UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
ANNUAL REPORT UNDER SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended May 31, 2006
JACOBS FINANCIAL GROUP, INC.
(Exact name of registrant as specified in its charter)
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<S> <C> <C>
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DELAWARE 0-21210 84-0922335
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(State or other jurisdiction of (Commission File Number) (IRS Employer Identification No.)
incorporation)
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300 SUMMERS STREET, SUITE 970, CHARLESTON WV 25301
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (304) 343-8171
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Securities registered under Section 12 (b) of the Exchange Act:
NONE
Securities registered under Section 12 (g) of the Exchange Act:
COMMON STOCK $.0001 PAR VALUE
Check whether the issuer (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Securities Exchange Act of 1934 during the proceeding
12 months (or for such shorter period that the registrant was required to file
such reports), and (2) has been subject to such filing requirements for the past
90 days.
Yes _X_ No ___
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B contained in this form, and no disclosure will be contained, to
the best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-KSB or any
amendment to this Form 10-KSB. [x]
Indicate by check mark whether the registrant is a shell company (as defined in
Rule 12b-2 of the Exchange Act).
Yes ___ No _X_
State the issuer's revenues for the most recent fiscal year. $407,304
State the aggregate market value of the voting and non-voting common equity held
by non-affiliates computed by reference to the price at which the common equity
was sold, or the average bid and asked price of such common equity, as of a
specified date within the past 60 days. As of last trade on September 12, 2006:
$6,630,454 (132,609,081 shares at $.05 / share)
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date: 154,937,836 common shares as of
September 12, 2006.
TABLE OF CONTENTS
PART I
Page
Item 1. Description of Business............................................3
Item 2. Description of Property............................................5
Item 3. Legal Proceedings..................................................5
Item 4. Submission of Matters to a Vote of Security Holders................5
2
PART II
Item 5. Market for Common Equity and Related
Stockholder Matters...............................................6
Item 6. Management's Discussion and Analysis of
Financial Condition and Results of Operations.....................7
Item 7. Financial Statements...............................................13
Item 8. Changes In and Disagreements with Accountants
on Accounting and Financial Disclosure............................14
PART III
Item 9. Directors, Executive Officers, Promoters and Control
Persons; Compliance With Section 16(a) of the
Exchange Act......................................................14
Item 10. Executive Compensation.............................................17
Item 11. Security Ownership of Certain Beneficial Owners
and Management....................................................19
Item 12. Certain Relationships and Related Transactions.....................21
Item 13. Exhibits, and Reports on Form 8-K..................................23
Item 14. Principal Accountant Fees and Services.............................24
PART I
Item 1. BUSINESS
The predecessor of Jacobs Financial Group, Inc. ("JFG" or the "Company"), NELX,
Inc., was incorporated in the State of Kansas in March 1983 as Nelson
Exploration, Inc. for the purpose of acquiring, dealing in, and if warranted,
developing oil and gas properties. In October 1993 the Company changed its name
to NELX, Inc. Prior to May 2001, the Company owned certain non-producing oil and
gas properties as well as various real estate properties. Due to continuing lack
of capital partners for oil and gas exploration and/or real estate development,
in fiscal year 1997 the Company turned its attention to divesting its interests
in said properties. For the next three years, the principal activities of the
Company involved disposing of assets, settling claims and liabilities and
considering potential business combinations with related or complementary
businesses. During fiscal year 2001, the Company's principal assets consisted of
a leasehold interest in an undeveloped mineral spring in Arkansas and certain
oil and gas properties located in West Virginia. The oil and gas properties were
sold in May 2001.
On May 29, 2001, the Company acquired two businesses, FS Investments, Inc.
("FSI") and Jacobs & Company ("Jacobs & Co." or "J&C"), in exchange for 75
million shares of common stock of NELX. The transaction was accounted for as a
recapitalization of FSI and Jacobs & Co. effected by a reverse acquisition. For
accounting purposes, NELX was treated as the acquiree, and no goodwill or other
intangible asset was recorded.
FSI, incorporated in 1997 in West Virginia, is a holding company that was
organized to develop surety business through the formation or acquisition of
subsidiaries engaged in the issuance of surety bonds collateralized by
investment accounts that are professionally managed by Jacobs & Co. Through its
wholly-owned subsidiary, Triangle Surety Agency, Inc. ("Triangle Surety" or
"TSA"), FSI is actively engaged in the placement with insurance companies of
surety bonds, with an emphasis on clients engaged in regulated industries.
3
Jacobs & Co., incorporated in 1988 in West Virginia, is a SEC registered
investment advisory firm whose executive offices are located in Charleston, West
Virginia. Jacobs & Co. provides fee based investment advisory services to
institutions and individuals, including the Jacobs & Company Mutual Fund (the
"J&C Fund" or the "Fund"), which was organized in June 2001 as a series of the
Advisors Series Trust. On June 27, 2005, the Fund was reorganized as a series of
Northern Lights Fund Trust.
Since the May 29, 2001 business combination, the Company has expanded its focus
to include the ongoing business and activities of FSI and Jacobs, namely the
surety business and investment management and related services.
On or about December 29, 2005, NELX was merged with and into its newly-formed
wholly-owned subsidiary, Jacobs Financial Group, Inc., a Delaware corporation.
JFG survived the merger as the Registrant. The merger effected a change in the
Registrant's name, a change in the state of incorporation of the Registrant from
Kansas to Delaware, an amendment to the Articles of Incorporation of the
Registrant and an amendment to the Bylaws of the Registrant.
On December 30, 2005, the Company acquired all of the outstanding stock of West
Virginia Fire and Casualty Company (WVFCC), an insurance company licensed to
engage in business in West Virginia, Ohio and Indiana. The acquisition followed
the approval of the transaction by the West Virginia Department of Insurance,
which included approval of the Company's business plan to operate the acquired
insurance company as a surety. The financing of the transaction consisted of a
combination of a private placement of preferred stock and warrants to acquire
common stock of the Company in exchange for cash totaling $3,335,000, of which
$2,900,000 (including a $40,000 deposit paid in prior periods) was used for the
acquisition of WVFCC. In addition, approximately $3,668,000 of indebtedness of
the Company was converted into preferred stocks and warrants. Following the
acquisition, the name of WVFCC was changed to First Surety Corporation ("First
Surety" or "FSC").
The acquisition of FSC allows the Company to pursue its business plan to market
and issue surety bonds utilizing programs developed by the Company's subsidiary,
FSI. FSI's subsidiary, Triangle Surety, serves as managing general agent for
First Surety, and collateralized accounts required as a condition of the
issuance of surety bonds under FSC's programs are managed by the investment
advisory subsidiary of the Company, Jacobs & Company. The successful
implementation of the business plan by the Company will create three primary
revenue streams, insurance premium for the issuance of surety bonds, agency
commissions for the production and placement of bonds, and investment advisory
fees relating to the management of the collateral accounts securing the surety
bonds. The bonding programs offered are specialized in nature and will initially
be targeted to the coal and oil & gas industries.
The Company is headquartered in Charleston, West Virginia, and through its
wholly-owned subsidiaries, employs a total of eight (8) employees, of which
seven (7) are full time employees.
4
Item 2. PROPERTIES
Through its wholly-owned subsidiary, Crystal Mountain Water, Inc. ("CMW"), the
Company has an undeveloped leasehold interest in a mineral water spring located
near Hot Springs, Arkansas. Under this leasehold arrangement, CMW is obligated
for minimum lease payments in the amount of approximately $150 per month until
October 2006, with automatic options to extend the leasehold for two (2)
additional ten-year terms extending through October 2026. CMW has the right to
cancel the lease upon sixty (60) days written notice at any time. The property
is presently not being actively explored or developed. During the 2002 fiscal
year, management evaluated the lease and determined the development was not
currently feasible. Accordingly, the Company recorded an impairment of $116,661
to its investment in the lease. Opportunities will continue to be explored as
they arise with respect to the development or sale of the leasehold interest.
The Registrant, through its insurance subsidiary, holds investments in real
estate mortgages (primarily single family first mortgage dwellings) through its
purchase of U. S. government agency mortgage-backed/asset-backed securities that
have guaranteed principal and interest by the U. S. government. There are no
limitations or restrictions with respect to such investments. Other non U. S.
government guaranteed investments in mortgage-backed/asset-backed securities are
limited or restricted by policy so that the aggregate investment secured by or
evidencing a single interest in a single asset or single pool of assets does not
exceed 5% of assets. Such investments are held primarily for income versus
capital appreciation.
Although the Registrant, through its insurance subsidiary, has no plans to make
investments in mortgage loans or income-producing real estate at this time, such
investments are limited by policy so as not to exceed 5% of assets.
Item 3. LEGAL PROCEEDINGS
None.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
5
PART II
Item 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's common stock is traded in the over-the-counter market under the
symbol JFGI (OTC Bulletin Board Symbol). The table below sets forth the high and
low price information for the Company's common stock for the periods indicated.
Such prices are inter-dealer prices, without mark-up, mark-down or commission
and may not represent actual transactions.
HIGH LOW
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Fiscal Year Ended May 31, 2006
4th Quarter .09 .03
3rd Quarter .105 .05
2nd Quarter .105 .006
1st Quarter .0135 .009
Fiscal Year Ended May 31, 2005
4th Quarter .013 .006
3rd Quarter .013 .007
2nd Quarter .02 .006
1st Quarter .05 .015
As of May 31, 2006, there were approximately 925 holders of record of the
Company's common stock.
The Company has neither declared nor paid any cash dividends on its common stock
during the last two fiscal years, and it is not anticipated that any such
dividend will be declared or paid in the foreseeable future.
As of May 31, 2006, shares of the Company's common stock authorized for issuance
under the Registrant's 2005 Stock Incentive Plan, that was approved by the
stockholders of the Company on December 8, 2005, are as follows:
EQUITY COMPENSATION PLAN INFORMATION
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Number of Shares to be Issued Weighted-Average Number of Shares
Upon Exercise of Exercise Price of Remaining Available
Outstanding Options Outstanding Options For Future Issuance
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24,400,000 .06877 10,600,000
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6
Item 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FISCAL 2006 DEVELOPMENTS
Since its acquisition of FSI and Jacobs in May 2001, the Company has focused its
efforts on the expansion of the ongoing business activities FSI and Jacobs,
namely insurance (surety) and investment management and advisory services.
Central to its business plan was the acquisition of an insurance company to
issue surety bonds utilizing collateralized surety programs developed by FSI,
and marketed by Triangle Surety, with collateral accounts managed by Jacobs.
In May 2004, the Company entered into an Exclusivity Agreement with Celina
Mutual Insurance Company ("Celina") granting the Company an exclusive right to
acquire West Virginia Fire & Casualty Company ("WVFCC"); and in July 2005, the
Company entered into a definitive purchase agreement with Celina for the
acquisition of WVFCC subject to the terms and conditions set forth in the
agreement.
On December 30, 2005, the Company acquired all of the outstanding stock of
WVFCC, an insurance company licensed to engage in business in West Virginia,
Ohio and Indiana. The acquisition followed the approval of the transaction by
the West Virginia Department of Insurance, which included approval of the
Company's business plan to operate the acquired insurance company as a surety.
The financing of the transaction consisted of a combination of a private
placement of preferred stock and warrants to acquire common stock of the Company
in exchange for cash totaling $3,335,000, of which $2,900,000 (including a
$40,000 deposit paid in prior periods) was used for the acquisition of WVFCC. In
addition, approximately $3,668,000 of indebtedness of the Company was converted
into preferred stocks and warrants. Following the acquisition, the name of WVFCC
was changed to First Surety Corporation (FSC).
The acquisition of WVFCC consisted of the purchase of marketable investments and
insurance licenses and did not include any existing policies or customer base as
the insurance lines of business offered by WVFCC are not insurance lines that
the Company intends to pursue. Since its acquisition, the Company has focused
its primary efforts on the initial development and marketing of the business in
West Virginia and laying groundwork for the future expansion of the business
into other states.
RESULTS OF OPERATIONS AND FINANCIAL CONDITION AS OF AND FOR THE YEAR ENDED MAY
31, 2006
RESULTS OF OPERATIONS
The Company experienced a loss of $1,874,186 (after accretion of mandatorily
redeemable convertible preferred stock, including accrued dividends) in fiscal
2006 as compared with a loss of $1,120,133 in fiscal 2005. While total revenues
increased from $260,000 in fiscal 2005 to $407,000 in fiscal 2006, total
expenses increased from $1,380,000 in fiscal 2005 to $1,901,000 in fiscal 2006.
The increase in revenues is attributable to the acquisition of FSC and the
surety business it has secured since January 1, 2006. The increase in expenses
is largely attributable to expenses incurred relating to the acquisition of FSC,
namely legal, consulting and professional expense incurred in due diligence
efforts, structuring financing for the transaction, and preparation and
7
assistance with regulatory filings necessary to gain regulatory approval for the
acquisition.
FINANCIAL CONDITION
RESTRUCTURED FINANCING
In conjunction with the acquisition of FSC, a restructuring of the Company's
financing was accomplished through the private placement of preferred stock and
warrants to acquire common stock of the Company in exchange for cash totaling
$3,335,000. $2,860,000 was used in the acquisition and funding of the insurance
subsidiary, with the remaining funds used to pay expenses attributable to the
acquisition and the funding of on-going operations. Additionally, approximately
$3,668,000 of indebtedness of the Company was converted into preferred stock and
warrants reducing the Company's borrowings under short-term financing
arrangements to approximately $167,000.
As an inducement to the initial preferred stock shareholders, warrants to
purchase 45,402,996 shares of common stock at an exercise price of one-tenth of
one cent ($.001) per share were issued with a five-year expiration period. Such
warrants were valued at approximately $533,000 using the Black-Scholes pricing
model. Additionally, 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 eight percent (8%) or
approximately $18,000. Accordingly, the recorded values of the Series A and B
preferred stock are being increased to their stated liquidation values using the
interest method over a period of five years and such amounts are categorized as
accretion of mandatorily redeemable preferred stock in the consolidated
statement of operations.
