-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, NgwwgV8zBtf2FjgUu7GpU6J42Xmm3Xg9WPi1YdR16/855hMUcbkMb6c9CIWAoldx M98yxdtks4eVUpQfKLlz6Q== 0000950150-99-000272.txt : 19990319 0000950150-99-000272.hdr.sgml : 19990319 ACCESSION NUMBER: 0000950150-99-000272 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990318 FILER: COMPANY DATA: COMPANY CONFORMED NAME: JEFFERIES GROUP INC CENTRAL INDEX KEY: 0000717867 STANDARD INDUSTRIAL CLASSIFICATION: SECURITY BROKERS, DEALERS & FLOTATION COMPANIES [6211] IRS NUMBER: 952848406 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 001-11665 FILM NUMBER: 99567536 BUSINESS ADDRESS: STREET 1: 11100 SANTA MONICA BLVD STREET 2: 10TH FL CITY: LOS ANGELES STATE: CA ZIP: 90025 BUSINESS PHONE: 3104451199 MAIL ADDRESS: STREET 1: 11100 SANTA MONICA BLVD STREET 2: 10TH FLR CITY: LOS ANGELES STATE: CA ZIP: 90025 10-K 1 FORM 10-K 1 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ FORM 10-K [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934. FOR THE FISCAL YEAR ENDED DECEMBER 31, 1998 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934. FOR THE TRANSITION PERIOD FROM ____________ TO ____________ COMMISSION FILE NUMBER: 1-11665 JEFFERIES GROUP, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 95-2848406 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.) 11100 SANTA MONICA BOULEVARD, 11TH FLOOR 90025 LOS ANGELES, CALIFORNIA (ZIP CODE) (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (310) 445-1199 SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: COMMON STOCK, $.01 PAR VALUE (TITLE OF CLASS) SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K, or any amendment to this Form 10-K. [ ] State the aggregate market value of the common stock held by nonaffiliates of the registrant. $809,846,676 as of March 8, 1999. Indicate the number of shares outstanding of the registrant's class of common stock, as of the latest practical date. 23,961,913 shares as of the close of business March 8, 1999. DOCUMENTS INCORPORATED BY REFERENCE See list on following page. LOCATION OF EXHIBIT INDEX The index of exhibits is contained in Part IV herein on page 54. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- 2 JEFFERIES GROUP, INC. 1998 FORM 10-K ANNUAL REPORT TABLE OF CONTENTS PART I
PAGE ---- Item 1. Business.................................................... 1 Item 2. Properties.................................................. 6 Item 3. Legal Proceedings........................................... 7 Item 4. Submission of Matters to a Vote of Security Holders......... 7 PART II Market for the Registrant's Common Stock and Related Item 5. Security Holder Matters..................................... 8 Item 6. Selected Financial Data..................................... 9 Management's Discussion and Analysis of Financial Condition Item 7. and Results of Operations................................... 10 Item 8. Financial Statements and Supplementary Data................. 19 Item 9. Disagreements on Accounting and Financial Disclosure........ 46 PART III Item 10. Directors and Executive Officers of the Registrant.......... 46 Item 11. Executive Compensation...................................... 48 Security Ownership of Certain Beneficial Owners and Item 12. Management.................................................. 51 Item 13. Certain Relationships and Related Transactions.............. 54 PART IV Exhibits, Financial Statements, Schedules and Reports on Item 14. Form 8-K.................................................... 54
Exhibit Index located on page 54 of this report. 3 PART I ITEM 1. BUSINESS. Jefferies Group, Inc. is a holding company which, through its four primary subsidiaries, Jefferies & Company, Inc. ("JEFCO"), Investment Technology Group, Inc. ("ITGI"), Jefferies International Limited and Jefferies Pacific Limited, is engaged in securities brokerage and trading, corporate finance and other financial services. The term "Company" refers, unless the context requires otherwise, to Jefferies Group, Inc., its subsidiaries, predecessor entities, and W & D Securities, Inc. The Company was originally incorporated in 1973 as a holding company for JEFCO and was reincorporated in Delaware on August 10, 1983. The Company and its various subsidiaries maintain offices in Los Angeles, New York, Short Hills, Jersey City, Chicago, Dallas, Boston, Atlanta, New Orleans, Houston, San Francisco, Stamford, London, Hong Kong, Zurich and Tokyo. As of December 31, 1998, the Company and its subsidiaries had 1,155 full-time employees, including 542 representatives registered with NASD Regulation, Inc. ("NASDR"). The Company's executive offices are located at 11100 Santa Monica Boulevard, Los Angeles, California 90025, and its telephone number is (310) 445-1199. PROPOSED TRANSFERS, SPIN-OFF AND ITGI MERGER TRANSACTIONS Transfers and Spin-Off. In March 1998, the Company announced an intention to engage in a series of transactions designed to separate ITGI from the other Company businesses. This separation would be achieved through the transfer of all the Company's assets, except for the Company's approximately 80.5% interest in the outstanding capital stock of ITGI, and all of the Company's liabilities, other than liabilities of or related to ITGI (the "Transfers"), to a wholly-owned Company subsidiary, JEF Holding Company, Inc. ("New JEF") or to JEFCO, which will become a subsidiary of New JEF in connection with the Transfers. Following the Transfers, the aforementioned separation would be completed by means of a pro rata distribution to the Company's stockholders of 100% of the outstanding shares of common stock of New JEF (the "Spin-Off"). Completion of the Transfers is subject to the satisfaction of numerous conditions precedent to the Spin-Off, including ITGI's payment of a special $4.00 per share cash dividend to all of its stockholders (including the Company), Company and ITGI stockholder approval of the ITGI Merger (as defined below), and other conditions related to the Spin-Off and the ITGI Merger. ITGI Merger. Following the Transfers and Spin-Off, ITGI will merge with and into the Company (the "ITGI Merger") resulting in the issuance of shares of the Company's common stock to the public, non-Company stockholders of ITGI (the "ITGI Public Stockholders") in accordance with an exchange ratio formula that will result in ITGI Public Stockholders owning the same proportionate common stock ownership of the surviving corporation that they held in ITGI prior to the ITGI Merger. The ITGI Merger will result in the stockholders of the Company becoming direct stockholders in ITGI and in the Company no longer being ITGI's parent company. The ITGI Merger will result in Company stockholders, as a group, directly owning the same proportionate ownership interest in the surviving corporation that the Company held in ITGI prior to the ITGI Merger. The ITGI Merger will be completed to eliminate public ownership redundancies that would otherwise arise after the Spin-Off. The ITGI Merger is necessary in order to effectuate the desire to have only one publicly traded entity that owns the ITGI business after the Spin-Off. Name Changes Related to Spin-Off and ITGI Merger. In connection with the ITGI Merger, the Company will be renamed Investment Technology Group, Inc. and New JEF will change its name to Jefferies Group, Inc. New JEF common stock will be publicly traded on the New York Stock Exchange ("NYSE") under the symbol "JEF." ITGI has applied for the listing of the New ITGI common stock (following the ITGI Merger) on the NYSE. On March 12, 1999, Group received tax rulings from the Internal Revenue Service (the "IRS") with the concurrence of the IRS concerning the tax-free treatment of the Transfers and the Spin-Off for Group and its stockholders, respectively. On March 17, 1999, Group's Board of Directors unanimously approved the Transfers and the Spin-Off. 1 4 The Company anticipates that the Transfers, the Spin-Off and the Merger will be completed in the second quarter 1999, assuming all of the conditions to the consummation of these transactions have been met. SUBSIDIARIES OF THE COMPANY PRIOR TO THE TRANSFERS, THE SPIN-OFF AND THE MERGER Jefferies & Company, Inc. JEFCO was founded in 1962 and is engaged in equity, convertible debt and taxable fixed income securities brokerage and trading and corporate finance. JEFCO is one of the leading national firms engaged in the distribution and trading of blocks of equity securities both on the national securities exchanges and in the "third market." The term "third market" refers to transactions in listed equity securities effected away from national securities exchanges. JEFCO's revenues are derived primarily from commission revenues and market making or trading as principal in equity, taxable fixed income and convertible securities with or on behalf of institutional investors, with the balance generated by corporate finance and other activities. JEFCO currently provides equity research in the areas of energy, communication technologies, consumer, real estate (including real estate investment trusts or "REITS"), gaming and entertainment, business services, and financial services. Investment Technology Group, Inc. ITGI is a holding company which is publicly traded (Nasdaq: ITGI) and is approximately 80.5% owned by Jefferies Group, Inc. Its wholly owned subsidiary, ITG Inc. ("ITG"), provides automated equity trading services and transaction research to institutional investors and brokers. ITG is a full service execution firm that uses technology to increase the effectiveness and lower the cost of trading. With an emphasis on ongoing research, ITG offers the following services: POSIT, an electronic stock crossing system; QuantEX, a decision-support, trade management and routing system; SmartServers, offers server based implementation of trading strategies; Electronic Trading Desk, an agency-only trading desk offering clients efficient trading services assessing multiple sources of liquidity; ITG Platform, a PC based routing and trade management system; ISIS, a set of pre- and post-trade tools for systematically analyzing and lowering transaction costs; ITG/Opt, a computer-based equity portfolio selection system; and Research, research, development, sales and consulting services to clients. ITG generates revenues on a "per transaction" basis for all orders executed. Orders are delivered from ITG's "front-end" software products, QuantEX and ITG Platform, as well as vendors' front-ends and direct computer-to-computer links to customers. Orders may be executed on POSIT, the NYSE, certain regional exchanges, market makers, electronic communication networks and alternative trading systems. Jefferies International Limited and Jefferies Pacific Limited. Jefferies International Limited ("JIL") was incorporated in 1986 in England. JIL is a member of The International Stock Exchange and The Securities and Futures Authority. JIL introduces customers trading in U.S. securities to JEFCO and also trades as a broker-dealer in international equity and convertible securities and American Depositary Receipts ("ADRs"). In 1995, JIL formed a wholly owned Swiss subsidiary, Jefferies (Switzerland) Ltd. In 1996, JIL formed a wholly-owned English subsidiary, Jefferies (Japan) Limited, which maintains a branch office in Tokyo. Jefferies Pacific Limited ("JPL"), a broker subsidiary of the Company, was incorporated in 1992 in Hong Kong. JPL presently introduces foreign customers trading in U.S. securities to JEFCO. W & D Securities, Inc. W & D Securities, Inc. ("W & D") primarily provides execution services on the NYSE and other exchanges to JEFCO and ITG. In order to comply with regulatory requirements of the NYSE that generally prohibit NYSE members and their affiliates from executing, as principal and, in certain cases, as agent, transactions in NYSE-listed securities off the NYSE, the Company gave up its formal legal control of W & D, effective January 1, 1983, by exchanging all of the W & D common stock owned by it for non-voting preferred stock of W & D. The common stock of W & D is presently held by an officer of W & D who has agreed with the Company that, at the option of the Company, he will sell such stock to the Company for nominal consideration. In the event that the Company were to regain ownership of such common stock, the Company believes that the NYSE would assert that W & D would be in violation of the NYSE's rules unless 2 5 similar arrangements satisfactory to the NYSE were made with respect to the ownership of the common stock. While the NYSE has generally approved the above arrangements, there can be no assurance that it will not raise objections in the future. In light of these arrangements and the high proportion of the equity of W & D represented by the non-voting preferred stock held by the Company, W & D is consolidated as a subsidiary of the Company for financial statement purposes. The Company believes that it can make satisfactory alternative arrangements for executing transactions in listed securities on the NYSE if it were precluded from doing so through W & D. COMMISSION BUSINESS A substantial portion of the Company's revenues is derived from customer commissions on brokerage transactions in equity (primarily listed) and debt securities for domestic and international investors such as investment advisors, banks, mutual funds, insurance companies and pension and profit sharing plans. These investors normally purchase and sell securities in block transactions, the execution of which requires special marketing and trading expertise. JEFCO is one of the leading national firms in the execution of equity block transactions, and believes that its institutional customers are attracted by the quality of its execution (with respect to considerations of quantity, timing and price) and its competitive commission rates, which are negotiated on the basis of market conditions, the size of the particular transaction and other factors. In addition to domestic equity securities, the Company executes transactions in taxable fixed income securities, domestic and international convertible securities, international equity securities, ADRs, options, preferred stocks, financial futures and other similar products. All of JEFCO's equity account executives are electronically interconnected through a system permitting simultaneous verbal and graphic communication of trading and order information by all participants. JEFCO believes that its execution capability is significantly enhanced by this system, which permits its account executives to respond to each other and to negotiate order indications directly with customers rather than through a separate trading department. PRINCIPAL TRANSACTIONS In the regular course of its business, JEFCO takes securities positions as a market-maker to facilitate customer transactions and for investment purposes. In making markets and when trading for its own account, JEFCO exposes its own capital to the risk of fluctuations in market value. Trading profits (or losses) depend primarily upon the skills of the employees engaged in market making and position taking, the amount of capital allocated to positions in securities and the general trend of prices in the securities markets. JEFCO monitors its risk by maintaining its securities positions at or below certain pre-established levels. These levels reduce certain opportunities to realize profits in the event that the value of such securities increases. However, they also reduce the risk of loss in the event of a decrease in such value and result in controlled interest costs incurred on funds provided to maintain such positions. Equities. The Equities Division of JEFCO makes markets in over 600 over-the-counter equity and ADR securities, and trades securities for its own account, as well as to facilitate customer transactions. The Equities and International Divisions engage in hedged trading involving securities listed or traded in both domestic and foreign markets. Taxable Fixed Income. The Taxable Fixed Income Division of JEFCO trades high grade and non-investment grade public and private debt securities. The Division specializes in trading and making markets in over 300 unrated or less than investment grade corporate debt securities and accounts for these positions at market value. At December 31, 1998, the aggregate long and short market value of these positions was $28.7 million and $8.3 million, respectively. Risk of loss upon default by the borrower is significantly greater with respect to unrated or less than investment grade corporate debt securities than with other corporate debt securities. These securities are generally unsecured and are often subordinated to other creditors of the issuer. These issuers usually have high levels of indebtedness and are more sensitive to adverse economic conditions, 3 6 such as recession or increasing interest rates, than are investment grade issuers. There is a limited market for some of these securities and market quotes are generally available from a small number of dealers. Convertible Securities and Warrants. JEFCO also trades domestic and international convertible securities and warrants and assists corporate and institutional clients in identifying attractive investments in these securities and warrants. Other Proprietary Trading. During 1998, JEFCO invested in statistically-defined market-neutral strategies in the equities markets and in merger-related arbitrage activities. Jefferies conducted these activities through relationships with independent management firms pursuant to which the Company delegated investment decisions to the managers. In addition, the Company has investments in partnerships and mutual funds as well as other relationships with independent management firms which contribute to revenues from principal transactions. CORPORATE FINANCE JEFCO's Corporate Finance Division offers corporations (primarily middle market growth companies) a full range of financial advisory service as well as debt, equity, and convertible financing service. Products include acquisition financing, bridge and senior loan financing, private placements and public offerings of debt and equity securities, debt refinancings, restructuring, merger and acquisition and exclusive sales advice, structured financings and securitizations, consent and waiver solicitations, and company and bondholder representations in corporate restructurings. Its research department covers 223 companies in 12 industries. Investment banking activity involves both economic and regulatory risks. An underwriter may incur losses if it is unable to sell the securities it is committed to purchase or if it is forced to liquidate its commitments at less than the agreed upon purchase price. In addition, under the Securities Act of 1933 and other laws and court decisions with respect to underwriters' liability and limitations on indemnification of underwriters by issuers, an underwriter is subject to substantial potential liability for material misstatements or omissions in prospectuses and other communications with respect to underwritten offerings. Further, underwriting commitments constitute a charge against net capital and JEFCO's underwriting commitments may be limited by the requirement that it must, at all times, be in compliance with the Uniform Net Capital Rule 15c3-1 of the Securities and Exchange Commission (the "Commission"). JEFCO intends to continue to pursue opportunities for its corporate customers which may require it to finance and/or underwrite the issuance of securities. Under circumstances where JEFCO is required to act as an underwriter or to trade on a proprietary basis with its customers, JEFCO may assume greater risk than would normally be assumed in certain other principal transactions. INTEREST JEFCO derives a substantial portion of its interest revenues, and incurs a substantial portion of its interest expenses, in connection with its securities borrowed/securities loaned activity. JEFCO also earns interest on its securities portfolio, on its operating and segregated balances, on its margin lending activity and on certain of its investments. Securities Borrowed/Securities Loaned. In connection with both its trading and brokerage activities, JEFCO borrows securities to cover short sales and to complete transactions in which customers have failed to deliver securities by the required settlement date, and lends securities to other brokers and dealers for similar purposes. JEFCO has an active securities borrowed and lending matched book business ("Matched Book"), in which JEFCO borrows securities from one party and lends them to another party. When JEFCO borrows securities, JEFCO provides cash to the lender as collateral, which is reflected in the Company's financial statements as receivable from brokers and dealers. JEFCO earns interest revenues on this cash collateral. Similarly, when JEFCO lends securities to another party, that party provides cash to JEFCO as collateral, which is reflected in the Company's financial statements as payable to brokers and dealers. JEFCO pays interest expense on the cash collateral received from the party borrowing the securities. A substantial portion of the JEFCO's interest revenues and interest expense results from the Matched Book activity. 4 7 Margin Lending. Customers' transactions are executed on either a cash or margin basis. In a margin transaction, JEFCO extends credit to the customer, collateralized by securities and cash in the customer's account, for a portion of the purchase price, and receives income from interest charged on such extensions of credit. In permitting a customer to purchase securities on margin, JEFCO is subject to the risk that a market decline could reduce the value of its collateral below the amount of the customer's indebtedness and that the customer might otherwise be unable to repay the indebtedness. In addition to monitoring the creditworthiness of its customers, JEFCO also considers the trading liquidity and volatility of the securities it accepts as collateral for its margin loans. Trading liquidity and volatility may be dependent, in part, upon the market on which the security is traded, the number of outstanding shares of the issuer, events affecting the issuer and/or securities markets in general, and whether or not there are any legal restrictions on the sale of the securities. Certain types of securities have historical trading patterns which may assist JEFCO in making its evaluation. Historical trading patterns, however, may not be good indicators over relatively short time periods or in markets which are affected by unusual or unexpected developments. JEFCO considers all of these factors at the time it agrees to extend credit to customers and continues to review its extensions of credit on an ongoing basis. The majority of JEFCO's margin loans are made to United States citizens or to corporations which are domiciled in the United States. JEFCO may extend credit to investors or corporations who are citizens of foreign countries or who may reside outside the United States. JEFCO believes that should such foreign investors default upon their loans and should the collateral for those loans be insufficient to satisfy the investors' obligations, it may be more difficult to collect such investors' outstanding indebtedness than would be the case if investors were citizens or residents of the United States. Although JEFCO attempts to minimize the risk associated with the extension of credit in margin accounts, there is no assurance that the assumptions on which JEFCO bases its decisions will be correct or that it is in a position to predict factors or events which will have an adverse impact on any individual customer or issuer, or the securities markets in general. COMPETITION All aspects of the business of the Company are intensely competitive. The Company competes directly with numerous other brokers and dealers, investment banking firms and banks. In addition to competition from firms currently in the securities business, there has been increasing competition from others offering financial services. These developments and others have resulted, and may continue to result, in significant additional competition for the Company. Member firms of the NYSE generally are prohibited from effecting transactions when acting as principal and, in certain cases, as agents, in listed equity securities off the NYSE, and therefore, unlike JEFCO, are precluded from effecting such transactions in the third market. Such firms may execute certain transactions in listed equity securities in the third market for customers, although typically they do not do so. Since firms which the Company regards as its major competitors in the execution of transactions in equity securities for institutional investors are members of the NYSE, any removal of these prohibitions could adversely affect the Company's business. Competition in various aspects of the Company's business is also potentially impacted by regulatory changes. For example, the Commission recently adopted a comprehensive package of rules and rule amendments affecting the regulation of alternative trading systems. Among other things, the rules package requires alternative trading systems ("ATSs") to register with the Commission as such under new Regulation ATS or as national securities exchanges. Since ATSs, some of which are also electronic communications networks under other Commission regulations and are linked to certain Nasdaq quotation and order transmission and execution systems, compete with the Company in the execution of equity securities, decisions by such systems (and their owners and sponsors) to register as exchanges may affect the nature and extent of competition in the execution of equity securities for institutional customers and may adversely affect the Company's business. The Company 5 8 cannot at this time predict the impact, if any, of these regulatory changes on competition in the execution of transactions in equity securities for institutional customers. REGULATION The securities industry in the United States is subject to extensive regulation under both federal and state laws. The Commission is the federal agency responsible for the administration of federal securities laws. In addition, self-regulatory organizations, principally the NASDR and the securities exchanges, are actively involved in the regulation of broker-dealers. These self-regulatory organizations conduct periodic examinations of member broker-dealers in accordance with rules they have adopted and amended from time to time, subject to approval by the Commission. Securities firms are also subject to regulation by state securities commissions in those states in which they do business. JEFCO is registered as a broker-dealer in 50 states, the District of Columbia and Puerto Rico. ITG is registered as a broker-dealer in 49 states and the District of Columbia. W & D is registered as a broker-dealer in 3 states. Broker-dealers are subject to regulations which cover all aspects of the securities business, including sales methods, trade practices among broker-dealers, use and safekeeping of customers' funds and securities, capital structure of securities firms, record-keeping and the conduct of directors, officers and employees. Additional legislation, changes in rules promulgated by the Commission and self-regulatory organizations, or changes in the interpretation or enforcement of existing laws and rules, may directly affect the mode of operation and profitability of broker-dealers. The Commission, self-regulatory organizations and state securities commissions may conduct