includes accrued returns, obligations under capital leases, and
other accrued expenses and reserves, none of which individually exceeds 5% of
total liabilities. (11) NET CAPITAL REQUIREMENTS TradeStation Securities is subject to the net capital requirements of the
Securities and Exchange Commissions Uniform Net Capital Rule (Rule 15c3-1) and
the Commodity Futures Trading Commissions financial requirement (Regulation
1.17). In September 2004, upon commencement of self-clearing of equities
trades, TradeStation Securities changed its calculation of net capital
requirements to the alternative method, which requires the maintenance of
minimum net capital, as defined by the rules, equal to the greater of (i)
$250,000 and (ii) 2.0% of aggregate customer debit balances. Customer debit
items are a function of customer margin receivables and may fluctuate
significantly, resulting in a significant fluctuation in our net capital
requirements. At September 30, 2004, TradeStation Securities had net capital
of $11.4 million (15.3% of aggregate debit items), which was $9.9 million in
excess of its required net capital of $1.5 million. Prior to the commencement of self-clearing operations, TradeStation
Securities was required to maintain net capital, as defined, equal to the
greater of (i) $250,000 and (ii) 1/15th of aggregate indebtedness. Also, the
ratio of aggregate indebtedness to net capital could not exceed 15 to 1. As of
December 31, 2003, TradeStation Securities had net capital of $11.3 million,
which was $10.9 million in excess of its required net capital of $415,000, and
a ratio of aggregate indebtedness to net capital of 0.55 to 1. 12




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(12) SEGMENT AND RELATED INFORMATION For the three and nine months ended September 30, 2004 and 2003,
TradeStation Group operated in two principal business segments: (i) brokerage
services; and (ii) software products and services. The Company evaluates the
performance of its segments based on revenue and operating income. The
brokerage services segment represents the operations of TradeStation Securities
and the software products and services segment represents the operations of
TradeStation Technologies. All intercompany transactions are eliminated in
consolidation. For the Three Months
    
    For the Nine MonthsEnded September 30,
    
    Ended September 30,2004
    
    2003
    
    2004
    
    2003Revenues:Brokerage services
    
    $
    14,728,443
    
    
    $
    13,854,834
    
    
    $
    44,731,908
    
    
    $
    37,640,019Software products and services
    
    
    6,997,765
    
    
    
    6,275,705
    
    
    
    19,506,426
    
    
    
    17,607,914Eliminations
    
    
    (4,529,750
    )
    
    
    (4,044,500
    )
    
    
    (12,362,000
    )
    
    
    (10,879,875
    )$
    17,196,458
    
    
    $
    16,086,039
    
    
    $
    51,876,334
    
    
    $
    44,368,058Income from operations:Brokerage services
    
    $
    (285,725
    )
    
    $
    1,028,315
    
    
    
    1,839,021
    
    
    
    1,650,637Software products and services
    
    
    3,115,449
    
    
    
    2,398,448
    
    
    
    7,044,909
    
    
    
    6,101,899$
    2,829,724
    
    
    $
    3,426,763
    
    
    $
    8,883,930
    
    
    $
    7,752,536
 As of
    
    As ofSeptember 30,
    
    December 31,2004
    
    2003Identifiable assets:Brokerage services
    
    $
    443,193,075
    
    
    $
    19,551,368Software products and services
    
    
    27,796,626
    
    
    
    18,449,184$
    470,989,701
    
    
    $
    38,000,552
 Effective April 2004, TradeStation Securities and TradeStation
Technologies amended their intercompany license and support agreement and
entered into an expense-sharing agreement to reflect current business
requirements. These changes had no effect on the consolidated results, but did
result in an increased allocation of general and administrative expenses to the
brokerage services segment, and a corresponding decrease in the software
products and services segment, of approximately $154,000 and $277,000 for the
three and nine months ended September 30, 2004, respectively. (13) INCOME TAXES During the nine months ended September 30, 2004, the Company recorded a
net income tax benefit of $2.1 million, related primarily to the reversal of a
significant portion of a valuation allowance on the Companys deferred income
tax assets (see below). During the nine months ended September 30, 2003, the
Company recorded a net income tax benefit of $730,000, comprised primarily of
refunds related to prior years federal income tax returns. In June 2004, the Company reversed a significant portion of the valuation
allowance that was provided on its deferred income tax assets. In the opinion
of management, it is more likely than not that these benefits will now be
realized. In accordance with SFAS No. 109, Accounting for Income Taxes,
deferred income tax assets should be reduced by a valuation allowance if it is
more likely than not that some portion or all of the deferred income tax assets
will not be realized. Management evaluates and determines, on a periodic
basis, the amount of the valuation allowance required and adjusts the valuation
allowance, as needed. The decision to reverse a significant portion of the
valuation allowance was triggered primarily by TradeStation Securities
receiving final approval of the DTCC to begin self-clearing 13




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##### Table of Contents



for equities, the rollout of TradeStation 8(which included integrated options
execution), as well as eight consecutive quarters of income from operations.
In the 2004 second quarter, the result of this reversal was a net income tax
benefit of $3.2 million recorded in the Consolidated Statement of Income and a
$3.3 million credit to additional paid-in capital (relating to the income tax
benefit of stock option exercises). As of September 30, 2004, the Company had
net deferred income tax assets of $5.6 million, which includes a valuation
allowance of $927,000 relating to net operating loss carryforwards from a 1999
acquisition. The Company did not reverse the remaining valuation allowance as
the acquired net operating loss carryforwards (expiring in 2018 and 2019) are
subject to annual usage limitations. The portion of the valuation allowance
which was not reversed represents the last five years of the annual limitation
amount due to the inability to estimate taxable income that far into the
future. Management will continue to make periodic evaluations of the valuation
allowance and will determine periodic adjustments, as required. Beginning in
the 2004 third quarter, the Company began recording income tax expense at an
estimated annual effective tax rate of approximately 37.0%. As of September 30, 2004, the Company had available, for federal tax
purposes, total net operating loss carryforwards of approximately $11.2
million, which expire between 2018 and 2023, including $3.6 million of net
operating loss carryforwards that relate to a 1999 acquisition. (14) COMMITMENTS AND CONTINGENCIES Restricted Cash As of September 30, 2004, the Company had $1.9 million of restricted cash
supporting a lease agreement. Litigation and Claims On September 5, 2003, Datamize, Inc., a Wyoming corporation, filed an
Original Complaint for Patent Infringement against nine defendants, including
TradeStation Securities, all of whom offer online securities trading services.
The other defendants are Fidelity Brokerage Services, Scottrade, Interactive
Brokers Group, Instinet, Charles Schwab, CyberTrader, E*Trade Securities and
Terra Nova Trading. The complaint was filed in the United States District
Court, Eastern District of Texas. The complaint alleges that the online
trading platforms and services the defendants offer to their customers
infringes United States Patent No. 6,460,040 issued to Datamize on October 1,
2002. The lawsuit seeks injunctive relief, actual damages and attorneys fees.
The Company believes Datamizes claim is baseless and intends to defend itself
vigorously. Three lawsuits have been filed by former principal owners of
onlinetradinginc.com corp. (the predecessor of TradeStation Securities) against
the Company, certain of its directors and executive officers and certain family
partnerships owned by two of the executive officers. On July 25, 2003,
Benedict S. Gambino, from whom the Company, as of October 18, 2002, purchased
2,417,000 shares of its common stock in a private transaction, filed a lawsuit
against the Company and three of its executive officers, William R. Cruz, Ralph
L. Cruz and Marc J. Stone, in the Circuit Court of Broward County, State of
Florida. This lawsuits allegations include violation of the Florida
Securities and Investor Protection Act, common law fraud, negligent
misrepresentation, breach of fiduciary duty and breach of contract. On August
18, 2003, Andrew A. Allen Family Limited Partnership (owned and controlled by
Andrew A. Allen), from whom the Company, as of November 26, 2002, purchased
1,000,000 shares of its common stock in a private transaction, filed a lawsuit
against the same defendants in the same court. This lawsuits allegations
include violation of the Florida Securities and Investor Protection Act, common
law fraud, breach of fiduciary duty, negligent misrepresentation and fraudulent
inducement. On August 28, 2003, Farshid Tafazzoli and E. Steven zum Tobel
filed a lawsuit against the Company, the Cruzes, family partnerships owned and
controlled by the Cruzes, Mr. Stone, Charles Wright and David Fleischman in the
Circuit Court of Miami-Dade County, State of Florida. Mr. Tafazzolis claims
relate to his family partnerships sale, as of May 1, 2002, of 3,000,000 shares
of Company common stock to family 14




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##### Table of Contents



partnerships owned by William and Ralph Cruz, and Mr. zum Tobels claims relate
to his family partnerships sale, as of May 3, 2002, of 133,942 shares of
Company common stock to Charles Wright. This lawsuits allegations include
violation of the Florida Securities and Investor Protection Act, common law
fraud and breach of fiduciary duty. Each of the three lawsuits seeks
rescission of the share purchases and/or compensatory damages, plus interest,
costs and attorneys fees. The Company believes all of the allegations are
baseless, intends to defend itself and the other named parties vigorously in
court, and expects to prevail in each of the lawsuits. On February 11, 2003, the plan administrator appointed under the
reorganization plan in the Chapter 11 bankruptcy of Bridge Information Systems,
Inc. and its affiliates filed an adversary complaint against TradeStation
Technologies and the Company in the United States Bankruptcy Court for the
Eastern District of Missouri demanding that the Company and TradeStation
Technologies return payments made to TradeStation Technologies by a Bridge
subsidiary in December 2000 and January 2001 totaling approximately $1.0
million, claiming such payments were preferential transfers under the federal
bankruptcy code as a result of being made to TradeStation Technologies during
the ninety-day period immediately preceding the Chapter 11 bankruptcy filing.
This claim was settled in August 2004 for $30,000. TradeStation Securities is also engaged in routine litigation or other
dispute resolution proceedings, such as arbitration, incidental to, and part of
the ordinary course of, its business (claims in pending arbitrations seek, in
the aggregate, tens of millions of dollars of actual and punitive damages). While no assurances can be given, the Company does not believe that the
ultimate outcome of any of the above legal matters or claims will result in a
material adverse effect on its consolidated financial position, results of
operations or cash flows. The Company decided, as of June 1, 2002, to no longer carry errors or
omissions insurance that covers third-party claims made by brokerage customers
or software subscribers as a result of alleged human or system errors,
failures, acts or omissions. This decision was made based upon the Companys
assessment of the potential risks and benefits, including significant increases
in premium rates, deductibles and coinsurance amounts, reductions in available
per occurrence and aggregate coverage amounts, and the unavailability of
policies that sufficiently cover the types of risks that relate to the
Companys business. Contractual Obligations A summary of capital lease obligations (net of interest and sales tax),
operating lease obligations (net of subleases), and minimum purchase
obligations (related to back-office systems, telecommunications services and
advertising) as of September 30, 2004 is as follows: Payments Due By Period2005
    
    2008
    
    2010 andContractual Obligations
    
    Total
    
    2004
    
    to 2007
    
    to 2009
    
    ThereafterCapital lease obligations
    
    $
    11,854
    
    
    $
    4,335
    
    
    $
    7,519
    
    
    $
    
    
    
    $
    Operating lease obligations
    
    
    16,573,039
    
    
    
    678,468
    
    
    
    6,794,170
    
    
    
    3,801,415
    
    
    
    5,298,986Purchase obligations
    
    
    3,471,435
    
    
    
    507,179
    
    
    
    2,964,256
    
    
    
    
    
    
    