The preferred stock issued consisted of non-voting Series A and Series B
redeemable preferred stock; the Series A designation being entitled to receive
cumulative dividends at the rate of 4.00% per annum and the Series B designation
being entitled to receive cumulative dividends at the rate of 8.00% per annum,
with both the Series A and B designations having equal ranking and preference as
to dividends and liquidation rights and in priority to the Company's common
stockholders. At this time, management has chosen to defer payment of dividends
to the holders of the Series A and B preferred stock until the Company has
sufficient cash flow from operations to service the obligation.
The Series A designation was designed for issuance to principals desiring surety
bonds under FSC's partially collateralized bonding programs. As designed,
proceeds from the sale of Series A preferred stock is down-streamed to FSC to
increase its capital and insurance capacity, unless used to redeem Series B
preferred stock (Company option to redeem) to the extent that proceeds from the
sale of Series B preferred shares was used in the initial acquisition and
funding of FSC. The Series A designation contains a conditional redemption
feature providing for the redemption of the Series A shares at any time after
the seventh (7th) anniversary of the Issue Date, provided that the principal no
longer requires surety bonds issued by FSC. Furthermore, once redeemed, the
principal will no longer be eligible to participate in partially collateralized
bonding programs offered by FSC. Surety bonds currently being issued by FSC are
for coal mining and reclamation permits, which are long-term in nature and
continually evolve whereby outstanding bonds are periodically released as
properties are mined and reclaimed and new bonds issued for properties to be
mined in the future. Accordingly, this source of financing was designed to be
long-term by nature.
8
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.
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
exercising its conversion privileges prior to the stated redemption date.
Management's ability to execute its business plan and increase the market value
of its common stock will largely determine whether the Series B preferred shares
are converted to common shares or eventually redeemed.
RESTRICTIONS ON USE OF ASSETS
Regulatory approval of the acquisition of FSC by JFG was provided under the
condition that no dividends or monies are to be paid to JFG from FSC without
regulatory approval. Accordingly, cash, marketable investments, and other
receivables held by FSC are restricted from use to fund operations or meet cash
needs outside of the insurance company's domain. As of May 31, 2006, such assets
amounted to approximately $3.6 million.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
INTANGIBLE ASSETS
In exchange for the purchase price of $2.9 million for the acquisition of FSC,
the Company received cash and investments held by FSC totaling $2.75 million,
with the difference being attributed to the property and casualty licenses of
FSC in the states of West Virginia, Ohio and Indiana. Such licenses have
indefinite lives and are evaluated annually for recoverability and impairment
loss. Impairment loss, if any, is measured by estimating future cash flows
attributable to such assets based on forecasts and projections and comparing
such discounted cash flow amounts to the carrying value of the asset. Should
actual results differ from such forecasts and projections, such assets may be
subject to future impairment charges.
RESERVE FOR LOSSES AND LOSS EXPENSES
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, 2006.
FSC is currently licensed to write coal reclamation and mining surety bonds in
West Virginia. By nature, reclamation of land that has been disturbed by mining
operations is a highly regulated process by federal, state and local
jurisdictions and such bonds are generally long-term in nature with mining
operations and reclamation work being conducted in unison as the property is
being mined. Additionally, no two principals and properties are alike due to
varied company structures and unique geography and geology of each site.
9
In underwriting such bonds, management obtains estimates of costs to reclaim
such properties, in accordance with the specifications of the mining permit,
prepared by independent outside professionals experienced in this field of work.
Such estimates are then periodically updated and compared with marketable
securities pledged, and held for the benefit of FSC as collateral for the surety
bond, to mitigate the exposure to significant loss. Should the principal default
in its obligation to reclaim the property as specified in the mining permit, FSC
would then use the funds held in the collateral account to reclaim the property
or forfeit the face amount of the surety bond. Losses can occur if the costs of
reclamation exceed the estimates obtained at the time the bond was underwritten
or upon subsequent re-evaluations, if sufficient collateral is not obtained, or
if the collateral held has experienced significant deterioration in value.
In establishing its reserves for losses and loss adjustment expense, management
continually reviews its exposure to loss based on reports provided in
conjunction with the periodic monitoring and inspections performed, the value of
the collateral accounts held for the benefit of FSC, along with industry
averages and historical experience. Initially, management has estimated such
losses based on industry experience, adjusted for factors that are unique to the
Company's approach, and in consultation with consulting actuaries experienced in
the surety field.
LIQUIDITY AND GOING CONCERN
The Company has experienced significant operating losses of approximately
$1,874,000 (after accretion of mandatorily redeemable convertible preferred
stock, including accrued dividends) and $1,120,000 for the years ended May 31,
2006 and 2005. And while short-term borrowings at year-end have been
substantially refinanced by conversion to preferred stock, the Company continues
to face significant working capital deficiencies and adequate funds to pay its
preferred stock dividend obligation. While management expects revenue growth and
cash flow to increase significantly as its business plan is fully implemented,
it is anticipated that losses will continue until FSC is able to develop a
substantial book of business.
In order to fully implement its business plan, management continues to seek
additional capital to increase the capacity of its insurance subsidiary and to
fund continuing operations as the business is being fully developed. As a result
of being able to share resources (primarily personnel) to minimize operating
costs, management expects FSC to be at break-even or cash flow positive in
fiscal 2007, although the use of its assets and profits are expected to remain
restricted to its stand-alone operation by regulatory authority. And while
growth of the FSC business will provide additional cash flow to the Company's
other subsidiaries, Jacobs and Triangle Surety, it is anticipated that working
capital deficiencies will need to be met either through the raising of
additional capital or borrowings. However, there can be no assurance that
additional capital (or debt financing) will be available when and to the extent
required or, if available, on terms acceptable to the Company. Accordingly,
concerns as to the Company's ability to continue as a going concern are
substantial. The consolidated financial statements do not include any
adjustments that might result from the outcome of this uncertainty.
10
COMPARISON OF RESULTS OF OPERATIONS FOR FISCAL 2006 WITH 2005
The Company experienced a loss of $1,874,186 (after accretion of mandatorily
redeemable convertible preferred stock, including accrued dividends) in fiscal
2006 as compared with a loss of $1,120,133 in fiscal 2005.
REVENUES
Revenues in fiscal 2006 amounted to $407,304 as compared with $260,347 in fiscal
2005. The overall increase in revenues is attributable to the acquisition of FSC
and the surety business it has secured since January 1, 2006.
Revenues from the investment management segment, net of advisory referral fees,
were $206,922 in fiscal 2006 as compared with $238,035 in fiscal 2005,
representing a decrease of $31,113. As investment advisory fees are based on the
market value of assets under management, some fluctuation will occur due to
overall market conditions. For the most part, however, such revenues will remain
relatively constant from quarter to quarter with any large fluctuations being
attributable to the growth or loss of assets under management. The decrease in
revenues is substantially attributable to the loss of certain managed collateral
accounts (and related personal accounts) resulting from expiration or
non-renewal of the surety bonds that such accounts secured. While the lack of
availability of bonding in the marketplace prevented the retention and
replacement of this business, the Company's acquisition of FSC at the end of
2005, with its primary focus being directed towards the financial assurance
market, should help alleviate loss of business such as occurred during this
period in the future.
Revenues from the issuance or placement of surety bonds (earned premium and
agency commissions) were $147,201 in fiscal 2006 as compared with $22,254 in
fiscal 2005, representing an increase of $124,947. Of this increase, $130,107 is
attributable to the acquisition of FSC and the surety business that has been
secured by its managing general agent, Triangle Surety, with the remaining
decrease of $5,160 representing a decrease in commissions earned by Triangle
Surety in fiscal 2006. While ultimately the revenue for this segment of the
business is expected to be more "seasonable" from quarter to quarter, due merely
to the timing of the issuance or renewal of bonds issued or placed by the
Company, the increase during this period reflects the acquisition of FSC at the
end of December 2005 and commencement of operations of FSC in February 2006. Due
to the nature of surety bonds, fluctuations in revenue for comparable periods
largely reflect the overall growth or loss of business.
Net investment income of $53,181 represents the earnings on the investment
portfolio of FSC since its acquisition at the end of December 2005.
EXPENSES
Incurred policy losses represent the provision for loss and loss adjustment
expense for "incurred but not reported" (IBNR) losses attributable to surety
bonds issued by FSC since its acquisition in December 2005. Such estimates have
been based on industry averages adjusted for factors that are unique to the
FSC's underwriting approach.
11
Insurance policy acquisition costs in the amount of $18,877 represent charges to
operations for underwriting expense and premium tax attributable to surety
polices issued by FSC and are recognized ratably over the period in which
premiums are earned.
General and administrative expenses for fiscal 2006 were $1,378,730 as compared
with $902,444 for fiscal 2005, representing an increase of $476,286.
Approximately $204,000 of this increase is largely attributable to an increase
in various professional fees, attributable in significant part to expenses
incurred in the negotiation, documentation, and consummation of the Company's
acquisition of FSC, including regulatory approval of such acquisition. Salary
and compensation expense increased approximately $89,000 relating to staffing
additions, temporary services, and increases in salaries and wages and
approximately $118,000 relating to stock option compensation expense. Other
general and administrative expense in the amount of approximately $24,000 can be
attributed to the operation of FSC.
J&C is the investment advisor to the Jacobs & Company Mutual Fund (the "Fund").
While the Fund is responsible for its own operating expenses, J&C, as the
advisor, has agreed to limit the Fund's aggregate annual operating expenses to
2.00% of the average net assets. Under this expense limitation agreement, J&C
absorbed $138,695 of the Fund's operating expenses in fiscal 2006 as compared to
$147,870 in fiscal 2005. As the Fund grows in size (of assets under management),
expenses (in excess of the 2% level) absorbed by J&C will decrease until the
Fund reaches sufficient size to support its on-going operating costs. In
contrast, as the Fund grows in size, revenues from investment advisory fees will
increase. Additionally, should the Fund's operating expense ratio fall below the
2.00% level, the costs absorbed by the Company are now reimbursable to it for a
period of up to three years. In fiscal 2006, the Fund's investment advisory fees
amounted to $52,839 as compared to $72,479 in fiscal 2005.
Interest expense in fiscal 2006 amounted to $345,031 as compared with $324,266
in fiscal 2005, representing an increase of $20,765. The increase is largely
attributable to increased debt levels incurred during the year to fund ongoing
operations and additional consideration provided in connection with the
obtaining additional borrowings.
ACCRETION AND DIVIDENDS
Accretion of mandatorily redeemable convertible preferred stock in the amount of
$380,171 is comprised of accretion of discount in the amount of $195,659 and
accrued but unpaid dividends on preferred stock in the amount of 184,512.
12
Item 7. FINANCIAL STATEMENTS
The following financial statements are included herein in response to Item 7:
PAGE
Table of Contents F-1
Report of Independent Registered Public Accounting Firm F-2
Report of Independent Registered Public Accounting Firm F-2a
FINANCIAL STATEMENTS
Consolidated Balance Sheet F-3
Consolidated Statement of Operations F-4
Consolidated Statement of Cash Flows F-5
Consolidated Statement of Mandatorily Redeemable
Preferred Stock and Stockholders' Equity F-6
Notes to Consolidated Financial Statements F-7
SCHEDULES
Schedule I - Summary of Investments - Other than
Investments in Related Parties F-31
Schedule II - Condensed Financial Information of
Registrant F-32
Schedule III - Supplementary Insurance Information F-34
Schedule VI - Supplemental Information F-35
13
TABLE OF CONTENTS
PAGE
Table of Contents F-1
Report of Independent Registered Public Accounting Firm F-2
Report of Independent Registered Public Accounting Firm F-2a
FINANCIAL STATEMENTS
Consolidated Balance Sheet F-3
Consolidated Statement of Operations F-4
Consolidated Statement of Cash Flows F-5
Consolidated Statement of Mandatorily Redeemable
Preferred Stock and Stockholders' Equity F-6
Notes to Consolidated Financial Statements F-7
SCHEDULES
Schedule I - Summary of Investments - Other than
Investments in Related Parties F-31
Schedule II - Condensed Financial Information of
Registrant F-32
Schedule III - Supplementary Insurance Information F-34
Schedule VI - Supplemental Information F-35
F-1
Malin, Bergquist & Company, LLP
Certified Public Accountants & Business Advisors
Report of Independent Registered Public Accounting Firm
To the Board of Directors
Jacobs Financial Group, Inc.
Charleston, West Virginia
We have audited the accompanying balance sheet of Jacobs Financial Group, Inc.
as of May 31, 2006, and the related consolidated statement of operations, cash
flows and changes in stockholders' equity (deficit) for the year then ended.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these consolidated financial
statements based on our audit.
We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. The Company is not required to
have, nor were we engaged to perform, an audit of its internal control over
financial reporting. Our audit included consideration of internal control over
financial reporting as a basis for designing audit procedures that are
appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the Company's internal control over financial
reporting. Accordingly, we express no such opinion. An audit includes examining,
on a test basis, evidence supporting the amounts and disclosures in the
financial statements. An audit also includes assessing the accounting principles
used and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, the accompanying consolidated financial statements referred to
above present fairly, in all material respects, the consolidated financial
position of Jacobs Financial Group, Inc as of May 31, 2006, and the results of
their operations and their cash flows for the year then ended in conformity with
accounting principles generally accepted in the United States of America.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note A to the
financial statements, the Company's significant net working capital deficit and
operating losses raise substantial doubt about its ability to continue as a
going concern. The financial statements do not include any adjustments that
might result from the outcome of this uncertainty.
/s/Malin, Bergquist & Company, LLP
Pittsburgh, Pennsylvania
September 13, 2006
F-2
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors
Jacobs Financial Group, Inc.
Charleston, West Virginia
We have audited the accompanying consolidated statements of operations, cash
flows and changes in stockholders' equity of Jacobs Financial Group, Inc. for
the year ended May 31, 2005. These financial statements are the responsibility
of the Company's management. Our responsibility is to express an opinion on
these financial statements based on our audit.
