** **

**UNITEDSTATESSECURITIES AND EXCHANGE COMMISSION**Washington, D.C.20549

** **

**FORM10-K**

** **

| **ý** | ** ** | **Annual  report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934**                                                                                                                                                                                                                                             |
|------------|------------|---------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|       |       |                                                                                                                                                                                                                                                                                                                                  |
|       |       | **for the fiscal year ended December 31, 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:  001-15251**

 

**LaBRANCHE & CO INC.**

(Exact Name of Registrant as Specified in Its Charter)

 
| **Delaware**                                                    | ** ** | **13-4064735**                        |
|-----------------------------------------------------------------|------------|---------------------------------------|
| (State or Other Jurisdiction of  Incorporation or Organization) |       | (I.R.S. Employer  Identification No.) |

 

**One Exchange Plaza, New York, NewYork 10006**

(Address of Principal Executive Offices) (Zip Code)

 

**(212) 425-1144**

(Registrant’s telephone number, including area code)

 

| Securities registered pursuant to Section 12(b) of  the Act: | ** ** | **Common Stock, par value $0.01** |
|--------------------------------------------------------------|------------|-----------------------------------|
|                                                         |       | **New York Stock Exchange**       |
|                                                         |       | ** **                        |
| Securities registered pursuant to Section 12(g) of  the Act: |       | **None**                          |

 

Indicate by check mark whether the registrant: (1) hasfiled all reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the preceding 12 months (or for suchshorter 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  ý    No o

 

Indicate by check mark if disclosure of delinquentfilers pursuant to Item 405 of Regulation S-K is not contained herein, and willnot be contained, to the best of registrant’s knowledge, in definitive proxy orinformation statements incorporated by reference in Part III of this Form 10-Kor any amendment to this Form 10-K.   o

 

Indicate by check mark whether the registrant is anaccelerated filer (as defined in Exchange Act Rule 12b-2.  Yes  ý    No o

 

The aggregate market value of the Common Stock held bynon-affiliates of the registrant, based upon the last sale price of the CommonStock reported on the New York Stock Exchange on June 30, 2004, was approximately$503,709,000.

 

The number of shares of Common Stock outstanding as ofMarch 10, 2005 was 60,623,134.

 

**DOCUMENTSINCORPORATED BY REFERENCE**

** **

Portions of the registrant’s definitive ProxyStatement for the registrant’s 2005 Annual Meeting of Stockholders to be heldon May 17, 2005 are incorporated by reference in this Annual Report on Form10-K in response to Part II, item 5 and Part III, items 10, 11, 12, 13 and 14.

 

 

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**PARTI**

** **

*This Annual Report onForm 10-K and the documents incorporated by reference contain forward-lookingstatements that have been made pursuant to the provisions of the PrivateSecurities Litigation Reform Act of 1995. These forward-looking statements are based on current expectations,estimates and projections about the registrant’s industry, management’s beliefsand certain assumptions made by management. Words such as “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks,”“estimates,” variations of such words and similar expressions are intended toidentify such forward-looking statements. These statements are not guarantees of future performance and aresubject to certain risks, uncertainties and assumptions that are difficult topredict; therefore, actual results may differ materially from those expressedor forecasted in any such forward-looking statements.  Unless required by law, the registrantundertakes no obligation to update publicly any forward-looking statements,whether as a result of new information, future events or otherwise.  However, readers should carefully review therisk factors set forth herein and in other reports or documents the registrantfiles from time to time with the Securities and Exchange Commission (the “SEC”).*

* *

# **Item 1.**                                   BUSINESS.

# ** **

## **Overview**

## ** **

LaBranche & CoInc. is a holding company that is the sole member of LaBranche & Co.LLC, LaBranche Structured Products, LLC (“LSP”) and LaBranche StructuredProducts Specialists, LLC (“LSPS”), the sole stockholder of LaBranche FinancialServices, Inc. (“LFSI”) and LABDR Services, Inc. (“LABDR”), and the sole ownerof LaBranche & Co. B.V. (“BV”). Founded in 1924, LaBranche & Co. LLC isa registered broker-dealer and operates primarily as a specialist in equitysecurities and rights listed on the New York Stock Exchange (the “NYSE”) and inequity securities on the American Stock Exchange (the “AMEX”). LFSI, aregistered broker-dealer and a member of the NYSE and other exchanges, providessecurities clearing, securities execution and other related services to its owncustomers and customers of introducing brokers. LFSI also providesdirect-access floor brokerage services to institutional customers. LSP is aregistered broker-dealer that operates as a specialist in options,Exchange-Traded Funds (“ETFs”) and futures on the AMEX, the New York Board ofTrade (“NYBOT”), and the Philadelphia Stock Exchange (“PHLX”), and as amarket-maker in options, ETFs and futures on several exchanges. LSPS is a registered broker-dealer and operates asa specialist in ETFs traded on the NYSE. LABDR provides disasterrecovery services and back-up facilities to other LaBranche subsidiaries. BVrepresents LaBranche & Co. LLC in European markets and provides clientservices to LaBranche & Co. LLC’s European listed companies. In January2005, LSP formed a wholly-owned subsidiary in the United Kingdom, LaBrancheStructured Products Europe Limited (“LSPE”), to be a market-maker for ETFs tradedon the London Stock Exchange and the Eurex and Euronext exchanges. LSPE has yetto commence operations.

 

We are a Delawarecorporation that was incorporated in June 1999. Our principal executive officesare located at One Exchange Plaza, 25th Floor, New York, New York 10006, andour telephone number is (212) 425-1144. Our Internet address iswww.labranche.com. We make available free of charge, on or through the investorrelations section of our website, annual

 

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reports on Form 10-K,quarterly reports on Form 10-Q, current reports on Form 8-K and amendments tosuch reports filed or furnished pursuant to Section 13(a) or 15(d) of theSecurities Exchange Act of 1934 as soon as reasonably practicable after weelectronically file such material with, or furnish it to, the Securities andExchange Commission (“SEC”). These filings also are available on the SEC’swebsite at www.sec.gov.

 

Also available onour website are our Corporate Governance Guidelines, our Code of Conduct(applicable to all our directors, officers and employees) and the charters forour Audit Committee, Compensation Committee and Nominating & CorporateGovernance Committee.  Within the timeperiod required by the SEC and the NYSE, if applicable, we will post anyamendment and/or any waiver of our Code of Conduct.

 

We currently view our business as operatingprincipally in two separate segments: the Specialist segment and the Executionand Clearing segment.

 

Our Specialist segment currently includes theoperations of LaBranche & Co. LLC, LSP, LSPS, LABDR and BV. As of December31, 2004, the entities within our Specialist segment were specialists on theNYSE, the AMEX, the NYBOT, and PHLX, as well as market-makers on severalexchanges. Collectively, our Specialist segment is the specialist for 580common stock listings and 13 ETFs on the NYSE and 104 common stock listings,324 options listings, 5 futures and 3 ETFs on the AMEX, PHLX and NYBOT, and isa market-maker for 124 ETFs, 173 options and 19 futures on various exchanges.

 

Our Execution and Clearing segment currently includesthe operations of LFSI, which provides securities execution and clearingservices to retail and institutional clients and correspondents. LFSI’s centralfocus is to bring the customer closer to the point of sale and provide pricediscovery at the highest possible speed and lowest possible cost.

 

Compensation and related benefits for certainemployees and certain company-wide professional fees are allocated to our twoprincipal business segments. However, certain revenues and administrative andcorporate overhead expenses, which consist primarily of interest on our publicdebt, are not specifically allocated to our two principal business segments andthus are treated as “other” revenues and expenses. A description of ourprincipal business segments is presented below.

 

**OurSpecialist Segment**

 

***TheSpecialist Industry***

*** ***

The NYSE is the largest equities market in the world.At year-end 2004, the global market capitalization of all shares listed on theNYSE was approximately $19.8 trillion and the NYSE had nearly 2,800 listedcompanies, including approximately 460 non-U.S. companies from approximately 47countries.

 

The NYSE’s average daily trading volume for 2004 was1,456.7 million shares, up from 1,398.4 million shares in 2003.

 

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All trading of securities on the NYSE is conductedthrough an auction process. The auction process for each security is managed bythe exclusive specialist for that security. The specialist is a broker-dealerwho applies for and, if accepted, is assigned the role to maintain a fair andorderly market in its specialist stocks. The number of specialist units on theNYSE has decreased substantially over the past several years due toconsolidation within the industry. There are currently seven NYSE specialistfirms, of which the five largest, as ranked by number of specialist stocks,were responsible for 95.1% and 95.6% of the average daily share volume tradedon the NYSE in 2004 and 2003, respectively.

 

A specialist firm is granted an exclusive franchise bythe NYSE to conduct the auction in each of its NYSE-listed stocks. Specialistfirms conduct their auctions at specific trading posts located on the floor ofthe NYSE. Because the specialist firm runs the auction in its specialiststocks, it must consider all known buy and sell interest in its stocks in orderto price its stocks appropriately.

 

Specialist firms compete for the original listing ofstocks through an allocation process organized by the NYSE. As part of thisallocation process, companies seeking a listing may select a specialist firm inone of two ways. Under the first method, the NYSE’s allocation committeeselects the specialist firm based on specific criteria. Under the secondmethod, available since March 1997, the listing company requests that theallocation committee select three to five potential specialist firms suitablefor the stock, based on criteria specified by the listing company. The listingcompany then has the opportunity to meet with representatives from eachspecialist firm identified by the allocation committee. Within one week aftermeeting the competing specialist firms, the listing company must select aspecialist firm. Currently, substantially all companies seeking a listing onthe NYSE opt to make the final choice of their own specialist firm under thesecond allocation method.

 

When assigned a particular stock, the specialist firmagrees to specific obligations. The specialist firm’s role is to maintain, asfar as practicable, trading in the stock that is fair and orderly. This impliesthat the trading will have reasonable depth and price continuity, so that,under normal circumstances, a customer may buy or sell stock in a mannerconsistent with market conditions. A specialist firm helps market participantsachieve price improvement in their trades because the best bids and offers arediscovered through the auction process. In performing its obligations, thespecialist firm is exposed to all transactions that occur in each of itsspecialist stocks on the NYSE floor, either through electronic orders or floorbrokers. In any given transaction, the specialist firm may act as:

 

•                  an auctioneer by setting opening prices for itsspecialist stocks and by matching the highest bids with the lowest offers,permitting buyers and sellers to trade directly;

 

•                  a facilitator bringing together buyers and sellers whodo not know of each other in order to execute a trade which would not otherwiseoccur;

 

•                  an agent for broker-dealers who wish to executetransactions as instructed by their customers (typically, these orders arelimit orders entrusted to the specialist at prices above or below the currentmarket price); or

 

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•                  a principal using its own capital to buy or sellstocks for its own account.

 

The specialist firm’s decision to buy or sell sharesof its specialist stocks as principal for its own account may be based onobligation or inclination. For example, the specialist firm may be obligated tobuy or sell its specialist stock to counter short-term imbalances in theprevailing market, thus helping to maintain a fair and orderly market in thatstock. At other times, the specialist firm may be inclined to buy or sell thestock as principal based on market conditions. In actively-traded stocks, thespecialist firm continually buys and sells its specialist stocks at varyingprices throughout each trading day. The specialist firm’s goal and expectationis to profit from differences between the prices at which it buys and sellsthese stocks. In fulfilling its specialist obligations, however, the specialistfirm may, at times, be obligated to trade against the market, adverselyimpacting its profitability. In addition, the specialist firm’s tradingpractices are subject to a number of restrictions, as described in “NYSE andAMEX Rules Governing Our Specialist Activities.”

 

### ***RecentTrends in NYSE Trading***

### *** ***

Specialist firms generate revenues by executingtrades, either as agent or principal, in their specialist stocks. Accordingly,the specialist firms’ revenues are significantly impacted by the share volumeof trading on the NYSE. Over the last three years, average daily trading volumeon the NYSE has been flat at approximately 1.4 billion shares. This may beattributed to:

 

•                  a relatively slow return by the retail investor to theequity markets following the 2000-2002 bear market;

 

•                  popular interest in alternative investments,particularly residential real estate and commodities;

 

•                  significant changes in the regulatory environmentfacing institutional investors, including the rules relating to research andunderwriting; and

 

•                  the continued emergence of a new class of investors,including hedge funds, that invest in non-traditional instruments.

 

In addition to thedeclining annual growth of trading volume on the NYSE, several other factorsnegatively impacted specialists’ revenues during 2004, including:

 

•                  declining volatility of stock prices as measured bythe CBOE’s Volatility Index®, a key measure of market expectation of near-termvolatility and investor sentiment. As volatility in markets diminishes, theneed for specialists to employ capital to mitigate volatility decreases, whichin turn reduces specialists’ level of principal participation; and

 

•                  increased program trading as a percentage of totalNYSE average daily share volume. Program trading often results in a number ofsmaller orders executed through the NYSE’s SuperDOT® system. As a result,block-trading strategies have become less prevalent.

 

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Despite increases in themajor stock indices during 2004, including the Dow Jones Industrial Average,S&P 500 Index and the NYSE Composite Index, the combination of theaforementioned factors adversely affected our specialist operations.

 

The majority of trades in NYSE-listed stocks takeplace on the NYSE. In 2004, specialist firms handled 79.3% of trades inNYSE-listed stocks as compared to 79.5% in 2003. The percentage of trades inNYSE-listed stocks on the floor of the NYSE is affected as follows:

 

•                  some stocks are listed on multiple exchanges, such asregional exchanges, and trades take place on those exchanges as well as in theover-the-counter market and through alternative trading systems (“ATSs”); and

 

•                  at times, significant volume in NYSE-listed stockstakes place before and after regular NYSE trading hours.

 

Technological advances have contributed to increasedtrading through ATSs, such as electronic communications networks, or ECNs, andelectronic crossing systems. While the first ECN was created in 1969, most ofthe ECNs currently in operation were started only during the past severalyears. These systems electronically facilitate the matching of buy and sellorders that are entered by their network members. If a match does not occur,some ATSs will forward unfilled orders to other ATSs or to exchanges such asthe NYSE. Some of these networks also allow limited negotiation between membersto facilitate a match. These ATSs generally limit trades over their systems totheir members, who are typically large financial institutions, professionaltraders or brokerage firms. Additionally, some ATSs are being developed tofacilitate trading by retail investors. In April 1999, the SEC ruled thatthese networks are allowed, and in specified cases are required, to registerand become subject to regulation as stock exchanges.

 

Despite the presence of these ATSs, to date, there hasbeen only a slight decline in the percentage of equity shares traded on theNYSE. The percentage of annual trading of NYSE-listed stocks on the NYSE hasranged from 79.3% to 84.0% for the past five years. It is unclear, however, howATSs and other new technologies will affect the future percentages of tradingin listed stocks conducted on the NYSE.

 

In response to the development of ATSs, in 2001 theNYSE launched Network NYSE, a suite of market information and auto-executionproducts offering new choices to different types of customers. Some examples ofthese products include:

 

•                  NYSE Direct+®, an automatic execution service forlimit orders up to 1,099 shares, enabling investors to automatically executeorders at the national best bid offer;

 

•                  NYSE OpenBook(SM), an online market data productallowing subscribers to view information on the NYSE limit order books; and

 

•                  Institutional Express(SM), an electronic gateway tosatisfy large order requirements and the growing information needs of NYSEmember firms and their institutional customers.

 

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During 2004, the NYSEalso proposed to institute a Hybrid Market system, which enables investors tochoose how their orders are executed on the NYSE. As proposed, an investorinterested in speed, certainty and anonymity of execution can choose the NYSEDirect+® automatic execution system. An investor interested in the opportunityfor price improvement can choose the NYSE’s auction process. Specifically, theNYSE Direct+® system will be enhanced by eliminating the rule requiring a delayof at least 30 seconds between orders for the same customer, eliminating the1,099-share size limit for orders on NYSE Direct+® and allowing traders to “sweepthe book” within a specified range, allowing execution at different pricepoints.

 

Inaddition, on February 26, 2004, the SEC proposed new rules (“Regulation NMS”)which would require, subject to certain exceptions, that every “order executionfacility” (i.e., every national securities exchange, national securitiesassociation that operates an order execution facility, alternative tradingsystem, exchange specialist and market-maker, OTC market-maker, blockpositioner and any other broker or dealer that executes orders internally bytrading as principal or crossing orders as agent), establish, maintain andenforce polices and procedures reasonably designed to prevent the execution ofa “trade-through” (*viz*., theexecution of an order at a price that is inferior to a price displayed inanother market) in its market. As originally proposed, this requirement wouldapply to all incoming orders in “NMS Stocks,” including all NASDAQ, NYSE andAMEX-listed stocks and to any order execution facility that executes ordersinternally within its market, whether or not that market posts its best bid andoffer in the consolidated quote system. The two major exceptions to thisrequirement, however, would have (1) allowed customers (and broker-dealerstrading for their own accounts) to “opt-out” of the protections of the rule byproviding informed consent to the execution of their orders, on anorder-by-order basis, in one market without regard to the possibility ofobtaining a better price in another market, and (2) taken into account thedifferences between the speed of execution in electronic versus manual marketsby providing an automated market with the ability to trade-through anon-automated market at a price up to a certain amount away from the best bidor offer displayed by the non-automated market.

 

OnDecember 16, 2004, after receiving numerous comments on proposed RegulationNMS, the SEC reproposed Regulation NMS (“Reproposed Regulation NMS”) and openedit for a 30-day comment period, which ended on January 26, 2005. ReproposedRegulation NMS includes the following refinements of the trade-through rule:

 

•                  the establishment of intermarket protection againsttrade-throughs for all NMS stocks and protection of only those quotations thatare immediately accessible through automatic execution. The revised rule alsowould limit investors' ability to opt out of the trade-through rule.

 

•                  two alternative approaches to the scope of quotationsto be protected:

 

•                  The “Market BBO Alternative,” which would protect onlythe best bids and offers (“BBOs”) of each exchange trading a security, as wellas the BBO of the NASD’s Alternative Display Facility and NASDAQ’s BBO; and

 

•                  The “Voluntary Depth Alternative,” which would protectthe BBOs of each market and would establish a mechanism for a market tovoluntarily protect its

 

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quotations at prices below its best bid or above itsbest offer (“depth-of-book”) that are publicly displayed. Thus, the alternativerule would protect all publicly displayed quotes, or limit orders, and not justthe best quote.

 

While the effect on ourbusiness operations of adoption of the NYSE’s and SEC’s proposed rule changes,either in their current form or in a modified form, cannot be predicted withcertainty, we believe that the proposed enhancements to NYSE Direct+® shouldenable the NYSE to remain competitive for order flow by offering a combinationof best price, high liquidity and fast execution.

 

## ***Our SpecialistOperations***

## *** ***

## ***Our NYSE and AMEX EquitySpecialists***

## *** ***

Our NYSE and AMEX equity specialist operations are conducted throughour LaBranche & Co. LLC subsidiary. As a specialist in equity securitiesand rights listed on the NYSE and in equity securities on the AMEX, LaBranche& Co. LLC’s role is to maintain, as far as practicable, a fair and orderlymarket in its specialist stocks. In doing so, it provides a service to itslisted companies, and to the brokers, traders and investors who trade in itsspecialist stocks. As a result of our commitment to providing high qualityspecialist services, we have developed a solid reputation among ourconstituencies, including investors, members of the Wall Street community andour listed companies.

 

While our specialist business has grown considerablysince our 1999 initial public offering, our operating results have weakenedover the last two fiscal years. Revenues from our Specialist operations havedecreased from $401.2 million in 2002 to $245.0 million in 2004. Since ourinitial public offering, we have increased the number of our listed companiesand specialist market share both internally and through acquisitions. Since theNYSE implemented its new specialist allocation process in March 1997, wehave been selected by 174 new listed companies, resulting from 408 listinginterviews through December 31, 2004. In addition, we have acquired elevenspecialist operations since 1997, adding approximately 500 NYSE common stocksand 52 AMEX common stocks. As a result of internal growth and selectiveacquisitions, our LaBranche & Co. LLC subsidiary currently is a leadingNYSE specialist as illustrated by the following data:

 

•                  the dollar volume traded of stocks for which LaBranche& Co. LLC was the specialist on the NYSE in 2004 was $2.8 trillion, or25.4% of total 2004 NYSE dollar volume, and was $2.5 trillion in 2003, or 26.9%of total 2003 NYSE dollar volume;

 

•                  the share volume traded of stocks for which LaBranche& Co. LLC was the specialist on the NYSE in 2004 was 96.1 billion, or27.1% of total 2004 NYSE share volume, and was 94.5 billion in 2003, or 28.3%of total 2003 NYSE share volume; and

 

•                  as of December 31, 2004, the total number of LaBranche& Co. LLC’s NYSE common stock listings was 580, or 22.1% of all NYSE commonstock listings, and as of December 31, 2003, its total number of NYSE commonstock listings was 578, or 22.4% of all NYSE common stock listings.

 

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By these threemeasurements, LaBranche & Co. LLC was one of the largest NYSE specialistfirms as of December 31, 2004 and 2003. In addition, LaBranche & Co. LLCacted as the specialist for 243 other NYSE-listed securities (e.g., preferredstocks and derivative securities).

 

As of December 31, 2004, our LaBranche & Co. LLCsubsidiary’s listed companies included:

 

•                  104 of the S&P 500 Index companies;

 

•                  30 of the S&P 100 Index companies; and

 

•                  7 of the 30 companies comprising the Dow JonesIndustrial Average (“DJIA”). Our DJIA stocks are 3M Co., Altria Group, Inc.,American Express Company, E.I. du Pont de Nemours and Company, Exxon MobilCorporation, Merck & Co. Inc., and SBC Communications Inc.

 

*Our**Options/ETF Specialist andMarket-Maker Operations*

 

Through September 25, 2002, our AMEX specialistoperations for both equities and options were conducted entirely by LaBranche& Co. LLC. Since then, we have conducted our options, ETFs and otherderivatives specialist and market-making business activities on the AMEX,NYBOT, PHLX, Chicago Board Options Exchange® (“CBOE”), and other exchangesthrough our LSP subsidiary. Our equity specialist activities on the AMEXcontinue to be conducted by LaBranche & Co. LLC.

 

During 2004, LSP’s operations continued to expandsubstantially. LSP revenues increased 92.4% from $18.4 million in 2003 to $35.4million in 2004. In addition, LSP expanded its market-making activities todifferent derivative products as well as other financial markets. As ofDecember 31, 2004, LSP acted as the specialist for 324 options, 5 futures and 3ETFs listed on the AMEX, NYBOT, PHLX and other exchanges, and acted as amarket-maker in 124 ETFs, 173 options and 19 futures on several otherexchanges. Furthermore, during January 2005 and February 2005, LSP gained anadditional 97 options listings on the AMEX, due to the reallocation of optionsformerly handled by another firm.

 

LSP is responsible for creating a fair and orderlymarket in the trading of its specialist options, ETFs and futures. In doing so,LSP may at times be obligated to trade against the market, adversely impactingthe profitability of the trade or creating a position that may not necessarilybe desired. To hedge the risk of its derivative positions, LSP may buy or sellthe underlying asset(s). LSP also trades securities as principal out of bothobligation and inclination.

 

As a registered market-maker in options, ETFs andfutures, LSP generally engages in a course of dealings that is reasonablycalculated to contribute to the maintenance of a fair and orderly market. LSPalso may hedge these positions with the underlying assets or other financialinstruments. In its market-making function, LSP brings immediacy and liquidityto the markets when it chooses to participate.

 

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In January 2005, LSP also formed a wholly-ownedsubsidiary in the United Kingdom (“UK”), LSPE, to be a market-maker for ETFstraded on the London Stock Exchange, Eurex and Euronext exchanges.  LSPE has yet to commence operations, but isin the process of registering as a broker-dealer with the UK’s FinancialSecurities Authority (“FSA”).  After itcommences operations, we expect LSPE to also strengthen LSP’srelationships with U.S. ETF issuers, which will help LSP diversify its exchangebase and better manage its risk.

 

### *Our NYSE ETFSpecialist Operations*

### * *

In July 2004, LSPS commencedoperations on the floor of the NYSE as an ETF specialist. As a specialist inETFs listed on the NYSE, LSPS’s role is to maintain, as far as practicable, afair and orderly market in its ETFs. In doing so, it provides a criticalservice to brokers, traders and investors. As of December 31, 2004, LSPS actedas the specialist for 13 ETFs listed on the NYSE. Forthe year ended December 31, 2004, LSPS’ revenues were approximately $2.0million and management expects further growth in this subsidiary throughstrategic resource allocation and anticipated increased market activity.

 

### *Our SpecialistSupport Services*

### * *

In April 2002, BV was organized to represent LaBranche& Co. LLC in European markets and to provide client services to LaBranche& Co. LLC’s European-listed companies. BV was established under Dutch law,and its office is in Amsterdam, The Netherlands. Through a services agreement,BV provides monitoring and trading services for LaBranche & Co. LLC’sspecialist stock positions, as specifically directed by appropriatelydesignated LaBranche & Co. LLC personnel. In addition, BV markets theservices of our specialist entities to existing and prospective EuropeanNYSE-listed issuers.

 

For detailed financial information in connection withour Specialist segment, please see “Management’s Discussion and Analysis ofFinancial Condition and Results of Operations—Specialist Segment OperatingResults” and Note 17 to the Financial Statements filed herewith.

 

### ***NYSE andAMEX Rules Governing Our Specialist Activities***

### *** ***

Under NYSE and AMEX rules, a specialist has a duty tomaintain, as far as practicable, a fair and orderly market in its specialistsecurities. In order to fulfill its obligations, the specialist must at timestrade for its own account, even when it may adversely affect the specialist’sprofitability. In addition, under certain circumstances, the specialist isprohibited from making trades as principal in its specialist stocks. Thespecialist’s obligations are briefly described below.

 

*Requirement to Trade as Principal*. A specialist must buy and sellsecurities as principal when necessary to minimize an actual or reasonablyanticipated short-term imbalance between supply and demand in the auctionmarket. The specialist must effect these transactions when their absence couldresult in an unreasonable lack of continuity and/or depth in its specialiststocks. The specialist is not expected to act as a barrier in a rising marketor as support in a falling market, but must use its own judgment to try to keepsuch price increases and declines equitable and consistent with marketconditions.

 

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A specialist must make firm and continuous two-sidedquotations that are timely and that accurately reflect market conditions. Inmaking these quotations, the specialist’s transactions are calculated tocontribute to the maintenance of price continuity with reasonable depth.

 

*Trading Restrictions.* In trading for its own account, the specialist must avoid initiating amarket-destabilizing transaction. All purchases and sales must be reasonablynecessary to permit the specialist to maintain, as far as practicable, a fairand orderly market in its specialist stocks. In addition, the specialist mustcomply with the following trading requirements:

 

•                  A specialist must first satisfy a customer’s marketbuy order (an order to buy at the prevailing market price) before buying anystock for its own account. Similarly, a specialist must first satisfy acustomer’s market sell order (an order to sell at the prevailing market price)before selling any stock for its own account;

 

•                  A specialist must first satisfy a customer’s limitorder held by it before buying or selling at the same price for its ownaccount. A limit order is an order either to buy only at or below a specifiedprice, or to sell only at or above a specified price. A specialist may not havepriority over any customer’s limit order. A specialist, however, may buy orsell at the same price as a customer limit order as long as that limit order isexecuted first;

 

•                  If a public buyer wants to buy at a particular priceand a seller wants to sell at the same price, the buyer and seller must bepermitted to trade directly with each other, without specialist interaction;

 

•                  The specialist does not charge commissions for tradesin which it acts as a principal;

 

•                  Except in some circumstances in less active markets,the specialist may not, without permission from an exchange official, initiatedestabilizing trades for its own account which cause the stock price to rise orfall; and

 

•                  Any transactions by the specialist for its own accountmust be effected in a reasonable and orderly manner in relation to thecondition of the general market, the market in the particular stock and theadequacy of the specialist’s position to the immediate and reasonablyanticipated needs of the market.

 

In addition, the specialist cannot be in a controlrelationship with any of its listed companies. Generally, this means aspecialist may not acquire more than 5% of any common or preferred issue of itsspecialist stocks and may not own 10% or more of any common or preferred stock.A specialist may not hold any position as an officer or director with, receivepayments or loans from, or engage in certain business transactions with any ofits listed companies.

 

*New SEC-Proposed Market Rules*.  During fiscal2004, the SEC proposed new rules, which are designed to modernize theregulatory structure of the U.S. equity markets.  Refer to “—Recent Trends in NYSE Trading” fora detailed discussion.

 

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## ***ListedCompany Services***

## ** **

We are committed to providing our listed companieswith a high level of service, in addition to our specialist functions on thetrading floor. We have a Corporate Relations Department devoted to serving ourlisted companies. The most important function of the Corporate RelationsDepartment is to provide current market information to our listed companies.

 

In addition, we keep management of our listedcompanies informed on general market trends. We organize an annual educationalconference that reviews trends in the securities industry and equity markets.For newly listed companies on the NYSE, we provide additional investorrelations support services to assist the companies with their transition to theNYSE. These services add significant value for companies considering a listingon the NYSE.

 

## ***Competitionin the Specialist Industry***

## *** ***

We obtain each of our new listings on the NYSE andAMEX by participating in an allocation process. As part of this process, eitherthe allocation committee of the NYSE or AMEX or the listing company chooses thespecialist firm. We compete with other specialist firms based on a number offactors, including:

 

•                  the strength of our capital base;

 

•                  our willingness to commit our own capital and tradefor our own account while conducting our specialist operations; and

 

•                  the ancillary services we offer our specialistcompanies, such as providing information on the trading activities in theirstocks.

 

The specialist industry experienced a vast andaccelerated consolidation over the past several years with the five largestspecialist units, as ranked by their number of specialist stock listings,accounting for 95.1% of the daily share volume traded on the NYSE in 2004 ascompared to 95.6% in 2003. The competition for obtaining newly listed companiesis intense. We expect competition to continue and intensify as some of ourcompetitors may have greater financial resources and product service offerings.

 

## ***OurSpecialist Segment’s Competitive Position***

## *** ***

We are committed to providing the highest qualityservice to our various constituencies. Our strong competitive position is basedon the following factors:

 

•                  *Leading Position in theSpecialist Market.*We have a long-standing reputation as a leading specialist firm. We havesuccessfully grown our business and improved our services through widelyvarying market conditions. Trading in the stocks for which we were thespecialist during 2004 accounted for 25.4% of the dollar value and 27.1% of theshare volume traded on the NYSE. By these measures, we were the largestspecialist firm on the NYSE. As of December 31, 2004, we were the specialistfor 580 common stocks and 13 ETFs listed on the NYSE and 104 common stocks,

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324 options, 5 futures, and 3 ETFs listed on the AMEX,PHLX and NYBOT. Of our NYSE common stock listings, 127 were non-U.S. listingsas of December 31, 2004.

 

•                  *Diverse and High QualitySpecialist Stocks.*Our listed companies operate in a variety of industries, including financialservices, media, oil and gas, retail, technology and telecommunications. Manyof our listed companies are leaders in their respective fields. They range inmarket capitalization from some of the smallest on the NYSE and AMEX to some ofthe largest and most well-known. Being the specialist in the stocks of industryleaders could benefit us as these leading companies expand their businessesthrough internal growth and acquisitions.

 

•                  *Strong Skills.* We utilize our trading skills toactively participate as principal in trading our specialist stocks. Wesignificantly improve liquidity in our specialist stocks, particularly duringperiods of market volatility. In 2004, approximately 20.6% of our trades wereas principal as compared to an average of approximately 20.4% for all NYSEspecialists.

 

•                  *Innovative Customer-Oriented Services.* In addition to our specialist functions on thetrading floor, we provide our listed companies with a high level of service(e.g., detailed information on the trading activity of their stocks), as wellas customized support services to assist in their investor relations efforts.

 

•                  *Completed Acquisitions.* Since 1997, we have acquired eleven specialistoperations adding approximately 500 NYSE common stocks and 52 AMEX commonstocks, solidifying our position as one of the leading NYSE specialist firms,as well as establishing and expanding our presence on the AMEX.

 

**Our Execution and ClearingSegment**

** **

## ***RecentTrends in Execution and Clearing Industry***

## ** **

The traditional clearingindustry has, over the last few years, consolidated down to a small number ofhighly capitalized and extremely focused competitors.  Mostly owned by or affiliated with largeinvestment or commercial banks, these few top competitors command the dominantshare of the fully-disclosed correspondent clearing market.  As a result, barriers to entry have risen andthe capital expenditures necessary to maintain market share have increased.

 

As the result of years ofadvances in order delivery and execution technology, trading costs forcustomers across all categories (retail, institutional, etc.) have droppeddramatically.  These advances in tradingtechnologies, and the resulting economies afforded the customer, have alsoengendered an entirely new style of investment management, where algorithmsembedded in servers generate, direct and account for orders with only a modicumof human interaction.  Orders generatedand delivered over purely electronic platforms now account for more than 50% ofNYSE volume.

 

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In addition, there have arisen a number ofnon-traditional execution venues that bypass the traditional exchanges and ECN’sin which institutions can trade directly with each other without exposingorders to market-wide price verification.

 

***OurExecution and Clearing Operations***

** **

LFSI, our execution andclearing segment, provides clearance and execution services to a range ofclients.  To our broker dealercorrespondents, we provide traditional clearance services. To our owncustomers, which include institutions and individuals, we provide a range ofcustomized execution services, including direct-access brokerage.

 

LFSI does not focus oncommoditized bulk clearance and execution. LFSI targets businesses where flexibility, technological expertise and aversatile execution and clearance platform provides us with a competitive advantage.

 

Our Institutional ExecutiveGroup (“IEG”) provides institutions with highly customized service built aroundspecial execution needs.  IEG focuses ontimely executions with minimal market impact. IEG handles and clears trades on every major domestic exchange withstraight through processing from order origination to trade execution.  IEG also provides soft dollar execution andother administrative services to institutional customers.

 

IEG has also developed apurely electronic trading system to execute a wide range of institutionalstrategies.  With offices inMassachusetts and Minnesota, IEG plans to grow head count and expandgeographically.  IEG has activerelationships with over 220 institutional accounts and is developing itsbusiness nationwide.

 

For detailed financial information in connection withour Execution and Clearing segment, please see “Management’s Discussion andAnalysis of Financial Condition and Results of Operations—Execution andClearing Segment Operating Results” and Note 17 to the Financial Statementsfiled herewith.

 

### ***Regulatory Matters***

### *** ***

The securities industry in the United States issubject to regulation under both Federal and state laws. In addition, the SEC,NYSE, AMEX and other regulatory organizations require compliance with theirrules and regulations.

 

Our broker-dealer subsidiaries, LaBranche & Co.LLC, LFSI, LSP and LSPS are subject to regulations concerning operational andfinancial aspects of their respective businesses. They are subject toregistration requirements of various government entities and self-regulatoryorganizations (commonly referred to as SROs) with which they must comply beforethey may conduct business. Our broker-dealer subsidiaries are also subject tolaws, rules and regulations requiring them to comply with financial reportingrules, trade practices, capital structure obligations and record retentionrequirements. Failure, or even the assertion by a regulatory organization offailure, by any of our broker-dealer subsidiaries to comply with any of theselaws, rules or regulations could result in censure, fine, the issuance ofcease-and-desist orders or the suspension or disqualification of its directors,officers or employees and other negative consequences, which could have anadverse effect on our business.

 

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Refer to “Legal Proceedings—Specialist TradingInvestigations.” From time to time, in the ordinary course of business, we havebeen subject to other fines for violations of such laws, rules or regulations.

 

Our trading subsidiaries are under constant review bythe NYSE and other exchanges on which they conduct operations on all aspects oftheir operations and financial condition. In particular, as part of the pricediscovery mechanism implemented by the NYSE, every NYSE specialist transactionis published immediately and broadcast worldwide. The NYSE’s MarketSurveillance Division employs sophisticated monitoring and requires adherenceto stringent rules approved by the SEC in its examination of NYSE specialists’trading in all stocks.

 

The USA PATRIOT Act of 2001 (the “PATRIOT Act”)contains anti-money laundering and financial transparency laws and mandates theimplementation of various new regulations that apply to broker-dealers andother U.S. financial institutions, including procedures for verifying clientidentification at account opening, and obligations to monitor clienttransactions and report suspicious activities. Through its provisions, thePATRIOT Act seeks to promote cooperation among U.S. financial servicescompanies, regulators and law enforcement officials in identifying parties thatmay be involved in terrorism or money laundering. The increased obligations offinancial institutions, including our broker-dealer subsidiaries, require theimplementation and maintenance of internal control procedures which haveincreased our costs and may subject us to liability.

 

### *CapitalRequirements*

### * *

Our broker-dealer subsidiaries are also subject to netcapital requirements as required by SEC Rule 15c3-1, and net liquid assetrequirements as required by the NYSE and AMEX. Please refer to “Management’sDiscussion and Analysis of Financial Condition and Results ofOperations—Liquidity and Capital Resources” section for our broker-dealersubsidiaries’ capital requirements and actual amounts.

 

Failure by any of our broker-dealer subsidiaries tomaintain the required net capital and/or net liquid assets may subject it tosuspension or revocation of SEC registration or suspension or expulsion by therespective exchanges of which it is a member.

 

## **Employees**

## ** **

As of December 31, 2004,we had 525 full-time employees, of which 381 were employed at our Specialistsegment, 104 were employed at our Execution and Clearing segment, and 40 wereemployed at the holding company.

 

**RiskFactors**

** **

The following risk factors should be carefullyconsidered in evaluating our business and us because they have a significantimpact on our business, operating results, financial condition, and cash flows.If any of these risks actually occurs, our business, financial condition,operating results and/or cash flows could be adversely affected.

 

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*The market structure in which we operate may change, makingit difficult for us to maintain our levels of profitability.*

* *

Themarket structure in which we operate is subject to changes that could adverselyaffect our financial condition and results of operations. Most notably, theNYSE’s recent proposed changes in its automated trade execution system and theSEC’s recent proposed structural changes in the U.S. equity trading markets mayhave an adverse effect on our business.

 

InFebruary 2004 and again on August 2, 2004, the NYSE proposed toexpand its Direct+® trading system to eliminate the current limits on size,timing and types of orders that currently may be executed electronicallythrough the Direct+® system and thereby create a so-called hybrid marketintended to incorporate a number of new trade execution options whilepreserving the option of access to auction price discovery and deep liquidity.Specifically, the NYSE’s proposals would eliminate the 1,099-share restrictionon NYSE Direct+® orders, as well as the prohibition against entering orders forthe same account within 30 seconds, and would permit market orders andimmediate-or-cancel orders to be eligible for Direct+® execution. In addition,the NYSE’s proposals contain a number of other new features designed to “createa liquidity pool accessible for electronic and auction price discovery; theopportunity for benefits associated with human judgment at the point of sale;and accountable performance with focused communication by specialists.” TheNYSE has indicated that it already has begun the technological work necessaryto implement its proposed changes in the NYSE Direct+® system and has estimatedthat, subject to approval of its proposed changes by the SEC, a pilot or phasedstart of the new Direct+® system will get underway sometime in 2005.

 

InFebruary 2004, the SEC proposed new rules which would require, subject tocertain exceptions, that every “order execution facility” (*i.e.*, every national securities exchange,national securities association that operates an order execution facility,alternative trading system, exchange specialist and market maker, OTC marketmaker, block positioner and any other broker or dealer that executes ordersinternally by trading as principal or crossing orders as agent) establish,maintain and enforce polices and procedures reasonably designed to prevent theexecution of a “trade through” (*viz*.,the execution of an order at a price that is inferior to a price displayed inanother market) in its market. As originally proposed, this requirement wouldapply to all incoming orders in “NMS Stocks,” including all NASDAQ, NYSE andAMEX-listed stocks and any order execution facility that executes ordersinternally within its market, whether or not that market posts its best bid andoffer, and would have (1) allowed customers (and broker dealers tradingfor their own accounts) to “opt-out” of the protections of the rule byproviding informed consent to the execution of their orders, on anorder-by-order basis, in one market without regard to the possibility ofobtaining a better price in another market, and (2) taken into account thedifferences between the speed of execution in electronic versus manual marketsby providing an automated market with the ability to trade through anon-automated market at a price up to a certain amount away from the best bidor offer displayed by the non-automated market.

 

OnDecember 16, 2004, after receiving numerous comments on its proposed RegulationNMS rules, the SEC reproposed Regulation NMS (“Reproposed Regulation NMS”) andopened it for a 30-day comment period that ended on January 26, 2005.Reproposed Regulation NMS includes the following refinements of thetrade-through rule:

 

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•                  the establishment of intermarket protection againsttrade-throughs for all NMS stocks and protection of only those quotations thatare immediately accessible through automatic execution. The revised rule alsowould limit investors' ability to opt out of the trade-through rule.

 

•                  two alternative approaches to the scope of quotationsto be protected:

 

•                  The “Market BBO Alternative,” which would protect onlythe best bids and offers (“BBOs”) of each exchange trading a security, as wellas the BBO of the NASD’s Alternative Display Facility and NASDAQ’s BBO; and

 

•                  The “Voluntary Depth Alternative,” which would protectthe BBOs of each market and would establish a mechanism for a market tovoluntarily protect its quotations at prices below its best bid or above itsbest offer (“depth-of-book”) that are publicly displayed. Thus, the alternativerule would protect all publicly displayed quotes, or limit orders, and not justthe best quote.

