MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS --------------------------------------------------------------------------------
Total revenues increased from approximately $1,372,000 in fiscal 2010 to approximately $1,561,000 in fiscal 2011, while total operating expenses decreased from approximately $1,830,000 in fiscal 2010 to approximately $1,583,000 in fiscal 2011. This resulted in a loss from operations of approximately $22,000 in 2011 as compared with a loss from operations of $458,000 in fiscal 2010, an improvement of approximately $436,000.
The Series B designation was designed for issuance to investors in JFG and contains both conversion rights to common stock and redemption features. Each share of the Series B preferred stock is convertible, at the option of the holder, into 1,000 shares of JFG common stock and can be converted at any time. The Series B preferred shares were issued at a twenty-five percent (25%) discount to the stated face value of $1,000 per share or approximately $2,217,650 in total. Additional shares of the Series B were subsequently sold at a discount of approximately four and one-half percent (4.5%) or approximately $36,000. Additionally, the Series B preferred stock can be redeemed, at the option of the holder, at full-face value plus accrued and unpaid cumulative dividends, commencing with the fifth (5th) anniversary of the original issue date. The Company has the option to redeem the Series B preferred shares at any time after the first (1st) anniversary of the original issue date, subject to the holder choosing to exercise conversion privileges prior to the stated redemption date
The Company's outstanding Series B Preferred stock matured on December 30, 2010, meaning that the holders of the Series B Stock became entitled to request that the Company redeem their Series B Shares. As of this report, the Company has received requests for redemption of 2,141.341 shares of Series B Preferred. The aggregate redemption amount to which the holders are entitled as of June 30, 2011, is $3,310,824.
As an inducement to the initial preferred stock shareholders, warrants to purchase 45,402,996 shares of common stock at an exercise price of one-tenth of one cent ($.001) per share were issued. Warrants issued to Series A Preferred holders have a seven year expiration; warrants issued to Series B Preferred holders had a five-year expiration period. Such warrants were valued at approximately $533,000 using the Black-Scholes pricing model. 386,667 warrants expired unexercised on December 31, 2010, while 600,000 warrants remain outstanding with an expiration date of December 31, 2012.
The accrual of dividends on the equity preferred stock resulted in a charge to common stockholders' equity and a credit to the equity of equity preferred stock of $781,062 in fiscal 2011 as compared with a charge to common stockholders' equity of $374,662 in fiscal 2010.
Certain equity inducements in the form of common stock of the Company were provided under the terms of the bridge loan documents. Upon issuance of the bridge notes, an aggregate of 7% of the outstanding common stock of the Company was issued to the bridge lenders. Upon retirement of the notes upon consummation of a qualified equity offering, the Company will issue to the bridge lenders a percentage of the outstanding common stock of the Company which, when added to the stock initially issued, may equal as much as 28% of the common stock of the Company that would otherwise have been retained by the holders of the Company's common shares immediately prior to the financing. Finally, because a qualified financing was not completed by September 10, 2008, the Company was required to issue to the bridge lenders under the terms of the loan documents a total of 2.8% of the Company's outstanding common shares at such date. An additional 2.8% of the Company's outstanding common shares are required to be issued upon each six-month anniversary date thereof until retirement of the notes.
Management believes the Company has the ability to hold all fixed income securities to maturity. However, during fiscal year 2010, the Company determined it may dispose of securities prior to their scheduled maturity due to changes in interest rates, prepayments, tax and credit considerations, liquidity or regulatory capital requirements, or other similar factors. As a result, the Company reclassified all of its fixed income securities (bonds) and equity securities as available-for-sale. These securities are reported at fair value, with unrealized gains and losses, net of deferred income taxes, reported in stockholders' equity as a separate component of accumulated other comprehensive income.
The Company limits the maximum net loss that can arise from large risks by reinsuring (ceding) certain levels of such risk with reinsurers. Ceded reinsurance is treated as the risk and liability of the assuming companies. The Company cedes insurance to other companies and these reinsurance contracts do not relieve the Company from its obligations to policyholders. Ceded premiums, at a rate of 35% of written premium, are recognized as revenue ratably over the term of the related policies. Ceded unearned premiums represent the portion of ceded premiums written applicable to the unexpired terms of policies in force determined on a pro rata basis.