We conducted our audit in accordance with standards of the Public Company
Accounting Oversight Board (U.S.). Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. The Company is not required to
have, nor were we engaged to perform, an audit of its internal control over
financial reporting. Our audit included consideration of internal control over
financial reporting as a basis for designing audit procedures that are
appropriate in the circumstances, but not for the purpose of expressing an
opinion on the effectiveness of the Company's internal control over financial
reporting. Accordingly, we express no such opinion. An audit includes examining,
on a test basis, evidence supporting the amounts and disclosures in the
financial statements. An audit also includes assessing the accounting principles
used and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, the accompanying consolidated financial statements referred to
above present fairly, in all material respects, the results of operations and
cash flows of Jacobs Financial Group, Inc. for the year ended May 31, 2005 in
conformity with accounting principles generally accepted in the United States of
America.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note A to the
financial statements, the Company's significant net working capital deficit and
operating losses raise substantial doubt about its ability to continue as a
going concern. The financial statements do not include any adjustments that
might result from the outcome of this uncertainty.
/S/GORDON, HUGHES & BANKS, LLP
Greenwood Village, Colorado
July 21, 2005
F-2a
JACOBS FINANCIAL GROUP, INC.
CONSOLIDATED BALANCE SHEET
<TABLE>
<CAPTION>
MAY 31, 2006
------------------
ASSETS
INVESTMENTS AND CASH:
<S> <C>
Bonds held to maturity, at amortized costs $ 1,029,964
(market value at 05/31/06 $1,024,153)
Mortgage-back securities held to maturity, at amortized costs 1,360,778
(market value at 05/31/06 $1,343,108)
Short-term investments, at cost (approximates market value) 1,196,111
Cash -
------------------
TOTAL INVESTMENTS AND CASH 3,586,853
Investment income due and accrued 20,958
Premiums and other accounts receivable 47,774
Deferred policy acquisition costs 70,399
Furniture and equipment (net of accumulated depreciation of $101,500) 30,040
Due from related party 361,009
Other assets 33,863
Intangible assets 150,000
------------------
TOTAL ASSETS $ 4,300,896
==================
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Reserve for losses and loss expenses $ 11,911
Reserve for unearned premiums 193,616
Cash Overdraft 127,985
Accrued expenses and professional fees 614,034
Accounts payable 278,621
Notes payable 158,232
Accrued interest payable 41,942
Other liabilities 413,773
------------------
TOTAL LIABILITIES 1,840,114
SERIES A PREFERRED STOCK, $.0001 par value per share; 1 million shares
authorized; 1,109 shares issued and outstanding; stated liquidation value of
$1,000 per share 1,035,841
SERIES B PREFERRED STOCK, $.0001 par value per share; 10,000 shares authorized;
9,095,599 shares issued and outstanding; stated liquidation value of $1,000 per
share 6,780,186
------------------
TOTAL MANDATORILY REDEEMABLE PREFERRED STOCK 7,816,027
STOCKHOLDERS' EQUITY (DEFICIT)
Common stock, $.0001 par value per share; 490 million shares authorized;
154,937,837 shares issued and outstanding 15,494
Additional Paid In Capital 1,856,929
Accumulated deficit (7,227,668)
------------------
TOTAL STOCKHOLDERS' EQUITY (DEFICIT) (5,355,245)
------------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT) $ 4,300,896
==================
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
F-3
JACOBS FINANCIAL GROUP, INC,
CONSOLIDATED STATEMENT OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED MAY 31,
--------------------------------
2006 2005
-------------- --------------
REVENUES:
<S> <C> <C>
Investment advisory services $ 206,922 $ 238,035
Agency commissions 91,799 22,254
Insurance premiums 55,402 -
Net investment income 53,191 -
Net realized investment gains (losses) (10) -
Other income - 58
-------------- --------------
TOTAL REVENUES 407,304 260,347
EXPENSES:
Incurred policy losses 11,911 -
Insurance policy acquisition costs 18,877 -
General and administrative 1,378,730 902,444
Mutual fund costs 138,695 147,870
Interest 345,031 324,266
Depreciation 8,075 5,900
-------------- --------------
TOTAL EXPENSES 1,901,319 1,380,480
-------------- --------------
NET INCOME (LOSS) (1,494,015) (1,120,133)
-------------- --------------
Accretion of Mandatorily Redeemable Convertible
Preferred Stock, including accrued dividends (380,171) -
-------------- --------------
NET INCOME (LOSS) ATTRIBUTABLE TO COMMON STOCKHOLDERS $ (1,874,186) $ (1,120,133)
============== ==============
BASIC AND DILUTIVE NET INCOME (LOSS) PER SHARE:
NET INCOME (LOSS) PER SHARE $ (0.01) $ (0.01)
============== ==============
WEIGHTED-AVERAGE SHARES OUTSTANDING 133,022,038 122,663,860
============== ==============
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
F-4
JACOBS FINANCIAL GROUP, INC,
CONSOLIDATED STATEMENT OF CASH FLOWS
<TABLE>
<CAPTION>
Year Ended May 31
--------------------------
2006 2005
------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES
<S> <C> <C>
Net Income (Loss) $(1,494,015) $ (1,120,133)
Adjustments to reconcile net income (loss) to
net cash provided by operating activities:
Unearned premium 193,616 -
Stock option expense 117,979
Stock issued for debt forbearance and guarantees 61,775 34,637
Provision for loss reserves 11,911 -
Amortization of premium 9,336 -
Depreciation 8,075 5,900
Realized gains (losses) on sale of securities 10
Premium and other receivables (19,488) 13,697
Accretion of Discount (20,274) -
Investment income due and accrued (40,382) -
Deferred policy acquisition costs (70,399) -
Change in operating assets and liabilities:
Other assets (26,303) 236
Accounts payable 176,550 (8,038)
Accrued expenses and other liabilities 323,665 277,616
------------ ------------
Net cash flows from (used in) operating activities (767,944) (796,085)
CASH FLOWS FROM INVESTING ACTIVITIES
Advances to related party 361,009
Redemption of short-term investments 656,317 -
Repayment of mortgage-backed securities 89,672
Costs of bonds acquired (170,078) -
Costs of mortgage-backed securities (1,389,911)
Acquisition of insurance company (2,860,000) -
Purchase of furniture and equipment (27,456) (3,050)
Deposit - (25,000)
------------ ------------
Net cash flows from (used in) investing activities (3,340,447) (28,050)
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of Series A preferred stock and warrants 1,109,000 -
Proceeds from issuance of Series B preferred stock and warrants 3,191,921 -
Proceeds from issuance of stock 18,079
Proceeds from exercise of common stock warrants 14,171 -
Proceeds from short-term borrowings 1,038,531 1,610,614
Repayment of short-term borrowings (1,263,748) (786,663)
------------ ------------
Net cash flows from financing activities 4,107,954 823,951
NET INCREASE (DECREASE) IN CASH (437) (184)
CASH AT BEGINNING OF PERIOD 437 621
------------ ------------
CASH AT END OF PERIOD $ - $ 437
============ ============
SUPPLEMENTAL DISCLOSURES
Interest paid $ 188,022 $ 223,055
Income taxes paid - -
Non-cash investing and financing transactions:
Additional consideration for issuance of debt 61,775 -
Accrued interest converted to notes payable 20,740 -
Notes payable converted to Series B preferred stock 3,480,026
Accrued interest converted to Series B preferred stock 154,184
Accounts payable converted to Series B preferred stock 33,740
Acquisition of business (See Note C)
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
F-5
CONSOLIDATED STATEMENT OF MANDATORILY REDEEMABLE PREFERRED STOCK
AND STOCKHOLDERS' EQUITY (DEFICIT)
FOR THE YEAR ENDED MAY 31, 2006
<TABLE>
<CAPTION>
-----------------------------------------------------------
STOCKHOLDERS' EQUITY (DEFICIT)
SERIES B
SERIES A MANDATORILY REDEEMABLE -----------------------------------------------------------
MANDATORILY REDEEMABLE CONVERTIBLE ADDITIONAL
PREFERRED STOCK PREFERRED STOCK PAID-IN ACCUMULATED
SHARES AMOUNT SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT TOTAL
-------- ---------- ------- --------- ----------- -------- ------------ ----------- -----------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
BALANCE, MAY 31, 2004 - - - - 120,709,510 $ 12,071 $ 1,080,696 $(4,233,349) $(3,140,582)
Issuance of stock for debt
forbearance and guarantee 1,954,350 195 34,442 34,637
Net income (loss), year
ended May 31, 2005 - - - - - - - (1,120,133) (1,120,133)
-------- ---------- ------- --------- ----------- -------- ------------ ----------- -----------
BALANCE, MAY 31, 2005 - - - - 122,663,860 12,266 1,115,138 (5,353,482) (4,226,078)
Issuance of Series A and
Series B Preferred Stock and 1,109 1,025,957 9,095.599 6,409,899 225,000 23 551,072 - 551,095
Common Stock Warrants
Issuance of common stock upon
exercise of warrants - - - - 30,331,476 3,033 11,138 - 14,171
Accretion of mandatorily
redeemable convertible
preferred stock - 6,094 - 189,565 - - - (195,659) (195,659)
Issuance of common stock as
additional consideration for
financing arrangements 1,717,500 172 61,602 61,774
Accrued Dividends of
mandatorily redeemable
convertible preferred stock 3,790 180,722 (184,512) (184,512)
Issuance of common stock
options 117,979 117,979
Net Income (loss), year ended
May 31, 2006 - - - - - - - (1,494,015) (1,494,015)
-------- ---------- ------- --------- ----------- -------- ------------ ----------- -----------
BALANCE, MAY 31, 2006 1,109 $1,035,841 9,095.599 $6,780,186 154,937,836 $ 15,494 $ 1,856,929 $(7,227,668)$(5,355,245)
======== ========== ======= ========= =========== ======== ============ =========== ===========
---------------------------------------- -------------------------------------------------------------
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
F-6
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - ORGANIZATION AND BUSINESS
ORGANIZATION AND NATURE OF BUSINESS
Jacobs Financial Group, Inc. (the "Company" or "JFG"), formerly NELX, Inc., was
incorporated in Kansas on March 25, 1983. In 2001, the Company acquired two
wholly-owned subsidiaries located in Charleston, West Virginia: Jacobs & Company
("Jacobs") and FS Investments, Inc. ("FSI"). Jacobs is a registered investment
advisory firm that derives its revenue from asset-based fees. Jacobs serves
clients in approximately twenty states, primarily in the eastern United States.
FSI, through its wholly-owned subsidiary Triangle Surety Agency, Inc.
("Triangle"), is engaged in the business of placing surety bonds with insurance
companies for clients engaged in regulated industries, such as the extraction of
coal, oil and gas. FSI receives commission income from the placement of these
bonds and is licensed in ten states primarily in the eastern United States. On
December 30, 2005, the Company acquired all of the outstanding stock of West
Virginia Fire & Casualty Company ("WVFCC"), an insurance company licensed to
engage in business in West Virginia, Ohio and Indiana. Following the
acquisition, the name of WVFCC was changed to First Surety Corporation ("FSC").
FSC receives insurance premium income in connection with the issuance of surety
bonds. The Company and its subsidiaries are subject to the business risks
inherent with the financial services industry.
LIQUIDITY AND GOING CONCERN
These financial statements are presented on the basis that the Company is a
going concern. Going concern contemplates the realization of assets and the
satisfaction of liabilities in the normal course of business over a reasonable
length of time. The Company incurred operating losses of approximately
$1,874,000 and $1,120,000 for the years ended May 31, 2006 and 2005. Losses are
expected to continue until FSC develops substantial business. While improvement
is anticipated as the business plan is implemented, restrictions on the use of
FSC's assets (See Note D), the company's significant deficiency in working
capital and stockholders' equity raise substantial doubt about the Company's
ability to continue as a going concern.
F-7
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Management intends to continue with steps it has taken to improve cash flow
through the implementation of its business plan. Additionally, management
continues to seek to raise additional funds for operations through private
placements of stock, other long-term or permanent financing, or short-term
borrowings. However, the Company cannot be certain that it will be able to
continue to obtain adequate funding in order to reasonably predict whether it
will be able to continue as a going concern. The accompanying financial
statements do not include any adjustments that might result from the outcome of
this uncertainty.
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of Jacobs Financial
Group, Inc. and its majority owned subsidiaries, after the elimination of
intercompany transactions.
USE OF ESTIMATES
Preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Significant areas requiring the use of
management estimates are loss reserves, stock options and the valuation of
deferred tax benefits. Actual results inevitably will differ from those
estimates, and such differences may be material to the financial statements.
RECENT ACCOUNTING PRONOUNCEMENTS
In December 2004, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standard ("SFAS") No. 123R "Share-Based
Payment" ("SFAS 123R"), a revision to SFAS No. 123 "Accounting for Stock- Based
Compensation" ("SFAS 123"), and superseding APB Opinion No. 25 "Accounting for
Stock Issued to Employees" and its related implementation guidance. SFAS 123R
establishes standards for the accounting for transactions in which an entity
exchanges its equity instruments for goods or services, including obtaining
employee services in share-based payment transactions. SFAS 123R applies to all
F-8
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
awards granted after the required effective date and to awards modified,
repurchased, or cancelled after that date. Adoption of the provisions of SFAS
123R is effective as of the beginning of the first annual reporting period that
begins after June 15, 2005. JFG has adopted the provisions of SFAS 123R with
respect to its stock-based compensation plan (See Note L).
In December 2004, the FASB issued FASB Statement No. 153 "Exchanges of
Nonmonetary Assets-an amendment of APB Opinion Non. 29". This Statement
addresses the measurement of exchanges of nonmonetary assets. The guidance in
APB Opinion No. 29, Accounting for Nonmonetary Transactions, is based on the
principle that exchanges of nonmonetary assets should be measured based on the
fair value of the assets exchanged. The guidance in that Opinion, however,
included certain exceptions to that principle. This Statement amends Opinion 29
to eliminate the exception for nonmonetary exchanges of similar productive
assets and replaces it with a general exception for exchanges of nonmonetary
assets that do not have commercial substance. A nonmonetary exchange has
commercial substance if the future cash flows of the entity are expected to
change significantly as a result of the exchange. This Statement is effective
for financial statements for fiscal years beginning after June 15, 2005. Earlier
application is permitted for nonmonetary asset exchanges incurred during fiscal
years beginning after the date of this Statement is issued. Management does not
expect the adoption of the provisions of SFAS No. 153 to have a material impact
on the Company's results of operations or financial position.