 

*We are subject to extensive regulation under federal andstate laws that could result in investigations, fines or other penalties.*

* *

OnMarch 29, 2004, we entered into a definitive agreement with the NYSE andthe SEC to settle investigations by the NYSE and the SEC concerning specialisttrading activity. The findings, neither admitted nor denied, include violationsof Section 11(b) of the Exchange Act and rules promulgated thereunderconcerning specialist trading, including the requirement that a specialistmaintain a fair and orderly market, violation of various NYSE rules andviolations of Section 15(b)(4)(E) of the Exchange Act, including failureto supervise with respect to certain transactions in which one or moreemployees allegedly violated Section 10(b) of the Exchange Act andRule 10b-5 promulgated thereunder. Pursuant to the agreement, and withoutadmitting or denying any wrongdoing, we paid on April 7, 2004 a total of$63.5 million for certain trades that occurred during the five-year periodfrom 1999 through 2003. This settlement resolved the NYSE and the SECinvestigations of specialist trading activity concerning us for all periodsthrough 2003. The settlement represented a subsequent event reportable for 2003under accounting principles generally accepted in the United States of America,and we recorded a $63.5 million pre-tax charge for 2003. The four otherlargest NYSE specialist firms also settled the investigations concerning theirspecialist trading activity during the 1999 through 2003 period at the sametime. The two smaller NYSE specialist firms later settled the investigationsconcerning their specialist trading activity during the 1999 through 2003period.  More recently, in December 2004,our LaBranche & Co. LLC subsidiary received a notice from the NASD AmexRegulation Division stating a preliminary determination by the NASD AmexRegulation Division’s staff to seek disciplinary action against LaBranche &Co. LLC for violations of certain federal securities laws and the Amex’sConstitution and Rules, including Sections 10(b), 9A and 

 

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17(a) of the SecuritiesExchange Act of 1934, in connection with manual book freezes effected in one ofLaBranche & Co. LLC’s Amex specialist stocks during the period March 8,2004 through October 21, 2004.

 

We aresubject to extensive regulation under both federal and state laws. In addition,the SEC, the NYSE, the NASD, the AMEX, other self-regulatory organizations,more commonly known as “SROs,” and state securities commissions require strictcompliance with their respective rules and regulations. As a result of ouracquisitions since 1997 and the consequent increase in the size of our businessand in the number of our employees, the risk that we will not detect or preventemployee misconduct has increased. Employee misconduct that may be difficult todetect could result in losses. Misconduct by employees could include, among otherthings, binding us to transactions that exceed authorized limits or presentunacceptable risks, or hiding from us unauthorized or unsuccessful activities,which, in either case, may result in unknown and unmanaged risks or losses.Employee misconduct could also involve the improper use or disclosure ofconfidential information, which could result in regulatory sanctions andserious reputation or financial harm.

 

Ifthere are any additional investigations or actions against us or any of oursubsidiaries, such investigations or actions could result in settlements,determinations or judgments requiring substantial payments by us, including thecosts of defending such investigations or actions, the imposition ofsubstantial sanctions, fines or penalties and the suspension or revocation ofour registration with the SEC as a broker dealer or our suspension or expulsionas a member firm of the NYSE and the AMEX, in which case we would be unable tooperate our business.

 

It also may be difficult for us to comply with other new or revisedlegislation or regulations imposed by the SEC, other U.S. or foreigngovernmental regulatory authorities and SROs, including the NYSE and the AMEX.Failure to comply would have an adverse effect on our business, financial conditionand/or operating results. Other changes in the interpretation or enforcement ofexisting laws and rules by the SEC, these governmental authorities and SROsalso could have an adverse effect on our business, financial condition and/oroperating results.

 

*Failure to comply with undertakings set forth in thesettlement with the NYSE and SEC could adversely affect us.*

* *

In connection with the settlement of the NYSE and the SECinvestigations concerning our NYSE specialist trading activity, we agreed to,and we are complying with, the following undertakings:

 

•                  implementation of systems and procedures to ensureappropriate follow up and review with regard to information provided toLaBranche & Co. LLC on a daily basis by the NYSE with regard tospecialists’ override of the Principal Inhibitor function, which identifiesspecialist principal trades that may have been effected while an executableagency order was reflected in the order book on the same side of the market;

 

•                  creation of a committee, including LaBranche &Co. LLC’s chief compliance officer and at least two members of seniormanagement, specifically charged with meeting periodically (no less frequentlythan monthly) to evaluate specialist rule compliance;

 

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•                  development and/or enhancement of systems andprocedures to track and maintain records identifying the individuals acting asspecialist and clerk for each security at all times throughout each tradingday;

 

•                  annual certification, through LaBranche & Co.LLC’s chief executive officer, that a review has been conducted by the chiefcompliance officer of trading in LaBranche & Co. LLC’s principalaccount for the purpose of detecting interpositioning, trading ahead andunexecuted limit order violations;

 

•                  bi-annual assessment of, and reports on, the adequacyof the resources devoted to LaBranche & Co. LLC’s compliance function,and devotion of adequate funds and staffing to the compliance department; and

 

**•**                  retention of an independent consultant to review andevaluate LaBranche & Co. LLC’s compliance systems, policies andprocedures reasonably designed to ensure that LaBranche & Co. LLC isin compliance with federal securities laws and NYSE rules with regard tospecialist trading.

 

If weare, in the future, unable to satisfy or maintain compliance with any of theseundertakings for reasons that we cannot foresee, such failure could have amaterial adverse effect on our business and our regulatory compliancestructure.

 

*We also are subject to the risks of securities lawsliability and related civil litigation.*

* *

Manyaspects of our business involve substantial risks of legal liability. Aspecialist is exposed to substantial risks of liability under federal and statesecurities laws, other federal and state laws and court decisions, as well asrules and regulations promulgated by the SEC, the NYSE and the AMEX.

 

Theabove-described NYSE and SEC investigations of our NYSE specialist tradingpractices have also resulted in the initiation of purported class action andderivative action proceedings against us and certain of our officers anddirectors in the United States District Court for the Southern District of NewYork and other proceedings in other courts, all of which are described under “Business—LegalProceedings.” We have continued to receiverequests for information from the SEC and also have received requests forinformation from the United States Attorney’s Office for the Southern Districtof New York as part of an industry-wide investigation relating to activities ofNYSE floor specialists in recent years. Two additional actions have been commenced by entitiesagainst four national securities exchanges and 35 securities brokers (includingour LSP subsidiary) in the United States District Court for the NorthernDistrict of Illinois, alleging that LSP conspired with the other defendants byallegedly failing to execute orders, canceling orders and refusing to cancelorders for the purchase and sale of options.

 

While we deny theallegations of wrongdoing against us in these actions, there can be noassurance as to the ultimate outcome or timing of their resolution. The rangeof possible resolutions could include determinations and judgments against usor settlements that could require substantial payments by us, including thecosts of defending such investigations and suits, which could have a materialadverse effect on our financial condition, results of operations and

 

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cashflows.

 

Wealso are subject to the risk of civil litigation, employment claims and otheractions in the ordinary course of our business operations. In particular, LFSI,as successor in interest to ROBB PECK McCOOEY Clearing Corporation, or RPMCC,has been the target, from time to time, of various claims and lawsuitsincidental to the ordinary course of RPMCC’s business operations. It ispossible that we could incur significant legal expenses in defending ourselvesagainst these and future lawsuits or claims. An adverse resolution of any futurelawsuits or claims against us could have an adverse effect on our business,financial condition and/or operating results.

 

*We may have insufficient capital in the future and may beunable to secure additional financing when we need it.*

* *

Ourbusiness depends on the availability of adequate capital. We cannot be surethat we will have sufficient capital in the future or that additional financingwill be available on a timely basis, or on terms favorable to us. Historically,we have satisfied these needs with internally generated funds, the issuance ofsubordinated debt by our operating subsidiaries and the issuance of commonstock and notes representing our indebtedness. While we currently anticipatethat our available cash resources will be sufficient to meet our anticipatedworking capital, regulatory capital and capital expenditure requirementsthrough at least the next twelve months, we may need to raise additional fundsto:

 

•                  increase the capital available to us for ourinventory positions;

 

•                  expand or diversify our operations;

 

•                  acquire complementary businesses; or

 

•                  respond to unanticipated capitalrequirements.

 

We maybe required to obtain this additional financing on short notice as a result ofrapid, unanticipated developments, such as a steep market decline.

 

*Our revenues may decrease due to changes affecting theeconomy or changes affecting the securities markets, such as decreased volume,volatility or liquidity.*

*** ***

Adversechanges affecting the economy and/or the securities markets could result in afurther decline in market volatility or liquidity, thus negatively impactingrevenues at our specialist and execution and clearing segments. Many elementsof our cost structure do not decline if we experience reductions in ourrevenues and we may be unable to adjust our cost structure on a timely basis,or at all, and we could suffer losses.

 

Thelack of growth in share volume, rising program trading and low levels ofvolatility on the NYSE over the past three years have negatively affected our resultsof operations and may adversely affect our operations in the future.  Although U.S. equity prices generallyrecovered in

 

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2003 and 2004, adverse changes in the economy and thesecurities markets could return, resulting in:

 

•                  losses from declines in the market value ofsecurities held in our accounts;

 

•                  a decline in trading volume on the NYSE, theAMEX and other exchanges;

 

**•**                  a decline in volatility in the securitiesmarkets in which we act as a specialist;

 

•                  the failure of buyers and sellers ofsecurities to fulfill their settlement obligations; and

 

•                  further increases in claims and litigation.

 

Whethermarket and economic conditions will continue to improve and whether we will beable to adequately protect our interests and maintain revenues in the future isuncertain.

 

*Risks associated with our trading transactions could resultin trading losses.*

*** ***

Amajority of our Specialist segment’s revenues are derived from trading by us asprincipal. We may incur trading losses relating to these activities, since eachsuch trade primarily involves the purchase, sale or short sale of securitiesfor our own account. In any period, we may incur trading losses in asignificant number of our specialist stocks, options, rights and ETFs for avariety of reasons, including price declines, lower trading volumes and therequired performance of our specialist obligations. From time to time, we havelarge position concentrations in securities of a single issuer or issuersengaged in a specific industry. In general, because our inventory of securitiesis marked-to-market on a daily basis, any downward price movement in thesesecurities results in an immediate reduction of our revenues and operatingresults. LSP’s specialist and market-maker trading in options, ETFs, futures,other derivative instruments and foreign currencies also exposes it to certainadditional risks associated with such factors as price fluctuations, foreignexchange currency movements, changes in the liquidity of markets, volatilityand counterparty credit. Although we have adopted and carry out risk managementprocedures, we cannot be sure that these procedures have been formulatedproperly to identify or completely limit our risks and, even if formulatedproperly, we cannot be sure that we will successfully implement theseprocedures. As a result, we may not be able to manage our risks successfully oravoid trading losses.

 

Oursecurities transactions are conducted as principal and agent with broker-dealercounterparties located in the United States. While the NYSE, the AMEX and theclearing houses monitor the credit standing of the counterparties with which weconduct business, we cannot be certain that any of these counterparties willnot default on their obligations. If any do, our business, financial conditionand/or operating results could be adversely affected.

 

*Specialist and market-maker rules require us to makeunprofitable trades and refrain from making profitable trades.*

 

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Ourroles as a specialist and market maker, at times, require us to make tradesthat adversely affect our operating results. In addition, as a specialist andmarket-maker, we are at times required to refrain from trading for our ownaccount in circumstances in which it may be to our advantage to trade. Forexample, we may be obligated to act as a principal when buyers or sellersoutnumber each other and take a position counter to the market, buying orselling shares to support an orderly market in the affected stocks. Inaddition, specialists and market-makers generally may not trade for their ownaccount when public buyers are meeting public sellers in an orderly fashion andmay not compete with public orders at the same price. By having to support anorderly market, maintain inventory positions and refrain from trading undersome favorable conditions, we are subject to risk. In addition, one consequenceof the SEC and the NYSE investigations of NYSE specialist trading practices maybe amendments by the NYSE and, possibly, the AMEX, of the rules, practices andprocedures governing our specialist and market-making activities in a mannerthat could adversely affect our trading revenues.

 

*Failure to comply with net capital and net liquid assetrequirements may result in the revocation of our registration with the SEC orour expulsion from the NYSE and/or the AMEX.*

* *

TheSEC, the NYSE, the AMEX and various other regulatory agencies have stringentrules with respect to the maintenance of minimum levels of capital and netliquid assets by securities broker-dealers and specialist firms. Currently,LaBranche & Co. LLC and LSPS are required to maintain minimum combinednet liquid assets of approximately $447.0 million. Failure by any of our broker-dealerand specialist subsidiaries to maintain its required level of net capital andnet liquid assets may subject it to suspension or revocation of its SECregistration or suspension or expulsion by the NYSE and/or the AMEX. If thisoccurs, we would be unable to operate our business. In addition, a change inthese rules, the imposition of new rules or any unusually large capitalrequirement or charge against the regulatory capital of any of ourbroker-dealer subsidiaries could limit those areas of our operations whichrequire intensive use of capital. These rules also could restrict our abilityto withdraw capital from our broker-dealer subsidiaries, thus limiting ourability to expand, diversify or even maintain our present levels of business,pay dividends, repay debt and repurchase shares of our outstanding commonstock.

 

*We depend primarily on our specialist activities, and ifthey fail to generate revenues as anticipated, it would adversely affect ourfinancial condition and results of operations.*

* *

Wederive the vast majority of our revenues from specialist activities. If demandfor our specialist services fails to grow, grows more slowly than we currentlyanticipate or declines, our financial condition and results of operations wouldbe adversely affected. We expect our specialist activities to continue toaccount for the vast majority of our revenues for the foreseeable future. Ourfuture success will depend on:

 

•                  continued growth in thevolume of trading and the number of listings on the NYSE, the AMEX and otherexchanges;

 

•                  being chosen as thespecialist for additional listing companies;

 

•                  our ability to respond toregulatory and technological changes; and

 

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•                  our ability to respond tochanging demands in the marketplace.

 

This,in turn, could have an adverse effect on our revenues. Over the past few years,a number of alternative trading systems have been developed or emerged. Thesealternative trading systems may compete with specialists by increasing tradingin NYSE-listed and AMEX-listed securities off the NYSE and the AMEX tradingfloors. In addition, as described above, the SEC and the NYSE’s recentlyproposed market structure rule changes could result in increased trading ofNYSE-listed and AMEX-listed securities in electronically-matched orders andthus reduce levels of trading of such securities through specialists.

 

Historically, a relatively small number of listedcompanies have accounted for a significant portion of our revenues from ourNYSE specialist trading activities. The loss of any of these listed companiescould have an adverse effect on our revenues. For the years endedDecember 31, 2002, 2003 and 2004, transactions in our 10 most actively traded NYSEspecialist stocks accounted for approximately 27.5%, 19.0% and 16.8% of ourtotal NYSE principal trading revenues, respectively. The composition of theseten most actively traded specialist stocks changes frequently. We cannot becertain that we will be able to retain these or any other of our top listedcompanies. We can lose these listed companies if they cease to be traded on theNYSE as a result of being acquired or otherwise delisted. In addition, underNYSE procedures allowing listed companies greater latitude to request a changein their specialist or if the NYSE were to determine that we have failed tofulfill our obligations as specialist for a listed company, our registration asthe specialist for that listed company could be canceled or suspended.

 

Wecannot be sure that we will be able to compete effectively with current orfuture competitors. Our failure to compete effectively would have an adverseeffect on our operating results. We obtain all our new listings on the NYSE bygoing through an allocation process. In this process, either a committee of theNYSE or the listing company chooses the specialist. The competition forobtaining new listing companies is intense. We expect competition to continueand further intensify in the future. Some of our competitors may have significantlygreater financial and other resources than we have and may have greater namerecognition. These competitors may be able to respond more quickly to new orevolving opportunities and listing company requirements. They also may be ableto undertake more extensive promotional activities to attract new listingcompanies, especially those which are not publicly-traded specialist firms.

 

*We have significant debt obligations.*

* *

Wehave a significant amount of debt. As of December 31, 2004, our total debtoutstanding was $500.7 million, excluding subordinated liabilities related tocontributed exchange memberships. LaBranche & Co. LLC also may borrow,subject to certain conditions, up to $200.0 million to finance itsspecialist security positions under a committed line-of-credit with a U.S.commercial bank. Our significant level of debt could have importantconsequences, including the following:

 

•                  our ability to obtain additionalfinancing to fund growth, working capital, capital expenditures, debt servicerequirements or other purposes may be impaired;

 

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•                  our ability to use operating cash flow inother areas of our business may be limited because we dedicate a substantialportion of these funds to service our debt; and

 

•                  limitation on our flexibility to adjust tochanging market conditions, changes in our industry and economic downturns.

 

*Our ability to take certain actions is restricted by theterms of our outstanding indebtedness.*

* *

Thecovenants in the indenture governing our outstanding 9.5% Senior Notes due2009, in the aggregate principal amount of $199.9 million, and our outstanding11.0% Senior Notes due 2012, in the aggregate principal amount of $260.0million (collectively, the “outstanding senior notes”), LaBranche &Co. LLC’s $200.0 million committed line of credit agreement with a bankand subordinated note purchase agreements (under which $12.0 millionremains outstanding), as well as any future financing agreements, may adverselyaffect our ability to finance future operations or capital needs or to engagein other business activities. These covenants limit or restrict our ability andthe ability of our subsidiaries to:

 

•                  incur additional debt;

 

•                  pay dividends and makedistributions;

 

•                  repurchase our common stockor subordinated indebtedness prior to maturity;

 

•                  make certain investments;

 

•                  create liens on our assets;

 

•                  transfer or sell assets;

 

•                  enter into transactions withaffiliates;

 

•                  issue or sell stock ofsubsidiaries; or

 

•                  merge or consolidate.

 

Thesubordinated note purchase agreements also require LaBranche & Co. LLCto comply with certain financial ratios. LaBranche & Co. LLC’s abilityto comply with these ratios may be affected by events beyond our or itscontrol. If any of the covenants in our indebtedness are breached, or ifLaBranche & Co. LLC is unable to comply with required financialratios, we or it may be in default under such agreements. A significant portionof our indebtedness then may become immediately due and payable. We are notcertain whether we would have, or be able to obtain, sufficient funds to makethese accelerated payments, including payments on the outstanding senior notes.

 

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*We may not be able to generate sufficient cash flows to meetour debt service obligations, including payments on the outstanding seniornotes.*

* *

Our ability to generatesufficient cash flows from operations to make scheduled payments on our debtobligations will depend on our future financial performance, which will be, toan extent, subject to general economic, financial, competitive, regulatory andother factors that are beyond our control.

 

We cannot provideassurance that our business will generate sufficient cash flows or that futureborrowings will be available to us in an amount sufficient to enable us to payour debt, including the outstanding senior notes, or to fund our otherliquidity needs. If our future cash flows from operations are insufficient topay our obligations as they mature or to fund our liquidity needs, we may beforced to sell assets, obtain additional equity capital or restructure orrefinance all or a portion of our debt, including the outstanding senior notes,on or before maturity. We cannot assure you that we will be able to repay orrefinance our debt, including the outstanding senior notes, on a timely basisor on satisfactory terms, if at all.

 

*We maynot be able to finance a change of control offer required by the indenturegoverning the outstanding senior notes.*

* *

If we were to experiencea change of control, we would be required to offer to repurchase alloutstanding senior notes then-outstanding, as well as all of ourthen-outstanding 12.0% senior subordinated notes due 2007, in the aggregateprincipal amount of approximately $13.6 million (the “2007 notes”), in eachcase at a price equal to 101.0% of their principal amount, plus accrued andunpaid interest, if any, to the date of repurchase. This purchase requirementmay delay or make it harder for others to obtain control of us. If a change ofcontrol were to occur, it is possible that we would not have sufficient fundsto repurchase these notes or that restrictions in the credit agreement andLaBranche & Co. LLC’s subordinated note purchase agreements and suchother notes would not allow such repurchases. If we do not have sufficientfunds at the time of a repurchase obligation or cannot meet any obligationsunder the credit agreement, the subordinated note purchase agreements, theindenture governing the outstanding senior notes, or the indenture governingthe 2007 notes, we would be forced to seek additional third-party financing.However, it is possible that we would not be able to obtain such financing onfavorable terms, or at all.

 

*Our success depends on our ability to accurately process andrecord our transactions, and any failure to do so could subject us to losses.*

* *

Ourspecialist, market-making and clearing and execution activities require us toaccurately record and process a very large number of transactions on a dailybasis. Any failure or delay in recording or processing transactions could causesubstantial losses for brokers, their customers and/or us and could subject usto claims for losses. We rely on our staff to operate and maintain ourinformation and communications systems properly, and we depend on the integrityand performance of those systems. Our recording and processing of trades issubject to human and processing errors. Moreover, extraordinary trading volumeor other events could cause our information and communications systems tooperate at an unacceptably low speed or even fail.

 

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Any significant degradation or failure of ourinformation systems or any other systems in the trading process could cause usto fail to complete transactions or could cause brokers who place tradesthrough us to suffer delays in trading.

 

Anyinformation or communication systems failure or decrease in information orcommunications systems performance that causes interruptions in our operationscould have an adverse effect on our business, financial condition and/oroperating results. Our systems may fail as a result of a hardware, software,power or telecommunications failure. In addition, our offices are located inclose proximity to the site of the September 11, 2001 terrorist attacks onthe World Trade Center. The aftermath of the attacks on the World Trade Centerrequired us to close our operations and temporarily operate from our disasterrecovery site. The NYSE also was forced to stop operating for four consecutivetrading days, which caused our operations to halt. It is possible thatadditional terrorist attacks or acts of war may occur in the future and thatsuch attacks could compromise or disable our systems. Although we haveestablished back-up disaster recovery centers in New Jersey and New York, theymay not be effective in preventing an interruption of our business.

 

We also are dependent on the proper and timelyfunction of complex information and communications systems maintained andoperated by or for the NYSE, the AMEX and clearing and depositary institutions.Failures or inadequate or slow performance of any of these systems could adversely affect our ability to operateand complete trades. The failure to complete trades on a timely basis couldsubject us to losses and claims for losses of brokers and their customers.

 

*Our future success will depend on the ability to upgradeinformation and communications systems, and any failure to do so could harm ourbusiness and profitability.*

* *

Thedevelopment of complex communications and new technologies, includingInternet-based technologies, may render our existing information andcommunications systems outdated. In addition, our information and communicationssystems must be compatible with those of the NYSE and the AMEX. As a result,when and if the NYSE or the AMEX upgrades its systems, we will need to makecorresponding upgrades. Our future success will depend on our ability, on acost-effective basis, to timely respond to changing technologies. Our failureto do so could have an adverse effect on our business, financial conditionand/or operating results.

 

TheNYSE’s ability to develop information and communications systems and complexcomputer and other technology systems has been instrumental in its growth andsuccess. We are dependent on the continuing development of technologicaladvances by the NYSE and the AMEX, a process over which we have no control. Ifthe NYSE for any reason is unable to continue its history of computer-relatedand other technological developments and advances, it could have an adverseeffect on the success of the NYSE, including its ability to grow, to manage itstrading volumes and to attract new listings. Any such developments can beexpected to adversely affect our operations, financial condition and operatingresults.

 

*If we lose the services of our key personnel or cannot hireadditional qualified personnel, our business will be harmed.*

 

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Our future successdepends on the continued service of key employees, particularly George M.L.LaBranche, IV, our Chairman, Chief Executive Officer and President. The loss ofthe services of any of our key personnel or the inability to identify, hire,train and retain other qualified personnel in the future could have an adverseeffect on our business, financial condition and/or operating results.Competition for key personnel and other highly qualified management, trading,compliance and technical personnel is intense. We cannot assure you that wewill be able to attract or retain highly qualified personnel in the future.

 

Inconnection with our 1999 reorganization from partnership to corporate form andinitial public offering of our common stock, a number of our current managingdirectors received substantial amounts of our common stock in exchange fortheir partnership interests. Because the shares of common stock were receivedin exchange for partnership interests, ownership of the shares is not dependentupon the continued employment of those managing directors. In addition, in andsubsequent to our 1999 reorganization, many of our employees who are notmanaging directors have received grants of stock options and restricted stock units.The steps we have taken to encourage the continued service of theseindividuals, who include key senior personnel, may not be effective.

 

Ourcurrent and prospective employees may experience uncertainty about their futureroles with us and our business prospects. This uncertainty may adversely affectour ability to attract and retain key personnel, which would adversely affectour business and results of operations.

 

*We may have difficulty successfully managing our growth.*

* *

Ourbusiness has grown since 1997, primarily due to acquisitions we have made sincethen. The growth of our business has increased the demands upon our managementand operations. This growth has required, and will continue to require, anincrease in investment in management personnel, financial and managementsystems and controls and facilities. The scope of procedures for assuringcompliance with applicable rules and regulations has changed as the size andcomplexity of our business has increased. In response, we have implemented formalcompliance procedures that are regularly updated. Our future operating resultswill depend on our ability to continue:

 

•                  to improve our systems foroperations, financial control and communication and information management;

 

•                  to refine our complianceprocedures and enhance our compliance oversight;

 

•                  to maintain strongrelationships with, and attract new, listed companies; and

 

•                  to retain and incentivizeour employees.

 

*Three of our current or former executive officers are in aposition to substantially control matters requiring a stockholder vote.*

 

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Certain of our current and former managing directorswho currently own a significant amount of our outstanding common stock haveentered into a stockholders’ agreement under which they have agreed, amongother things, that their shares of our common stock will be voted, for as longas they own their shares, as directed by a majority vote of George M.L.LaBranche, IV, our Chairman, Chief Executive Officer and President, Alfred O.Hayward, Jr., our executive officer, director and Chief Executive Officer ofLaBranche & Co. LLC and James G. Gallagher, a former executive officerand director. Accordingly, these individuals have the ability to substantiallycontrol most matters requiring approval by our common stockholders. Thesematters include the election and removal of directors and the approval of anymerger, consolidation or sale of all or substantially all our assets. Thisconcentration of ownership could have the effect of delaying, deferring orpreventing a change in control, a merger or consolidation, a takeover oranother business combination.

 

# **Item 2.**                                   PROPERTIES.

# ** **

Our offices are located at One Exchange Plaza, NewYork, New York, where we lease approximately 36,000 square feet under twoseparate leases expiring in January 2008, and at 120 Broadway, New York, NewYork, where we lease approximately 45,000 square feet under a sublease expiringin March 2006.  We also lease fivetrading posts on the floor of the NYSE, approximately 8,600 square feet ofadditional space at locations in New York, New Jersey and Boston under leasesexpiring between June 2005 and September 2012. In addition, we leaseapproximately 1,000 square feet in Amsterdam, The Netherlands, under a leaseexpiring in April 2009, and a workstation (approximately 25 square feet) inLondon, England, under a month-to-month operating lease. We believe that ourcurrent leased space is suitable and adequate for the operation of our businessas presently conducted and as contemplated to be conducted in the near future.

 

# **Item 3.**                                   LEGAL PROCEEDINGS.

# ** **

Specialist TradingInvestigations.  On March 30, 2004, LaBranche & Co. LLCand other NYSE specialist firms entered into agreements with the SEC and NYSEto settle the SEC and NYSE investigations concerning alleged improperspecialist trading practices by specialists on the NYSE.  Pursuant to the settlement, LaBranche &Co. LLC consented, without admitting or denying any wrongdoing, to an SEC orderinstituting administrative cease-and-desist proceedings, making findings, andimposing remedial sanctions and a cease-and-desist order.  The SEC’s findings, neither admitted nordenied, included violations by LaBranche & Co. LLC of Section 11(b) of theExchange Act and Rule 11b-1 promulgated thereunder, NYSE Rules 104, 92, 123B,401 and 342, and Section 15(b)(4)(E) of the Exchange Act.  The Section 15(b)(4)(E) finding includes afailure reasonably to supervise individual specialists who, the finding states,violated Section 10(b) of the Exchange Act and Rule 10b-5 promulgatedthereunder with respect to transactions in six particular stocks.  Pursuant to the settlement, LaBranche &Co. LLC paid $41.6 million in restitution and $21.9 million in a civil moneypenalty, which we accrued for the year ended December 31, 2003, in connectionwith trades that occurred during the years 1999 through 2003 and has agreed toundertakings stated in the SEC’s order. We have continued to receive requests for information from the SEC andalso have received requests for information from the United States Attorney’sOffice for the Southern District of New York as part of an

 

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industry-wide investigation relating toactivities of NYSE floor specialists in recent years.  We are cooperating with the requests.

 

In re LaBrancheSecurities Litigation.  On or about October 16, 2003 through December16, 2003, nine purported class action lawsuits were filed by purchasers of ourcommon stock in the United States District Court for the Southern District ofNew York, including Sofran v. LaBranche & Co Inc., et al., No. 03 CV 8201,Semon v. LaBranche & Co Inc., et al., No. 03 CV 8255, Haug v. LaBranche& Co. Inc., et al., No. 03 CV 8265, Labul v. LaBranche & Co Inc., etal., No. 03 CV 8365, Murphy v. LaBranche & Co Inc., et al., No. 03 CV 8462,Strain v. LaBranche & Co Inc., et al., No. 03 CV 8509, Yopp v. LaBranche& Co Inc., et al., No. 03 CV 8783, Ferris v. LaBranche & Co Inc., et al.,No. 03 CV 8806, and Levin v. LaBranche & Co Inc., et al., No. 03 CV8918.  On March 22, 2004, the court consolidated theselawsuits under the caption In re LaBranche Securities Litigation, No. 03 CV8201.  The court named the following leadplaintiffs:  Anthony Johnson, ClydeFarmer, Edwin Walthall, Donald Stahl and City of Harper Woods RetirementSystem.

 

On June 7, 2004,plaintiffs filed a Consolidated Class Action Complaint.  On July 12, 2004, plaintiffs filed aCorrected Consolidated Class Action Complaint. Plaintiffs allege that they represent a class consisting of persons andentities that purchased or otherwise acquired our common stock during theperiod beginning on August 19, 1999 and concluding on October 15, 2003.  Plaintiffs allege that we, LaBranche &Co. LLC, and certain of our and/or LaBranche & Co. LLC’s past or presentofficers and/or directors, including George M.L. LaBranche, IV, William J.Burke, III, James G. Gallagher, Alfred O. Hayward, Jr., Robert M. Murphy andHarvey S. Traison, violated Section 10(b) of the Exchange Act and Rule10b-5 promulgated thereunder and Section 20(a) of the Exchange Act by failingto disclose improper specialist trading. Plaintiffs also allege that two other of our past or present officersand/or directors, S. Lawrence Prendergast andGeorge E. Robb, Jr., also violated Section 20(a) of the ExchangeAct.  Plaintiffs seek unspecified moneydamages, attorneys’ fees and reimbursement of expenses.

 

In re NYSE SpecialistsSecurities Litigation.  On or about October 16, 2003 through December16, 2003, four purported class action lawsuits were brought by persons orentities who purchased and/or sold shares of stocks of NYSE-listed companiesfor which LaBranche & Co. LLC and any other NYSE specialist firm acted asspecialist, including Pirelli v. LaBranche & Co Inc., et al., No. 03 CV8264, Marcus v. LaBranche & Co Inc., et al., No. 03 CV 8521, Empire v.LaBranche & Co Inc., et al., No. 03 CV 8935, and the California Public Employees’Retirement System (CalPERS) v. The New YorkStock Exchange, Inc., et al., No. 03 CV 9968. On March 11, 2004, a fifth action asserting similar claims, Rosenbaum Partners, LP v. The New YorkStock Exchange, Inc., et al., No. 04 CV2038, was filed in the United States District Court for the Southern District ofNew York by an individual plaintiff who does not allege to represent aclass.  On May 27, 2004, the court consolidatedthese lawsuits under the caption In re NYSE Specialists Securities Litigation,No. CV 8264.  The court named thefollowing lead plaintiffs: California Public Employees’ Retirement System (“CalPERS”)and Empire Programs, Inc.

 

On September 15, 2004,plaintiffs filed a Consolidated Complaint for Violation of the FederalSecurities Laws and Breach of Fiduciary Duty alleging that they represent aclass consisting of all public investors who purchased and/or sold shares ofstock listed on the NYSE

 

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from October 17,1998 to October 15, 2003.  Plaintiffsallege that we, LaBranche & Co. LLC, Mr. LaBranche and other NYSEspecialist firms and their respective parents and affiliates violated Section10(b), Rule 10b-5 and Section 20(a) by failing to disclose improper specialisttrading, improperly profiting on purchases and/or sales of NYSE-listed securitiesand breaching and/or aiding and abetting breaches of fiduciary duty.  Plaintiffs also name the NYSE as adefendant.  Plaintiffs seek unspecifiedmoney damages, restitution, forfeiture of fees, commissions and othercompensation, equitable and/or injunctive relief, including an accounting ofand the imposition of a constructive trust and/or asset freeze on tradingproceeds, and attorneys’ fees and reimbursement of expenses.

 

Posner.  On or about December 4, 2003,an action brought by Michele Posner, who purports to act on behalf of thegeneral public, Posner v. LaBranche & Co Inc., et al., No. BC307099, wasfiled in the Superior Court of the State of California, County of LosAngeles.  Plaintiff alleges that we,Messrs. LaBranche, Burke, Hayward, Murphy and Traison, other NYSE specialistfirms, the parents and affiliates of other specialist firms and individuals atother specialist firms violated California Business and Professions Code§ 17200 by engaging in improper specialist trading.  Plaintiff sought an order permanentlyenjoining the alleged misconduct, restitution, an order declaring acts andpractices to be “unlawful, unfair and/or fraudulent,” an accounting todetermine the amount to be returned by defendants and the amounts to berefunded to members of the public, the creation of an administrative processfor defendants’ customers to recover their losses, and attorneys’ fees.  On February 27, 2004, the defendants in theaction removed the action to the United States District Court for the CentralDistrict of California (No. CV04-1345).  On May 17, 2004, the action wastransferred to the United States District Court for the Southern District ofNew York (No. 04 CV 3966).  On December8, 2004, plaintiff voluntarily dismissed the action.

 

Brown.  On or about November 6, 2003,a purported shareholder derivative action, Brown v. George M. L. LaBranche IV,et al., No. 03 603512, was filed by Norman and Florence Brown, who purport tobe two of our shareholders, and who purport to act on behalf of us, againstcertain of our past or present directors and officers, including Messrs.LaBranche, Hayward, Murphy and Traison and Thomas E. Dooley, E. Margie Filter(who is deceased), James G. Gallagher, David A. George, Donald E. Kiernan, S.Lawrence Prendergast and George E. Robb, Jr., in the Supreme Court of the Stateof New York, New York County.  Plaintiffsallege breaches of fiduciary duty arising out of statements by us concerningour specialist trading business that are alleged to have been false and misleadingbecause we failed to disclose alleged violations of NYSE rules.  According to plaintiffs, “[a]t least amajority of the Individual Defendants had knowledge of, or were reckless in notknowing of these false and misleading statements and the improper transactionsconcealed by such statements, and failed to establish and maintain adequatepolicies, systems and procedures reasonably designed to detect and prevent suchimproper transactions.”  Plaintiffs seekdamages, return of all compensation received by the defendants for periodsduring which they allegedly breached their fiduciary duties, an order requiringimplementation of corrective measures to prevent repetition of the allegedwrongful conduct, and attorneys’ fees and reimbursement of expenses.

 

On November 8, 2004, thecourt dismissed the action due to plaintiffs’ failure to make a pre-litigationdemand.  The court’s decision states thatthe dismissal is “without prejudice to the

 

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bringing of a newaction, if a pre-suit demand is either rejected or not considered within areasonable amount of time.”

 

On January 31, 2005,plaintiffs made a demand, alleging “impropertransactions in connection with [LaBranche & Co. LLC’s] role as aspecialist on the New York Stock Exchange” and further alleging that the “Boardof Directors breached its fiduciary duties by . . . failing toexercise reasonable and prudent supervision over the management policies,practices, controls, and financial affairs of LaBranche,” and demanding thefollowing: (1) the appointment of “new independent directors who will form aspecial committee to investigate the alleged managerial, financial, trading andaccounting improprieties,” (2) modification of the definition of outsidedirector, (3) separation of the office of chairman and chief executive officerand the election by outside directors of an outside director to serve aschairman, (4) the special committee “must seek restitution and/or monetarydamages on behalf of the Company, by lawsuit if necessary,” from Messrs.LaBranche, Burke, Dooley, Gallagher, George, Hayward, Kiernan, Murphy,Prendergast, Robb and Traison and Ms. Filter and “any other current or formerofficer, director or employee, for any and all costs incurred by the Company asa result of the alleged improprieties including, but not limited to, anydamages incurred as a result of the federal securities lawsuits,” (5) aninvestigation by “outside auditors” of “accounting and controls,” followingwhich our board “must ensure that any and all deficiencies or weaknesses in theCompany’s accounting and controls are promptly remedied,” (6) creation of achief ethics officer position and mandatory ethics training, and (7) arecommendation by the special committee of “the resignation or dismissal fromoffice of any and all officers, directors or employees found to have breachedany fiduciary duty to the Company, or any law, regulation or internal Companyrules.”  The letter states that the Brown’scounsel “intend to file a shareholder derivative complaint on behalf of theBrowns and for the benefit of LaBranche if, after the expiration of ninety (90)days from the date of this demand, the Board has not responded to the demand orhas otherwise failed to satisfy controlling law.”

 

Henik. On or about February 1, 2005, a purported shareholder derivative action,Henik v. LaBranche, et al., No. 05 CV 1087, was filed by Diane Henik, whopurports to be one of our stockholders, and who purports to act on behalf ofus, against certain of our past or present directors and officers, includingMessrs. LaBranche, Burke, Dooley,Gallagher, George, Hayward, Kiernan, Murphy, Prendergast, Robb and Traison andMs. Filter, inthe United States District Court for the Southern District of New York.  Plaintiff alleges breaches of fiduciary dutyarising out of alleged improper specialist trading and violations of NYSErules.  According to plaintiff, the defendants “engaged in numerous acts, andon some occasions, failed to act, both of which caused LaBranche to sufferdamages,” “were extremely reckless with respect to LaBranche’s internalcontrols, its corporate governance practices, and their own formal oversightresponsibility,” “it [is] likely that some or all” defendants “actuallydirected, knew of, acquiesced after the fact, or could have easily discovered”the alleged improper trading, “there were numerous red flags . . .that were deliberately ignored that suggest that the Board actually knew of themisconduct alleged herein” or that “could have alerted a conscientious directorthat something was amiss,” and that the defendants “either knowingly breachedtheir fiduciary duties to LaBranche and its shareholders, or at the very least,engaged in extremely reckless conduct which also was a breach of fiduciaryduties.”  Plaintiff seeks unspecifiedmoney damages, attorneys’ fees and reimbursement of expenses.

 

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Last Atlantis and Rule. On January 20, 2004, five entities that allege that they are purchasersand sellers of options commenced an action in the United States District Courtfor the Northern District of Illinois, Last AtlantisCapital LLC v. Chicago Board of Options Exchange, Inc., et al., No. 04 C 0397, against four national securities exchanges (the American Stock Exchange, the Chicago BoardOptions Exchange, the Philadelphia Stock Exchange and Pacific Exchange) and 35alleged securities brokers and/or dealers, including our LSP subsidiary, who,plaintiffs allege, made markets in options on the named exchanges. Plaintiffsallege that we and LSP conspired with other defendants by allegedly failing toexecute orders, canceling orders, and refusing to cancel orders allegedlysubmitted by plaintiffs for the purchase and sale of options.  Plaintiffs allege violations of federalantitrust laws (Section 1 of the Sherman Act), and securities law (Section10(b) of the Exchange Act and Rule 10b-5), breach of contract, common lawfraud, breach of fiduciary duty, violations of an Illinois consumer fraud anddeceptive business practices statute, and tortious interference with plaintiffs’business.  Injunctive relief and damages(including punitive damages) in an unspecified amount are sought.  On January 28, 2005, an individualrepresented by the same counsel who represent the plaintiffs in the LastAtlantis case commenced a substantially similar action in the United StatesDistrict Court for the Northern District of Illinois, Rule v. Chicago Board ofOptions Exchange, Inc., et al., No. 05 C 0539, making substantially the sameallegations and seeking the same relief against the same defendants, includingLSP and us.  To our knowledge, thecomplaint in the Rule case has not been served.

 

NASD/AMEX Notice ofDisciplinary Action.  On December 15, 2004, LaBranche & Co. LLCreceived a notice from the NASD Amex Regulation Division stating a preliminarydetermination has been made by the NASD Amex Regulation Division’s staff toseek disciplinary action against LaBranche & Co. LLC for violations ofcertain federal securities laws and the Amex Constitution and Rules, includingSections 10(b), 9A and 17(a) of the Exchange Act, in connection with manualbook freezes effected in one of LaBranche & Co. LLC’s Amex specialiststocks during the period March 8, 2004 through October 21, 2004.  Prior toreceiving this notice, we had determined that the individual specialistresponsible for the book freezes failed to adhere to company policy and hadterminated that employee. We have submitted a response to the staff of the NASDAmex Regulation Division setting forth the reasons why disciplinary actionshould not be brought against LaBranche & Co. LLC and we are cooperatingwith the NASD Amex Regulation Division in this matter.

 

We believe that theclaims asserted against us by the plaintiffs in the pending proceedingsdescribed above are without merit, and we deny all allegations ofwrongdoing.  There can be no assurance,however, as to the outcome or timing of the resolution of theseproceedings.  We therefore are unable toestimate the amount or potential range of any loss that may arise out of theseproceedings.  The range of possibleresolutions could include determinations and judgments against us orsettlements that could require substantial payments by us that could have amaterial adverse effect on our financial condition, results of operations andcash flows.