administrative proceedings which can result in censure, fine, suspension, expulsion of a broker-dealer, its officers or employees, or revocation of broker-dealer licenses. The principal purpose of regulation and discipline of broker-dealers is the protection of customers and the securities markets, rather than protection of creditors and stockholders of broker-dealers. As registered broker-dealers, JEFCO, ITG and W & D are required by law to belong to the Securities Investor Protection Corporation ("SIPC"). In the event of a member's insolvency, the SIPC fund provides protection for customer accounts up to $500,000 per customer, with a limitation of $100,000 on claims for cash balances. Net Capital Requirements. Every U.S. registered broker-dealer doing business with the public is subject to the Commission's Uniform Net Capital Rule (the "Rule"), which specifies minimum net capital requirements. Jefferies Group, Inc. is not a registered broker-dealer and is therefore not subject to the Rule; however, its United States broker-dealer subsidiaries are subject thereto. The Rule provides that a broker-dealer doing business with the public shall not permit its aggregate indebtedness to exceed 15 times its adjusted net capital (the "basic method") or, alternatively, that it not permit its adjusted net capital to be less than 2% of its aggregate debit balances (primarily receivables from customers and broker-dealers) computed in accordance with such Rule (the "alternative method"). JEFCO, ITG and W & D use the alternative method of calculation. Compliance with applicable net capital rules could limit operations of Jefferies or ITG, such as underwriting and trading activities, that require use of significant amounts of capital, and may also restrict loans, advances, dividends and other payments by JEFCO, ITG or W & D to the Company. As of December 31, 1998, JEFCO's, ITG's and W & D's net capital was $217.4 million, $72.0 million and $2.0 million, respectively, which exceeded minimum net capital requirements by $213.4 million, $71.7 million and $1.8 million, respectively. See note 16 of Notes to Consolidated Financial Statements. ITEM 2. PROPERTIES. The Company maintains sales offices in Los Angeles, New York, Short Hills, Chicago, Dallas, Boston, Atlanta, New Orleans, Houston, San Francisco, Stamford, London, Hong Kong, Zurich and Tokyo. In addition, the Company maintains operations offices in Los Angeles and Jersey City. The Company leases all of its office space which management believes is adequate for the Company's business. For information 6 9 concerning leasehold improvements and rental expense, see notes 1, 7 and 13 of Notes to Consolidated Financial Statements. ITEM 3. LEGAL PROCEEDINGS. In re Nasdaq Market-Makers Antitrust Litigation. In July 1994, antitrust class actions were commenced against JEFCO and 33 other defendants in various federal courts (the "Lawsuits"). Following the filing of the Lawsuits, the Antitrust Division of the United States Department of Justice ("DOJ") and the Commission commenced investigations into certain issues related to the allegations of the Lawsuits. In August 1996, the DOJ entered into an antitrust consent decree with 24 defendants who are market makers in Nasdaq stocks. JEFCO was neither asked nor required to settle with the DOJ. Shortly after the DOJ settlement, the Commission filed a Section 21(a) report against the National Association of Securities Dealers, Inc. ("NASD"), criticizing various practices by market makers and the NASD for failing to police adequately or discipline the market makers for those practices. However, the Commission did not take any action at that time against the market maker firms. In October 1994, the Lawsuits were consolidated for discovery purposes in the United States District Court for the Southern District of New York (the "Court"). The consolidated complaint alleges that the defendants violated the antitrust laws by conspiring to fix the spread paid by plaintiffs and class members to trade in certain Nasdaq securities, by refusing to quote bids and asks in so-called odd-eighths. The cases purport to be brought on behalf of all persons who purchased or sold certain securities on the Nasdaq National Market System during the period May 1, 1989 to May 27, 1994. The plaintiffs seek damages in an unspecified amount. In order to avoid the uncertainties of litigation, JEFCO entered into a settlement agreement which received the preliminary approval of the Court on October 15, 1997. The settlement received the final approval of the Court on November 9, 1998. The amount of the settlement was previously provided for and will not have a material adverse effect on JEFCO. Income Taxes. The Company received a "30-day letter" proposing certain adjustments which, if sustained, would result in a tax deficiency of approximately $10.0 million plus interest. Substantially all of the proposed adjustments relate to Investment Technology Group, Inc., the Company's 80.5% owned subsidiary and include (i) the disallowance of deductions taken in connection with the termination of certain compensation plans at the time of Investment Technology Group's initial public offering in 1994 and (ii) the disallowance of tax credits taken in connection with certain research and development expenditures. The Company intends to vigorously contest the proposed adjustments and believes that resolution of this matter will not have a material adverse effect on the Company. Other. Many aspects of the Company's business involve substantial risks of liability. In the normal course of business, the Company and its subsidiaries have been named as defendants or co-defendants in lawsuits involving primarily claims for damages. The Company's management believes that pending litigation will not have a material adverse effect on the Company. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. None. 7 10 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED SECURITY HOLDER MATTERS. The Company's Common Stock began trading on the NYSE on March 15, 1996, under the symbol JEF. Previously, the Common Stock traded in the Nasdaq National Market System under the symbol JEFG. The following table sets forth for the periods indicated, the range of high and low prices per share for the Common Stock as reported by the NYSE. All price range and dividends per share information has been restated to retroactively reflect the effect of the two-for-one stock splits declared by the Board of Directors on November 19, 1997 and March 2, 1996.
HIGH LOW ------ ------ 1998 First Quarter............................................ $56.88 $32.50 Second Quarter........................................... 59.50 40.00 Third Quarter............................................ 51.25 24.38 Fourth Quarter........................................... 50.88 16.56 1997 First Quarter............................................ $24.13 $19.38 Second Quarter........................................... 30.38 20.00 Third Quarter............................................ 38.16 26.63 Fourth Quarter........................................... 48.00 31.88
There were approximately 327 holders of record of the Company's Common Stock at December 31, 1998. In 1988, the Company instituted a policy of paying regular quarterly cash dividends. There are no restrictions on the Company's present ability to pay dividends on Common Stock, other than the applicable provisions of the Delaware General Corporation Law. Dividends per Common Share (declared and paid):
FIRST SECOND THIRD FOURTH QUARTER QUARTER QUARTER QUARTER ------- ------- ------- ------- 1998..................................... $.050 $.050 $.050 $.050 1997..................................... $.025 $.025 $.025 $.050
8 11 ITEM 6. SELECTED FINANCIAL DATA. The selected data presented below as of and for each of the years in the five-year period ended December 31, 1998, are derived from the consolidated financial statements of Jefferies Group, Inc. and its subsidiaries, which financial statements have been audited by KPMG LLP, independent auditors. Such data should be read in connection with the consolidated financial statements contained on pages 20 through 45. All share and per share information has been restated to retroactively reflect the effect of the two-for-one stock splits declared by the Board of Directors on November 19, 1997 and March 2, 1996. Earnings per share information has been restated to retroactively reflect the adoption of Statement of Financial Accounting Standards No. 128. Certain reclassifications have been made to the prior period amounts to conform to the current periods presentation. The selected data presented in this Item 6 reports the financial condition, results of operations, cash flows and equity of the Company without giving effect to the proposed Transfers, Spin-Off and ITGI Merger. See Part I, Item 1. "Business -- Proposed Transfers, Spin-Off and Merger Transactions."
YEAR ENDED DECEMBER 31, -------------------------------------------------------------- 1998 1997 1996 1995 1994 ---------- ---------- ---------- ---------- ---------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) EARNINGS STATEMENT DATA Revenues: Commissions.................................. $ 395,211 $ 282,317 $ 222,048 $ 165,610 $ 144,208 Principal transactions....................... 174,240 177,214 143,912 97,954 67,013 Corporate finance............................ 126,651 228,640 97,870 72,003 39,818 Interest..................................... 90,799 70,740 47,803 65,792 51,223 Other........................................ 11,809 5,593 4,993 4,228 1,902 ---------- ---------- ---------- ---------- ---------- Total revenues............................. 798,710 764,504 516,626 405,587 304,164 Interest expense............................... 75,178 61,466 37,852 54,365 41,626 ---------- ---------- ---------- ---------- ---------- Revenues, net of interest expense.............. 723,532 703,038 478,774 351,222 262,538 ---------- ---------- ---------- ---------- ---------- Non-interest expenses: Compensation and benefits.................... 380,737 409,979 264,041 195,278 145,372 Floor brokerage and clearing fees............ 42,063 35,028 27,323 20,273 18,660 Communications............................... 67,851 55,959 35,177 24,960 20,997 Occupancy and equipment rental............... 19,931 21,238 17,207 15,993 14,271 Travel and promotional....................... 21,662 19,207 13,541 10,296 8,909 Software royalties........................... 15,252 9,853 8,805 5,987 5,028 Other........................................ 37,844 35,824 29,493 25,197 18,522 ---------- ---------- ---------- ---------- ---------- Total non-interest expenses................ 585,340 587,088 395,587 297,984 231,759 ---------- ---------- ---------- ---------- ---------- Operating income............................... 138,192 115,950 83,187 53,238 30,779 Other income: Gain on initial public offering of Investment Technology Group, Inc. .................... -- -- -- -- 8,257 ---------- ---------- ---------- ---------- ---------- Earnings before income taxes and minority interest..................................... 138,192 115,950 83,187 53,238 39,036 Income taxes................................... 60,533 47,677 35,438 21,911 17,568 ---------- ---------- ---------- ---------- ---------- Earnings before minority interest.............. 77,659 68,273 47,749 31,327 21,468 Minority interest.............................. 7,977 4,706 4,189 2,798 1,244 ---------- ---------- ---------- ---------- ---------- Net earnings................................. $ 69,682 $ 63,567 $ 43,560 $ 28,529 $ 20,224 ========== ========== ========== ========== ========== Earnings per share of Common Stock: Basic earnings............................... $ 3.12 $ 2.95 $ 1.90 $ 1.23 $ 0.84 ========== ========== ========== ========== ========== Diluted earnings............................. $ 2.96 $ 2.80 $ 1.84 $ 1.19 $ 0.81 ========== ========== ========== ========== ========== Weighted average shares of Common Stock: Basic........................................ 22,346 21,552 22,980 23,270 23,956 Diluted...................................... 22,954 22,349 23,410 23,922 24,756 SELECTED BALANCE SHEET DATA Total assets................................... $2,683,640 $2,099,542 $1,568,087 $1,536,969 $1,557,348 Long-term debt................................. $ 149,387 $ 149,290 $ 52,987 $ 56,322 $ 59,570 Total stockholders' equity..................... $ 334,775 $ 242,756 $ 195,445 $ 186,261 $ 163,235 Book value per share of Common Stock........... $ 15.77 $ 11.97 $ 9.43 $ 8.28 $ 7.28 Shares outstanding............................. 21,230 20,286 20,726 22,514 22,420
9 12 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. The discussion and analysis presented in this Item 7 reports the financial condition and results of operations of the Company without giving effect to the proposed Transfers, Spin-Off and ITGI Merger. See Part I, Item 1, "Business -- Proposed Transfers, Spin-Off and Merger Transactions." The Company's principal activities, securities brokerage and the trading of and market making in securities, are highly competitive. Total assets increased $584.1 million from $2,099.5 million at December 31, 1997 to $2,683.6 million at December 31, 1998. The increase is mostly due to a $748.4 million increase in receivable from brokers and dealers related to securities borrowed. The increase in securities borrowed is mostly a result of an increase in payables to brokers and dealers (related to securities loaned). Securities owned and securities sold, not yet purchased decreased $144.6 million and $149.1 million, respectively, from December 31, 1997 to December 31, 1998, largely due to the discontinuance of statistical arbitrage trading. Total liabilities increased $492.1 million from $1,856.8 million at December 31, 1997 to $2,348.9 million at December 31, 1998. The increase is largely due to the before-mentioned increases in payable to brokers and dealers and partially offset by the before-mentioned decrease in securities sold, not yet purchased. The earnings of the Company are subject to wide fluctuations since many factors over which the Company has little or no control, particularly the overall volume of trading and the volatility and general level of market prices, may significantly affect its operations. The following provides a summary of revenues by source for the past three years.
YEAR ENDED DECEMBER 31, ----------------------------------------------------------------- 1998 1997 1996 ------------------- ------------------- ------------------- % OF % OF % OF TOTAL TOTAL TOTAL AMOUNT REVENUES AMOUNT REVENUES AMOUNT REVENUES -------- -------- -------- -------- -------- -------- (DOLLARS IN THOUSANDS) Commissions and principal transactions: Equities Division............... $261,664 33% $206,438 27% $164,078 32% Investment Technology Group..... 201,392 25 131,502 17 107,240 21 International Division.......... 50,889 6 56,525 7 43,288 8 Taxable Fixed Income Division... 40,071 5 34,714 5 28,839 5 Convertible Division............ 13,011 2 9,336 1 8,132 2 Other Proprietary Trading....... 2,424 0 21,016 3 14,383 3 -------- --- -------- --- -------- --- Total................... 569,451 71 459,531 60 365,960 71 -------- --- -------- --- -------- --- Corporate Finance................. 126,651 16 228,640 30 97,870 19 Interest.......................... 90,799 11 70,740 9 47,803 9 Other............................. 11,809 2 5,593 1 4,993 1 -------- --- -------- --- -------- --- Total revenues.......... $798,710 100% $764,504 100% $516,626 100% ======== === ======== === ======== ===
1998 COMPARED TO 1997 Revenues, net of interest expense, increased $20.5 million, or 3%, in 1998 as compared to 1997. The increase was largely due to a $112.9 million, or 40%, increase in commissions, partially offset by a $102.0 million, or 45%, decrease in corporate finance. Commission revenues increased, led by ITG and the Equities Division. Revenues from principal transactions decreased $3.0 million, or 2%, primarily due to decreased trading gains from other investments. Corporate finance revenues decreased due to the currently difficult environment for underwritings. Other revenue increased $6.2 million mostly due to a gain on ITGI's sale of its interest in the LongView Group, Inc. Net interest income (interest revenues less interest expense) was up $6.3 million mostly due to an excess of securities borrowed interest income over securities loaned interest expense. 10 13 Total non-interest expenses remained relatively unchanged in 1998 as compared to 1997. Compensation and benefits decreased $29.2 million, or 7% primarily due to a $52.9 million decrease in performance-based compensation, partially offset by a $13.1 million increase in salaries, a $6.8 million increase in payroll taxes and employee benefits and a $2.0 million increase in sales commissions. Salaries increased due largely to expansion in ITG, the Corporate Finance Division and the Equities Division. Communications increased $11.9 million, or 21%, primarily due to increased Y2K costs. Floor brokerage and clearing fees increased $7.0 million, or 20%, mostly due to increased volume of business executed on the various exchanges. Software royalties increased $5.4 million, or 55%, due to an increase in POSIT commissions. Travel and promotional expense increased $2.5 million, or 13%, mostly due to increased business travel. Other expense increased $2.0 million, or 6%, mostly due to $3.5 million of expenses associated with the spin-off transaction. As a result of the above, earnings before income taxes and minority interest were up $22.2 million, or 19%. Net earnings were up 10% to $69.7 million, as compared to $63.6 million in 1997. Minority interest of $8.0 million in 1998 represents approximately 18% of Investment Technology Group, Inc.'s net earnings. The effective tax rate was approximately 43.8% in 1998 compared to approximately 41.1% in 1997. The increase in the effective tax rate was due largely to an increase non-deductible spin-off related expenses and ITGI losses from long-term foreign investments. Basic earnings per share were $3.12 in 1998 on 22.3 million shares compared to $2.95 in 1997 on 21.6 million shares. Diluted earnings per share were $2.96 in 1998 on 23.0 million shares compared to $2.80 in 1997 on 22.3 million shares. 1997 COMPARED TO 1996 Revenues, net of interest expense, increased $224.3 million, or 47%, in 1997 as compared to 1996. The increase was due to a $130.8 million, or 134%, increase in corporate finance, a $60.3 million, or 27%, increase in commissions, a $33.3 million, or 23%, increase in principal transactions, and a $600,000 increase in other revenues, offset by a $677,000, or 7%, decrease in net interest income (interest revenues less interest expense). Commission revenues increased, led by ITG, the Equities Division, and the International Division. Revenues from principal transactions increased primarily due to increased trading gains in the Equities Division, the International Division, and the Taxable Fixed Income Division. Corporate finance revenues benefited from increased debt financing deals. Net interest income decreased as the $22.9 million increase in interest revenues was surpassed by the $23.6 million increase in interest expense. Interest revenues increased due primarily to higher securities borrowed activity. Interest expense increased due primarily to higher securities loaned activity and interest on temporary subordinated loans as well as the new 7 1/2% senior notes. Total non-interest expenses increased $191.5 million, or 48%, in 1997 as compared to 1996. Compensation and benefits increased $145.9 million, or 55% primarily due to a $102.6 million increase in performance-based compensation, a $24.5 million increase in sales commissions and an $11.9 million increase in salaries. Salaries increased due largely to expansion in ITG, the Corporate Finance Division, the Equity Research Division and the Equities Division. Communications increased $20.8 million, or 59%, primarily due to increased trade volume and personnel. Floor brokerage and clearing fees increased $7.7 million, or 28%, mostly due to increased volume of business executed on the various exchanges. Other expense increased $6.3 million, or 21%, largely due to higher litigation expenses and provisions. Travel and promotional expense increased $5.7 million, or 42%, mostly due to increased business travel. Occupancy and equipment rental increased $4.0 million, or 23%, mostly due to the relocation and addition of office space. Software royalties increased $1.0 million, or 12%, due to an increase in POSIT commissions. As a result of the above, earnings before income taxes and minority interest were up $32.8 million, or 39%. Net earnings were up 46% to $63.6 million, as compared to $43.6 million in 1996. Minority interest of $4.7 million in 1997 represents approximately 17% of Investment Technology Group, Inc.'s net earnings. The effective tax rate was approximately 41.1% in 1997 compared to approximately 42.6% in 1996. The reduction 11 14 in the effective tax rate was due largely to a reversal of deferred taxes related to ITGI shares that were repurchased during 1997. Basic earnings per share were $2.95 in 1997 on 21.6 million shares compared to $1.90 in 1996 on 23.0 million shares. Diluted earnings per share were $2.80 in 1997 on 22.3 million shares compared to $1.84 in 1996 on 23.4 million shares. LIQUIDITY AND CAPITAL RESOURCES A substantial portion of the Company's assets are liquid, consisting of cash or assets readily convertible into cash. The majority of securities positions (both long and short) in the Company's trading accounts are readily marketable and actively traded. Receivables from brokers and dealers are primarily current open transactions or securities borrowed transactions which can be settled or closed out within a few days. Receivables from customers, officers and directors include margin balances and amounts due on uncompleted transactions. Most of the Company's receivables are secured by marketable securities. The Company's assets are funded by equity capital, senior debt, subordinated debt, securities loaned, customer free credit balances, bank loans and other payables. Bank loans represent secured and unsecured short-term borrowings (usually overnight) which are generally payable on demand. Secured bank loans are collateralized by a combination of customer, non-customer and firm securities. The Company has always been able to obtain necessary short-term borrowings in the past and believes that it will continue to be able to do so in the future. Additionally, the Company has letters of credit outstanding which are used in the normal course of business to satisfy various collateral requirements in lieu of depositing cash or securities. JEFCO, ITG and W & D are subject to the net capital requirements of the Commission and other regulators, which are designed to measure the general financial soundness and liquidity of broker-dealers. JEFCO, ITG and W & D have consistently operated in excess of the minimum requirements. As of December 31, 1998, JEFCO's, ITG's and W & D's net capital was $217.4 million, $72.0 million and $2.0 million, respectively, which exceeded minimum net capital requirements by $213.4 million, $71.7 million and $1.8 million, respectively. JEFCO, ITG and W & D use the alternative method of calculating their regulatory net capital. In 1998, Jefferies Group, Inc. repurchased 334,234 shares (including 275,400 shares purchased in connection with the Company's Capital Accumulation Plan) of its Common Stock at prices ranging from $17.25 to $52.81. In 1997, Jefferies Group, Inc. redeemed the remaining $3.6 million face value of its 8.875% Subordinated Notes due 1997 in accordance with sinking fund requirements. During 1997, Jefferies Group, Inc. issued $100 million face value of 7 1/2% Senior Notes due in 2007. In 1997, Jefferies Group, Inc. repurchased 1,063,026 shares (including 349,200 shares purchased in connection with the Company's Capital Accumulation Plan) of its Common Stock at prices ranging from $19.39 to $37.41. Also in 1997, the repurchased shares of Common Stock, excluding the shares repurchased in connection with the Company's Capital Accumulation Plan, were mostly retired. During 1997, JEFCO obtained a NASDR approved $200 million revolving credit facility to be used in connection with underwriting activities. On January 25, 1999, in anticipation of the transaction described in the "Jefferies Group, Inc. and Investment Technology Group, Inc. Announce Intention to Consider Separating Into Two Independent Companies" and in note 19 of the consolidated financial statements, Jefferies Group liquidated its Capital Accumulation Plan -- a deferred compensation plan consisting of cash and stock and payable to nearly 200 employees. Liquidation of this plan is part of a capital infusion to Jefferies Group, Inc. contemplated as part of the transaction and resulted in employees receiving approximately 1.5 million shares of Jefferies Group. These shares payable under the Capital Accumulation Plan have always been included in the basic and diluted weighted average shares of Jefferies Group. 12 15 MARKET RISK The Company maintains equity securities inventories in exchange-listed, Nasdaq and private securities on both a long and short basis. The fair value of these securities at December 31, 1998, was $43 million in long positions and $27 million in short positions. The potential loss in fair value, using a hypothetical 10% decline in prices, is estimated to be approximately $2 million due to the offset of losses in long positions with gains in short positions. In addition, the Company generally enters into exchange-traded option and index futures contracts to hedge against potential losses in inventory positions, thus reducing this potential loss exposure. This hypothetical 10% decline in prices would not be material to the Company's financial position, results of operations or cash flows. The Company also invests in money market funds; high-yield, corporate and U.S. Government agency debt and mutual bond funds. Money market funds do not have maturity dates and do not present a material market risk. The fair value of high yield, corporate and U.S. Government agency debt at December 31, 1998 was $57 million in long positions and $12 million in short positions. Mutual bond funds also do not have maturity dates and total $33 million at December 31, 1998. The potential loss in fair value of the high-yield, corporate and U.S. Government agency debt and the mutual bond funds, using a hypothetical 5% decline in value, is estimated to be approximately $4 million due to the offset of losses in long positions with gains in short positions. This hypothetical 5% decline in value would not be material to the Company's financial position, results of operations or cash flows. At December 31, 1998, the Company had $150 million aggregate principal amount of Senior Notes, with fixed interest rates. The Company has no cash flow exposure regarding these Notes due to the fixed rate of interest. The table below provides information about the Company's derivative financial instruments and other financial instruments that are sensitive to changes in interest rates, exchange rates and stock price movements (in thousands of dollars.) For debt obligations and reverse repurchase agreements, the table presents principal cash flows with expected maturity dates. For foreign exchange forward contracts, index futures contracts and option contracts the table presents notional amounts with expected maturity dates.