In June 2005, the FASB issued Statement 154, "Accounting Changes and Error
Corrections" which replaces APB Opinion 20 and FASB Statement 3. Statement 154
changes the requirements for the accounting and reporting of a change in
accounting principle. Opinion 20 previously required that most voluntary changes
in accounting principles be recognized by including the cumulative effect of the
new accounting principle in net income of the period of change. Statement 154
now requires retrospective application of changes in accounting principle to
prior period financial statements, unless it is impractical to determine either
the period-specific effects or the cumulative effect of the change. The
statement is effective for fiscal years beginning after December 15, 2005.
Management does not expect the adoption of the provisions of SFAS No. 154 to
have a material impact on the Company's results of operations or financial
position.
F-9
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In February 2006, FASB issued SFAS No. 155 "Accounting for Certain Hybrid
Financial Instruments-an amendment of FASB Statements No. 133 and 140". This
statement address accounting issues relating to beneficial interests in
securitized financial assets. This Statement is effective for all financial
instruments acquired or issued after the beginning of an entity's first fiscal
year that begins after September 15, 2006. Management does not expect the
adoption of the provisions of SFAS No. 155 to have a material impact on the
Company's results of operations or financial position.
In March 2006, FASB issued SFAS No. 156 "Accounting for Servicing of Financial
Assets-an amendment of FASB Statement No. 140". This statement addresses
accounting for separately recognized servicing assets and servicing liabilities
when an entity undertakes a contract to service financial assets. This Statement
is to be adopted as of the beginning of the first fiscal year that begins after
September 15, 2006. Management does not expect the adoption of the provisions of
SFAS No. 156 to have a material impact on the Company's results of operations or
financial position.
REVENUE RECOGNITION
Fees for investment advisory services are based on an agreed percentage of the
value of client assets under management and are accrued monthly based on the
market value of client assets.
Surety premiums are earned pro rata over the term of the policies. The reserve
for unearned premiums represents the portion of premiums written relating to the
unexpired terms of coverage. The reserve for unearned premium is determined
using the monthly pro rata method.
Agency commissions for surety bond services are based on a percentage of
premiums charged for bonds placed with insurance companies, and are recorded
upon issuance or effective renewal date of the bonds. No significant continuing
services subsequent to the issuance or renewal of surety bonds are required.
F-10
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Policy acquisition costs include costs that vary with and are primarily related
to the acquisition of new business. Such costs generally include commissions,
underwriting expenses, and premium taxes and are deferred and amortized over the
period in which the related premiums are earned. The deferred policy acquisition
cost assets is reviewed for recoverability based on the profitability of the
underlying surety policy. Investment income is not anticipated in the
recoverability of deferred policy acquisition costs.
INVESTMENTS
Debt securities are designated at purchase as held-to-maturity, trading or
available for sale. Held-to-maturity debt securities are carried at amortized
cost where the Company has the ability and intent to hold these securities until
maturity. Premiums and discounts arising from the purchase of debt securities
are treated as yield adjustments over the estimated lives or call date, if
applicable.
Debt and equity securities that are bought and held principally for sale in the
near future are classified as trading securities and are carried at current
market values, with changes in market value being recorded in current
operations.
Debt and equity securities that the Company may not have a positive intent to
hold until maturity and not classified as trading, are considered to be
available for sale and carried at current market values, with unrealized gains
and losses reflected as a separate component of other comprehensive income in
consolidated shareholders' equity currently.
Short-term investments consist primarily of debt securities having maturities of
one year or less at date of purchase, money-market investment funds and other
similar investments that have immediate availability.
Interest income with respect to fixed maturity securities is accrued as earned.
Dividend income is generally recognized when receivable.
Realized gains and losses are determined by specific identification of the
security sold.
F-11
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
ALLOWANCE FOR UNCOLLECTIBLE PREMIUM AND OTHER RECEIVABLES
The majority of our fee revenue is generated by services provided to companies
throughout the Eastern United States. We evaluate the need for a reserve for the
amount of these receivables that may be uncollectible, based on historical
collection activity adjusted for current conditions. Based on this evaluation,
management believes that substantially all accounts receivable are collectible,
and therefore has not established an allowance for estimated uncollectible
accounts.
IMPAIRMENT
We evaluate long-lived assets for impairment annually, or whenever events or
changes in circumstances indicate that the assets may not be recoverable. The
impairment is measured by calculating the estimated future cash flows expected
to be generated, and comparing this amount to the carrying value of the asset.
Cash flows are calculated utilizing forecasts and projections and estimated
lives of the assets being analyzed. Should actual results differ from those
forecasted and projected, we are subject to future impairment charges related to
these facilities.
FURNITURE AND EQUIPMENT
Furniture and equipment is recorded at cost. Maintenance and repairs are charged
to operations when incurred. When property and equipment are sold or disposed
of, the asset account and related accumulated depreciation account are relieved,
and any gain or loss is included in operations. The cost of property and
equipment is depreciated over the estimated useful lives of the related assets,
ranging from three to seven years, using the straight-line and double-declining
balance methods, which approximates estimated economic depreciation.
F-12
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
RESERVE FOR LOSSES AND LOSS EXPENSES
Losses and loss adjustment expenses represent management's best estimate of the
ultimate net cost of all reported and unreported losses incurred. Reserves for
unpaid losses and loss adjustment expenses are estimated using individual
case-basis valuations in conjunction with estimates derived from industry and
Company historical experience. These estimates and methods of establishing
reserves are continually reviewed and updated.
INCOME TAXES
We currently have net operating loss ("NOL") carry-forwards that can be utilized
to offset future income for federal and state tax purposes. These NOLs generate
a significant deferred tax asset. However, we have recorded a valuation
allowance against this deferred tax asset as we have determined that it is more
likely than not that we will not be able to fully utilize the NOLs. Should our
assumptions regarding the utilization of these NOLs change, we may reduce some
or all of this valuation allowance, which would result in the recording of a
deferred income tax benefit.
STOCK-BASED COMPENSATION
We have adopted the fair value method of accounting for stock-based compensation
recommended by SFAS No. 123R, Accounting for Stock-based Compensation.
The fair value of stock options is estimated at the grant date using the Black
Scholes Option Pricing Model. This model requires the input of a number of
assumptions, including expected dividend yields, expected stock price risk- free
interest rates, and an expected life of the options. Although the assumptions
used to reflect management's best estimate, they involve inherent uncertainties
based on market conditions generally outside the control of the Company. If
future market conditions are different than the assumptions used, stock-based
compensation expense could be significantly different.
EARNINGS (LOSS) PER SHARE
Basic earnings (loss) per share of common stock are computed using the weighted
average number of shares outstanding during each period. Diluted earnings per
share are computed on the basis of the average number of common shares
outstanding plus the dilutive effect of convertible debt, stock options and
warrants. In periods of net loss, there are no diluted earnings per share since
the result would be anti-dilutive.
F-13
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
RECLASSIFICATIONS
Certain amounts in the 2005 Consolidated Financial Statements have been
reclassified to be consistent with the presentation in the Consolidated
Financial Statements as of May 31, 2006 and for the years then ended. Such
reclassifications resulted from the Company's acquisition of WVFCC (now FSC).
The Company's Consolidated Financial Statements include the assets, liabilities
and results of operations of FSC subsequent to its acquisition on December 30,
2005. These reclassifications had no impact on previously reported net income,
cash flow from operations or changes in shareholder equity.
NOTE C-ACQUISITION
On December 30, 2005, the Company acquired all of the outstanding stock of West
Virginia Fire and Casualty Company (WVFCC), an insurance company licensed to
engage in business in West Virginia, Ohio and Indiana. The acquisition followed
the approval of the transaction by the West Virginia Department of Insurance,
which included approval of the Company's business plan to operate the acquired
insurance company as a surety. The financing of the transaction consisted of a
combination of a private placement of preferred stock and warrants to acquire
common stock of the Company in exchange for cash totaling $3,335,000, of which
$2,860,000 was used for the acquisition of WVFCC. In addition, approximately
$3,668,000 of indebtedness of the Company was converted into preferred stocks
and warrants. Following the acquisition, the name of WVFCC was changed to First
Surety Corporation (FSC).
The acquisition of FSC allows the Company to pursue its business plan to market
and issue surety bonds utilizing programs developed by the Company's subsidiary,
FS Investments, Inc. (FSI). FSI's subsidiary, Triangle Surety Agency, Inc.
(TSA), serves as managing general agent for First Surety, and collateralized
accounts required as a condition of the issuance of surety bonds under the
insurance company's programs are managed by the investment advisory subsidiary
of the Company, Jacobs & Company (J&C).
F-14
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The successful implementation of the business plan by the Company will create
three primary revenue streams, insurance premium for the issuance of surety
bonds, agency commissions for the production and placement of bonds, and
investment advisory fees relating to the management of the collateralized
accounts securing the surety bonds. The bonding programs offered are specialized
in nature and will initially be targeted to the coal and oil & gas industries,
primarily in the Eastern United States.
The acquisition of WVFCC consisted of the purchase of marketable investments and
insurance licenses and did not include any existing policies or customer base as
the insurance lines of business offered by WVFCC are not insurance lines that
the Company intends to pursue. Accordingly, pro forma information relating to
the acquisition as if it had occurred as of the beginning of the reported period
has been omitted as it would not be meaningful.
NOTE D - INVESTMENTS
The Company's insurance subsidiary (FSC) held the following investments, by
security type, with the positive intent and ability to hold to maturity:
MAY 31, 2006
------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED FAIR MARKET
COST GAINS LOSSES VALUE
---------- ---------- --------- ----------
U. S. Government and
government agencies $1,029,964 $ - $ 5,811 $1,024,153
U.S Government agency
mortgage-backed
securities 1,360,778 - 17,670 1,343,108
---------- ---------- --------- ----------
$2,390,742 $ - $ 23,481 $2,367,261
========== ========== ========= ==========
F-15
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The amortized cost and estimated market values of investments in fixed-
maturities held-to-maturity at May 31, 2006 are as follows:
AMORTIZED FAIR MARKET
COST VALUE
Due in one year or less $ 508,723 $ 506,720
Due after one year through five years 521,241 517,433
---------- -----------
$1,029,964 $ 1,024,153
========== ===========
U.S. government agency mortgaged-backed securities held by the Company as of May
31, 2006 have a weighted-average estimated remaining life of twenty-three and
one-half years. Expected maturities may differ from contractual maturities
because borrowers of the underlying mortgages have a right to prepay
obligations.
Statutory deposits consisting of securities with a carrying value of $1,029,964
were deposited by the Company's insurance subsidiary under requirements of
regulatory authority. In connection with regulatory approval of the Company's
acquisition of its insurance subsidiary, certain restrictions were imposed on
the ability of the Company to withdraw funds from FSC without prior approval of
the Insurance Commissioner. Accordingly, investments and cash in the amount of
$3,591,569 as of May 31, 2006 are restricted to the use of FSC.
The Company held no investments classified as available-for-sale.
An analysis of net investment income follows:
2006
---------
Bonds-fixed maturities $ 17,027
Mortgage-backed securities 6,913
Short-term investments 32,880
---------
Total investment income 56,820
Investment expenses 3,629
---------
Net investment income $ 53,191
=========
F-16
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The realized investment gains (losses) and increase (decrease) in unrealized
appreciation of investments were as follows:
2006
---------
Realized gains (losses)
on investments:
Bonds-fixed maturities $ -
Mortgage-backed securities -
Short-term investments (10)
---------
Realized gains (losses) $ (10)
=========
Increase (decrease) in
unrealized appreciation
of investments:
Bonds-fixed maturities $ (5,811)
Mortgage-backed securities (17,670)
----------
Increase (decrease) in
unrealized appreciation $ (23,481)
==========
NOTE E-DEFERRED POLICY ACQUISITION COSTS
The following reflects the policy acquisition costs deferred for amortization
against future income and the related amortization charged to operations.
2006
---------
Balance at beginning of year $ -
Acquisition costs deferred 89,276
Amortization charged to operations (18,877)
---------
Balance at end of year $ 70,399
=========
F-17
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE F - INTANGIBLES
As the result of the acquisition of the stock of FSC on December 30, 2005, in
exchange for the purchase price of $2,900,000, the Company received cash and
investments held by FSC with a fair market value of $2,750,000, with the
difference of $150,000 being attributed to the property and casualty licenses of
FSC in the states of West Virginia, Ohio and Indiana. Such licenses have
indefinite lives and are evaluated annually for recoverability and possible
impairment loss.
NOTE G-RESERVE FOR LOSSES AND LOSS EXPENSE
Reserves for unpaid losses and loss adjustment expenses are estimated using
individual case-basis valuations in conjunction with estimates derived from
industry and Company historical experience. As of May 31, 2006, the Company's
insurance subsidiary, FSC, is licensed to write coal reclamation and mining
surety bonds in West Virginia only. By nature, reclamation of land that has been
disturbed by mining operations is a highly regulated process by federal, state
and local jurisdictions and such bonds are generally long-term in nature with no
two principals or properties being alike due to varied company structures and
unique geography and geology of each site. In underwriting such bonds,
management obtains estimates of costs to reclaim such properties in accordance
with the mining permit, as prepared by independent outside professionals hired
by FSC, in addition to other underwriting and financial risk considerations. FSC
requires the principal to provide cash collateral in amounts deemed to be
sufficient to reclaim the disturbed land and thus mitigate the exposure to
significant loss. As a newly licensed insurance company, FSC has experienced no
claims for losses as of May 31, 2006 and thus provisions for losses and loss
adjustment expense have been based on industry averages adjusted for other
factors unique to the Company's approach.
NOTE H - NOTES PAYABLE TO INDIVIDUALS AND DUE FROM RELATED PARTY
At May 31, 2006, the Company had unsecured notes payable to individuals (all
common shareholders) amounting to $158,232. Such notes have maturity dates of
less than one year or are payable on demand and bear interest at the rate of ten
percent (10.00%) per annum.
F-18
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
During 2005 and 2006, the Company's operating expenses were partially funded by
advances from its largest shareholder and chief executive officer, John M.