 

In addition to theproceedings described above, we and our operating subsidiaries have been thetarget, from time to time, of various claims and lawsuits incidental to theordinary course of our and their respective businesses, including, inparticular, three separate employment discrimination proceedings currentlypending against LaBranche & Co. LLC before the United States Equal EmploymentOpportunity Commission. While the ultimate outcome of those claims and

 

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lawsuits which currently are pending cannot bepredicted with certainty, we believe, based on our understanding of the factsof these proceedings, that their ultimate resolution will not, in theaggregate, have a material adverse effect on our financial condition, resultsof operations or cash flows.

 

# **Item 4.**                                   SUBMISSION OF MATTERS TO A VOTE OFSECURITY HOLDERS.

# ** **

There were no matters submitted to a vote of securityholders during the fourth quarter of our fiscal year ended December 31, 2004.

 

**PARTII**

** **

# **Item 5.**                                   MARKET FOR REGISTRANT’S COMMON EQUITY,RELATED STOCKHOLDER MATTERS, AND ISSUER PURCHASES OF EQUITY SECURITIES.

# ** **

## **Market Information**

## ** **

Our common stock is quoted on the NYSE under thesymbol “LAB.” The following table sets forth the range of high and low closingsales prices for our common stock on the NYSE for the periods indicated:

 
| ** **     | ** ** | **Fiscal 2003** | ** ** | **Fiscal 2004** | ** ** |
|----------------|------------|-----------------|------------|-----------------|------------|
| ** **     | ** ** | **High**        | ** ** | **Low**         | ** ** | **High** | ** ** | **Low** | ** ** |
| ** **     | ** ** | ** **      | ** ** | ** **      | ** ** | ** ** | ** ** | ** ** | ** ** |
| First Quarter  |       | $               | 26.99      |            | $          | 15.51 |   | $ | 12.10 |   | $ | 8.97 |   |
|           |       |            |       |            |       |   |   |   |   |   |   |   |   |
| Second Quarter |       | $               | 22.75      |            | $          | 16.29 |   | $ | 11.19 |   | $ | 8.20 |   |
|           |       |            |       |            |       |   |   |   |   |   |   |   |   |
| Third Quarter  |       | $               | 23.26      |            | $          | 14.60 |   | $ | 8.58 |   | $ | 7.69 |   |
|           |       |            |       |            |       |   |   |   |   |   |   |   |   |
| Fourth Quarter |       | $               | 13.83      |            | $          | 7.60 |   | $ | 9.12 |   | $ | 7.09 |   |

 

## **Holders**

## ** **

As of February 1, 2005, we had 87 stockholders ofrecord of our common stock and an estimated 7,200 beneficial owners. Theclosing sale price of our common stock on February 1, 2005 was $9.69 per share.

 

## **Dividends**

## ** **

Until 2003, we did not paydividends on our common stock. In the first three fiscal quarters of 2003,however, we paid a quarterly cash dividend in the amount of $.08 per share to

 

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theholders of record of our common stock as of January 31, 2003, April 30, 2003and July 31, 2003. OnOctober 20, 2003, our Board of Directors suspended the payment of dividendswith respect to our common stock because of the decline in our profitabilityand because earnings were not sufficient to support payment of furtherdividends in compliance with certain of the financial covenants contained inthe indentures governing our then-outstanding senior indebtedness.

 

We do not expect to declareor pay any dividends on our common stock in the foreseeable future, but insteadintend to retain all earnings, if any, to invest in our operations and serviceour debt obligations.  The payment of future dividends is within thediscretion of our Board of Directors and will depend on our future earnings,capital requirements, applicable regulatory restrictions, financial condition,the application of the financial covenants contained in the indenturesgoverning our currently outstanding debt obligations and other relevantfactors.

 

## **Securities Authorized forIssuance under Equity Compensation Plans**

## ** **

The information set forth under the caption “ExecutiveCompensation” in our definitive Proxy Statement to be used in connection withour 2005 Annual Meeting of Stockholders to be held on May 17, 2005, which willbe filed within 120 days of the end of our fiscal year ended December 31, 2004(the “2005 Proxy Statement”), is incorporated herein by reference.

 

# **Item 6.**                                   SELECTED FINANCIAL DATA.

# ** **

The selected financial data set forth below for theyears ended December 31, 2004, 2003 and 2002 and as of December 31,2004, 2003 and 2002 have been derived from our consolidated financialstatements, which have been audited by KPMG LLP, independent auditors, and areincluded elsewhere in this filing. The selected financial data set forth belowfor the years ended December 31, 2001 and 2000 and as of December 31,2001 and 2000 have been derived from our consolidated financial statements,audited by Arthur Andersen LLP, independent public auditors, which are notincluded elsewhere in this filing. The selected financial data set forth belowshould be read in conjunction with the consolidated financial statements andrelated notes thereto and with “Management’s Discussion and Analysis ofFinancial Condition and Results of Operations,” which are included elsewhere inthis filing.

 
| ** **                                                                       | ** ** | **For Year Ended December 31,** | ** ** |
|----------------------------------------------------------------------------------|------------|---------------------------------|------------|
| **(000’s omitted)**                                                         | ** ** | **2004**                        | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| **STATEMENT  OF OPERATIONS DATA:**                                               | ** ** | ** **                      | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Revenues:                                                                        |       |                            |       |   |   |   |   |   |   |   |   |
| Net gain on  principal transactions                                              |       | $                               | 182,535    |   | $ | 202,207 |   | $ | 342,400 |   | $ | 340,795 |   | $ | 282,948 |   |
| Commissions                                                                      |       | 96,045                          |       | 94,443 |   | 92,044 |   | 62,866 |   | 45,381 |   |
| Realized gain  from sale of Lava investment                                      |       | 24,900                          |       | — |   | — |   | — |   | — |   |
| Other                                                                            |       | 15,567                          |       | 9,339 |   | 18,401 |   | 20,469 |   | 16,480 |   |
| Total revenues                                                                   |       | 319,047                         |       | 305,989 |   | 452,845 |   | 424,130 |   | 344,809 |   |
|                                                                             |       |                            |       |   |   |   |   |   |   |   |   |
| Expenses:                                                                        |       |                            |       |   |   |   |   |   |   |   |   |
| Employee  compensation and benefits                                              |       | 99,310                          |       | 99,123 |   | 131,511 |   | 110,832 |   | 88,759 |   |
| Interest                                                                         |       | 63,789                          |       | 48,188 |   | 48,589 |   | 52,049 |   | 41,893 |   |
| Restitution and  fines                                                           |       | —                          |       | 63,519 |   | — |   | — |   | — |   |
| Goodwill  impairment                                                             |       | 37,600                          |       | 170,302 |   | — |   | — |   | — |   |
| Exchange  memberships impairment                                                 |       | 18,327                          |       | 515 |   | — |   | — |   | — |   |
| Debt repurchase  premium                                                         |       | 49,029                          |       | — |   | — |   | — |   | — |   |
| Other                                                                            |       | 106,461                         |       | 109,416 |   | 106,621 |   | 104,538 |   | 47,580 |   |
| Total expenses                                                                   |       | 374,516                         |       | 491,063 |   | 286,721 |   | 267,419 |   | 178,232 |   |
|                                                                             |       |                            |       |   |   |   |   |   |   |   |   |
| Income (loss)  before minority interest and provision (benefit) for income taxes |       | $                               | (55,469    | ) | $ | (185,074 | ) | $ | 166,124 |   | $ | 156,711 |   | $ | 166,577 |   |
|                                                                             |       |                            |       |   |   |   |   |   |   |   |   |
| Net income  (loss)                                                               |       | $                               | (43,780    | ) | $ | (179,389 | ) | $ | 87,226 |   | $ | 71,587 |   | $ | 81,923 |   |

 

34

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| ** **                       | ** ** | **As of December 31,** | ** ** |
|----------------------------------|------------|------------------------|------------|
| **(000’s omitted)**         | ** ** | **2004**               | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| **BALANCE  SHEET DATA:**         |       |                   |       |   |   |   |   |   |   |   |   |
| Total assets                     |       | $                      | 2,055,097  |   | $ | 1,963,090 |   | $ | 1,912,802 |   | $ | 2,000,837 |   | $ | 1,004,122 |   |
| Total long term  obligations (1) |       | 498,733                |       | 275,891 |   | 383,233 |   | 429,205 |   | 397,828 |   |
| Stockholders’  equity       |       | $                      | 692,986    |   | $ | 772,964 |   | $ | 989,688 |   | $ | 928,358 |   | $ | 370,901 |   |

 

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(1)                                  Includesobligations under our subordinated debt (excluding those related to contributedexchange memberships).

 
| ** **                           | ** ** | **For Year Ended December 31,** | ** ** |
|--------------------------------------|------------|---------------------------------|------------|
| ** **                           | ** ** | **2004**                        | ** ** | **2003** | ** ** | **2002** | ** ** | **2001** | ** ** | **2000** | ** ** |
| **COMMON  SHARE DATA:**              |       |                            |       |   |   |   |   |   |   |   |   |
| Earnings (loss)  per share (diluted) |       | $                               | (0.77      | ) | $ | (3.08 | ) | $ | 1.34 |   | $ | 1.13 |   | $ | 1.69 |   |
| Cash dividends  declared per share   |       | —                          |       | $ | 0.24 |   | — |   | — |   | — |   |
|                                      |            |                                 |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

# ** **

# **Item 7.**                                   MANAGEMENT’S DISCUSSION AND ANALYSIS OFFINANCIAL CONDITION AND RESULTS OF OPERATIONS.

# ** **

*You should read the following discussion of ourfinancial condition and results of operations together with the financialstatements and the notes to such statements included elsewhere in this filing.This discussion contains forward-looking statements based on our currentexpectations, assumptions, estimates and projections about us and our industry.These forward-looking statements involve risks and uncertainties including, butnot limited to those discussed in “Risk Factors” set forth in Item 1 of thisannual report. Our actual results could differ materially from thoseanticipated in these forward-looking statements as a result of certain factors.We undertake no obligation to update publicly any forward-looking statementsfor any reason, even if new information becomes available or other events occurin the future.*

** **

## **Executive Overview**

## ** **

For the year ended December31, 2004, we reported a loss of $46.0 million, or $0.77 per share, which includeda $24.6 million gain on the sale of our investment in Lava Trading, Inc., anexchange membership impairment charge of $18.3 million, a debt repurchasecharge of $55.9 million, a goodwill impairment charge of $37.6 million and apreferred stock discount accretion charge of $0.5 million.Excluding the Lava sale and the exchangemembership impairment, debt repurchase, goodwill impairment charges andpreferred stock discount accretion, our net income available to common stockholders for the fullyear 2004 was $16.7 million, or $0.28 per diluted share.

 

The key drivers thatcontributed to the decreased revenues at our NYSE equity specialist subsidiaryfor 2004 included declining principal share volume and dollar value traded,lower market volatility and an increasing rate of program trading as apercentage of total trading

 

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volumeon the NYSE. The decline in market volatility and rise in program tradingresulted in fewer market imbalances, which lowered our rate of capitalparticipation. Although this caused a 19.3% decrease in principal tradingrevenues at our LaBranche & Co. LLC subsidiary in 2004 versus 2003, our LSPand LSPS subsidiaries’ principal trading revenues grew 95.3% through expansioninto new marketplaces and diversification of its specialist and market-makingproduct offerings.

 

Throughout 2004, wecontinued to improve operational efficiencies by reducing headcount and relatedoperating expenses and further enhancing our compliance and trading systems. Webelieve these changes have streamlined our organization without sacrificing ourability to respond to developments in the marketplace. If implemented, weanticipate that theNYSE’s proposed changes to its automated trade execution system and the SEC’sproposed market structure changes will provide more challenges. We areconfident that our organization will successfully adapt to meet its futureneeds.

 

During 2004, we successfullycompleted a refinancing of certain of our indebtedness by repurchasing asubstantial portion of our then-outstanding senior and senior subordinatednotes and issuing $460.0 million aggregate principal amount of 9.5% seniornotes due 2009 (the “Original 2009 Notes”) and 11.0% senior notes due 2012 (the“Original 2012 Notes” and collectively with the Original 2009 Notes, the “OriginalSenior Notes”).  Although this refinancingincreased the aggregate principal amount of our outstanding indebtedness, theinterest rates on the Original Senior Notes and the third-quarter repurchase ofall remaining shares of our outstanding Series B preferred stock with a portionof the proceeds of the Original Senior Notes issuance have enabled us to extendthe maturities of our debt without increasing our overall combined after-taxannual interest and dividends expense.

 

On March 29, 2004, weentered into an agreement with the NYSE and the SEC to settle theirinvestigations concerning our NYSE specialist trading activity.  This settlement resolved the NYSE and the SECinvestigations of our NYSE specialist trading activity for all periods through2003. As part of the settlement with the NYSE and the SEC, we have agreed tocomply with the following undertakings:

 

•                                          implementation of systems and procedures toensure appropriate follow-up and review with regard to information provided toLaBranche & Co. LLC on a daily basis by the NYSE with regard to specialists’override of the Principal Inhibitor function, which identifies specialist principal trades that may have been effected whilean executable agency order was reflected in the order book on the same side ofthe market;

 

•                                          creation of a committee, including LaBranche& Co. LLC’s chief compliance officer and at least two members of seniormanagement, specifically charged with meeting periodically (no less frequentlythan monthly) to evaluate specialist rule compliance;

 

•                                          development and/or enhancement of systems andprocedures to track and maintain records identifying the individuals acting asspecialist and clerk for each security at all times throughout each tradingday;

 

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•                                          annual certification, through LaBranche &Co. LLC’s chief executive officer, that a review has been conducted by thechief compliance officer of trading in LaBranche & Co. LLC’s principalaccount for the purpose of detecting interpositioning, trading ahead andunexecuted limit order violations;

 

•                                          bi-annual assessment of, and reports on, theadequacy of the resources devoted to LaBranche & Co. LLC’s compliancefunction, and devotion of adequate funds and staffing to the compliancedepartment; and

 

•                                          retention of anindependent consultant to review and evaluate LaBranche & Co. LLC’scompliance systems, policies and procedures reasonably designed to ensure thatLaBranche & Co. LLC is in compliance with federal securities laws and NYSErules with regard to specialist trading.

 

We are complying with these undertakings and do notexpect these changes or enhancements to adversely affect our principal tradingrevenues. Instead, our fulfillment of these undertakings should enhance ourrisk management activities related to our specialist trading activity.

 

**NewAccounting Developments**

** **

In December 2003, the FASB issued FIN 46(R), “Consolidationof Variable Interest Entities, An Interpretation of ARB No. 51.” FIN 46(R)requires a company to consolidate a variable interest entity (“VIE”) if thecompany has variable interests that give it a majority of the expected lossesor a majority of the expected residual returns, or both, of the entity. FIN46(R) was effective no later than the end of the first reporting period thatended after March 15, 2004. As of December 31, 2004, we have determined thatnone of our investments are considered a VIE under the guidance provided in FIN46(R), and therefore, the implementation of FIN 46(R) has had no impact on ourconsolidated financial statements.

 

In December 2004, the FASB issued a revision to SFASNo. 123, “Accounting for Stock-Based Compensation,” SFAS No. 123(R), “ShareBased Payment.” SFAS No. 123(R) will require compensation costs related toshare-based payment transactions to be recognized in the financial statementsover the period that an employee provides service in exchange for the award.SFAS No. 123(R) replaces SFAS No. 123 and supersedes APB Opinion No. 25, “Accountingfor Stock Issued to Employees.” SFAS No. 123(R) will be effective for our thirdquarter of fiscal 2005. We are currently evaluating the effect of adoption ofSFAS No. 123(R), but we do not expect it to have a material effect on ourfinancial condition, results of operations or cash flows.

 

**CriticalAccounting Estimates**

** **

*Goodwill and Other IntangibleAssets*

* *

We determine the fair value of each of our reportingunits and the fair value of each reporting unit’s goodwill under the provisionsof Statement of Financial Accounting Standards (“SFAS”) No. 142, “Goodwill andOther Intangible Assets.”  In determiningfair value, we use standard analytical approaches to business enterprisevaluation (“BEV”), such as the market comparable approach and the incomeapproach. The market comparable approach is based on comparisons of the subjectcompany to similar companies engaged in an actual merger or

 

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acquisition or to publiccompanies whose stocks are actively traded. As part of this process, multiples of value relative to financial variables,such as earnings or stockholders’ equity, are developed and applied to theappropriate financial variables of the subject company to indicate itsvalue.  The income approach involvesestimating the present value of the subject company’s future cash flows byusing projections of the cash flows that the business is expected to generate,and discounting these cash flows at a given rate of return. Each of these BEVmethodologies requires the use of management estimates and assumptions. Forexample, under the market comparable approach, we assigned a certain controlpremium to the public market price of our common stock as of the valuation dateof our 2004 third quarter impairment test, as well as our 2004 year-endimpairment test, in estimating the fair value of our specialist reportingunit.  Similarly, under the incomeapproach, we assumed certain growth rates for our revenues, expenses, earningsbefore interest, income taxes, depreciation and amortization, returns onworking capital, returns on other assets and capital expenditures, amongothers.  We also assumed certain discountrates and certain terminal growth rates in our calculations. For our thirdquarter and year-end 2004 goodwill impairment tests, we engaged an independentbusiness valuation firm to assist us in our BEV analyses.  Given the subjectivity involved in selectingwhich BEV approach to use and in determining the input variables for use in ouranalyses, it is possible that a different valuation model and the selection ofdifferent input variables could produce a materially different estimate of fairvalue of our goodwill.

 

We review the reasonableness of the carrying value ofour goodwill on an annual calendar basis (i.e., December 31) unless an event orchange in circumstances would require an interim reassessment ofimpairment.  During the nine months endedSeptember 30, 2004, certain changes in circumstances occurred, which managementbelieved necessitated goodwill impairment testing. The two primary factors weanalyzed, which indicated a need for us to reassess the reasonableness of thecarrying value of our goodwill at September 30, 2004, were the prolongeddownward trend in our principal trading revenues at our Specialist reportingunit and the continued decline in the public trading price of our common stockthrough September 30, 2004.  In our thirdquarter 2004 SFAS No. 142 test, we compared the fair value of our Specialistreporting unit and the fair value of our Specialist reporting unit’sgoodwill—based on the methods described above—to their respective carryingvalues in two separate steps under SFAS No. 142 guidelines to arrive at the$37.6 million impairment charge we recognized during the third quarter.Notwithstanding our interim valuation of goodwill as of September 30, 2004, SFASNo. 142 requires us to test goodwill on an annual calendar basis. Accordingly,we updated our valuation models through and including our annual testing date,or December 31, 2004, and noted no further impairment of our goodwill. Wecannot provide assurance that future goodwill impairment testing will notresult in impairment charges in subsequent periods.

 

Our other intangible asset, as defined under SFAS No.142, is our trade name. We determine the fair value of our trade name byapplying the income approach using the royalty savings methodology. This methodassumes that the trade name has value to the extent we are relieved of theobligation to pay royalties for the benefits received from it.  Application of this methodology requiresestimating an appropriate royalty rate, which is typically expressed as apercentage of revenue. Estimating an appropriate royalty rate includesreviewing evidence from comparable licensing agreements and consideringqualitative factors affecting the trade name. Given the subjectivity involvedin selecting which BEV approach to use and in determining the

 

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input variables for usein our analyses, it is possible that a different valuation model and theselection of different input variables could produce a materially differentestimate of fair value of our trade name.

 

We review the reasonableness of the carrying amount ofour trade name on an annual basis in conjunction with our goodwill impairmentassessment. As of September 30, 2004, the fair value of our trade name— determinedin accordance with the methodology described above— exceeded its carryingamount. During our 2004 fiscal fourth quarter, no events or changes incircumstances occurred that required us to reassess the fair value of our tradename. Therefore, no impairment of our trade name exists at December 31, 2004.We cannot provide assurance that future trade name impairment testing will notresult in impairment charges in subsequent periods.

 

*Non-Marketable Securities*

* *

The use of fair value to measure certainnon-marketable investments is a critical accounting estimate.  Investments in non-marketable securitiesconsist of investments in equity securities of private companies, limitedliability company interests and limited partnership interests, which do nothave readily available price quotations. Certain investments in non-marketablesecurities are initially carried at cost, as an approximation of fairvalue.  Adjustments to carrying value aremade if there are third-party transactions evidencing a change in value.  For certain other investments innon-marketable securities, we adjust their carrying value by applying theequity method of accounting, and for our investment in a limited partnershipinterest, we adjust its carrying value by recognizing our share of thepartnership’s quarterly results of operations. In addition, if and whenavailable, management considers other relevant factors relating tonon-marketable investments in estimating their fair value, such as thefinancial performance of the entity, its cash flow forecasts, trends withinthat entity’s industry and any specific rights associated with ourinvestment—such as conversion features—among others.

 

Given management’s judgment involved in valuing certainof our non-marketable securities, it is possible, as of a given point in time,that a third-party could reach a different conclusion of fair value utilizingthe same variables as we have in our analysis.

 

*Other-Than-Temporary Impairmentof Exchange Memberships*

** **

The determination of the fair value of our exchangememberships is a critical accounting estimate. Exchange memberships owned by usare originally carried at cost, pursuant to the American Institute of CertifiedPublic Accountants (“AICPA”) *Audit and AccountingGuide—Brokers and Dealers in Securities*.  Adjustments to carrying value are made if wedeem that an “other-than-temporary” decline in value, as defined in EmergingIssues Task Force (“EITF”) Issue No. 03-1, *The Meaning of Other-Than-TemporaryImpairment and Its Application to Certain Investments,*and in SectionM of Topic 5 of the SEC staff accounting bulletin series (“SAB No. 59”), has occurred. In determining whether thevalue of our owned exchange memberships is impaired (*i.e*.,fair market value is below cost) and whether such impairment is temporary orother-than-temporary, we consider many factors, including, but not limited to,information regarding recent sale and lease prices of exchange memberships,historical trends of sale and lease prices of memberships on a particularexchange and their duration, the current

 

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conditionof the particular exchange’s market structure, legal and regulatorydevelopments affecting the particular exchange’s market structure and earningscapability, trends in new listings on the particular exchange, general globaland national economic factors and our knowledge and judgment of the specialistand execution and clearing industries and the securities market as a whole.

 

As a result of our analysis of the above-mentionedfactors for the three and six month periods ended December 31, 2004, thedifference between the fair value of our NYSE exchange memberships and theircarrying value at December 31, 2004 is deemed temporary.  For the years ended December 31, 2004 and2003, we recorded other-than-temporary impairment charges of $18.3 million and$0.5 million, respectively, to reduce the carrying value (or cost basis) of ourNYSE (fiscal 2004) and AMEX (fiscal 2003) exchange memberships.

 

We cannot provide assurance that the consistentapplication of this accounting policy to future reporting periods will notresult in further adjustments to the carrying value of our exchangememberships.

 

**OffBalance Sheet Arrangements**

** **

LFSI, through the normal course of business, entersinto various securities transactions as agent. The execution, settlement andfinancing of these transactions can result in off-balance sheet risk andconcentration of credit risk.  LFSI’sexecution and clearing activities involve settlement and financing of variouscustomer securities transactions on a cash or margin basis. These activitiesmay expose LFSI to off-balance sheet risk in the event the customer or otherbroker is unable to fulfill its contractual obligations and LFSI has topurchase or sell securities at a loss. For margin transactions, LFSI may beexposed to significant off-balance sheet risk in the event margin requirementsare not sufficient to fully cover losses that customers may incur in theiraccounts.

 

**May2004 Refinancing of Our Indebtedness**

** **

On May18, 2004, in connection with the refinancing of certain of our indebtedness, werepurchased approximately $93.1 million of our then-outstanding$100.0 million aggregate principal amount 9.5% senior notes due 2004 (the “2004Notes”) and approximately $236.4 million of our then-outstanding$250.0 million aggregate principal amount 12.0% senior subordinated notesdue 2007 (the “2007 Notes” and, together with the 2004 Notes, the “Old Notes”),and paid for related consents delivered by the holders of the Old Notes on orprior to April 19, 2004.  The aggregatepurchase price we paid for the Old Notes was approximately $386.9 million,which included the purchase price, premium and consent payments ofapproximately $49.0 million and accrued but unpaid interest on the Old Notes upto, but not including, the settlement date. Upon the completion of thisrefinancing, the indentures governing the remaining outstanding Old Notes werestripped of substantially all restrictive covenants, certain events of defaultand other related provisions.

 

Inorder to fund the repurchase of the Old Notes, we issued the OriginalSenior Notes. Theindenture governing the Original Senior Notes contains provisions similar tothe indentures that governed the Old Notes prior to their amendment. For a morecomplete description of the

 

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restrictive covenants inthe indenture governing the Original Senior Notes, please see “—Liquidity andCapital Resources.”

 

In connection with our purchase of the Old Notes andour payment for the related consents that were delivered on or prior toApril 19, 2004, we recorded a charge of approximately $55.9 millionin the second quarter of 2004 for premium and consent payments, accelerateddebt issuance cost amortization and discount accretion and other related fees.In connection with the issuance of the Original Senior Notes, we capitalizedcertain costs in the aggregate amount of approximately $12.7 million, andare amortizing these costs over the life of these notes.

 

**Repayment of Remaining 2004 Notes**

** **

On August 16, 2004, we repaid the $6.9 millionaggregate principal amount of 2004 Notes that remained outstanding after ourMay 2004 refinancing, plus all accrued and unpaid interest thereon, for anaggregate of $7.2 million.  No 2004 Notesremain outstanding and the indenture governing the 2004 Notes was terminated.

 

**Completed Exchange Offer**

** **

On September 10, 2004, pursuant to a registration rightsagreement between the initial purchaser of the Original Senior Notes and us, weoffered to exchange(i) our 9.5% Senior Notes due 2009 that have been registered under theSecurities Act of 1933, as amended (the “2009 Senior Notes”), for an equalprincipal amount of outstanding Original 2009 Notes and (ii) our 11.0% Senior Notes due2012 that have been registered under the Securities Act of 1933, as amended(the “2012 Senior Notes,” and together with the 2009 Senior Notes, the “SeniorNotes”), for an equal principal amount of outstanding Original 2012Notes.

 

The exchange offer expired on October 22, 2004, withthe holders of 98.5%, or $197.0 million aggregate principal amount, of Original2009 Notes having tendered their Original 2009 Notes for exchange, and theholders of 100.0%, or $260.0 million aggregate principal amount, of theOriginal 2012 Notes having tendered their Original 2012 Notes for exchange. TheSenior Notes represent the same indebtedness as the Original Senior Notes thatwere exchanged and have been issued under the same indenture.  All subsequent references in this Report tothe term “2009 Senior Notes” shall include the $3.0 million principal amount ofOriginal 2009 Notes that were not tendered in the exchange offer and remainoutstanding.

 

**Completed Excess Proceeds Offer**

** **

**To the extent we did not use thenet proceeds of the sale of the Original Senior Notes to repurchase Old Notesin connection with the May 2004 debt refinancing, repurchase thethen-outstanding shares of our Series B preferred stock before September 15,2004 and pay related fees and expenses, the Senior Notes indenture required usto offer to use such “excess proceeds” to repurchase an equal principal amountof Senior Notes at a price of 101.0%, on a pro rata basis.**

** **

Based on the aggregate principal amount of Old Notesthat we repurchased in May 2004, the repurchase of our Series B preferred stockin July 2004 (see “—Completed Preferred Stock Exchange Offer and SubsequentRepurchase”) and the fees and expenses incurred in connection therewith, the “excessproceeds” amount was approximately $18.2 million. Accordingly, on

 

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November 1, 2004, wecommenced an offer to purchase Senior Notes in the aggregate principal amountof up to approximately $18.2 million. This excess proceeds offer expired onDecember 1, 2004, with approximately $0.1 million principal amount, includingaccrued and unpaid interest, of 2009 Senior Notes having been tendered.

 

**CompletedPreferred Stock Exchange Offer and Subsequent Repurchase**

** **

On January 21, 2004, we completed an exchange offerpursuant to an exemption from registration under Section 3(a)(9) of theSecurities Act of 1933, as amended, pursuant to which we exchanged one share ofa newly-created Series B preferred stock for each share of our then-issued andoutstanding Series A preferred stock. In the exchange offer, all of theapproximately 39,186 shares of Series A preferred stock were exchanged by thefourteen holders of record for shares of our Series B preferred stock.  Issuance of the newly-created shares ofSeries B preferred stock was contingent upon the tender for exchange of 100% ofthe issued and outstanding shares of Series A preferred stock.

 

On June 14, 2004, we commenced an offer to purchaseany and all of the approximately 39,186 then-outstanding shares of our Series Bpreferred stock.  On July 12, 2004, theoffer expired with 100% of the then-outstanding shares of Series B preferredstock having been tendered.  On July 13,2004, we purchased all of the tendered shares at a price of $1,000 per share,plus accrued and unpaid dividends up to but not including the date of purchasefor approximately $42.6 million and all then-outstanding shares of our Series Bpreferred stock were retired.  As aresult of the purchase, we recorded an expense in the third quarter of 2004 ofapproximately $0.5 million due to the acceleration of the discount accretion onthe shares that were purchased.

 

Of the approximately 39,186 then-outstanding shares ofour Series B preferred stock, approximately 9,760 shares had been held inescrow in order to secure the indemnification obligations of the formerstockholders of ROBB PECK McCOOEY Financial Services, Inc. (“RPM”) inconnection with our acquisition of RPM in March 2001.  In connection with the completion of theoffer to purchase all then-outstanding shares of our Series B preferred stock,this escrow arrangement was terminated in order to facilitate our objective ofrepurchasing and retiring all outstanding shares of our Series B preferredstock without forfeiting any material right to indemnification under the mergeragreement governing our acquisition of RPM.

 

## **Results of Operations**

## ** **

# **SpecialistSegment Operating Results**

 
| ** **                          | ** ** | **For the Years Ended December 31,** | ** ** | **2004 vs. 2003  Percentage** | ** ** | **2003 vs. 2002  Percentage** | ** ** |
|-------------------------------------|------------|--------------------------------------|------------|-------------------------------|------------|-------------------------------|------------|
| **(000’s omitted)**            | ** ** | **2004**                             | ** ** | **2003**                      | ** ** | **2002**                      | ** ** | **Change** | ** ** | **Change** | ** ** |
|                                |       |                                 |       |                          |       |                          |       |   |   |   |   |
| **Revenues:**                       |       |                                 |       |                          |       |                          |       |   |   |   |   |
| Net gain on  principal transactions |       | $                                    | 182,535    |                          | $          | 202,206                       |       | $ | 342,400 |   | (9.7 | )% | (40.9 | )% |
| Commissions                         |       | 48,781                               |       | 47,450                        |       | 50,653                        |       | 2.8 |   | (6.3 | ) |
| Other                               |       | 13,707                               |       | 6,927                         |       | 8,116                         |       | 97.9 |   | (14.7 | ) |
| Total segment  revenues             |       | 245,023                              |       | 256,583                       |       | 401,169                       |       | (4.5 | ) | (36.0 | ) |
|                                |       |                                 |       |                          |       |                          |       |   |   |   |   |
| Operating  expenses                 |       | 148,799                              |       | 144,731                       |       | 176,704                       |       | 2.8 |   | (18.1 | ) |
| Goodwill  impairment                |       | 37,600                               |       | 166,250                       |       | —                        |       | (77.4 | ) | — |   |
| Exchange  memberships impairment    |       | 16,300                               |       | —                        |       | —                        |       | — |   | — |   |
| Restitution and  fines              |       | —                               |       | 63,519                        |       | —                        |       | (100.0 | ) | — |   |
|                                |       |                                 |       |                          |       |                          |       |   |   |   |   |
| Pre-tax income  (loss)              |       | $                                    | 42,324     |                          | $          | (117,917                      | )          | $ | 224,465 |   | 135.9 | % | (152.5 | )% |

 

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Revenues from our Specialist segment consist primarilyof net gain earned from principal transactions in securities for which we actas specialist. Net gain on principal transactions represents trading gains netof trading losses and SEC transaction fees, where applicable, and are earned byus when we act as principal buying and selling our specialist stocks, rights,options, ETFs and futures. Also included in net gain on principal transactionsare net gains and losses resulting from our market-making activities in ETFs,options and futures, the net gains and losses resulting from trading of foreigncurrencies, futures and equities underlying the rights, ETFs and options forwhich we act as specialist, and accrued dividends receivable or payable on ourequity positions. These revenues are primarily affected by changes in sharevolume traded and fluctuations in price of stocks, rights, options, ETFs andfutures in which we are the specialist or in which we make a market.

 

Commissions revenue generated by our Specialistsegment consists primarily of fees earned when our specialists act as agents byexecuting limit orders on behalf of brokers, professional traders and brokerdealers after a specified period of time; we do not earn commissions when wematch market orders or when we act as a market-maker.

 

Other revenue at our Specialist segment consistsprimarily of interest income, proprietary trading gains or losses and gains orlosses from an investment in a hedge fund.

 

***KeyMetrics of our LaBranche & Co. LLC Specialist Business—***When assessing the performance andfinancial results of a specific period, management examines certain metrics toascertain their impact on our LaBranche & Co. LLC specialist’s financialresults. Some of the key metrics that we review, and their values for 2004,2003 and 2002, are as follows: 

 
| ** **                                                          | ** ** | **2004** | ** ** | **2003** | ** ** | **2002** | ** ** | **2004 vs. 2003  Percentage  Change** | ** ** | **2003 vs. 2002  Percentage  Change** | ** ** |
|---------------------------------------------------------------------|------------|----------|------------|----------|------------|----------|------------|---------------------------------------|------------|---------------------------------------|------------|
| NYSE average  daily share volume (in millions)                      |       | 1,456.7  |       | 1,398.4  |       | 1,441.0  |       | 4.2                                   | %          | (3.0                                  | )%         |
| LAB share volume  on the NYSE (in billions)                         |       | 96.1     |       | 94.5     |       | 102.1    |       | 1.7                                   | %          | (7.4                                  | )%         |
| LAB dollar value  on the NYSE (in billions)                         |       | $        | 2,819.1    |     | $          | 2,477.4  |       | $                                     | 2,686.5    |                                  | 13.8       | % | (7.8 | )% |
| Share volume of  principal shares traded (in billions)              |       | 22.3     |       | 27.6     |       | 35.7     |       | (19.2                                 | )%         | (22.7                                 | )%         |
| Dollar value of  principal shares traded (in billions)              |       | $        | 682.7      |     | $          | 725.1    |       | $                                     | 983.4      |                                  | (5.8       | )% | (26.3 | )% |
| Average closing  price of the CBOE Volatility Index                 |       | 15.5     |       | 22.0     |       | 27.3     |       | (29.5                                 | )%         | (19.4                                 | )%         |
| Program trading  as a percentage of NYSE average daily share volume |       | 50.6     |       | 37.5     |       | 37.5     |       | 34.9                                  | %          | 0.0                                   | %          |

 

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Generally, an increase in the average daily sharevolume on the NYSE, an increase in volatility (as measured by the averageclosing price of the CBOE’s Volatility Index®, or the “VIX”), an increase inthe dollar value and share volume of our principal shares or a decrease inprogram trading enables the specialist to increase its level of principalparticipation and thus its ability to realize net gain on principaltransactions. While these metrics are monitored by management each period, theyare not the sole indicators or factors in any given period that determine ourlevel of revenues, profitability or overall performance. Other factors, such asextreme price movements, unanticipated company news and events and otheruncertainties may influence our financial performance either positively ornegatively.

 

## **Year Ended December 31,2004 Compared to Year Ended December 31, 2003**

## ** **

The decline in net gain on principal transactions isattributable primarily to our LaBranche & Co. LLC subsidiary, wherespecialist trading revenue decreased to $149.5 million for 2004 from $185.3million for 2003.  The decrease was dueto a decline in principal shares traded as well as a significant decline inmarket volatility, as measured by the average closing price of the VIX. Anotherfactor that has reduced the opportunity for the specialist to participate isthe continuing rise in program trading as a percentage of NYSE average dailyshare volume. Program trading involves reducing large share orders into manysmaller orders, resulting in the orders being matched electronically. Thesefactors offset the benefit from the increases in NYSE average daily sharevolume, and share volume and dollar value traded for stocks in which LaBranche& Co. LLC is the specialist. Net gain on principal transactions generatedby our LSP and LSPS subsidiaries increased to $33.0 million in 2004 from $16.9million in 2003. This revenue growth was the result of an increase in thenumber of products traded, market-maker professionals and exchanges in whichLSP trades.

 

Other revenue earned by our specialist segment washigher primarily due to increased proprietary trading gains, and higherinterest income from our stock borrow transactions—resulting from increasedtrading activity at LSP and LSPS—and from our short to medium term investments.

 

For a discussion of operating expenses see “OurOperating Expenses” below.

 

## **Year EndedDecember 31, 2003 Compared to Year Ended December 31, 2002**

## ** **

In 2003, our net gain on principal transactionsdecreased primarily as a result of decreases in NYSE share and dollar volumestraded for stocks in which we are the specialist, and decreases in NYSE marketshare and volatility. Throughout 2003, the dollar value and share volume ofprincipal shares traded decreased significantly, thereby reducing ouropportunities to trade profitably. The NYSE’s share of consolidated volume oftrades of NYSE-listed stocks decreased to 79.5% for 2003 as compared to 82.0%for 2002. The decline in volatility in the market, as measured by the VIX, alsocontributed to the lower net gain on principal transactions. Of our total$202.2 million and $342.4 million of net gain on principal transactions for theyears ended December 31, 2003 and 2002, respectively, $16.9 million and $0.9million, respectively, were generated from derivative trading activities at ourLSP subsidiary.

 

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Commissions revenue earned by our Specialist segmentdecreased due to a decrease in the share volume executed by us as agent and theeffect of competitive price pressures on our billing structure. The total sharevolume executed by us as agent in our specialist stocks decreased 6.7% to 8.4billion shares for 2003 from 9.0 billion shares for 2002. The share volumeexecuted by us as agent is affected by the share volume of LaBranche & Co.LLC’s specialist stocks on the NYSE, which decreased 7.4% as noted in the keymetrics chart above.

 

For a further discussion of operating expenses see “OurOperating Expenses” below.

 

### *Execution and Clearing SegmentOperating Results*

 
| ** **                       | ** ** | **For the Years Ended December 31,** | ** ** | **2004 vs. 2003  Percentage** | ** ** | **2003 vs. 2002  Percentage** | ** ** |
|----------------------------------|------------|--------------------------------------|------------|-------------------------------|------------|-------------------------------|------------|
| **(000’s omitted)**         | ** ** | **2004**                             | ** ** | **2003**                      | ** ** | **2002**                      | ** ** | **Change** | ** ** | **Change** | ** ** |
| ** **                       | ** ** | ** **                           | ** ** | ** **                    | ** ** | ** **                    | ** ** | ** ** | ** ** | ** ** | ** ** |
| REVENUES:                        |       |                                 |       |                          |       |                          |       |   |   |   |   |
| Commissions                      |       | $                                    | 47,263     |                          | $          | 46,994                        |       | $ | 41,391 |   | 0.6 | % | 13.5 | % |
| Other                            |       | 753                                  |       | 915                           |       | 3,174                         |       | (17.7 | ) | (71.2 | ) |
| Total segment  revenues          |       | 48,016                               |       | 47,909                        |       | 44,565                        |       | 0.2 |   | 7.5 |   |
|                             |       |                                 |       |                          |       |                          |       |   |   |   |   |
| Operating  expenses              |       | 52,827                               |       | 57,293                        |       | 54,390                        |       | (7.8 | ) | 5.3 |   |
| Goodwill  impairment             |       | —                               |       | 4,052                         |       | —                        |       | (100.0 | ) | — |   |
| Exchange  memberships impairment |       | 2,027                                |       | 515                           |       | —                        |       | 293.6 |   | — |   |
|                             |       |                                 |       |                          |       |                          |       |   |   |   |   |
| Pre-tax loss                     |       | $                                    | (6,838     | )                             | $          | (13,951                       | )          | $ | (9,825 | ) | 51.0 | % | (42.0 | )% |

 

Our Execution and Clearing segment’s commissionsrevenue includes fees charged to customers for execution, clearance anddirect-access floor brokerage activities.

 

Our Execution and Clearing segment’s other revenuesconsist of interest income, proprietary trading net gains or losses and feescharged to customers for use of our proprietary front-end order executionsystem.

 

## **Year Ended December 31,2004 Compared to Year Ended December 31, 2003**

## ** **

Other revenue from our Execution and Clearing segmentdecreased as LFSI ceased providing its proprietary front–end order executionsystem on a service bureau basis, and also decreased due to a decline ininterest income. Interest income decreased as a result of lower balances of ourshort term investments and reduced levels of stock-borrow transactions.

 

For a discussion of operating expenses see “OurOperating Expenses” below.

 

## **Year Ended December 31,2003 Compared to Year Ended December 31, 2002**

## ** **

Commissions revenue from our Execution and Clearingsegment increased primarily due to a full year of revenues from ourinstitutional execution group which commenced operations in July 2002. Thegrowth in our institutional execution group was also the result of the generalgrowth and expansion of its customer base. The increase in institutionalexecution group revenues was partially offset by a decline in direct-access andclearance revenues resulting from

 

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the discontinuation ofour prime brokerage business, a decline in clearing customers and a generaldecrease in the volume of direct access executions during 2003.

 

Other revenue from our Execution and Clearing segmentdecreased primarily due to the decline in proprietary trading revenues as wellas a decline in interest income. Interest income decreased as a result ofsignificantly lower interest rates for our short term investments andstock-borrow transactions and the decrease in customer debit account balances.Proprietary trading revenues decreased due to the discontinuation ofproprietary trading during 2003.