    Total
    
    $
    20,056,328
    
    
    $
    1,189,982
    
    
    $
    9,765,945
    
    
    $
    3,801,415
    
    
    $
    5,298,986
 15




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##### Table of Contents



General Contingencies and Guarantees In the ordinary course of business, there are various contingencies which
are not reflected in the consolidated financial statements. These include
customer activities involving the execution, settlement and financing of
various customer securities and futures transactions. These activities may
expose the Company to off-balance-sheet credit risk in the event the customers
are unable to fulfill their contractual obligations. In margin transactions, TradeStation Securities may be obligated for
credit extended to its customers by TradeStation Securities or its clearing
agents that is collateralized by cash and securities in the customers
accounts. In connection with securities activities, TradeStation Securities
also executes customer transactions involving the sale of securities not yet
purchased (short sales), all of which are transacted on a margin basis
subject to federal, self-regulatory organization and individual exchange
regulations and TradeStation Securities internal policies. Additionally,
TradeStation Securities may be obligated for credit extended to its customers
by its clearing agents for futures transactions that is collateralized by cash
and futures positions in the customers accounts. In all cases, such
transactions may expose TradeStation Securities to significant
off-balance-sheet credit risk in the event customer collateral is not
sufficient to fully cover losses that customers may incur. In the event
customers fail to satisfy their obligations, TradeStation Securities may be
required to purchase or sell financial instruments at prevailing market prices
to fulfill the customers obligations. TradeStation Securities seeks to control the risks associated with its
customers activities by requiring customers to maintain collateral in their
margin accounts in compliance with various regulatory requirements, internal
requirements, and the requirements of clearing agents. TradeStation Securities
and its clearing agents monitor required margin levels on an intra-day basis
and, pursuant to such guidelines, require the customers to deposit additional
collateral or to reduce positions when necessary. TradeStation Securities borrows securities temporarily from other
broker-dealers in connection with its broker-dealer business. TradeStation
Securities deposits cash as collateral for the securities borrowed. Decreases
in securities prices may cause the market value of the securities borrowed to
fall below the amount of cash deposited as collateral. In the event the
counterparty to these transactions does not return the cash deposited,
TradeStation Securities may be exposed to the risk of selling the securities at
prevailing market prices. TradeStation Securities seeks to control this risk by
requiring credit approvals for counterparties, by monitoring the collateral
values on a daily basis, and by requiring additional collateral as needed. The customers financing and securities settlement activities require
TradeStation Securities and its clearing agents to pledge customer securities
as collateral in support of various secured financing sources which may include
bank loans. In the event the counterparty is unable to meet its contractual
obligation to return customer securities pledged as collateral, TradeStation
Securities may be exposed to the risk of needing to acquire the securities at
prevailing market prices in order to satisfy its customers obligations.
TradeStation Securities seeks to control this risk by monitoring the market
value of securities pledged on a daily basis and by requiring adjustments of
collateral levels in the event of excess market exposure. In addition,
TradeStation Securities establishes credit limits for such activities and
monitors compliance on a daily basis. TradeStation Securities provides guarantees to its clearing organization
and exchanges under their standard membership agreements, which require members
to guarantee the performance of other members. Under the agreements, if
another member becomes unable to satisfy its obligations to the clearing
organization or exchange, other members would be required to meet shortfalls.
TradeStation Securities liability under these arrangements is not quantifiable
and may exceed the cash and securities it has posted as collateral. However,
the possibility of the company being required to make payments under these
arrangements is remote. Accordingly, no liability has been recorded for these
potential events. 16




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##### Table of Contents



ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This discussion should be read in conjunction with the Consolidated
Financial Statements and the Notes to Consolidated Financial Statements of
TradeStation Group and its subsidiaries contained herein. The results of
operations for an interim period are not necessarily indicative of results for
the year, or for any subsequent period. Overview and Recent Developments TradeStation Securities, a leading direct-access brokerage firm serving
the active trader and certain institutional trader markets, is the companys
principal operating subsidiary. TradeStation Securities is a registered
broker-dealer and futures commission merchant, and a member of the National
Association of Securities Dealers (NASD), Securities Investor Protection
Corporation (SIPC), National Futures Association (NFA), National Securities
Clearing Corporation and the Depository Trust Company (together, the Depository
Trust & Clearing Corporation or DTCC), American Stock Exchange (AMEX),
Archipelago Exchange (ArcaEx or ARCX), Boston Options Exchange (BOX),
Chicago Board Options Exchange (CBOE), Eurex US, International Securities
Exchange (ISE), Pacific Stock Exchange (PCX), and Philadelphia Stock
Exchange (PHLX), and has pending membership applications with the New York
Stock Exchange (NYSE) and the Options Clearing Corporation (OCC).
TradeStation Securities business is also subject to rules and requirements of
the Securities and Exchange Commission, Commodity Futures Trading Commission
and state regulatory authorities. In September 2004, TradeStation Securities commenced self-clearing of
equities trades for its active trader client base. Clearing operations include
the confirmation, settlement, delivery and receipt of securities and funds and
record-keeping functions involved in the processing of securities transactions.
As the clearing broker for its equities active trader client base,
TradeStation Securities maintains custody and control over the assets in those
clients accounts and provides the following back office functions: maintaining
customer accounts; extending credit in a margin account to the customer;
settling security transactions with the DTCC; settling commissions and clearing
fees; preparing customer trade confirmations and statements; performing
designated cashier functions, including the delivery and receipt of funds and
securities to or from the customer; possession or control of customer
securities, safeguarding customer funds, transmitting tax accounting
information to the customer and to the applicable tax authorities; and
forwarding prospectuses, proxies and other shareholder information to
customers. As of September 30, 2004, TradeStation Securities had approximately 16,500
equities, futures and forex accounts, the vast majority of which were equities
and futures accounts, as compared to 11,276 accounts as of September 30, 2003.
During the 2004 third quarter, TradeStation Securities brokerage customer
account base had 31,035 daily average revenue trades (often called DARTs), as
compared to 25,184 during the 2003 third quarter. We also provide via our technologies subsidiary, TradeStation
Technologies, subscription services. The subscription version of TradeStation
offers strategy trading software tools that generate real-time buy and sell
alerts based upon the subscribers custom strategies, but does not include
order execution. Subscribers are charged a monthly subscription fee. Results of Operations For the three and nine months ended September 30, 2004 and 2003, we
operated in two principal business segments: (i) brokerage services and (ii)
software products and services. The brokerage services segment represents the
operations of TradeStation Securities and the software products and services
segment represents the operations of TradeStation Technologies. All
intercompany transactions are eliminated in consolidation. 17




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##### Table of Contents



In the 2004 second quarter, TradeStation Securities and TradeStation
Technologies amended their intercompany license and support agreement and
entered into a new expense-sharing agreement to reflect current business
requirements. These changes had no effect on the consolidated results, but did
result in an increased allocation of general and administrative expenses to the
brokerage services segment, and a corresponding decrease in the software
products and services segment, of approximately $154,000 and $277,000 for the
three and nine months ended September 30, 2004, respectively. The following table presents, for the periods indicated, certain items in
our consolidated statements of income broken down by segment: Three Months EndedSeptember 30, 2004
    
    Three Months EndedSeptember 30, 2003Software
    
    
    
    
    
    
    
    
    
    
    
    
    
    SoftwareProducts
    
    
    
    
    
    
    
    
    
    
    
    
    
    ProductsBrokerage
    
    And
    
    Elimin-
    
    
    
    
    
    Brokerage
    
    And
    
    Elimin-Services
    
    Services
    
    ations
    
    Total
    
    Services
    
    Services
    
    ations
    
    Total(In thousands)
    
    
    
    
    
    
    
    
    
    (In thousands)Revenues:Brokerage revenues, net
    
    $
    14,674
    
    
    $
    
    
    
    $
    
    
    
    $
    14,674
    
    
    $
    13,798
    
    
    $
    
    
    
    $
    
    
    
    $
    13,798Subscription fees
    
    
    
    
    
    
    6,639
    
    
    
    (4,530
    )
    
    
    2,109
    
    
    
    
    
    
    
    5,822
    
    
    
    (4,045
    )
    
    
    1,777Other
    
    
    54
    
    
    
    359
    
    
    
    
    
    
    
    413
    
    
    
    57
    
    
    
    454
    
    
    
    
    
    
    
    511Total revenues
    
    
    14,728
    
    
    
    6,998
    
    
    
    (4,530
    )
    
    
    17,196
    
    
    
    13,855
    
    
    
    6,276
    
    
    
    (4,045
    )
    
    
    16,086Operating expenses:Clearing and execution costs
    
    
    5,528
    
    
    
    
    
    
    
    
    
    
    
    5,528
    
    
    
    4,825
    
    
    
    
    
    
    
    
    
    
    
    4,825Data center costs
    
    
    4,607
    
    
    
    1,212
    
    
    
    (4,530
    )
    
    
    1,289
    
    
    
    4,314
    
    
    
    1,096
    
    
    
    (4,045
    )
    
    
    1,365Technology development
    
    
    384
    
    
    
    1,450
    
    
    
    
    
    
    
    1,834
    
    
    
    361
    
    
    
    1,413
    
    
    
    
    
    
    
    1,774Sales and marketing
    
    
    2,863
    
    
    
    42
    
    
    
    
    
    
    
    2,905
    
    
    
    2,307
    
    
    
    118
    
    
    
    
    
    
    
    2,425General and administrative
    
    
    1,632
    
    
    
    1,178
    
    
    
    
    
    
    
    2,810
    
    
    
    1,020
    
    
    
    1,250
    
    
    
    
    
    
    
    2,270Total operating expenses
    
    
    15,014
    
    
    
    3,882
    
    
    
    (4,530
    )
    
    
    14,366
    
    
    
    12,827
    
    
    
    3,877
    
    
    
    (4,045
    )
    
    
    12,659Income from operations
    
    $
    (286
    )
    
    $
    3,116
    
    
    $
    
    
    
    $
    2,830
    
    
    $
    1,028
    
    
    $
    2,399
    
    
    $
    
    
    
    $
    3,427
 Nine Months Ended  September 30, 2004
    
    Nine Months Ended  September 30, 2003Software
    
    
    
    
    
    
    
    
    
    
    
    
    
    SoftwareProducts
    
    
    
    
    
    
    
    
    
    
    
    
    
    ProductsBrokerage
    
    And
    
    Elimin-
    
    
    
    
    
    Brokerage
    
    And
    
    Elimin-Services
    
    Services
    
    ations
    
    Total
    
    Services
    
    Services
    
    ations
    
    Total(In thousands)
    
    
    
    
    
    
    
    
    
    (In thousands)Revenues:Brokerage revenues, net
    
    $
    44,517
    
    
    $
    
    
    
    $
    
    
    
    $
    44,517
    
    
    $
    37,481
    
    
    $
    
    
    
    $
    
    
    
    $
    37,481Subscription fees
    
    
    
    
    
    
    18,415
    
    
    
    (12,362
    )
    
    
    6,053
    
    
    
    
    
    
    
    16,062
    
    
    
    (10,880
    )
    
    
    5,182Other
    
    
    215
    
    
    
    1,091
    
    
    
    
    
    
    
    1,306
    
    
    
    159
    
    
    
    1,546
    
    
    
    
    
    
    
    1,705Total revenues
    
    
    44,732
    
    
    
    19,506
    
    
    
    (12,362
    )
    
    
    51,876
    
    
    
    37,640
    
    
    
    17,608
    
    
    
    (10,880
    )
    
    
    44,368Operating expenses:Clearing and execution costs
    
    
    16,762
    
    
    
    
    
    
    
    
    
    
    
    16,762
    
    
    
    13,130
    
    
    
    
    
    
    
    
    
    
    
    13,130Data center costs
    
    
    13,036
    
    
    
    3,787
    
    
    
    (12,362
    )
    
    
    4,461
    
    
    
    11,527
    
    
    
    3,077
    
    
    
    (10,880
    )
    
    
    3,724Technology development
    
    
    1,153
    
    
    
    4,439
    
    
    
    
    
    
    
    5,592
    
    
    
    1,053
    
    
    
    4,439
    
    
    
    
    
    
    
    5,492Sales and marketing
    
    
    7,870
    
    
    
    355
    
    
    
    
    
    
    
    8,225
    
    
    
    7,266
    
    
    
    451
    
    
    
    
    
    
    
    7,717General and administrative
    
    
    4,072
    
    
    
    3,880
    
    
    
    
    
    
    
    7,952
    
    
    
    3,013
    
    
    
    3,539
    
    
    
    
    
    
    
    6,552Total operating expenses
    
    
    42,893
    
    
    
    12,461
    
    
    