Jacobs. The funding source for these advances originated with obligations
incurred by Mr. Jacobs with third-parties (such obligations, together with the
loans by Mr. Jacobs to the Company, "back-to-back loans") with interest rates
ranging from 6.75% to 12%. To assure that repayments of the various borrowings
by the Company that were either guaranteed by Mr. Jacobs or loaned to the
Company by Mr. Jacobs via such back-to-back loan arrangements did not result in
a deemed loan to Mr. Jacobs, Mr. Jacobs entered into an Assumption Agreement
with the Company, pursuant to which Mr. Jacobs assumes, and agrees to hold the
Company harmless from, principal of specified indebtedness of the Company as and
when necessary to fully offset what might otherwise be deemed an advance of
funds arising out of the Company's financing activities.
During the year ended May 31, 2006, the Company made net repayments of
$1,170,546 on the back-to-back loans which was $508,036 more than the original
loans and interest charges. In accordance with the Assumption Agreement, the
Company assigned to Mr. Jacobs and Mr. Jacobs assumed responsibility for payment
of certain debt totaling $101,326 and accounts payable totaling $365,000 during
the year ended May 31, 2006. The debt obligation was re-ssued in the name of Mr.
Jacobs; and therefore the debt amount was relieved and offset against the
receivable from Mr. Jacobs. Although the Company assigned accounts payable
totaling $365,000 to Mr. Jacobs through the Assumption Agreement, for financial
reporting purposed under generally accepted accounting principles, the accounts
payable amount cannot be derecognized until either paid or released by the
creditor. The Company did receive a release after May 31, 2006 as is reflected
in subsequent events Note T. The balance due from Mr. Jacobs as of May 31, 2006
is $361,009.
NOTE I - OTHER LIABILITIES
The Company had been delinquent in paying certain of its payroll tax obligations
for periods ending on or before December 31, 2005. The total liability,
including an estimate for penalties and interest, is approximately $387,500 and
is included in the Company's financial statements under Other Liabilities.
Management continues to seek financing arrangements that will allow it to fully
satisfy this obligation in the near future.
F-19
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE J - REDEEMABLE PREFERRED STOCK
On December 30, 2005, through a private placement, the Company issued 350 shares
of 4% Non-Voting Series A Preferred Stock (Series A Preferred Stock), along with
1,050,000 warrants for common shares of Company stock as additional
consideration, for a cash investment in the amount of $350,000, in connection
with the Company's acquisition of FSC. The purchase of Series A Preferred Stock
is a condition of the qualification of such purchasers to participate in certain
surety bonding programs of FSC under which the participant's obligations to FSC
are not fully secured. Holders of Series A Preferred Stock are entitled to
participate in the FSC's partially collateralized bonding programs, subject to
continuing satisfaction of underwriting criteria, based upon the bonding
capacity of FSC attributable to capital reserves of FSC established with the
subscription proceeds (i.e., bonding capacity equal to ten times subscription
proceeds) and for so long as the subscriber holds the Series A shares. Holders
of the Series A Preferred Stock are entitled to receive, when and as declared by
the board of directors, cumulative preferential cash dividends at a rate of four
percent of the $1,000 liquidation preference per annum (equivalent to a fixed
annual rate of $40 per share). The Series A Preferred Stock ranks senior to the
Company's common stock, and pari passu with the Company's Series B Preferred
Stock, with respect to dividend rights and rights upon liquidation, dissolution
or winding up of the Company. The holder may redeem the Series A Preferred Stock
on or after the seventh anniversary of the Issue Date, if the holder provides a
written statement to the Company that it will no longer require surety bonds
issued by the Company's insurance subsidiary (FSC) under its partially
collateralized bonding programs and, if no such surety bonds are then
outstanding, the Company, at the option of the holder, will redeem all or any
portion of the Series A Preferred Stock of such holder at a price per share
equal to the Series A Preferred Stock Issue Price plus all accrued and unpaid
dividends with respect to the shares of the Series A Preferred Stock of such
holder to be redeemed. The conditional redemption shall not be available to any
holder of Series A Preferred Stock for so long as surety bonds of the Company's
insurance subsidiary issued on a partially collateralized basis remain
outstanding for the benefit of such holder, and upon redemption, such holder
shall no longer be eligible to participate in the partially collateralized
bonding programs of the insurance subsidiary. The Company is authorized to issue
up to 1,000,000 shares of the Series A Preferred Stock.
F-20
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
As of May 31, 2006, the Company has issued an additional 759 shares of Series A
Preferred Stock in exchange for cash investments in the amount of $759,000. As
of May 31, 2006 the Company has chosen to defer payment of dividends on the
Series A Preferred Stock with such accrued and unpaid dividends amounting to
$3,970 through March 31, 2006.
On December 30, 2005, through a private placement, the Company issued 3,980
shares of 8% Non-Voting Series B Convertible Preferred Stock (Series B Preferred
Stock), along with 19,900,000 warrants for common shares of Company stock as
additional consideration, for a cash investment in the amount of $2,985,000; and
issued 4,890.599 shares of Series B Preferred Stock, along with 24,452,996
warrants for common shares of Company stock as additional consideration, for a
conversion of $3,667,949 of indebtedness of the Company, in connection with the
Company's acquisition of FSC. Holders of the Series B Preferred Stock are
entitled to receive, when and as declared by the board of directors, cumulative
preferential cash dividends at a rate of eight percent of the $1,000 liquidation
preference per annum (equivalent to a fixed annual rate of $80 per share). The
Series B Preferred Stock ranks senior to the Company's common stock, and pari
passu with the Company's Series A Preferred Stock, with respect to dividend
rights and rights upon liquidation, dissolution or winding up of the Company.
Each share of the Series B Preferred Stock is convertible at the option of the
holder, at any time after the original issue date, into 1,000 fully paid and
nonassessable shares of the Company's common stock at a conversion price of
$1.00 per common share. The Company may redeem the Series B Preferred Stock at
any time after the first anniversary of the Original Issue Date at a price per
share equal to the Series B Preferred Stock Face Amount plus all accrued and
unpaid dividends with respect to the shares of the Series B Preferred Stock of
such holder to be redeemed. To the extent that the Series B Preferred Stock has
not been redeemed by the Company, the holder may redeem the Series B Preferred
Stock on or after the fifth anniversary of the Original Issue Date at a price
per share equal to the Series B Preferred Stock Face Amount plus all accrued and
unpaid dividends with respect to the shares of the Series B Preferred Stock of
such holder to be redeemed. The Company is authorized to issue up to 10,000
shares of the Series B Preferred Stock. As of May 31, 2006, the Company has
issued an additional 225 shares of Series B Preferred Stock and 225,000 shares
of the Company's common stock as additional consideration, in exchange for cash
investments in the amount of $225,000. As of May 31, 2006 the
F-21
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Company has chosen to defer payment of dividends on the Series B Preferred Stock
with such accrued and unpaid dividends amounting to $180,722 through March 31,
2006.
Management consulted Statement of Financial Accounting Standards (SFAS) Number
133, "Accounting for Derivative Instruments and Hedging Activity", Emerging
Issues Task Force (EITF) Number 00-19, "Accounting for Derivative Financial
Instruments Indexed to, and Potentially Settled in, a Company's Own Stock", and
SFAS 150, "Accounting for Certain Instruments with Characteristics of Both
Liabilities and Equity" in evaluating the accounting for preferred securities.
Management determined that SFAS 150 is the appropriate accounting literature.
SFAS 150 requires that an entity classify as liabilities certain financial
instruments with characteristics of both liabilities and equity. SFAS 150
applies to certain freestanding financial instruments that embody an obligation
for the entity that may require the entity to issue shares, redeem or repurchase
its shares.
The Company's Series A and B preferred stock each have mandatory redemption
features that subject the Company to the analysis of equity versus liability. In
accordance with SFAS 150, both Series A and B have features that embody a
conditional obligation to redeem the instrument upon events not certain to occur
and accordingly, are not classified as liabilities until such events are certain
to occur. With respect to the Series A Preferred Stock, such condition is
contingent upon the holder having no further need for surety bonds issued by the
Company's insurance subsidiary (FSC) under its partially collateralized bonding
programs and, having no such surety bonds then outstanding. With respect to the
Series B Preferred Stock, in accordance with SFAS 150, if the stock provides an
option to the holder to convert to common shares at a rate equivalent to fair
value, then the financial instruments are not mandatorily redeemable during the
period in which the holder can convert the shares into common shares. As the
Series B Preferred Stock contains a feature to convert to common shares at a
fixed rate of $1.00 per share, and such conversion rate appearing reasonable
within the period prior to the redemption date, the Company has determined that
both the Series A and B preferred stocks should not be classified as
liabilities. However, in accordance with Securities and Exchange Commission
(SEC) Issued Topic No. D- 98, SEC Staff Announcement, "Classification and
Measurement of Redeemable Securities", a company that issues preferred shares
that are conditionally
F-22
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
redeemable (i.e., the shares are not within the scope of SFAS 150 because there
is no unconditional obligation to redeem the shares at a specified or
determinable date or upon an event certain to occur) is required to account for
the conditionally redeemable preferred shares in accordance with Accounting
Series Release 268, which states that the shares are to be reflected on the
company's balance sheet between total liabilities and stockholders' equity as
temporary equity.
NOTE K - STOCK WARRANTS
At May 31, 2006, the Company had issued and outstanding warrants to purchase
16,904,664 shares of common stock.
On December 30, 2005, the Company issued warrants to purchase 45,402,996 shares
of common stock in connection with the Series A and B Preferred Stock private
placements of which 14,904,664 remain outstanding. The exercise price of the
warrants is one-tenth of one cent ($.001) per share and expire on December 30,
2010. The warrants were valued using the Black-Scholes pricing model. The
warrants issued in connection with the Series A Preferred Stock were valued at
$.08 per share or $83,043. The warrants issued in connection with the Series B
Preferred Stock were valued at $.01 per share or $449,972.
On September 29, 2003, the Company issued warrants to purchase 2 million common
shares to a principal vendor in connection with financing and forbearance in
payment of certain trade obligations. The exercise price of the warrants is $.04
per share and expire September 30, 2008. The warrants were valued using the
Black-Scholes pricing model at $.02 per share or $39,966.
NOTE L-STOCK-BASED COMPENSATION
On October 12, 2005, the board of directors adopted its 2005 Stock Incentive
Plan (the "Plan") to allow the Company to make awards of stock options as part
of the Company's compensation to key employees, non-employee directors,
contractors and consultants. The Plan was approved by the stockholders on
December 8, 2005. The aggregate number of shares of Common Stock issuable under
all awards under the Plan is 35,000,000. No awards may be granted under the Plan
after December 8, 2015.
F-23
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
On October 12, 2005, the board of directors approved a severance arrangement for
a long-time employee of the Company terminated by reason of disability. The
arrangement included (i) continuing salary and benefits through May 2006, and
(ii) an award of 1,000,000 options to acquire common shares at an exercise price
of four cents ($.04) per share. The estimated value of continuing salary and
benefits was approximately $30,000, and the estimated value of the options
awarded was approximately $13,500. The term of the award is five years.
On May 25, 2006, the compensation committee of the board of directors awarded
23,400,000 of incentive stock options to acquire common shares at an exercise
price of seven cents ($.07) per share, of which 5,500,000 shares vested
immediately and the remaining 17,900,000 options vesting over the next four
years. Stock-based compensation expense attributable to such awards amounted to
approximately $104,500 in fiscal year 2005-2006. Unrecognized compensation
expense related to non-vested awards at May 31, 2006 was approximately $340,250
and is expected to be recognized over the next four years. The term of the
awards is five years.
The following table summarizes option activity under the Plan for the year ended
May 31, 2006.
2006
----
WEIGHTED-AVG.
EXERCISE NO. OF SHARES
PRICE UNDER OPTION
Balance at June 1 n/a -
Options granted $.06877 24,400,000
Options exercised - -
Options canceled/expired - -
--------- ------------
Balance at May 31 $.06877 24,400,000
========= ============
Exercisable at May 31 $.06538 6,500,000
========= ============
F-24
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The company estimates the fair value of stock options using a Black-Scholes
valuation model, consistent with the provisions of SFAS 123R. Key inputs and
assumptions used to estimate the fair value of stock options include the grant
price of the award, the expected option term, volatility of the company's stock,
the risk-free interest rate and the company's dividend yield. The following
table presents the weighted-average assumptions used for the options granted.
Option term (years) 4.76
Volatility 100%
Risk-free interest rate 4.95%
Dividend yield 0.00%
Weighted-average fair
value per option granted $0.019
NOTE M - INCOME TAXES
As of May 31, 2006, the Company had operating loss carryforwards of
approximately $12 million. These carryforwards begin expiring in 2012 and are
subject to review by the Internal Revenue Service and, as a result of the
ownership change resulting from the 2001 acquisitions of FSI and Jacobs, the
utilization of approximately $6.4 million of the operating loss carryforwards
are substantially limited.
The Company has fully reserved the $4.1 million tax benefit of the operating
loss carryforward, by a valuation allowance of the same amount, because the
likelihood of realization of the tax benefit cannot be determined.
NOTE N-STOCKHOLDERS EQUITY
In fiscal 2005, confirming promises made to certain of its third-party financing
sources, the Company issued 1,954,350 shares of its common stock to certain
holders of predominantly demand promissory notes in consideration of the
continuing forbearance and guarantees granted by such note holders. The shares
were valued at approximately $.0178 per share based on quoted closing prices on
the dates the stock was committed, a total of $34,637.
In fiscal 2006, the Company issued 1,717,500 shares of its common stock to
certain individuals as consideration in connection with arranging or providing
financing to the Company. The shares were valued at approximately $.0719 per
share based on quoted closing prices on the dates the stock was committed, a
total of $61,774.
F-25
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE O-STATUTORY FINANCIAL DATA (UNAUDITED)
The Company's insurance subsidiary files financial statements prepared in
accordance with statutory accounting practices prescribed or permitted by
regulatory authorities. The principal differences between statutory financial
statements and financial statements prepared in accordance with generally
accepted accounting principals are that statutory financial statements do not
reflect deferred policy acquisition costs and certain assets are non-admitted.
Statutory surplus and net income for the Company's insurance subsidiary as of
May 31, 2006 and for the five-month period then ended are as follows:
Statutory Surplus $ 3,334,198
Net Income (Loss) (144,246)
Statutory surplus exceeds the minimum capital requirements provided by state
law.