 

For a further discussion of operating expenses see “OurOperating Expenses” below.

 

# **OtherSegment Operating Results**

 
| ** **               | ** ** | **For the Years Ended December 31,** | ** ** | **2004 vs. 2003  Percentage** | ** ** | **2003 vs. 2002  Percentage** | ** ** |
|--------------------------|------------|--------------------------------------|------------|-------------------------------|------------|-------------------------------|------------|
| **(000’s omitted)** | ** ** | **2004**                             | ** ** | **2003**                      | ** ** | **2002**                      | ** ** | **Change** | ** ** | **Change** | ** ** |
| ** **               | ** ** | ** **                           | ** ** | ** **                    | ** ** | ** **                    | ** ** | ** ** | ** ** | ** ** | ** ** |
| REVENUES:                |       |                                 |       |                          |       |                          |       |   |   |   |   |
| Other                    |       | $                                    | 26,008     |                          | $          | 1,497                         |       | $ | 7,111 |   | 1,637.3 | % | (78.9 | )% |
| Total segment  revenues  |       | 26,008                               |       | 1,497                         |       | 7,111                         |       | 1,637.3 |   | (78.9 | ) |
|                     |       |                                 |       |                          |       |                          |       |   |   |   |   |
| Operating  expenses      |       | 67,934                               |       | 54,703                        |       | 55,627                        |       | 24.2 |   | (1.7 | ) |
| Debt repurchase  premium |       | 49,029                               |       | —                        |       | —                        |       | — |   | — |   |
|                     |       |                                 |       |                          |       |                          |       |   |   |   |   |
| Pre-tax loss             |       | $                                    | (90,955    | )                             | $          | (53,206                       | )          | $ | (48,516 | ) | 70.9 | % | 9.7 | % |

 

The portion of our revenues that is not generated fromour two principal business segments consists primarily of unrealized gains orlosses on our non-marketable investments and interest income.

 

## **Year Ended December 31,2004 Compared to Year Ended December 31, 2003**

## ** **

Other revenues increasedprimarily as a result of the $24.9 million realized gain from the sale of ourinvestment in Lava during 2004.

 

 For a discussion of operating expenses see “OurOperating Expenses” below.

 

## **Year Ended December 31,2003 Compared to Year Ended December 31, 2002**

## ** **

Other revenue decreased as a result of a net depreciationin the value of our non-marketable investments in 2003. For 2002, the value ofthese investments had appreciated. The decrease was also due to a decline ininterest income during 2003 as a result of lower interest rates for our shortto medium term investments.

 

For a further discussion of operating expenses see “OurOperating Expenses” below.

 

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**Our Operating Expenses**

 
| ** **                                                  | ** ** | **For the Years Ended December 31,** | ** ** | **2004 vs. 2003  Percentage** | ** ** | **2003 vs. 2002  Percentage** | ** ** |
|-------------------------------------------------------------|------------|--------------------------------------|------------|-------------------------------|------------|-------------------------------|------------|
| **(000’s omitted)**                                    | ** ** | **2004**                             | ** ** | **2003**                      | ** ** | **2002**                      | ** ** | **Change** | ** ** | **Change** | ** ** |
| ** **                                                  | ** ** | ** **                           | ** ** | ** **                    | ** ** | ** **                    | ** ** | ** ** | ** ** | ** ** | ** ** |
| EXPENSES:                                                   |       |                                 |       |                          |       |                          |       |   |   |   |   |
| Employee  compensation and related benefits                 |       | $                                    | 99,310     |                          | $          | 99,123                        |       | $ | 131,511 |   | 0.2 | % | (24.6 | )% |
| Interest                                                    |       | 63,789                               |       | 48,188                        |       | 48,589                        |       | 32.4 |   | (0.8 | ) |
| Exchange,  clearing and brokerage fees                      |       | 39,010                               |       | 40,406                        |       | 37,729                        |       | (3.5 | ) | 7.1 |   |
| Lease of  exchange memberships                              |       | 15,565                               |       | 24,773                        |       | 25,939                        |       | (37.2 | ) | (4.5 | ) |
| Goodwill  impairment                                        |       | 37,600                               |       | 170,302                       |       | —                        |       | (77.9 | ) | — |   |
| Exchange memberships  impairment                            |       | 18,327                               |       | 515                           |       | —                        |       | 3,458.6 |   | — |   |
| Debt repurchase  premium                                    |       | 49,029                               |       | —                        |       | —                        |       | — |   | — |   |
| Restitution and  fines                                      |       | —                               |       | 63,519                        |       | 3⁄4                        |       | (100.0 | ) | 3⁄4 |   |
| Other operating  expenses                                   |       | 51,886                               |       | 44,237                        |       | 42,953                        |       | 17.3 |   | 3.0 |   |
|                                                        |       |                                 |       |                          |       |                          |       |   |   |   |   |
| Total expenses  before provision (benefit) for income taxes |       | 374,516                              |       | 491,063                       |       | 286,721                       |       | (23.7 | ) | 71.3 |   |
|                                                        |       |                                 |       |                          |       |                          |       |   |   |   |   |
| Provision  (benefit) for income taxes                       |       | $                                    | (12,045    | )                             | $          | (6,007                        | )          | $ | 78,898 |   | (100.5 | )% | (107.6 | )% |

 

Our Specialist segment’s employee compensation andrelated benefits consists of salaries, wages and profitability-basedcompensation paid to our traders and related support staff. The employeecompensation and related benefits related to our Execution and Clearing segmentconsists of salaries, wages and profitability-based compensation paid to ourexecution and clearing professionals, as well as compensation based oncommissions earned by various trading professionals. Profitability-basedcompensation may include cash compensation and stock-based compensation paid orgranted to managing directors, trading professionals and other employees basedon our profitability.

 

Interest expense is primarily incurred from theindebtedness in connection with our reorganization from partnership tocorporate form in 1999, our acquisitions, the issuance of promissory notes inexchange for our preferred stock and the 2004 refinancing of the majority ofour Old Notes. The interest expense at our Specialist segment is primarily theresult of margin interest expense relating to positions taken at our LSP andLSPS subsidiaries and interest on subordinated indebtedness that has beenapproved by the NYSE for inclusion in the net capital of our LaBranche &Co. LLC subsidiary. Customers’ free credit balances and bank loans generate interestexpense at our Execution and Clearing segment.

 

Exchange, clearing and brokerage fees expense at ourSpecialist segment consists primarily of fees paid by us to the NYSE, AMEX,other exchanges, the Depository Trust Clearing Corporation (“DTCC”) and tothird party execution and clearing companies. The fees paid by us to theseentities are primarily based on the volume of transactions executed by us asprincipal and as agent, a fee based on exchange seat use, an allocation feerequiring specialist firms to share the cost of newly allocated listings,technology fees, a flat annual fee and execution and clearing fees. OurExecution and Clearing segment’s exchange, clearing and brokerage fees expenseconsists of floor brokerage fees paid to direct-access floor brokers and feespaid to various exchanges.

 

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## **Year Ended December 31,2004 Compared to Year Ended December 31, 2003**

## ** **

While consolidated employee compensation and relatedbenefits increased slightly for 2004 as compared to 2003, there were materialchanges within the components of employee compensation and related benefits ateach of our segments year over year.  Themain cause of these changes was the increase in profitability-basedcompensation, salaries and related benefits at our LSP and LSPS subsidiariesresulting from increased trading and support personnel, which is a reflectionof their continued growth. These increases were partially offset by decreasesin salaries at our NYSE specialist subsidiary due to a reduction inpersonnel.  The expiration and payment ofa retention bonus plan liability, and a decrease in deferred compensationexpense, both related to a prior acquisition, also contributed to the partialoffset of the overall increase in employee compensation. Salaries andprofitability-based compensation at our Execution and Clearing segment declineddue to a decrease in trading and support personnel**.**Employee compensation and related benefits decreased to 31.1% of revenues for2004 from 32.4% for 2003.

 

Interest expense increased primarily as a result ofthe issuance of the Senior Notes in connection with the repurchase on May 18,2004 of substantially all the then-outstanding Old Notes.  As a result of the repurchase, we recorded$5.5 million of additional interest expense related to the acceleration of debtissuance cost amortization and senior notes discount accretion. The additionalinterest expense on the Original Senior Notes, resulting from the increasedoutstanding indebtedness, also contributed to the increase. The remainingincrease in interest expense was the result of increased margin interestcharges relating to the growth and expansion of trading activity at our LSP andLSPS subsidiaries.  While interestexpense increased to 20.0% of total revenues for the year 2004 from 15.7% for2003, non-tax deductible dividends on preferred stock have been eliminatedeffective July 2004.

 

Exchange, clearing and brokerage fees declinedprimarily due to the decrease in fees at our NYSE specialist subsidiary.  Contributing to the decrease was theelimination of the NYSE technology fee in July of 2003, lower allocation feesfor new listings, and a decrease in NYSE regulatory fees due to a lower numberof NYSE floor personnel. Partially offsetting these decreases was an increasein exchange, clearing and brokerage fees at our execution and clearing segmentrelated to higher LFSI revenues from direct-access floor brokers. Additionally,commissions expense and exchange fees at our LSP and LSPS subsidiariesincreased due to increased trading activity. Exchange, clearing and brokerage fees declined to 12.2% of revenues for2004 from 13.2% for the year 2003.

 

Lease of exchangememberships decreased substantially as a result of the decline in the averageannual lease cost of an NYSE membership and a decrease in the number of ourNYSE leased memberships.  Our averageannual lease cost of an NYSE membership for the year 2004 was approximately$235,000, as compared to approximately $316,000 for 2003.  Additionally, we leased on averageapproximately 11 fewer NYSE seats for 2004 than we did in 2003.  Lease of exchange memberships expensedecreased to 4.9% of total revenues for the year ended December 31, 2004 from8.1% for the same period in 2003.

 

Other operating expenses increased in 2004 as comparedto 2003 primarily due to an increase in legal, audit and other professionalfees incurred primarily in connection with

 

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Sarbanes-Oxley Act compliance, the refinancing of our debt andlitigation. Bank charges also increased due to investment banking fees relatingto our debt refinancing, and fees charged on a committed revolving creditfacility established in the first quarter of 2004, which was terminated upon thecompletion of the refinancing of our indebtedness on May 18, 2004.  Additional expenses relating to our debtrefinancing included credit rating service fees, as well as printing and filingfees. An increase in insurance premiums also contributed to the increase.

 

In September 2004, we recorded a goodwill impairmentcharge of $37.6 million, all of which was attributable to our Specialistsegment. SFAS No. 142, “Goodwill and Other Intangible Assets” (“SFAS No. 142”)requires entities to test goodwill for possible impairment on an annual basis,or more frequently, if certain events and circumstances exist. We tested ourgoodwill for impairment at December 31, 2003, at which time we recorded animpairment charge of $170.3 million, of which $166.2 million was attributableto our Specialist segment and $4.1 million was attributable to our Executionand Clearing segment. Due to certain changes in circumstances, such as thedecrease in our market capitalization and continued downward trends in ourprincipal trading revenues, we tested our goodwill for impairment as ofSeptember 30, 2004. The impairment charge, which represents the excess of thecarrying value of our Specialist segment’s goodwill over its implied fairvalue, was necessary to properly reflect the carrying value of our goodwill atSeptember 30, 2004.  We updated our thirdquarter 2004 goodwill valuation results at December 31, 2004, per the annualtesting requirement, and noted no further impairment of this asset at thisdate. For a more complete description of our methodology in evaluating thereasonableness of the carrying value of our goodwill, please see “—CriticalAccounting Estimates.”

 

Exchange memberships impairment significantlyincreased in 2004 as compared to 2003 as a result of an $18.3 millionother-than-temporary impairment charge related to our NYSE exchangememberships. Of this total, $16.3 million was attributable to our Specialistsegment and $2.0 million was attributable to our Execution and Clearingsegment. Whereas the 2004 impairment charge was related to the 39 NYSEmemberships we own (each of which is valued at $1.5 million at December 31,2004, compared to $2.0 million at December 31, 2003), the 2003 impairmentcharge was related to an AMEX membership owned by our LFSI subsidiary.

 

We incurred a $49.0million charge in connection with the repurchase of a substantial portion ofour then-outstanding Old Notes.  Thischarge was attributable to a consent payment, which was offered to debt holderswho tendered their 2004 Notes and 2007 Notes by April 19, 2004, and a premiumfor tendering the 2004 Notes and 2007 Notes for purchase prior to theirmaturity.

 

Our benefit for incometaxes increased two-fold in 2004 to approximately $12.0 million. In conjunctionwith this increase, our effective tax rate rose to 21.8% for 2004 from 3.2% for2003 as a result of non-deductible goodwill impairment charge and NYSEpenalties of approximately $179.2 million in 2003, which almost equaled thatfiscal year’s book net loss. By contrast, the non-deductible goodwillimpairment charge of approximately $33.3 million in 2004 represented 59.7% ofthe book net loss for 2004. Accordingly, this permanent difference offsetalmost half of 2004’s statutory tax rate of 46.1%, or approximately 18.0%.

 

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## **Year Ended December 31,2003 Compared to Year Ended December 31, 2002**

## ** **

Employee compensation and related benefits expensedecreased as a result of a reduction in profitability-based compensationaccruals and other employee benefits due to lower revenues in 2003. Thedecrease was partially offset by an increase in employee salaries due to thehiring of additional trading and support personnel for LSP and LFSI. Employeecompensation and related benefits expense increased to 32.4% of total revenuesin 2003, from 29.0% of total revenues in 2002 as a result of lower revenues.

 

In the fourth quarter of 2003, we recorded a goodwillimpairment charge of $170.3 million, of which $166.2 million was attributableto our Specialist segment and $4.1 million was attributable to our Executionand Clearing segment. In determining the goodwill impairment, we first comparedthe fair value of each reporting unit to its carrying value through an analysisof our market capitalization and discounted cash flows techniques.  For the year ended December 31, 2003, weengaged an independent valuation firm to assist us with these fair value tests.Since the carrying value of each reporting unit exceeded its fair value, wethen compared the implied fair value of each reporting unit’s goodwill to itscarrying value. The implied fair value of each reporting unit’s goodwill wasdetermined by valuing all assets and liabilities as if each reporting unit hadbeen acquired in a business combination. The impairment charge, whichrepresented the excess of the carrying value of each reporting unit’s goodwillover its implied fair value, was necessary to properly reflect the carryingvalue of our goodwill at December 31, 2003.

 

During 2003, the NYSE and theSEC announced the commencement of investigations regarding the tradingpractices of several NYSE specialist firms, including LaBranche & Co. LLC.In February 2004, weand LaBranche & Co. LLC agreed in principle with the NYSE and the staff ofthe SEC, subject to final approval by the SEC, to settle the NYSE and SECspecialist trading investigations. Pursuant to the agreement in principle, anaccrual was made for the $63.5 settlement as of December 31, 2003.

 

## **Liquidity and CapitalResources**

## ** **

As of December 31, 2004, we had $2,055.1 million inassets, of which $545.0 million consisted of cash and short-term investments,primarily in government obligations maturing within three months, cash andsecurities segregated under federal regulations and overnight repurchase agreements.  To date, we have financed our operationsprimarily with retained earnings from operations and proceeds from our debt andequity offerings. Due to the nature of the securities business and our role asa specialist, market-maker and execution agent, the amount of our cash andshort-term investments, as well as operating cash flow, may vary considerablydue to a number of factors, including the dollar value of our positions asprincipal, whether we are net buyers or sellers of securities, the dollar volumeof executions by our customers and clearing house requirements, among others.Certain regulatory requirements constrain the use of a portion of our liquidassets for financing, investing or operating activities. Similarly, the natureof our business lines, the capital necessary to maintain current operations andour current funding needs subject our cash and cash equivalents to differentrequirements and uses.

 

As of December 31, 2004, the scheduled maturities ofour contractual obligations, without taking into account any availableroll-over provisions, were as follows:

 

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| ** **                      | ** ** | **Total**                | ** ** | **<1 Year** | ** ** | **1-3 Years** | ** ** | **3-5 Years** | ** ** | **>5 Years** | ** ** |
|---------------------------------|------------|--------------------------|------------|----------------|------------|---------------|------------|---------------|------------|-----------------|------------|
| ** **                      | ** ** | **(000’s omitted)** | ** ** |
| Short Term and  Long Term Debt* |       | $                        | 483,542    |           | $          | 2,000         |       | $             | 21,642     |            | $          | 199,900 |   | $ | 260,000 |   |
| Subordinated  Liabilities       |       | 17,285                   |       | 5,990          |       | 8,295         |       | 3,000         |       | —          |       |
| Deferred  Compensation          |       | 21,635                   |       | 6,000          |       | 15,635        |       | —        |       | —          |       |
| Operating Lease  Obligations    |       | 6,661                    |       | 2,730          |       | 3,509         |       | 268           |       | 154             |       |
| **Total**                       |       | $                        | 529,123    |           | $          | 16,720        |       | $             | 49,081     |            | $          | 203,168 |   | $ | 260,154 |   |

 

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* Amounts represent aggregate amount to be paid atmaturity and do not include discounts of approximately $0.1 million as ofDecember 31, 2004.

 

The above table includes indebtedness with primarilylong-term maturities, whose interest and principal payments have a significanteffect on the cash available to finance our current and future operations. As of December31, 2004, our most significant long-term indebtedness was the $199.9 millionaggregate principal amount of 2009 Senior Notes, which mature in May 2009, andthe $260.0 million aggregate principal amount of 2012 Senior Notes, whichmature in May 2012.

 

The outstanding senior noteswere issued pursuant to a new indenture that is similar to the indentures thatgoverned the Old Notes prior to their amendment in connection with our May 2004debt refinancing.  The new indentureincludes certain covenants that, among other things, limit our ability to makecertain investments, engage in transactions with stockholders and affiliates,create liens on our assets and sell assets or engage in mergers andconsolidations, except in accordance with certain specified conditions.****In addition, our ability to incuradditional indebtedness (other than certain “permitted indebtedness”), pay dividends,redeem stock or repurchase subordinated indebtedness prior to maturity will belimited if our consolidated fixed charge coverage ratio is at or below athreshold of 2.00:1 on and after December 31, 2004. The “consolidated fixedcharge coverage ratio” reflects a comparison between (1) our consolidatedearnings before interest, taxes, depreciation and amortization expenses, or “EBITDA,”and (2) the sum of our consolidated interest expense and a tax-effectedmultiple of any dividend payments that we might make with respect to preferredstock.  As of December 31, 2004, ourconsolidated fixed charge coverage ratio was approximately 1.80:1.  The indenture governing the Senior Notesprovides for certain exceptions to the limitations on restricted payments,including, for example, the July 2004 repurchase of all then-outstanding sharesof our Series B preferred stock, repurchase of our Senior Notes, and any “restrictedpayments” up to an aggregate of $15.0 million over the life of the indenture.

 

In addition, under the indenture governing the SeniorNotes, if, at any time, our cumulative “restricted payments” since May 18, 2004generally are greater than (i) the sum of (A) 50.0% of our cumulativeconsolidated net income since July 1, 2004 (or, if such calculation is a loss,minus 100.0% of such loss) and (B) 100.0% of the net cash proceeds receivedfrom any issuance or sale of our capital stock since July 1, 2004, plus (ii)$15.0 million, we will not be entitled to make a “restricted payment” at suchtime.  While we have not made anyrestricted payments since May 18, 2004, we cannot be sure if, when or to whatextent this covenant will prevent us from making restricted payments in thefuture.  As of December 31, 2004, sinceour cumulative consolidated net income since July 1, 2004 was negative, we werenot entitled to make any restricted payments in excess of the $15.0 million “basket”described above.

 

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The indenture governing theSenior Notes permits us to redeem some or all of the 2009 Senior Notes on orafter May 15, 2007 and some or all of the 2012 Senior Notes on or after May 15,2008 at varying redemption prices, depending on the date of redemption.  In addition, we have the option to redeem upto 33.0% of the aggregate principal amount of the 2009 Senior Notes at aredemption price of 109.5% and up to 33.0% of the aggregate principal amount ofthe 2012 Senior Notes at a redemption price of 111.0% using the proceeds ofcertain equity offerings which we may complete on or prior to May 15,2007.  Under the terms of the indenture,if we sell substantially all our assets or experience specific kinds of changesin control, we will be required to offer to repurchase Senior Notes, on a prorata basis, at a price in cash equal to 101.0% of their principal amount, plusaccrued and unpaid interest, if any, to the date of purchase.

 

After giving effect to ourMay 2004 debt refinancing and the repurchase of all then-outstanding shares ofour Series B preferred stock in July 2004, the after-tax earnings per shareimpact of our ongoing interest obligations with respect to the Senior Notes islower than the combined after-tax earnings per share impact of our interestobligations with respect to the Old Notes and our non-tax deductible dividendobligations with respect to our then-outstanding Series B preferred stock. Tothe extent we repurchase any Senior Notes in connection with future corporatestrategic initiatives, our fixed-term interest payments would be correspondinglyreduced.

 

The remaining $13.6 millionaggregate principal amount of 2007 Notes that we did not repurchase inconnection with our May 2004 debt refinancing will continue to accrue interestat a rate of 12.0% per annum until they mature on March 2, 2007.  To the extent we are not prohibited under theterms of the indenture governing the Senior Notes, we may seek to repurchasesome or all of the remaining 2007 Notes from time to time on the open market.

 

For 2004, our reportedrevenues include a $24.9 million realized gain from the sale of our investmentin Lava. In connection with the sale, we received cash of approximately $39.0million at the closing. Additional consideration of approximately $9.5 millionis being held in escrow to secure our indemnification obligations as astockholder of Lava under the merger agreement and may be released in whole orin part 15 months after the acquisition is consummated, subject to the final determination ofany then-outstanding indemnification claims and any claims regarding taxes.  Under the terms of the indenture governingthe Senior Notes, to the extent we do not use the net after-tax proceeds of theLava transaction to repurchase certain of our secured indebtedness, repay theindebtedness of our subsidiaries or purchase “replacement assets,” we will berequired, on the 361st day following the closing of the Lava transaction, tooffer to purchase Senior Notes in an aggregate principal amount equal to suchnet after-tax proceeds at a price equal to 100.0% of the principal amount ofsuch Senior Notes.

 

A potential source ofliquidity for LaBranche & Co. LLC is the committed line of credit that itmaintains with a bank. In October 2004, LaBranche & Co. LLC extended this$200.0 million committed credit agreement to October 28, 2005 on the same termsand conditions. In connection with the credit agreement, we pay a quarterly feeof 0.25% of the total committed line of credit. Amounts outstanding under thiscredit facility would be secured by our inventory of

 

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specialiststocks and bear interest at the bank’s broker loan rate. This facility can onlybe used to finance inventory requirements at LaBranche & Co. LLC. In orderto maintain the availability of funds under this credit facility, we mustcomply with certain financial and other covenants.

 

As a specialist andmarket-maker, we are required to maintain certain levels of capital and liquidassets as promulgated by various regulatory agencies, which regulate ourbusiness. As part of our overall risk management procedures (for furtherdiscussion, refer to Part I, Item 3. “Quantitative and Qualitative Disclosuresabout Market Risk”), we attempt to balance our responsibility as specialist,market-maker and broker-dealer with our overall capital resources. Theserequirements restrict our ability to make use of cash and other liquid assetsfor corporate actions, such as repaying our debt, repurchasing stock or makingacquisitions.

 

As a broker-dealer,LaBranche & Co. LLC is subject to regulatory requirements intended toensure the general financial soundness and liquidity of broker-dealers andrequiring the maintenance of minimum levels of net capital, as defined in SECRule 15c3-1. LaBranche & Co. LLC is required to maintain minimum netcapital, as defined, equivalent to the greater of $100,000 or 1/15of aggregate indebtedness, as defined. NYSE Rule 326(c) also prohibits abroker-dealer from repaying subordinated borrowings, paying cash dividends,making loans to any parent, affiliates or employees, or otherwise entering intotransactions which would result in a reduction of its total net capital to lessthan 150.0% of its required minimum capital. Moreover, broker-dealers arerequired to notify the SEC prior to repaying subordinated borrowings, payingdividends and making loans to any parent, affiliates or employees, or otherwiseentering into transactions which, if executed, would result in a reduction of30.0% or more of their excess net capital (net capital less minimum requirement).The SEC has the ability to prohibit or restrict such transactions if the resultis deemed detrimental to the financial integrity of the broker-dealer. As ofDecember 31, 2004, LaBranche & Co. LLC’s net capital, as defined, was$455.1 million, which exceeded the minimum requirements by $453.2 million.

 

TheNYSE generally requires its specialist firms to maintain a minimum dollarregulatory capital amount in order to establish that they can meet, with theirown net liquid assets, their position requirement. As of December 31, 2004, LaBranche & Co. LLC’s and LSPS’ requiredcombined dollar amount of net liquid assets, as defined, was $447.0 million. LaBranche & Co. LLC’s actual netliquid assets, as defined, was $458.7 million as of December 31, 2004. LSPS isnot required to perform a net liquid assets calculation because LaBranche &Co. LLC’s actual net liquid assets exceed the combined net liquid assetsrequirement of LaBranche & Co. LLC and LSPS. The NYSE is currentlyreviewing its net liquid asset requirements with an announced view towardreducing the required amounts for specialists such as LaBranche & Co. LLC.The timing and extent of any such reduction, however, has not been finallydetermined. A reduction in LaBranche & Co. LLC’s net liquid assets requirementwould allow funds no longer needed for net liquid assets purposes to be usedfor other corporate purposes.

 

The AMEX generally requiresits equity specialist firms to maintain a cash or liquid asset position of thegreater of (a) $1.0 million or (b) an amount sufficient to assume a position ofsixty trading units of each security in which the specialist is registered. Asof December 31, 2004, LaBranche & Co. LLC satisfied the AMEX equityspecialist liquid asset requirements.

 

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As a registeredbroker-dealer and member firm of the NYSE, LFSI also is subject to SEC Rule15c3-1, as adopted and administered by the NYSE and the SEC. Under thealternative method permitted by the rule, the minimum required net capital ofLFSI as of December 31, 2004 was equal to the greater of $1.5 million or 2.0%of aggregate debit items, as defined. As of December 31, 2004, LFSI’s netcapital, as defined, was $12.5 million, which exceeded its minimum net capitalrequirement by $11.0 million.

 

As a clearing broker-dealer,LFSI is subject to SEC Rule 15c3-3, as adopted and administered by the SEC. Asof January 4, 2005, to comply with its December 31, 2004 requirement, cash andU.S. Treasury Bills in the amount of $0.1 million have been segregated in aspecial reserve account for the exclusive benefit of customers exceeding actualrequirements by $0.1 million. As of January 5, 2004, to comply with itsDecember 31, 2003 requirement, cash and U.S. Treasury Bills in the amount of$6.2 million were segregated in a special reserve account for the exclusivebenefit of customers exceeding actual requirements by $4.3 million. Inaddition, the PAIB Calculation is computed in order for correspondent firms toclassify their assets held by LFSI as allowable assets in the correspondents’net capital calculation.  As of January4, 2005, to comply with its December 31, 2004 requirement, cash and U.S.Treasury Bills in the amount of $4.4 million have been segregated in a specialreserve account for the exclusive benefit of customers exceeding actualrequirements by $3.4 million. As of January 5, 2004, to comply with itsDecember 31, 2003 requirement, cash and U.S. Treasury Bills in the amount of$3.7 million were segregated in a special reserve account for the exclusivebenefit of customers exceeding actual requirements by $1.5 million.

 

As a registeredbroker-dealer and AMEX member firm, LSP is subject to SEC Rule 15c3-1, asadopted and administered by the AMEX and the SEC. LSP is required to maintainminimum net capital, as defined, equivalent to the greater of $100,000 or 1/15of aggregate indebtedness, as defined. As of December 31, 2004, LSP’s netcapital, as defined, was $23.8 million, which exceeded its minimum net capitalrequirement by $23.2 million.

 

As a specialist and member of the NYSE, LSPS issubject to the provisions of SEC Rule 15c3-1, as adopted and administered bythe SEC and NYSE. LSPS is required to maintain minimum net capital, as defined,equivalent to the greater of $100,000 or 1/15 ofaggregate indebtedness, as defined. As of December 31, 2004, LSPS’ netcapital, as defined under SEC Rule 15c3-1, was $4.4 million, which exceeded theminimum requirements by $4.3 million.

 

Failure by any of ourbroker-dealer subsidiaries to maintain its required net capital and net liquidassets, where applicable, may subject it to suspension or revocation of its SECregistration or its suspension or expulsion by the NYSE, the AMEX and/or anyother exchange of which it is a member firm.

 

As evidenced by theforegoing requirements, our broker-dealer subsidiaries require a substantialamount of capital. In particular, LaBranche & Co. LLC’s and LSPS’ combinednet liquid asset requirement of $447.0 million limits our ability to utilize asubstantial portion of our liquid assets for other corporate purposes. Althougha portion of the combined net liquid asset requirement of $447.0 million is metby LaBranche & Co. LLC’s and LSPS’ securities positions, pending trades andother assets associated with its equity and ETF specialist activities, a

 

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substantialportion of LaBranche & Co. LLC’s cash and cash equivalents as of December31, 2004 was used to meet their combined net liquid asset requirement.

 

In connection with ouracquisition of ROBB PECK McCOOEY Financial Services, Inc. (“RPM”) in March2001, we assumed its liabilities and obligations under its deferredcompensation plan. The deferred compensation plan provides for the payment, onor before December 15, 2007, of approximately $30.2 million, plus interest at arate of 8.0% per year, to certain former employees of RPM. While the payment ofbenefits under this deferred compensation plan may be accelerated in certaincircumstances, no more than $6.0 million in deferred compensation benefits(including interest) may be paid in any 12 consecutive month period beginningMarch 15, 2001. After taking into account all payments of deferred compensationplan benefits through December 31, 2004, approximately $18.3 million, plusinterest, remains payable under the RPM deferred compensation plan.  If the plan is terminated, the deferredcompensation benefits (including interest) of all participants, to the extentnot previously paid, must be distributed to the participants in one lump sum.

 

As of December 31, 2004, thesubordinated indebtedness of LaBranche & Co. LLC aggregated $17.3 million(excluding subordinated liabilities related to contributed exchangememberships). This subordinated debt is comprised of senior subordinated notesand junior subordinated notes, which mature, or matured, on various datesbetween February 2005 and June 2008 and bear interest at annual rates rangingfrom 7.7% to 10.0%. Thesenior subordinated notes were originally issued in the aggregate principalamount of $15.0 million, and, in accordance with their terms, $3.0 million inprincipal amount must be repaid on June 3 of each of 2004, 2005, 2006, 2007 and2008.  LaBranche & Co. LLC repaid $3.0million in accordance with these terms in June 2004.  LaBranche & Co. LLC may prepay, at apremium, all or any part of such senior subordinated notes at any time,provided that the amount prepaid is not less than 5.0% of the aggregateprincipal amount of such senior subordinated notes then outstanding.  Upon the occurrence of a change of control,LaBranche & Co. LLC may, but is not required to, make one irrevocableseparate offer to each holder of the senior subordinated notes to prepay all ofthe senior subordinated notes then held by that holder. The occurrence of achange of control also constitutes an event of acceleration under the seniorsubordinated notes.  Each of thejunior subordinated notes has an automatic rollover provision, which extendsthe maturity for an additional year, unless the lender provides at least sevenmonths advance notice of its intention not to renew at maturity. LaBranche& Co. LLC is entitled to prepay—with written consent from the NYSE—thejunior subordinated notes without penalty under the terms of the agreements relatingthereto. During the first quarter of 2005, we repaid approximately $1.9 millionaggregate principal amount, plus accrued but unpaid interest, relating to thesenotes.

 

As of December 31, 2004, $10.0 million of ouroutstanding indebtedness consisted of one note for $2.0 million, which maturesin June 2005 and bears interest at an annual rate of 8.0%, and eight separatenotes, each in the principal amount of $1.0 million, which mature in August2007 and bear interest at an annual rate of 9.0%.

 

As of December 31, 2004, we have a taxreceivable of $1.7 million for 2004 and 2003. In addition, we intend to file aFederal carry-back claim for net operating losses generated in 2004**,**which will be carried back against 2002 taxable income.The potential refund

 

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claim is approximately $17.3 million, which is net of a $1.1 million2002 tax audit assessment.

 

Our “Other liabilities” of $12.5 millionreflected on the accompanying 2004 consolidated statement of financialcondition are comprised of legal and tax contingencies. Such contingencies areconsidered long term, as there is no present obligation to pay such liabilitiesin the foreseeable future.

 

Wecurrently anticipate that we will be able to meet our working capital,regulatory capital and capital expenditure requirements through at least thenext twelve months.

 

***CreditRatings***

 

The Original Senior Notes were originallysold in private sales to institutional investors on May 18, 2004, andsubstantially all the Original 2009 Notes and all the Original 2012 Notes weresubsequently exchanged for substantially identical Senior Notes registeredunder the Securities Act of 1933, as amended. The 2004 Notes that remainedoutstanding after our May 2004 refinancing, in the aggregate principal amountof $6.9 million, were repaid by us at their maturity on August 15, 2004. The2007 Notes that remained outstanding after our May 2004 debt refinancing, inthe aggregate principal amount of $13.6 million, are publicly held but are nolonger rated. The following table sets forth the credit ratings on our SeniorNotes as of December 31, 2004:

 
| ** **         | ** ** | **Moody’s  Investors Service** | ** ** | **Standard &  Poor’s** | ** ** |
|--------------------|------------|-------------------------------------|------------|---------------------------------|------------|
|               |       |                                |       |                            |       |
| 2009 Senior  Notes |       | Ba1                                 |       | B                               |       |
|               |       |                                |       |                            |       |
| 2012 Senior  Notes |       | Ba1                                 |       | B                               |       |

 

## **Cash Flows**

## ** **

Our cash flows are related primarily to our specialisttrading activities, as well as to our financing activities related to theexpansion of our business.

 

*Year Ended December 31, 2004*—Our cash and cash equivalents decreased$47.4 million to $444.4 million at the end of 2004. The decrease was the resultof $125.4 million used in our operating activities primarily from payment ofthe $63.5 million in restitution and fines in settlement of the prior year’sNYSE and SEC specialist investigation and a $74.0 million increase****in repurchase agreements. This decrease was partially offsetby $79.0 million provided by financing activities due primarily to therefinancing of our indebtedness.

 

*Year Ended December 31, 2003*—Our cash and cash equivalents increasedby $414.9 million to $491.9 million at the end of 2003. This increase wasprimarily the result of investments in U.S. government obligations withoriginal maturities of 90 days or less, as well as our operating activities. Weused net cash of $44.0 million in our investing and financing activitiesprimarily to buy back shares of our then-outstanding preferred stock and to paydividends on our common shares.

 

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*Year Ended December 31, 2002*—Our cash and cash equivalents increasedby $25.0 million to $77.0 million at the end of 2002. This increase resultedmainly from $95.5 million provided by our operating activities, offset by $6.1million used for investing activities, including our acquisition of Hochstin &Company, Inc., a NYSE floor brokerage company, in October 2002. We used netcash of $64.4 million in financing activities, primarily to repay indebtednessand to repurchase shares of our then-outstanding Series A preferred stock.

 

# **Item 7A.**                          QUANTITATIVE AND QUALITATIVE DISCLOSURESABOUT MARKET RISK.

# ** **

Because our equity specialist activities on the NYSEand AMEX expose our capital to significant risks, managing these risks is aconstant priority for us. Our central role in the auction process helps us tomanage risks by incorporating up-to-date market information in the managementof our inventory, subject to our specialist obligations. We have developed arisk management process that is designed to balance our ability to profit fromour specialist activities with our exposure to potential losses. Our LaBranche& Co. LLC risk management process includes participation by our corporatecompliance committee, executive operating committee, floor managementcommittee, post managers, floor captains and specialists. These parties’ rolesare as follows:

 

*CorporateCompliance Committee*.  Our corporate compliance committee was establishedin February 2002 and consists of representatives from executive and seniormanagement, compliance personnel, including our on-floor compliance officer,our general counsel and several additional senior floor specialists, known aspost managers. The role of the corporate compliance committee is to implement,monitor and report to senior management on the statutory and regulatorycompliance efforts of our specialist business. The corporate compliance committee also establishes, reviews and revisesour policies and procedures governing LaBranche & Co. LLC’s regulatorycompliance structure.

 

*Executive Operating Committee.* Our executive operating committee is composed of two executive officersof LaBranche & Co. LLC. This committee is responsible for approving allrisk management procedures and trading guidelines for our specialist stocks,after receiving recommendations from our floor management committee. Inaddition, our executive operating committee reviews all unusual situationsreported to it by our floor management committee.

 

*Floor Management Committee.* Our floor management committee is composed of six post managers. Thiscommittee is responsible for formulating and overseeing our overall riskmanagement procedures and trading guidelines for each of our specialist stocks.In determining these procedures and guidelines, our floor management committeeconsiders the recommendations of our floor captains. Our post managers meetwith their respective floor captains on a weekly basis to review and, ifnecessary, revise the risk management procedures and trading guidelines forLaBranche & Co. LLC and/or for particular specialist stocks. In addition,post managers are always available on the trading floor to review and assistwith any unusual trading situations reported by any floor captain. Our floormanagement committee reports to our executive operating committee about each ofthese unusual trading situations as they occur.

 

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*Floor Captains.* We have thirteen floor captains who monitor the activities of LaBranche& Co. LLC’s specialists throughout the trading day from various positionsat its trading posts. The floor captains observe trades and constantly reviewtrading activities on a real-time basis. In addition, the floor captains arereadily available to assist LaBranche & Co. LLC’s specialists indetermining when to deviate from our procedures and guidelines in reacting toany unusual situations or market conditions. The floor captains report theseunusual situations and any deviations from our procedures and guidelines totheir respective post managers. Floor captains meet with each specialist atleast once a week to evaluate each specialist’s adherence to our riskmanagement procedures and trading guidelines. Floor captains also meet toreview risk procedures and guidelines and, if appropriate, make recommendationsto the floor management committee.

 

*Specialists.* LaBranche & Co. LLC’s specialists conduct auctions of our specialiststocks based upon the conditions of the marketplace. In doing so, specialistsobserve our risk management procedures and trading guidelines in tandem withtheir responsibility to create and maintain a fair and orderly market.Specialists immediately notify a floor captain of any unusual situations ormarket conditions requiring a deviation from our procedures and guidelines.

 

We believe that theenhancements we have made to our compliance procedures and guidelines inconnection with the undertakings set forth in our March 2004 settlement withthe SEC and NYSE have improved our risk management process.

 

Our equity specialist operations on the AMEX areconducted by six equity specialists. We have one post manager on the AMEX whomonitors the trading activities of the AMEX equity specialists by observingtrades and reviewing positions on a real-time basis. As a member of the floormanagement committee, the post manager regularly communicates with othermembers of the floor management committee regarding any deviations from ourAMEX procedures and guidelines set by LaBranche & Co. LLC’s executiveoperating committee.

 

*Circuit Breaker Rules.* The NYSE and AMEX have instituted certain circuit breaker rules intendedto halt trading in all NYSE/AMEX listed stocks in the event of a severe marketdecline. The circuit breaker rules impose temporary halts in trading when theDow Jones Industrial Average drops a certain number of points. Current circuitbreaker levels are set quarterly at 10, 20 and 30 percent of the Dow JonesIndustrial Average closing values of the previous month, rounded to the nearest50 points. These rules provide investors extra time to respond to severe marketdeclines and provide us an additional opportunity to assure compliance with ourrisk management procedures.

 

*Equity Market Risk*

* *

We have developed a risk management process, which isintended to balance our ability to profit from our equity specialist activitieswith our exposure to potential losses. We have invested substantial capital,along with the NYSE, in real-time, on-line systems which give our managementinstant access to specific trading information at any time during the tradingday, including our aggregate long and short positions and our capital andprofit-and-loss information on an aggregate or per issue basis.  Subject to the specialist’s obligation tomaintain a fair and

 

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orderly market and toapplicable regulatory requirements, we constantly seek to manage our tradingpositions relative to existing market conditions.

 

A high concentration of LaBranche & Co. LLC’sprincipal trading revenue is generated from its ten and twenty-five most profitableNYSE specialist stocks. However, the percentage of LaBranche & Co. LLC’sequity specialist trading revenue generated from its ten most profitablespecialist stocks has decreased from 19.0% to 16.8% of total principal tradingrevenue for the years ended December 31, 2003 and 2004, respectively. Thepercentage of LaBranche & Co. LLC’s equity specialist trading revenuegenerated from its twenty-five most profitable specialist stocks has decreasedfrom 36.7% to 33.6% of total principal trading revenue for the years endedDecember 31, 2003 and 2004, respectively. LaBranche & Co. LLC is not overly reliant on a particular group ofspecialist stocks, as the composition of its ten and twenty-five mostprofitable specialist stocks changes frequently.

 

Our equity specialist trading activities are subjectto a number of risks, including risks of price fluctuations, rapid changes inthe liquidity of markets and foreign exchange risk related to AmericanDepositary Receipts (“ADRs”). In any period, we may incur trading losses in ourspecialist stocks for a variety of reasons, including price fluctuations of ourspecialist stocks and carrying out our specialist obligations. From time totime, we may have large position concentrations in securities of a singleissuer or issuers engaged in a specific industry. In general, because ourinventory of securities is marked-to-market on a daily basis, any significantprice movement in these securities could result in a reduction of our revenuesand operating profits.