EXPECTED MATURITY DATE --------------------------- AFTER FAIR 1999 2000 2003 TOTAL VALUE ------- ------ -------- -------- -------- INTEREST RATE SENSITIVITY 8.875% Senior Notes.................... $ 50,000 $ 50,000 $ 51,625 7.5% Senior Notes...................... $100,000 $100,000 $100,000 Reverse repurchase agreements(1), weighted average interest rate of 4.95%................................ $28,000 $ 28,000 $ 28,000 EXCHANGE RATE SENSITIVITY Foreign exchange forward contracts-Sale....................... $ 8,759 $ 8,759 $ 8,759 STOCK PRICE SENSITIVITY Index futures contracts-Sale........... $ 3,559 $ 3,559 $ (178) Option contracts Purchase............................. $ 1,825 $1,125 $ 2,950 $ 666 Sale................................. $ 1,577 $1,350 $ 2,927 $ 574
- --------------- (1) Includes reverse repurchase agreements of $28,000 included in cash and securities segregated and on deposit for regulatory purposes or deposited with clearing and depository organizations. EFFECTS OF CHANGES IN FOREIGN CURRENCY RATES The Company maintains a foreign securities business in its foreign offices (London, Hong Kong, Zurich and Tokyo) as well as in some of its domestic offices. Most of these activities are hedged by related foreign currency liabilities or by forward exchange contracts. However, the Company is still subject to some foreign 13 16 currency risk. A change in the foreign currency rates could create either a foreign currency transaction gain/loss (recorded in the Company's Consolidated Statements of Earnings) or a foreign currency translation adjustment to the stockholders' equity section of the Company's Consolidated Statements of Financial Condition. NEW ACCOUNTING STANDARD ON EARNINGS PER SHARE Statement of Financial Accounting Standards (SFAS) No. 128, "Earnings per Share," establishes standards for computing and presenting earnings per share ("EPS"). SFAS No. 128 replaced the presentation of primary EPS with a presentation of basic EPS. SFAS No. 128 also requires dual presentation of basic and diluted EPS on the face of the statement of earnings for entities with complex capital structures and requires a reconciliation of the numerator and denominator of the basic EPS computation to the numerator and denominator of the diluted EPS computation. Basic earnings per share of common stock are computed by dividing net earnings by the average number of shares outstanding and certain other shares committed to, but not yet issued. Diluted earnings per share of common stock are computed by dividing net earnings by the average number of shares outstanding of common stock and all dilutive common stock equivalents outstanding during the period. EPS information has been restated to retroactively reflect the adoption of SFAS No. 128. NEW ACCOUNTING STANDARD ON COMPREHENSIVE INCOME SFAS No. 130, "Reporting Comprehensive Income," establishes standards for reporting and display of comprehensive income and its components (revenues, expenses, gains, and losses) in a full set of general-purpose financial statements. All items that are required to be recognized under accounting standards as components of comprehensive income are required to be reported in a financial statement that is displayed with the same prominence as other financial statements. SFAS No. 130 does not require a specific format for that financial statement but requires that an enterprise display an amount representing total comprehensive income for the period in that financial statement. SFAS No. 130 requires that an enterprise (a) classify items of other comprehensive income by their nature in a financial statement and (b) display the accumulated balance of other comprehensive income separately from retained earnings and additional paid-in capital in the equity section of a statement of financial position. The Company implemented SFAS No. 130 in 1997. The adoption of SFAS No. 130 did not have any impact on the Company. NEW ACCOUNTING STANDARD ON SEGMENT REPORTING SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information," establishes standards for the way that public business enterprises report information about operating segments in annual financial statements and requires that those enterprises report selected information about operating segments in interim financial reports issued to shareholders. It also establishes standards for related disclosures about products and services, geographic areas, and major customers. SFAS No. 131 requires that a public business enterprise report financial and descriptive information about its reportable operating segments. Operating segments are components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker in deciding how to allocate resources and in assessing performance. Generally, financial information is required to be reported on the basis that it is used internally for evaluating segment performance and deciding how to allocate resources to segments. SFAS No. 131 also requires that a public business enterprise report descriptive information about the way that the operating segments were determined, the products and services provided by the operating segments, differences between the measurements used in reporting segment information and those used in the enterprise's general-purpose financial statements, and changes in the measurement of segment amounts from period to period. 14 17 The Company implemented SFAS No. 131 in 1998. The adoption of SFAS No. 131 did not have any impact on the Company. NEW ACCOUNTING STANDARD ON EMPLOYERS' DISCLOSURE ABOUT PENSIONS AND OTHER POSTRETIREMENT BENEFITS SFAS No. 132, "Employers' Disclosure About Pensions and Other Post-retirement Benefits," revises employers' disclosures about pension and other postretirement benefit plans. It does not change the measurement or recognition of those plans. It standardizes the disclosure requirements for pensions and other postretirement benefits to the extent practicable, requires additional information on changes in the benefit obligations and fair values of plan assets that will facilitate financial analysis, and eliminates certain disclosures. The Company implemented SFAS No. 132 in 1998. The adoption of SFAS No. 132 did not have any impact on the Company. NEW ACCOUNTING STANDARD ON DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, (collectively referred to as derivatives) and for hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. This Statement is effective for all fiscal quarters of fiscal years beginning after June 15, 1999. SFAS No. 133 is not expected to have a material impact on the Company. THE YEAR 2000 PROJECT The Y2K preparedness effort (the "Y2K Project") by the Company and its subsidiaries (for the purposes of this Y2K disclosure only, the term "Company" does not include Investment Technology Group, Inc. (Nasdaq: ITGI) and its subsidiaries, which have developed their own Y2K plan, which is described in the excerpt from ITGI's 10-K attached as Exhibit 99.1) began in late 1997 and early 1998 with an initial assessment of the Company's systems, its risk of exposure, the steps necessary to achieve Y2K compliance, and the resources necessary to implement those steps. As a result, the Company engaged Keane, Inc. as independent Y2K consultants, and Ernst & Young, LLP ("E&Y") to provide quarterly reviews of the Y2K Project as an internal audit outsourcer and to provide the independent accountant's report required by Release No. 34-40608. Together with the advice of these professionals, the Company formulated and adopted a Y2K Master Plan. The first phase of the Y2K Project, the Inventory, Assessment and Planning phase, involved a complete assessment of the Company's systems, both information technology ("IT") related and non-IT related, and a survey of all vendors and key clients. Systems were categorized into one of three "Triage" Levels -- Mission Critical, Business Important, or Other, with "Mission Critical" defined as those systems, the failure of which would result in the Company being unable to conduct business. The Company also created the framework for the Remediation and Testing phase that would follow, and set schedules for reaching the Operational Sustainability and Fully Compliant phases. This planning process provided a guide for each of the Company's divisions in its preparation of more detailed project plans that outline specific areas of work on each system. The Y2K Project called for the devotion of resources primarily to Mission Critical systems during 1998, and Business Important and Other systems primarily in the first quarter of 1999. Current State of Readiness The Company has now completed the first phase of the Y2K Project (Inventory, Assessment and Planning), and is working toward completion of the second phase: Remediation and Testing. As of March 1, 1999, phase two was approximately 90% complete. The remediation portion of this phase has been completed, and the testing portion has been under way since mid-1998. Although the Company originally planned to complete phase two by December 31, 1998, and participate in extended point to point testing in early 1999, the Company received notice during the fourth quarter that certification and extended point to point testing would 15 18 commence in November. Resources were redirected during the fourth quarter to prepare the Company for participation in these tests, causing a delay in testing previously scheduled for the fourth quarter 1998. In addition, compliant versions of certain key applications did not arrive until late December 1998 or early January 1999, which prevented their testing until that time. The Company has polled each of its vendors about their Y2K compliance. Of the 668 vendors contacted, 539 (80.1%) have responded and all who responded have indicated that they are or intend to become Y2K compliant by mid-1999. The Company is actively attempting to obtain assurances from the remaining vendors, though none of the remaining vendors provides Mission Critical services. Notwithstanding these representations from our vendors, the Company is not relying on vendor statements of readiness but is independently testing each system and connection as part of the Y2K Project. The Company has obtained assurances from all its vendors of Mission Critical systems that each vendor will be Y2K compliant and the Company has no reason to believe any of those vendors will be unable to attain compliance. However, because the Company may be forced to rely on contingency plans which may have a material adverse effect on the Company's business and operations, as discussed below, the Company is independently testing each system and connection for Y2K compliance. Company representatives have also contacted key clients and have begun testing with certain of those clients. Due to the nature of the Company's business, the clients that comprise the vast majority of the Company's revenues are institutional and are regulated by various governmental and self-regulatory bodies. The Company has therefore determined to review the filings made by those clients during the second quarter of 1999 before conducting a broad based survey of client Y2K readiness. Depending on the result of this review, the Company may find it necessary to survey its clients or to request written certification of their Y2K compliance. The Company has completed testing on systems needed to fully participate in the Securities Industry Association's ("SIA") street-wide testing and is now participating in the SIA tests. As of March 15, 1999, the Company had successfully completed two testing cycles, which resulted in no external errors and only minor internal errors. The remainder of testing to be performed involves testing each system using either compliant environment regression testing or unit regression and forward date testing in the existing environment. All IT systems are then subjected to system regression testing, followed by user group testing before they are placed into production. Each system, (IT and non-IT) will then be subjected to forward date testing in a simulated production environment. The Company has begun testing with certain key clients and the Company has now obtained compliant versions of key systems and is in the process of testing those systems and any connections with third party vendors. The Company is working with its landlords and lessors to assure the continued functionality of the Mission Critical non-IT systems upon which it is dependent, and is in the process of preparing contingency plans for non-IT failures as described below. Other than its internal audits and periodic reporting requirements to the Commission and the NASD, the Company has not been reviewed or audited by any state or federal regulators. Costs to Address Y2K Issues Jefferies Group, Inc.'s consolidated budget for the entire Y2K Project is $19.8 million, with $16.8 million attributable to JEFCO and $3.0 million attributable to ITGI. Current spending rates and projected expenses indicate that the Company will stay within that budget. A discussion of the Y2K project of ITGI and its subsidiaries is contained in ITGI's 1998 10-K under the heading "The Year 2000 Issue" which portion is attached to this 10-K as Exhibit 99.1. As of December 1998, approximately $12.4 million of costs in the consolidated budget have already been incurred. This budget includes new software and hardware, consultants to assist with project administration, quarterly internal audit outsourcing by E&Y, and a large number of the present IT staff devoting a substantial portion of their time to the Y2K Project. Until Operational Sustainability is achieved, the vast majority of IT resources will continue to be redirected into the Y2K Project and new development unrelated to Y2K has been limited to only the most essential projects. The budget for 1999 is projected to be approximately $6.3 million, which will be reassessed in the second half of 1999 to account for the possible implementation of contingency plans if any vendors will not achieve Y2K compliance. 16 19 Risks Though the Company expects to achieve Operational Sustainability by mid-1999, and to be fully compliant by the end of the third quarter of 1999, a number of material risks remain which could have a materially adverse impact on the Company. These risks generally arise as a result of either: (1) failures of internal systems or (2) failures of third party systems. Despite the considerable testing and remediation efforts the Company has undertaken, latent errors in the Company's internal systems that remain undetected could cause failures in those systems. Failures in one or more key systems would almost certainly result in substantial impairment of the Company's ability to efficiently process orders and trades or to perform its clearing functions. Although the Company expects that the contingency plans discussed below will allow the Company to continue operations, those contingency plans may not support the volume of trading the Company is accustomed to and could therefore cause substantial losses in revenue while they are relied upon. In the event failures occur, lost data may result in failed trades and related violations of NASD and SEC rules and regulations. To minimize the time during which it must rely on any contingency plan, the Company plans to devote all available resources to restoring normal system operations in the event any failures occur. There is also a substantial risk that failures by third parties could compromise the major order-processing systems upon which the Company is heavily dependent. Vendors such as Automatic Data Processing, Inc. and the Securities Industry Automation Corporation have represented to the Company that they either are or intend to become Y2K compliant and the Company stands ready to test with each of these parties as soon as they are prepared to do so, but the failure of any one of these systems could result in a significant interruption of normal business for the Company. Due to the interdependence of the Company's systems on those third party systems, the Company does not believe any effective replacement products could be adopted if those systems are not remediated and is therefore focusing its attention on assisting with the remediation and testing process and on developing contingency plans. In addition, there is also a risk that the Company's ability to conduct transactions will be materially impaired by the failure of any significant component of the national clearing and settlement system, of major counterparties, exchanges or financial institutions in the marketplace. Failures by one or more of the New York Stock Exchange, Inc., the Nasdaq Stock Market, the Depository Trust Company, the National Securities Clearing Corporation or any of the largest banks or brokerage firms could prevent the entire market from effectively transmitting and receiving data after the Year 2000, despite the Y2K compliance of the Company's systems. Although it is expected that each of these parties will conduct extensive testing to ensure that each is Y2K compliant, there can be no assurance that an unforeseen problem will not create a market disruption that in turn affects the Company's business. Contingency Plans The Company is in the final drafting stages of its Y2K Contingency Plan (the "Contingency Plan"), a detailed mediation and recovery plan that covers each of the six most significant risks that may arise from a Y2K failure: 1) loss of data, 2) software failures, 3) telecommunications failures, 4) loss of key hardware, 5) loss of key personnel, and 6) loss of facilities. The Contingency Plan addresses each of these risks with respect to each of the Company's nine key business areas (Equities, International, Taxable Fixed Income, Convertibles, Corporate Finance, Operations, Accounting, Facilities and Technology), and addresses both internal systems and failures by key third party information providers and other vendors. The Contingency Plan also sets forth an approach to maintaining business continuity for each of the Company's key business areas. The specific workarounds for failures of various systems are set forth in the Contingency Plan, and range from the use of cellular phones or relocation of personnel in the event of a communications failure to the installation of backup software or hardware. The completed portion of the Contingency Plan provides an analysis of each reasonably possible failure scenario for a given Mission Critical system or process. Specifically, the Contingency Plan sets forth (i) the likelihood of failure of the system or process, (ii) the circumstances under which such a failure would occur, (iii) the impact the failure would have on the competitive environment of the Company, and (iv) a detailed 17 20 mitigation strategy for each type of failure. Mitigation strategies typically list specific products or vendors that can be used to replace failed systems, manual workarounds for ordinarily automated processes and alternative sources for data or datastreams that are interrupted or become unreliable. Additional mitigation strategies are offered where appropriate. The Contingency Plan also includes a specific description of start up procedures to reactivate systems that go down, itemizes the staffing and equipment requirements that will be associated with repairing or re-starting a given system and a contact list of key individuals familiar with the system or process that should be contacted to assist with remediation or business restoration procedures. Finally, the Contingency Plan includes a matrix showing the way each system or process would be impacted by each of the six primary risk areas discussed above, and the testing, remediation, business recovery, responsible persons and timetable involved in the restoration of each. As of the date hereof, the Y2K Contingency Plan was complete with respect to Mission Critical systems, except for finalization of the business continuity section, which should be completed by the end of the second quarter of 1999. Funds to begin actual implementation of Contingency Plans will be allocated in the second or third quarter of 1999 based upon perceived risk of failure of each system. Forward Looking Statements The Company's projections in this section are based upon assumptions, which it believes to be correct, but which are not guaranteed. Any change in those assumptions could result in material variations in those projections, including the projected costs for remediation and testing, the feasibility of using contingency plans, and the impact of third party failures. Any such change could have a material adverse impact on the Company and its results of operations. 18 21 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. The financial statements of the Company are presented in this Item 8 without giving effect to the proposed Transfers, Spin-Off and ITGI Merger, and the information in this Item 8 in no way reflects the Transfers, Spin-Off and ITGI Merger, except as set forth in footnote 19 to the financial statements of the Company. See Part I, Item 1, "Business -- Proposed Transfers, Spin-Off and Merger Transactions." INDEX TO FINANCIAL STATEMENTS
PAGE ---- Consolidated Financial Statements of Jefferies Group, Inc. and Subsidiaries Independent Auditors' Report............. 20 Consolidated Statements of Financial Condition as of December 31, 1998 and 1997................................ 21 Consolidated Statements of Earnings for the Three Years Ended December 31, 1998................................... 22 Consolidated Statements of Changes in Stockholders' Equity for the Three Years Ended December 31, 1998............... 23 Consolidated Statements of Cash Flows for the Three Years Ended December 31, 1998................................... 24 Notes to Consolidated Financial Statements.................. 25
19 22 INDEPENDENT AUDITORS' REPORT The Board of Directors and Stockholders JEFFERIES GROUP, INC.: We have audited the accompanying consolidated statements of financial condition of Jefferies Group, Inc. and subsidiaries as of December 31, 1998 and 1997 and the related consolidated statements of earnings, changes in stockholders' equity and cash flows for each of the years in the three-year period ended December 31, 1998. These consolidated 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 audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. 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 audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Jefferies Group, Inc. and subsidiaries as of December 31, 1998 and 1997 and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1998 in conformity with generally accepted accounting principles. /s/ KPMG LLP Los Angeles, California January 19, 1999, except as to Note 19 to the consolidated financial statements, which is as of March 17, 1999. 20 23 JEFFERIES GROUP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION DECEMBER 31, 1998 AND 1997 (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