NOTE P - COMMITMENTS
LEASE COMMITMENTS
The Company leases certain office equipment with combined monthly payments of
approximately $700 that have varying remaining terms of less than five years.
The Company's lease of office, parking space and storage space have lease terms
of one year or less at an approximate monthly rate of $3,800 through January
2007.
The Company leases an apartment for corporate use that has a remaining term of
18 months at a monthly rate of $545.00 plus electric utilities.
The Company holds an undeveloped leasehold interest in a mineral water spring
located near Hot Springs, Arkansas. Under the leasehold arrangement, the Company
makes minimum lease payments of $150 per month. The Company has options to
extend the leasehold arrangement through October 2026 and also has a right to
cancel the lease at any time upon sixty (60) days written notice.
Rental expense for these lease commitments totaled approximately $49,500 and
$47,000 during 2006 and 2005.
F-26
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Minimum future lease payments under non-cancelable operating leases having
remaining terms in excess of one year as of May 31, 2006 are:
2007 $13,500
2008 10,260
2009 7,020
2010 5,361
NOTE Q - FINANCIAL INSTRUMENTS
FAIR VALUE
The following methods and assumptions were used to estimate fair market value of
each class of financial instruments for which it is practicable to estimate that
value:
INVESTMENT SECURITIES
Fair values for investment securities (U.S. Government, government agencies and
government agency mortgage-backed securities) held for investment purposes (held
to maturity) are based on quoted market prices or dealer quotes. If a quoted
market prices is not available, fair value is estimated using quoted market
prices for similar securities.
OTHER FINANCIAL INSTRUMENTS
The carrying amount of cash, short-term investments, receivables, prepaid
expenses, notes payable, accounts payable and accrued expenses and other
liabilities approximate fair value because of the immediate or relatively
short-term maturity of these financial instruments.
CONCENTRATION OF CREDIT RISK
Statement of Financial Accounting Standards No. 105, "Disclosure of Information
about Financial Instruments with Off-Balance-Sheet Risk and Financial
Instruments with Concentrations of Credit Risk", requires disclosure of
significant concentration of credit risk regardless of the degree of such risk.
F-27
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
As of May 31, 2006 the Company's investment securities of approximately
$2,391,000 are solely comprised of bonds issued by the U.S. government and
government agencies and mortgage-backed securities that are guaranteed by U.S
government agencies. Such instruments are generally considered to be of the
highest credit quality investment available.
The Company transacts the majority of its business with four financial
institutions, one for commercial banking services and the others for brokerage
and custodial services. Periodically, the amount on deposit in financial
institutions providing commercial banking services exceeds the $100,000
federally insured limit. Management believes these financial institutions are
financially sound. With respect to the financial institutions providing
brokerage and custodial services, amounts on deposit are invested in money
market funds comprised of high quality money market instruments consisting of
certificates of deposit, bankers' acceptances, prime commercial paper, corporate
obligations, municipal obligations and U.S. government securities.
Management believes that substantially all receivables are collectible, and
therefore has not established an allowance for estimated uncollectible accounts.
NOTE R - SEGMENT REPORTING
The Company has two reportable segments, investment advisory services and surety
insurance products and services. The following table presents revenue and other
financial information by industry segment.
F-28
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
YEAR ENDED
INDUSTRY SEGMENT MAY 31, 2006 MAY 31, 2005
---------------- ------------ ------------
REVENUES:
<S> <C> <C>
Investment advisory $ 206,922 $ 238,035
Surety insurance 200,382 22,254
Corporate - 58
---------- ------------
Total revenues $ 407,304 $ 260,347
========== ============
OPERATING (LOSS):
Investment advisory $ (537,298) $ (458,420)
Surety insurance (161,255) (183,932)
Corporate (795,462) (477,781)
---------- ------------
Total operating income (loss) $(1,494,015) $(1,120,133)
========== ============
IDENTIFIABLE ASSETS:
Investment advisory $ 40,271 $ 40,384
Surety insurance 3,858,319 5,891
Corporate 41,297 40,667
---------- ------------
Total assets $3,939,887 $ 86,942
========== ============
CAPITAL ACQUISITIONS:
Investment advisory $ 317 $ 3,050
Surety insurance 15,992 -
Corporate 11,696 -
---------- ------------
Total capital acquisitions $ 28,005 $ 3,050
========== ============
DEPRECIATION CHARGED TO
IDENTIFIABLE ASSETS:
Investment advisory $ 5,900 $ 5,900
Surety insurance 965 -
Corporate 1,210 -
---------- ------------
Total depreciation $ 8,075 $ 5,900
========== ============
</TABLE>
F-29
JACOBS FINANCIAL GROUP INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE S - COMPREHENSIVE INCOME
There are no adjustments necessary to net income as presented in the
accompanying statements of operations to derive comprehensive income in
accordance with SFAS No. 130, "Reporting Comprehensive Income."
NOTE T - EVENTS SUBSEQUENT TO MAY 31, 2006 (UNAUDITED)
On June 28, 2006, the Company borrowed $250,000 under an unsecured short-term
line of credit facility with a commercial bank to provide additional operating
capital. The credit facility requires monthly interest payments at a variable
interest rate based on the Wall Street Journal Prime rate plus five percent. The
loan matures on December 28, 2006.
On June 30, 2006, the Company elected to continue to defer payment of dividends
on its Series A Preferred Stock and Series B Preferred stock with such
accumulated accrued and unpaid dividends amounting to $14,994 and $365,740 as of
June 30, 2006.
On September 13, 2006, the Company obtained a release from the obligee of the
$365,000 account payable that was assumed by John M. Jacobs pursuant to the
Assumption Agreement as described in Note H, with the effect that, in accordance
with the terms of the Assumption Agreement, Mr. Jacobs assumption of such
account payable was off set against and eliminated the account receivable of the
Company from Mr. Jacobs.
F-30
<TABLE>
<CAPTION>
JACOBS FINANCIAL GROUP, INC.
AND SUBSIDIARIES
----------------------------------------------------------------------------------------------------------------------------
SUMMARY OF INVESTMENTS-
OTHER THAN INVESTMENTS IN RELATED PARTIES SCHEDULE I
----------------------------------------------------------------------------------------------------------------------------
AMOUNT
AT WHICH
AT MAY 31, 2006 SHOWN IN THE
COST* VALUE BALANCE SHEET
------------ ------------- -----------------
Fixed maturities:
Bonds:
<S> <C> <C> <C>
United States government and government agencies and authorities 1,029,964 1,024,153 1,029,964
- - -
------------ ------------- -----------------
Total fixed maturities 1,029,964 1,024,153 1,029,964
Equity securities:
- - -
------------ ------------- -----------------
Total equity securities - - -
Mortgage-backed securities guaranteed by U.S. government agency 1,360,778 1,343,108 1,360,778
Short-term investments, at cost (approximates market value) 1,196,111 1,196,111 1,196,111
------------ ------------- -----------------
Total investments 3,586,853 3,563,372 3,586,853
============ ============= =================
</TABLE>
* Original cost of equity securities and, as to fixed maturities, original cost
reduced by repayments and adjusted for amortization of premiums and accrual of
discounts
F-31
JACOBS FINANCIAL GROUP, INC.
AND SUBSIDIARIES
<TABLE>
<CAPTION>
----------------------------------------------------------------------------------------------------------
CONDENSED FINANCIAL INFORMATION OF REGISTRANT SCHEDULE II
----------------------------------------------------------------------------------------------------------
BALANCE SHEET - PARENT COMPANY ONLY
MAY 31, 2006
-------------------
ASSETS:
<S> <C>
Accounts receivable from affiliates $ 4,904
Prepaid expense and other assets 25,907
Furniture and equipment, net 10,486
Investment (deficit) in subsidiaries, equity method (2,395,987)
Due from affiliates, net 5,514,442
-------------------
Total assets $ 3,159,752
===================
LIABILITIES:
Cash overdraft $ 80,888
Accounts payable 1,781
Accrued expenses and professional fees 438,370
Notes payable 158,232
Other liabilities 19,699
-------------------
Total liabilities 698,970
MANDATORILY REDEEMABLE PREFERRED STOCK 7,816,027
STOCKHOLDERS EQUITY:
Common stock 15,494
Additional paid in capital 1,856,929
Accumulated deficit (7,227,668)
-------------------
Total stockholders equity (deficit) (5,355,245)
-------------------
Total liabilities and stockholders equity $ 3,159,752
===================
</TABLE>
<TABLE>
<CAPTION>
STATEMENT OF INCOME - PARENT COMPANY ONLY
YEAR ENDED MAY 31,
2006 2005
-------------- -------------
REVENUES
<S> <C> <C>
Equity in undistributed net income (loss) of consolidated subsidiaries $ (698,553) $ (642,353)
EXPENSES:
General and administrative 615,331 199,006
Interest 178,921 278,774
Depreciation 1,210 -
-------------- -------------
Total expenses 795,462 477,780
-------------- -------------
Net income (loss) (1,494,015) (1,120,133)
Accretion of mandatorily redeemable convertible preferred stock,
including accrued dividends (380,171) -
-------------- -------------
Net income (loss) attributable to common stockholders $ (1,874,186) $ (1,120,133)
============== =============
</TABLE>
F-32
<TABLE>
<CAPTION>
JACOBS FINANCIAL GROUP, INC.
AND SUBSIDIARIES
----------------------------------------------------------------------------------------------------------
CONDENSED FINANCIAL INFORMATION OF REGISTRANT SCHEDULE II
----------------------------------------------------------------------------------------------------------
STATEMENT OF CASH FLOWS - PARENT COMPANY ONLY
YEAR ENDED MAY 31,
2006 2005
-------------- -------------
CASH FLOWS FROM OPERATING ACTIVITIES:
<S> <C> <C>
Net income (loss) $ (1,494,015) $(1,120,133)
Adjustments to reconcile net (loss) to net cash
provided by operating activities:
Equity in undistributed net loss of consolidated subsidiaries 698,553 642,353
Stock option compensation expense 117,979 -
Issuance of stock in lieu of interest 61,145 34,637
Depreciation 1,210 -
Change in other assets, accounts payable and accrued expense, net 188,589 109,827
-------------- -------------
TOTAL CASH USED IN OPERATIONS (426,539) (333,316)
CASH FLOWS FROM INVESTING ACTIVITIES:
Deposit for acquisition of insurance company - (25,000)
Acquisition of insurance company subsidiary (2,860,000) -
Contributions to insurance company subsidiary (744,000) -
Funds provided to affiliates for operations (595,102) (8,983)
Purchase of furniture and equipment (11,696) -
-------------- -------------
TOTAL CASH USED IN INVESTING ACTIVITIES (4,210,798) (33,983)
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of mandatorily redeemable preferred stock 4,319,000 -
Proceeds from exercise of stock warrants 14,801 -
Proceeds from short-term borrowings 737,030 536,400
Repayment of short-term borrowings (433,931) (169,185)
-------------- -------------
TOTAL CASH PROVIDED BY FINANCING ACTIVITIES 4,636,900 367,215
-------------- -------------
CHANGE IN CASH (437) (84)
Cash at beginning of year 437 521
-------------- -------------
Cash at end of year $ - $ 437
============== =============
F-33
</TABLE>
JACOBS FINANCIAL GROUP, INC.
AND SUBSIDIARIES
<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------------------------------------------
SUPPLEMENTARY INSURANCE INFORMATION
AS OF MAY 31, 2006 AND FOR THE YEARS ENDED MAY 31, 2006 AND 2005 SCHEDULE III
------------------------------------------------------------------------------------------------------------------------------------
RESERVE FOR
LOSSES OTHER AMORTIZATION
AND POLICY CLAIMS OF
DEFERRED LOSS EXPENSES, AND LOSSES AND DEFERRED
POLICY FUTURE CONTRACT NET SETTLEMENT POLICY OTHER NET
ACQUISITION POLICY UNEARNED CLAIMS PREMIUM INVESTMENT EXPENSES ACQUISITION OPERATING PREMIUMS
SEGMENT COSTS CLAIMS PREMIUMS PAYABLE REVENUE INCOME INCURRED COSTS EXPENSES WRITTEN
---------------- ------------- ------------- --------- --------- ------- ---------- ---------- ----------- --------- ---------
2006
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Surety $ 70,399 $ 11,911 $ 193,616 $ - $ 55,402 $ 53,181 $ 11,911 $ 18,877 $ - $ 249,018
------------------------------------------------------------------------------------------------------------------------------------
2005
Surety $ - $ - $ - $ - $ - $ - $ - $ - $ - $ -
</TABLE>
F-34
JACOBS FINANCIAL GROUP, INC.
AND SUBSIDIARIES
<TABLE>
<CAPTION>
------------------------------------------------------------------------------------------------------------------------------------
SUPPLEMENTAL INFORMATION
AS OF MAY 31, 2006 AND FOR THE YEARS ENDED MAY 31, 2006 AND 2005 SCHEDULE VI
------------------------------------------------------------------------------------------------------------------------------------
Column A Column B Column C Column D Column E Column F Column G Column H Column I Column J Column K
RESERVE FOR AMORTI-
LOSSES DISCOUNT CLAIMS, LOSSES AND ZATION
AND IF ANY, SETTLEMENT EXPENSES OF
DEFERRED LOSS EXPENSES, DEDUCTED INCURRED RELATED TO DEFERRED PAID CLAIMS
POLICY FUTURE IN NET POLICY AND CLAIMS NET
AFFILIATION ACQUISITION POLICY COLUMN UNEARNED PREMIUM INVESTMENT CURRENT PRIOR ACQUISITION ADJUSTMENT PREMIUMS
WITH REGISTRANT COSTS CLAIMS C PREMIUMS REVENUE INCOME YEAR YEARS COSTS EXPENSES WRITTEN
--------------- ----------- ------------- -------- -------- ------- ---------- ------- -------- ----------- ---------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
2006
Consolidated
property
casualty
entities $70,399 $ 11,911 $ - $ 193,616 $ 55,402 $ 53,181 $ 11,911 $ - $ 18,877 $ - $ 249,018
------------------------------------------------------------------------------------------------------------------------------------
2005
Consolidated
property
casualty
entities $ - $ - $ - $ - $ - $ - $ - $ - $ - $ - $ -
</TABLE>
F-35
Item 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
In connection with the audits for the years ended May 31, 2006 and May 31, 2005,
there have been no disagreements with independent accountants with respect to
any matter of accounting principles or practices, financial statement
disclosure, or auditing scope or procedure.