 

*Derivatives Market Risk*

* *

As a specialist in options, ETFs and futures, LSP hasa responsibility to maintain a fair and orderly market, and trades securitiesas principal out of both obligation and inclination. LSP’s options, ETFs,futures, U.S. Government obligations and foreign currency trading exposes it tocertain risks, such as price and interest rate fluctuations, volatility risk,credit risk, foreign currency movements and changes in the liquidity ofmarkets. LSP maintains a market-making capacity in options, ETFs and futuresand trades as principal out of inclination. In its market-making function, LSPbrings immediacy and liquidity to the markets when it chooses to participate.LSP’s market-making activities expose it to certain risks including, but notlimited to, price fluctuations and volatility.

 

As a specialist in ETFs on the NYSE, LSPS isresponsible for maintaining a fair and orderly market and trades ETFs asprincipal out of both obligation and inclination.  LSPS’ ETF trading exposes it to certainrisks, including price fluctuations, foreign currency movements and changes inthe liquidity of markets.

 

Certain members of LSP’s and LSPS’ management areresponsible for managing these risks. These individuals utilize a third-partysoftware application to monitor LSP’s and LSPS’ positions on a real-time basis.By monitoring actual and theoretical profit and loss, volatility and otherstandard risk measures, these individuals seek to insure that all LSP and LSPStraders operate within the parameters set by management. LSP’s and LSPS’traders purchase and sell futures, options, the stocks underlying certainpositions, U.S. Government securities and foreign currencies in an attempt tohedge market and foreign currency risk. LSP’s and LSPS’ aggregate

 

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risk is under constantevaluation by certain members of management and its traders, and allsignificant trading strategies and positions are closely monitored. LSP’s andLSPS’ options, futures and ETF trading is executed on national and foreignexchanges. These trades clear through the Options Clearing Corporation, theNational Securities Clearing Corporation or the applicable exchange clearingorganization, thereby reducing potential credit risk.

 

The following chart illustrates how specifiedmovements in the underlying securities prices of LSP’s and LSPS’ entireportfolios would have impacted profits and losses from their tradingactivities: 

 
| ** **               | ** ** | **Profit or (Loss) if the underlying securities move:** | ** ** |
|--------------------------|------------|---------------------------------------------------------|------------|
| **(000’s omitted)** | ** ** | **-15.0%**                                              | ** ** | **-5.0%** | ** ** | **0%** | ** ** | **+5.0%** | ** ** | **+15.0%** | ** ** |
| **Portfolio  as of:**    |       |                                                    |       |   |   |   |   |   |   |   |   |
| March 31, 2004           |       | $                                                       | 1,646      |   | $ | (477 | ) | $ | (4 | ) | $ | 1,577 |   | $ | 4,893 |   |
| June 30, 2004            |       | $                                                       | (5,972     | ) | $ | (909 | ) | $ | 4 |   | $ | 1,771 |   | $ | 5,440 |   |
| September 30,  2004      |       | $                                                       | (6,146     | ) | $ | (104 | ) | $ | (35 | ) | $ | 1,390 |   | $ | 3,933 |   |
| December 31,  2004       |       | $                                                       | 1,522      |   | $ | 1,133 |   | $ | (36 | ) | $ | 1,723 |   | $ | 7,147 |   |

 

The information in the above table is based on certaintheoretical assumptions, and thus does not fully represent the profit or lossexposure to changes in volatility, interest rates and dividends. The zeropercent change column represents the profit or loss LSP and LSPS wouldexperience on a daily basis if the relevant market remained unchanged.

 

*Foreign Currency Risk*

* *

In connection with LaBranche & Co. LLC’s tradingof U.S.-registered shares of foreign issuers, it is exposed to varying degreesof foreign currency risk. The pricing of these securities is based on the valueof the ordinary securities as denominated in their local currencies. Thus, achange in a foreign currency rate relative to the U.S. dollar will result in achange in the value of U.S.-registered shares in which LaBranche & Co. LLCacts as the specialist.

 

LSP and LSPS trade international ETFs that aredenominated and settled in U.S. dollars, but the pricing of these ETFs is alsoaffected by changes in the relevant foreign currency rates. LSP and LSPS holdvarious foreign currencies in order to lessen the risks posed by changingforeign currency rates. In addition, LSP trades derivatives denominated inforeign currencies, which creates exposure to foreign currency risk for LSP.

 

The following chart illustrates how the specifiedmovements in foreign currencies relative to the U.S. dollar to which LSP, LSPSand LaBranche & Co. LLC are exposed would have impacted profits and lossesfrom their trading activities:

 
| ** **               | ** ** | **Profit or (Loss) if the foreign currencies relative  to the U.S. dollar move:** | ** ** |
|--------------------------|------------|-----------------------------------------------------------------------------------|------------|
| **(000’s omitted)** | ** ** | **-15.0%**                                                                        | ** ** | **-5.0%** | ** ** | **+5.0%** | ** ** | **+15.0%** | ** ** |
| **Portfolio  as of:**    |       |                                                                              |       |   |   |   |   |   |   |
| March 31, 2004           |       | $                                                                                 | 1,325      |   | $ | 442 |   | $ | (442 | ) | $ | (1,325 | ) |
| June 30, 2004            |       | $                                                                                 | (402       | ) | $ | (134 | ) | $ | 134 |   | $ | 402 |   |
| September 30,  2004      |       | $                                                                                 | (514       | ) | $ | (171 | ) | $ | 171 |   | $ | 514 |   |
| December 31,  2004       |       | $                                                                                 | 767        |   | $ | 256 |   | $ | (256 | ) | $ | (767 | ) |

 

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The information in the abovetable is based on certain assumptions and it does not fully represent theprofit and loss exposure to changes in security prices, volatility, interestrates and other related factors.

 

*Execution and Clearing Risk*

* *

In connection with their specialist and market-makingactivities, LaBranche & Co. LLC, LSP and LSPS are engaged in varioussecurities trading and lending activities and assume positions in stocks,rights, options, ETFs, U.S. Government securities, futures and foreigncurrencies for which they are exposed to credit risk associated with thenonperformance of counterparties in fulfilling their contractual obligationspursuant to these securities transactions. LaBranche & Co. LLC, LSP andLSPS are also exposed to market risk associated with the sale of securities notyet purchased, which can be directly impacted by volatile trading on the NYSE,AMEX and other exchanges. Additionally, in the event of nonperformance andunfavorable market price movements, LaBranche & Co. LLC, LSP and LSPS maybe required to purchase or sell financial instruments at a loss.

 

LFSI’s execution andclearing activities require that LFSI execute transactions in accordance withcustomer instructions and accurately record and process the resultingtransactions. Any failure, delay or error in executing, recording andprocessing transactions, whether due to human error or failure of LFSI’sinformation or communication systems, could cause substantial losses forbrokers, customers and/or LFSI and could subject LFSI to claims for losses.

 

Clearing activities includesettling each transaction with both the contra broker and the customer. Inconnection with LFSI’s institutional and direct access floor brokerageactivities, a transaction is settled either when the customer pays forsecurities purchased and takes delivery, or delivers securities sold forpayment. Settling transactions for retail customers and professional investorsinvolves financing the transaction until the customer makes payment or, formargin accounts, advancing credit to the customer within regulatory andinternal guidelines. Clearing direct access brokers’ transactions includesguaranteeing their transactions to the contra broker on the exchange floor.

 

These clearing activitiesmay expose LFSI to off-balance sheet risk in the event customers or brokers areunable to fulfill their contractual obligations and it is necessary to purchaseor sell securities at a loss. For margin transactions, LFSI may be exposed tooff-balance sheet risk in the event margin requirements are not sufficient tofully cover losses that customers may incur in their accounts.

 

The amount of risk relatedto LFSI’s execution and clearance activities is linked to the size of thetransaction, market volatility and the creditworthiness of customers andbrokers. LFSI’s largest transactions involve those for institutional and directaccess floor brokerage customers.

 

LFSI systematically monitorsits open transaction risk starting when the transaction occurs and continuinguntil the designated settlement date. Transactions that remain unsettled

 

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aftersettlement date are scrutinized and necessary action to reduce LFSI’s risk istaken. Credit risk that could result from contra brokers defaulting isminimized since much of the settlement risk for transactions with brokers isessentially transferred to the National Stock Clearing Corporation. The creditrisk associated with institutional and direct access clearing customers isminimized since these customers have been qualified by the Depository TrustCompany (“DTC”) or the DTC participants or have met the prime brokerqualification standards at other brokerage firms. Before conducting businesswith a prospective customer, LFSI’s senior management, in conjunction with itscompliance department, reviews the prospective customer’s experience in thesecurities industry, financial condition and personal background, including abackground check with a risk reporting agency. For retail customers andprofessional investors, LFSI seeks to control the risks associated withcustomer activities by requiring customers to maintain margin collateral incompliance with various regulatory and internal guidelines. LFSI monitorsmargin levels daily pursuant to such guidelines and requires customers todeposit additional collateral or reduce positions when necessary.

 

*Operational Risk*

* *

Operational risk relates to the risk of loss fromexternal events, and from failures in internal processes or informationsystems. In each of our business segments, we rely heavily on our informationsystems in managing our risk. Accordingly, working in conjunction with theNYSE, we have made significant investments in our trade processing andexecution systems. Our use of, and dependence on, technology has allowed us tosustain our growth over the past several years. Management members and floorcaptains at our NYSE and AMEX operations must constantly monitor our positionsand transactions in order to mitigate our risks and identify troublesome trendsshould they occur. The substantial capital we have invested, along with theNYSE, in real-time, on-line systems affords management instant access tospecific trading information at any time during the trading day, including:

 

•                  our aggregate long and short positions;

 

•                  the various positions of each of ourtrading professionals;

 

•                  our overall position in a particularstock; and

 

•                  capital and profit-and-loss informationon an aggregate, per specialist or per issue basis.

 

Our information systems send and receive data from theNYSE and AMEX through dedicated data feeds. The NYSE supplies us withspecialist position reporting system terminals both on the trading floor and inour offices. These terminals allow us to monitor our NYSE trading profits andlosses, as well as our positions. For our AMEX equity operations, our in-housetechnology staff has developed applications to monitor our current positionsand profits and losses.  Our derivativetrading operation utilizes a third-party software application to monitor itspositions and profits and losses on a real-time basis.

 

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We have developed and implemented a businesscontinuity plan, which includes a comprehensive disaster recovery plan. We haveback-up disaster recovery centers in New York and New Jersey.

 

*Legal and Regulatory Risk*

* *

Substantial legal liability or a significantregulatory action against us could have a material adverse effect on ourfinancial condition or cause significant harm to our reputation, which in turncould negatively affect our business prospects.

 

As registered broker-dealers, LaBranche & Co. LLC,LFSI, LSP and LSPS are subject to certain regulatory requirements intended toinsure their general financial soundness and liquidity. These subsidiaries aresubject to SEC Rules 15c3-1, 15c3-3 and other requirements adopted andadministered by both the NYSE and AMEX.

 

The USA PATRIOT Act of 2001 requires U.S. financialinstitutions, including banks, broker-dealers, futures commission merchants andinvestment companies, to implement policies, procedures and controls which arereasonably designed to detect and report instances of money laundering and thefinancing of terrorism. We actively monitor and update our anti-moneylaundering practices.

 

# **Item 8.**                                   FINANCIAL STATEMENTS AND SUPPLEMENTARYDATA.

 

***FinancialStatements***

*** ***

The consolidated financial statements required by thisitem are submitted in a separate section beginning on page F-1 of this reportand are incorporated herein by reference.

 

***Supplementary Financial Information***

 

*Selected Quarterly Financial Data(unaudited)*

* *

The following represents the Company’s unauditedquarterly results for fiscal 2004 and fiscal 2003. These quarterly results wereprepared in accordance with U.S. generally accepted accounting principles andreflect all adjustments that are, in the opinion of management, necessary for afair statement of the results and which are of a normal recurring nature. Dueto rounding of quarterly results, total amounts for each fiscal year may differimmaterially from the annual results reported in “—Financial Statements” underthis item.

 
| ** **                                                                       | ** ** | **2004 Fiscal Quarter** | ** ** |
|----------------------------------------------------------------------------------|------------|-------------------------|------------|
| **(000’s omitted, except per  share data)**                                 | ** ** | **First**               | ** ** | **Second** | ** ** | **Third** | ** ** | **Fourth** | ** ** |
| Total revenues                                                                   |       | $                       | 79,913     |   | $ | 90,702 |   | $ | 64,660 |   | $ | 83,772 |   |
| Total operating  expenses                                                        |       | 66,272                  |       | 135,984 |   | 102,494 |   | 69,766 |   |
| Income (loss)  before minority interest and provision (benefit) for income taxes |       | 13,641                  |       | (45,282 | ) | (37,834 | ) | 14,006 |   |
| Minority  interest                                                               |       | 175                     |       | 195 |   | 161 |   | (175 | ) |
| Income (loss)  before provision (benefit) for income taxes                       |       | 13,466                  |       | (45,477 | ) | (37,995 | ) | 14,181 |   |
| Provision  (benefit) for income taxes                                            |       | 5,552                   |       | (20,976 | ) | (1,533 | ) | 4,912 |   |
| Net income  (loss)                                                               |       | 7,914                   |       | (24,501 | ) | (36,462 | ) | 9,269 |   |
| Preferred  dividends and discount accretion                                      |       | 1,056                   |       | 1,056 |   | 142 |   | — |   |
| Net income  (loss) applicable to common stockholders                             |       | $                       | 6,858      |   | $ | (25,557 | ) | $ | (36,604 | ) | $ | 9,269 |   |
|                                                                             |       |                    |       |   |   |   |   |   |   |
| Earnings (loss)  per share:                                                      |       |                    |       |   |   |   |   |   |   |
| Basic                                                                            |       | $                       | 0.11       |   | $ | (0.43 | ) | $ | (0.61 | ) | $ | 0.15 |   |
| Diluted                                                                          |       | 0.11                    |       | (0.43 | ) | (0.61 | ) | 0.15 |   |

 

63

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| ** **                                                                       | ** ** | **2003 Fiscal Quarter** | ** ** |
|----------------------------------------------------------------------------------|------------|-------------------------|------------|
| **(000’s omitted, except per  share data)**                                 | ** ** | **First**               | ** ** | **Second** | ** ** | **Third** | ** ** | **Fourth** | ** ** |
| Total revenues                                                                   |       | $                       | 76,634     |   | $ | 87,504 |   | $ | 70,904 |   | $ | 70,947 |   |
| Total operating  expenses                                                        |       | 65,361                  |       | 65,471 |   | 64,608 |   | 295,624 |   |
| Income (loss)  before minority interest and provision (benefit) for income taxes |       | 11,273                  |       | 22,033 |   | 6,296 |   | (224,677 | ) |
| Minority  interest                                                               |       | —                  |       | 127 |   | 167 |   | 28 |   |
| Income (loss)  before provision (benefit) for income taxes                       |       | 11,273                  |       | 21,906 |   | 6.129 |   | (224,705 | ) |
| Provision  (benefit) for income taxes                                            |       | 5,746                   |       | 10,316 |   | 2,917 |   | (24,986 | ) |
| Net income  (loss)                                                               |       | 5,527                   |       | 11,590 |   | 3,212 |   | (199,719 | ) |
| Preferred  dividends and discount accretion                                      |       | 1,167                   |       | 942 |   | 950 |   | 954 |   |
| Net income  (loss) applicable to common stockholders                             |       | $                       | 4,360      |   | $ | 10,648 |   | $ | 2,262 |   | $ | (200,673 | ) |
|                                                                             |       |                    |       |   |   |   |   |   |   |
| Earnings (loss)  per share:                                                      |       |                    |       |   |   |   |   |   |   |
| Basic                                                                            |       | $                       | 0.07       |   | $ | 0.18 |   | $ | 0.04 |   | $ | (3.36 | ) |
| Diluted                                                                          |       | 0.07                    |       | 0.18 |   | 0.04 |   | (3.36 | ) |

 

# **Item 9.**                                   CHANGES IN AND DISAGREEMENTS WITHACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.

 

There were no disagreements with our auditors onaccounting and financial disclosure matters during the last two fiscal years.

 

**Item 9A.****                         ****CONTROLSAND PROCEDURES.**

 

As of the end of the periodcovered by this report, an evaluation of the effectiveness of our disclosurecontrols and procedures was performed under the supervision and with theparticipation of our management, including our Chief Executive Officer andChief Financial Officer. Based on that evaluation, our Chief Executive Officerand Chief Financial Officer concluded that these disclosure controls andprocedures were effective as of the end of the period covered by this report.In addition, no change in our internal control over financial reporting (asdefined in Rule 13a-15(f) under the Securities Exchange Act of 1934) occurredduring the fourth quarter of our fiscal year ended December 31, 2004 that hasmaterially affected, or is reasonably likely to materially affect, our internalcontrol over financial reporting.

 

Management’s Report onInternal Control over Financial Reporting and the Report of

 

64

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IndependentRegistered Public Accounting Firm thereon are set forth in a separate sectionbeginning on F-1 of this Annual Report on Form 10-K.

 

**Item 9B.****                         ****OTHERINFORMATION.**

 

None.

**PARTIII**

 

# **Item 10.**                            DIRECTORS AND EXECUTIVE OFFICERS OF THEREGISTRANT.

 

The information set forth under the caption “Directorsand Executive Officers” in our definitive Proxy Statement to be used inconnection with our 2005 Annual Meeting of Stockholders to be held on May 17,2005, which will be filed within 120 days of the end of our fiscal year endedDecember 31, 2004 (the “2005 Proxy Statement”) is incorporated herein byreference. Information relating to the availability of our Code of Conduct thatapplies to our senior financial officers is included on page 3 of this AnnualReport on Form 10-K.

 

# **Item 11.**                            EXECUTIVE COMPENSATION.

 

The information set forth under the caption “ExecutiveCompensation” in the 2005 Proxy Statement is incorporated herein by reference.

 

# **Item 12.**                            SECURITY OWNERSHIP OF CERTAIN BENEFICIALOWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.

 

The information set forth under the caption “BeneficialOwnership of Common Stock by Certain Stockholders and Management” in the 2005Proxy Statement is incorporated herein by reference.

 

# **Item 13.**                            CERTAIN RELATIONSHIPS AND RELATEDTRANSACTIONS.

 

The information set forth under the caption “CertainRelationships and Related Transactions” in the 2005 Proxy Statement isincorporated herein by reference.

 

**Item 14.****                           ****PRINCIPAL ACCOUNTANT FEES ANDSERVICES.**

 

The information set forthunder the caption “—Ratification of Appointment of Independent RegisteredPublic Accounting Firm — Audit Fees” in the 2005 Proxy Statement isincorporated herein by reference.

 

**PART IV**

 

**Item 15.****                           ****EXHIBITS AND FINANCIAL STATEMENTSCHEDULE.**

 

(a)                                  Documents filed as part of this report

 

(1)                                  *Financial Statements*

 

65

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•                  Management’sReport on Internal Control over Financial Reporting

•                  Reportof Independent Registered Public Accounting Firm (Consolidated FinancialStatements)

•                  Reportof Independent Registered Public Accounting Firm (Internal Control overFinancial Reporting)

•                  ConsolidatedFinancial Statements:

Consolidated Statements of Financial Condition

Consolidated Statements of Operations

Consolidated Statements of Changes in Stockholders’Equity

Consolidated Statements of Cash Flows

•                  Notesto Consolidated Financial Statements

 

(2)                                  *Financial Statement Schedule*

 

•                  Schedule 1. LaBranche & Co Inc. (ParentCompany Only) Condensed Financial Information:

Condensed Statements of Financial Condition

Condensed Statements of Operations

Condensed Statements of Changes in Stockholders’Equity

Condensed Statements of Cash Flows

Notes to Condensed Financial Statements

 

Schedules not listed are omitted because of theabsence of conditions under which they are required or because the requiredinformation is included in the consolidated financial statements or notesthereto.

 

(3)                                  *Exhibits*:

 

The following exhibits are filed as part of thisreport or incorporated herein by reference.

 
| 2.1 |   | Plan of Incorporation of LaBranche & Co.*                                                                                                                                                                                                           |
|-----|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 2.2 |   | Exchange Agreement by and among LaBranche &  Co Inc., LaB Investing Co., L.L.C. and the members of LaB Investing Co.  L.L.C. listed on Schedule A thereto.*                                                                               |
| 3.1 |   | Amended and Restated Certificate of Incorporation of  LaBranche & Co Inc.*                                                                                                                                                                               |
| 3.2 |   | Amended and Restated Bylaws of LaBranche & Co  Inc.*                                                                                                                                                                                                     |
| 4.1 |   | Specimen Stock Certificate.*                                                                                                                                                                                                                                 |
| 4.2 |   | Indenture, dated as of August 24, 1999, by and  among LaBranche & Co Inc., as issuer, and Firstar Bank, N.A.,  as trustee, relating to the 9 1⁄2% Senior Notes due 2004.**                                                             |
| 4.3 |   | Form of 9 1⁄2% Senior Notes due 2004 of  LaBranche & Co Inc. (included as Exhibit A to the  Indenture filed as Exhibit 4.2).**                                                                                                    |
| 4.4 |   | Registration Rights Agreement, dated as of  August 24, 1999, by and among LaBranche & Co Inc., as  issuer, and Salomon Smith Barney Inc. and Donaldson, Lufkin &  Jenrette Securities Corporation, as initial purchasers.** |
| 4.5 |   | Indenture, dated as of March 2, 2000, by and among  LaBranche & Co., as issuer, and Firstar Bank, N.A., as trustee, relating  to the 12% Senior Subordinated                                                                                             |

 

66

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|   |   | Notes due 2007.***                                                                                                                                                                                                                                                            |
|--------|--------|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 4.6    |   | Form of 12% Senior Subordinated Notes due 2007 of  LaBranche & Co Inc. (included as Exhibit A to the  Indenture filed as Exhibit 4.5).                                                                                                                |
| 4.7    |   | Registration Rights Agreement, dated as of March 2,  2000, by and among LaBranche & Co Inc., as issuer, and  Donaldson, Lufkin & Jenrette Securities Corporation, Salomon Smith  Barney Inc. and ABN AMRO Incorporated, as initial purchasers.*** |
| 4.8    |   | Deferred Compensation Plan.*********                                                                                                                                                                                                                                          |
| 4.9    |   | Supplemental Indenture, dated as of April 20, 2004  with respect to the Indenture dated August 24, 1999, between LaBranche &  Co Inc., as issuer and U.S. Bank National Association, as trustee, relating  to the 91/2%  Senior Notes due 2004.*******                    |
| 4.10   |   | Supplemental Indenture, dated as of April 20, 2004  with respect to the Indenture dated March 2, 2000, between LaBranche & Co  Inc., as issuer and U.S. Bank National Association, as trustee, relating to  the 12% Senior Subordinated Notes due 2007.*******            |
| 4.11   |   | Indenture, dated as of May 18, 2004, by and among  LaBranche & Co Inc., as issuer, and U.S. Bank National Association, as  trustee, relating to the 91/2% Senior Notes due 2009 and the 11% Senior Notes due  2012.*******                                                |
| 4.12   |   | Form of 91/2% Senior Note due 2009 and 11%  Senior Note due 2012 (included as Exhibit A to the Indenture filed as Exhibit  4.10).*******                                                                                                                                      |
| 4.13   |   | Registration Rights Agreement, dated as of May 4,  2004, by and among LaBranche & Co Inc., as issuer, and Credit Suisse  First Boston, as initial purchaser.*******                                                                                                       |
| 10.1   |   | Agreement of Lease between Aetna Life Insurance  Company and LaBranche & Co., dated January 6, 1984, as amended  to date.*                                                                                                                                      |
| 10.2   |   | Second Amendment to Lease Agreement by and between  Bank of Communications and LaBranche & Co. dated July 1995, as  amended to date.*                                                                                                                           |
| 10.3   |   | LaBranche & Co Inc. Equity Incentive Plan.*****                                                                                                                                                                                                                           |
| 10.4   |   | LaBranche & Co Inc. Annual Incentive Plan.*                                                                                                                                                                                                                               |
| 10.5   |   | Form of Employment Letter between LaBranche & Co  Inc. and its executive officers.*                                                                                                                                                                                       |
| 10.6   |   | Form of Agreement Relating to Noncompetition and  Other Covenants.*                                                                                                                                                                                                           |
| 10.7   |   | Form of Pledge Agreement.*                                                                                                                                                                                                                                                    |
| 10.8   |   | Stockholders’ Agreement  by and among LaBranche & Co Inc. and the Stockholders listed on  Schedule I thereto.*                                                                                                                                        |
| 10.9   |   | LaBranche & Co. Note Purchase Agreement,  dated June 3, 1998, relating to the issuance of $15,000,000 aggregate  principal amount of 7.69% Subordinated Notes.*                                                                                                 |
| 10.10  |   | Amendment to Note Purchase Agreements, dated as of  August 23, 1999, relating to the issuance of $20,000,000 aggregate  principal amount of 8.17% Subordinated Notes and $15,000,000 aggregate  principal amount of 7.69% Subordinated Notes.**                          |
| 10.11  |   | Form of Subordinated Note.*                                                                                                                                                                                                                                                   |
| 10.12  |   | Amended and Restated Credit Agreement, dated as of  October 31, 2002, by and among LaBranche & Co. LLC and The Bank of  New York.******                                                                                                                              |
| 10.13  |   | Form of Indemnification Agreement.*                                                                                                                                                                                                                                           |

 

67

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| 10.14 |   | Purchase Agreement, dated February 24, 2000, by and  among LaBranche & Co Inc. and Donaldson, Lufkin & Jenrette  Securities Corporation, Salomon Smith Barney Inc. and ABN AMRO  Incorporated, as initial purchasers, relating to the issuance of $250,000,000  aggregate principal amount of 12% Senior Subordinated Notes due 2007.*** |
|-------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.15 |   | Amended and Restated Articles of Partnership of  LaBranche & Co.**                                                                                                                                                                                                                                                                                     |
| 10.16 |   | LaB Investing Co., L.L.C. Amended and Restated  Operating Agreement.**                                                                                                                                                                                                                                                                                          |
| 10.17 |   | Agreement and Plan of Merger, dated as of January  18, 2001, by and between LaBranche & Co Inc. and ROBB PECK McCOOEY  Financial Services, Inc.****                                                                                                                                                                                                         |
| 10.18 |   | Amendment No. 1, dated as of February 15, 2001, to  Agreement and Plan of Merger by and between LaBranche & Co Inc. and ROBB  PECK McCOOEY Financial Services, Inc.****                                                                                                                                                                                     |
| 10.19 |   | Amended and Restated LaBranche & Co Inc. Equity  Incentive Plan. *****                                                                                                                                                                                                                                                                                      |
| 10.20 |   | LaBranche & Co Inc. Senior Executive Bonus  Plan.******                                                                                                                                                                                                                                                                                                     |
| 10.21 |   | Purchase Agreement, dated May 4, 2004, by and among  LaBranche & Co Inc., as issuer, and Credit Suisse First Boston, as  initial purchaser, relating to the issuance of $200,000,000 91/2% Senior Notes due 2009 and  $260,000,000 11% Senior Notes due 2012.********                                                                                       |
| 10.22 |   | Form of Restricted Stock Unit Agreement.                                                                                                                                                                                                                                                                                                                        |
| 12    |   | Statement re computation of ratios of earnings to  fixed charges.                                                                                                                                                                                                                                                                                               |
| 21    |   | List of Subsidiaries.                                                                                                                                                                                                                                                                                                                                           |
| 23    |   | Consent of KPMG LLP.                                                                                                                                                                                                                                                                                                                                            |
| 31.1  |   | Certification of George  M.L. LaBranche, IV, Chairman, Chief Executive Officer and President, pursuant  to Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                  |
| 31.2  |   | Certification of Harvey S.  Traison, Senior Vice President and Chief Financial Officer, pursuant to  Section 302 of the Sarbanes-Oxley Act of 2002.                                                                                                                                                                                                        |
| 32.1  |   | Certification of George  M.L. LaBranche, IV, Chairman, Chief Executive Officer and President, pursuant  to Section 906 of the Sarbanes-Oxley Act of 2002, regarding the  information contained in LaBranche & Co Inc.’s Annual Report on Form 10-K  for the year ended December 31, 2004.                                                         |
| 32.2  |   | Certification of Harvey S.  Traison, Senior Vice President and Chief Financial Officer, pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002, regarding the information  contained in LaBranche & Co Inc.’s Annual Report on Form 10-K for the  year ended December 31, 2004.                                                               |

 

----

| *       |   | Incorporated by reference to our Registration  Statement on Form S-1 (Registration No. 333-81079), as amended,  effective August 18, 1999.                   |
|---------|--------|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| **      |   | Incorporated by reference to our Registration  Statement on Form S-4 (Registration No. 333-88119), as amended, effective  November 3, 1999.                                 |
| ***     |   | Incorporated by reference to our Annual Report on  Form 10-K, filed on March 30, 2000.                                                                                      |
| ****    |   | Incorporated by reference to our Current Report on  Form 8-K, filed on March 22, 2001.                                                                                      |
| *****   |   | Incorporated by reference to Exhibit 4.1 of our  Registration Statement on Form S-8 (Registration No. 333-102607), effective  January 21, 2003.                             |
| ******  |   | Incorporated by reference to our Annual Report on  Form 10-K, filed on March 15, 2004.                                                                                      |
| ******* |   | Incorporated by reference to Exhibits 4.2 through  4.5 of our Quarterly Report on Form 10-Q for the three months ended  June 30, 2004, filed August 9, 2004. |

 

68

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| ********  |   | Incorporated by reference to our Registration  Statement on Form S-4 (Registration No. 333-118248), as amended, effective  September 9, 2004.           |
|-----------|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------|
| ********* |   | Incorporated by reference to Exhibit 4.7 of our  Registration Statement on Form S-4 (Registration No. 333-55862), as amended,  effective March 1, 2001. |

 

69

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**SIGNATURES**

 

Pursuant to the requirements of Section 13 or 15(d) ofthe Securities Exchange Act of 1934, the registrant has duly caused this reportto be signed on its behalf by the undersigned, thereunto duly authorized.

 
| March 16, 2005 | **LaBRANCHE & CO INC.** |
|----------------|-----------------------------|
|           |                        |
|           | By:                         | /s/ George M.L. LaBranche, IV |   |
|           |                        |  George M.L. LaBranche, IV |
|           |                        |  Chairman, Chief Executive Officer and  President |

 

Pursuant to the requirements of the SecuritiesExchange Act of 1934, this report has been signed below by the followingpersons on behalf of the registrant and in the capacities and on the datesindicated.

 
| **Signature**                 |   | **Title**                               | ** **                            | **Date**   |
|-------------------------------|--------|-----------------------------------------|---------------------------------------|------------|
| ** **                    |   | ** **                              | ** **                            | ** ** |
| /s/ George M.L. LaBranche, IV |   |                                    | Chairman, Chief Executive Officer and |       | March 16, 2005 |
| George M.L. LaBranche, IV     |   | President (Principal Executive Officer) |                                  |       |
|                          |   |                                    |                                  |       |
| /s/ Harvey S. Traison         |   |                                    | Senior Vice President and Chief       |       | March 16, 2005 |
| Harvey S. Traison             |   | Financial Officer (Principal Financial  |                                  |       |
|                          |   | Officer)                                |                                  |       |
|                          |   |                                    |                                  |       |
| /s/ Thomas E. Dooley          |   |                                    | Director                              |       | March 16, 2005 |
| Thomas E. Dooley              |   |                                    |                                  |       |
|                          |   |                                    |                                  |       |
| /s/ David A. George           |   |                                    | Director                              |       | March 16, 2005 |
| David A. George               |   |                                    |                                  |       |
|                          |   |                                    |                                  |       |
| /s/ Donald E. Kiernan         |   |                                    | Director                              |       | March 16, 2005 |
| Donald E. Kiernan             |   |                                    |                                  |       |
|                          |   |                                    |                                  |       |
| /s/Alfred O. Hayward, Jr.     |   |                                    | Director                              |       | March 16, 2005 |
| Alfred O. Hayward, Jr.        |   |                                    |                                  |       |
|                          |   |                                    |                                  |       |
| /s/ Todd A. Graber            |   |                                    | Controller (Principal Accounting      |       | March 16, 2005 |
| Todd A. Graber                |   | Officer)                                |                                  |       |
|                               |        |                                         |                                       |            |  |  |  |  |

 

70

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**Management’sReport on Internal Control over Financial Reporting**

 

**Management of LaBranche & Co Inc., together with itsconsolidated subsidiaries (the “Company”), is responsible for establishing andmaintaining adequate internal control over financial reporting.  The Company’s internal control over financialreporting is a process designed under the supervision of the Company’sprincipal executive and principal financial officers to provide reasonableassurance regarding the reliability of financial reporting and the preparationof the Company’s financial statements for external reporting purposes inaccordance with U.S. generally accepted accounting principles.**

** **

**As of the end of the Company’s 2004 fiscal year, managementconducted an assessment of the effectiveness of the Company’s internal controlover financial reporting based on the framework established in *Internal Control – Integrated Framework*issued by theCommittee of Sponsoring Organizations of the Treadway Commission (“COSO”).  Based on this assessment, management hasdetermined that the Company’s internal control over financial reporting as ofDecember 31, 2004 is effective.**

** **

**Our internal control over financial reporting includespolicies and procedures that pertain to the maintenance of records that, inreasonable detail, accurately and fairly reflect transactions and dispositionof assets; provide reasonable assurances that transactions are recorded asnecessary to permit preparation of financial statements in accordance with U.S.generally accepted accounting principles and that receipts and expenditures arebeing made only in accordance with authorizations of management; and providereasonable assurance regarding prevention or timely detection of unauthorizedacquisition, use or disposition of the Company’s assets that could have amaterial effect on our consolidated financial statements.**

** **

**Management’s assessment of the effectiveness of the Company’sinternal control over financial reporting as of December 31, 2004 has beenaudited by KPMG LLP, an independent registered public accounting firm, asstated in their report, appearing on page F-3 of this Annual Report on Form10-K, which express an unqualified opinion on management’s assessment of theeffectiveness of the Company’s internal control over financial reporting as ofDecember 31, 2004, and an unqualified opinion on the effectiveness of theCompany’s internal control over financial reporting as of December 31, 2004.**

 

F-1

----

 

**Report of Independent RegisteredPublic Accounting Firm**

 

The Board of Directorsand Stockholders

LaBranche & Co Inc.:

 

We have audited theaccompanying consolidated statements of financial condition of LaBranche &Co Inc. and subsidiaries as of December 31, 2004 and 2003, and the relatedconsolidated statements of operations, changes in stockholders’ equity and cashflows for each of the years in the three-year period ended December 31, 2004and the related December 31, 2004 and 2003 financial statement schedule. Theseconsolidated financial statements and the related financial statement scheduleare the responsibility of the Company’s management. Our responsibility is toexpress an opinion on these financial statements and the related financialstatement schedule based on our audits.

 

We conducted our auditsin accordance with the standards of the Public Company Accounting OversightBoard (United States). Those standards require that we plan and perform theaudit to obtain reasonable assurance about whether the consolidated financialstatements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting theamounts and disclosures in the financial statements. An audit also includesassessing the accounting principles used and significant estimates made bymanagement, as well as evaluating the overall consolidated financial statementpresentation.  We believe that our auditsprovide a reasonable basis for our opinion.

 

In our opinion, the consolidatedfinancial statements referred to above present fairly, in all materialrespects, the financial position of LaBranche & Co Inc. and subsidiaries asof December 31, 2004 and 2003, and the results of their operations and theircash flows for each of the years in the three-year period ended December 31,2004, in conformity with U.S. generally accepted accounting principles.  Also, in our opinion, the related December31, 2004 and 2003 financial statement schedule, when considered in relation tothe basic consolidated financial statements taken as a whole, presents fairly,in all material respects, the information set forth therein.

 

We have also audited, inaccordance with the standards of the Public Company Accounting Oversight Board(United States), the effectiveness of LaBranche & Co Inc. and subsidiaries’internal control over financial reporting as of December 31, 2004, based oncriteria established in *InternalControl—Integrated Framework* issued by the Committee of SponsoringOrganizations of the Treadway Commission (COSO), and our report dated March 14,2005 expressed an unqualified opinion on management’s assessment of, and theeffective operation of, internal control over financial reporting.

 

 
| /s/ KPMG LLP       |   |
|--------------------|--------|
| New York, New York |   |
| March 14, 2005     |   |
|                    |        |  |

 

F-2

----

 

# **Report of Independent Registered Public AccountingFirm**

 

The Board of Directors and Stockholders

LaBranche& Co Inc.:

 

We have audited management’s assessment,included in the accompanying *Management’sReport on Internal Control over Financial Reporting,*that LaBranche& Co Inc. and subsidiaries maintained effective internal control over financial reporting as ofDecember 31, 2004, based on criteriaestablished in *Internal Control–IntegratedFramework* issued by the Committee of Sponsoring Organizations of theTreadway Commission (COSO).**LaBranche& Co Inc. and subsidiaries’ managementis responsible for maintaining effective internal control over financialreporting and for its assessment of the effectiveness of internal control overfinancial reporting. Our responsibility is to express an opinion on management’sassessment and an opinion on the effectiveness of the Company’s internalcontrol over financial reporting based on our audit.

 

We conducted our audit in accordance with thestandards of the Public Company Accounting Oversight Board (United States).Those standards require that we plan and perform the audit to obtain reasonableassurance about whether effective internal control over financial reporting wasmaintained in all material respects. Our audit included obtaining anunderstanding of internal control over financial reporting, evaluatingmanagement’s assessment, testing and evaluating the design and operatingeffectiveness of internal control, and performing such other procedures as weconsidered necessary in the circumstances. We believe that our audit provides areasonable basis for our opinion.

 

A company’s internal controlover financial reporting is a process designed to provide reasonable assuranceregarding the reliability of financial reporting and the preparation offinancial statements for external purposes in accordance with generallyaccepted accounting principles.  Acompany’s internal control over financial reporting includes those policies andprocedures that (1) pertain to the maintenance of records that, in reasonabledetail, accurately and fairly reflect the transactions and dispositions of theassets of the company; (2) provide reasonable assurance that transactions arerecorded as necessary to permit preparation of financial statements inaccordance with generally accepted accounting principles, and that the receiptsand expenditures of the company are being made only in accordance withauthorizations of management and directors of the company; and (3) providereasonable assurance regarding prevention or timely detection of unauthorizedacquisition, use, or disposition of the company’s assets that could have amaterial effect on the financial statements.

 

Because of inherent limitations, internalcontrol over financial reporting may not prevent or detect misstatements.  Also, projections of any evaluation ofinternal control over financial reporting to future periods are subject to therisk that the internal control may become inadequate because of changes inconditions, or that the degree of compliance with the policies or proceduresmay deteriorate.

 

In our opinion, management’s assessment thatLaBranche & Co Inc. and subsidiaries maintained

 

F-3

----

 

effective internal control over financialreporting as of December 31, 2004, is fairly stated, in all material respects,based on criteria established in *Internal Control—Integrated Framework*issued by the Committee of Sponsoring Organizations of the Treadway Commission(COSO).**Also, in ouropinion, LaBranche & Co Inc. and subsidiaries maintained, in all material respects,effective internal control over financial reporting as of December 31, 2004,based on criteria established in *Internal Control—Integrated Framework*issued by the Committee of Sponsoring Organizations of the Treadway Commission(COSO).

* *

We have also audited, in accordance with thestandards of the Public Company Accounting Oversight Board (United States), theconsolidated statements offinancial condition of LaBranche & Co Inc. and subsidiaries as of December 31, 2004 and 2003, and therelated consolidated statementsof operations, changes in stockholders’ equity and cash flows for each of theyears in the three-year period ended December 31, 2004, and our report dated March 14, 2005**expressed anunqualified opinion on those consolidated financial statements.