1998 1997 ---------- ---------- ASSETS Cash and cash equivalents................................... $ 172,505 $ 109,488 Cash and securities segregated and on deposit for regulatory purposes or deposited with clearing and depository organizations............................................. 62,518 30,977 Receivable from brokers and dealers......................... 2,018,090 1,269,664 Receivable from customers, officers and directors........... 93,526 166,284 Securities owned............................................ 100,812 245,413 Investments................................................. 110,867 154,584 Premises and equipment...................................... 40,186 42,828 Other assets................................................ 85,136 80,304 ---------- ---------- $2,683,640 $2,099,542 ========== ========== LIABILITIES AND STOCKHOLDERS' EQUITY Bank loans.................................................. $ 21,000 $ -- Payable to brokers and dealers.............................. 1,602,906 981,705 Payable to customers........................................ 226,774 202,255 Securities sold, not yet purchased.......................... 39,653 188,703 Accrued expenses and other liabilities...................... 281,391 318,258 ---------- ---------- 2,171,724 1,690,921 Long-term debt.............................................. 149,387 149,290 Minority interest........................................... 27,754 16,575 ---------- ---------- 2,348,865 1,856,786 ---------- ---------- Stockholders' equity: Preferred stock, $.01 par value. Authorized 1,000,000 shares; none issued.................................... -- -- Common stock, $.01 par value. Authorized 100,000,000 shares; issued 23,368,268 shares in 1998 and 22,393,910 shares in 1997......................................... 234 224 Additional paid-in capital................................ 28,943 39 Retained earnings......................................... 344,441 271,589 Less: Treasury stock, at cost; 2,138,238 shares in 1998 and 2,107,842 shares in 1997.............................. (37,125) (26,954) Accumulated other comprehensive income (loss): Currency translation adjustments..................... (49) (622) Additional minimum pension liability adjustment...... (1,669) (1,520) ---------- ---------- Total accumulated other comprehensive income (loss).... (1,718) (2,142) ---------- ---------- Net stockholders' equity............................. 334,775 242,756 ---------- ---------- $2,683,640 $2,099,542 ========== ==========
See accompanying notes to consolidated financial statements. 21 24 JEFFERIES GROUP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF EARNINGS THREE YEARS ENDED DECEMBER 31, 1998 (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
1998 1997 1996 -------- -------- -------- REVENUES: Commissions.............................................. $395,211 $282,317 $222,048 Principal transactions................................... 174,240 177,214 143,912 Corporate finance........................................ 126,651 228,640 97,870 Interest................................................. 90,799 70,740 47,803 Other.................................................... 11,809 5,593 4,993 -------- -------- -------- Total revenues........................................ 798,710 764,504 516,626 Interest expense......................................... 75,178 61,466 37,852 -------- -------- -------- Revenues, net of interest expense..................... 723,532 703,038 478,774 -------- -------- -------- NON-INTEREST EXPENSES: Compensation and benefits................................ 380,737 409,979 264,041 Floor brokerage and clearing fees........................ 42,063 35,028 27,323 Communications........................................... 67,851 55,959 35,177 Occupancy and equipment rental........................... 19,931 21,238 17,207 Travel and promotional................................... 21,662 19,207 13,541 Software royalties....................................... 15,252 9,853 8,805 Other.................................................... 37,844 35,824 29,493 -------- -------- -------- Total non-interest expenses........................... 585,340 587,088 395,587 -------- -------- -------- Earnings before income taxes and minority interest......... 138,192 115,950 83,187 Income taxes............................................... 60,533 47,677 35,438 -------- -------- -------- Earnings before minority interest..................... 77,659 68,273 47,749 Minority interest in earnings of consolidated subsidiaries, net...................................................... 7,977 4,706 4,189 -------- -------- -------- Net earnings.......................................... $ 69,682 $ 63,567 $ 43,560 ======== ======== ======== EARNINGS PER SHARE: Basic.................................................... $ 3.12 $ 2.95 $ 1.90 ======== ======== ======== Diluted.................................................. $ 2.96 $ 2.80 $ 1.84 ======== ======== ======== WEIGHTED AVERAGE SHARES OF COMMON STOCK: Basic.................................................... 22,346 21,552 22,980 Diluted.................................................. 22,954 22,349 23,410
See accompanying notes to consolidated financial statements. 22 25 JEFFERIES GROUP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY THREE YEARS ENDED DECEMBER 31, 1998 (DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
ACCUMULATED ADDITIONAL OTHER NET COMMON PAID-IN RETAINED TREASURY COMPREHENSIVE STOCKHOLDERS' STOCK CAPITAL EARNINGS STOCK INCOME (LOSS) EQUITY ------ ---------- -------- -------- ------------- ------------- Balance, December 31, 1995............................ $ 93 $ 58,117 $192,234 $(63,075) $(1,108) $186,261 Exercise of stock options, including tax benefits (352,460 shares).................................... 1 2,555 -- 97 -- 2,653 Purchase of 2,320,352 shares of treasury stock........ -- -- -- (36,766) -- (36,766) Issuance of common stock (71,388 shares).............. -- 770 -- -- -- 770 Issuance of restricted stock, including tax benefits and additional vesting (68,864 shares).............. -- 1,083 -- -- -- 1,083 Capital Accumulation Plan distributions, including tax benefits (39,186 shares)............................ -- 138 -- 340 -- 478 Net increase in proportionate share of subsidiary's equity.............................................. -- -- (1,115) -- -- (1,115) Comprehensive income: Net earnings........................................ -- -- 43,560 -- -- 43,560 Other comprehensive income (loss), net of tax: Currency translation adjustment..................... -- -- -- -- 426 426 Additional minimum pension liability adjustment..... -- -- -- -- 33 33 ------- -------- Other comprehensive income (loss)................... 459 459 -------- Comprehensive income.................................. -- -- -- -- -- 44,019 Dividends paid ($.0875 per share)..................... -- -- (1,883) -- -- (1,883) Redemption of rights ($.0025 per right)............... -- -- (55) -- -- (55) Two-for-one stock split............................... 94 (94) -- -- -- ---- -------- -------- -------- ------- -------- Balance, December 31, 1996............................ 188 62,569 232,741 (99,404) (649) 195,445 Exercise of stock options, including tax benefits (240,028 shares).................................... 2 3,431 -- -- -- 3,433 Purchase of 1,063,026 shares of treasury stock........ -- -- -- (23,584) -- (23,584) Issuance of common stock (41,052 shares).............. -- 879 -- 3 -- 882 Issuance of restricted stock, including tax benefits and additional vesting (198,888 shares)............. -- 3,666 -- -- -- 3,666 Capital Accumulation Plan distributions, including tax benefits (143,228 shares)........................... -- 508 -- 1,289 -- 1,797 Retirement of treasury shares (15,600,000 shares)..... (78) (70,902) (23,762) 94,742 -- -- Net decrease in proportionate share of subsidiary's equity.............................................. -- -- 1,558 -- -- 1,558 Comprehensive income: Net earnings........................................ -- -- 63,567 -- -- 63,567 Other comprehensive income (loss), net of tax: Currency translation adjustment..................... -- -- -- -- (526) (526) Additional minimum pension liability adjustment..... -- -- -- -- (967) (967) ------- -------- Other comprehensive income (loss)................... (1,493) (1,493) -------- Comprehensive income.................................. 62,074 Dividends paid ($.125 per share)...................... -- -- (2,515) -- -- (2,515) Two-for-one stock split............................... 112 (112) -- -- -- -- ---- -------- -------- -------- ------- -------- Balance, December 31, 1997............................ 224 39 271,589 (26,954) (2,142) 242,756 Exercise of stock options, including tax benefits (737,125 shares).................................... 7 15,144 -- -- -- 15,151 Purchase of 334,234 shares of treasury stock.......... -- -- -- (13,815) -- (13,815) Issuance of common stock (53,286 shares).............. 1 2,180 -- -- -- 2,181 Issuance of restricted stock, including tax benefits and additional vesting (182,095 shares)............. 2 8,170 -- (22) -- 8,150 Capital Accumulation Plan distributions, including tax benefits (305,690 shares)........................... -- 3,410 -- 3,666 -- 7,076 Net decrease in proportionate share of subsidiary's equity.............................................. -- -- 7,337 -- -- 7,337 Comprehensive income: Net earnings........................................ -- -- 69,682 -- -- 69,682 Other comprehensive income (loss), net of tax: Currency translation adjustment..................... -- -- -- -- 573 573 Additional minimum pension liability adjustment..... -- -- -- -- (149) (149) ------- -------- Other comprehensive income (loss)................... 424 424 -------- Comprehensive income.................................. 70,106 Dividends paid ($.20 per share)....................... -- -- (4,167) -- -- (4,167) ---- -------- -------- -------- ------- -------- Balance, December 31, 1998............................ $234 $ 28,943 $344,441 $(37,125) $(1,718) $334,775 ==== ======== ======== ======== ======= ========
See accompanying notes to consolidated financial statements. 23 26 JEFFERIES GROUP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS THREE YEARS ENDED DECEMBER 31, 1998 (DOLLARS IN THOUSANDS)
1998 1997 1996 --------- --------- -------- Cash flows from operating activities: Net earnings.............................................. $ 69,682 $ 63,567 $ 43,560 --------- --------- -------- Adjustments to reconcile net earnings to net cash provided by (used in) operating activities: Depreciation and amortization........................... 23,651 16,504 13,644 Deferred income taxes................................... (5,609) (8,813) (10,462) Increase in cash and securities segregated.............. (31,541) (1,870) (23,849) (Increase) decrease in receivables: Brokers and dealers................................... (748,426) (304,039) 152,529 Customers, officers and directors..................... 72,758 (52,412) (6,714) (Increase) decrease in securities owned................. 144,601 (47,643) (30,560) (Increase) decrease in investments...................... 43,717 (103,975) (25,452) Increase in other assets................................ (9,118) (16,316) (38,044) Increase (decrease) in payables: Brokers and dealers................................... 621,201 175,992 (58,743) Customers............................................. 24,519 31,871 (44,171) Increase (decrease) in securities sold, not yet purchased............................................. (149,050) 64,388 41,383 Increase (decrease) in accrued expenses and other liabilities........................................... (31,407) 118,822 83,252 --------- --------- -------- Net cash provided by (used in) operating activities... 24,978 (63,924) 96,373 --------- --------- -------- Cash flows from financing activities: Net proceeds from bank loans.............................. 21,000 -- -- Issuance of term debt..................................... -- 99,722 -- Net payments on: Repurchase of treasury stock............................ (13,815) (23,584) (36,766) Redemption of 8 7/8% Subordinated Notes, due 1997....... -- (3,576) (3,576) Dividends paid.......................................... (4,167) (2,515) (1,883) Redemption of rights.................................... -- -- (55) Proceeds from exercise of stock options................... 15,151 3,433 2,653 Increase in minority interest............................. 11,179 4,613 3,581 Net decrease (increase) in proportionate share of subsidiary's equity..................................... 7,337 1,558 (1,115) Distribution of Capital Accumulation Plan shares.......... 7,076 1,797 478 Issuance of restricted shares............................. 8,150 3,666 1,083 Issuance of common shares................................. 2,181 882 770 --------- --------- -------- Net cash provided by (used in) financing activities..... 54,092 85,996 (34,830) --------- --------- -------- Cash flows from investing activities -- purchase of premises and equipment............................................. (16,626) (26,200) (16,145) --------- --------- -------- Effect of currency translation on cash...................... 573 (526) 426 --------- --------- -------- Net increase (decrease) in cash and cash equivalents........ 63,017 (4,654) 45,824 Cash and cash equivalents at beginning of year.............. 109,488 114,142 68,318 --------- --------- -------- Cash and cash equivalents at end of year.................... $ 172,505 $ 109,488 $114,142 ========= ========= ======== Supplemental disclosures of cash flow information: Cash paid during the year for: Interest................................................ $ 73,757 $ 58,038 $ 38,522 Income taxes............................................ 50,018 52,030 42,724
Supplemental disclosure of non-cash financing activities: In 1996, the additional minimum pension liability included in stockholders' equity of $553 resulted from a decrease of $33 to accrued expenses and other liabilities and an offsetting increase in stockholders' equity. In 1997, the additional minimum pension liability included in stockholders' equity of $1,520 resulted from an increase of $967 to accrued expenses and other liabilities and an offsetting decrease in stockholders' equity. In 1998, the additional minimum pension liability included in stockholders' equity of $1,669 resulted from an increase of $149 to accrued expenses and other liabilities and an offsetting decrease in stockholders' equity. See accompanying notes to consolidated financial statements. 24 27 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1998 AND 1997 (1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES PRINCIPLES OF CONSOLIDATION The accompanying consolidated financial statements include the accounts of Jefferies Group, Inc. (Company) and all subsidiaries, including Jefferies & Company, Inc. (JEFCO) and Investment Technology Group, Inc. (ITGI) and its wholly owned subsidiary, ITG Inc. (ITG). The accounts of W & D Securities, Inc. (W & D) are also consolidated because of the nature and extent of the Company's ownership interest in W & D. The Company and its subsidiaries are primarily engaged in a single line of business as a securities broker-dealer, which includes several types of services, such as principal and agency transactions in equity, convertible debt and taxable fixed income securities, as well as corporate finance activities. Operations of the Company include agency and principal transactions and other securities-related financial services. All significant intercompany accounts and transactions are eliminated in consolidation. SECURITIES TRANSACTIONS All transactions in securities, commission revenues and related expenses are recorded on a trade-date basis. Securities owned and securities sold, not yet purchased, are valued at market, and unrealized gains or losses are reflected in revenues from principal transactions. INVESTMENTS Partnership interests are recorded at their initial cost. The carrying values of these investments are adjusted when the adjustment can be supported by quoted market prices, adjusted for liquidity and other relevant factors. In addition, the carrying values are reduced when the Company determines that the estimated realizable value is less than the carrying value based on relevant financial and market information. Debt and equity investments consist primarily of mutual funds which are valued at market, based on available quoted prices. Equity and debt interests in affiliates are recorded under either the equity or cost method depending on the Company's level of ownership and control. RECEIVABLE FROM, AND PAYABLE TO, CUSTOMERS, OFFICERS AND DIRECTORS Receivable from, and payable to, customers includes amounts receivable and payable on cash and margin transactions. Securities owned by customers and held as collateral for these receivables are not reflected in the accompanying consolidated financial statements. Receivable from officers and directors represents balances arising from their individual security transactions. Such transactions are subject to the same regulations as customer transactions. FAIR VALUE OF FINANCIAL INSTRUMENTS Substantially all of the Company's financial instruments are carried at fair value or amounts approximating fair value. Assets, including cash and cash equivalents, securities borrowed or purchased under agreements to sell, and certain receivables, are carried at fair value or contracted amounts, which approximate fair value due to the short period to maturity. Similarly, liabilities, including bank loans, securities loaned or sold under agreements to repurchase, long-term debt and certain payables, are carried at amounts approximating fair value. Securities owned and securities sold, not yet purchased, are valued at quoted market 25 28 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 prices, if available. For securities without quoted prices, the reported fair value is estimated using various sources of information, including quoted prices for comparable securities. The Company has derivative financial instrument positions in option contracts, foreign exchange forward contracts and index futures contracts which are measured at fair value with gains and losses recognized in earnings. The gross contracted or notional amount of these contracts is not reflected in the consolidated statements of financial condition (see note 14 of the notes to consolidated financial statements). PREMISES AND EQUIPMENT Premises and equipment are depreciated using the straight-line method over the estimated useful lives of the related assets (generally three to ten years). Leasehold improvements are amortized using the straight-line method over the term of related leases or the estimated useful lives of the assets, whichever is shorter. GOODWILL Goodwill, which represents the excess of cost over net assets acquired, is amortized on a straight-line basis over ten to fifteen years. The Company assesses the recoverability of this intangible asset by determining whether the amortization of the goodwill balance over its remaining life can be recovered through future operating cash flows of the acquired business. CAPITALIZED SOFTWARE The Company capitalizes software development costs where technological feasibility of the product has been established. The establishment of technological feasibility and the ongoing assessment of recoverability of capitalized software development costs requires considerable judgment by management with respect to certain external factors, including, but not limited to, technological feasibility, anticipated future gross revenues, estimated economic life and changes in software and hardware technologies. The Company is amortizing capitalized software costs using the straight-line method over one to two years, with an average remaining life of under two years. Amortization begins when the product is available for release to the customers. As of December 31, 1998 and 1997, respectively, the Company had $6.5 million and $6.0 million of capitalized software costs, net of accumulated amortization included in other assets. In 1998, 1997 and 1996, the Company amortized software costs of $3.5 million, $1.5 million, and $1.4 million, respectively. Research and development expenses related to software were $11.0 million, $8.4 million and $6.8 million in 1998, 1997 and 1996, respectively. In 1998, 1997 and 1996, $4.0 million, $4.4 million and $1.6 million, respectively, were capitalized. INCOME TAXES The Company files a consolidated U.S. Federal income tax return which includes all qualifying subsidiaries. Amounts provided for income taxes are based on income reported for financial statement purposes and do not necessarily represent amounts currently payable. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. Deferred income taxes are provided for temporary differences in reporting certain items, principally state income taxes, depreciation, 26 29 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 deferred compensation and unrealized gains and losses on securities owned. Tax credits are recorded as a reduction of income taxes when realized. CASH EQUIVALENTS The Company generally invests its excess cash in money market funds and other short-term investments. At December 31, 1998 and 1997, such cash equivalents amounted to $139,801,000 and $90,064,000, respectively. Cash equivalents are part of the cash management activities of the Company and generally mature within 90 days. REPURCHASE AND REVERSE REPURCHASE AGREEMENTS Repurchase agreements consist of sales of U.S. Treasury notes under agreements to repurchase. They are treated as collateralized financing transactions and are recorded at their contracted repurchase amount. Reverse repurchase agreements consist of purchases of U.S. Treasury notes under agreements to re-sell. They are treated as collateralized financing transactions and are recorded at their contracted re-sale amount. EARNINGS PER COMMON SHARE Basic earnings per share of common stock are computed by dividing net earnings by the average number of shares outstanding and certain other shares committed to, but not yet issued. Diluted earnings per share of common stock are computed by dividing net earnings by the average number of shares outstanding of common stock and all dilutive common stock equivalents outstanding during the period. All shares used in the earnings per share calculations were restated to retroactively reflect the two-for-one stock splits approved by the Board of Directors on November 19, 1997 and March 2, 1996. In February 1997, the Financial Accounting Standards Board (FASB) issued Statement of Financial Accounting Standards (SFAS) No. 128, "Earnings per Share." SFAS 128 established new standards for computing and presenting earnings per share. SFAS No. 128 replaced the presentation of primary earnings per share with a presentation of basic earnings per share. SFAS No. 128 also requires dual presentation of basic and diluted earnings per share on the face of the statement of earnings for entities with complex capital structures and requires a reconciliation of the numerator and denominator of the basic earnings per share computation to the numerator and denominator of the diluted earnings per share computation. SFAS 128 did not have a material impact on the Company. Earnings per share information has been restated to retroactively reflect the adoption of Statement of Financial Accounting Standards No. 128. COMMON STOCK On November 19, 1997, the Company's Board of Directors approved a two-for-one split of all of the outstanding shares of the Company's common stock, payable December 15, 1997 to stockholders of record at the close of business on November 28, 1997. The stated par value of each share was not changed from $0.01. In addition, the Board of Directors, approved the quarterly cash dividend at $0.05 per share on the approximately 20,000,000 common shares outstanding after the split (effectively doubling the dividend rate). On March 2, 1996, the Company's Board of Directors approved a two-for-one split of all of the outstanding shares of the Company's common stock, payable March 29, 1996 to stockholders of record at the close of business on March 15, 1996. The stated par value of each share was not changed from $0.01. In addition, the Board of Directors, approved the quarterly cash dividend at $0.05 per share (pre November 1997 stock split) on the approximately 12,000,000 common shares (pre November 1997 stock split) to be outstanding after the March 2, 1996 split (effectively doubling the dividend rate), as well as repurchase of up 27 30 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 to 1 million of the new common shares (pre November 1997 stock split), on the open market or otherwise, from time to time. All share, share price and per share information included in the consolidated financial statements has been restated to retroactively reflect the effect of the November 19, 1997 and the March 2, 1996 two-for-one stock splits. TRANSFERS OF FINANCIAL ASSETS In June 1996, the FASB issued SFAS No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities." SFAS 125 establishes, among other things, new criteria for determining whether a transfer of financial assets should be accounted for as a sale or as a pledge of collateral in a secured borrowing. SFAS No. 125 also establishes new accounting requirements for pledged collateral. The Company implemented SFAS No. 125 in 1997. SFAS No. 125 did not have a material impact on the Company. COMPREHENSIVE INCOME In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income." SFAS No. 130 establishes standards for reporting and display of comprehensive income and its components (revenues, expenses, gains, and losses) in a full set of general-purpose financial statements. All items that are required to be recognized under accounting standards as components of comprehensive income are required to be reported in a financial statement that is displayed with the same prominence as other financial statements. SFAS No. 130 does not require a specific format for that financial statement but requires that an enterprise display an amount representing total comprehensive income for the period in that financial statement. SFAS No. 130 requires that an enterprise (a) classify items of other comprehensive income by their nature in a financial statement and (b) display the accumulated balance of other comprehensive income separately from retained earnings and additional paid-in capital in the equity section of a statement of financial position. The Company implemented SFAS No. 130 in 1997. The adoption of SFAS No. 130 did not have a material impact on the Company. SEGMENT REPORTING In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information." SFAS No. 131 establishes standards for the way that public business enterprises report information about operating segments in annual financial statements and requires that those enterprises report selected information about operating segments in interim financial reports issued to shareholders. It also establishes standards for related disclosures about products and services, geographic areas, and major customers. SFAS No. 131 requires that a public business enterprise report financial and descriptive information about its reportable operating segments. Operating segments are components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker in deciding how to allocate resources and in assessing performance. Generally, financial information is required to be reported on the basis that it is used internally for evaluating segment performance and deciding how to allocate resources to segments. 28 31 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 SFAS No. 131 also requires that a public business enterprise report descriptive information about the way that the operating segments were determined, the products and services provided by the operating segments, differences between the measurements used in reporting segment information and those used in the enterprise's general-purpose financial statements, and changes in the measurement of segment amounts from period to period. The Company implemented SFAS No. 131 in 1998. The adoption of SFAS No. 131 did not have a material impact on the Company. PENSION DISCLOSURE In February 1998, the FASB issued SFAS No. 132, "Employers' Disclosure About Pensions and Other Post-retirement Benefits," which revises employers' disclosures about pension and other post-retirement benefit plans. It does not change the measurement or recognition of those plans. It standardizes the disclosure requirements for pensions and other post-retirement benefits to the extent practicable, requires additional information on changes in the benefit obligations and fair values of plan assets that will facilitate financial analysis, and eliminates certain disclosures. The Company implemented SFAS No. 132 in 1998. The adoption of SFAS No. 132 did not have a material impact on the Company. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," which establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, (collectively referred to as derivatives) and for hedging activities. It requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. This Statement is effective for all fiscal quarters of fiscal years beginning after June 15, 1999. SFAS No. 133 is not expected to have a material impact on the Company. FOREIGN CURRENCY TRANSLATION The Company's foreign revenues and expenses are translated at average current rates during each reporting period. Foreign currency transaction gains and losses are included in the consolidated statement of earnings. Gains and losses resulting from translation of financial statements are excluded from the consolidated statement of earnings and are recorded directly to a separate component of stockholders' equity. RECLASSIFICATIONS Certain reclassifications have been made to the prior years' amounts to conform to the current year's presentation. USE OF ESTIMATES Management of the Company has made a number of estimates and assumptions relating to the reporting of assets and liabilities and the disclosure of contingent assets and liabilities to prepare these financial statements in conformity with generally accepted accounting principles. Actual results could differ from those estimates. 29 32 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 (2) GOODWILL At December 31, 1998 and 1997, excess of purchase price over net assets acquired remaining was $6,673,000 and $3,556,000, net of accumulated amortization of $4,174,000 and $3,436,000, respectively, and is included in other assets. (3) RECEIVABLE FROM, AND PAYABLE TO, BROKERS AND DEALERS The following is a summary of the major categories of receivable from, and payable to, brokers and dealers as of December 31, 1998 and 1997 (in thousands of dollars):
1998 1997 ---------- ---------- Receivable from brokers and dealers: Securities borrowed......................................... $1,922,691 $1,197,227 Reverse repurchase agreements............................... 5,066 -- Other....................................................... 90,333 72,437 ---------- ---------- $2,018,090 $1,269,664 ========== ========== Payable to brokers and dealers: Securities loaned........................................... $1,580,811 $ 966,132 Repurchase agreements....................................... 5,061 -- Other....................................................... 17,034 15,573 ---------- ---------- $1,602,906 $ 981,705 ========== ==========
The Company has a securities borrowed versus securities loaned business with other brokers. The Company also borrows securities to cover short sales and to complete transactions in which customers have failed to deliver securities by the required settlement date, and lends securities to other brokers and dealers for similar purposes. From these activities, the Company derives interest revenue and interest expense. (4) RECEIVABLE FROM, AND PAYABLE TO, CUSTOMERS, OFFICERS AND DIRECTORS The following is a summary of the major categories of receivables from customers, officers and directors as of December 31, 1998 and 1997 (in thousands of dollars):
1998 1997 ------- -------- Customers (net of allowance for uncollectible accounts of $3,427 in 1998 and $2,453 in 1997)........................ $92,646 $164,099 Officers and directors...................................... 880 2,185 ------- -------- $93,526 $166,284 ======= ========
Interest is paid on free credit balances in accounts of customers who have indicated that the funds will be used for investment at a future date. The rate of interest paid on such free credit balances varies between the thirteen-week treasury bill rate and 1% below that rate, depending upon the size of the customers' free credit balances. 30 33 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 (5) SECURITIES OWNED AND SECURITIES SOLD, NOT YET PURCHASED The following is a summary of the market value of major categories of securities owned and securities sold, not yet purchased, as of December 31, 1998 and 1997 (in thousands of dollars):
1998 1997 ------------------------ ------------------------ SECURITIES SECURITIES SOLD, SOLD, SECURITIES NOT YET SECURITIES NOT YET OWNED PURCHASED OWNED PURCHASED ---------- ---------- ---------- ---------- Corporate equity securities...................... $ 43,483 $26,759 $120,316 $134,163 High-yield securities............................ 28,684 8,253 59,270 52,332 Corporate debt securities........................ 20,903 4,067 37,382 1,571 U.S. Government and agency obligations........... 7,076 -- 25,370 -- Other............................................ 666 574 3,075 637 -------- ------- -------- -------- $100,812 $39,653 $245,413 $188,703 ======== ======= ======== ========
(6) INVESTMENTS The following is a summary of the major categories of investments, as of December 31, 1998 and 1997 (in thousands of dollars):
1998 1997 -------- -------- Partnership interests....................................... $ 56,170 $ 75,814 Debt and equity investments................................. 42,088 64,397 Equity and debt interests in affiliates..................... 12,609 14,373 -------- -------- $110,867 $154,584 ======== ========
(7) PREMISES AND EQUIPMENT The following is a summary of premises and equipment as of December 31, 1998 and 1997 (in thousands of dollars):
1998 1997 ------- ------- Furniture, fixtures and equipment........................... $89,372 $78,440 Leasehold improvements...................................... 23,820 22,595 ------- ------- Total............................................. 113,192 101,035 Less accumulated depreciation and amortization.............. 73,006 58,207 ------- ------- $40,186 $42,828 ======= =======
Depreciation and amortization expense amounted to $19,268,000, $14,243,000 and $11,480,000 for the years ended December 31, 1998, 1997 and 1996, respectively. (8) BANK LOANS Bank loans represent short-term borrowings that are payable on demand and generally bear interest at the brokers' call loan rate. At December 31, 1998, the Company had unsecured bank loans amounting to $21,000,000 with a weighted average interest rate of 5.6%. At December 31, 1997, there were no bank loans. 31 34 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 (9) LONG TERM DEBT The following summarizes long term debt outstanding at December 31, 1998 and 1997 (in thousands of dollars):
1998 1997 -------- -------- 8 7/8% Series B Senior Notes, due 2004, less unamortized discount of $372 and $442 in 1998 and 1997, respectively, effective rate of 9%...................................... $ 49,628 $ 49,558 7 1/2% Senior Notes, due 2007, less unamortized discount of $241 and $268 in 1998 and 1997, effective rate of 8%...... 99,759 99,732 -------- -------- $149,387 $149,290 ======== ========
During 1997, JEFCO obtained a NASDR approved $200,000,000 revolving credit facility to be used in connection with underwriting activities. The revolving credit facility terminates on October 30, 1999. Loans under this facility bear interest at 2.5% over either the Federal funds rate or the London Interbank Offered Rate. During 1998, there were several borrowings against the revolving credit facility. During 1997, there were no borrowings against the revolving credit facility. (10) INCOME TAXES Total income taxes for the years ended December 31, 1998, 1997 and 1996 were allocated as follows (in thousands of dollars):
1998 1997 1996 ------- ------- ------- Income from operations...................................... $60,533 $47,677 $35,438 Stockholders' equity, for compensation expense for tax purposes in excess of amounts recognized for financial reporting purposes........................................ (12,804) (1,704) (1,568) ------- ------- ------- $47,729 $45,973 $33,870 ======= ======= =======
Income taxes (benefits) for the years ended December 31, 1998, 1997 and 1996 consists of the following (in thousands of dollars):
1998 1997 1996 ------- ------- ------- CURRENT: Federal................................................... $49,274 $42,895 $35,059 State and city............................................ 16,868 13,595 10,841 ------- ------- ------- 66,142 56,490 45,900 ------- ------- ------- DEFERRED: Federal................................................... (4,258) (6,450) (8,756) State and city............................................ (1,351) (2,363) (1,706) ------- ------- ------- (5,609) (8,813) (10,462) ------- ------- ------- $60,533 $47,677 $35,438 ======= ======= =======
32 35 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 Income taxes differed from the amounts computed by applying the Federal income tax rate of 35% for 1998, 1997 and 1996 as a result of the following (in thousands of dollars):
1998 1997 1996 -------------- -------------- -------------- AMOUNT % AMOUNT % AMOUNT % ------- ---- ------- ---- ------- ---- Computed expected income taxes................ $48,367 35.0% $40,583 35.0% $29,115 35.0% Increase (decrease) in income taxes resulting from: State and city income taxes, net of Federal income tax benefit....................... 10,086 7.3 7,301 6.3 5,938 7.1 Foreign income.............................. 1,514 1.1 -- -- -- -- Non-deductible spin-off expenses............ 1,355 1.0 -- -- -- -- Limited deductibility of meals and entertainment............................ 1,370 1.0 1,263 1.1 867 1.1 Non-taxable interest income................. (968) (0.7) (481) (0.4) (473) (0.6) Research and development tax credits........ (584) (0.4) (584) (0.5) (291) (0.3) Other, net.................................. (607) (0.5) (405) (0.4) 282 0.3 ------- ---- ------- ---- ------- ---- Total income taxes.................. $60,533 43.8% $47,677 41.1% $35,438 42.6% ======= ==== ======= ==== ======= ====
The cumulative tax effects of temporary differences that give rise to significant portions of the deferred tax assets and liabilities at December 31, 1998 and 1997 are presented below (in thousands of dollars):
1998 1997 -------- -------- Deferred tax assets: Long-term compensation.................................... $ 30,497 $ 25,018 Lease allowances.......................................... 582 929 Accounts receivable....................................... 3,518 2,888 State income taxes........................................ 2,357 2,516 Premises and equipment.................................... 445 1,328 Other..................................................... 627 581 -------- -------- Total gross deferred tax assets................... 38,026 33,260 Valuation allowance......................................... -- -- -------- -------- Net deferred tax assets........................... 38,026 33,260 -------- -------- Deferred tax liabilities: Investment in subsidiaries................................ (12,922) (13,765) -------- -------- Total gross deferred tax liabilities.............. (12,922) (13,765) -------- -------- Net deferred tax asset, included in other assets.......................................... $ 25,104 $ 19,495 ======== ========
There was no valuation allowance for deferred tax assets as of December 31, 1998, 1997 and 1996. Management believes it is more likely than not that the Company will generate sufficient taxable income in the future to realize the deferred tax asset. (11) BENEFIT PLANS PENSION PLAN The Company has a defined benefit pension plan which covers certain employees of the Company and its subsidiaries. The plan is subject to the provisions of the Employee Retirement Income Security Act of 1974. Benefits are based on years of service and the employee's career average pay. The Company's funding policy is to contribute to the plan at least the minimum amount that can be deducted for Federal income tax purposes. 33 36 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 The following tables set forth the plan's funded status and amounts recognized in the Company's accompanying consolidated statements of financial condition and consolidated statements of earnings (in thousands of dollars):
DECEMBER 31 ------------------ 1998 1997 ------- ------- Actuarial present value of benefit obligations -- accumulated benefit obligation, including vested benefits of $19,594 and $18,449 as of December 31, 1998 and 1997, respectively............................... $21,141 $19,777 ======= ======= Projected benefit obligation for service rendered to date... $24,837 $22,603 Plan assets, at fair market value........................... 17,203 16,479 ------- ------- Excess of the projected benefit obligation over plan assets................................................. 7,634 6,124 Unamortized prior service cost.............................. 420 624 Unrecognized net transition obligation being recognized over 15 years.................................................. (129) (172) Unrecognized net loss....................................... (6,841) (5,876) Adjustment to recognize minimum liability................... 2,853 2,598 ------- ------- Pension liability included in other liabilities........... $ 3,937 $ 3,298 ======= =======
YEAR ENDED DECEMBER 31 --------------------------- 1998 1997 1996 ------ ------- ------ Net pension cost included the following components: Service cost -- benefits earned during the period......... $1,895 $ 1,288 $1,125 Interest cost on projected benefit obligation............. 1,551 1,222 1,064 Expected return on plan assets............................ (1,310) (1,065) (889) Net amortization.......................................... 363 178 198 ------ ------- ------ Net periodic pension cost.............................. $2,499 $ 1,623 $1,498 ====== ======= ======
The following tables reconcile the fair value of assets and the projected benefit obligation for the years ending December 31, 998 and 1997 (in thousands of dollars):
YEAR ENDED DECEMBER 31 ---------------------- 1998 1997 -------- -------- Fair value of assets, beginning of year..................... $16,479 $13,102 Employer contributions...................................... 2,114 1,476 Benefit payments made....................................... (2,124) (544) Total investment return..................................... 734 2,445 ------- ------- Fair value of assets, end of year........................... $17,203 $16,479 ======= =======
34 37 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997
YEAR ENDED DECEMBER 31 ---------------------- 1998 1997 -------- -------- Projected benefit obligation, beginning of year............. $22,603 $16,279 Service cost................................................ 1,895 1,288 Interest cost............................................... 1,551 1,222 Actuarial gains and losses.................................. 763 4,358 Benefits paid............................................... (2,124) (544) Plan amendments............................................. 149 -- ------- ------- Projected benefit obligation, end of year................... $24,837 $22,603 ======= =======
The plan assets consist of approximately 60% equities and 40% fixed income securities. The weighted average discount rate and the rate of increase in future compensation levels used in determining the actuarial present value of the projected benefit obligation were 6.75% and 5.00%, respectively, in 1998, 7.00% and 5.00%, respectively, in 1997 and 7.50% and 5.00%, respectively, in 1996. The expected long-term rate of return on assets was 8.40% in 1998, 1997 and 1996. STOCK COMPENSATION PLANS In October 1995, the FASB issued SFAS 123, "Accounting for Stock-Based Compensation." SFAS 123 defines a fair value based method of accounting for an employee stock option or similar instrument and encourages all entities to adopt that method of accounting for all of their employee stock compensation plans. However, it allows an entity to continue to measure compensation cost for these plans using the intrinsic value based method of accounting prescribed by Accounting Principles Board (APB) Opinion No. 25, "Accounting for Stock Issued to Employees." Entities electing to remain with the accounting in APB Opinion No. 25 must make pro forma disclosures of net earnings and earnings per share, as if the fair value based method of accounting defined in SFAS 123 had been applied. The Company implemented the statement during the year ended December 31, 1996. At December 31, 1998, the Company had six stock-based compensation plans and ITGI had two stock-based compensation plans, which are described below. The Company and ITGI applied APB Opinion No. 25 in accounting for their plans. Accordingly, no compensation cost has been recognized for fixed stock option plans. Had compensation cost for the Company's and ITGI's stock-based compensation plans been determined consistent with SFAS 123, the Company's net earnings and earnings per share would have been reduced to the pro forma amounts indicated below (in thousands of dollars, except per share amounts):