    (12,362
    )
    
    
    42,992
    
    
    
    35,989
    
    
    
    11,506
    
    
    
    (10,880
    )
    
    
    36,615Income from operations
    
    $
    1,839
    
    
    $
    7,045
    
    
    $
    
    
    
    $
    8,884
    
    
    $
    1,651
    
    
    $
    6,102
    
    
    $
    
    
    
    $
    7,753
 Critical Accounting Policies and Estimates Our significant accounting policies are described in Note 1 of Notes to
Consolidated Financial Statements included in the Annual Report on Form 10-K of
TradeStation Group for the year ended December 31, 2003  DESCRIPTION OF
BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, and have been updated
in this report as a result of the commencement of self-clearing operations in
September 2004. See Note 1 of Notes to Consolidated Financial Statements 
COMMENCEMENT OF SELF CLEARING OPERATIONS. The preparation of financial
statements in conformity with accounting principles generally accepted in the
United States requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosure of 18




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contingent assets and liabilities at the date of the financial statements as
well as the reported amounts of revenues and expenses during the reporting
period. Actual results could differ materially from those estimates. Brokerage Revenues, Net.Brokerage revenues are the key component of our
results of operations and are comprised of brokerage commissions and fees
earned from our customers brokerage transactions and, to a lesser extent,
platform fees earned from brokerage customers using the TradeStationelectronic
trading platform and net interest revenue earned from client related
investments (net of interest paid on customer cash balances) and interest
revenue sharing arrangements with the brokerages clearing agents. Brokerage
commissions and fees and their related clearing costs are recorded on a trade
date basis as transactions occur, while such transactions are reported to the
customer on a settlement date basis. Platform fees are recorded on a monthly
basis as service is provided, and net interest is recorded monthly as interest
is earned and interest expense is accrued. Income Taxes.As of September 30, 2004, we had net deferred income tax
assets of $5.6 million including a valuation allowance of $927,000. In
accordance with Statement of Financial Accounting Standards (SFAS) No. 109,
Accounting for Income Taxes,deferred income tax assets should be reduced by a
valuation allowance if it is more likely than not that some portion or all of
the deferred income tax assets will not be realized. Management evaluates and
determines on a periodic basis, the amount of the valuation allowance required
and adjusts the valuation allowance, as needed. In June 2004, we reversed a
significant portion of the valuation allowance that was provided on our
deferred income tax assets. In the opinion of management, it is more likely
than not that these benefits will now be realized. This decision was triggered
primarily by TradeStation Securities receiving final approval by the DTCC to
begin self-clearing for equities, the rollout of TradeStation 8(which included
integrated options execution), as well as eight consecutive quarters of income
from operations. In the 2004 second quarter, the result of this reversal was
a net income tax benefit of $3.2 million recorded in the consolidated statement
of income and a $3.3 million credit to additional paid-in capital (relating to
the income tax benefit of stock option exercises). The remaining valuation
allowance of $927,000 relates to net operating loss carryforwards from a 1999
acquisition. We did not reverse the remaining valuation allowance as the
acquired net operating loss carryforwards (expiring in 2018 and 2019) are
subject to annual usage limitations. The portion of the valuation allowance
which was not reversed represents the last five years of the annual limitation
amount due to the inability to estimate taxable income that far into the
future. Management will continue to make periodic evaluations of the valuation
allowance and will determine periodic adjustments, as required. See Income
Taxes below. Allowance for Potential Credit Losses.For potential credit losses,
TradeStation Securities performs periodic credit evaluations and provides
allowances based upon our assessment of unsecured receivables and other
factors. See Note 1 of Notes to Consolidated Financial Statements 
COMMENCEMENT OF SELF CLEARING OPERATIONS, Note 6  RECEIVABLES FROM BROKERAGE
CUSTOMERS, NET, and Note 14  COMMITMENTS AND CONTINGENCIES  General
Contingencies and Guarantees. Uninsured Loss Reserves. We decided, as of June 1, 2002, to no longer
carry errors or omissions insurance that covers third-party claims made by
brokerage customers or software subscribers as a result of alleged human or
system errors, failures, acts or omissions. This decision was made based upon
our assessment of the potential risks and benefits, including significant
increases in premium rates, deductibles and coinsurance amounts, reductions in
available per occurrence and aggregate coverage amounts, and the unavailability
of policies that sufficiently cover the types of risks that relate to our
business. Each quarter, we continue to evaluate our accruals for settlements
related to claims and potential claims. Estimates of settlements for such
potential claims, including related legal fees, are accrued in the consolidated
financial statements. The ultimate outcome of such potential claims may be
substantially different than our estimates. 19




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##### Table of Contents



Three Months Ended September 30, 2004 and 2003 Overall Total revenues were $17.2 million for the three months ended September 30,
2004, as compared to $16.1 million for the three months ended September 30,
2003, an increase of $1.1 million, or 7%, due to increases in net brokerage
revenues of $876,000 and subscription fees of $332,000, partially offset by a
decrease in other revenues of $98,000. Income from operations was $2.8 million for the three months ended
September 30, 2004, as compared to $3.4 million for the three months ended
September 30, 2003, a decrease of $597,000, or 17%. This decrease was due
primarily to increases in general and administrative expenses of $540,000 and
sales and marketing expenses of $480,000, partially offset by increased
subscription fees and higher brokerage revenues, net of related clearing and
execution costs. Other income, net consists primarily of interest income earned on our cash
and cash equivalents offset by interest expense related to capital lease
obligations and bank fees, as well as gains or losses on the sale of assets.
Other income, net was $78,000 for the three months ended September 30, 2004, as
compared to $114,000 for the three months ended September 30, 2003. The
decrease of $36,000 was due primarily to a decrease in interest income of
$60,000 partially offset by lower interest expense as a result of fewer capital
lease obligations. Decrease in interest income as compared to the 2003 third
quarter was due primarily to the prior year quarter including interest income
earned on the income tax receivable collected in October 2003. Provision for income taxes of $1.1 million was recorded during the three
months ended September 30, 2004 as a result of recording income tax expense at
an estimated annual effective tax rate of approximately 37.0% beginning in the
2004 third quarter. This compared to an income tax provision of $71,000 during
the three months ended September 30, 2003 associated primarily with an increase
to the valuation allowance established for the estimated amount due under the
2003 alternative minimum tax calculation. See Income Taxes below. Brokerage Services Segment Revenues Brokerage Revenues, Net. Brokerage revenues, net are comprised of
brokerage commissions and fees earned from our customers brokerage
transactions and, to a lesser extent, platform fees earned from brokerage
customers using the TradeStationelectronic trading platform and net interest
revenue earned from client related investments (net of interest paid on
customer cash balances) and interest revenue sharing arrangements with the
brokerages clearing agents. For the three months ended September 30, 2004,
brokerage revenues were $14.7 million (which included brokerage commissions of
$10.3 million), net of $107,000 of interest expense paid on customer credit
balances, as compared to brokerage revenues of $13.8 million (which included
brokerage commissions of $11.0 million) for the three months ended September
30, 2003. Increased brokerage revenues of $876,000, or 6%, was due primarily
to increased platform fees and net interest related to brokerage customer
account growth, partially offset by decreased brokerage commissions related to
a decrease in our commission pricing. Effective November 1, 2003, we reduced
our commission pricing for futures and our commission pricing per share for
equities trades. Continued price pressure on online brokerage commissions and
fees, as well as our ability to maintain or improve revenue growth, are
challenges we may continue to face. Other Revenues. Other revenues are comprised primarily of fees for our
training workshops that help customers take full advantage of the
state-of-the-art features of the TradeStationelectronic trading platform.
Other revenues were $54,000 for the three months ended September 30, 2004, as
compared to $57,000 in the comparable period of the prior year, a decrease of
$3,000, or 5%. 20




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Operating Expenses Clearing and Execution Costs.Clearing and execution costs are the costs
associated with executing and clearing customer trades, including commissions
paid to third-party broker-dealers. Beginning in 2004, clearing and execution
costs include new expenses related to our self-clearing operations, primarily
personnel and related expenses and consulting expenses, for which we received
no offsetting cost-savings prior to the September 2004 commencement of
self-clearing operations. Clearing and execution costs were $5.5 million for
the three months ended September 30, 2004, as compared to $4.8 million for the
three months ended September 30, 2003, an increase of $703,000, or 15%. This
increase was due primarily to $464,000 of incremental and start-up costs that
were not offset by any self-clearing benefits and, to a lesser extent,
increased clearing costs related to increased trading activity. Clearing and execution costs, as a percentage of brokerage revenues, were
38% for the three months ended September 30, 2004, as compared to 35% for the
three months ended September 30, 2003. This increase was due primarily to the
incremental and start-up costs related to self-clearing operations (which
impacted only 2004). While no assurances can be given, we expect to see
improvement in our operating margin in the 2004 fourth quarter resulting from the
commencement of self-clearing of equities trades for our active trader customer
base. Clearing and execution costs are expected to decrease if, as and when
TradeStation Securities becomes a member of the Options Clearing Corporation
and commences full self-clearing of standardized equity option trades through
use of that membership (at which time TradeStation Securities will no longer use its omnibus clearing relationship with Broadcort). Data Center Costs. Data center costs are primarily intercompany
subscription fees, eliminated upon consolidation, paid on a per user basis to
the software products and services segment for providing streaming real-time,
Internet-based trading analysis software and data services to brokerage
customers and, to a lesser extent, data communications costs necessary to
connect our server farms directly to electronic market places. See Technology
Development below. Data center costs were $4.6 million for the three months
ended September 30, 2004, as compared to $4.3 million for the three months
ended September 30, 2003, an increase of $293,000, or 7%, related primarily to
increased intercompany subscription fees paid to the software products and
services segment, which resulted mainly from an increase in the number of
brokerage accounts during 2004 as compared to 2003. See Software Products and
Services Segment  Revenues  Subscription Fees and - Operating Expenses -
Data Center Costs. Technology Development. Technology development expenses consist primarily
of personnel costs associated with product management of the brokerage products
and services TradeStation Securities offers to its customers and the creation
of documentation and other training and educational materials. Technology
development expenses for the three months ended September 30, 2004 were
$384,000, as compared to $361,000 for the three months ended September 30,
2003, an increase of $23,000, or 6%, due mainly to increased personnel costs.
Most of the technology costs required for our brokerage firm to offer and
operate a highly sophisticated electronic trading platform are borne by its
technology affiliate, which licenses that technology to the brokerage firm
pursuant to an intercompany agreement. See Software Products and Services
Segment  Operating Expenses  Technology Development. Sales and Marketing. Sales and marketing expenses consist primarily of:
personnel costs for sales, customer support centers, marketing and order desk,
as well as brokers commissions; marketing programs, including advertising,
brochures, direct mail programs and account opening kits; data and information
tools used by sales and brokerage personnel; and Web-site maintenance and
administration costs. Sales and marketing expenses were $2.9 million for the
three months ended September 30, 2004, as compared to $2.3 million for the
three months ended September 30, 2003, an increase of $556,000, or 24%, due
primarily to an increase in advertising and promotion costs of $416,000 and
increased personnel and related costs of $61,000. Sales and marketing expenses
are anticipated to continue to increase in the 2004 fourth quarter as we ramp
up our advertising and seek to grow our sales force to further accelerate
account growth. These additional sales and marketing expenses are not expected
to produce results, if any, until later periods. 21