 

 
| /s/ KPMG LLP       |   |
|--------------------|--------|
| New York, New York |
| March 14, 2005     |

 

F-4

----

 

**LaBRANCHE& CO INC. AND SUBSIDIARIES**

**CONSOLIDATEDSTATEMENTS OF FINANCIAL CONDITION**

**(000’somitted, except share data)**

 
| ** **                                                                                                                                                                                                  | ** ** | **December 31,** | ** ** |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------|------------|
| ** **                                                                                                                                                                                                  | ** ** | **2004**         | ** ** | **2003** | ** ** |
| **ASSETS**                                                                                                                                                                                                  |       |             |       |   |   |
| Cash and cash  equivalents                                                                                                                                                                                  |       | $                | 444,446    |   | $ | 491,885 |   |
| Cash and  securities segregated under federal regulations                                                                                                                                                   |       | 13,511           |       | 3,959 |   |
| Securities  purchased under agreements to resell                                                                                                                                                            |       | 87,000           |       | 13,000 |   |
| Receivable from  brokers, dealers and clearing organizations                                                                                                                                                |       | 158,421          |       | 142,639 |   |
| Receivable from  customers                                                                                                                                                                                  |       | 10,555           |       | 3,434 |   |
| Securities  owned, at market value:                                                                                                                                                                         |       |             |       |   |   |
| Corporate  equities                                                                                                                                                                                         |       | 319,378          |       | 265,568 |   |
| Options                                                                                                                                                                                                     |       | 110,705          |       | 73,694 |   |
| Exchange-traded  funds                                                                                                                                                                                      |       | 128,214          |       | 102,626 |   |
| U.S. Government  obligations                                                                                                                                                                                |       | 8                |       | — |   |
| Commissions  receivable                                                                                                                                                                                     |       | 5,428            |       | 4,613 |   |
| Exchange  memberships contributed for use, at market value                                                                                                                                                  |       | 9,450            |       | 15,000 |   |
| Exchange  memberships owned, at adjusted cost (market value of $41,696 and $58,870,  respectively)                                                                                                          |       | 59,332           |       | 77,319 |   |
| Office equipment  and leasehold improvements, at cost, less accumulated depreciation and  amortization of $10,655 and $8,931, respectively                                                                  |       | 3,459            |       | 4,659 |   |
| Intangible  assets, net of accumulated amortization:                                                                                                                                                        |       |             |       |   |   |
| Specialist stock  lists                                                                                                                                                                                     |       | 361,204          |       | 371,580 |   |
| Trade name                                                                                                                                                                                                  |       | 25,011           |       | 25,011 |   |
| Goodwill                                                                                                                                                                                                    |       | 250,569          |       | 289,593 |   |
|                                                                                                                                                                                                        |       |             |       |   |   |
| Other assets                                                                                                                                                                                                |       | 68,406           |       | 78,510 |   |
| Total assets                                                                                                                                                                                                |       | $                | 2,055,097  |   | $ | 1,963,090 |   |
|                                                                                                                                                                                                        |       |             |       |   |   |
| **LIABILITIES AND STOCKHOLDERS’ EQUITY**                                                                                                                                                               |       |             |       |   |   |
| Liabilities:                                                                                                                                                                                                |       |             |       |   |   |
| Payable to  brokers and dealers                                                                                                                                                                             |       | $                | 120,434    |   | $ | 45,172 |   |
| Payable to  customers                                                                                                                                                                                       |       | 3,830            |       | 9,010 |   |
| Securities sold,  but not yet purchased, at market value:                                                                                                                                                   |       |             |       |   |   |
| Corporate  equities                                                                                                                                                                                         |       | 265,078          |       | 232,942 |   |
| Options                                                                                                                                                                                                     |       | 92,580           |       | 67,079 |   |
| Exchange-traded  funds                                                                                                                                                                                      |       | 142,735          |       | 115,140 |   |
| Accrued  compensation                                                                                                                                                                                       |       | 38,195           |       | 42,833 |   |
| Accounts payable  and other accrued expenses                                                                                                                                                                |       | 18,245           |       | 36,325 |   |
| Other  liabilities                                                                                                                                                                                          |       | 12,510           |       | 75,595 |   |
| Income taxes  payable                                                                                                                                                                                       |       | 1,671            |       | — |   |
| Deferred tax  liabilities                                                                                                                                                                                   |       | 156,294          |       | 172,846 |   |
| Short term debt                                                                                                                                                                                             |       | 2,000            |       | 101,971 |   |
| Long term debt                                                                                                                                                                                              |       | 481,448          |       | 255,606 |   |
| Subordinated  liabilities:                                                                                                                                                                                  |       |             |       |   |   |
| Exchange  memberships contributed for use, at market value                                                                                                                                                  |       | 9,450            |       | 15,000 |   |
| Other  subordinated indebtedness                                                                                                                                                                            |       | 17,285           |       | 20,285 |   |
| Total  liabilities                                                                                                                                                                                          |       | 1,361,755        |       | 1,189,804 |   |
|                                                                                                                                                                                                        |       |             |       |   |   |
| Minority  interest                                                                                                                                                                                          |       | 356              |       | 322 |   |
|                                                                                                                                                                                                        |       |             |       |   |   |
| Commitments and  contingencies                                                                                                                                                                              |       |             |       |   |   |
|                                                                                                                                                                                                        |       |             |       |   |   |
| Preferred stock,  Series A, $.01 par value, liquidation value of $1,000 per share; 10,000,000  shares authorized; -0- and 39,186 shares issued and outstanding at December  31, 2004 and 2003, respectively |       | —           |       | 38,317 |   |
| Common stock,  $.01 par value, 200,000,000 shares authorized; 60,532,080 and 59,791,036  shares issued and outstanding at December 31, 2004 and 2003, respectively                                          |       | 605              |       | 598 |   |
| Additional paid-in  capital                                                                                                                                                                                 |       | 687,040          |       | 682,816 |   |
| Retained  earnings                                                                                                                                                                                          |       | 5,341            |       | 51,374 |   |
| Unearned  compensation                                                                                                                                                                                      |       | —           |       | (141 | ) |
| Total  stockholders’ equity                                                                                                                                                                            |       | 692,986          |       | 772,964 |   |
| Total  liabilities and stockholders’ equity                                                                                                                                                            |       | $                | 2,055,097  |   | $ | 1,963,090 |   |

 

The accompanying notesare an integral part of these consolidated financial statements.

 

F-5

----

 

**LaBRANCHE& CO INC. AND SUBSIDIARIES**

**CONSOLIDATEDSTATEMENTS OF OPERATIONS**

**(000’somitted, except per share data)**

 
| ** **                                                                       | ** ** | **For the Years Ended December 31,** | ** ** |
|----------------------------------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                                       | ** ** | **2004**                                  | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                                             |       |                                      |       |   |   |   |   |
| REVENUES:                                                                        |       |                                      |       |   |   |   |   |
| Net gain on  principal transactions                                              |       | $                                         | 182,535    |   | $ | 202,207 |   | $ | 342,400 |   |
| Commissions                                                                      |       | 96,045                                    |       | 94,443 |   | 92,044 |   |
| Net gain on non-marketable  investments                                          |       | 24,953                                    |       | 1,065 |   | 5,161 |   |
| Other                                                                            |       | 15,514                                    |       | 8,274 |   | 13,240 |   |
| Total revenues                                                                   |       | 319,047                                   |       | 305,989 |   | 452,845 |   |
|                                                                             |       |                                      |       |   |   |   |   |
| EXPENSES:                                                                        |       |                                      |       |   |   |   |   |
| Employee  compensation and related benefits                                      |       | 99,310                                    |       | 99,123 |   | 131,511 |   |
| Interest                                                                         |       | 63,789                                    |       | 48,188 |   | 48,589 |   |
| Exchange,  clearing and brokerage fees                                           |       | 39,010                                    |       | 40,406 |   | 37,729 |   |
| Lease of  exchange memberships                                                   |       | 15,565                                    |       | 24,773 |   | 25,939 |   |
| Depreciation and  amortization of intangibles                                    |       | 12,221                                    |       | 12,803 |   | 13,446 |   |
| Legal and  professional fees                                                     |       | 12,749                                    |       | 8,034 |   | 8,072 |   |
| Communications                                                                   |       | 8,594                                     |       | 8,705 |   | 6,653 |   |
| Occupancy                                                                        |       | 5,254                                     |       | 5,832 |   | 5,446 |   |
| Restitution and  fines                                                           |       | —                                    |       | 63,519 |   | 3⁄4 |   |
| Goodwill  impairment                                                             |       | 37,600                                    |       | 170,302 |   | 3⁄4 |   |
| Exchange  memberships impairment                                                 |       | 18,327                                    |       | 515 |   | — |   |
| Debt repurchase  premium                                                         |       | 49,029                                    |       | — |   | — |   |
| Other                                                                            |       | 13,068                                    |       | 8,863 |   | 9,336 |   |
| Total expenses                                                                   |       | 374,516                                   |       | 491,063 |   | 286,721 |   |
|                                                                             |       |                                      |       |   |   |   |   |
| Income (loss)  before minority interest and provision (benefit) for income taxes |       | (55,469                                   | )          | (185,074 | ) | 166,124 |   |
|                                                                             |       |                                      |       |   |   |   |   |
| MINORITY  INTEREST                                                               |       | 356                                       |       | 322 |   | 3⁄4 |   |
|                                                                             |       |                                      |       |   |   |   |   |
| Income (loss)  before provision (benefit) for income taxes                       |       | (55,825                                   | )          | (185,396 | ) | 166,124 |   |
|                                                                             |       |                                      |       |   |   |   |   |
| PROVISION  (BENEFIT) FOR INCOME TAXES                                            |       | (12,045                                   | )          | (6,007 | ) | 78,898 |   |
|                                                                             |       |                                      |       |   |   |   |   |
| Net income  (loss)                                                               |       | (43,780                                   | )          | (179,389 | ) | 87,226 |   |
| Preferred  dividends and discount accretion                                      |       | 2,253                                     |       | 4,014 |   | 6,941 |   |
| Net income  (loss) applicable to common stockholders                             |       | $                                         | (46,033    | ) | $ | (183,403 | ) | $ | 80,285 |   |
|                                                                             |       |                                      |       |   |   |   |   |
| Weighted-average  common shares outstanding:                                     |       |                                      |       |   |   |   |   |
| Basic                                                                            |       | 59,905                                    |       | 59,614 |   | 58,992 |   |
| Diluted                                                                          |       | 59,905                                    |       | 59,614 |   | 59,939 |   |
| Earnings (loss)  per share:                                                      |       |                                      |       |   |   |   |   |
| Basic                                                                            |       | $                                         | (0.77      | ) | $ | (3.08 | ) | $ | 1.36 |   |
| Diluted                                                                          |       | $                                         | (0.77      | ) | $ | (3.08 | ) | $ | 1.34 |   |

 

The accompanyingnotes are an integral part of these consolidated financial statements.

 

F-6

----

 

**LaBRANCHE& CO INC. and SUBSIDIARIES**

**CONSOLIDATEDSTATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY(000’s omitted)**

 
| ** **                                                                          | ** ** | **Common Stock** | ** ** | ** ** | ** ** | **Additional**      | ** ** | **Retained**        | ** ** | **Unearned** | ** ** | ** **       | ** ** |
|-------------------------------------------------------------------------------------|------------|------------------|------------|------------|------------|---------------------|------------|---------------------|------------|--------------|------------|------------------|------------|
| ** **                                                                          | ** ** | **Shares**       | ** ** | **Amount** | ** ** | **Preferred Stock** | ** ** | **Paid-in Capital** | ** ** | **Earnings** | ** ** | **Compensation** | ** ** | **Total** | ** ** |
|                                                                                |       |             |       |       |       |                |       |                |       |         |       |             |       |   |   |
| BALANCE,  December 31, 2001                                                         |       | 58,734           |       | $          | 587        |                | $          | 94,531              |       | $            | 671,422    |             | $          | 168,780 |   | $ | (6,962 | ) | $ | 928,358 |   |
|                                                                                |       |             |       |       |       |                |       |                |       |         |       |             |       |   |   |
| Net income                                                                          |       | —           |       | —     |       | —              |       | —              |       | 87,226       |       | —           |       | 87,226 |   |
|                                                                                |       |             |       |       |       |                |       |                |       |         |       |             |       |   |   |
| Preferred stock  dividends and discount accretion                                   |       | —           |       | —     |       | 2,994               |       | —              |       | (6,941       | )          | —           |       | (3,947 | ) |
| Recognition of  tax benefits related to employee option exercises                   |       | —           |       | —     |       | —              |       | 2,610               |       | —       |       | —           |       | 2,610 |   |
| Issuance of  restricted stock, shares for option exercises and related compensation |       | 770              |       | 8          |       | —              |       | 5,569               |       | —       |       | 6,028            |       | 11,605 |   |
| Preferred stock  buyback                                                            |       | —           |       | —     |       | (36,164             | )          | —              |       | —       |       | —           |       | (36,164 | ) |
| BALANCE,  December 31, 2002                                                         |       | 59,504           |       | $          | 595        |                | $          | 61,361              |       | $            | 679,601    |             | $          | 249,065 |   | $ | (934 | ) | $ | 989,688 |   |
|                                                                                |       |             |       |       |       |                |       |                |       |         |       |             |       |   |   |
| Net loss                                                                            |       | —           |       | —     |       | —              |       | —              |       | (179,389     | )          | —           |       | (179,389 | ) |
|                                                                                |       |             |       |       |       |                |       |                |       |         |       |             |       |   |   |
| Common and  preferred stock dividends and discount accretion                        |       | —           |       | —     |       | 688                 |       | —              |       | (18,302      | )          | —           |       | (17,614 | ) |
| Recognition of  tax benefits related to employee option exercises                   |       | —           |       | —     |       | —              |       | 372                 |       | —       |       | —           |       | 372 |   |
| Issuance of  restricted stock, shares for option exercises and related compensation |       | 287              |       | 3          |       | —              |       | 2,843               |       | —       |       | 793              |       | 3,639 |   |
| Preferred stock  buyback                                                            |       | —           |       | —     |       | (23,732             | )          | —              |       | —       |       | —           |       | (23,732 | ) |
| BALANCE,  December 31, 2003                                                         |       | 59,791           |       | $          | 598        |                | $          | 38,317              |       | $            | 682,816    |             | $          | 51,374 |   | $ | (141 | ) | $ | 772,964 |   |
|                                                                                |       |             |       |       |       |                |       |                |       |         |       |             |       |   |   |
| Net loss                                                                            |       | —           |       | —     |       | —              |       | —              |       | (43,780      | )          | —           |       | (43,780 | ) |
|                                                                                |       |             |       |       |       |                |       |                |       |         |       |             |       |   |   |
| Preferred stock  dividends and discount accretion                                   |       | —           |       | —     |       | —              |       | —              |       | (2,253       | )          | —           |       | (2,253 | ) |
| Recognition of  tax benefits related to employee option exercises                   |       | —           |       | —     |       | —              |       | 1,371               |       | —       |       | —           |       | 1,371 |   |
| Issuance of  restricted stock, shares for option exercises and related compensation |       | 741              |       | 7          |       | —              |       | 2,853               |       | —       |       | 141              |       | 3,001 |   |
| Preferred stock  buyback                                                            |       | —           |       | —     |       | (38,317             | )          | —              |       | —       |       | —           |       | (38,317 | ) |
| BALANCE,  December 31, 2004                                                         |       | 60,532           |       | $          | 605        |                | —     |                | $          | 687,040      |       | $                | 5,341      |   | — |   | $ | 692,986 |   |

 

The accompanying notesare an integral part of these consolidated financial statements.

 

F-7

----

 

**LaBRANCHE& CO INC. AND SUBSIDIARIESCONSOLIDATED STATEMENTS OF CASH FLOWS(000’s omitted)**

 
| ** **                                                                                           | ** ** | **For the Years Ended December 31,** | ** ** |
|------------------------------------------------------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                                                           | ** ** | **2004**                                  | ** ** | **2003** | ** ** | **2002** | ** ** |
| **CASH  FLOWS FROM OPERATING ACTIVITIES:**                                                           | ** ** | ** **                                | ** ** | ** ** | ** ** | ** ** | ** ** |
| Net income  (loss)                                                                                   |       | $                                         | (43,780    | ) | $ | (179,389 | ) | $ | 87,226 |   |
| Adjustments to  reconcile net income (loss) to net cash provided by (used in) operating  activities: |       |                                      |       |   |   |   |   |
| Depreciation and  amortization of intangibles                                                        |       | 12,221                                    |       | 12,803 |   | 13,446 |   |
| Amortization of  debt issuance costs and bond discount                                               |       | 7,380                                     |       | 2,155 |   | 2,078 |   |
| Goodwill  impairment                                                                                 |       | 37,600                                    |       | 170,302 |   | — |   |
| Minority  interest in income of consolidated subsidiary                                              |       | 356                                       |       | 322 |   | — |   |
| Compensation  expense related to stock-based compensation                                            |       | 3,277                                     |       | 3,423 |   | 3,114 |   |
| Deferred tax provision  (benefit)                                                                    |       | (12,914                                   | )          | (23,329 | ) | 11,734 |   |
| Acceleration of  preferred stock discount accretion                                                  |       | 496                                       |       | 918 |   | 1,844 |   |
| Other-than-temporary  impairment of exchange memberships owned                                       |       | 18,327                                    |       | 515 |   | — |   |
| Tax benefit  related to employee stock transactions                                                  |       | 1,167                                     |       | 433 |   | 6,639 |   |
| Changes in  operating assets and liabilities:                                                        |       |                                      |       |   |   |   |   |
| Cash and  securities segregated under federal regulations                                            |       | (9,552                                    | )          | 12,053 |   | 62,356 |   |
| Securities  purchased under agreements to resell                                                     |       | (74,000                                   | )          | 13,000 |   | 33,113 |   |
| Receivable from  brokers, dealers and clearing organizations                                         |       | (15,782                                   | )          | 2,748 |   | 32,142 |   |
| Receivable from  customers                                                                           |       | (7,121                                    | )          | 8,991 |   | (1,419 | ) |
| United States  Government obligations                                                                |       | —                                    |       | 395,840 |   | (67,792 | ) |
| Securities  owned, at market value:                                                                  |       |                                      |       |   |   |   |   |
| Corporate equities                                                                                   |       | (53,810                                   | )          | (159,273 | ) | 28,338 |   |
| Options                                                                                              |       | (37,011                                   | )          | (12,216 | ) | 6,971 |   |
| Exchange-traded  funds                                                                               |       | (25,588                                   | )          | (81,171 | ) | 1,022 |   |
| United States  Government obligations                                                                |       | (8                                        | )          | — |   | — |   |
| Commissions  receivable                                                                              |       | (815                                      | )          | (234 | ) | 592 |   |
| Other assets                                                                                         |       | 1,414                                     |       | (3,773 | ) | (6,930 | ) |
| Payable to  brokers and dealers                                                                      |       | 75,262                                    |       | 28,755 |   | (23,116 | ) |
| Payable to  customers                                                                                |       | (5,180                                    | )          | (12,961 | ) | (41,268 | ) |
| Securities sold,  but not yet purchased, at market value:                                            |       |                                      |       |   |   |   |   |
| Corporate  equities                                                                                  |       | 32,136                                    |       | 126,257 |   | (20,311 | ) |
| Options                                                                                              |       | 25,501                                    |       | 3,384 |   | 4,873 |   |
| Exchange-traded  funds                                                                               |       | 27,595                                    |       | 110,781 |   | — |   |
| Accrued  compensation                                                                                |       | (4,638                                    | )          | (12,352 | ) | 1,072 |   |
| Accounts payable  and other accrued expenses                                                         |       | (16,511                                   | )          | (12,958 | ) | (40,644 | ) |
| Other  liabilities                                                                                   |       | (63,085                                   | )          | 67,637 |   | 7,958 |   |
| Income taxes  payable                                                                                |       | 1,671                                     |       | (3,760 | ) | (7,547 | ) |
| Net cash  provided by (used in) operating activities                                                 |       | (125,392                                  | )          | 458,901 |   | 95,491 |   |
|                                                                                                 |       |                                      |       |   |   |   |   |
| **CASH  FLOWS FROM INVESTING ACTIVITIES:**                                                           | ** ** | ** **                                | ** ** | ** ** | ** ** | ** ** | ** ** |
| Net cash paid  for acquisitions                                                                      |       | —                                    |       | — |   | (3,376 | ) |
| Payments for  purchases of office equipment and leasehold improvements                               |       | (668                                      | )          | (995 | ) | (2,683 | ) |
| Payments for  purchases of exchange memberships                                                      |       | (340                                      | )          | (19 | ) | — |   |
| Net cash used in  investing activities                                                               |       | (1,008                                    | )          | (1,014 | ) | (6,059 | ) |
|                                                                                                 |       |                                      |       |   |   |   |   |
| **CASH  FLOWS FROM FINANCING ACTIVITIES:**                                                           | ** ** | ** **                                | ** ** | ** ** | ** ** | ** ** | ** ** |
| Repayment of  subordinated debt and promissory notes                                                 |       | (3,000                                    | )          | — |   | (37,531 | ) |
| Repayment of  minority interest                                                                      |       | (322                                      | )          | — |   | — |   |
| Proceeds from  exercise of stock options                                                             |       | 1,375                                     |       | 216 |   | 8,491 |   |
| Issuance of new  senior notes                                                                        |       | 460,000                                   |       | — |   | — |   |
| Repurchase of old  notes                                                                             |       | (336,458                                  | )          | — |   | — |   |
| Payment of  common stock dividends                                                                   |       | —                                    |       | (14,288 | ) | — |   |
| Payment of  preferred stock dividends                                                                |       | (3,448                                    | )          | (4,313 | ) | (7,238 | ) |
| Payment for  preferred stock buyback                                                                 |       | (39,186                                   | )          | (24,650 | ) | (28,164 | ) |
| Net cash  provided by (used in) financing activities                                                 |       | 78,961                                    |       | (43,035 | ) | (64,442 | ) |
| Increase  (decrease) in cash and cash equivalents                                                    |       | (47,439                                   | )          | 414,852 |   | 24,990 |   |
| CASH AND CASH  EQUIVALENTS, beginning of year                                                        |       | 491,885                                   |       | 77,033 |   | 52,043 |   |
| CASH AND CASH  EQUIVALENTS, end of year                                                              |       | $                                         | 444,446    |   | $ | 491,885 |   | $ | 77,033 |   |
|                                                                                                 |       |                                      |       |   |   |   |   |

 

F-8

----

 
| **SUPPLEMENTAL  DISCLOSURE OF CASH PAID DURING THE YEAR FOR:**             | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
|----------------------------------------------------------------------------|------------|------------|------------|------------|------------|------------|------------|
|  Interest                                                             |       | $          | 55,113     |       | $          | 42,704     |       | $ | 46,022 |   |
|  Income  taxes                                                        |       | $          | 525        |       | $          | 20,193     |       | $ | 65,513 |   |
|                                                                       |       |       |       |       |       |       |       |
| **SUPPLEMENTAL  SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:** |       |       |       |       |       |       |       |
| Acquisitions:                                                              |       |       |       |       |       |       |       |
| Intangible  assets                                                         |       | $          | —     |       | $          | —     |       | $ | 4,665 |   |
| Fair value of  tangible assets acquired, other than cash                   |       | —     |       | —     |       | 2,825      |       |
| Deferred tax  liabilities related to intangible assets                     |       | —     |       | —     |       | 687        |       |
| Other  liabilities                                                         |       | —     |       | —     |       | 3,332      |       |
| Common stock  issuance                                                     |       | —     |       | —     |       | —     |       |
| Net increase in  additional paid in-capital related to stock-based awards  |       | 4,224      |       | 4,008      |       | 14,207     |       |
| Satisfaction of  secured demand notes through release of collateral        |       | $          | —     |       | $          | 8,000      |       | $ | 1,000 |   |

 

Exchangetransactions:

 

(A) The Companyexchanged one share of a newly-created Series B preferred stock for each shareof its then-issued and outstanding Series A preferred stock. All of theapproximately 39,186 shares of Series A preferred stock, with a liquidationvalue of $1,000 per share, were exchanged.

 

(B) The Company exchanged (i) 98.5% of its $200.0million aggregate principal amount 9.5% Senior Notes due 2009 that have beenregistered under the Securities Act of 1933, as amended, for an equal principalamount of outstanding 9.5% Senior Notes due 2009, and (ii) 100.0% of its $260.0million aggregate principal amount 11.0% Senior Notes due 2012 that have beenregistered under the Securities Act of 1933, as amended, for an equal principalamount of outstanding 11.0% Senior Notes due 2012.

 

The accompanyingnotes are an integral part of these consolidated financial statements.

 

F-9

----

 

**LaBRANCHE &CO INC. and SUBSIDIARIES**

**NOTESTO CONSOLIDATED FINANCIAL STATEMENTS**

 

## **1.**                                      ORGANIZATION AND DESCRIPTION OF BUSINESS

 

The consolidated financial statements include theaccounts of LaBranche & Co Inc., a Delaware corporation (the “HoldingCompany”), and its subsidiaries, LaBranche & Co. LLC, a New York limitedliability company (“LaBranche & Co. LLC”), LaBranche Financial Services,Inc., a New York corporation (“LFSI”), LaBranche Structured Products, LLC, aNew York limited liability company (“LSP”), LaBranche Structured ProductsSpecialists, LLC, a New York limited liability company (“LSPS”), LABDRServices, Inc., a Delaware corporation (“LABDR”), and LaBranche & Co. B.V.,a Netherlands private limited liability company (“BV” and collectively with theHolding Company, LaBranche & Co. LLC, LFSI, LSP, LSPS and LABDR, the “Company”).The Holding Company is the sole member of LaBranche & Co. LLC, LSP andLSPS, the 100% stockholder of LFSI and LABDR, and the sole owner of BV.LaBranche & Co. LLC is a registered broker-dealer and operates primarily asa specialist in equity securities and rights listed on the New York StockExchange (the “NYSE”) and in equity securities on the American Stock Exchange(the “AMEX”). LFSI is a registered broker-dealer and a member of the NYSE andother exchanges, and provides securities clearing, securities execution andother related services to its own customers and customers of introducingbrokers. LFSI also provides direct-access floor brokerage services toinstitutional customers. LSP is a registered broker-dealer and operates as aspecialist in options, Exchange-Traded Funds (“ETFs”) and futures on the AMEX,the New York Board of Trade (“NYBOT”) and the Philadelphia Stock Exchange (“PHLX”),and as a market-marker in options, ETFs and futures on several exchanges. LSPS is aregistered broker-dealer and operates as a specialist in ETFs traded on theNYSE. LABDR providesdisaster recovery services and back-up facilities to other Holding Companysubsidiaries. BV represents LaBranche & Co. LLC in European markets andprovides client services to LaBranche & Co. LLC’s European listedcompanies.

 

## **2.**                                      SUMMARY OF SIGNIFICANT ACCOUNTINGPOLICIES

 

### ***Basis ofPresentation***

 

The preparation of consolidated financial statementsin conformity with U.S. generally accepted accounting principles requiresmanagement to make estimates and assumptions that affect the reported amountsof assets and liabilities at the date of the consolidated financial statementsand the reported amounts of revenues and expenses during the reporting period.Actual results could differ from these estimates. Certain prior period amountshave been reclassified to conform to the current period presentation.

 

The consolidated financial statements include theaccounts of the Holding Company and its wholly-owned and majority-ownedsubsidiaries. All significant inter-company balances and transactions have beeneliminated in consolidation.

 

### ***Cash andCash Equivalents***

 

Cash and cash equivalents include all demand depositsheld in banks and highly liquid investments with original maturities of 90 daysor less.

 

F-10

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### ***SecuritiesTransactions***

 

Principal securities transactions and the relatedgains and losses are recorded on a trade date basis. Customer securities transactionsare recorded on a settlement date basis and the related revenues and expensesare recorded on a trade date basis. Receivables from, and payables to,customers represent amounts due from or to customers of the Company inconnection with cash and margin securities transactions. Certain receivablesare collateralized by customers’ securities held by the Company and by otherbroker-dealers for delivery to the Company, the value of which is not reflectedin the accompanying consolidated financial statements. Corporate equities,options, ETFs, futures and other securities owned, and securities sold, but notyet purchased, are reflected at market value and unrealized gains and lossesare presented as a component of “Net gain on principal transactions.” U. S.Government obligations, which are reported under “Securities owned, at marketvalue” are reflected at market value.  U.S. Government obligations included under “Cash and cash equivalents,” togetherwith related interest receivable, which is reported under “Other assets,”approximate market value. Interest income related to U.S. Governmentobligations is included in “Revenues—other.” Dividend income and expense and Securities and Exchange Commission (“SEC”)fees, as well as gains and losses from the trading of foreign currencies, arealso presented as a component of “Net gain on principal transactions.” Dividendincome and expense are recognized on the record date, which does not differmaterially from the ex-date. In the normal course of business, the Company ispermitted to use client margin securities to finance customer securitiestransactions, subject to certain regulatory guidelines. The market value forthe equity securities, ETFs and future contracts is based on the closing priceposted on the primary exchange on which they are traded. The market value ofexchange-traded options is based on the national best bid/offer as determinedby the Company’s options clearing agents.

 

Investments in non-marketable securities consist ofinvestments in equity securities of private companies, limited liabilitycompany interests and limited partnership interests, and are included as partof “Other assets” on the consolidated statements of financial condition. Theseinvestments do not have readily available price quotations. Non-marketableinvestments are accounted for under the equity method, for those investments inwhich the Company’s voting interest is 20% to 50%, or at fair value.  In determining fair value, management of theCompany considers third-party transactions evidencing a change in value, thefinancial performance of the investee, or any specific rights associated withthe investment such as conversion features. Changes in fair value are recognized if the expected realizable value ofthe investment differs from its carrying value.

 

### ***CollateralizedFinancing Transactions***

 

Securities purchased and sold under agreements toresell and repurchase, as well as securities borrowed and loaned for which cashis deposited or received, are treated as collateralized financing transactionsand are recorded at contract amount plus accrued interest. It is the policy ofthe Company to obtain possession of collateral with market value equal to or inexcess of the principal amount loaned under resale agreements. Collateral isvalued daily, and the Company may require counterparties to deposit additionalcollateral when necessary. The market value of securities received forsecurities purchased under agreements to resell at December 31,

 

F-11

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2004 exceeded total cash paid. None of the securitiesreceived were subsequently repledged or resold.

 

### ***IntangibleAssets***

 

Intangible assets are comprised of the Company’sspecialist stock lists, trade name and goodwill acquired in connection withvarious acquisitions and the limited partner buyout that occurred in 1999concurrent with the Company’s reorganization from partnership to corporateform. For material acquisitions through March 2001, the allocations of purchaseprice to these assets and determinations of their respective useful lives werebased upon independent appraisals. The useful lives of the acquired specialiststock lists were determined based upon analysis of historical turnovercharacteristics of the specialist stocks comprising these lists. Foracquisitions subsequent to March 2001, the allocations of purchase price anddeterminations of useful lives were based upon management’s analysis ofrevenues, consideration paid, common stock listings and other relevant data andratios. This information was analyzed and compared to the results of theindependent appraisals conducted in connection with the acquisitions prior toApril 2001.

 

*Goodwill—*In accordance with SFAS No. 142, “Goodwilland Other Intangible Assets” (“SFAS No. 142”), goodwill is not amortized. SFASNo. 142 requires that goodwill be tested annually for impairment (or morefrequently when events or changes in circumstances indicate impairment testingmay be necessary) by applying a fair value-based test. This test involves thecomparison of the fair value of a reporting unit to its carrying value. If thecarrying value of the reporting unit exceeds its estimated fair value, there isan indication that goodwill might be impaired, which requires additionaltesting. This additional testing entails estimating the implied fair value ofreporting unit goodwill—through the use of discounted cash flows analysis andother measures—and comparing this implied fair value of reporting unit goodwillto its carrying value. Any excess of carrying value of reporting unit goodwillover its implied fair value is recognized as an impairment loss.  For the years ended December 31, 2004, 2003and 2002, the Company recorded goodwill impairment charges of $37.6 million,$170.3 million and $-0-, respectively (see Note 6).

 

*Trade Name**—***Under******SFAS No.142, the acquired trade name is not amortized. The Company tests its trade namefor impairment annually (or more frequently if events or changes incircumstances indicate that the asset might be impaired) in conjunction withits goodwill impairment assessment. If the carrying amount of the trade nameexceeds its fair value, an impairment loss is recognized in an amount equal tothat excess. As of December 31, 2004, the Company’s trade name was not impaired.

 

*Specialist Stock Lists**—***Acquiredspecialist stock lists are amortized over their respective useful lives. TheCompany assesses its specialist stock lists for possible impairment inaccordance with SFAS No. 144, “Accounting for the Impairment or Disposal ofLong-Lived Assets” (“SFAS No. 144”). Pursuant to SFAS No. 144, the Company evaluates its stock lists forpotential impairment whenever events or changes in circumstances indicate thattheir carrying amount may not be fully recoverable. An impairment loss,calculated as the difference between the estimated fair value and the carryingvalue of the stock lists, is recognized if the expected undiscounted cash flowsrelating to the stock lists are less than the corresponding carrying value.

 

F-12

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In conjunction with this evaluation, the Company alsoreviews the reasonableness of the specialist stock lists’ remaining usefullives. Any revisions to amortization periods are considered when developing theaforementioned undiscounted cash flows. As of December 31, 2004, the Company’sstock lists were not impaired.

 

### ***ExchangeMemberships***

 

In accordance with the American Institute of CertifiedPublic Accountants’ (“AICPA”) *Audit and AccountingGuide—Brokers and Dealers in Securities,* exchange memberships ownedby the Company are originally carried at cost or, if an other-than-temporaryimpairment in value has occurred, at adjusted cost, which reflects management’sestimate of fair value. In determining whether an other-than-temporary declinein value has occurred, the Company uses Emerging Issues Task Force (“EITF”)Issue No. 03-1, *The Meaning of Other-Than-Temporary Impairment andIts Application to Certain Investments,*and Section M of Topic 5 ofthe SEC staff accounting bulletin series (“SAB No. 59”) as analogous guidance. For the years ended December 31, 2004,2003 and 2002, the Company recognized impairment losses of $18.3 million, $0.5million and $-0-, respectively, on owned exchange memberships (see Note 5).

 

Certain employees of the Company have contributed theuse of nine memberships on the NYSE to the Company. These memberships aresubordinated to claims of general creditors and are carried at market valuewith a corresponding amount recorded as subordinated liabilities. The Companymakes lease payments to these employees for the use of the exchange membershipsat a rate that is commensurate with the rent paid to non-affiliated parties forthe use of their exchange memberships.

 

The Company leases additional memberships on the NYSE,the AMEX and the Chicago Board Options Exchange® (“CBOE”) from non-affiliatedparties and makes lease payments to these parties at prevailing market rates.

 

### ***IncomeTaxes***

 

TheCompany accounts for income taxes using the asset and liability method inaccordance with SFAS No. 109, “Accounting for Income Taxes.”  SFAS No. 109 requires the recognition of taxbenefits or expenses based on the estimated future tax effects of temporarydifferences between the financial statement and tax bases of an entity’s assetsand liabilities.  The effect on deferredtaxes of a change in tax rates is recognized as income in the period thatincludes the enactment date. Valuation allowances are established to reducedeferred tax assets to the amount that more likely than not will be realized.The Company’s deferred tax assets are presented as a component of “Other assets”in the consolidated statements of financial condition. Tax contingencies, and related employment taxcontingencies, are included under “Other liabilities” on the 2004 consolidatedstatement of financial condition. Contingentliabilities related to income taxes recorded when the criteria for lossrecognition under SFAS No. 5, “Accounting for Contingencies” are met.

 

### ***Depreciationand Amortization***

 

Depreciation of office equipment is calculated usingthe straight-line method over estimated useful lives of 5 years.  Amortization of leasehold improvements iscalculated using

 

F-13

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the lower of the estimated useful life of theleasehold improvement or the term of the related lease.  Estimated useful lives of leaseholdimprovements range from 1 to 5 years.

 

Acquired specialist stock lists are amortized overuseful lives ranging from 15 to 40 years.

 

***Stock-BasedCompensation***

 

Effective January 1, 2003, the Company began toaccount for stock-based employee compensation in accordance with theprospective method prescribed by SFAS No. 148, “Accounting for Stock-BasedCompensation-Transition and Disclosure, an Amendment of FASB Statement No. 123.”Under this method, compensation expense is recognized over the related serviceperiods based on the fair value, as of the date of grant, of stock options andrestricted stock units granted to employees on or after January 1, 2003. Suchstock options and restricted stock units are included in “Stockholders’ equity”under SFAS No. 148 when services required from employees in exchange for theawards are rendered and expensed.

 

Compensation expense resulting from stock-based awardsgranted for the year ended December 31, 2002 and prior years is accounted forunder the intrinsic value-based method prescribed by APB No. 25, “Accountingfor Stock Issued to Employees,” as permitted by SFAS No. 123, “Accountingfor Stock-Based Compensation”. In accordance with APB No. 25, nocompensation expense is recognized for stock options issued for years prior tofiscal 2003 that had no intrinsic value on the date of grant. In addition,compensation expense was not recognized for those stock options issued inconnection with the Company’s acquisition of ROBB PECK McCOOEY FinancialServices, Inc. (“RPM”) in March 2001 and were treated as part of the purchaseprice of RPM in accordance with the rules of purchase accounting.

 

Had the Company recognized compensation expense overthe relevant service period under the fair value-based method of SFASNo. 123 with respect to stock options granted for the year ended December31, 2002 and prior years, net income (loss) applicable to common stockholderswould have been reduced (or increased, where applicable), resulting in proforma net income (loss) applicable to common stockholders and earnings (loss)per share as presented below:

 
| ** **                                                                                                  | ** ** | **Years Ended December 31,** | ** ** |
|-------------------------------------------------------------------------------------------------------------|------------|------------------------------|------------|
| **(000’s omitted, except per  share data)**                                                            | ** ** | **2004**                     | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                                                                        |       |                         |       |   |   |   |   |
| Net income  (loss) applicable to common stockholders, as reported                                           |       | $                            | (46,033    | ) | $ | (183,403 | ) | $ | 80,285 |   |
| Add: Stock-based  compensation expense, net of related tax effects, included in reported net  income (loss) |       | 1,647                        |       | 1,788 |   | 1,631 |   |
| Less: Stock-based  compensation expense, net of related tax effect, determined under SFAS 123               |       | (6,908                       | )          | (8,913 | ) | (8,843 | ) |
| Pro forma net  income (loss) applicable to common stockholders                                              |       | (51,294                      | )          | (190,528 | ) | 73,073 |   |
|                                                                                                        |       |                         |       |   |   |   |   |
| Diluted earnings  (loss) per share, as reported                                                             |       | $                            | (0.77      | ) | $ | (3.08 | ) | $ | 1.34 |   |
| Diluted earnings  (loss) per share, pro forma                                                               |       | $                            | (0.86      | ) | $ | (3.20 | ) | $ | 1.22 |   |

 

F-14

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The effect of applying SFAS No. 123 in the pro formadisclosure above may not be representative of the potential effect stock-basedcompensation would have on net income (loss) in future periods.

 

### ***NewAccounting Pronouncements***

 

In December 2003, the FASB issued FIN 46(R), “Consolidationof Variable Interest Entities, An Interpretation of ARB No. 51.” FIN 46(R)requires a company to consolidate a variable interest entity (“VIE”) if thecompany has variable interests that give it a majority of the expected lossesor a majority of the expected residual returns, or both, of the entity. FIN46(R) was effective no later than the end of the first reporting period thatended after March 15, 2004. As of December 31, 2004 the Company has determinedthat none of its non-marketable investments are considered a VIE under theguidance provided in FIN 46(R), and therefore, the implementation of FIN 46(R)has had no impact on the Company’s consolidated financial statements.

 

In December 2004, the FASB issued a revision to SFASNo. 123, SFAS No. 123(R), “Share Based Payment.”SFAS No. 123(R) will require compensation costs related to share-basedpayment transactions to be recognized in the financial statements over theperiod that an employee provides service in exchange for the award. SFAS No.123(R) replaces SFAS No. 123 and supersedes APB No. 25. SFAS No. 123(R) will beeffective for the Company’s third quarter of fiscal 2005. Management iscurrently evaluating the effect of adoption of SFAS No. 123(R), but does notexpect adoption to have a material effect on the Company’s financial condition,results of operations or cash flows.

 

## **3.**                                      RECEIVABLE FROM AND PAYABLE TO BROKERS,DEALERS AND CLEARING ORGANIZATIONS

 

The balances presented as receivables from, andpayables to, brokers, dealers and clearing organizations consist of thefollowing: 

 
| ** **                                                    | ** ** | **December 31,** | ** ** |
|---------------------------------------------------------------|------------|------------------|------------|
| **(000’s omitted)**                                      | ** ** | **2004**         | ** ** | **2003** | ** ** |
|                                                          |       |             |       |   |   |
| Receivable from  brokers, dealers and clearing organizations: |       |             |       |   |   |
| Securities  borrowed                                          |       | $                | 56,327     |   | $ | 74,989 |   |
| Receivable from  clearing brokers and clearing organizations  |       | 76,656           |       | 34,714 |   |
| Securities  failed to deliver                                 |       | 15,542           |       | 24,967 |   |
| Other  receivables from brokers and dealers                   |       | 9,896            |       | 7,969 |   |
|                                                          |       | $                | 158,421    |   | $ | 142,639 |   |
|                                                          |       |             |       |   |   |
| Payable to  brokers and dealers:                              |       |             |       |   |   |
| Pending trades,  net                                          |       | $                | 30,295     |   | $ | 7,737 |   |
| Securities  failed to receive                                 |       | 6,502            |       | 12,637 |   |
| Securities  loaned                                            |       | 6,930            |       | — |   |
| Other payables  to brokers and dealers                        |       | 76,707           |       | 24,798 |   |
|                                                          |       | $                | 120,434    |   | $ | 45,172 |   |

 

F-15

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With respect to securitiesloaned, the Company receives collateral in the form of cash in an amount inexcess of the market value of such securities. If the Company’scounterparties to its securities loaned transactions have the right, bycontract or custom, to sell or re-pledge the Company’s pledged proprietarysecurities, then the Company will disclose these securities as “securitiespledged to counterparties” on the accompanying consolidated statement offinancial condition. As of December 31, 2004, there were no pledged proprietarysecurities related to the Company’s securities loaned transactions.

 

The Company monitors the marketvalue of securities borrowed and loaned on a daily basis, with additionalcollateral obtained or refunded as necessary.

 

## **4.**                                      NON-MARKETABLE SECURITIES

 

During 2004, theCompany recognized a gain of approximately $24.9 million related to the sale ofits principal non-marketable investment. Further consideration of approximately$9.5 million is being held in escrow to secure indemnification obligations ofthe former stockholders of the investee company and may be released in whole orin part 15 months after the acquisition was consummated, subject to the finaldetermination of any then-outstanding indemnification claims and any claimsregarding taxes. The indenture governing certain of the Company’s long termdebt provides certain requirements for use of the after-tax proceeds of thistransaction (see Note 9). At December 31, 2004 and 2003, non-marketablesecurities totaling $7.0 million and $20.8 million, respectively, are includedin “Other assets” on the consolidated statements of financial condition.