1998 1997 1996 ------- ------- ------- Net earnings: As reported............................................ $69,682 $63,567 $43,560 Pro forma.............................................. $65,240 $58,927 $40,102 Basic earnings per share: As reported............................................ $ 3.12 $ 2.95 $ 1.90 Pro forma.............................................. $ 2.92 $ 2.73 $ 1.75 Diluted earnings per share: As reported............................................ $ 2.96 $ 2.80 $ 1.84 Pro forma.............................................. $ 2.77 $ 2.60 $ 1.69
35 38 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 1993 PLAN The Company has a Stock Ownership and Long-Term Incentive Plan (1993 Plan) which allows awards in the form of incentive stock options (within the meaning of Section 422 of the Internal Revenue code), nonqualified stock options, stock appreciation rights, restricted stock, unrestricted stock, performance awards, dividend equivalents or other stock based awards. The maximum number of shares of common stock of the Company with respect to which any awards may be made in any calendar year during the term of the 1993 Plan may not exceed 20% of the number of shares of common stock issued and outstanding as of the first day of the calendar year in which awards are made, less the number of shares of common stock reserved for issuance with respect to, or underlying, any award, made pursuant to the 1993 Plan or any predecessor plan, as of such date. The 1993 Plan provides flexibility as to exercise price and term of each option. DIRECTOR PLAN The Company, also, has a Non-Employee Directors' Stock Option Plan (Director Plan) which provides for an annual grant to each non-employee director of an option to purchase 2,000 shares of the Company's common stock. Such grants will be made automatically on the date directors are elected or reelected at the Company's annual meeting. In addition, the Director Plan provides for the automatic grant to a non-employee director, at the time he or she is first elected or appointed, of an option to purchase 5,000 shares of the Company's common stock. A total of 300,000 shares of the Company's common stock are reserved under the Director Plan. Under the Director Plan, the exercise price of each option equals the market price of the Company's stock on the date of grant and the option's maximum term is five years. 1996 PLAN Additionally, in 1996, the Company established a Non-Employee Directors' Deferred Compensation Plan (1996 Plan). The 1996 Plan permits each non-employee director to elect to be paid annual retainer fees and annual fees for service as chairman or a member of a Board committee in the form of stock options and to defer receipt of any director fees in an interest-bearing cash account or as deferred shares in a deferred share account. A total of 200,000 shares of the Company's common stock are reserved under the 1996 Plan. Under the 1996 Plan, the exercise price of each option equals the market price of the Company's stock on the date of grant and the options expire ten years after the date of grant. UNITED KINGDOM CAPITAL ACCUMULATION PLAN The Company has a United Kingdom Capital Accumulation Plan (UK CAP) for certain officers and key employees of the Company who work in the United Kingdom. Participation in the plan is optional, with those who elect to participate agreeing to defer graduated percentages of their compensation. The UK CAP allows selected employees to acquire the Company's common stock (through the granting of stock options) at a 15% discount with 40% of the amount deferred. The remaining 60% of the amount deferred is placed in a Profit-Based Deferred Compensation Account that earns interest at a rate based on the performance of the Company. OPTIONS ISSUED UNDER ALL PLANS The fair value of all option grants for all the Company's plans are estimated on the date of grant using the Black-Scholes option-pricing model with the weighted-average assumptions used for all fixed option grants in 1998, 1997 and 1996, respectively: dividend yield of 0.6%, 0.4%, and 0.6%; expected volatility of 32.6%, 33.4%, and 33.3%; risk-free interest rates of 5.5%, 6.4%, and 5.4%; and expected lives of 5.0 years, 5.5 years, and 3.3 years. 36 39 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 A summary of the status of Company stock options in all its stock-based plans as of December 31, 1998, 1997 and 1996 and changes during the year then ended is presented below:
1998 1997 1996 -------------------- -------------------- -------------------- WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE EXERCISE EXERCISE EXERCISE SHARES PRICE SHARES PRICE SHARES PRICE --------- -------- --------- -------- --------- -------- Outstanding at beginning of year.......................... 1,829,033 $12.05 1,702,000 $ 9.35 1,467,832 $6.34 Granted......................... 377,949 39.70 367,061 22.91 594,628 13.28 Exercised....................... (748,142) 7.93 (240,028) 9.48 (352,460) 3.47 Forfeited....................... (16,023) 40.00 -- -- (8,000) 8.13 --------- --------- --------- Outstanding at end of year...... 1,442,817 21.12 1,829,033 12.05 1,702,000 9.35 ========= ========= ========= Options exercisable at year-end...................... 941,955 1,349,124 858,996 Weighted-average fair value of options granted during the year.......................... $13.43 $10.05 $4.19
The following table summarizes information about stock options outstanding at December 31, 1998:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE --------------------------------------- ----------------------- NUMBER WEIGHTED NUMBER OUTSTANDING AVERAGE WEIGHTED EXERCISABLE WEIGHTED AT REMAINING AVERAGE AT AVERAGE DECEMBER 31, CONTRACTUAL EXERCISE DECEMBER 31, EXERCISE RANGE OF EXERCISE PRICES 1998 LIFE (YEARS) PRICE 1998 PRICE ------------------------ ------------ ------------ -------- ------------ -------- $ 1.28 to 9.99........................ 346,437 0.8 $ 7.33 302,470 $ 7.60 $10.00 to 19.99........................ 412,600 0.7 14.20 408,600 14.21 $20.00 to 29.99........................ 287,532 3.4 22.56 217,532 22.06 $30.00 to 39.99........................ 45,000 8.2 32.15 5,000 35.38 $40.00 to 47.94........................ 351,248 4.1 40.26 8,353 47.68 --------- ------- $ 1.28 to 47.94........................ 1,442,817 2.3 21.12 941,955 14.31 ========= =======
INVESTMENT TECHNOLOGY GROUP, INC.'S PLANS In 1994 ITGI, established the 1994 Employee Stock Option and Long-Term Incentive Plan (ITGI Plan) which allows for the granting of options to purchase a total of 3,650,000 shares of ITGI common stock. In 1995, the ITGI Board of Directors adopted, and the ITGI stockholders approved, the Non-Employee Directors' Plan (ITGI Director Plan). The ITGI Director Plan generally provides for an annual grant to each non-employee director an option to purchase 2,500 shares of ITGI common stock. In addition, the ITGI Director Plan provides for the automatic grant to a non-employee director, at the time he or she is initially elected, a stock option to purchase 10,000 shares of ITGI common stock. Stock options granted under the ITGI Director Plan are non-qualified stock options having an exercise price equal to 100% of the fair market value of ITGI common stock at the date of grant. A total of 125,000 shares of ITGI common stock are reserved for issuance under the ITGI Director Plan. There were a total of 3,458,216 fixed stock options outstanding and 18,220,968 ITGI common stock shares outstanding as of December 31, 1997. There were a total of 2,888,106 fixed stock options outstanding and 18,590,361 ITGI common stock shares outstanding as of December 31, 1998. The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the weighted-average assumptions used for all fixed option grants in 1998, 1997 and 1996, 37 40 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 respectively: dividend yield of 0.0%, 0.0% and 0.0%; expected volatility of 45%, 54% and 49%; risk-free interest rates of 5.5%, 6.6% and 6.1%; and expected lives of 7 years, 5 years and 4 years. The following table summarizes information about stock options outstanding at December 31, 1998:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE --------------------------------------- ----------------------- NUMBER WEIGHTED NUMBER OUTSTANDING AVERAGE WEIGHTED EXERCISABLE WEIGHTED AT REMAINING AVERAGE AT AVERAGE DECEMBER 31, CONTRACTUAL EXERCISE DECEMBER 31, EXERCISE RANGE OF EXERCISE PRICES 1998 LIFE (YEARS) PRICE 1998 PRICE ------------------------ ------------ ------------ -------- ------------ -------- $ 7.50 - 9.99......................... 445,909 1.9 $ 9.08 445,909 $ 9.08 $10.00 - 14.99......................... 1,167,117 0.9 $12.30 1,167,117 $12.30 $15.00 - 19.99......................... 157,976 3.4 $19.22 73,256 $18.94 $20.00 - 24.99......................... 1,019,604 3.1 $22.21 1,010,000 $22.19 $25.00 - 29.99......................... 92,500 8.4 $27.80 26,000 $27.97 $30.00 - 32.10......................... 5,000 4.3 $32.10 -- -- --------- --------- $ 7.50 - 32.10......................... 2,888,106 2.2 $16.21 2,722,282 $15.77 ========= =========
PERFORMANCE-BASED STOCK OPTIONS While the 1993 Plan allows for the granting of performance-based stock options, no such options were granted during 1998, 1997 and 1996, and no such options were outstanding at December 31, 1998, 1997 and 1996. RESTRICTED STOCK The 1993 Plan allows for grants of restricted stock awards, whereby certain key employees are granted restricted shares of common stock subject to forfeiture until the restrictions lapse or terminate. With certain exceptions, the employee must remain with the Company for a period of years after the date of grant to receive the full number of shares granted. During 1998, 1997 and 1996, there were restricted stock awards of 183,947 shares, 198,888 shares and 49,264 shares, respectively, with a corresponding market value of $6,488,000, $4,189,000 and $624,000, respectively. Certain grants are expensed over the vesting periods of one to three years, while others have been granted in settlement of previously accrued compensation liabilities. The compensation cost, excluding the cost associated with the settlement of previously accrued compensation liabilities, charged against earnings was $993,000, $1,142,000 and $394,000 in 1998, 1997 and 1996, respectively. As of December 31, 1998, 1997 and 1996, restricted stock shares outstanding were 381,585 shares, 203,468 shares and 95,160 shares, respectively. EMPLOYEE STOCK PURCHASE PLAN The Company has an Employee Stock Purchase Plan (ESPP). All regular full-time employees are eligible for the ESPP. Employee contributions are voluntary and are made via payroll deduction. The employee contributions are used to purchase the Company's common stock which is then held in an outside trust account. The Company matches employee contributions at a rate of 15% (more, if profits exceed targets set by the Company's Board of Directors). The Company's match vests after two years. The Company recognizes compensation cost related to its ESPP matching. The compensation cost charged against earnings was $297,000, $228,000 and $250,000 in 1998, 1997 and 1996, respectively. 38 41 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 CAPITAL ACCUMULATION PLAN The Company has a Capital Accumulation Plan (CAP) for certain officers and key employees of the Company. Participation in the plan is optional, with those who elect to participate agreeing to defer graduated percentages of their compensation. The plan allows selected employees to acquire the Company's common stock at a 15% discount with 50% of the amount deferred. The remaining 50% of the amount deferred is placed in a Profit-Based Deferred Compensation Account that earns interest at a rate based on the performance of the Company. The Company will from time to time repurchase shares of its common stock in the open market for use in both the CAP and UK CAP plans. The Company has acquired 2,580,034 shares since the inception of the plans (CAP in 1993 and UK CAP in 1995) and has made distributions of 653,410 shares. The Company recognizes compensation cost related to the 15% discount and interest on Profit-Based Deferred Compensation Accounts. The compensation cost charged against earnings was $4,334,000, $4,834,000 and $2,742,000 in 1998, 1997 and 1996, respectively. PROFIT SHARING PLAN The Company has a profit sharing plan, covering substantially all employees, which includes a salary reduction feature designed to qualify under Section 401-K of the Internal Revenue Code. Expenses related to this plan amounted to $9,140,000, $7,923,000 and $5,713,000 in 1998, 1997 and 1996, respectively. (12) EARNINGS PER SHARE The following is a reconciliation of the numerators and denominators of the basic and diluted earnings per share computations for the years 1998, 1997 and 1996 (in thousands of dollars, except per share amounts):
YEAR ENDED DECEMBER 31 ----------------------------- 1998 1997 1996 ------- ------- ------- Net earnings for basic earnings per share................... $69,682 $63,567 $43,560 Earnings adjustment -- stock options on subsidiary........ (1,672) (890) (501) ------- ------- ------- Adjusted earnings for diluted earnings per share.......... $68,010 $62,677 $43,059 ======= ======= ======= Shares of common stock and common stock equivalents: Average number of common shares........................... 20,902 20,148 21,644 Capital Accumulation Plan unissued shares................. 1,444 1,404 1,336 ------- ------- ------- Average shares used in basic computation.................. 22,346 21,552 22,980 Stock options............................................. 508 651 398 Other unissued common shares.............................. 100 146 32 ------- ------- ------- Average shares used in diluted computation................ 22,954 22,349 23,410 ======= ======= ======= Earnings per share: Basic..................................................... $ 3.12 $ 2.95 $ 1.90 ======= ======= ======= Diluted................................................... $ 2.96 $ 2.80 $ 1.84 ======= ======= =======
The Company had no anti-dilutive securities during 1998, 1997 and 1996. 39 42 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 (13) LEASES As lessee, the Company leases certain premises and equipment under noncancelable agreements expiring at various dates through 2014. Future minimum lease payments for all noncancelable operating leases at December 31, 1998 are as follows (in thousands of dollars): 1999........................................................ $12,691 2000........................................................ 13,919 2001........................................................ 12,408 2002........................................................ 8,984 2003........................................................ 8,922 Thereafter.................................................. 73,098
Rental expense for the Company was $9,851,000, $8,342,000 and $6,759,000 in 1998, 1997 and 1996, respectively. (14) FINANCIAL INSTRUMENTS OFF-BALANCE SHEET RISK The Company has contractual commitments arising in the ordinary course of business for securities loaned or purchased under agreements to sell, securities sold but not yet purchased, repurchase agreements, future purchases and sales of foreign currencies, securities transactions on a when-issued basis, options contracts, futures index contracts, and underwriting. Each of these financial instruments and activities contains varying degrees of off-balance sheet risk whereby the market values of the securities underlying the financial instruments may be in excess of, or less than, the contract amount. The settlement of these transactions is not expected to have a material effect upon the Company's consolidated financial statements. In the normal course of business, the Company had letters of credit outstanding aggregating $35,825,000 at December 31, 1998 to satisfy various collateral requirements in lieu of depositing cash or securities. The Company has derivative financial instrument positions in foreign exchange forward contracts, option contracts, and index futures contracts, all of which are measured at fair value with realized and unrealized gains and losses recognized in earnings. The foreign exchange forward contract positions are generally taken to lock in the dollar cost or proceeds of foreign currency commitments associated with unsettled foreign denominated securities purchases or sales. The average maturity of the forward contracts is generally less than two weeks. The option positions taken are generally part of a strategy in which offsetting equity positions are taken. The index futures positions are taken as a hedge against other securities positions. The gross contracted or notional amount of index futures contracts, options contracts, and foreign exchange forward contracts, which are not reflected in the consolidated statements of financial condition, is set forth in the table below and provide only a measure of the Company's involvement in these contracts at December 31, 1998 and 1997. They do not represent amounts subject to market risk and, in many cases, serve to reduce the Company's overall exposure to market and other risks (in thousands of dollars):
NOTIONAL OR CONTRACTED AMOUNT ---------------------------------------- 1998 1997 ------------------ ------------------ PURCHASE SALE PURCHASE SALE -------- ------ -------- ------ Index futures contracts............................... $ -- $3,559 $ -- $8,173 Option contracts...................................... 2,950 2,927 6,277 4,803 Foreign exchange forward contracts.................... -- 8,759 430 4,461
40 43 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 FAIR VALUE OF DERIVATIVE FINANCIAL INSTRUMENTS The following is an aggregate summary of the average 1998 and 1997 and December 31, 1998 and 1997 fair values of derivative financial instruments (in thousands of dollars):
1998 1997 ------------------------ ------------------------ AVERAGE END OF PERIOD AVERAGE END OF PERIOD ------- ------------- ------- ------------- Index futures contracts: In a favorable position....................... $ 42 $ -- $ 55 $ -- In an unfavorable position.................... 150 178 204 149 Option contracts: Purchases..................................... 500 666 682 799 Sales......................................... 506 574 372 637 Foreign exchange forward contracts: Purchases..................................... 2,093 -- 3,406 430 Sales......................................... 6,623 8,759 3,291 4,461
CREDIT RISK In the normal course of business, the Company is involved in the execution, settlement and financing of various customer and principal securities transactions. Customer activities are transacted on a cash, margin or delivery-versus-payment basis. Securities transactions are subject to the risk of counterparty or customer nonperformance. However, transactions are collateralized by the underlying security, thereby reducing the associated risk to changes in the market value of the security through settlement date or to the extent of margin balances. The Company seeks to control the risk associated with these transactions by establishing and monitoring credit limits and by monitoring collateral and transaction levels daily. The Company may require counterparties to deposit additional collateral or return collateral pledged. In the case of aged securities failed to receive, the Company may, under industry regulations, purchase the underlying securities in the market and seek reimbursement for any losses from the counterparty. CONCENTRATION OF CREDIT RISK As a major securities firm, the Company's activities are executed primarily with and on behalf of other financial institutions, including brokers and dealers, banks and other institutional customers. Concentrations of credit risk can be affected by changes in economic, industry or geographical factors. The Company seeks to control its credit risk and the potential risk concentration through a variety of reporting and control procedures, including those described in the preceding discussion of credit risk. 41 44 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 (15) OTHER COMPREHENSIVE INCOME The following summarizes other comprehensive income and accumulated other comprehensive income at December 31, 1998 and for the year then ended (in thousands of dollars):
TAX BEFORE-TAX (EXPENSE) NET-OF-TAX AMOUNT OR BENEFIT AMOUNT ---------- ---------- ---------- Currency translation adjustments........................... $ 573 $ -- $ 573 Minimum pension liability adjustment....................... (254) 105 (149) ----- ---- ----- Other comprehensive income (loss).......................... $ 319 $105 $ 424 ===== ==== =====
ACCUMULATED MINIMUM OTHER CURRENCY PENSION COMPREHENSIVE TRANSLATION LIABILITY INCOME ADJUSTMENTS ADJUSTMENT (LOSS) ----------- ---------- ------------- Beginning balance....................................... $(622) $(1,520) $(2,142) Change in 1998.......................................... 573 (149) 424 ----- ------- ------- Ending balance.......................................... $ (49) $(1,669) $(1,718) ===== ======= =======
The following summarizes other comprehensive income and accumulated other comprehensive income at December 31, 1997 and for the year then ended (in thousands of dollars):
BEFORE-TAX INCOME TAX NET-OF-TAX AMOUNT OR BENEFIT AMOUNT ---------- ---------- ---------- Currency translation adjustments.......................... $ (526) $ -- $ (526) Minimum pension liability adjustment...................... (1,645) 678 (967) ------- ---- ------- Other comprehensive income (loss)......................... $(2,171) $678 $(1,493) ======= ==== =======
ACCUMULATED MINIMUM OTHER CURRENCY PENSION COMPREHENSIVE TRANSLATION LIABILITY INCOME ADJUSTMENTS ADJUSTMENT (LOSS) ----------- ---------- ------------- Beginning balance....................................... $ (96) $ (553) $ (649) Change in 1997.......................................... (526) (967) (1,493) ----- ------- ------- Ending balance.......................................... $(622) $(1,520) $(2,142) ===== ======= =======
The following summarizes other comprehensive income and accumulated other comprehensive income at December 31, 1996 and for the year then ended (in thousands of dollars):
BEFORE-TAX INCOME TAX NET-OF-TAX AMOUNT OR BENEFIT AMOUNT ---------- ---------- ---------- Currency translation adjustments........................ $426 $ -- $426 Minimum pension liability adjustment.................... 58 (25) 33 ---- ---- ---- Other comprehensive income (loss)....................... $484 $(25) $459 ==== ==== ====
42 45 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997
ACCUMULATED MINIMUM OTHER CURRENCY PENSION COMPREHENSIVE TRANSLATION LIABILITY INCOME ADJUSTMENTS ADJUSTMENT (LOSS) ----------- ---------- ------------- Beginning balance....................................... $(522) $(586) $(1,108) Change in 1996.......................................... 426 33 459 ----- ----- ------- Ending balance.......................................... $ (96) $(553) $ (649) ===== ===== =======