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##### Table of Contents



General and Administrative. General and administrative expenses consist
primarily of costs for administrative personnel such as executive, human
resources, finance, compliance and information technology employees;
professional fees; telecommunications; rent; insurance; and other facility
expenses. General and administrative expenses were $1.6 million for the three
months ended September 30, 2004, as compared to $1.0 million for the three
months ended September 30, 2003, an increase of $612,000, or 60%, due primarily
to an increase in professional fees of $381,000, and, to a lesser extent,
increases in personnel costs of $62,000, insurance of $60,000, settlements of
disputes of $54,000 and other expenses. Professional fees increased during
2004 as compared to 2003 due to increased legal fees related to ongoing
litigation and claims, and increased accounting fees related to the
requirements of Section 404 of the Sarbanes-Oxley Act of 2002. Software Products and Services Segment Revenues Subscription Fees. Subscription fees represent monthly fees earned for
providing streaming real-time, Internet-based trading analysis software tools
and data services. Subscription fees also include intercompany revenue for
licensing to TradeStation Securities, on a per user basis, the right to provide
these software tools and data services to the brokerage customers of
TradeStation Securities (Intercompany Subscription Fees). Intercompany
Subscription Fees have no effect on the consolidated results. Subscription
fees were $6.6 million for the three months ended September 30, 2004, as
compared to $5.8 million for the three months ended September 30, 2003, an
increase of $817,000, or 14%, due primarily to an increase in Intercompany
Subscription Fees resulting from increased brokerage accounts at TradeStation
Securities. Excluding Intercompany Subscription Fees, subscription fees were
$2.1 million for the three months ended September 30, 2004, as compared to $1.8
million for the three months ended September 30, 2003, an increase of $332,000,
or 19%, as a result of price increases to certain groups of subscribers
effective September 2003 and May 2004, partially offset by a decrease in the
number of subscribers. Subscription services have not been actively marketed
since December 2000. Other Revenues. Other revenues consist primarily of royalties and
commissions received from third parties whose customers use our legacy software
products, and licensing fees derived from direct sales of our legacy customer
software products. Other revenues were $359,000 for the three months ended
September 30, 2004, as compared to $454,000 for the three months ended
September 30, 2003, a decrease of $95,000, or 21%. This expected decrease is
the result of no longer marketing legacy customer software since May 2000 and
no longer offering legacy customer software products domestically since
September 2001. Other revenues are expected to continue to decrease in future
quarters. Operating Expenses Data Center Costs. Data center costs represent expenses related to the
operation, maintenance and support of our data server farms. These expenses
consist primarily of rent and data communications costs at our facilities where
the data server farms are located, including costs necessary to connect our
data server farms directly to electronic market places, rent or depreciation
for servers, and data distribution and exchange fees. Data center costs for
the three months ended September 30, 2004 were $1.2 million, as compared to
$1.1 million for the three months ended September 30, 2003, an increase of
$116,000, or 11%. The increase is due primarily to increased data
communication charges at our facilities of $436,000, partially offset by lower
data distribution and exchange fees of $263,000 and reduced depreciation on
servers of $57,000. The decrease in data distribution and exchange fees
resulted primarily from receipt of data directly from exchanges (as opposed to
a data vendor who is paid monthly fees) beginning during the 2003 fourth
quarter, partially offset by incremental costs related to account growth. 22




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##### Table of Contents



Technology Development. Technology development expenses include: expenses
associated with the development of new products, services and technology;
enhancements to existing products, services and technology; and testing of
products and services. Technology development expenses consist primarily of
personnel costs, depreciation of computer and related equipment, facility
expenses and telecommunications costs. TradeStation Technologies owns all
intellectual property rights relating to our businesses, including, but not
limited to, all order execution technology. Technology development expenses
were approximately $1.4 million for the three months ended September 30, 2004
and for the three months ended September 30, 2003. Sales and Marketing. We no longer actively market software products and
services, the focus of our business being online brokerage services for active
and institutional traders. Sales and marketing expenses consist primarily of
personnel costs for customer support centers and, to a lesser extent, facility
costs. Sales and marketing expenses were $42,000 for the three months ended
September 30, 2004, as compared to $118,000 for the three months ended
September 30, 2003, a decrease of $76,000, or 64%, due primarily to the
transfer of substantially all of the customer support team from the software
products and services segment to the brokerage services segment in April 2004. General and Administrative. General and administrative expenses consist
primarily of costs for administrative personnel, such as: executive, human
resources, finance and information technology employees; professional fees;
telecommunications; rent; other facility expenses; and insurance. General and
administrative expenses were $1.2 million for the three months ended September
30, 2004, as compared to $1.3 million for the three months ended September 30,
2003, a decrease of $72,000, or 6%. This decrease was due primarily to a
favorable outcome of an audit of prior years sales tax, which resulted in a
$251,000 reduction of expenses, partially offset by increased professional fees
of $158,000. Professional fees increased during 2004 as compared to 2003 due
to increased legal fees related to ongoing litigation and claims and increased
accounting fees related to the requirements of Section 404 of the
Sarbanes-Oxley Act of 2002. Nine Months Ended September 30, 2004 and 2003 Overall Total revenues were $51.9 million for the nine months ended September 30,
2004, as compared to $44.4 million for the nine months ended September 30,
2003, an increase of $7.5 million, or 17%, due to increases in net brokerage
revenues of $7.0 million and subscription fees of $871,000, partially offset by
a decrease in other revenues of $399,000. Income from operations was $8.9 million for the nine months ended
September 30, 2004, as compared to $7.8 million for the nine months ended
September 30, 2003, an improvement of $1.1 million, or 15%. This improvement
was due primarily to higher brokerage revenues, net of related clearing and
execution costs, and increased subscription fees, partially offset by a
decrease in other revenues and increases in each operating expense category. Other income, net was $203,000 for the nine months ended September 30,
2004, as compared to $95,000 for the nine months ended September 30, 2003. The
increase of $108,000 was due primarily to lower interest expense during 2004 of
$58,000 as a result of fewer capital lease obligations, and a $55,000 loss on
the sale of investments in corporate stock during 2003, partially offset by a
slight decrease in interest income during 2004. An income tax benefit of $2.1 million was recorded during the nine months
ended September 30, 2004 primarily related to the reversal of a significant
portion of the valuation allowance on deferred income tax assets, partially
offset by income taxes provided for at an estimated annual effective rate of
approximately 37.0%, as compared to an income tax benefit of $730,000 during
the nine months ended September 30, 2003 that was associated mainly with income
tax refunds. See Income Taxes below. 23




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##### Table of Contents



Brokerage Services Segment Revenues Brokerage Revenues, Net. For the nine months ended September 30, 2004,
brokerage revenues were $44.5 million (which included brokerage commissions of
$32.8 million), net of $107,000 of interest expense paid on customer credit
balances, as compared to brokerage revenues of $37.5 million (which included
brokerage commissions of $30.2 million) for the nine months ended September 30,
2003. This $7.0 million increase, or 19%, was due primarily to increased
trading activity and platform fees related to brokerage customer account
growth, partially offset by a decrease in our commission pricing effective
November 1, 2003. Other Revenues.Other revenues were $215,000 for the nine months ended
September 30, 2004, as compared to $159,000 in the comparable period of the
prior year, an increase of $56,000, or 35%. The increase was a result of
training workshops being offered in all nine months of 2004, as opposed to not
being offered until March during the 2003 nine month period. Operating Expenses Clearing and Execution Costs.Clearing and execution costs were $16.8
million for the nine months ended September 30, 2004, as compared to $13.1
million for the nine months ended September 30, 2003, an increase of $3.7
million, or 28%. This increase was due primarily to increased trading activity
related to brokerage customer account growth and, to a lesser extent, $1.4
million of incremental and start-up costs related to our self-clearing
operations that were not offset by any self-clearing benefits, partially offset
by approximately $400,000 of increased costs for futures clearing in the 2003
second quarter imposed by our former futures clearing agent that were not
incurred in 2004 with our current futures clearing agent. Clearing and execution costs, as a percentage of brokerage revenues,
increased to 38% for the nine months ended September 30, 2004, as compared to
35% for the nine months ended September 30, 2003, due primarily to the
incremental and start-up costs related to self-clearing operations (which
impacted only 2004) and overall commission price reductions effective November
2003, partially offset by the 2003 second quarter increased futures clearing
costs. Data Center Costs. Data center costs were $13.0 million for the nine
months ended September 30, 2004, as compared to $11.5 million for the nine
months ended September 30, 2003, an increase of $1.5 million, or 13%, related
primarily to an increase in intercompany subscription fees paid to the software
products and services segment resulting from an increase in the number of
brokerage accounts during 2004 as compared to 2003 and, to a lesser extent,
increased costs to connect our data server farms directly to electronic market
places. See Software Products and Services Segment  Revenues  Subscription
Fees and - Operating Expenses  Data Center Costs. Technology Development. Technology development expenses for the nine
months ended September 30, 2004 were $1.2 million, as compared to $1.1 million
for the nine months ended September 30, 2003, an increase of $100,000, or 9%,
due mainly to increased personnel and related costs. Sales and Marketing. Sales and marketing expenses were $7.9 million for
the nine months ended September 30, 2004, as compared to $7.3 million for the
nine months ended September 30, 2003, an increase of $604,000, or 8%, due
primarily to increased advertising and promotional expenses of $540,000. General and Administrative. General and administrative expenses were $4.1
million for the nine months ended September 30, 2004, as compared to $3.0
million for the nine months ended September 30, 2003, an increase of $1.1
million, or 35%. This increase is due primarily to increases in professional
fees of $922,000, personnel and related costs of $160,000, insurance of
$151,000, facility expenses of $88,000 24




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and, to a lesser extent, increases in telecommunications and other expenses.
Professional fees increased during 2004 as compared to 2003 due to increased
legal fees related to ongoing litigation and claims, and increased accounting
fees related to the requirements of Section 404 of the Sarbanes-Oxley Act of
2002. Higher insurance was primarily the result of increased cost of
directors and officers liability insurance. These increases were partially
offset by the 2004 first quarter reversal of an uninsured loss provision and
related legal fees of $569,000 for a third-party claim which had remained
inactive for over one year, versus the 2003 reversal of uninsured loss
provisions and related legal fees of $178,000 due to the favorable settlement
of two claims. Software Products and Services Segment Revenues Subscription Fees. Subscription fees were $18.4 million for the nine
months ended September 30, 2004, as compared to $16.1 million for the nine
months ended September 30, 2003, an increase of $2.3 million, or 15%, due
primarily to an increase in Intercompany Subscription Fees resulting from
increased brokerage accounts at TradeStation Securities. Excluding
Intercompany Subscription Fees, subscription fees were $6.1 million for the
nine months ended September 30, 2004, as compared to $5.2 million for the nine
months ended September 30, 2003, an increase of $871,000, or 17%, as a result
of price increases to certain groups of subscribers during September 2003 and
May 2004, partially offset by a decrease in the number of subscribers.
Subscription services have not been actively marketed since December 2000. Other Revenues. Other revenues were $1.1 million for the nine months
ended September 30, 2004, as compared to $1.5 million for the nine months ended
September 30, 2003, a decrease of $455,000, or 29%. This expected decrease is
the result of no longer marketing legacy customer software since May 2000 and
no longer offering legacy customer software products domestically since
September 2001. Operating Expenses Data Center Costs. Data center costs for the nine months ended September
30, 2004 were $3.8 million, as compared to $3.1 million for the nine months
ended September 30, 2003, an increase of $710,000, or 23%. The increase is due
primarily to increased rent and data communication charges at our facilities of
$1.2 million, partially offset by lower data distribution and exchange fees of
$486,000. The decrease in data distribution and exchange fees resulted from
increased exchange fees charged to customer accounts and receipt of data
directly from exchanges (as opposed to a data vendor who is paid monthly fees)
beginning during the 2003 fourth quarter, partially offset by incremental costs
related to account growth and approximately $208,000 of credits received from
our data vendors during the first half of 2003. Technology Development. Technology development expenses were $4.4 million
for both the nine months ended September 30, 2004 and September 30, 2003,
respectively. Sales and Marketing. We no longer actively market software products and
services, the focus of our business being online brokerage services for active
and institutional traders. Sales and marketing expenses were $355,000 for the
nine months ended September 30, 2004, as compared to $451,000 for the nine
months ended September 30, 2003, a decrease of $96,000, or 21%. A decrease in
personnel and related costs in the first nine months of 2004 was partially
offset by a reduction in the first nine months of 2003 of expenses of $112,000
as a result of a favorable resolution of an event cancellation dispute and by a
reversal of previously accrued technical support costs of $89,000. General and Administrative. General and administrative expenses were $3.9
million for the nine months ended September 30, 2004, as compared to $3.5
million for the nine months ended September 30, 2003, an increase of $341,000,
or 10%. This increase was due primarily to increased professional fees of
$520,000 (related to increased legal fees for ongoing litigation and claims and
increased accounting fees related to the requirements of Section 404 of the
Sarbanes-Oxley Act of 2002), increased personnel and 25