Item 8A. CONTROLS AND PROCEDURES
As required by Rule 13a-15 under the Securities Exchange Act of 1934, as of the
end of the period covered by the annual report, being May 31, 2006, we have
carried out an evaluation of the effectiveness of the design and operation of
the Company's disclosure controls and procedures. This evaluation was carried
out under the supervision and with the participation of the Company's
management, including the Company's president and chief financial officer. Based
upon that evaluation, the Company's president and chief financial officer have
concluded that the Company's disclosure controls and procedures are effective as
of the end of the period covered by this report. There have been no changes in
our internal controls over financial reporting that occurred during the most
recent fiscal year that have materially affected, or are reasonably likely to
materially affect our internal controls over financial reporting.
Item 8B. OTHER INFORMATION
None.
PART III
Item 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; Compliance
With Section 16(a) of the Exchange Act.
The directors and executive officers of the Company, their ages and positions
are as follows:
COMPANY
NAME AGE POSITION
---------------------- --- ------------------------
John M. Jacobs 52 President and CEO
Director
Frederick E. Ferguson 72 Director
C. David Thomas 53 Director
14
Robert J. Kenney 59 Vice President
Robert L. Neal 50 Chief Financial Officer
JOHN M. JACOBS
Mr. Jacobs is the founder of Jacobs & Company as the first independent SEC
registered investment advisor in West Virginia, a Certified Public Accountant,
and is licensed as a property and casualty insurance agent in fifteen (15)
states. Mr. Jacobs has served as a Director and President of both Jacobs &
Company and FS Investments, Inc. since their inception. Prior to establishing
Jacobs & Company, in 1988, Mr. Jacobs was a practicing public accountant for
over thirteen years, during which he was a managing partner of his accounting
firm and a business and personal advisor to his clients. Mr. Jacobs has served
as a director and President of JFG since May 2001.
FREDERICK E. FERGUSON
Mr. Ferguson is retired coal operator who has a diverse experience with respect
to business and the coal industry. Prior to owning his own company, Mr. Ferguson
began the first half of his career as a state and federal mine inspector. During
the later half of his career, Mr. Ferguson owned his own coal company and was
involved in all facets of mining production. He has served as a Director of FS
Investments, Inc. since its inception in December 1997, and has served as a
director of JFG since July 2002.
C. DAVID THOMAS
Mr. Thomas is a licensed resident insurance agent in West Virginia and holds
non-resident agent licenses in several other states. Mr. Thomas began his surety
career in 1976 with United States Fidelity and Guaranty Company and served as
the surety underwriter in the Charleston, WV branch office until 1979. At that
time he joined George Friedlander & Company, a regional insurance agency based
in Charleston, WV, where he presently serves as Vice President and Manager of
the Surety Department. Mr. Thomas is a shareholder and Director of George
Friedlander & Company. He has served as a Director of FS Investments, Inc. since
its inception in December 1997, and has served as a director of JFG since July
2002.
ROBERT J. KENNEY
Mr. Kenney joined FSI and Jacobs &Co. in 2000, and is President of First Surety
Corporation and Vice President and Assistant Portfolio Manager of Jacobs & Co.
Previously, Mr. Kenney served as Senior Vice President of Triangle Surety
Agency, Inc. In addition, he is a licensed resident insurance agent in West
Virginia and also holds Series 63 and 65 securities licenses. Prior to joining
Triangle Surety and Jacobs & Co., Mr. Kenney had over 20 years experience in the
oil and gas industry with Columbia Energy Group. With Columbia, Mr. Kenney held
various positions in Treasury, Human Resources, and Law Departments and served
as both Manager of Risk Management and Special Projects Manager. Mr. Kenney was
elected Vice President of the Company during fiscal 2003.
15
ROBERT L. NEAL
Mr. Neal re-joined JFG in January 2006 as Chief Financial Officer after
previously serving in a similar capacity from June 2000 to May 2002. Prior to
his re-joining JFG Mr. Neal served as President and CEO of West Virginia Capital
Corporation, a statewide community development corporation from June 2002 to
December 2005. Prior to that, Mr. Neal had over 20 years of management
experience in banking and public accounting. Mr. Neal is a Certified Public
Accountant.
There are no family relationships among any of the Company's directors and
executive officers.
During the past five years, there have been no filings of petitions under
federal bankruptcy laws, or any state insolvency laws, by or against any
business of which any director or executive officer of the Company was a general
partner or executive officer at the time or within two years before the time of
such filing.
During the past five years, no director or executive officer of the Company has
been convicted in a criminal proceeding or been subject to a pending criminal
proceeding.
During the past five years, no director or executive officer of the Company has
been the subject of any order, judgement, or decree, not subsequently reversed,
suspended or vacated by a court of competent jurisdiction, permanently or
temporarily enjoining, barring, suspending or otherwise limiting his involvement
in any type of business, securities or banking activities.
During the past five years, no director or executive officer of the Company has
been found by a court of competent jurisdiction (in a civil action), the
Commission or the Commodity Futures Trading Commission to have violated a
federal or state securities or commodities law.
The Board has determined that John M. Jacobs is the Audit Committee Financial
Expert as such term is defined in Item 401 (h) of Regulation SK. Mr. Jacobs is
not independent as that term is used in Item 7(d)(3)(iv) of Schedule 14A under
the Securities Exchange Act.
16
Item 10. EXECUTIVE COMPENSATION
The following table sets forth the compensation paid by the Company during the
fiscal years ended May 31, 2006, May 31, 2005 and May 31, 2004 to the Chief
Executive Officer of the Company ("the Named Executive Officer"). Other than the
Chief Executive Officer, no executive officer of the Company received total
compensation from the Company in excess of $100,000.
<TABLE>
<CAPTION>
----------------------------------------------------------------------------------------------------------------------------------
SUMMARY COMPENSATION TABLE
----------------------------------------------------------------------------------------------------------------------------------
LONG-TERM
COMPENSATION
------------------------------ ------------ ----------------------------------------------- ------------------- ------------------
ANNUAL COMPENSATION AWARDS
------------------------------ ------------ ------------- -------------- ------------------ ------------------- ------------------
Other Annual All Other
Name and Principal Fiscal Compensation Stock Compensation
Position Year Salary ($) Bonus ($) ($) Options (#) ($)
------------------------------ ------------ ------------- -------------- ------------------ ------------------- ------------------
<S> <C> <C> <C> <C> <C> <C>
JOHN M. JACOBS, CEO (A) 2005-06 $ 150,000 - - 12,500,000 $ 16,037
2004-05 $ 150,000 - - - $ 7,899
2003-04 $ 150,000 - - - $ 6,216
------------------------------ ------------ ------------- -------------- ------------------ ------------------- ------------------
</TABLE>
(a) In fiscal years ended May 31, 2006 and May 31, 2005, compensation expense in
the amounts of $15,750 and $12,000 was paid to the spouse of John M. Jacobs for
services rendered in addition to the amounts reflected in this table.
The Company had no long term incentive compensation plans in the form of
restricted stock awards, stock appreciation rights ("SARs"), phantom stock,
stock options, warrants, convertible securities, performance units and/or
performance shares, or any other such instruments during the 2004-05 or 2003-04
fiscal years. In fiscal year 2005-06, the Board of Directors of the Company
adopted a Stock Incentive Plan ("Plan") on October 12, 2005, subject to
stockholder approval, which was obtained at a Special Meeting of the
stockholders on December 8, 2006. The aggregate number of shares of Common Stock
issuable under all awards under the Plan is 35,000,000. The Plan provides for
incentive stock options and non-statutory stock options.
Other compensation for fiscal years 2005-06, 2004-05 and 2003-04 represent
insurance premiums paid by the Registrant for the benefit of the named executive
officer.
Outside board members of JFG's wholly-owned subsidiary First Surety Corporation,
which include JFG board members, are compensated at the rate of $150 per
meeting.
17
<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------
OPTIONS IN LAST FISCAL YEAR
-----------------------------------------------------------------------------------------------------------------------
Individual Grants
-----------------------------------------------------------------------------------------------------------------------
% of Total
Number of Options Exercise or
Securities Underlying Granted to Employees Base Expiration
Name Options Granted In Fiscal Year Price Date
# ($/Sh)
------------------------------ ---------------------------- --------------------------- --------------- ---------------
<S> <C> <C> <C> <C>
JOHN M. JACOBS, CEO (A) 12,500,000 51.23% .07 05/25/2011
------------------------------ ---------------------------- --------------------------- --------------- ---------------
</TABLE>
<TABLE>
<CAPTION>
-----------------------------------------------------------------------------------------------------------------------
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR
AND FY-END OPTION VALUES
-----------------------------------------------------------------------------------------------------------------------
Number of Value of
Securities Underlying Unexercised
Unexercised In-the-Money
Options at Options at
FY-End FY-End
(#) ($)
------------------------------ --------------------- ------------ ---------------------------- ------------------------
Shares Acquired Value Exercisable/ Exercisable/
Name On Exercise Realized Unexercisable Unexercisable
(#) ($)
------------------------------ --------------------- ------------ ---------------------------- ------------------------
<S> <C> <C> <C> <C>
JOHN M. JACOBS, CEO (A) - - 2,500,000/ -/
10,000,000 -
------------------------------ --------------------- ------------ ---------------------------- ------------------------
</TABLE>
18
Item 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth the beneficial ownership of common stock of the
Company as of August 20, 2006 by (i) each person known by the Company to own
more than 5% of the Company's common stock, (ii) each of the directors, (iii)
the Named Executive Officer and (iv) all directors and executive officers as a
group. Unless otherwise noted, such persons have sole voting and investment
power with respect to such shares.
<TABLE>
<CAPTION>
NAME AND ADDRESS OF AMOUNT AND NATURE OF
BENEFICIAL OWNERSHIP BENEFICIAL OWNERSHIP (1) PERCENT OF CLASS (2)
-------------------- ------------------------ --------------------
<S> <C> <C> <C>
John M. Jacobs
300 Summers Street, Suite 970
Charleston, WV 25351 22,853,127 (3) 14.45%
Fay S. Alexander
6318 Timarron Cove Lane
Burke, VA 22015-4073 13,304,700 (4) 8.47%
Charles L. Stout
Route 1, Box 41J
Bridgeport, WV 26330 13,175,000 (5) 8.50%
William D. Jones
513 Georgia Avenue
Chattanooga, TN 37403 10,752,694 (6) 6.87%
Sue C. Hunt
1508 Viewmont Drive
Charleston, WV 25302 8,611,588 (7) 5.51%
DIRECTORS
Frederick E. Ferguson
Rt. 3, Box 408
Fayetteville, WV 25840 1,600,000 (8) 1.03%
C. David Thomas
P.O. Box 5157
Charleston, WV 25361 917,295 0.59%
ALL EXECUTIVE OFFICERS
AND DIRECTORS AS A GROUP (5 PERSONS) 28,215,422 17.54%
</TABLE>
19
(1) Beneficial ownership is determined in accordance with the rules of the
Securities Exchange Commission and generally includes voting or investment
power with respect to securities. Shares of common stock issuable upon the
exercise of options or warrants currently exercisable within 60 days of
August 20, 2006 are deemed outstanding for computing the percentage
ownership of the person holding such options or warrants but are not deemed
outstanding for computing the percentage ownership of any other person.
(2) Based on 154,937,837 shares of common stock issued and outstanding as of
August 20, 2006.
(3) Includes 12,233,044 shares of common stock held in the name of FS Limited
Partnership ("FSLP") of which Mr. Jacobs is the sole general partner. Mr.
Jacobs has the power to vote and to direct the voting of and the power to
dispose and direct the disposition of the shares beneficially owned by
FSLP. Includes 7,403,416 shares held in joint tenancy with spouse, Kathleen
M. Jacobs. Includes 2,500,000 in vested options to purchase Company stock
exercisable within 60 days of August 20, 2006. Includes the right to
convert Series B Preferred Stock holdings to 666,667 shares of common stock
exercisable within 60 days of August 20, 2006.
(4) Includes 9,900,000 shares of common stock held in the name of Graphite
Investment, LLC ("Graphite") and 1,000,000 shares held in the name of
Southall Management Corporation ("Southall") of which Fay S. Alexander is
President (both entities). Includes the right to convert Series B Preferred
Stock holdings of Graphite and Southall to 1,190,000 shares of common stock
exercisable within 60 days of August 20, 2006. Includes 214,700 shares held
in joint tenancy with spouse, Dan C. Alexander.
(5) Includes 25,000 shares of common stock held in the name of Applied
Mechanics Corporation of which Charles L. Stout is President and a
director, 12,150,000 shares held in joint tenancy with spouse, Marilyn J.
Stout, and 1,000,000 shares beneficially owned by members of the immediate
family.
(6) Includes 9,060,000 shares of common stock held in joint tenancy with
spouse, Cynthia B. Jones. Includes the right to convert Series B Preferred
Stock holdings to 282,116 shares of common stock (182,116 in joint tenancy
with spouse) exercisable within 60 days of August 20, 2006. Includes the
right to purchase 1,410,578 shares of common stock (910,578 in joint
tenancy with spouse) pursuant to issued and outstanding stock warrants at
an exercise price of one-tenth of one cent per share ("stock warrants")
exercisable within 60 days of August 20, 2006.
(7) Includes 1,209,515 shares of common stock held in the Individual Retirement
Account ("IRA") of spouse, Douglas E. Hunt. Includes the right to convert
Series B Preferred Stock holdings to 200,000 shares of common stock and the
right to purchase 1,000,000 shares of common stock pursuant to issued and
outstanding stock warrants exercisable within 60 days of August 20, 2006
and held in the IRA of Douglas E. Hunt. Includes the right to convert
Series B Preferred Stock holdings to 33,679 shares of common stock and the
right to purchase 168,395 shares of common stock pursuant to issued and
outstanding stock warrants exercisable within 60 days of August 20, 2006
and held jointly with spouse.