(16) NET CAPITAL REQUIREMENTS As registered broker-dealers, JEFCO, ITG and W & D are subject to the Securities and Exchange Commission Uniform Net Capital Rule (Rule 15c3-1), which requires the maintenance of minimum net capital. JEFCO, ITG and W & D have elected to use the alternative method permitted by the Rule, which requires that they each maintain minimum net capital, as defined, equal to the greater of $250,000 or 2% of the aggregate debit balances arising from customer transactions, as defined. At December 31, 1998, JEFCO's, ITG Inc.'s and W & D's net capital was $217,367,000, $71,996,000 and $2,026,000, respectively, which exceeded minimum net capital requirements by $213,362,000, $71,746,000 and $1,776,000, respectively. (17) CONTINGENCIES In re Nasdaq Market-Makers Antitrust Litigation. Beginning in July 1994, antitrust class actions were commenced against JEFCO and 33 other defendants in various federal courts (the "Lawsuits"). Following the filing of the Lawsuits, the Antitrust Division of the United States Department of Justice ("DOJ") and the Commission commenced investigations into certain issues related to the allegations of the Lawsuits. In August 1996, the DOJ entered into a antitrust consent decree with 24 defendants who are market makers in Nasdaq stocks. JEFCO was neither asked nor required to settle with the DOJ. Shortly after the DOJ settlement, the Commission filed a Section 21(a) report against the National Association of Securities Dealers, Inc. ("NASD"), criticizing various practices by market makers, and the NASD for failing to adequately police or discipline the market makers for those practices. However, the Commission did not take any action at that time against the market maker firms. In October 1994, the Lawsuits were consolidated for discovery purposes in the United States District Court for the Southern District of New York (the "Court"). The consolidated complaint alleges that the defendants violated the antitrust laws by conspiring to fix the spread paid by plaintiffs and class members to trade in certain Nasdaq securities, by refusing to quote bids and asks in so-called odd-eighths. The cases purport to be brought on behalf of all persons who purchased or sold certain securities on the Nasdaq National Market System during the period May 1, 1989 to May 27, 1994. The plaintiffs seek damages in an unspecified amount. In order to avoid the uncertainties of litigation, JEFCO has entered into a settlement agreement which received the preliminary approval of the Court on October 15, 1997. The settlement received the final approval of the Court on November 9, 1998. The amount of the settlement has been previously provided for and will not have a material adverse effect on JEFCO. Income Taxes. The Company received a "30-day letter" proposing certain adjustments which, if sustained, would result in a tax deficiency of approximately $10.0 million plus interest. Substantially all of the proposed adjustments relate to Investment Technology Group, Inc., the Company's 80.5% owned subsidiary and include (i) the disallowance of deductions taken in connection with the termination of certain 43 46 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 compensation plans at the time of Investment Technology Group's initial public offering in 1994 and (ii) the disallowance of tax credits taken in connection with certain research and development expenditures. The Company intends to vigorously contest the proposed adjustments and believes that resolution of this matter will not have a material adverse effect on the Company. Other. Many aspects of the Company's business involve substantial risks of liability. In the normal course of business, the Company and its subsidiaries have been named as defendants or co-defendants in lawsuits involving primarily claims for damages. The Company's management believes that pending litigation will not have a material adverse effect on the Company. (18) SEGMENT REPORTING The Company's operations have been classified into two business segments: Financial Services and ITGI. The Financial Services segment includes the traditional securities brokerage and investment banking activities of Jefferies Group, Inc. and its subsidiaries, except ITGI and its subsidiaries. The ITGI segment includes the automated equity trading and transaction research activities of ITGI and its subsidiaries. Financial information by segment for the three years in the period ended December 31, 1998 are summarized as follows (in thousands of dollars):
FINANCIAL ELIMINATIONS/ SERVICES ITGI RECLASSIFICATIONS CONSOLIDATED ---------- -------- ----------------- ------------ 1998 Total revenues........................... $ 590,615 $212,205 $(4,110) $ 798,710 Operating income......................... 57,257 80,935 -- 138,192 Identifiable assets...................... 2,509,531 180,512 (6,403) 2,683,640 Capital expenditures..................... 8,968 7,658 -- 16,626 Depreciation and amortization............ 12,052 11,599 -- 23,651 1997 Total revenues........................... $ 630,842 $137,042 $(3,380) $ 764,504 Operating income......................... 68,690 47,260 -- 115,950 Identifiable assets...................... 1,993,049 113,641 (7,148) 2,099,542 Capital expenditures..................... 10,521 15,679 -- 26,200 Depreciation and amortization............ 9,862 6,642 -- 16,504 1996 Total revenues........................... $ 407,023 $111,556 $(1,953) $ 516,626 Operating income......................... 42,186 41,001 -- 83,187 Identifiable assets...................... 1,493,117 82,798 (7,828) 1,568,087 Capital expenditures..................... 10,521 5,624 -- 16,145 Depreciation and amortization............ 9,687 3,957 -- 13,644
Financial Services provided trade execution, clearance and administrative services to ITGI for $26.7 million, $21.6 million and $14.7 million in 1998, 1997 and 1996, respectively. ITGI provided automated trade execution services to Financial Services for $4.8 million, $3.1 million and $1.7 million in 1998, 1997 and 1996, respectively. The Company's business is predominantly in the U.S. with less than 6% of revenues and 2% of assets coming from international operations. 44 47 JEFFERIES GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DECEMBER 31, 1998 AND 1997 (19) JEFFERIES GROUP, INC. AND INVESTMENT TECHNOLOGY GROUP, INC. ANNOUNCE INTENTION TO CONSIDER SEPARATING INTO TWO INDEPENDENT COMPANIES On March 17, 1998, Jefferies Group, Inc. ("Group") and ITGI jointly announced plans for a series of transactions (the "Transactions") that would result in the separation of ITGI from the other Group businesses. Group would transfer all non-ITGI assets and liabilities to JEF Holding Company, Inc. (the "Transfers"). After the Transfers, Group's 15 million shares of ITGI would be its only asset. Group would then distribute all of the common stock of the JEF Holding Company, Inc. to the Group stockholders (the "Spin-Off"). Immediately following the Spin-Off, ITGI would merge with and into Group with Group as the surviving corporation (the "Merger"). In connection with the Merger, Group would be renamed Investment Technology Group, Inc. (the "Surviving Corporation"). Subject to the terms and conditions of the merger agreement, each issued and outstanding share of ITGI common stock (other than any shares held by Group or held in the Treasury of ITGI) will be converted into the right to receive a number of shares of common stock of the Surviving Corporation equal to the ratio derived after dividing the number of shares of Group Common Stock outstanding immediately prior to the effective time of the Merger by the number of shares of ITGI Common Stock owned by Group immediately prior to the effective time of the Merger. As a result of the Transactions, former Group stockholders will own, in the aggregate, 100% of JEF Holding Company, Inc. and, in the aggregate, approximately 80.5% of the Surviving Corporation. The public ITGI stockholders, in the aggregate, will own approximately 19.5% of the Surviving Corporation, the same proportionate ownership they held in ITGI prior to the Transactions. On March 12, 1999, Group received tax rulings from the Internal Revenue Service (the "IRS") with the concurrence of the IRS concerning the tax-free treatment of the Transfers and the Spin-Off for Group and its stockholders, respectively. On March 17, 1999, Group's Board of Directors unanimously approved the Transfers and the Spin-Off. The Transactions are contingent on a number of factors, including receipt of stockholder approvals. In anticipation of the Spin-Off, Group liquidated its CAP plan -- a deferred compensation plan consisting of cash and stock and payable to nearly 200 employees effective January 25, 1999. Liquidation of this plan is part of a capital infusion to Group contemplated as part of the Spin-Off and resulted in employees receiving approximately 1.5 million shares of Group. (20) SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED) The following is a summary of unaudited quarterly statements of earnings for the years ended December 31, 1998 and 1997 (in thousands of dollars, except per share amounts):
MARCH JUNE SEPTEMBER DECEMBER YEAR -------- -------- --------- -------- -------- 1998 Revenues.................................... $203,408 $198,832 $184,281 $212,189 $798,710 Earnings before income taxes and minority interest.................................. 32,125 35,017 32,009 39,041 138,192 Net earnings................................ 17,476 17,826 15,676 18,704 69,682 Basic earnings per share.................... 0.79 0.80 0.70 0.82 3.12 Diluted earnings per share.................. 0.75 0.76 0.66 0.79 2.96 1997 Revenues.................................... $147,178 $201,485 $184,823 $231,018 $764,504 Earnings before income taxes and minority interest.................................. 21,567 35,327 26,405 32,651 115,950 Net earnings................................ 11,397 19,748 14,420 18,002 63,567 Basic earnings per share.................... 0.53 0.92 0.67 0.83 2.95 Diluted earnings per share.................. 0.50 0.87 0.63 0.79 2.80
45 48 ITEM 9. DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. None. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. The information presented in this Item 10 reports information without giving effect to the proposed Transfers, Spin-Off and Merger. See Part I, Item 1. "Business -- Proposed Transfers, Spin-Off and Merger Transactions." The biographical data of the members of management of Group, before giving effect to the Transactions, and of New JEF, after giving effect to the transactions, is set forth below. DIRECTORS FRANK E. BAXTER, 62, has been Chairman of the Board since September 26, 1990, Chief Executive Officer since March 19, 1987, and a Director of Group and of JEFCO since 1975. Mr. Baxter has previously served as President of Group and of JEFCO from January 1986 until December 1996, Executive Vice President, National Sales Manager and New York Branch Manager of JEFCO, and Managing Director of Group's U.K. subsidiary. Mr. Baxter has been a Director of ITGI since March 1994, and was a Director of ITG, ITGI's wholly owned broker-dealer subsidiary, from January 1994 through January 1997. Mr. Baxter has also been a member of the Board of Governors of the National Association of Securities Dealers, Inc. since January 1998, and a member of the Board of Directors of the Securities Industry Association since November 1995. RICHARD G. DOOLEY, 69, has been a Director of Group since November 1993. From 1978 until his retirement in June 1993, Mr. Dooley was Executive Vice President and Chief Investment Officer of Massachusetts Mutual Life Insurance Company ("Mass Mutual"); Mr. Dooley is currently a consultant to Mass Mutual. Mr. Dooley has also been a director of Advest Group, Inc. since 1983, HSB Group, Inc. since 1984, Kimco Realty Corporation since 1990, ITGI from 1996 to January 1999 and various Mass Mutual sponsored investment companies. Mr. Dooley is also a trustee of Saint Anselm College and Chairman of the Board of The Nellie Mae Foundation and Corporation. Mr. Dooley is Chairman of Group's Compensation Committee and a member of the Audit Committee. RICHARD B. HANDLER, 37, has been a Director of Group since May 1998, an Executive Vice President of JEFCO since April 1990 and a Director of JEFCO since May 1993. Mr. Handler is the Manager of the Taxable Fixed Income Division of JEFCO. TRACY G. HERRICK, 65, has been a Director of Group since 1983 and of JEFCO since 1981. He is also President of Tracy G. Herrick, Inc., an economic consulting firm, a Director of Anderson Capital Management, a registered investment adviser, a Director of The Committee for Monetary Research and Education and is a member of the advisory Board of the San Xavier Foundation of Monterey, California. MICHAEL L. KLOWDEN, 53, has been a Director of Group since May 1987 and the President and Chief Operating Officer of Group and of JEFCO since December 1996. From May 1995 until December 1996, he was Vice Chairman of Group and of JEFCO. Mr. Klowden has been a Director of JEFCO since May 1995, and has been a trustee of the University of Chicago since 1986. From 1978 until May 1995, Mr. Klowden was a senior partner of Morgan, Lewis & Bockius LLP, a law firm that renders legal services to Group. Mr. Klowden was a Director of ITGI from January 1997 to January 1999. SHELDON B. LUBAR, 69, has been a Director of Group since January 1998. He has been Chairman of the Board of Lubar & Co. Incorporated, an investment banking firm, since 1977. From 1986 to the present, he 46 49 has also been Chairman of the Board of Christiana Companies, Inc., a New York Stock Exchange listed company that supplies refrigerated warehousing and logistics. Mr. Lubar has also been a Director of EVI, Inc. since 1995, Ameritech Corporation since 1993, MGIC Investment Corporation since 1991, Firstar Corporation since 1986, Weatherford International, Inc. since 1995 and of Massachusetts Mutual since 1977. FRANK J. MACCHIAROLA, 57, has been a Director of Group since August 1991. He is currently the President of St. Francis College, where he has served in that capacity since July 1996. He also serves as special counsel to the law firm of Newman, Tannenbaum, Halpern, Syracuse & Hirschtritt LLP. Previously, Mr. Macchiarola was a Professor of Law and Political Science and the Dean of the Benjamin N. Cardozo School of Law at Yeshiva University in New York City from 1991 to 1996, Professor of Business in the Graduate School of Business at Columbia University from 1987 to 1991, and President and Chief Executive Officer of the New York City Partnership, Inc. from 1983 to 1987 and prior to 1985, he was a faculty member at the City University of New York and Chancellor of the New York City Public School System. Mr. Macchiarola has been a Trustee of the Manville Personal Injury Trust since 1991. Mr. Macchiarola is Chairman of Group's Audit Committee and a member of the Compensation Committee. OTHER EXECUTIVE OFFICERS The executive officers of Group are appointed by the Group Board, and serve at the discretion of the Group Board. Other than Messrs. Baxter, Handler and Klowden, for whom information is provided above, the following sets forth information as to the other executive officers of Group: GARY BURNISON, 37, has been the Senior Vice President -- Corporate Development since July 1998, the Treasurer of Group since January 1997 and a Director of JEFCO since November 1995. Mr. Burnison has also been responsible for strategic planning and analysis for Jefferies. Prior to November, 1995, Mr. Burnison was a Partner with KPMG Peat Marwick ("KPMG") responsible for its Investment Banking and Advisory practice in the Southwestern U.S. JERRY M. GLUCK, 51, has been Secretary and General Counsel of Group and JEFCO since May 1985 and a Director of JEFCO since November 1984. From March 1994 until September 1995, Mr. Gluck was the Secretary of ITGI. CLARENCE T. SCHMITZ, 50, has been an Executive Vice President and Chief Financial Officer of Group and an Executive Vice President and a Director of JEFCO since February 1995. Prior to 1990, Mr. Schmitz founded and chaired KPMG International Mergers and Acquisitions Group. From 1990 until May 1993, Mr. Schmitz was the Managing Partner of KPMG's Los Angeles Business Unit and a member of KPMG's Board of Directors. From June 1993 until January 1995, Mr. Schmitz was the National Managing Partner for KPMG's Manufacturing, Retailing and Distribution line of business, and was a member of KPMG's Management Committee. MAXINE SYRJAMAKI, 54, has been Controller of Group since May 1987, an Executive Vice President of JEFCO since November 1986 and the Chief Financial Officer and a director of JEFCO since September 1984. RAYMOND L. KILLIAN, JR., 61, as Chairman, President and Chief Executive officer of Group's subsidiary, ITGI, is an executive officer of Group. Mr. Killian has been the Chairman of the Board of ITGI since January 1997 and a director of ITGI since March 1994. Mr. Killian served as the President and Chief Executive Officer of ITGI from March 1994 through January 1997 and has resumed his service in such capacity since the death of Scott Mason, President and Chief Executive Officer of ITGI in September 1998. He has directed the activities of ITG since 1987 and has been Chairman of the Board of ITG since 1977. Mr. Killian was a director of Group from January 1997 to January 1999, was an Executive Vice President of Group from 1985 to 1995, a director and an Executive Vice President of JEFCO from 1985 to 1991 and served as National Sales Manager of JEFCO from 1985 to 1990. 47 50 ITEM 11. EXECUTIVE COMPENSATION. The information presented in this Item 11 reports information without giving effect to the proposed Transfers, Spin-Off and Merger. See Part I, Item 1. "Business -- Proposed Transfers, Spin-Off and Merger Transactions." EXECUTIVE COMPENSATION Shown below is information concerning the annual and long-term compensation for services in all capacities to Group for the fiscal years ended December 31, 1998, 1997 and 1996 for the Chief Executive Officer and four most highly compensated executive officers of Group as of December 31, 1998, all of whom will serve as executive officers of New JEF in connection with the Spin-Off, and for the two individuals who served during fiscal 1998 as Chief Executive Officer of ITGI (collectively, the "Named Executive Officers"). SUMMARY COMPENSATION TABLE
ANNUAL COMPENSATION(1) LONG-TERM COMPENSATION --------------------------------- ------------------------------------- AWARDS PAYOUTS ------------------------ --------- (A) (B) (C) (D) (F) (G) (H) (E) SECURITIES (I) OTHER UNDER- ALL ANNUAL RESTRICTED LYING OTHER COMPEN- STOCK OPTIONS/ LTIP COMPEN- NAME AND PRINCIPAL POSITION YEAR SALARY BONUS SATION(2) AWARD(S) SARS PAYOUTS SATION(3) --------------------------- ---- ------- ---------- --------- ---------- ---------- --------- --------- Frank E. Baxter................ 1998 400,000 818,918 15,848 1,638,082(4) -- 1,487,660(5) 81,004 Chairman and Chief 1997 400,000 818,918 16,228 2,088,082 72,000 2,628,322 90,940 Executive Officer of 1996 400,000 601,240 12,289 150,000 -- 1,465,857 77,504 Group Jerry M. Gluck................. 1998 214,000 166,000 4,299 79,448(6) -- -- 33,172 Secretary and General 1997 214,000 161,000 3,842 -- 10,000 -- 30,527 Counsel of Group 1996 214,000 131,000 2,802 -- -- -- 26,853 Richard B. Handler............. 1998 250,000 8,135,197 15,963 3,320,061(6) -- -- 78,485 Executive Vice President 1997 500,000 17,105,403 14,971 -- -- -- 82,826 of Group and Manager 1996 500,000 7,897,172 14,005 -- -- -- 84,561 of the Taxable Fixed Income Division of Jefferies Michael L. Klowden............. 1998 300,000 1,023,000 15,664 826,411(7) -- -- 62,662 President and Chief 1997 300,000 1,050,750 13,405 650,250 40,000 -- 54,239 Operating Officer 1996 275,000 825,000 11,394 275,000 126,000 -- 33,759 of Group Clarence T. Schmitz............ 1998 275,000 756,750 14,596 294,969(7) -- -- 36,740 Executive Vice President 1997 275,000 703,500 13,538 234,500 10,000 -- 31,273 and Chief Financial 1996 275,000 693,750 8,767 231,250 106,000 -- 22,305 Officer of Group Raymond L. Killian, Jr.(8)..... 1998 300,000 1,672,477 53,624 -- -- -- 54,632 Chairman, President and 1997 300,000 475,957 5,483 -- -- -- 68,294 Chief Executive Officer 1996 295,184 725,957 11,477 -- -- -- 59,981 of ITGI Scott P. Mason(9).............. 1998 219,423 956,250 26,708 -- -- -- 6,988 Former President and 1997 296,538 549,557 11,600 -- 1,000,000(10) -- 8,216 Chief Executive Officer 1996 240,580(11) -- -- -- -- -- -- of ITGI