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related costs of $179,000 and, to a lesser extent, increased insurance and
facility expenses. Partially offsetting these increases was a favorable
adjustment of $251,000 resulting from a prior years sales tax audit and, to a
lesser extent, a decrease in telecommunication costs. Variability of Quarterly Results The operating results for any quarter are not necessarily indicative of
results for any future period or for the full year. Our quarterly revenues and
operating results have varied in the past, and are likely to vary in the
future. Such fluctuations may result in volatility in the price of our common
stock. See Issues, Uncertainties and Risk Factors below. Income Taxes During the nine months ended September 30, 2004, we recorded a net income
tax benefit of $2.1 million, related primarily to the reversal of a significant
portion of a valuation allowance on deferred income tax assets. In June 2004,
we reversed a significant portion of the valuation allowance that was provided
on our deferred income tax assets. In the opinion of management, it is more
likely than not that these benefits will now be realized. In accordance with
SFAS No. 109, Accounting for Income Taxes,deferred income tax assets should be
reduced by a valuation allowance if it is more likely than not that some
portion or all of the deferred income tax assets will not be realized.
Management evaluates and determines, on a periodic basis, the amount of the
valuation allowance required and adjusts the valuation allowance, as needed.
The decision to reverse a significant portion of the valuation allowance was
triggered primarily by TradeStation Securities receiving final approval by the
DTCC to begin self-clearing for equities, the rollout of TradeStation 8(which
included integrated options execution), as well as eight consecutive quarters
of income from operations. In the 2004 second quarter, the result of this
reversal was a net income tax benefit of $3.2 million recorded in the
consolidated statement of income and a $3.3 million credit to additional
paid-in capital (relating to the income tax benefit of stock option exercises).
As of September 30, 2004, we had net deferred income tax assets of $5.6
million, which include a valuation allowance of $927,000, pertaining to net
operating loss carryforwards from a 1999 acquisition. We did not reverse the
remaining valuation allowance as the acquired net operating loss carryforwards
(expiring in 2018 and 2019) are subject to annual usage limitations. The
portion of the valuation allowance which was not reversed represents the last
five years of the annual limitation amount due to the inability to estimate
taxable income that far into the future. Management will continue to make
periodic evaluations of the valuation allowance and will determine periodic
adjustments, as required. As of September 30, 2004, we had available, for federal tax purposes,
total net operating loss carryforwards of approximately $11.2 million, which
expire between 2018 and 2023, including $3.6 million of net operating loss
carryforwards that relate to a 1999 acquisition. During the three months ended September 30, 2004, we recorded a net income
tax provision of $1.1 million as a result of recording income tax expense at an
estimated annual effective tax rate of approximately 37.0%. This compared to
an income tax provision of $71,000 during the three months ended September 30,
2003 associated primarily with an increase to the valuation allowance
established for the estimated amount due under the 2003 alternative minimum tax
calculation. During the nine months ended September 30, 2003, we recorded a $730,000
net income tax benefit comprised primarily of refunds related to a prior years
federal income tax return and a state income tax refund received during the
2003 first quarter for the overpayment of a prior years income tax, partially
offset by an increase to the valuation allowance established for the estimated
amount due under the 2003 alternative minimum tax calculation. Other than the
estimated increase to the valuation allowance for the estimated amount due
under the 2003 alternative minimum tax calculation, the income tax expense
associated with net operating income generated during the nine months ended
September 30, 2003 was totally offset by a reduction to the previously
established valuation allowance associated with deferred income tax assets,
primarily net operating loss carryforwards. 26




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Liquidity and Capital Resources Most of our assets are readily liquid. As of September 30, 2004, we had
cash and cash equivalents of approximately $28.7 million, of which $1.9 million
was restricted. Restricted cash supports a facility lease. See Note 14 of
Notes to Consolidated Financial Statements  COMMITMENTS AND CONTINGENCIES 
Restricted Cash. As of September 30, 2004, TradeStation Securities had: $352.6 million of
cash segregated, in compliance with federal regulations, in special reserve
bank accounts for the exclusive benefit of customers under Rule 15c3-3 of the
Securities Exchange Act of 1934 and other regulations; net receivables from
brokerage customers of $46.6 million; and receivables from brokers, dealers,
clearing organizations and clearing agents of $23.0 million. Client margin
loans are demand loan obligations secured in part by cash and/or readily
marketable securities. Receivables from and payables to brokers, dealers and
clearing organizations primarily represent current open transactions, which
usually settle, or can be closed out, within a few business days. Liquidity needs relating to client trading and margin borrowing activities
are met primarily through cash balances in brokerage client accounts, which was
$418.8 million at September 30, 2004. Management believes that brokerage cash
balances and operating earnings will continue to be the primary source of
liquidity for TradeStation Securities in the future. TradeStation Securities is subject to the net capital requirements of the
Securities and Exchange Commissions Uniform Net Capital Rule (Rule 15c3-1) and
the Commodity Futures Trading Commissions financial requirement (Regulation
1.17). In September 2004, upon commencement of self-clearing of equities
trades, TradeStation Securities changed its calculation of net capital
requirements to the alternative method, which requires the maintenance of
minimum net capital, as defined by the rules, equal to the greater of (i)
$250,000 and (ii) 2.0% of aggregate customer debit balances. Customer debit
items are a function of customer margin receivables and may fluctuate
significantly, resulting in a significant fluctuation in our net capital
requirements. At September 30, 2004, TradeStation Securities had net capital
of $11.4 million (15.3% of aggregate debit items), which was $9.9 million in
excess of its required net capital of $1.5 million. In addition to net capital requirements, as a self-clearing broker-dealer,
TradeStation Securities is subject to DTCC, clearing agent and other cash
deposit requirements which are and may continue to be large in relation to
TradeStation Groups total liquid assets, and which may fluctuate significantly
from time to time based upon the nature and size of TradeStation Securities
active trader clients stock trading activity. If TradeStation Securities
membership application with the Options Clearing Corporation is approved, and
TradeStation Securities then begins to fully self-clear standardized equity option
trades, significant additional cash deposits may be required. A summary of our capital lease obligations (net of interest and sales
tax), operating lease obligations (net of subleases), and minimum purchase
obligations (related to back-office systems, telecommunications services and
advertising) as of September 30, 2004 is as follows: Payments Due By Period2005
    
    2008
    
    2010 andContractual Obligations
    
    Total
    
    2004
    
    to 2007
    
    to 2009
    
    ThereafterCapital lease obligations
    
    $
    11,854
    
    
    $
    4,335
    
    
    $
    7,519
    
    
    $
    
    
    
    $
    Operating lease obligations
    
    
    16,573,039
    
    
    
    678,468
    
    
    
    6,794,170
    
    
    
    3,801,415
    
    
    
    5,298,986Purchase obligations
    
    
    3,471,435
    
    
    
    507,179
    
    
    
    2,964,256
    
    
    
    
    
    
    
    Total
    
    $
    20,056,328
    
    
    $
    1,189,982
    
    
    $
    9,765,945
    
    
    $
    3,801,415
    
    
    $
    5,298,986
 27




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In addition to the purchase obligations set forth in the table above, we
anticipate capital expenditures of up to $1.6 million through the remainder of
2004, primarily for the purchase of computer hardware and software to support
our back-office computer systems, server farms and upgrades to our telephone
system. If needed, these expenditures are expected to be funded through
operating cash flows, capital leases, or a combination of the two. We anticipate that our available cash resources and cash flows from
operations will be sufficient to meet our presently anticipated working capital
and capital expenditure requirements through at least the next twelve months. Net cash used in operating activities of $3.4 million during the nine
months ended September 30, 2004 consisted primarily of deposits paid to
clearing organizations and clearing agents and net cash outflows upon the
commencement of self-clearing operations, partially offset by net income, as
adjusted for non-cash items, including the reversal of the valuation allowance
associated with deferred income tax assets. Net cash provided by operating
activities of $9.3 million during the nine months ended September 30, 2003 was
due primarily to net income, as adjusted for non-cash items, and an increase in
accounts payables, partially offset by the recording of an income tax
receivable and reductions in accrued expenses. Investing activities provided cash of $1.2 million during the nine months
ended September 30, 2004 mainly due to $2.0 million of proceeds from the
maturity of marketable securities, partially offset by capital expenditures of
$1.0 million (mostly computer hardware and software for our data server farms
and our back-office systems to support the growth of our business) and a small
decrease in restricted cash. Investing activities used cash of $168,000 during
the nine months ended September 30, 2003, consisting primarily of capital
expenditures of $1.0 million, primarily computer hardware and software to
support the growth of our business operations, partially offset by a decrease
in restricted cash of $850,000, and to a lesser extent, proceeds from the sale
of investments. Financing activities provided cash of $614,000 during the nine months
ended September 30, 2004, and $3.8 million during the nine months ended
September 30, 2003. Proceeds from issuance of common stock from exercises of
stock options from our incentive stock plans and employee stock purchase plan
provided cash of $796,000 and $4.8 million during the nine months ended
September 30, 2004 and 2003, respectively. Repayments of capital lease
obligations were $182,000 and $1.0 million during the nine months ended
September 30, 2004 and September 30, 2003, respectively. During the nine months ended September 30, 2004, we issued 1,851 shares of
common stock associated with the exercise of warrants in exchange for the
delivery and cancellation of 4,108 warrants. All unexercised warrants expired
in June 2004. Off-Balance-Sheet Arrangements In the ordinary course of business, there are certain contingencies which
are not reflected in the consolidated financial statements. These activities
may expose the company to off-balance-sheet credit risk in the event the
customers are unable to fulfill their contractual obligations. Nearly all TradeStation Securities customer accounts are margin accounts.
In margin transactions, TradeStation Securities may be obligated for credit
extended to its customers by its clearing agents that are collateralized by
cash and securities in the customers accounts with those clearing agents. In
connection with securities activities, TradeStation Securities also executes
customer transactions involving the sale of securities not yet purchased
(short sales), all of which are transacted on a margin basis subject to
federal, self-regulatory organization and individual exchange regulations and
TradeStation Securities and its clearing agents internal policies.
Additionally, TradeStation Securities may be obligated for credit extended to
its customers by its clearing agents for futures transactions that are
collateralized by cash and futures positions in the customers accounts with
those clearing agents. In 28