 

## **5.**                                      EXCHANGE MEMBERSHIPS

 

InJune 2004, the Company recognized a charge of approximately $18.3 millionto reflect management’s determination of an other-than-temporary impairment ofthe carrying value of the Company’s NYSE memberships, based on management’sestimate of their fair value. As part of its assessment of theother-than-temporary impairment of these assets, management of the Companyconsidered and evaluated various financial and economic factors directlyaffecting both the equity securities market as a whole and the specialistindustry in particular, including recent sale and lease prices of NYSEmemberships, historical trends of sales and lease prices of NYSE membershipsand their duration, the current condition of the NYSE market structure andlegal and regulatory developments affecting the NYSE market structure.

 

Of the total$18.3 million other-than-temporary impairment charge, approximately$16.3 million was attributed to the Company’s Specialist reporting unitand approximately $2.0 million was attributed to the Company’s Executionand Clearing reporting unit.

 

TheCompany previously recorded a $0.5 million other-than-temporary impairmentcharge in December 2003 relating to its Execution and Clearing reporting unit’sAMEX membership.

 

F-16

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**6.**                                      GOODWILL AND IDENTIFIABLE INTANGIBLEASSETS

 

*Goodwill*

* *

For the year ended December 31, 2004, the Companyrecognized a goodwill impairment charge of $37.6 million. This impairmentcharge was determined as part of the Company’s assessment of the reasonablenessof its goodwill carrying value during the third quarter of 2004. Although theCompany’s annual goodwill impairment testing date is December 31, managementundertook an interim review of the Company’s goodwill for impairment, asrequired by SFAS No. 142, due to changes in circumstances that managementbelieved would more likely than not reduce the fair value of goodwill below itscarrying amount. The factors management considered in deciding to assess thereasonableness of the carrying value of goodwill at September 30, 2004primarily related to the continued downward trend in principal trading revenuesat the Company’s Specialist reporting unit and the continued decline in theCompany’s stock price through the nine months ended September 30, 2004.Pursuant to SFAS No. 142, management subsequently updated its goodwillvaluation analysis through and including the Company’s annual impairmenttesting date, or December 31, 2004, and noted no indicators of further goodwillimpairment.

 

In testing for goodwill impairment, management firstdetermined the fair value of the Company’s equity by comparing the fair valueof the Company’s Specialist reporting unit to its carrying value. The primarymethods used to estimate the fair value of the Company’s equity included theuse of an independent appraisal, various cash flow estimates and relateddiscount rate assumptions, as well as the market capitalization of the Company.In its discounted cash flow analysis, the Company used certain estimates andassumptions to make financial projections, which incorporated the 2004operating results as the base year. Since the result of this first comparisonresulted in an excess of the Specialist reporting unit’s carrying value overits fair value, the Company then estimated the implied fair value of goodwillof its Specialist reporting unit and compared it to its carrying value. Impliedfair value of goodwill was determined by valuing all Specialist reporting unitassets and liabilities pursuant to the purchase accounting guidelinesprescribed by SFAS No. 141, “Business Combinations.” The $37.6 millionimpairment charge represents the excess of goodwill carrying value over itsimplied fair value.

 

As a result of the Company’s allocation of its fiscal2003 goodwill impairment charge (discussed below), no goodwill remained at theCompany’s Execution and Clearing reporting unit. Accordingly, the fiscal 2004goodwill impairment charge was attributed entirely to the Company’s Specialistreporting unit.

 

The $39.0 million decrease in net carrying value ofgoodwill from $289.6 million as of December 31, 2003 to $250.6 million as ofDecember 31, 2004 was due to the aforementioned $37.6 million impairment chargeand a $1.4 million tax benefit on stock-based compensation awarded inconnection with a prior acquisition.

 

For the year ended December 31, 2003, the Companyrecognized a goodwill  impairment chargeof approximately $170.3 million.  Themethods used by the Company in determining the fair value of its equity and inestimating the implied fair value of its goodwill during the year endedDecember 31, 2004 were consistent with those used during the year endedDecember 31, 2003. However, the Company’s 2003 goodwill valuation analysisincluded both reporting segments, Specialist and Execution and Clearing.

 

F-17

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Of the total fiscal 2003 $170.3 million goodwillimpairment charge, approximately $166.2 million was attributed to the Company’sSpecialist reporting unit and approximately $4.1 million was attributed to theCompany’s Execution and Clearing reporting unit.

 

The $181.0 million decrease in net carrying value ofgoodwill from $470.6 million as of December 31, 2002 to $289.6 million as ofDecember 31, 2003 was due primarily to the aforementioned $170.3 millionimpairment charge and a $10.7 million deferred tax liability effect.

 

*Identifiable Intangible Assets*

 

The Company’s acquired specialist stock lists areamortized over their respective lives ranging from 15 to 40 years, with aweighted-average amortization period of 39.6 years. The gross carrying amount,accumulated amortization and net carrying amount of acquired specialist stocklists are set forth below as of December 31:

 
| **(000’s omitted)**  | ** ** | **2004** | ** ** | **2003** | ** ** |
|---------------------------|------------|----------|------------|----------|------------|
|                      |       |     |       |     |       |
| Gross carrying  amount    |       | $        | 406,190    |     | $          | 406,190 |   |
| Accumulated  amortization |       | (44,986  | )          | (34,610  | )          |
| Net carrying  amount      |       | $        | 361,204    |     | $          | 371,580 |   |

 

Amortization expense was approximately $10.4 millionfor each of the years ended December 31, 2004, 2003 and 2002. Estimatedamortization expense for the existing specialist stock lists is $10.4 millionfor each of the fiscal years ending December 31, 2005 through December 31,2009.

 

## **7.**                                      INCOME TAXES

 

The components of the provision (benefit) for incometaxes reflected on the accompanying consolidated statements of operations areset forth below:

 
| ** **                                 | ** ** | **For the Years Ended December  31,** | ** ** |
|--------------------------------------------|------------|---------------------------------------|------------|
| **(000’s omitted)**                   | ** ** | **2004**                              | ** ** | **2003** | ** ** | **2002** | ** ** |
| Current income taxes:                      |       |                                  |       |   |   |   |   |
| Federal                                    |       | $                                     | 547        |   | $ | 10,904 |   | $ | 43,592 |   |
| Foreign, state and local                   |       | 322                                   |       | 6,418 |   | 23,572 |   |
| Total current                              |       | 869                                   |       | 17,322 |   | 67,164 |   |
|                                       |       |                                  |       |   |   |   |   |
| Deferred income taxes:                     |       |                                  |       |   |   |   |   |
| Federal                                    |       | (8,129                                | )          | (14,685 | ) | 7,615 |   |
| Foreign, state and local                   |       | (4,785                                | )          | (8,644 | ) | 4,119 |   |
| Total deferred                             |       | (12,914                               | )          | (23,329 | ) | 11,734 |   |
|                                       |       |                                  |       |   |   |   |   |
| Total provision (benefit) for income taxes |       | $                                     | (12,045    | ) | $ | (6,007 | ) | $ | 78,898 |   |

 

F-18

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Deferred tax assets andliabilities are determined based on the estimated future tax effects oftemporary differences between the financial statement and tax bases of assetsand liabilities. The following table presents the components of deferred taxasset and liability balances:

 
| ** **                                            | ** ** | **For the Years Ended December  31,** | ** ** |
|-------------------------------------------------------|------------|---------------------------------------|------------|
| **(000’s omitted)**                              | ** ** | **2004**                              | ** ** | **2003** | ** ** |
| **Deferred tax assets:**                              |       |                                  |       |   |   |
| Deferred compensation                                 |       | $                                     | 9,963      |   | $ | 15,627 |   |
| Restitution                                           |       | —                                |       | 18,738 |   |
| Acquisition intangibles and related goodwill          |       | 6,033                                 |       | 8,138 |   |
| NOL carryover                                         |       | 24,087                                |       | — |   |
| Other                                                 |       | 2,423                                 |       | 3,642 |   |
| Total deferred tax assets                             |       | $                                     | 42,506     |   | $ | 46,145 |   |
|                                                  |       |                                  |       |   |   |
| **Deferred tax liabilities:**                         |       |                                  |       |   |   |
| Acquisition intangibles (non-tax deductible)          |       | $                                     | 133,240    |   | $ | 144,288 |   |
| Acquisition intangibles and goodwill (tax deductible) |       | 17,113                                |       | 18,394 |   |
| Securities marked-to-market                           |       | 3,935                                 |       | 4,784 |   |
| Non marketable investment basis                       |       | 934                                   |       | 4,674 |   |
| Other                                                 |       | 1,072                                 |       | 706 |   |
| Total deferred tax liabilities                        |       | $                                     | 156,294    |   | $ | 172,846 |   |

 

The 2004 net decrease in deferred tax assets wasmainly attributable to the reduction of the deferred charges related to therestitution assessment by the SEC and NYSE, and the reduction of the deferredcompensation charges related to retention bonuses, which was partially offsetby the increase in deferred tax assets for the net operating loss carryover.There is no valuation allowance recorded against the deferred tax assets. Inassessing the realization of deferred tax assets, management considers whetherit is more likely than not that some portion or all of the deferred tax assetswill not be deductible. Based upon the Company’s level of historical taxableincome, future reversals of existing taxable differences and all otheravailable evidence, the deferred tax assets will more likely than not berealized.

 

The 2004 net decrease in deferred tax liabilities isdue primarily to the current year reduction of deferred tax liabilityrecognized for non-deductible acquisition intangibles and recognition of adeferred gain from the sale of a non-marketable investment.

 

The Company’s effective tax ratediffers from the Federal statutory rate primarily due to the nondeductibleamortization of intangible assets, nondeductible impairment of exchangememberships, nondeductible impairment of goodwill, nondeductible penalties andstate and local taxes. Areconciliation of the statutory U.S. Federal income tax rate of 35.0% to theCompany’s effective income tax rate is set forth below:

 
| ** **                                                            | ** ** | **For the Years Ended December  31,** | ** ** |
|-----------------------------------------------------------------------|------------|---------------------------------------|------------|
| ** **                                                            | ** ** | **2004**                              | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                                  |       |                                  |       |   |   |   |   |
| U.S. Federal income tax rate                                          |       | 35.0                                  | %          | 35.0 | % | 35.0 | % |
| Increase (decrease) in taxes related to:                              |       |                                  |       |   |   |   |   |
| State and local taxes                                                 |       | 4.0                                   |       | 0.8 |   | 11.1 |   |
| Nondeductible acquisition intangibles and related goodwill impairment |       | (20.8                                 | )          | (29.7 | ) | 2.5 |   |
| Nondeductible penalty expense                                         |       | —                                |       | (4.1 | ) | — |   |
| Other                                                                 |       | 3.6                                   |       | 1.2 |   | (1.1 | ) |
| Effective tax rate                                                    |       | 21.8                                  | %          | 3.2 | % | 47.5 | % |

 

F-19

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Tax benefits of approximately$1.2 million, $0.4 million and $6.6 million for the years ended December 31,2004, 2003 and 2002, respectively, were credited directly to goodwill oradditional paid-in capital in the accompanying consolidated statements offinancial condition and changes in stockholders’ equity.  These tax benefits related to the vesting ofrestricted stock units, shares of restricted stock and the exercise of stockoptions.

 

In 2004, the Holding Companygenerated a tax net operating loss of $52.5 million. At December 31, 2004, theHolding Company had available $52.5 million of tax losses that may becarried-back to 2002 and 2003 to apply against available taxable income forthose years, and any excess brought forward for 20 years until utilized. NewYork State and City, the principal state and local tax filing jurisdictions ofthe Holding Company, only allow a carryforward for 20 years.

 

As a result of the Company’sMarch 2001 acquisition of Internet Trading Technologies, Inc. (“ITTI”), netoperating loss (“NOL”) carryforwards totaled $1.6 million as of December 31,2004 and 2003.  The utilization of theseNOLs as a tax deduction is limited under Section 382 of the Internal RevenueCode to $0.2 million per year. The Company was not allowed to utilize any ITTINOLs in 2004 due to the overall tax net loss position of the Holding Company.These NOLs will begin to expire between 2019 and 2021.

 

## **8.**                                      CAPITAL AND NET LIQUID ASSET REQUIREMENTS

 

LaBranche & Co. LLC, as a specialist and member ofthe NYSE and AMEX, is subject to the provisions of SEC Rule 15c3-1 asadopted and administered by the SEC, NYSE, and AMEX.  LaBranche is required to maintain minimum netcapital, as defined, equivalent to the greater of $100,000 or 1/15of aggregate indebtedness, as defined.

 

As of December 31, 2004 and 2003, LaBranche &Co. LLC’s net capital, as defined under SEC Rule 15c3-1, was$455.1 million and $408.7 million, respectively, which exceededminimum requirements by $453.2 million and $403.1 million,respectively. LaBranche & Co. LLC’s aggregate indebtedness to net capitalratio was .06 to 1 and .21 to 1, as of December 31, 2004 and 2003,respectively.

 

The NYSE generally requires itsspecialist firms to maintain a minimum dollar regulatory capital amount inorder to establish that they can meet, with their own net liquid assets, theirposition requirement. Asof December 31, 2003, LaBranche & Co. LLC’s NYSE minimum required dollaramount of net liquid assets, as defined, was $446.0 million, compared to actualnet liquid assets, as defined, of $473.0 million. Due to the formation andcommencement of operations of LSPS in July 2004, LaBranche & Co. LLC’s andLSPS’ required combined dollar amount of net liquid assets, as defined, wasincreased to $447.0 million. LaBranche & Co. LLC’s actual net liquidassets, as defined, was $458.7 million as of December 31, 2004. LSPS is notrequired to perform a net liquid assets calculation because LaBranche & Co.LLC’s actual net liquid assets exceed the combined net liquid assetsrequirement of LaBranche & Co. LLC and LSPS.

 

F-20

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The AMEX generally requires its equity specialistfirms to maintain a cash or liquid asset position of the greater of (a) $1million or (b) an amount sufficient to assume a position of sixty trading unitsof each security in which the equity specialist firm is registered. As ofDecember 31, 2004, LaBranche & Co. LLC satisfied the AMEX equity specialistliquid asset requirements.

 

As a registered broker-dealer and member firm of theNYSE, LFSI is also subject to SEC Rule 15c3-1, as adopted and administered bythe SEC and the NYSE.  Under thealternative method permitted by this rule, the minimum required net capital isequal to the greater of $1.5 million or 2% of aggregate debit items, asdefined. As of December 31, 2004 and 2003, LFSI’s net capital, as defined, was$12.5 million and $14.4 million, respectively, which exceeded its minimumrequirements by $11.0 million and $12.9 million, respectively.

 

As a clearing broker-dealer,LFSI is subject to SEC Rule 15c3-3, as adopted and administered by the SEC. As ofJanuary 4, 2005, to comply with its December 31, 2004 requirement, cash andU.S. Treasury Bills in the amount of $0.1 million have been segregated in aspecial reserve account for the exclusive benefit of customers exceeding actualrequirements by $0.1 million. As of January 5, 2004, to comply with itsDecember 31, 2003 requirement, cash and U.S. Treasury Bills in the amount of$6.2 million were segregated in a special reserve account for the exclusivebenefit of customers exceeding actual requirements by $4.3 million. Inaddition, the PAIB Calculation is computed in order for correspondent firms toclassify their assets held by LFSI as allowable assets in the correspondents’net capital calculation.  As of January4, 2005, to comply with its December 31, 2004 requirement, cash and U.S.Treasury Bills in the amount of $4.4 million have been segregated in a specialreserve account for the exclusive benefit of customers exceeding actualrequirements by $3.4 million. As of January 5, 2004, to comply with its December 31, 2003requirement, cash and U.S. Treasury Bills in the amount of $3.7 million weresegregated in a special reserve account for the exclusive benefit of customers exceedingactual requirements by $1.5 million.

 

As a registered broker-dealer and AMEX member firm,LSP is subject to SEC Rule 15c3-1, as adopted and administered by the SEC andAMEX.  LSP is required to maintainminimum net capital, as defined, equivalent to the greater of $100,000 or 1/15of aggregate indebtedness, as defined. As of December 31, 2004 and 2003,LSP’s net capital, as defined, was $23.8 million and $32.8 million,respectively, which exceeded its minimum requirements by $23.2 million and$32.6 million, respectively.

 

LSPS, as a specialist and member of the NYSE, issubject to the provisions of SEC Rule 15c3-1, as adopted and administered bythe SEC and NYSE. LSPS is required to maintain minimum net capital, as defined,equivalent to the greater of $100,000 or 1/15 ofaggregate indebtedness, as defined. As of December 31, 2004, LSPS’ netcapital, as defined under SEC Rule 15c3-1, was $4.4 million, which exceeded itsminimum requirement by $4.3 million. LSPS’ aggregate indebtedness to netcapital ratio was .13 to 1 as of December 31, 2004.

 

F-21

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**9.**                                      SHORTTERM AND LONG TERM DEBT

** **

*Debt Extinguishment and Refinancing*

 

On May 18, 2004, inconnection with the refinancing of certain of the Company’s indebtedness, theCompany repurchased approximately $93.1 million of its then-outstanding$100.0 million aggregate principal amount 9.5% senior notes due 2004 (the “2004Notes”) and approximately $236.4 million of its then-outstanding$250.0 million aggregate principal amount 12.0% senior subordinated notesdue 2007 (the “2007 Notes” and, together with the 2004 Notes, the “Old Notes”),and paid for related consents delivered by the holders of the Old Notes on orprior to April 19, 2004. The aggregate purchase price paid by the Companyfor the Old Notes was approximately $386.9 million, which included thepurchase price, premium and consent payments of approximately$49.0 million in the aggregate, and accrued but unpaid interest on the OldNotes up to, but not including, the settlement date. Upon the completion ofthis debt repurchase and consent solicitation, the indentures governing theremaining outstanding Old Notes were stripped of substantially all restrictivecovenants, certain events of default and other related provisions. In August 2004,the Company repaid $6.9 million of the 2004 Notes that remained outstandingafter the refinancing. Accordingly, there are no 2004 Notes outstanding as of December 31,2004.

 

In order to fund therepurchase of the Old Notes and related consent solicitation, the Companyissued $460.0 million aggregate principal amount of new senior notes(collectively, the “Original Senior Notes”) to qualified institutional buyersin the United States pursuant to Rule 144A under the Securities Act of1933, as amended (the “Securities Act”), and outside the United States pursuantto Regulation S under the Securities Act. The Original Senior Notesconsisted of 9.5% Senior Notes due 2009 in the aggregate principal amount of$200.0 million (the “Original 2009 Notes”) and 11.0% Senior Notes due 2012in the aggregate principal amount of $260.0 million (the “Original 2012Notes”).

 

## **On September 10, 2004,pursuant to a registration rights agreement between the initial purchaser ofthe Original Senior Notes and the Company, the Company offered to exchange(i) its 9.5% Senior Notes due 2009 that have been registered under theSecurities Act (the “2009 Senior Notes”), for an equal principal amount ofoutstanding Original 2009 Notes and (ii) its 11.0% Senior Notes due 2012that have been registered under the Securities Act (the “2012 Senior Notes,”and together with the 2009 Senior Notes, the “Senior Notes”), for an equalprincipal amount of outstanding Original 2012 Notes.**

## ** **

The exchange offerexpired on October 22, 2004, with the holders of 98.5%, or $197.0 millionaggregate principal amount, of Original 2009 Notes having tendered theirOriginal 2009 Notes for exchange, and the holders of 100.0%, or $260.0 millionaggregate principal amount, of the Original 2012 Notes having tendered theirOriginal 2012 Notes for exchange. The new Senior Notes represent the sameindebtedness as the Original Senior Notes that were exchanged and have beenissued under the same indenture. All subsequent references to the term “2009Senior Notes” include the $3.0 million principal amount of Original 2009 Notesthat were not tendered in the exchange offer and remain outstanding.

 

The2009 Senior Notes and 2012 Senior Notes were issued pursuant to a new indenturethat is similar to the indentures that governed the Old Notes prior to theiramendment in connection with the May 2004 debt refinancing. The new indentureincludes certain covenants that, among other things, limit the Company’sability to make certain investments, engage in transactions with stockholdersand affiliates, create liens on the Company’s assets and sell assets or engagein mergers and consolidations, except in accordance with certain specifiedconditions.****

 

F-22

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In addition, the Company’s ability to incur additional indebtedness(other than certain “permitted indebtedness”), pay dividends, redeem stock orrepurchase subordinated indebtedness prior to maturity will be limited if theCompany’s consolidated fixed charge coverage ratio is at or below a thresholdof 2.00:1 on and after December 31, 2004. The “consolidated fixed chargecoverage ratio” reflects a comparison between (1) the Company’s consolidatedearnings before interest, taxes, depreciation and amortization expenses, or “EBITDA,”and (2) the sum of the Company’s consolidated interest expense and atax-effected multiple of any dividend payments that the Company might make withrespect to preferred stock. As of December 31, 2004, the Company’sconsolidated fixed charge coverage ratio was approximately 1.80:1.  The indenture governing the Senior Notesprovides for certain exceptions to the limitations on restricted payments,including, for example, the Company’s July 2004 repurchase of allthen-outstanding shares of its Series B preferred stock, repurchase of theCompany’s Senior Notes, and any “restricted payments” up to an aggregate of$15.0 million over the life of the indenture.

 

In addition, under theindenture governing the Senior Notes, if, at any time, the Company’s cumulative “restrictedpayments” since May 18, 2004 generally are greater than (i) the sum of (A)50.0% of the Company’s cumulativeconsolidated net income since July 1, 2004 (or, if such calculation is aloss, minus 100.0% of such loss), and (B) 100.0% of the net cash proceedsreceived from any issuance or sale of theCompany’s capital stock since July 1, 2004, plus (ii) $15.0million, the Company will not beentitled to make a “restricted payment” at such time.  While theCompany has not made any restricted payments since May 18, 2004, the Company cannot be sure if, when orto what extent this covenant will prevent theCompany from making restricted payments in the future.  As of December 31, 2004, since the Company’s cumulative consolidatednet income since July 1, 2004 was negative, the Company was not entitled to make any restricted payments inexcess of the $15.0 million “basket” described above.

 

Theindenture governing the Senior Notes permits the Company to redeem some or allof the 2009 Senior Notes on or after May 15, 2007 and some or all of the 2012Senior Notes on or after May 15, 2008 at varying redemption prices, dependingon the date of redemption. In addition, the Company has the option to redeem upto 33.0% of the aggregate principal amount of the 2009 Senior Notes at aredemption price of 109.5% and up to 33.0% of the aggregate principal amount ofthe 2012 Senior Notes at a redemption price of 111.0% using the proceeds ofcertain equity offerings which the Company may complete on or prior to May 15,2007.  Under the terms of the indenture,if the Company sells substantially all of its assets or experiences specifickinds of changes in control, the Company will be required to offer torepurchase Senior Notes, on a pro rata basis, at a price in cash equal to101.0% of their principal amount, plus accrued and unpaid interest, if any, tothe date of purchase.

 

Tothe extent the Company does not use the net after-tax proceeds from the sale ofits principal non-marketable investment (see Note 4) to repurchase certain ofthe Company’s secured indebtedness, repay the indebtedness of its subsidiariesor purchase “replacement assets,” the Company will be required, on the 361stday following the closing of this sale transaction, to offer to purchase SeniorNotes in an aggregate principal amount equal to such net after-tax proceeds ata price equal to 100.0% of the principal amount of such Senior Notes.

 

On November 1, 2004, the Companycommenced an “excess proceeds offer,” as defined, to purchase Senior Notes inthe aggregate principal amount of up to approximately $18.2 million. 

 

F-23

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On December 1, 2004, this excess proceeds offer expired withapproximately $0.1 million principal amount, including accrued and unpaidinterest, of 2009 Senior Notes having been tendered.

 

The Company’s short term and long term debtas of December 31, 2004 and 2003 are as follows:

 

*Short Term Debt*

 

As of December 31,2004, the Holding Company was obligated under a promissory note for $2.0million assumed in connection with the RPM acquisition, which was issued to afamily member of a former employee of RPM (the “Promissory Note”). In June 2004,the Promissory Note was extended for an additional year by the issuer. Thisnote bore interest at 12.5% per year until June 14, 2003, and bearsinterest at 8.0% per year through June 14, 2005, its maturity date. Forthe years ended December 31, 2004, 2003 and 2002, interest expense relatedto the Promissory Note totaled $0.2 million, $0.2 million and $0.3 million,respectively.

 

As of December 31,2003, short term debt was comprised of (a) $100.0 million in aggregateprincipal amount of then-outstanding 2004 Notes, the carrying value of whichwas approximately $100.0 million, and (b) the Promissory Note. In connectionwith the Company’s May 2004 debt refinancing, $0.1 million of the $0.2 millionoriginal discount and the $2.7 million debt issuance cost on the 2004 Noteswere accelerated to interest expense. For the years ended December 31,2004, 2003 and 2002, interest expense related to the 2004 Notes was approximately$4.2 million, $10.1 million and $10.1 million, respectively.

 

*Long TermDebt*

 

As of December 31, 2004, long term debtwas comprised of (a) $459.9 million aggregate principal amount of Senior Notes,consisting of the 2009 Senior Notes and the 2012 Senior Notes, (b) $13.6million aggregate principal amount of remaining 2007 Notes, the carrying valueof which is approximately $13.5 million, and (c) an $8.0 million promissorynote (this indebtedness accrued interest at the rate of 10.0% per year until August 7,2003 and thereafter accrues interest at a rate of 9.0% per year, payablesemiannually, and matures on August 7, 2007). Debt issuance costs,totaling approximately $5.5 million for the 2009 Senior Notes and approximately$7.2 million for the 2012 Senior Notes, incurred as a result of the offering ofthe Senior Notes are being amortized over the life of the Senior Notes as anadjustment to interest expense. For the year ended December 31, 2004,interest expense related to the Senior Notes totaled $30.3 million. For theyears ended December 31, 2004, 2003 and 2002, interest expense related tothe $8.0 million promissory note totaled $0.7 million, $0.8 million and $0.3million, respectively.

 

As of December 31, 2003, long term debtwas comprised of (a) $250.0 million aggregate principal amount of 2007 Notes,the carrying value of which was approximately $247.6 million, and (b) theaforementioned $8.0 million promissory note. In connection with the debt refinancingdescribed above, approximately $2.0 million of the $4.3 million originaldiscount on the 2007 Notes and approximately $3.3 million of the $6.9 milliondebt issuance cost on the 2007 Notes were accelerated to interest expense. Foreach of the years ended December 31, 2004, 

 

F-24

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2003 and 2002, interest expense related to the 2007 Notes wasapproximately $18.5 million, $31.5 million and $31.3 million, respectively.

 

Principal maturities oflong term debt as of December 31, 2004 are as follows:

 
| **(000’s omitted)**          | ** ** | ** ** | ** ** |
|-----------------------------------|------------|------------|------------|
| **Year Ending December 31,** | ** ** | **Amount** | ** ** |
| 2005                              |       | $          | —     |   |
| 2006                              |       | —     |       |
| 2007                              |       | 21,642     |       |
| 2008                              |       | —     |       |
| 2009                              |       | 199,900    |       |
| Thereafter                        |       | 260,000    |       |
| **Total**                         |       | $          | 481,542    |   |

 

In October 2004,LaBranche & Co. LLC extended its $200.0 million committed line of creditagreement with a bank to October 29, 2005 on the same terms andconditions. The committed line of credit, which is available to financeLaBranche & Co. LLC’s specialist activities, may be extended by LaBranche& Co. LLC—subject to the bank’s approval—for additional one-year terms bygiving written notice to the bank at least 30 days prior to the then-currentscheduled termination date. Amounts outstanding under this credit agreementwould be secured by LaBranche & Co. LLC’s inventory of specialist stocks andwould bear interest at the bank’s broker loan rate. In order to maintain theavailability of funds under this credit facility, LaBranche & Co. LLC mustcomply with certain financial and other covenants.  LaBranche & Co. LLC is currently incompliance with these covenants.

 

## **10.**                               SUBORDINATEDLIABILITIES

## ** **

LaBranche & Co. LLCis a party to subordinated loan agreements under which it has incurredindebtedness approved by the NYSE for inclusion as net capital, as defined.Interest is payable quarterly at various annual rates. Three agreementsrepresenting approximately $1.9 million mature within the first six months of2005, four agreements representing approximately $2.3 million mature within thelast six months of 2005, and three agreements representing $1.1 million maturewithin the first six months of 2006. These subordinated loans, which bearinterest at an annual rate of 10.0%, all have automatic rollover provisions,and each scheduled maturity date will be extended an additional year, unlessthe lender gives LaBranche & Co. LLC seven months advance notice that thematurity date will not be extended. As of December 31, 2004, threeagreements representing $1.9 million have not been extended and will be paidout within the first six months of 2005. LaBranche & Co. LLC is entitled to prepay these subordinated loanswithout penalty under the terms of the agreements relating thereto. Interestexpense incurred on these and other similar subordinated loan agreements whichhave been repaid was approximately $0.5 million for each of the years ended December 31,2004, 2003 and 2002.

 

In 1998, LaBranche &Co. LLC issued five subordinated notes representing aggregate indebtedness of$15.0 million, which mature in equal installments of $3.0 million payable on June 3,2004, 2005, 2006, 2007 and 2008, and bear interest at an annual rate of 7.7%,payable on a quarterly basis. On June 3, 2004, LaBranche & Co. LLCrepaid $3.0 million of these 

 

F-25

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subordinatednotes. As of December 31, 2004, $12.0 million remained outstanding underthese subordinated notes, which are senior to all other subordinated notes ofLaBranche & Co. LLC. The agreements covering these subordinated notesrequire LaBranche & Co. LLC to comply with certain covenants that, amongother things, restrict the type of business in which LaBranche & Co. LLCmay engage, set certain net capital levels and prohibit restricted payments, asdefined. Interest expense incurred on these subordinated notes for the yearsended December 31, 2004, 2003 and 2002 was approximately $1.0 million,$1.2 million and $1.2 million, respectively.

 

**11.****                               STOCKHOLDERS’EQUITY**

 

On January 21, 2004,the Company completed an exchange offer pursuant to an exemption fromregistration underSection 3(a)(9) of the Securities Act of 1933, as amended, pursuant towhich the Company exchanged one share of a newly-created Series B preferredstock for each share of its then-issued and outstanding Series A preferredstock. In the exchange offer, all of the approximately 39,186 shares of SeriesA preferred stock were exchanged by the fourteen holders of record for sharesof the Company’s Series B preferred stock. Issuance of the newly-created shares of Series B preferred stock wascontingent upon the tender for exchange of 100% of the then-issued andoutstanding shares of Series A preferred stock.

 

On June 14, 2004,the Company commenced an offer to purchase any and all of the approximately39,186 then-outstanding shares of its Series B preferred stock.  On July 12, 2004, the offer expired with100% of the then-outstanding shares of Series B preferred stock having beentendered.  On July 13, 2004, theCompany purchased all of the tendered shares at a price of $1,000 per share,plus accrued and unpaid dividends up to, but not including, the date ofpurchase for approximately $42.6 million and all then-outstanding shares of theCompany’s Series B preferred stock were retired. As a result of the purchase,the Company recorded an expense in the third quarter of 2004 of approximately$0.5 million due to the acceleration of the discount accretion on the sharesthat were purchased.

 

Of the approximately39,186 then-outstanding shares of the Company’s Series B preferred stock,approximately 9,760 shares had been held in escrow in order to secure theindemnification obligations of the former stockholders of RPM in connectionwith the Company’s acquisition of RPM in March 2001. In connection withthe completion of the offer to purchase all then-outstanding shares of the Company’sSeries B preferred stock, this escrow arrangement was terminated in order tofacilitate the Company’s objective of repurchasing and retiring all of itsshares of Series B preferred stock without forfeiting any material right toindemnification under the merger agreement governing its acquisition of RPM.

 

For the years ended December 31,2004, 2003 and 2002, dividends declared per common share were $-0-, $0.24 and$-0-, respectively. In October 2003, the board of directors suspendedindefinitely the payment of dividends.

 

## **12.**                               EARNINGS(LOSS) PER SHARE

 

The computations of basicand diluted earnings (loss) per share are set forth below: 

 

F-26

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| ** **                                                                                                             | ** ** | **Years Ended December 31,** | ** ** |
|------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------------|------------|
| **(000’s omitted, except per share data)**                                                                        | ** ** | **2004**                          | ** ** | **2003** | ** ** | **2002** | ** ** |
| Net income  (loss)                                                                                                     |       | $                                 | (43,780    | ) | $ | (179,389 | ) | $ | 87,226 |   |
|                                                                                                                   |       |                              |       |   |   |   |   |   |   |   |
| Less:  preferred dividends and discount accretion                                                                      |       | 2,253                             |       | 4,014 |   | 6,941 |   |
| Numerator  for basic and diluted earnings (loss) per share – net income (loss) applicable  to common stockholders |       | $                                 | (46,033    | ) | $ | (183,403 | ) | $ | 80,285 |   |
| Denominator  for basic earnings (loss) per share – weighted-average number of common  shares outstanding          |       | 59,905                            |       | 59,614 |   | 58,992 |   |
| Dilutive  shares:                                                                                                      |       |                              |       |   |   |   |   |
| Stock  options                                                                                                         |       | —                            |       | — |   | 681 |   |
| Restricted  stock                                                                                                      |       | —                            |       | — |   | — |   |
| Restricted  stock units                                                                                                |       | —                            |       | 3⁄4 |   | 266 |   |
| Denominator  for diluted earnings (loss) per share – weighted-average number of common  shares outstanding        |       | 59,905                            |       | 59,614 |   | 59,939 |   |
| Basic  earnings (loss) per share                                                                                       |       | $                                 | (0.77      | ) | $ | (3.08 | ) | $ | 1.36 |   |
| Diluted  earnings (loss) per share                                                                                     |       | $                                 | (0.77      | ) | $ | (3.08 | ) | $ | 1.34 |   |

 

The exerciseprices for options to purchase an aggregate of 1,807,500 shares of common stockexceeded the average market price of the Company’s common stock for the yearended December 31, 2002. In addition, potential common shares relating torestricted stock and restricted stock units whose fair value was below theaverage market price of the Company’s common stock for the year ended December 31,2002 totaled 278,141. Accordingly, the above calculations of diluted earnings(loss) per share do not include the antidilutive effect of these stock-basedawards. Potential common shares relating to options totaling 2,319,167 and3,626,891 for the years ended December 31, 2004 and 2003, respectively,and to restricted stock and restricted stock units totaling 574,353 and 295,945for the years ended December 31, 2004 and 2003, respectively, wereexcluded from the diluted loss per share calculation for the years ended December 31,2004 and 2003 because their effect was antidilutive.

 

## **13.**                               ACQUISITIONS

## ** **

Effective October 24,2002, the Holding Company acquired all the outstanding stock of Hochstin &Company, Inc. (“Hochstin”), which conducted a rights specialist and floorbrokerage business on the NYSE, for $7.8 million in cash, of which $3.6 millionwas paid at the closing and the remainder is to be, or was, paid by the HoldingCompany as follows: (a) $1.0 million on each of October 24, 2003, 2004 and2005, and (b) $1.2 million on October 24, 2007, although the final paymentmay be reduced to $200,000 if the employment with LFSI of a certain formeremployee of Hochstin is either terminated for cause by LFSI or is terminatedvoluntarily by such employee prior to October 24, 2007. The acquisitionwas accounted for under the purchase method of accounting. The excess ofpurchase price over fair value of net tangible assets of approximately $4.6million was allocated to goodwill. The results of operations formerly conductedby Hochstin have been included in the Company’s consolidated financialstatements since October 24, 2002.

 

**On April 22,2003, LSP formed an options specialist joint account on the AMEX (the “JointAccount”) with Botta Capital Management, LLC (“Botta”).  LSP contributed $1.5 million**

** **

**F-27**

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** **

**of capital for the operation of theJoint Account and manages the Joint Account’s business on the trading floor ofthe AMEX.  Botta contributed its right toact as specialist in certain AMEX option listings.  Annual net profits of the Joint Accountgenerated from specialist activities in the Joint Account’s AMEX listed optionsare shared by LSP and Botta on a 66%/34% basis, respectively, and LSP bears100% of any annual net losses. After the fourth anniversary of the formation ofthe Joint Account, Botta will no longer have any interest in the Joint Accountor the AMEX option listings it contributed to the Joint Account.  The results of the Joint Account have been includedin the Company’s consolidated financial statements since April 22, 2003.Botta’s share of the net assets and net income of the Joint Account areclassified as minority interest on the accompanying 2004 and 2003 consolidatedstatements of financial condition and statements of operations.**

** **

## **14.**                               EMPLOYEEINCENTIVE PLANS

## ** **

### *Equity Incentive Plan*

### * *

The Company sponsors anEquity Incentive Plan (“EIP”) which provides for grants of incentive stockoptions, nonqualified stock options, restricted shares of common stock,restricted stock units, unrestricted shares and stock appreciation rights. TheCompany has a total of 7,687,500 shares of common stock reserved for issuanceunder the EIP, of which 3,550,524 shares remain available for issuance as of December 31,2004. The maximum number of shares of common stock with respect to whichoptions, restricted stock, restricted stock units or other equity-based awardsmay be granted under the EIP during any calendar year to any employee may notexceed 500,000 shares, subject to adjustment upon certain corporatetransactions.

 

### *Restricted Stock and Restricted Stock Units*

### * *

The Company has grantedrestricted stock units (“RSUs”) to employees in connection with its initialpublic offering and subsequently as stock-based compensation. The Company hasgranted restricted stock (“RS”) as part of employment contracts and inconnection with certain acquisitions. In general, both the restricted stockunits and the restricted stock awards vest in one to five annual installmentson the anniversary of the date of grant. Compensation expense for all of theseRS and RSU awards is recognized on a straight-line basis over the respectivevesting periods.  In addition, all ofthese awards are subject to the employees’ continuing service with the Companyand other restrictions. For the years ended December 31, 2004, 2003 and2002, the Company recorded compensation expense related to these awards, net offorfeitures, and a credit to additional paid-in-capital, of $3.1 million, $3.4million and $3.1 million, respectively.

 

The following tableprovides information about grants of RS and RSUs:

 
| ** **                                            | ** ** | **Number of Shares** | ** ** |
|-------------------------------------------------------|------------|----------------------|------------|
| RS and RSUs  Outstanding as of December 31, 2001 |       | 1,026,214            |       |
| Granted                                               |       | 20,000               |       |
| Vested                                                |       | (308,436             | )          |
| Forfeited                                             |       | (193,660             | )          |
| RS and RSUs  Outstanding as of December 31, 2002 |       | 544,118              |       |
| Granted                                               |       | 46,000               |       |
| Vested                                                |       | (289,833             | )          |
| Forfeited                                             |       | (4,340               | )          |
| RS and RSUs  Outstanding as of December 31, 2003 |       | 295,945              |       |
| Granted                                               |       | 600,000              |       |
| Vested                                                |       | (236,082             | )          |
| Forfeited                                             |       | (85,510              | )          |
| RS and RSUs  Outstanding as of December 31, 2004 |       | 574,353              |       |

 

F-28

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*StockOptions*

 

In general, most of thestock options granted to employees as stock-based compensation vest and becomeexercisable in annual installments over three years. Options granted as part ofpurchase accounting acquisitions were fully vested and exercisable on the grantdate. Pursuant to APB No. 25, no compensation expense was recognized forany of these option grants since, on the date of grant, these options had nointrinsic value. In addition, these option grants will generally expire tenyears from the date of grant, unless sooner terminated or exercised.

 

The following tableprovides information about options to purchase the Company’s common stock:

 
| ** **                                        | ** ** | **Number of Shares** | ** ** | **Weighted   Average Exercise Price per Share** | ** ** |
|---------------------------------------------------|------------|----------------------|------------|-------------------------------------------------|------------|
| Options  Outstanding as of December 31, 2001 |       | 2,833,559            |       | $                                               | 13.90      |   |
| Options  Granted                                  |       | 1,545,000            |       | 34.64                                           |       |
| Options  Exercised                                |       | (705,890             | )          | 12.03                                           |       |
| Options  Forfeited                                |       | —               |       | —                                          |       |
| Options  Outstanding as of December 31, 2002 |       | 3,672,669            |       | 22.98                                           |       |
| Options  Granted                                  |       | —               |       | —                                          |       |
| Options  Exercised                                |       | (15,778              | )          | 13.67                                           |       |
| Options  Forfeited                                |       | (30,000              | )          | 35.00                                           |       |
| Options  Outstanding as of December 31, 2003 |       | 3,626,891            |       | 22.92                                           |       |
| Options  Granted                                  |       | —               |       | —                                          |       |
| Options  Exercised                                |       | (493,890             | )          | 2.78                                            |       |
| Options  Forfeited                                |       | (813,834             | )          | 26.44                                           |       |
| Options  Outstanding as of December 31, 2004 |       | 2,319,167            |       | $                                               | 25.97      |   |
|                                              |       |                 |       |                                            |       |
| Options  Exercisable as of:                       |       |                 |       |                                            |       |
| December 31,  2002                           |       | 1,977,669            |       | $                                               | 12.42      |   |
| December 31,  2003                           |       | 2,074,391            |       | 13.76                                           |       |
| December 31,  2004                           |       | 1,632,500            |       | $                                               | 22.18      |   |

 

The following tablesummarizes information about stock options outstanding as of December 31,2004:

 
| ** **                    | ** ** | **Options Outstanding** | ** ** | **Options Exercisable**                             | ** ** |
|-------------------------------|------------|-------------------------|------------|-----------------------------------------------------|------------|
| **Range of  Exercise Prices** | ** ** | **Number  Outstanding** | ** ** | **Weighted   Average  Remaining  Contractual Life** | ** ** | **Weighted   Average   Exercise Price  per Share** | ** ** | **Number  Exercisable** | ** ** | **Weighted   Average   Exercise Price** | ** ** |
| $11.00 – $20.99          |       | 1,014,167               |       | 4.92                                                |       | $ | 13.93 |   | 1,014,167 |   | $ | 13.93 |   |
|   21.00 – 30.99     |       | 75,000                  |       | 7.82                                                |       | 27.50 |   | 75,000 |   | 27.50 |   |
| $31.00 – $40.99          |       | 1,230,000               |       | 6.89                                                |       | $ | 35.81 |   | 543,333 |   | $ | 36.84 |   |
|                          |       | 2,319,167               |       |                                                |       |   |   | 1,632,500 |   |   |   |

 

F-29

----

 

*SeniorExecutive Bonus Plan*

 

The Senior ExecutiveBonus Plan, adopted in May 2003, is intended to provide for the payment to theCompany’s Chief Executive Officer and next four most highly compensatedexecutive officers of bonuses which are exempt from the $1.0 million deductionlimitation imposed by Section 162(m) of the Internal Revenue Code of 1986,as amended. Bonuses are payable in cash and/or equity-based awards under theCompany’s EIP. For the years ended December 31, 2004 and 2003, no bonuseswere paid under this plan. However, for the year ended December 31, 2004,these executive officers were awarded cash bonuses totaling approximately $1.9million.