20
(8) Includes 750,000 shares of common stock held in joint tenancy with spouse,
Sandra B. Ferguson. Includes 130,000 shares held in the name of The Party
Store, Inc. ("Party Store") of which Fred E. Ferguson is President and a
director. Includes the right to convert Series B Preferred Stock holdings
held in the name Party Store to 120,000 shares of common stock exercisable
within 60 days of August 20, 2006. Includes the right to purchase 600,000
shares of common stock pursuant to issued and outstanding stock warrants
held in the name of Party Store at an exercise price of one-tenth of one
cent per share exercisable within 60 days of August 20, 2006.
There are no outstanding arrangements that may result in a change in control of
the Company.
Item 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
For the past several years the Company's operating expenses were partially
funded by advances from its principal shareholder and chief executive officer,
John M. Jacobs. The source of funding for these advances originated with
obligations incurred by Mr. Jacobs with third parties (such obligations together
with the loans by Mr. Jacobs to the Company, "back-to-back loans
To assure that repayments of the various borrowings by the Company that were
either guaranteed by Mr. Jacobs or loaned to the Company by Mr. Jacobs via such
back-to-back loan arrangements did not result in a deemed loan to Mr. Jacobs,
Mr. Jacobs entered into an Assumption Agreement with the Company, pursuant to
which Mr. Jacobs assumes, and agrees to hold the Company harmless from,
principal of specified indebtedness of the Company as and when necessary to
fully offset what might otherwise be deemed an advance of funds arising out of
the Company's financing activities.
During the year ended May 31, 2006, the Company made net repayments of
$1,170,546 on the back-to-back loans which was $508,036 more than the original
loans and interest charges. In accordance with the Assumption Agreement, the
Company assigned to Mr. Jacobs and Mr. Jacobs assumed responsibility for payment
of certain debt totaling $101,326 and accounts payable totaling $365,000 during
the year ended May 31, 2006. The debt obligation was re-issued in the name of
Mr. Jacobs; and therefore the debt amount was relieved and offset against the
receivable from Mr. Jacobs. Although the Company assigned accounts payable
totaling $365,000 to Mr. Jacobs through the Assumption Agreement, for financial
reporting purposed under generally accepted accounting principles, the accounts
payable amount cannot be derecognized until either paid or released by the
creditor. The Company did receive a release after May 31, 2006. The balance due
from Mr. Jacobs as of May 31, 2006 is $361,009.
During fiscal 2006, Mr. Jacobs invested $500,000 for the purchase of 666.667
shares of the Company's Series B preferred stock and 3,333,333 stock warrants on
the same terms and conditions (see Item 6. Management's Discussion and Analysis)
as other initial investors that made investments in the Company's Series B
preferred shares. Such warrants were exercised in a cashless transaction
resulting in the issuance in 3,300,000 shares of the Company's common stock.
21
BORROWING FROM DIRECTOR
On three separate occasions, dating from January 26, 2004 to March 5, 2004, the
Company borrowed funds totaling $105,000 from a closely-held company of one of
the Company's directors, Frederick B. Ferguson. Such promissory notes were
unsecured borrowings, payable on demand with interest accruing at a rate of ten
percent (10.00%) per annum, which was comparable to other Company borrowings
from individuals that were obtained from time to time. At May 31, 2004, the
principal balance outstanding on such notes amounted to $98,002. On July 19,
2004, the Company borrowed an additional $25,000 on the same terms and
conditions as the previous notes. During fiscal 2005, repayments of principal on
said notes amounted to $6,455, resulting in a principal balance of $116,547 at
May 31, 2005. Interest expense paid on said notes for the corresponding period
amounted to $11,517. In fiscal 2005, 130,000 shares of the Company's common
stock was issued to the closely-held company as additional consideration for
extending such credit, consistent with additional consideration (shares of
common stock) provided to other individuals extending credit to the Company.
During fiscal 2006, principal in the amount of $90,000 was converted to 120
shares of the Company's Series B preferred stock and 600,000 stock warrants on
the same terms and conditions (see Item 6. Management's Discussion and Analysis)
as other individuals that had made loans to the Company. Repayments of principal
on said notes amounted to $13,891, resulting in a principal balance of $12,656
at May 31, 2006. Interest expense paid on said notes for the corresponding
period amounted to $7,468.
BORROWING FROM EXECUTIVE OFFICER
During fiscal 2006, as an accommodation to assist in the closing of the
transaction for the purchase of WVFCC by the Company from Celina, the Company
borrowed funds from one of its executive officers, Robert J. Kenney, in the
amount of $75,000 facilitated through a back-to-back borrowing from a commercial
bank. Such funds were repaid within one week upon receipt by the Company of
pledged funds from an unrelated third-party. Interest and fees paid in
connection with this borrowing amounted to $1,001 which were identical to the
amounts incurred by the executive officer from the commercial bank. 75,000
shares of the Company's common stock was issued to the executive officer as
additional consideration for extending such credit, consistent with additional
consideration (shares of common stock) provided to other individuals extending
credit to the Company.
22
Item 13. EXHIBITS
The following exhibits are filed as a part of this Annual Report.
<TABLE>
<CAPTION>
EXHIBIT NUMBER PAGE
<S> <C> <C>
2.1 Agreement and Plan of Merger dated as of
May 18, 2001 by and among NELX, Inc.,
FSI Acquisition Corp. and FS Investments, Inc. (1)
2.2 Agreement and Plan of Merger dated as of
May 18, 2001 by and among NELX, Inc.,
J&C Acquisition Corp. and Jacobs & Company (1)
2.3 Agreement and Plan of Merger dated as of
December 8, 2006 by and among NELX, Inc. and
Jacobs Financial Group, Inc. (2)
Company's plan(s) of acquisition, reorganization, arrangement,
liquidation or succession
3.1 Company's Articles of Incorporation (3)
3.2 Company's By-laws (3)
16 Letter on change in certifying accountant (4)
21 Subsidiaries of Company EX 21
31.1 Certification of Chief Executive Officer pursuant to EX 31.1
Rule13a-146.1 promulgated under the Securities Exchange Act of 1934
31.2 Certification of Chief Financial Officer pursuant to EX 31.2
Rule 13a-146.1 promulgated under the Securities Exchange Act of 1934
32.1 Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1950, EX 32.1
as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2 Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1950, EX 32.2
As adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
</TABLE>
(1) Incorporated by reference to the Company's Current Report On Form 8-K dated
May 29, 2001.
(2) Incorporated by reference to the Company's Definitive Proxy Statement dated
November 7, 2005.
(3) Incorporated by reference to the Company's Current Report on form 8-K dated
December 29, 2005.
(4) Incorporated by reference to the Company's Current Report on Form 8-K dated
March 8, 2006.
23
Item 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
AUDIT FEES
Billings for principal accounting fees and services related to the annual audit
of financial statements, review of financial statements included in the
Company's Forms 10-QSB, and services provided by the accountant in connection
with statutory and regulatory filings for the year ended May 31, 2006 amounted
to $33,458. Management estimates that additional amounts to be billed are
approximately $30,000.
Billings for principal accounting fees and services related to the annual audit
of financial statements, review of financial statements included in the
Company's Forms 10-QSB, and audit-specific matters relating to the financial
statements for the year ended May 31, 2005 amounted to $29,880.
AUDIT-RELATED SERVICES
Billings for assurance and related services by the principal accountant that are
reasonably related to the performance of the annual audit or review of financial
statements for the year ended May 31, 2006 amounted to $775.
TAX FEES
During fiscal 2006, billings for tax preparation services were $5,970.
During fiscal 2005, billings for tax preparation services were $5,750.
ALL OTHER FEES
There were no other fees billed by the principal accountant in fiscal years 2006
or 2005.
ADMINISTRATION OF AUDIT AND NON-AUDIT ENGAGEMENTS
The Company does not have a standing audit committee. The full Board of
Directors is performing the functions of the audit committee. The Board of
Director's policy is to pre-approve all audit and permissible non-audit services
provided by the independent auditors. These services may include audit services,
audit-related services, tax services and other services. Pre-approval is
generally provided for up to one year and any pre-approval is detailed as to the
particular service or category of services and is generally subject to a
specific budget. The independent auditors and management are required to
periodically report to the Board of Directors regarding the extent of services
provided by the independent auditors in accordance with this pre-approval, and
the fees for the services performed to date. The Board of Directors may also
pre-approve particular services on a case-by-case basis. The Board of Directors
pre-approved each audit and non-audit service rendered to the Company by its
independent Auditors as set forth above and no services were approved using the
de minimus exception afforded by Rule 2-01(c)(7)(i)(C) of Regulation S-X.
24
SIGNATURES
In accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on the
dates indicated.
Dated: September 13, 2006 By: /s/ John M. Jacobs
------------------------ ----------------------------
John M. Jacobs
President and CEO
Director
Dated: September 13, 2006 By: /s/ Robert L Neal
------------------------ ----------------------------
Robert L. Neal
Chief Financial Officer
Dated: September 13, 2006 By: /s/ Frederick E. Ferguson
------------------------ ----------------------------
Frederick E. Ferguson
Director
Dated: September 13, 2006 By: /s/ C. David Thomas
------------------------ ----------------------------
C. David Thomas
Director
25
Exhibit 21 - SUBSIDIARIES OF THE CORPORATION
NAME STATE OF FORMATION
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Jacobs & Company West Virginia
FS Investments, Inc. West Virginia
Triangle Surety Agency, Inc. West Virginia
Crystal Mountain Water, Inc. Arkansas
Exhibit 31.1
CERTIFICATION
I, John M. Jacobs, certify that:
1. I have reviewed this annual report on Form 10-KSB of Jacobs Financial
Group, Inc.;
2. Based on my knowledge, this report does not contain any untrue statement
of a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such statements were
made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the small business
issuer as of, and for, the periods presented in this report;
4. The small business issuer's other certifying officer(s) and I are
responsible for establishing and maintaining disclosure controls and procedures
as defined in Exchange Act Rules 13a-15(e) and 15d-15(e))and internal control
over financial reporting (as defined in Exchange Act Rules 13a-15(f) and
15d-15(f)) for the small business issuer and have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the small
business issuer, including its consolidated subsidiaries, is made
known to us by others within those entities, particularly during the
period in which this report is being prepared;
(b) Evaluated the effectiveness of the small business issuer's disclosure
controls and procedures and presented in this report our conclusions
about the effectiveness of the disclosure controls and procedures, as
of the end of the period covered by this report based on such
evaluation; and
(c) Disclosed in this report any change in the small business issuer's
internal control over financial reporting that occurred during the
small business issuer's most recent fiscal quarter (the small business
issuer's fourth fiscal quarter in the case of an annual report) that
has materially affected, or is reasonably likely to materially affect,
the small business issuer's internal control over financial reporting.
5. The small business issuer's other certifying officer(s) and I have
disclosed, based on our most recent evaluation of internal control over
financial reporting, to the small business issuer's auditors and the audit
committee of the small business issuer's board of directors (or persons
performing the equivalent functions):
(a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are
reasonably likely to adversely affect the small business issuer's
ability to record, process, summarize and report financial
information; and
(b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the small business issuer's
internal control over financial reporting.
Date: September 13, 2006 By: /s/ John M. Jacobs
------------------------------------
John Jacobs, President and CEO
Exhibit 31.2
CERTIFICATION
I, Robert L. Neal, certify that:
1. I have reviewed this annual report on Form 10-KSB of Jacobs Financial
Group, Inc.;
2. Based on my knowledge, this report does not contain any untrue statement
of a material fact or omit to state a material fact necessary to make the
statements made, in light of the circumstances under which such statements were
made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the small business
issuer as of, and for, the periods presented in this report;
4. The small business issuer's other certifying officer(s) and I are
responsible for establishing and maintaining disclosure controls and procedures
as defined in Exchange Act Rules 13a-15(e) and 15d-15(e))and internal control
over financial reporting (as defined in Exchange Act Rules 13a-15(f) and
15d-15(f)) for the small business issuer and have:
(a) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the small
business issuer, including its consolidated subsidiaries, is made
known to us by others within those entities, particularly during the
period in which this report is being prepared;
(b) Evaluated the effectiveness of the small business issuer's disclosure
controls and procedures and presented in this report our conclusions
about the effectiveness of the disclosure controls and procedures, as
of the end of the period covered by this report based on such
evaluation; and
(c) Disclosed in this report any change in the small business issuer's
internal control over financial reporting that occurred during the
small business issuer's most recent fiscal quarter (the small business
issuer's fourth fiscal quarter in the case of an annual report) that
has materially affected, or is reasonably likely to materially affect,
the small business issuer's internal control over financial reporting.
5. The small business issuer's other certifying officer(s) and I have disclosed,
based on our most recent evaluation of internal control over financial
reporting, to the small business issuer's auditors and the audit committee of
the small business issuer's board of directors (or persons performing the
equivalent functions):
(a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are
reasonably likely to adversely affect the small business issuer's
ability to record, process, summarize and report financial
information; and
(b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the small business issuer's
internal control over financial reporting.
Date: September 13, 2006 By: /s/ Robert L. Neal
------------------------------------
Robert L. Neal
Chief Financial Officer
Exhibit 32.1
CERTIFICATION
PURSUANT TO 18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Annual Report of Jacobs Financial Group, Inc.
(the "Company") on Form 10-KSB for the period ended May 31, 2006 (the "Report")
filed with the Securities and Exchange Commission, I, John M. Jacobs, President
and Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002, that:
(1) The Company's Report fully complies with the requirements of Section
13(a) or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all
material respects, the financial condition and results of operations
of the Company.
September 13, 2006 /s/ John M. Jacobs
--------------------------
John M. Jacobs
President and CEO
Exhibit 32.2
CERTIFICATION
PURSUANT TO 18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Annual Report of Jacobs Financial Group, Inc.
(the "Company") on Form 10-KSB for the period ended May 31, 2006 (the "Report")
filed with the Securities and Exchange Commission, I, Robert L. Neal, Chief
Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350,
as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:
(1) The Company's Report fully complies with the requirements of Section
13(a) or 15(d) of the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all
material respects, the financial condition and results of operations
of the Company.
September 13, 2006 /s/ Robert L. Neal
--------------------------
Robert L. Neal
Chief Financial Officer