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all cases, such transactions may expose TradeStation Securities to significant
off-balance-sheet credit risk in the event customer collateral is not
sufficient to fully cover losses that customers may incur. In the event
customers fail to satisfy their obligations, TradeStation Securities may be
required to purchase or sell financial instruments at prevailing market prices
to fulfill the customers obligations. TradeStation Securities seeks to control the risks associated with its
customers activities by requiring customers to maintain collateral in their
margin accounts in compliance with various regulatory requirements, internal
requirements, and the requirements of clearing agents. TradeStation Securities
and its clearing agents monitor required margin levels on an intra-day basis
and, pursuant to such guidelines, require the customers to deposit additional
collateral or to reduce positions when necessary. TradeStation Securities provides guarantees to its clearing organization
and exchanges under their standard membership agreements, which require members
to guarantee the performance of other members. Under the agreements, if
another member becomes unable to satisfy its obligations to the clearing
organization and exchanges, other members would be required to meet shortfalls.
TradeStation Securities liability under these arrangements is not
quantifiable and may exceed the cash and securities it has posted as
collateral. However the potential requirement for the company to make payments
under these arrangements is remote. Accordingly, no liability has been
recognized for these transactions. Issues, Uncertainties and Risk Factors The Consolidated Financial Statements and Managements Discussion and
Analysis of Financial Condition and Results of Operations should be read and
evaluated together with the issues, uncertainties and risk factors relating to
our business described below. While we have been and continue to be confident
in our business and business prospects, we believe it is very important that
anyone who reads this report consider these issues, uncertainties and risk
factors, which include business risks relevant both to our industry and to us
in particular. These issues, uncertainties and risk factors are not intended
to be exclusive. Issues, uncertainties and risk factors are also included in
other sections of this report when specifically relevant to a statement we have
made about an aspect of our business, or our financial condition or results of
operations. This report also contains statements that are forward-looking within the
meaning of Section 27A of the Securities Act of 1933, as amended, and Section
21E of the Securities Exchange Act of 1934, as amended. These forward-looking
statements are made pursuant to the safe harbor provisions of the Private
Securities Litigation Reform Act of 1995. When used in this report, the words
anticipate(s), anticipated, anticipation, assume(s), assumption(s),
become(s), belief(s), believe(s), believed, could, designed,
estimate, estimates, estimated, expect(s), expected,
expectation(s), going forward, future, hopeful, hope(s), intend(s),
intended, look forward, may, opportunity, opportunities,
outlook(s), pending, plan(s), planned, potential, scheduled,
shall, should, think(s), to be, upcoming, well-positioned, will,
would, and similar expressions, if and to the extent used, are intended to
identify the forward-looking statements. All forward-looking statements are
based on current expectations and beliefs concerning future events that are
subject to risks and uncertainties, including the risks and uncertainties
described below and elsewhere in this report. Actual results may differ
materially from the results suggested in this report. Factors that may cause
or contribute to such differences, and our business risks and uncertainties
generally, include, but are not limited to, the items described below, as well
as those described in other sections of this report, our other public filings
and our press releases. There Are Several Factors That May Cause Fluctuations In Our Quarterly
Operating Results, Which Could Result In Significant Volatility In Our Stock
Price Quarterly revenues and operating results of TradeStation Group and its
predecessor companies have fluctuated significantly in the past, and our
quarterly revenues and operating results are likely to fluctuate in the future.
Causes of such significant fluctuations may include, but are not limited to: 29




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
    
    the effect on the companys net income and earnings per share of
income tax expense at an estimated annual effective rate of
approximately 37% applied beginning in the 2004 third quarter (which is
significantly higher than the effective income tax rate of virtually
zero percent over the last eight fiscal quarters);
    
    general economic and market factors that affect active trading,
including trade volume, market volatility, market direction or trends,
the level of confidence and trust in the markets, and seasonality
(summer months and holiday seasons typically being slower periods);
    
    the quality and success of, and potential continuous changes in,
sales or marketing strategies (which continue to evolve), including the
effect of our recent decision to increase materially advertising and
marketing expenditures to try to help accelerate growth of revenues and
market share, and the timing of those marketing campaigns;
    
    the collectibility of unsecured customer accounts receivable which,
as of September 30, 2004, were approximately $467,000.
    
    the effect of changes to our commission pricing or other fee
structures (since the 2002 second quarter we have continuously reduced
commission pricing), and of additional price reductions that may be
implemented in the future (our most recent reduction to our commission
pricing for equities and futures trades became effective November 1,
2003);
    
    market or competitive pressure to continue to lower commissions and
fees charged to customers;
    
    the timing, success, volatility and other characteristics or
effects that develop concerning our new forex and online options trade
execution services;
    
    The negative effect on revenues that would result if our active
trader clients who engage in short selling (a large component of our
trade activity) become unsatisfied with the short sale borrowing
inventory we provide now that we no longer have access to Bear Stearns
short sale borrowing inventory and in light of new SEC regulations that
make it more difficult for us to offer such inventory;
    
    Costs, material shifts in cash requirements and/or adverse
financial consequences that may occur with respect to clearing
organization, clearing agent and/or exchange requirements, or
regulatory issues, including exchange, clearing agent or clearing
organization cash deposit requirements, reserve and settlement
requirements and other financial requirements;
    
    the appeal of our products and services to the institutional trader
market (given our limited experience selling to that market), and the
cost of technology development and sales, marketing, compliance,
technical, administrative and other infrastructure that may be required
to improve our chance of success in the institutional trader market;
    
    pending or potential third-party claims that turn out to be
significantly more (or less) costly, in terms of both judgment or
settlement amounts and legal expenses, than we currently estimate or
expect, including, but not necessarily limited to, the three claims
filed in 2003 by the co-founders of the predecessor company to
TradeStation Securities against the company, certain of its executive
officers and directors and certain family partnerships owned by two of
the executive officers (which seek, in the aggregate, tens of millions
of dollars in damages), a patent infringement case against the company
and other online brokerage firms and other potential patent
infringement claims, and pending NASD arbitrations concerning brokerage
customer claims seeking, in the aggregate, tens of millions of dollars
of actual and punitive damages;
    
    variations from our expectations with respect to hiring and
retention of personnel, sales and marketing expenditures, product
development, customer account growth, customer trading activity and the
share volume of their trades, or other revenue or expense items;
    
    if revenues are lower than budgeted expectations (as a result of
lower-than-expected daily average trades, share volume or other
reasons), the negative effects of such lower revenues to our 30




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bottom line, including our inability to make in a timely fashion
commensurate expense reductions (as a large amount of our expenses do not
vary with revenues in the short term);
    
    the effect of recent enhancements to the TradeStationelectronic
trading platform, including the possibility of less-than-anticipated
appeal to customers and unexpected technical issues or difficulties;
    
    changes in demand for our products and services due to the rapid
pace at which new technology is offered to customers in our industry;
and
    
    the size and frequency of any trading errors for which we may
ultimately suffer the economic burden, in whole or in part (including
losses from third-party claims that may arise from time to time  as of
June 1, 2002, we have not carried errors or omissions insurance for
third party claims). Conditions In The Securities And Financial Markets May Affect Our Rates Of
Customer Acquisition, Retention And Trading Activity Our products and services are, and will continue to be, designed for
customers who trade actively in the securities and financial markets. There
have been, since mid-year 2000, and, despite improved conditions in 2003 and
2004 there may again be, unfavorable conditions in the securities and financial
markets. To the extent that interest in active trading decreases due to low
trading volumes, lack of volatility, or significant downward movement in the
securities or financial markets, or future tax law changes, recessions,
depressions, wars, terrorism (including cyberterrorism), or otherwise, our
business, financial condition, results of operations and prospects could be
materially, adversely affected. Unfavorable market conditions have,
historically, seemed to severely negatively impact the share price of
publicly-held online brokerage firms, and also usually result in more losses
for our customers, which could result in increases in quantity and size of
errors or omissions claims that may be made against us by customers. We do not
currently carry any errors or omissions insurance that might cover, in part,
some of those potential claims. See The Nature Of Our Business Results In
Potential Liability To Customersbelow. We May Not Benefit As Much As We Think We Will From Self-Clearing Equity
Trades For Active Trader Accounts Self-clearing operations for our active trader equities accounts began in
September 2004. Prior to the September conversion of clearing services, all of
our customers equities trades were cleared through Bear Stearns, as our
clearing agent, which also provided to our active trader clients its short sale
borrowing inventory. Now that we have commenced self-clearing, we do so with
no prior experience, and the cost savings and efficiencies of self-clearing may
be less favorable than we expect as a result of unanticipated increased fixed,
infrastructure or incremental costs, mistakes or other factors. Also, such
anticipated savings may be more than offset by account losses or reduced
trading activity if we experience difficulties in providing to our clients
sufficient short sale borrowing inventory or if any self-clearing mistakes or
failures occur which undermine our customers or prospects confidence in our
ability to conduct reliable self-clearing operations. Also, our self-clearing
back-office operations will rely on the Phase3 self-clearing software licensed
to us by SunGard Financial Systems, and our business would likely suffer
substantial harm if that software fails, fails to be adequately supported by
SunGard, or otherwise causes unintended results. Further, errors made by us
related to the confirmation, receipt, settlement and delivery functions
involved in securities transactions, the custody and control of client
securities and other assets, or otherwise relating to the handling of our
clients securities and funds, could lead to civil penalties and increased
deposit and other requirements by governmental and self-regulatory
organizations, as well as losses and liability in lawsuits relating to client
accounts affected by such errors. 31




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We Are Exposed to Credit Risk We make margin loans to clients collateralized by client securities, and
borrow securities to cover trades. In fact, nearly all of our clients
accounts are margin, as opposed to cash, brokerage accounts. A portion of our
net revenues is derived from interest on margin loans. To the extent that
these margin loans exceed client cash balances maintained with us, we must
obtain financing from third parties. We may not be able to obtain this
financing on favorable terms or in sufficient amounts. By permitting clients
to purchase securities on margin, we are subject to risks inherent in extending
credit, especially during periods of rapidly declining markets in which the
value of the collateral substantially decreases in proportion to the amount of
a clients indebtedness. We are currently carrying approximately $467,000 of
unsecured account debits that resulted from large losses in two client
accounts, one that occurred in April, and one that occurred in September, as a
result of sudden, large adverse price movements to concentrated securities
positions being maintained by those clients. While we have implemented
additional risk-management procedures designed to reduce this risk, there can
be no assurance that we will not experience periodic or frequent unsecured
account debits that materially and adversely affect our results of operations.
In addition, in accordance with regulatory guidelines, we collateralize
borrowings of securities by depositing cash or securities with lenders. Sharp
changes in market values of substantial amounts of securities and the failure
by parties to the borrowing transactions to honor their commitments could have
a material, adverse effect on our revenues and profitability. Our Industry Is Intensely Competitive, Which Makes It Difficult To Attract
And Retain Customers The markets for online brokerage services, trading software tools, and
real-time market data services are intensely competitive and rapidly evolving,
and there has been substantial consolidation of those three products and
services in the industry, as well as consolidation of the types of financial
instruments (equities, equities options, futures, forex) offered by firms.
There has also been consolidation of online brokerage firms generally. We
believe that competition from large online and other large brokerage firms and
smaller brokerage firms focused on active traders, as well as consolidation,
will substantially increase and intensify in the future. Competition may be
further intensified by the size of the active trader market, which is generally
thought to be comprised of less than 10% of all online brokerage accounts. We
believe our ability to compete will depend upon many factors both within and
outside our control. Factors outside of our control include: price pressure;
the timing and market acceptance of new products and services and enhancements
developed by our competitors; market conditions, such as recession; the size of
the active trader market today and in the future; the extent to which
institutional traders are willing to use direct-access brokerage services from
firms that have traditionally served mostly retail customers; data availability
and cost; and third-party clearing costs. Factors over which we have more
control, but which are subject to substantial risks and uncertainties with
respect to our ability to effectively compete, include: timing and market
acceptance of new products and services and enhancements we develop; our
ability to design, improve and support materially error-free Internet-based
systems; ease-of-use of our products and services; reliability of our products
and services; pricing decisions; the ability and resources to provide
sufficient short sale inventory; self-clearing costs; and sales and other
marketing decisions and efforts. Systems Failures May Result In Our Inability To Deliver Accurately, On
Time, Or At All, Important And Time-Sensitive Services To Our Customers The online electronic trading platform we provide to our customers is
based upon the integration of our sophisticated front-end software technology
with our equally-sophisticated, Internet-based server farm technology. Our
server farm technology is the foundation upon which online trading customers
receive real-time market data and place buy and sell orders. However, in order
for this technology to provide a live, real-time trading platform, it requires
integration with real-time market data, which are currently provided directly
by the exchanges or by systems of independent third-party market data vendors
(who obtain the data directly from the exchanges), the electronic order book
systems of electronic communication networks (ECNs) and electronic systems
offered by the exchanges, the clearing and back-office systems we license from
SunGard for self-clearing and of the clearing agents we use for trades that we
do not self-clear, and the forex deal order placement, settlement and
back-office systems of 32