 

## **15.**                               RETIREMENTPLAN

## ** **

The Company has a definedcontribution retirement plan (the “Plan”) that is subject to the provisions ofthe Employee Retirement Income Security Act of 1974 (“ERISA”).

 

All employees areeligible to participate in the Plan after they have completed three months ofservice. Participants are entitled to contribute voluntarily in an amount equalto not less than 1% and not more than 60% of their annual pre-tax compensation,up to the maximum amount permitted under Internal Revenue Service (“IRS”)regulations for the applicable Plan year. The Company, acting in its solediscretion, can declare and make employer matching contributions and additionalvoluntary contributions for all eligible employees who have completed one yearof service, and/or have been credited with 1,000 hours of service. During theyears ended December 31, 2004, 2003 and 2002, the Company contributedapproximately $1.1 million, $1.0 million and $1.2, respectively, as employermatching contributions to the Plan, and approximately $4.2 million in 2002 asadditional voluntary contributions. There were no additional voluntarycontributions in 2004 or 2003.

 

## **16.**                               DISCLOSURESABOUT FAIR VALUE OF FINANCIAL INSTRUMENTS

## ** **

Substantially all theCompany’s assets and liabilities are carried at fair value or contractedamounts, which approximate fair value. The fair value of fixed rate debt, inmillions, is as follows**:**

 
| ** **        | ** ** | **December 31, 2004** | ** ** | **December 31, 2003** | ** ** |
|-------------------|------------|----------------------------|------------|----------------------------|------------|
| ** **        | ** ** | **Carrying Value**         | ** ** | **Fair Value**             | ** ** | **Carrying Value** | ** ** | **Fair Value** | ** ** |
| ** **        | ** ** | ** **                 | ** ** | ** **                 | ** ** | ** ** | ** ** | ** ** | ** ** |
| 2004 Notes        |       | $                          | —     |                       | $          | — |   | $ | 100.0 |   | $ | 101.0 |   |
| 2007 Notes        |       | 13.6                       |       | 14.6                       |       | 247.6 |   | 250.0 |   |
| 2009 Senior Notes |       | 199.9                      |       | 202.9                      |       | — |   | — |   |
| 2012 Senior Notes |       | 260.0                      |       | 276.9                      |       | — |   | — |   |
| Other             |       | $                          | 27.3       |                       | $          | 27.4 |   | $ | 30.3 |   | $ | 33.1 |   |

 

F-30

----

 

For 2004, the fair valueof the 2007 Notes was determined using current market rates to discount theircash flow as of December 31, 2004, and the fair values of the 2009 SeniorNotes and 2012 Senior Notes were determined based upon their respective marketvalues as of December 31, 2004. For 2003, the fair values of the 2004Notes and 2007 Notes were determined based upon their respective market valuesas of December 31, 2003. For both fiscal years, the fair value of thefixed rate and other notes was determined using current market rates todiscount their cash flows.

 

**17.**                               BUSINESSSEGMENTS

** **

Segment information ispresented in accordance with SFAS No. 131, “Disclosures About Segments of anEnterprise and Related Information.” The Company’s business segments are basedupon the nature of the financial services provided, their revenue source andthe Company’s management organization.

 

The Company’s Specialistsegment operates as a specialist in equities and rights listed on the NYSE, asa specialist in equities, options, ETFs, and futures on several exchanges, aswell as a market-maker in ETFs, futures and options on several exchanges.  This segment also provides support servicesfor the NYSE specialist activities.  TheSpecialist segment currently includes the operations of LaBranche & Co.LLC, LSP, LSPS, LABDR and BV since they share similar economic characteristics.

 

The Company’s Executionand Clearing segment provides securities execution, securities clearing andother related services to its own customers and customers of introducingbrokers. This segment also provides direct-access floor brokerage services toinstitutional customers. The Execution and Clearing segment currently includesthe operations of LFSI.

 

Revenues and expensesdirectly associated with each segment are included in determining its operatingresults. Other expenses, including corporate overhead, which are not directlyattributable to a particular segment, generally are allocated to each segmentbased on its resource usage levels or other appropriate measures. Interest withrespect to the Senior Notes, certain administrative expenses, corporateoverhead expenses and other sources of revenues are not specifically allocatedby management when reviewing the Company’s segments’ performance, and appear inthe “Other” section. Selected financial information for each segment is setforth below:

 

F-31

----

 
| ** **                                        | ** ** | **For the Years Ended December 31,** | ** ** |
|---------------------------------------------------|------------|-------------------------------------------|------------|
| **(000’s omitted):**                         | ** ** | **2004**                                  | ** ** | **2003** | ** ** | **2002** | ** ** |
| **Specialist  Segment:**                          |       |                                      |       |   |   |   |   |
| Revenues                                          |       | $                                         | 245,023    |   | $ | 256,583 |   | $ | 401,169 |   |
| Operating  expenses                               |       | 137,150                                   |       | 133,016 |   | 164,367 |   |
| Goodwill  impairment                              |       | 37,600                                    |       | 166,250 |   | 3⁄4 |   |
| Exchange  memberships impairment                  |       | 16,300                                    |       | 3⁄4 |   | 3⁄4 |   |
| Restitution  and fines                            |       | 3⁄4                                    |       | 63,519 |   | 3⁄4 |   |
| Depreciation  and amortization expense            |       | 11,649                                    |       | 11,715 |   | 12,337 |   |
| Income  (loss) before minority interest and taxes |       | 42,324                                    |       | (117,917 | ) | 224,465 |   |
| Segment  goodwill                                 |       | 250,569                                   |       | 289,593 |   | 466,546 |   |
| Segment  assets                                   |       | $                                         | 1,849,108  |   | $ | 1,785,098 |   | $ | 1,726,935 |   |
|                                              |       |                                      |       |   |   |   |   |
| **Execution  and Clearing Segment:**              |       |                                      |       |   |   |   |   |
| Revenues                                          |       | $                                         | 48,016     |   | $ | 47,909 |   | $ | 44,565 |   |
| Operating  expenses                               |       | 52,357                                    |       | 56,285 |   | 53,297 |   |
| Goodwill  impairment                              |       | 3⁄4                                    |       | 4,052 |   | 3⁄4 |   |
| Exchange  memberships impairment                  |       | 2,027                                     |       | 515 |   | 3⁄4 |   |
| Depreciation  and amortization expense            |       | 470                                       |       | 1,008 |   | 1,093 |   |
| Loss before  minority interest and taxes          |       | $                                         | (6,838     | ) | $ | (13,951 | ) | $ | (9,825 | ) |
| Segment  goodwill                                 |       | 3⁄4                                    |       | 3⁄4 |   | 4,052 |   |
| Segment  assets                                   |       | $                                         | 54,724     |   | $ | 59,927 |   | $ | 88,666 |   |
|                                              |       |                                      |       |   |   |   |   |
| **Other  (1):**                                   |       |                                      |       |   |   |   |   |
| Revenues                                          |       | $                                         | 26,008     |   | $ | 1,497 |   | $ | 7,111 |   |
| Operating  expenses                               |       | 67,832                                    |       | 54,623 |   | 55,611 |   |
| Debt  repurchase premium                          |       | 49,029                                    |       | 3⁄4 |   | 3⁄4 |   |
| Depreciation  and amortization expense            |       | 102                                       |       | 80 |   | 16 |   |
| Loss before  minority interest and taxes          |       | (90,955                                   | )          | (53,206 | ) | (48,516 | ) |
|                                              |       |                                      |       |   |   |   |   |
| Segment  assets                                   |       | $                                         | 151,265    |   | $ | 118,065 |   | $ | 97,201 |   |
|                                              |       |                                      |       |   |   |   |   |
| **Total:**                                        |       |                                      |       |   |   |   |   |
| Revenues                                          |       | $                                         | 319,047    |   | $ | 305,989 |   | $ | 452,845 |   |
| Operating  expenses                               |       | 257,339                                   |       | 243,924 |   | 273,275 |   |
| Goodwill  impairment                              |       | 37,600                                    |       | 170,302 |   | 3⁄4 |   |
| Exchange  memberships impairment                  |       | 18,327                                    |       | 515 |   | 3⁄4 |   |
| Debt  repurchase premium                          |       | 49,029                                    |       | 3⁄4 |   | 3⁄4 |   |
| Restitution  and fines                            |       | 3⁄4                                    |       | 63,519 |   | 3⁄4 |   |
| Depreciation  and amortization expense            |       | 12,221                                    |       | 12,803 |   | 13,446 |   |
| Income  (loss) before minority interest and taxes |       | $                                         | (55,469    | ) | $ | (185,074 | ) | $ | 166,124 |   |
| Goodwill                                          |       | 250,569                                   |       | 289,593 |   | 470,598 |   |
| Total assets                                      |       | $                                         | 2,055,097  |   | $ | 1,963,090 |   | $ | 1,912,802 |   |

 

----

(1)                                  Otheris comprised primarily of the interest on the Holding Company’s indebtedness,unallocated corporate administrative expenses, including legal costs,unallocated revenues (primarily gains from non-marketable investments andinterest income), and elimination entries.

 

## **18.**                               FINANCIALINSTRUMENTS WITH CONCENTRATION OF CREDIT AND OFF-BALANCE SHEET RISK

## ** **

As specialists andmarket-makers on the NYSE, AMEX, NYBOT, PHLX and other exchanges, LaBranche& Co. LLC, LSP and LSPS are engaged in various securities trading andlending activities. In connection with their specialist activities, LaBranche& Co. LLC, LSP and LSPS assume positions in stocks for which they areresponsible. LaBranche & Co. LLC, LSP and LSPS are exposed to credit riskassociated with the nonperformance of counterparties in fulfilling theircontractual obligations pursuant to these securities transactions, and they arealso exposed 

 

F-32

----

 

to market riskassociated with the sale of securities sold but not yet purchased, which can bedirectly impacted by volatile trading on the NYSE, AMEX and otherexchanges.  Additionally, in the event ofnonperformance and unfavorable market price movements, LaBranche & Co. LLC,LSP and LSPS may be required to purchase or sell financial instruments, whichmay result in a loss.

 

The Company enters intocollateralized financing agreements in which it extends short-term credit tomajor financial institutions. The Company controls access to the collateralpledged by the counterparties, which generally consists of U.S. equity andgovernment securities. The value and adequacy of the collateral are continuallymonitored. Consequently, the risk of credit loss from counterparties’ failureto perform in connection with collateralized lending activities is minimal.

 

In addition, LFSI,through the normal course of business, enters into various securitiestransactions as agent. The execution, settlement and financing of thosetransactions can result in off-balance sheet risk and concentration of creditrisk.  LFSI’s execution and clearingactivities involve settlement and financing of various customer securitiestransactions on a cash or margin basis. These activities may expose LFSI tooff-balance sheet risk in the event the customer or other broker is unable tofulfill its contractual obligations and LFSI has to purchase or sell securitiesat a loss. For margin transactions, LFSI may be exposed to significantoff-balance sheet risk in the event margin requirements are not sufficient tofully cover losses that customers may incur in their accounts.

 

LFSI seeks to control therisks associated with customer activities by requiring customers to maintainmargin collateral in compliance with various regulatory and internalguidelines. LFSI monitors margin levels daily and pursuant to such guidelines,requires customers to deposit additional collateral or reduce positions whennecessary.

 

LFSI is engaged invarious brokerage activities in which its counterparties primarily includebroker-dealers, banks and other financial institutions. LFSI may be exposed tothe risk of default, which depends on the creditworthiness of the counterparty.It is LFSI’s policy to review, as necessary, the credit standing of eachcounterparty with which it conducts business.

 

LSP and LSPS usederivative financial instruments, including exchange-traded options, ETFs anddomestic and foreign futures contracts, for trading purposes and to financiallyhedge other positions or transactions as part of their specialist andmarket-making businesses and overall risk management process. These financialinstruments subject LSP and LSPS to varying degrees of market, credit andforeign exchange risk. LSP and LSPS record their derivative trading activitiesat market value, with corresponding gains or losses recorded in “Net gain onprincipal transactions.” Gains or losses from foreign currency transactions arealso recorded in “Net gain on principal transactions.” In order to minimizerisk, management continually monitors positions, gain and loss, volatility andother standard risk measures on a real-time basis and communicates its risktolerance to LSP’s and LSPS’ traders.

 

F-33

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## **19.**                               COMMITMENTSAND CONTINGENCIES

## ** **

*Contingencies*

* *

Specialist TradingInvestigations.  On March 30, 2004, LaBranche & Co. LLCand other NYSE specialist firms entered into agreements with the SEC and theNYSE to settle the SEC and NYSE investigations concerning alleged improperspecialist trading practices by specialists on the NYSE. Pursuant to thesettlement, LaBranche & Co. LLC paid $41.6 million in restitution and $21.9million in a civil money penalty, which the Company accrued for as of December31, 2003, in connection with trades that occurred during the years 1999 through2003 and has agreed to undertakings stated in the SEC’s order. Pursuant to thesettlement, LaBranche & Co. LLC consented, without admitting or denying anywrongdoing, to an SEC order instituting administrative cease-and-desistproceedings, making findings, and imposing remedial sanctions and acease-and-desist order.  The SEC’sfindings, neither admitted nor denied, include violations by LaBranche &Co. LLC of Section 11(b) of the Exchange Act and Rule 11b-1 promulgatedthereunder, NYSE Rules 104, 92, 123B, 401 and 342, and Section 15(b)(4)(E) ofthe Exchange Act.  The Section15(b)(4)(E) finding includes a failure reasonably to supervise individualspecialists who, the finding states, violated Section 10(b) of the Exchange Actand Rule 10b-5 promulgated thereunder with respect to transactions in sixparticular stocks. The Company has continued to receive requests forinformation from the SEC and also has received requests for information fromthe United States Attorney’s Office for the Southern District of New York aspart of an industry-wide investigation relating to activities of NYSE floorspecialists in recent years. The Company is cooperating with the requests.

 

In re LaBrancheSecurities Litigation.  On or about October 16, 2003 through December16, 2003, nine purported class action lawsuits were filed by purchasers of theCompany’s common stock in the United States District Court for the SouthernDistrict of New York, including Sofran v. LaBranche & Co Inc., et al., No.03 CV 8201, Semon v. LaBranche & Co Inc., et al., No. 03 CV 8255, Haug v.LaBranche & Co. Inc., et al., No. 03 CV 8265, Labul v. LaBranche & CoInc., et al., No. 03 CV 8365, Murphy v. LaBranche & Co Inc., et al., No. 03CV 8462, Strain v. LaBranche & Co Inc., et al., No. 03 CV 8509, Yopp v.LaBranche & Co Inc., et al., No. 03 CV 8783, Ferris v. LaBranche & CoInc., et al., No. 03 CV 8806, and Levin v. LaBranche & Co Inc., et al., No.03 CV 8918.  On March 22, 2004, the court consolidated theselawsuits under the caption In re LaBranche Securities Litigation, No. 03 CV8201.  The court named the following leadplaintiffs:  Anthony Johnson, ClydeFarmer, Edwin Walthall, Donald Stahl and City of Harper Woods RetirementSystem.

 

On June 7, 2004,plaintiffs filed a Consolidated Class Action Complaint.  On July 12, 2004, plaintiffs filed aCorrected Consolidated Class Action Complaint. Plaintiffs allege that they represent a class consisting of persons andentities that purchased or otherwise acquired the Company’s common stock duringthe period beginning on August 19, 1999 and concluding on October 15,2003.  Plaintiffs allege that the Company,LaBranche & Co. LLC, and certain past or present officers and/or directorsof the Company and/or LaBranche & Co. LLC, including George M.L. LaBranche,IV, William J. Burke, III, James G. Gallagher, Alfred O. Hayward, Jr., RobertM. Murphy and Harvey S. Traison, violated Section 10(b) of the Exchange Actand Rule 10b-5 promulgated thereunder and Section 20(a) of the Exchange Actby failing to disclose improper specialist trading.  Plaintiffs also allege that two other past orpresent officers and/or directors of the Company and/or LaBranche & Co.LLC., S. Lawrence Prendergast and George E. Robb, Jr.,also violated Section 20(a) of the Exchange Act. Plaintiffs seek unspecified money damages, attorneys’ fees andreimbursement of expenses.

 

F-34

----

 

In re NYSE SpecialistsSecurities Litigation.  On or about October 16, 2003 through December16, 2003, four purported class action lawsuits were brought by persons orentities who purchased and/or sold shares of stocks of NYSE-listed companiesfor which LaBranche & Co. LLC and any other NYSE specialist firm acted asspecialist, including Pirelli v. LaBranche & Co Inc., et al., No. 03 CV8264, Marcus v. LaBranche & Co Inc., et al., No. 03 CV 8521, Empire v.LaBranche & Co Inc., et al., No. 03 CV 8935, and the California Public Employees’Retirement System (CalPERS) v. The New YorkStock Exchange, Inc., et al., No. 03 CV 9968. On March 11, 2004, a fifth action asserting similar claims, Rosenbaum Partners, LP v. The New YorkStock Exchange, Inc., et al., No. 04 CV2038, was filed in the United States District Court for the Southern Districtof New York by an individual plaintiff who does not allege to represent aclass.  On May 27, 2004, the court consolidatedthese lawsuits under the caption In re NYSE Specialists Securities Litigation,No. CV 8264.  The court named thefollowing lead plaintiffs: California Public Employees’ Retirement System(“CalPERS”) and Empire Programs, Inc.

 

On September 15, 2004,plaintiffs filed a Consolidated Complaint for Violation of the FederalSecurities Laws and Breach of Fiduciary Duty alleging that they represent aclass consisting of all public investors who purchased and/or sold shares ofstock listed on the NYSE from October 17, 1998 to October 15, 2003.  Plaintiffs allege that the Company, LaBranche& Co. LLC, Mr LaBranche and other NYSE specialist firms and their respective parentsand affiliates violated Section 10(b), Rule 10b-5 and Section 20(a) by failingto disclose improper specialist trading, improperly profiting on purchasesand/or sales of NYSE securities, and breaching and/or aiding and abettingbreaches of fiduciary duty.  Plaintiffsalso name the NYSE as a defendant. Plaintiffs seek unspecified money damages, restitution, forfeiture offees, commissions and other compensation, equitable and/or injunctive relief,including an accounting of and the imposition of a constructive trust and/orasset freeze on trading proceeds, and attorneys’ fees and reimbursement ofexpenses.

 

F-35

----

 

Last Atlantis and Rule. On January 20, 2004, five entities that allege that they are purchasersand sellers of options commenced an action in the United States District Courtfor the Northern District of Illinois, Last AtlantisCapital LLC v. Chicago Board of Options Exchange, Inc., et al., No. 04 C 0397, against four national securities exchanges (the American Stock Exchange, the Chicago BoardOptions Exchange, the Philadelphia Stock Exchange and Pacific Exchange) and 35alleged securities brokers and/or dealers, including LSP, who, plaintiffsallege, made markets in options on the named exchanges. Plaintiffs allege thatthe Company and LSP conspired with other defendants by allegedly failing toexecute orders, canceling orders, and refusing to cancel orders allegedlysubmitted by plaintiffs for the purchase and sale of options.  Plaintiffs allege violations of federalantitrust laws (Section 1 of the Sherman Act), and securities law (Section10(b) of the Exchange Act and Rule 10b-5), breach of contract, common lawfraud, breach of fiduciary duty, violations of an Illinois consumer fraud anddeceptive business practices statute, and tortious interference withplaintiffs’ business.  Injunctive reliefand damages (including punitive damages) in an unspecified amount aresought.  On January 28, 2005, anindividual represented by the same counsel who represent the plaintiffs in theLast Atlantis case commenced a substantially similar action in the United StatesDistrict Court for the Northern District of Illinois, Rule v. Chicago Board ofOptions Exchange, Inc., et al., No. 05 C 0539, making substantially the sameallegations and seeking the same relief against the same defendants, includingthe Company and LSP.  To our knowledge,the complaint in the Rule case has not been served.

 

NASD/AMEX Notice ofDisciplinary Action.  On December 15, 2004, LaBranche & Co. LLCreceived a notice from the NASD Amex Regulation Division stating a preliminarydetermination has been made by the NASD Amex Regulation Division’s staff toseek disciplinary action against LaBranche & Co. LLC for violations ofcertain federal securities laws and the Amex Constitution and Rules, includingSections 10(b), 9A and 17(a) of the Exchange

 

F-36

----

 

Act, in connectionwith manual book freezes effected in one of LaBranche & Co. LLC’s Amexspecialist stocks during the period March 8, 2004 through October 21,2004.  Prior to receiving this notice, LaBranche & Co. LLC haddetermined that the individual specialist responsible for the book freezesfailed to adhere to company policy and had terminated that employee. LaBranche& Co. LLC has submitted a response to the staff of the NASD Amex RegulationDivision setting forth the reasons why disciplinary action should not bebrought against it and are cooperating with the NASD Amex Regulation Divisionin this matter.

 

The Company believes that the claims asserted against it by theplaintiffs in the pending proceedings described above are without merit, and theCompany denies all allegations of wrongdoing. There can be no assurance, however, as to the outcome or timing of theresolution of these proceedings.  TheCompany, therefore, is unable to estimate the amount or potential range of anyloss that may arise out of these proceedings. The range of possible resolutions could include determinations andjudgments against the Company or its subsidiaries or settlements that couldrequire substantial payments by the Company that could have a material adverseeffect on the Company’s financial condition, results of operations and cashflows.

 

In addition to the proceedings described above, the Company and itsoperating subsidiaries have been the target, from time to time, of variousclaims and lawsuits incidental to the ordinary course of their businesses,including, in particular, three separate employment discrimination proceedingscurrently pending against LaBranche & Co. LLC before the United StatesEqual Employment Opportunity Commission. While the ultimate outcome of thoseclaims and lawsuits which currently are pending cannot be predicted withcertainty, the Company believes, based on its understanding of the facts ofthese proceedings, that their ultimate resolution will not, in the aggregate,have a material adverse effect on the Company’s financial condition, results ofoperations or cash flows.

 

*Commitments*

* *

The Company has entered into long-term non-cancelableoperating lease agreements for certain office space and equipment, which expireat various dates through 2012. Certain lease agreements contain escalationclauses providing for increased rental payments based on increases inmaintenance charges and real estate taxes. Minimum future rental commitmentsunder existing non-cancelable leases for office space and equipment are asfollows:

 
| **Years Ending December 31,** | ** ** | ** ** | ** ** |
|-------------------------------|------------|------------|------------|
|                          |       |       |       |
| 2005                          |       | $          | 2,729,677  |   |
| 2006                          |       | 1,923,665  |       |
| 2007                          |       | 1,585,105  |       |
| 2008                          |       | 195,878    |       |
| 2009                          |       | 72,292     |       |
| Thereafter                    |       | 154,017    |       |
| **Total**                     |       | $          | 6,660,634  |   |
|                               |            |            |            |  |  |

** **

**F-37**

----

** **

**20.**                               SUBSEQUENTEVENTS

** **

On January 20, 2005, the Company granted 700,000 RSUsto employees under the EIP.  One third ofthese RSUs will vest in full on the second anniversary of the date of grant andthe remaining two-thirds will vest on the third anniversary of the date ofgrant, subject to the grantees remaining in the continuous employ of theCompany through the vesting date.

 

In January 2005, LaBrancheStructured Products Europe Limited (“LSPE”), a wholly-owned subsidiary of LSP,was organized in the United Kingdom for the purpose of becoming a market-makerfor ETFs traded on the London Stock Exchange and the Eurex and Euronextexchanges. LSPE has yet to commence operations or obtain local regulatoryapproval.

 

F-38

----

 

**Schedule1.**

** **

**LaBRANCHE& CO INC.**

**(ParentCompany Only)**

**CONDENSEDSTATEMENTS OF FINANCIAL CONDITION**

**(000’somitted, except share data)**

 
| ** **                                                                                                                                                                                                  | ** ** | **December 31,** | ** ** |
|-------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|------------------|------------|
| ** **                                                                                                                                                                                                  | ** ** | **2004**         | ** ** | **2003** | ** ** |
| **ASSETS**                                                                                                                                                                                                  |       |             |       |   |   |
| Cash and cash equivalents                                                                                                                                                                                   |       | $                | 373        |   | $ | 48,592 |   |
| Securities purchased under agreements to  resell                                                                                                                                                            |       | 87,000           |       | 13,000 |   |
| Investment in subsidiaries, at equity value                                                                                                                                                                 |       | 1,077,366        |       | 1,103,366 |   |
| Other assets                                                                                                                                                                                                |       | 81,783           |       | 81,059 |   |
| Total assets                                                                                                                                                                                                |       | $                | 1,246,522  |   | $ | 1,246,017 |   |
|                                                                                                                                                                                                        |       |             |       |   |   |
| **LIABILITIES  AND STOCKHOLDERS’ EQUITY**                                                                                                                                                              |       |             |       |   |   |
| Liabilities:                                                                                                                                                                                                |       |             |       |   |   |
| Interest payable                                                                                                                                                                                            |       | $                | 6,854      |   | $ | 14,431 |   |
| Accrued compensation                                                                                                                                                                                        |       | 20,145           |       | 32,069 |   |
| Accounts payable and other accrued expenses                                                                                                                                                                 |       | 5,974            |       | 28,341 |   |
| Other liabilities                                                                                                                                                                                           |       | 12,390           |       | 12,077 |   |
| Income taxes payable                                                                                                                                                                                        |       | 1,671            |       | 3⁄4 |   |
| Deferred tax liabilities                                                                                                                                                                                    |       | 23,054           |       | 28,558 |   |
| Short term debt                                                                                                                                                                                             |       | 2,000            |       | 101,971 |   |
| Long term debt                                                                                                                                                                                              |       | 481,448          |       | 255,606 |   |
| Total liabilities                                                                                                                                                                                           |       | 553,536          |       | 473,053 |   |
|                                                                                                                                                                                                        |       |             |       |   |   |
| Preferred stock, Series A, $.01 par value,  liquidation value of $1,000 per share; 10,000,000 shares authorized; -0- and  39,186 shares issued and outstanding at December 31, 2004 and 2003,  respectively |       | 3⁄4           |       | 38,317 |   |
| Common stock, $.01 par value, 200,000,000  shares authorized; 60,532,080 and 59,791,036 shares issued and outstanding at  December 31, 2004 and 2003, respectively                                          |       | 605              |       | 598 |   |
| Additional paid-in-capital                                                                                                                                                                                  |       | 687,040          |       | 682,816 |   |
| Retained earnings                                                                                                                                                                                           |       | 5,341            |       | 51,374 |   |
| Unearned compensation                                                                                                                                                                                       |       | —           |       | (141 | ) |
| Total stockholders’ equity                                                                                                                                                                             |       | 692,986          |       | 772,964 |   |
| Total liabilities and stockholders’ equity                                                                                                                                                             |       | $                | 1,246,522  |   | $ | 1,246,017 |   |

 

See accompanying notes to condensed financialstatements.

 

F-39

----

 

**LaBRANCHE& CO INC.**

**(ParentCompany Only)**

**CONDENSEDSTATEMENTS OF OPERATIONS**

**(000’somitted)**

** **
| ** **                                           | ** ** | **For the Years Ended December 31,** | ** ** |
|------------------------------------------------------|------------|--------------------------------------|------------|
| ** **                                           | ** ** | **2004**                             | ** ** | **2003** | ** ** | **2002** | ** ** |
|                                                 |       |                                 |       |   |   |   |   |
| REVENUES (LOSS):                                     |       |                                 |       |   |   |   |   |
| Earnings (loss) from investment in  subsidiaries     |       | $                                    | 963        |   | $ | (155,401 | ) | $ | 107,776 |   |
| Investment income                                    |       | 30,775                               |       | 6,152 |   | 10,182 |   |
| Total revenue (loss)                                 |       | 31,738                               |       | (149,249 | ) | 117,958 |   |
| EXPENSES:                                            |       |                                 |       |   |   |   |   |
| Interest                                             |       | 53,809                               |       | 42,598 |   | 42,734 |   |
| Employee compensation and related benefits           |       | 7,192                                |       | 11,205 |   | 10,824 |   |
| Debt repurchase premium                              |       | 49,029                               |       | 3⁄4 |   | 3⁄4 |   |
| Other                                                |       | 11,701                               |       | 5,555 |   | 5,140 |   |
| Total expenses                                       |       | 121,731                              |       | 59,358 |   | 58,698 |   |
| Income (loss) before income tax benefit              |       | (89,993                              | )          | (208,607 | ) | 59,260 |   |
| INCOME TAX BENEFIT                                   |       | (46,213                              | )          | (29,218 | ) | (27,966 | ) |
| Net income (loss)                                    |       | (43,780                              | )          | (179,389 | ) | 87,226 |   |
| Preferred dividends and discount accretion           |       | 2,253                                |       | 4,014 |   | 6,941 |   |
| Net income (loss) applicable to common  stockholders |       | $                                    | (46,033    | ) | $ | (183,403 | ) | $ | 80,285 |   |

 

See accompanying notes to condensed financialstatements.

 

F-40

----

 

**LaBRANCHE& CO INC.**

**(ParentCompany Only)**

**CONDENSEDSTATEMENTS OF CHANGES IN**

**STOCKHOLDERS’EQUITY**

**(000’somitted)**

 
| ** **                                                                         | ** ** | **Common Stock** | ** ** | **Preferred** | ** ** | **Additional  Paid-in** | ** ** | **Retained** | ** ** | **Unearned** | ** ** | ** **       | ** ** |
|------------------------------------------------------------------------------------|------------|------------------|------------|---------------|------------|-------------------------|------------|--------------|------------|--------------|------------|------------------|------------|
| ** **                                                                         | ** ** | **Shares**       | ** ** | **Amount**    | ** ** | **Stock**               | ** ** | **Capital**  | ** ** | **Earnings** | ** ** | **Compensation** | ** ** | **Total** | ** ** |
| BALANCE, December 31, 2001                                                         |       | 58,734           |       | $             | 587        |                    | $          | 94,531       |       | $            | 671,422    |             | $          | 168,780 |   | $ | (6,962 | ) | $ | 928,358 |   |
|                                                                               |       |             |       |          |       |                    |       |         |       |         |       |             |       |   |   |
| Net income                                                                         |       | —           |       | —        |       | —                  |       | —       |       | 87,226       |       | —           |       | 87,226 |   |
|                                                                               |       |             |       |          |       |                    |       |         |       |         |       |             |       |   |   |
| Preferred stock discount accretion and  dividends                                  |       | —           |       | —        |       | 2,994                   |       | —       |       | (6,941       | )          | —           |       | (3,947 | ) |
| Recognition of tax benefit related to  employee option exercises                   |       | —           |       | —        |       | —                  |       | 2,610        |       | —       |       | —           |       | 2,610 |   |
| Issuance of restricted stock shares for  option exercises and related compensation |       | 770              |       | 8             |       | —                  |       | 5,569        |       | —       |       | 6,028            |       | 11,605 |   |
| Preferred stock buyback                                                            |       | —           |       | —        |       | (36,164                 | )          | —       |       | —       |       | —           |       | (36,164 | ) |
|                                                                               |       |             |       |          |       |                    |       |         |       |         |       |             |       |   |   |
| BALANCE, December 31, 2002                                                         |       | 59,504           |       | $             | 595        |                    | $          | 61,361       |       | $            | 679,601    |             | $          | 249,065 |   | $ | (934 | ) | $ | 989,688 |   |
|                                                                               |       |             |       |          |       |                    |       |         |       |         |       |             |       |   |   |
| Net loss                                                                           |       | —           |       | —        |       | —                  |       | —       |       | (179,389     | )          | —           |       | (179,389 | ) |
|                                                                               |       |             |       |          |       |                    |       |         |       |         |       |             |       |   |   |
| Common and preferred stock dividends and  discount accretion                       |       | —           |       | —        |       | 688                     |       | —       |       | (18,302      | )          | —           |       | (17,614 | ) |
| Recognition of tax benefit related to  employee option exercises                   |       | —           |       | —        |       | —                  |       | 372          |       | —       |       | —           |       | 372 |   |
| Issuance of restricted stock shares for  option exercises and related compensation |       | 287              |       | 3             |       | —                  |       | 2,843        |       | —       |       | 793              |       | 3,639 |   |
| Preferred stock buyback                                                            |       | —           |       | —        |       | (23,732                 | )          | —       |       | —       |       | —           |       | (23,732 | ) |
|                                                                               |       |             |       |          |       |                    |       |         |       |         |       |             |       |   |   |
| BALANCE, December 31, 2003                                                         |       | 59,791           |       | $             | 598        |                    | $          | 38,317       |       | $            | 682,816    |             | $          | 51,374 |   | $ | (141 | ) | $ | 772,964 |   |
|                                                                               |       |             |       |          |       |                    |       |         |       |         |       |             |       |   |   |
| Net loss                                                                           |       | —           |       | —        |       | —                  |       | —       |       | (43,780      | )          | —           |       | (43,780 | ) |
|                                                                               |       |             |       |          |       |                    |       |         |       |         |       |             |       |   |   |
| Common and preferred stock dividends and  discount accretion                       |       | —           |       | —        |       | —                  |       | —       |       | (2,253       | )          | —           |       | (2,253 | ) |
| Recognition of tax benefit related to  employee option exercises                   |       | —           |       | —        |       | —                  |       | 1,371        |       | —       |       | —           |       | 1,371 |   |
| Issuance of restricted stock shares for  option exercises and related compensation |       | 741              |       | 7             |       | —                  |       | 2,853        |       | —       |       | 141              |       | 3,001 |   |
| Preferred stock buyback                                                            |       | —           |       | —        |       | (38,317                 | )          | —       |       | —       |       | —           |       | (38,317 | ) |
|                                                                               |       |             |       |          |       |                    |       |         |       |         |       |             |       |   |   |
| BALANCE, December 31, 2004                                                         |       | 60,532           |       | $             | 605        |                    | $          | —       |       | $            | 687,040    |             | $          | 5,341 |   | $ | — |   | $ | 692,986 |   |

 

See accompanying notes to condensed financialstatements.

 

F-41

----

 

**LaBRANCHE & CO INC.**

**(Parent Company Only)**

**CONDENSED STATEMENTS OF CASH FLOWS**

**(000’s omitted)**

 
| ** **                                                                                          | ** ** | **For the Years Ended December 31,** | ** ** |
|-----------------------------------------------------------------------------------------------------|------------|--------------------------------------|------------|
| ** **                                                                                          | ** ** | **2004**                             | ** ** | **2003** | ** ** | **2002** | ** ** |
| CASH FLOWS FROM OPERATING ACTIVITIES:                                                               |       |                                 |       |   |   |   |   |
| Net income (loss)                                                                                   |       | $                                    | (43,780    | ) | $ | (179,389 | ) | $ | 87,226 |   |
| Adjustments to reconcile net income (loss)  to net cash provided by (used in) operating activities: |       |                                 |       |   |   |   |   |
| Depreciation and amortization of  intangibles                                                       |       | 102                                  |       | 80 |   | 16 |   |
| Amortization of debt issuance costs and  bond discount                                              |       | 7,335                                |       | 2,110 |   | 1,926 |   |
| Compensation expense related to stock based  compensation                                           |       | 1,169                                |       | 2,631 |   | 3,114 |   |
| Tax benefit related to exercise of stock  options                                                   |       | 1,424                                |       | 433 |   | 6,639 |   |
| Acceleration of preferred stock discount  accretion                                                 |       | 496                                  |       | 918 |   | 1,844 |   |
| Undistributed equity earnings from  investment in subsidiaries                                      |       | (963                                 | )          | 155,401 |   | (79,810 | ) |
| Deferred tax benefit                                                                                |       | (46,213                              | )          | (29,218 | ) | (27,966 | ) |
| Changes in operating assets and  liabilities:                                                       |       |                                 |       |   |   |   |   |
| Securities purchased under agreements to  resell                                                    |       | (74,000                              | )          | 13,000 |   | (26,000 | ) |
| United States government obligations                                                                |       | —                               |       | 28,897 |   | 1,187 |   |
| Other assets                                                                                        |       | (3,948                               | )          | 26,715 |   | (47,190 | ) |
| Interest payable                                                                                    |       | (7,577                               | )          | (419 | ) | (185 | ) |
| Accrued compensation                                                                                |       | (11,924                              | )          | 171 |   | (5,887 | ) |
| Accounts payable and other accrued expenses                                                         |       | (22,225                              | )          | 181 |   | 12,230 |   |
| Other liabilities                                                                                   |       | 314                                  |       | 4,118 |   | 7,958 |   |
| Taxes payable                                                                                       |       | 42,380                               |       | 32,367 |   | (34,495 | ) |
| Net cash provided by (used in) operating  activities                                                |       | (157,410                             | )          | 57,996 |   | (99,393 | ) |
|                                                                                                |       |                                 |       |   |   |   |   |
| CASH FLOWS FROM INVESTING ACTIVITIES:                                                               |       |                                 |       |   |   |   |   |
| Payments for office equipment and leasehold  improvements                                           |       | (55                                  | )          | (39 | ) | (96 | ) |
| Net cash paid for acquisitions                                                                      |       | —                               |       | — |   | (3,600 | ) |
| Return of capital from subsidiary                                                                   |       | 86,000                               |       | 82,554 |   | 154,000 |   |
| Payment for investment in subsidiary                                                                |       | (59,000                              | )          | (59,145 | ) | (31,494 | ) |
| Net cash provided by investing activities                                                           |       | 26,945                               |       | 23,370 |   | 118,810 |   |
| CASH FLOWS FROM FINANCING ACTIVITIES:                                                               |       |                                 |       |   |   |   |   |
| Repayment of subordinated debt and  promissory notes                                                |       | —                               |       | — |   | (14,781 | ) |
| Payment of common and preferred dividends                                                           |       | (3,448                               | )          | (18,600 | ) | (7,238 | ) |
| Proceeds from exercise of stock options                                                             |       | 1,375                                |       | 216 |   | 8,491 |   |
| Issuance of new senior notes                                                                        |       | 460,000                              |       | — |   | — |   |
| Repayment of old notes                                                                              |       | (336,458                             | )          | — |   | — |   |
| Payments for preferred stock buyback                                                                |       | (39,186                              | )          | (24,650 | ) | (28,164 | ) |
| Net cash provided by (used in) financing  activities                                                |       | 82,283                               |       | (43,034 | ) | (41,692 | ) |
| Effect of foreign currency translation                                                              |       | (37                                  | )          | (38 | ) | (4 | ) |
| Increase (decrease) in cash and cash  equivalents                                                   |       | (48,219                              | )          | 38,294 |   | (22,279 | ) |
| CASH AND CASH EQUIVALENTS, beginning of  year                                                       |       | 48,592                               |       | 10,298 |   | 32,577 |   |
| CASH AND CASH EQUIVALENTS, end of year                                                              |       | $                                    | 373        |   | $ | 48,592 |   | $ | 10,298 |   |
| SUPPLEMENTAL DISCLOSURE OF CASH PAID DURING  THE YEAR FOR:                                          |       |                                 |       |   |   |   |   |
| Income taxes                                                                                        |       | $                                    | 404        |   | $ | 20,193 |   | $ | 48,063 |   |
| Interest                                                                                            |       | 53,539                               |       | 42,704 |   | 41,998 |   |

 

See accompanying notes to condensed financial statements.

 

F-42

----

 

**LaBRANCHE& CO INC.**

**(ParentCompany Only)**

**NOTESTO CONDENSED FINANCIAL STATEMENTS**

** **

## **1.**                                      OVERVIEW

 

The accompanying condensed financial statements ofLaBranche & Co Inc. (Parent Company Only) should be read in conjunctionwith the consolidated financial statements of LaBranche & Co Inc. andSubsidiaries and the notes thereto contained elsewhere in this filing.

 

## **2.**                                      TRANSACTIONSWITH SUBSIDIARIES

 

LaBranche & Co Inc. has transactions with itsconsolidated subsidiaries determined on an agreed-upon basis.

 

LaBranche & Co Inc. received cash dividends fromits consolidated subsidiaries totaling $86.0 million, $82.6 million and $154.0million for the years ended December 31, 2004, 2003 and 2002, respectively.

 

F-43

----