Reserves for unpaid losses and loss adjustment expenses of the insurance subsidiary are estimated using individual case-basis valuations in conjunction with estimates derived from industry and company experience. FSC has experienced no claims for losses as of May 31, 2011.
FSC is currently licensed to write coal permit and miscellaneous fixed-liability limit surety bonds in West Virginia and Ohio. Coal permit bonds are required by regulatory agencies to assure the reclamation of land that has been disturbed by mining operations, and accordingly, is a highly regulated process by federal and state agencies. Such bonds are generally long-term in nature with mining operations and reclamation work being conducted in unison as the property is mined. Additionally, no two principals and properties are alike due to varied company structures and unique geography and geology of each site.
The Company has experienced operating losses of approximately $22,000 and $458,000 for the fiscal years ended May 31, 2011 and 2010, respectively. The Company losses increase when accretion of mandatorily redeemable convertible preferred stock, and accrued dividends on mandatorily redeemable preferred stock are taken into account to approximately $1,440,090 and $2,338,531 for the fiscal years ended May 31, 2011 and 2010, respectively. Despite increased revenue and the continued decline of operating expenses, the Company has not been able to pay certain amounts due to professionals and others and continues to be unable to pay its preferred stock dividend obligation and to cure its defaults in
The Company experienced a loss from operations of approximately $22,000 in 2011 as compared with a loss from operations of $458,000 in fiscal 2010, an improvement of approximately $436,000. After accretion of mandatorily redeemable convertible preferred stock, and accrued dividends on mandatorily redeemable preferred stock, the Company experienced a loss of $1,440,090 in fiscal 2011 as compared with a loss after accretion of mandatorily redeemable convertible preferred stock, and accrued dividends on mandatorily redeemable preferred stock of $2,338,531 in fiscal 2010.
Premiums earned $ 910,940 $ 768,908 Commissions earned 18,415 11,900 Net investment income 229,777 273,577 Net realized investment gains 116,187 40,828 ----------------- -----------------
General and administrative expenses for fiscal 2011 were $1,050,486 as compared with $1,316,211 for fiscal 2010, representing a decrease of $265,725 and are comprised of the following:
Jacobs & Co. was the investment advisor to the Jacobs & Company Mutual Fund (the "Fund"). The Fund was initially established by Jacobs & Co. to provide the ability to manage smaller accounts in a more efficient and diversified manner and provide an investment vehicle that would fit within the Company's broader business plan of issuing smaller bonds under its collateralized surety programs. The delays incurred by the Company in accomplishing a financing that would make possible the full implementation of the Company's business plan coupled with the Fund's lackluster performance during the interim period contributed to a gradual decline in assets and the fixed cost maintenance of the Fund was a significant expense to the Company. The Fund's independent Board of Trustees had determined that unless the Fund experienced a significant growth in assets it would be necessary to liquidate the Fund. Growth in assets was not accomplished. As a result, the Board of Trustees directed the liquidation of the Fund's assets in November and the distribution of the proceeds to the Fund's shareholders on December 1, 2009.
Interest expense for fiscal 2011 was $908,375 as compared with $956,973 in fiscal 2010. The increase in interest expense is primarily attributable to the bridge-financing arrangement forbearance agreement and increased debt and stock issued as incentive for debt in 2010. Components of interest expense are comprised of the following:
The Series B class of stock is treated as a liability as of November 30, 2009 when the majority was exchanged for Series C equity stock. Therefore, accretion of $106,366 and dividends of $324,455 associated with the Series B after that date are deductions from net income and not included in the table above. The decrease in the accretion of discount and accrued dividends on mandatorily redeemable preferred stock results from this exclusion of Series B subsequent to November 30, 2009, the application of the interest or constant yield method to the initial discount recorded over a period of five years from the date of issuance of the stock and the final month's accretion of the discount on Series A Preferred stock recognized in December 2010. Series C equity stock accrues dividends at the same rate as the Series B for which it was exchanged; however, it is separated in the table above due to Series C not being mandatorily redeemable. Series C does not accrete.