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or licensed to the forex dealer firm which is responsible for all of our
customers forex trades. Accordingly, our ability to offer a platform that
enables the development, testing and automation of trading strategies and the
placement, execution, clearing and settlement of buy and sell orders depends
heavily on the effectiveness, integrity, reliability and consistent performance
of all of these systems and technologies. In particular, the stress that is
placed on these systems during peak trading times could cause one or more of
these systems to operate too slowly or fail. We have experienced several
delays and outages since we launched our online trading platform, many of which
related to data vendor, clearing agent, exchange and ECN outages or issues
which are beyond our control. Also, a hardware or software failure (a hardware
failure caused a 30-minute outage in October 2004), software design limitations
or errors that exist in our and others technologies, power or
telecommunications interruption or natural disaster could cause a systems
failure or other potentially damaging results. When systems in the trading process slow down significantly or fail, even
for a short time, our brokerage customers could suffer delays in trading, or
unintended results or other problems, potentially causing losses and possibly
subjecting us to claims for such losses. Such failures or delays, depending
upon how often they occur and how serious they are, could also result in our
customers and customer prospects losing or failing to gain confidence in our
trading platform. Additionally, as a general matter not applicable only to our
company, the integrity of these types of systems is increasingly being attacked
by persons sometimes referred to as hackers who intentionally introduce
viruses or other defects to cause damage, inaccuracies or complete failure.
Also, cyberterrorism, should it occur, may significantly affect peoples
willingness to use Internet-based services, particularly ones that involve
their personal or companys assets. During a system outage or failure, our brokerage may be able to take
orders by telephone; however, only associates with appropriate licenses,
knowledge and experience can accept telephone orders, and an adequate number of
associates likely would not be available to take customer calls in the event of
a system outage or failure. System delays, errors, outages and failures,
depending upon how serious and how often they occur, could have a material
adverse effect on our business, financial condition, results of operations and
prospects. See The Nature Of Our Business Results In Potential Liability To
Customersbelow. We May Need Cash In The Foreseeable Future While we anticipate having sufficient cash to meet our needs over the next
12 months, our future liquidity and capital requirements will depend upon
numerous factors, including: the rate of customer acceptance of our products
and services, including the number of new brokerage accounts acquired and the
number and volume of trades made by our brokerage customers; the effect of
price reductions; price competition that may result in our continuing to charge
lower commissions and fees to customers; significant, increased infrastructure
and operating costs as our business grows, including unanticipated costs for
self-clearing and/or omnibus clearing operations (such as large cash or
security deposits, which are currently $9 million, and which are expected to
increase as our business grows, upon our becoming a member of Options Clearing
Corporation, which we expect to occur next year, and as we obtain additional
exchange and clearing organization memberships); increased net capital or
excess net capital requirements and unanticipated reserve and settlement
requirements; unanticipated costs relating to our new forex and options
execution services; costs of technology development and sales, marketing,
compliance, technical and administrative operations relating to increased and
intensified pursuit of institutional customers; substantial legal costs and/or
unexpected unfavorable outcomes in lawsuits and arbitrations currently pending
against us; and competing technological and market developments. Funds, if and
when needed, may be raised through debt financing and/or the issuance of equity
securities, there being no assurance that any such type of financing on terms
satisfactory to us will be available or otherwise occur. Any equity financing
or debt financing which requires issuance of equity securities or warrants to
the lender would reduce the percentage ownership of the shareholders of the
company. Shareholders also may, if issuance of equities occurs, experience
additional dilution in net book value per share, or the issued equities may
have rights, preferences or privileges senior to those of existing
shareholders. 33




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We Have Limited Time to Complete Testing and Evaluation of Our Internal
Controls and Systems On Which We Base Our Financial Reporting, And Our
Independent Auditors Have Limited Time In Which to Complete Their Review and
Evaluation of Those Controls and Systems. Our 2004 fiscal year end is December 31 and the audit of our 2004
financial statements is expected to be completed 4 to 6 weeks thereafter. Our
internal operations experienced a significant change beginning the week of
September 13, 2004, as that was the date we began self-clearing operations for
our entire active trader equities account client base, which represents a major
part of our trading operations. While we have been focused on the testing,
review and evaluation of our internal controls and systems not involving
self-clearing operations since early this year, and even though we are using
the SunGard Phase3 back-office software system for self-clearing (a system used
by many in our industry), we and our independent auditors have a limited amount
of time to complete the testing, review and evaluation of our new self-clearing
system, including the interface and operation of our sophisticated software
with SunGards Phase3 system. We believe that our internal controls and
systems on which we base our financial reporting have been and continue to be
sound, and expect to complete all required testing, review and evaluation in a
timely manner. However, no assurance can be made that all necessary testing,
review and evaluation will be completed, or that material weaknesses will not
be identified in our self-clearing systems, the interface of our self-clearing
systems with our other internal control and reporting software systems, or
other information technology software or systems we rely upon to accurately
report our financial condition and results. If material weaknesses are
identified, we may learn that certain aspects of our financial reporting are
inaccurate or misleading, and remedial steps and corrections would need to be
made as soon as possible at potentially considerable expense and diversion of
resources from other company objectives, and any reporting inaccuracies could
result in loss of customer revenues and adverse securities litigation once such
inaccuracies are disclosed. If we and our independent auditors do not timely
complete all necessary testing, review and evaluation, both we and our auditors
may be unable to provide required reports and certifications under the
Sarbanes-Oxley Act of 2002 and related rules or requirements. The Nature Of Our Business Results In Potential Liability To Customers Many aspects of the securities, futures and forex brokerage business,
including online trading services, involve substantial risks of liability. In
recent years there has been an increasing incidence of litigation involving the
securities and futures brokerage industry, including both class action and
individual suits and arbitrations that generally seek substantial damages,
including in some cases punitive damages. Our proprietary order routing
technology, in addition to offering charting, trade analysis and trade
execution services of various kinds, is designed to automatically locate, with
immediacy, the best available price in the appropriate market in completing
execution of a trade triggered by programmed market entry and exit rules.
There are risks that the electronic communications and other systems upon which
these products and services rely, and will continue to rely, or our products
and services themselves, as a result of flaws or other imperfections or
limitations in their designs or performance, may operate too slowly, fail,
cause confusion or uncertainty to the user, or operate or produce results not
understood or intended by the user. An investor or trader using either the
full electronic trading platform or our subscription service might claim that
investment or trading losses or lost profits resulted from use of a flawed
version of one of our trading software tools or systems, or inaccurate
assumptions made by the trading software tools regarding data, or inaccurate
data. Major failures of this kind may affect all customers who are online
simultaneously. Any such litigation could have a material adverse effect on
our business, financial condition, results of operations and prospects. We do
not currently carry any errors or omissions insurance that might cover, in
part, some of the above-described risks. While our contracts with customers
are, we believe, clear that customers who do business with us must knowingly
assume all of the risks described above, there can be no assurance that a
judge, arbitrator or regulator would enforce or honor such contractual
provisions. See Conditions In The Securities And Financial Markets May Affect
Our Rates Of Customer Acquisition, Retention And Trading Activity, and
"Systems Failures May Result In Our Inability To Deliver Accurately, On Time,
Or At All, Important And Time-Sensitive Services To Our Customers above. 34




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Dependence Upon Outside Data Sources And Clearing Relationships Creates
Risks Outside Of Our Control Which May Affect Our Ability To Provide, And Our
Cost To Provide, Market Data And Clearing And Account Services Our business is currently dependent upon our ability to maintain contracts
with private market and news data vendors and clearing and dealer firms in
order to provide certain market data and news, and clearing and account
services, respectively, to our customers. We currently obtain New York Stock
Exchange (NYSE), American Stock Exchange (AMEX), Nasdaq, Options Price
Reporting Authority (OPRA), Chicago Mercantile Exchange (CME), Chicago
Board of Trade (CBOT) and OneChicago real-time market data directly from
those exchanges, but obtain other market data (such as forex data and data of
smaller futures exchanges) and news pursuant to non-exclusive licenses from
private data vendors who in turn obtain the data from exchanges or other
sources. Clearing and back-office account services for our brokerage customers
are obtained from established clearing agents and, with respect to our
self-clearing operations, our software system licensing agreement with SunGard.
For our forex services, we rely on a third-party forex dealer firm for all
trade activity account services. The data and news contracts typically provide
for royalties based on usage or minimums, the clearing contracts provide for
transactional clearing fees and charges, and the contract with the forex dealer
provides for sharing a fixed amount of the spread made by the forex dealer in
each deal. There can be no assurance that we will be able to renew or maintain
contracts or acceptable clearing cost or vendor fee rates. In fact, in 2003 we
needed to quickly change our futures clearing agent in response to a
substantial increase in our clearing costs imposed by our former futures
clearing agent. Changes (or, in some cases, failure or inability to make
changes) in our relationships with one or more of these third parties, or
involuntary termination of one or more of those relationships, could have a
material adverse effect on our business, financial condition, results of
operations and prospects. We Are Subject To Intellectual Property Litigation There has been substantial litigation in the software industry involving
intellectual property rights. Although we do not believe that we are or will
be infringing upon the intellectual property rights of others, there has been
an infringement claim asserted against us and eight other online brokerage
firms by a company named Datamize, Inc. which would have a material adverse
effect on our business, financial condition, results of operations and
prospects if it is successful. Such a case, as well as any other infringement
case that may be brought against us, could result in our being unable to use
intellectual property which is integral to one or more of our products or
services. While we believe Datamize, Inc.s claim is without merit, no
assurances can be made about the outcome of this litigation or the magnitude of
the cost to defend the claims made in this litigation. We May Not Be Able To Adequately Protect Or Preserve Our Rights In
Intellectual Property Our success is and will continue to be heavily dependent on proprietary
technology, including existing trading software, Internet, Web-site and
order-execution technology, and those types of technology currently in
development. We view our technology as proprietary, and rely, and will be
relying, on a combination of copyright, trade secret and trademark laws,
nondisclosure agreements and other contractual provisions and technical
measures to protect our proprietary rights. We also have a pending patent
application covering the TradeStationelectronic platform, but we do not yet
know if the patent will be issued. Policing unauthorized use of our products
and services is difficult, however, and we may be unable to prevent, or
unsuccessful in attempts to prevent, theft, copying or other unauthorized use
or exploitation of our product and service technologies. There can be no
assurance that the steps taken by us to protect (or defend) our proprietary
rights will be adequate or that our competitors will not independently develop
technologies that are substantially equivalent or superior to our technologies
or products and services. 35




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Operation In A Highly-Regulated Industry And Compliance Failures May
Result In Severe Penalties And Other Harmful Governmental Actions Against Us The securities and commodity futures industries are subject to extensive
regulation covering all aspects of those businesses. Regulation of forex
dealer and brokerage services is increasing as well. The various governmental
authorities and industry self-regulatory organizations that supervise and
regulate (and may soon supervise and regulate) our brokerage firm have broad
enforcement powers to censure, fine, suspend, enjoin, expel or issue
cease-and-desist orders to our brokerage firm or any of its officers or
employees who violate applicable laws or regulations. Additionally, rules
relating specifically to active traders have been enacted and more may be
enacted which severely limit the operations and potential success of our
business. For example, in January 2005 new short sale rules promulgated by
the SEC will become effective that may materially, adversely affect our ability
to provide quality short sale brokerage services to our equities brokerage
customers. Our ability to comply with all applicable laws and rules is largely
dependent on our brokerages maintenance of compliance and reporting systems,
as well as its ability to attract and retain qualified compliance and other
personnel and make suitable contractual relationships with appropriate vendors,
lenders and counterparties. Our brokerage could be subject to disciplinary or
other regulatory or legal actions in the future due to noncompliance. The Loss Of Key Employees Could Decrease The Quality Of Our Management And
Operations Our success depends to a very significant extent on the continued
availability and performance of a number of senior management and product
development personnel. The loss of one or more of these key employees could
have a material adverse effect on our company. There Are Risks Relating To Our Ability To Maintain Customer Privacy And
Security And That Increased Government Regulation Of Internet Business May
Occur Customers may refuse to transact business over the Internet, particularly
business, such as ours, that involves the handling of significant amounts of
customers funds, due to privacy or security concerns. This risk will grow if,
as and to the extent cyberterrorism occurs or is perceived to be a viable,
prominent threat or likelihood to occur (or recur on a regular basis). We
currently incorporate and plan to continue to incorporate security measures
into our privacy policies. However, a major breach of customer privacy or
security could have serious consequences for our Internet-based operations.
Use of the Internet, particularly for commercial transactions, may not continue
to increase as rapidly as it has during the past few years as a result of
privacy or security concerns, or for other reasons. If this occurs, the growth
of our operations would be materially hindered. If Internet activity becomes
heavily regulated in these respects or otherwise, that could also have
significant negative consequences for the growth of our current and planned
operations. Our Brokerage Must Meet Net Capital And Other Financial Requirements As A
Broker-Dealer That, If Not Satisfied, Could Result In Severe Penalties Or Other
Negative Consequences, And Which At All Times Limit Our Right To Use All Of The
Brokerages Cash The SEC, the NASD, the CFTC, the NFA, the DTCC, certain exchanges and
other regulatory and self-regulatory agencies or organizations have stringent
rules with respect to the maintenance of specific levels of net capital by
securities broker-dealers and futures commission merchants, large, fluctuating
cash deposit requirements, and reserve, settlement and other financial
requirements. Net capital is the net worth of the regulated company (assets
minus liabilities), less deductions for certain types of assets as well as
other charges. If a firm fails to maintain the required net capital it may be
subject to suspension or revocation of registration by the SEC or CFTC and
suspension or expulsion by the NASD or NFA, and it could ultimately lead to the
firms liquidation. If such net capital rules are changed or expanded, or if
there is an unusually large charge against net capital, operations that require
the use of capital would be restricted. Also, our ability to withdraw capital
from our TradeStation Securities brokerage subsidiary is subject to SEC rules,
which in turn could materially impact our available working capital and
materially 36




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impact or limit our ability to repay debt as and when due, redeem or purchase
shares of our outstanding stock, if required or desirable, and pay dividends in
the future. A large operating loss or charge against net capital could
adversely affect our ability to expand or even maintain our then present levels
of business, which could have a material adverse effect on our business,
financial condition, results of operations and prospects. See We May Need
Cash In The Foreseeable Futureabove. Control Of TradeStation Group By The Cruzes Means That Important Decisions
Affecting The Company Are Concentrated In The Judgment Of Two Related
Individuals As of November 1, 2004, affiliates of William R. Cruz and Ralph L. Cruz
(the Co-Chairmen and Co-Chief Executive Officers of our company) own nearly 50%
of the outstanding shares of our common stock. Therefore, as a practical
matter, the Cruzes control TradeStation Group. Any and all decisions and votes
of our shareholders (including the election of our Board of Directors and any
merger, consolidation or sale of all or substantially all of TradeStation
Groups assets) will likely be determined by the Cruzes. 
 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Market risk generally represents the risk of loss that may result from the
potential change in the value of a financial instrument as a result of
fluctuations in interest rates and market prices. We have established
policies, procedures and internal processes governing our management of market
risks in the normal course of our business operations. We do not hold any
market risk sensitive instruments for trading purposes. TradeStation Securities seeks to control the risks associated with our
customer activities by requiring customers to maintain margin collateral and
reduce concentrated positions in compliance with regulatory and internal
guidelines. TradeStation Securities monitors required margin levels on an
intra-day basis and, pursuant to such guidelines, requires customers to deposit
additional collateral, or to reduce positions, when necessary. As a self-clearing broker-dealer, TradeStation Securities holds interest
earning assets, mainly funds required to be segregated in compliance with
federal regulations for customers. These funds totaled $352.6 million at
September 30, 2004. Interest earning assets are financed primarily by
short-term interest bearing liabilities, totaling $418.8 million at September
30, 2004, in the form of customer cash balances. TradeStation Securities earns
a net interest spread on the difference between amounts earned on customer
margin loans and amounts paid on customer cash balances. Because TradeStation
Securities establishes the rate paid on customer cash balances and the rate
charged on customer margin balances, a substantial portion of our interest rate
risk is under our direct management. TradeStation Securities seeks to control risks associated with its
securities borrowing activities by requiring credit approvals for
counterparties, by monitoring the collateral values for securities borrowed on
a daily basis and by obtaining additional collateral as needed. See Note 14 of
Notes to Consolidated Financial Statements  COMMITMENTS AND CONTINGENCIES 
General Contingencies and Guarantees. Changes in interest rates affect the interest earned on our cash and cash
equivalents, and the interest earned from interest revenue sharing arrangements
with our clearing agents. In order to reduce this interest rate risk, we are
currently invested in investments with short maturities. As of September 30,
2004, our cash and cash equivalents consist primarily of interest bearing cash
deposits and money market funds. The interest earned on those investments is
relatively low due to current market interest rates and, even if market
interest rates were to increase immediately by 100 basis points, the amount of
interest earned would not have a material impact on our financial results. Our revenues and financial instruments are denominated in U.S. dollars,
and we do not invest in derivative financial instruments. 37




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ITEM 4. CONTROLS AND PROCEDURES As of the end of, and with respect to, the period covered by this
Quarterly Report on Form 10-Q, an evaluation of the effectiveness of the design
and operation of the companys disclosure controls and procedures was made
under the supervision and with the participation of the companys management,
including the Co-Chief Executive Officers and the Chief Financial Officer.
Based on that evaluation, the companys management, including the Co-Chief
Executive Officers and the Chief Financial Officer, concluded that the
companys disclosure controls and procedures have been designed and are being
operated in a manner that provides reasonable assurance that the information
required to be disclosed by the company in reports filed under the Securities
Exchange Act of 1934, as amended, is recorded, processed, summarized and
reported within the time periods specified in the SECs rules and forms. A
system of controls, no matter how well designed and operated, cannot provide
absolute assurance that the objectives of the system of controls are met, and
no evaluation of controls can provide absolute assurance that all control
issues and instances of fraud, if any, within a company have been detected. In
conjunction with its commencement of self-clearing operations, the company is
now using, together with its back-office software systems, the Phase3 clearing
and settlement software licensed from SunGard and may implement other changes
to its internal controls over financial reporting as a result of new
self-clearing operations. Except as set forth in the preceding sentence, there
have been no changes in the companys internal controls over financial
reporting that occurred during the most recent fiscal quarter that have
materially affected, or are reasonably likely to materially affect, the
companys internal controls over financial reporting. 38




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PART II  OTHER INFORMATION 
 ITEM 1. LEGAL PROCEEDINGS On February 11, 2003, the plan administrator appointed under the
reorganization plan in the Chapter 11 bankruptcy of Bridge Information Systems,
Inc. and its affiliates filed an adversary complaint against TradeStation
Technologies and the company in the United States Bankruptcy Court for the
Eastern District of Missouri demanding that the company and TradeStation
Technologies return payments made to TradeStation Technologies by a Bridge
subsidiary in December 2000 and January 2001 totaling approximately $1.0
million, claiming such payments were preferential transfers under the federal
bankruptcy code as a result of being made to TradeStation Technologies during
the ninety-day period immediately preceding the Chapter 11 bankruptcy filing.
This claim was settled in August 2004 for $30,000. 
 ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS (a) Sales of Unregistered Securities During the three months ended September 30, 2004, we issued to one
employee options to purchase an aggregate of 15,000 shares of common stock.
Such options vest ratably in annual increments over a five-year period and are
exercisable at a price of $5.90 per share, which was the fair market value (as
defined in our Incentive Stock Plan) of our common stock on the date the
options were granted. All of the options were granted under our Incentive
Stock Plan in the ordinary course, and expire, if they remain unexercised, on
the tenth anniversary of the date on which they were granted. During the three months ended September 30, 2004, we also issued to three
nonemployee directors options to purchase an aggregate of 21,000 shares of
common stock. Such options vest ratably in annual increments over a three-year
period and are exercisable at a price of $5.77 per share, which was the fair
market value (as defined in our Nonemployee Director Stock Option Plan) of our
common stock on the date on which the options were granted. All of the options
were granted under our Nonemployee Director Stock Option Plan, and expire, if
they remain unexercised, on the fifth anniversary of the date on which they
were granted. All the foregoing options were issued by us in reliance upon the exemption
from registration available under Section 4(2) of the Securities Act of 1933,
as amended. Other than as described above, we did not issue or sell any
unregistered securities during the third quarter of 2004. 
 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS (a) Meeting On July 21, 2004, TradeStation Group held its 2004 Annual Meeting of
Shareholders (the Annual Meeting). (b) Election of Board of Directors At the Annual Meeting, an election was held for the Board of Directors of
TradeStation Group. All six nominees to the Board of Directors were elected
(all six of whom were re-elected), receiving the number and percentage of votes
for election and abstentions as set forth next to their respective names below: 39




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For Election
    
    AbstentionsNominee for Director
    
    Number
    
    Percentage
    
    Number
    
    PercentageRalph L. Cruz
    
    
    33,496,494
    
    
    
    86.4
    %
    
    
    5,265,432
    
    
    
    13.6
    %William R. Cruz
    
    
    33,496,494
    
    
    
    86.4
    %
    
    
    5,265,432
    
    
    
    13.6
    %Michael W. Fipps
    
    
    37,728,450
    
    
    
    97.3
    %
    
    
    1,033,476
    
    
    
    2.7
    %Stephen C. Richards
    
    
    37,728,450
    
    
    
    97.3
    %
    
    
    1,033,476
    
    
    
    2.7
    %Salomon Sredni
    
    
    33,379,394
    
    
    
    86.1
    %
    
    
    5,382,532
    
    
    
    13.9
    %Charles F. Wright
    
    
    37,088,049
    
    
    
    95.7
    %
    
    
    1,673,877
    
    
    
    4.3
    %
 (c) Other Voting Matters The only other matter voted upon at the Annual Meeting was a proposal to
ratify the selection of Ernst & Young LLP as independent public accountants for
TradeStation Group for the fiscal year ending December 31, 2004. This proposal
was approved, receiving the votes of the holders of the number of shares of
common stock voted in person or by proxy at the Annual Meeting and the
percentage of total votes cast as indicated below: For
    
    Against
    
    Abstention38,857,697
99.89%
    
    32,847
0.08%
    
    11,482
0.03%
 
 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) The following exhibits are filed as part of this report: 31.1
    
    Certifications of Co-Chief Executive Officer Pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.31.2
    
    Certifications of Co-Chief Executive Officer Pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.31.3
    
    Certifications of Chief Financial Officer Pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.32.1
    
    Certification of Co-Chief Executive Officers Under 18 U.S.C. §1350.32.2
    
    Certification of Chief Financial Officer Under 18 U.S.C. §1350.
 (b) Reports on Form 8-K  (i)
    
    On July 19, 2004, we filed a Current Report on Form 8-K for an
event that occurred on July 19, 2004, reporting in Item 12 thereof the
release of our financial results for the second quarter of 2004 and a
Business Outlook for the 2004 third quarter.(ii)
    
    On August 19, 2004, we filed a Current Report on Form 8-K for an
event that occurred on August 13, 2004, reporting in Item 5 thereof
sales of shares of the common stock of the company by separate limited
partnerships beneficially owned by each of William Cruz and Ralph Cruz
(which were made pursuant to their respective Rule 10b5-1 plans) that
resulted in their combined percentage ownership of the outstanding
shares of the company common stock falling below fifty percent (50%)
and the company ceasing to be a Controlled Company under the meaning
of Nasdaq Rule 4350(c)(5).(iii)
    
    On October 14, 2004, we filed a Current Report on Form 8-K for an
event that occurred on October 14, 2004, reporting in Item 2.02 thereof
the release of our financial results for the third quarter of 2004 and
a Business Outlook for the 2004 fourth quarter. 40




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SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized. TradeStation Group, Inc.
RegistrantNovember 8, 2004
    /s/ David H. FleischmanDate
    David H. FleischmanChief Financial Officer,
Vice President of Finance and Treasurer
(Signing both in his capacity as duly authorized
officer and as Principal Financial and
Accounting Officer of the Registrant) 41




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EXHIBIT INDEX Exhibit No.
    
    Exhibit31.1
    
    Certifications of Co-Chief Executive Officer Pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.31.2
    
    Certifications of Co-Chief Executive Officer Pursuant to Section
302 of the Sarbanes-Oxley Act of 2002.31.3
    
    Certifications of Chief Financial Officer Pursuant to Section 302
of the Sarbanes-Oxley Act of 2002.32.1
    
    Certification of Co-Chief Executive Officers Under 18 U.S.C. §1350.32.2
    
    Certification of Chief Financial Officer Under 18 U.S.C. §1350.
 42