- --------------- (1) The amounts shown include cash and non-cash compensation earned by the Named Executive Officers as well as amounts earned but deferred at the election of those Named Executive Officers. (2) Each Named Executive Officer participating in the Group CAP Plan was credited with units representing shares of Group's Common Stock ("CSUs") at a price equal to eighty-five percent (85%) of Group's average cost per share of the shares available for distribution in the Group CAP Plan. Group's average cost per share is based upon the average cost of shares repurchased specifically for purposes of the Group CAP Plan and held as treasury shares pending distribution upon settlement of CSUs. During each calendar quarter, each Group CAP Plan participant defers receipt of compensation, part of which is credited to his or her cash account. At the end of the quarter, the cash account is debited by an amount equal to the number of CSUs multiplied by 85% of the average cost per share. During 1998, the amount of the 15% discount on the CSUs with respect to each Named Executive Officer was as follows: Mr. Baxter: $15,848; Mr. Gluck: $4,299; Mr. Handler: $15,963; Mr. Klowden: $15,664; Mr. Schmitz: $14,596. 48 51 (3) The total amounts for 1998 shown in the "All Other Compensation" column include the following: a. Group's matching contributions under Group's Section 401(k) plan. During the plan year ended November 30, 1998, Mr. Baxter received $12,650 as Group's matching contribution. Messrs. Gluck, Handler, Klowden, Schmitz and Killian each received $13,800 as Group's matching contributions. Mr. Mason received $2,500 as Group's matching contribution. b. Allocation resulting from forfeitures under Group's Employee Stock Ownership Plan ("ESOP"). During the plan year ended November 30, 1998 Messrs. Baxter, Gluck, Handler, Klowden and Schmitz's accounts were each credited with 3,095 shares at an original cost of $10.875 per share, for a total of $34.00 each, as a result of such forfeitures. c. Group's matching contributions to Group's Employee Stock Purchase Plan ("ESPP"). During the year ended December 31, 1998, the Named Executive Officers received the following total matching contributions: Mr. Baxter and Mr. Gluck: $5,400; and Mr. Klowden: $18,900; Messrs. Handler, Schmitz, Killian and Mason did not receive matching contributions in fiscal 1997. d. Contributions of $2,683 and forfeiture allocations of $1,410 for each Messrs. Baxter, Gluck, Handler, Klowden, Schmitz, Killian and Mason under Group's Profit Sharing Plan. e. Dividend equivalents and interest payments to the cash accounts of the Named Executive Officers under the CAP paid at a rate equal to the average percentage rate JEFCO paid on its margin accounts carrying credit balances, as follows: Mr. Baxter: $11,731; Mr. Gluck: $1,751: Mr. Handler: $12,357; Mr. Klowden: $4,342; Mr. Schmitz: $3,068; Mr. Killian: $6,918; and Mr. Mason: $395. f. An amount of "deemed interest" credited to each participant's CAP account. The CAP participants defer a portion of their cash compensation to Profit-Based Deferred Compensation Accounts. The amount of "deemed interest" is determined by multiplying (1) the daily weighted average amount in the CAP participant's Profit-Based Deferred Compensation Account by (2) an interest rate equal to 100% of the fully-diluted earnings per share (if any) of Common Stock for that fiscal year divided by the fair market value of a share at the end of the preceding year. In 1998, the Named Executive Officers received the following amounts of such "deemed interest" under the CAP: Mr. Baxter: $47,096; Mr. Gluck: $8,094; Mr. Handler: $48,201; Mr. Klowden: $21,493; Mr. Schmitz: $15,745; and Mr. Killian: $29,821. Mr. Mason did not receive any deemed interest in 1998. (4) In prior years, incentive compensation which was deferred was considered Long-Term Compensation and reported as "phantom shares" in a "Long-Term Incentive Plan Awards Table" in the year awarded, and as "LTIP Payouts" in the year it became payable. As a result of amendments to Mr. Baxter's Incentive Compensation Plan under Group's Pay-for-Performance Plan, compensation earned in 1998 is being reported as a grant of Restricted Stock. However, compensation previously reported as grants of long-term incentive compensation in 1996 continues to be treated as such; the settlement of phantom shares which constitute such long-term incentive compensation and as to which the risk of forfeiture lapsed in 1998 is reported in the "LTIP Payouts" column for 1998. Under Mr. Baxter's Incentive Compensation Plan for 1998, two-thirds of Mr. Baxter's annual bonus was deferred, one-half of which generally was to become payable on each of December 31, 1999 and December 31, 2000 (the "deferred incentive compensation"). The amount of deferred incentive compensation was calculated by dividing that portion of the 1998 incentive compensation which was deferred ($1,638,082) by the closing price of Group's Common Stock on December 31, 1998 ($49.625), and designating the result (33,009) as "phantom shares" of Group's Common Stock. The amount of the deferred incentive compensation actually paid to Mr. Baxter is determinable as of the time it is to be paid, generally by multiplying (a) the number of phantom shares by (b) the sum of (1) the closing price of Group's Common Stock on the first trading day coincident with or following the close of Group's fiscal year and (2) the amount of dividends, if any, declared on shares of Group's Common Stock during the years of deferral. The total number of phantom shares and shares of restricted stock held by Mr. Baxter on December 31, 1998 (including phantom shares credited in respect of 1998 but excluding phantom shares settled as of that date) was 65,737, with an aggregate value of $3,262,199. In 1999, in connection with the Spin-Off and 49 52 Merger, the Compensation Committee terminated and settled on an accelerated basis 53,016 phantom shares (including the phantom shares credited for 1998) and dividend equivalents relating thereto, with the amount paid for each phantom share equal to the fair market value of a share of Common Stock on the date of settlement. (5) Pursuant to Mr. Baxter's Incentive Compensation Plan, a portion of Mr. Baxter's 1996 incentive compensation was converted as of December 31, 1996 ($20.1875) into 29,783 phantom shares which became payable on December 31, 1998, at a closing price of $49.625, together with dividend equivalents totaling $9,679 for a long-term compensation payout of $1,487,660. (6) Mr. Gluck's 1998 Restricted Stock Award represents 1,585 shares of restricted stock granted as of January 27, 1999 at a price of $50.125 per share, as a portion of his bonus for 1998. Mr. Handler's 1998 Restricted Stock Award represents 66,903 shares of restricted stock granted as of December 31, 1998 at a price of $49.625 per share, as a portion of his bonus for 1998. These awards entitle the executive to receive dividends on the shares of restricted stock. Mr. Gluck held no shares of restricted stock at December 31, 1998, and Mr. Handler held no shares of restricted stock at that date other than the Restricted Stock Award he received on that date, the aggregate value of which is shown in the table. (7) Under Mr. Klowden's and Mr. Schmitz's Incentive Compensation Plans, adopted pursuant to Group's Pay-for-Performance Plan, one fourth of each of Mr. Klowden's and Mr. Schmitz's annual bonus was deferred generally to become payable on December 31, 1999 (the "deferred incentive compensation"). For Mr. Klowden, the portion of the 1998 incentive compensation which has been deferred ($341,000) was converted into 6,872 "phantom shares" based on the closing price of Group's Common Stock on December 31, 1998 ($49.625). For Mr. Schmitz, the portion of the 1998 incentive compensation which has been deferred ($227,250) was converted into 4,579 "phantom shares" based on the closing price of Group's Common Stock on December 31, 1998 ($49.625). The amount of the incentive compensation to be actually paid to Mr. Klowden and Mr. Schmitz is determinable as of the time it is to be paid, generally by multiplying (a) the number of phantom shares by (b) the sum of (1) the closing price of Group's Common Stock on the first trading day coincident with or following the close of Group's fiscal year and (2) the amount of dividends, if any, declared on shares of Group's Common Stock during the years of deferral. Mr. Klowden's and Mr. Schmitz's 1998 Restricted Stock Awards also includes 9,684 and 1,351 shares of restricted stock, respectively, granted to Mr. Klowden and Mr. Schmitz on January 27, 1999 when the price was $50.125 per share for an aggregate of $485,411 and $67,719, respectively, as a portion of their bonuses for 1998. These Restricted Stock Awards vest one year after the date of grant, and entitle the executive to receive dividends on the shares of restricted stock. The total number of phantom shares and shares of restricted stock held by Mr. Klowden and Mr. Schmitz at December 31, 1998 (including phantom shares credited in respect of 1998 but excluding phantom shares settled as of that date and excluding Restricted Stock Awards granted in 1999 in respect of 1998 performance) were 15,353 and 4,579, respectively, with an aggregate value of $761,893 and $227,233, respectively. In 1999, in connection with the Spin-Off and Merger, the Compensation Committee terminated and settled on an accelerated basis the phantom shares credited for 1998 to Mr. Klowden and Mr. Schmitz by converting each phantom share to a cash obligation equal to the fair market value of a share of Common Stock on the date of settlement. (8) Mr. Killian served as President and Chief Executive Officer of ITGI from 1994 to 1997 and has served as President and Chief Executive Officer since September 1998. (9) Mr. Mason died on September 7, 1998. (10) Represents grant of ITGI stock options by ITGI. (11) Represents amounts paid by ITGI to Mr. Mason in his capacity as ITGI's consultant during 1996. No stock options were granted by Group to the Named Executive Officers during 1998. 50 53 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. BENEFICIAL OWNERSHIP OF GROUP COMMON STOCK BY DIRECTORS, OFFICERS AND PRINCIPAL STOCKHOLDERS OF GROUP The following table sets forth certain information regarding beneficial ownership of Group Common Stock by (1) each person known by Group to beneficially own more than 5% of Group's Common Stock, (2) each Director, (3) each Executive Officer named in the Summary Compensation Table and (4) all Directors and Executive Officers as a group. The information set forth below is as of March 1, 1999. Information regarding stockholders other than Directors, Executive Officers and employee benefit plans is based upon information contained in Schedules 13D or 13G filed with the SEC and furnished to Group by such stockholders. The number of shares beneficially owned by each stockholder and the percentage of the outstanding Common Stock those shares represent include shares that may be acquired by that stockholder within 60 days through the exercise of any option, warrant or right. Unless otherwise indicated in a footnote and subject to applicable community property and similar statutes, each person listed as the beneficial owner of the shares possesses sole voting and dispositive power with respect to such shares. The mailing address of the parties listed below is Group's principal business address unless otherwise indicated.
SHARES OF PERCENTAGE OF COMMON STOCK COMMON STOCK BENEFICIALLY BENEFICIALLY NAME AND ADDRESS OF BENEFICIAL OWNER OWNED OWNED ------------------------------------ ------------ ------------- Jefferies Group, Inc. Employee Stock Ownership Plan.... 2,074,165(1) 8.9% Tweedy, Browne Company L.P. and Affiliates............. 1,689,744(2) 7.3% 52 Vanderbilt Ave., 8th Floor New York, New York 10017 Frank E. Baxter........................................ 1,562,863(3) 6.7% The Guardian Life Insurance Company Of America and Affiliates....................................... 1,182,308(4) 5.1% 201 Park Avenue South New York, New York 10003 Richard B. Handler..................................... 572,263(5) 2.5% Raymond L. Killian, Jr. ............................... 332,256(6) 1.4% Michael L. Klowden..................................... 259,542(7) 1.1% Clarence T. Schmitz.................................... 150,130(8) * Tracy G. Herrick....................................... 53,503(9) * Richard G. Dooley...................................... 64,436(10) * Frank J. Macchiarola................................... 53,586(11) * Jerry M. Gluck......................................... 43,449(12) * Sheldon B. Lubar....................................... 10,472(13) * All Directors and Executive Officers................... 3,162,681(14) 13.6%
- --------------- * The percentage of shares beneficially owned does not exceed one percent of the class. (1) Amounts reported above are based upon information supplied by the ESOP as of December 31, 1998. The terms of the ESOP provide for the voting rights associated with the shares held by the ESOP to be passed through and exercised exclusively by the participants in the ESOP to the extent that such securities are allocated to a participant's account. See "Management of Group and New JEF -- Impact of the Spin-Off on Group's Employee Benefit Plans." Shares held by the ESOP and allocated to the accounts of Directors and Executive Officers are indicated in the ESOP figure referenced above and are also included elsewhere in the table and in the succeeding notes to the table, where appropriate. The ESOP and the Trustee of the ESOP (Wells Fargo Bank) may be deemed to have shared dispositive power over the shares held by the ESOP. The Board of Directors of Group appoints the members of the committee which serves as the Plan Administrator of the ESOP. Messrs. Frank E. Baxter, a Director of Group, Alan D. Browning, an Executive Vice President of JEFCO, and Melvin W. Locke, Jr., Director 51 54 of Human Resources of Group, presently serve on the committee. These individuals each disclaim beneficial ownership of the shares held by the ESOP except those shares allocated to his ESOP account. (2) Tweedy, Browne Company L.P., a Delaware limited partnership ("TBC"), together with TBK Partners, L.P., a Delaware limited partnership ("TBK"), and Vanderbilt Partners L.P., a Delaware limited partnership ("Vanderbilt"), filed a combined statement on Schedule 13D dated and reporting beneficial ownership at February 6, 1997, and as of the date hereof, had not filed an amended Schedule 13D. The holdings for TBC and related entities are therefore based on the 1997 Schedule 13D, as adjusted for the December 1997 Stock Split. As adjusted, TBC reported beneficial ownership of 1,405,860 shares (6.8% of the outstanding class), with sole voting power over 1,211,000 shares and shared dispositive power over all 1,405,860 shares. TBK reported having sole voting and dispositive power over 226,040 shares. Vanderbilt reported having sole voting and dispositive power over 57,844 shares. The aggregate number of shares with respect to which TBC, TBK and Vanderbilt could be deemed to be the beneficial owner is 1,689,744 shares (8.2% of the outstanding class). As of February 6, 1997, the three general partners in Vanderbilt (Christopher H. Browne, William H. Browne, and John D. Spears) were the three general partners of TBC and are also three of the four general partners of TBK (Thomas P. Knapp was also a general partner of TBK, but is not a general partner of TBC or Vanderbilt). The general partners in each of TBC, TBK and Vanderbilt, as the case may be, solely by reason of their positions as such, may be deemed to have shared power to vote and dispose of the shares held by TBC, TBK, and Vanderbilt, respectively. (3) Includes 9,026 shares Mr. Baxter holds as custodian for his children's accounts; 34,900 shares held under the ESOP; and 298,008 shares held under the PSP. Participants in the ESOP have sole voting power and no dispositive power over shares allocated to their ESOP accounts. Participants in the PSP have sole voting power and limited dispositive power over shares allocated to their PSP accounts. Mr. Baxter also owns 4,122 shares (less than 1% of the outstanding class) of the common stock of ITGI. (4) The Guardian Life Insurance Company of America ("Guardian"), Guardian Investor Services Corporation ("GISC"), The Guardian Park Ave. Fund ("GPAF"), The Guardian Stock Fund, Inc. ("GSF"), The Guardian Park Avenue Small Cap Fund ("GPASCF"), The Guardian Small Cap Stock Fund, Inc. ("GSCSF"), The Guardian Life Insurance Company of America Master Pension Trust ("Guardian MPT"), and The Guardian Employees' Incentive Savings Plan ("GEISP") filed a group Schedule 13G dated February 11, 1998, reporting beneficial ownership at December 31, 1997. The members of the group reported having voting and dispositive power as follows: Guardian reported sole voting and dispositive power over 497,736 shares and shared voting and dispositive power over 132,172 shares; GISC reported shared voting and dispositive power over 552,400 shares; GPAF reported shared voting and dispositive power over 200,000 shares; GSF reported shared voting and dispositive power over 338,000 shares; GPASCF reported shared voting and dispositive power over 8,300 shares; GSCSF reported shared voting and dispositive power over 6,100 shares; Guardian MPT reported shared voting and dispositive power over 52,172 shares; and GEISP reported shared voting and dispositive power over 80,000 shares. (5) Includes 10,544 shares held under the ESOP. (6) Includes 26,176 shares held under the ESOP, 30,325 shares held under the PSP and 4,920 shares held by members of Mr. Killian's immediate family, as to which he disclaims beneficial ownership. Mr. Killian also owns 564,836 shares (2.9% of the outstanding class) of ITGI common stock, 548,978 of which are subject to immediately exercisable options. (7) Includes 40,000 shares subject to immediately exercisable options; and 87 shares held under the ESOP. Mr. Klowden also owns 1,000 shares (less than 1% of the outstanding class) of ITGI common stock. 52 55 (8) Includes 87 shares held under the ESOP, and 3,065 shares under the PSP. (9) Includes 18,000 shares subject to immediately exercisable options and 13,048 held by the Tracy G. Herrick, Inc. D.B.P.P. for the benefit of Mr. Herrick as to which Mr. Herrick has shared investment power. (10) Includes 25,612 shares subject to immediately exercisable options. Mr. Dooley also beneficially owns 22,000 shares (less than 1% of the outstanding class) of ITGI Common Stock, 15,000 of which are subject to immediately exercisable options. (11) Includes 21,612 shares subject to immediately exercisable options. Mr. Macchiarola also beneficially owns 6,600 shares (less than 1% of the outstanding class) of ITGI Common Stock. (12) Includes 10,000 shares subject to immediately exercisable options, 20,633 shares held by the Trustee of the ESOP, and 661 shares held by the Trustee of the PSP. (13) Includes 2,134 shares held by Mr. Lubar's spouse and 5,353 shares subject to immediately exercisable options. (14) Includes 313,577 shares subject to options, all of which are immediately exercisable, 113,720 shares held under the ESOP for Executive Officers as a group and 334,004 shares held under the PSP for Executive Officers as a group. In addition, all Directors and current Executive Officers as a group beneficially own 598,558 shares (3.2% of the outstanding class) of ITGI Common Stock, 563,978 of which are subject to immediately exercisable options. 53 56 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Group has extended credit to certain of its Directors, Officers, employees and stockholders in connection with their purchase of securities on margin. Receivables from its Officers and Directors were $880,310 at December 31, 1998. Such extensions of credit were made in the ordinary course of business, on substantially the same terms, including interest rates and collateral, as those prevailing at the time for comparable transactions with other persons and did not involve more than the normal risk of collectibility or present other unfavorable features. During 1998, in the ordinary course of business, Group executed securities transactions on behalf of Tweedy, Browne Company L.P., a stockholder of Group beneficially owning in excess of 5% of Group's Common Stock, and received commissions of approximately $85,331. During 1998, in the ordinary course of business, the Group's subsidiaries executed securities transactions on behalf of Guardian Life Insurance Company and its affiliates, stockholders of Group beneficially owning in excess of 5% of Group's Common Stock, and received commissions of approximately $992,867. During fiscal year 1998, Tracy G. Herrick, a Director of Group, provided Group with certain financial and other consulting services. Mr. Herrick was paid $126,000 for his services. Group believes the foregoing transactions were on terms no less favorable to Group than could have been obtained from unaffiliated parties. The Board of Directors has adopted a policy which provides that Group will nor enter into any transactions with its Directors, Officers, or affiliates (not including companies consolidated with it for financial reporting purposes), other than those related to compensation or expense reimbursement and other than those having terms no less favorable to Group than could have been obtained from unaffiliated parties, unless approved by Group's disinterested and independent Directors. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENTS, SCHEDULES AND REPORTS ON FORM 8-K.
PAGES ----- (a)1. FINANCIAL STATEMENTS Included in Part II of this report: Independent Auditors' Report................................ 20 Consolidated Statements of Financial Condition.............. 21 Consolidated Statements of Earnings......................... 22 Consolidated Statements of Changes in Stockholders' Equity...................................................... 23 Consolidated Statements of Cash Flows....................... 24 Notes to Consolidated Financial Statements.................. 25
All Schedules are omitted because they are not applicable or because the required information is shown in the financial statements or notes thereto. (a)3. EXHIBITS (3.1) Amended and Restated Certificate of Incorporation is incorporated by reference to Exhibit 3.1 of the Registrant's Form 10-K filed for the fiscal year ended December 31, 1987. (3.2) Amended By-Laws are incorporated by reference to Exhibit 3.2 of the Registrant's Form 10-K filed for the fiscal year ended December 31, 1986.
54 57 (4.1) Indenture dated as of August 18, 1997 by and between the Registrant and the Bank of New York as Trustee including form of 7 1/2% Series B Senior Notes due 2007 is incorporated by reference to Exhibit 4.1 to Registrant's Registration Statement on Form S-4 (No. 333-40263) filed on November 14, 1997 including amendments thereto. (4.2) Registration Rights Agreement dated as of August 18, 1997 by and among the Registrant and the purchasers of the Registrant's 7 1/2% Series B Senior Notes due 2007 is incorporated by reference to Exhibit 10.2 to Registrant's Registration Statement on Form S-4 (No. 333-40263) filed on November 14, 1997 including amendments thereto. (10.1) Incentive Compensation Plan for Frank E. Baxter, Chairman, President and Chief Executive Officer, Jefferies Group, Inc. is incorporated by reference to Exhibit 10.1 of Registrant's Form 10-K filed for the fiscal year ended December 31, 1992. (10.2) Form of Employment Agreement between Investment Technology Group, Inc. and Raymond L. Killian, Jr. is incorporated by reference to Exhibit 10.3.2 of Investment Technology Group, Inc.'s Registration Statement on Form S-1 (No. 33-76474) filed on March 15, 1994, including amendments thereto. (10.3) Amendment No. 2 to Employment Agreement between Investment Technology Group, Inc., ITG Inc. and Raymond L. Killian, Jr. is incorporated by reference to Exhibit 3.2A of Investment Technology Group, Inc.'s Form 10-K for the period ended December 31, 1996. (10.4) Employment Agreement between Scott P. Mason and Investment Technology Group, Inc. dated as of January 6, 1997, is incorporated by reference to Exhibit 10.3.18 of Investment Technology Group, Inc.'s Form 10-K filed for the fiscal year ended December 31, 1996. (10.5) Jefferies Group, Inc. 1983 Incentive Stock Option Plan is incorporated by reference to Registrant's Registration Statement on Form S-8 (No. 2-94727) filed on December 6, 1984. (10.6) 1985 Incentive Stock Option Plan of Jefferies Group, Inc. is incorporated by reference to Registrant's Registration Statement on Form S-8 (No. 33-17065) filed on September 8, 1987. (10.7) Jefferies Group, Inc. 1985 Non-qualified Stock Option Plan is incorporated by reference to Registrant's Registration Statement on Form S-8 (No. 33-17065) filed on September 8, 1987. (10.8) Jefferies Group, Inc. 1993 Stock Ownership and Long-Term Incentive Plan as Amended and Restated is incorporated by reference to Appendix B to the Registrant's Proxy Statement filed on March 29, 1997. (10.9) Jefferies Group, Inc. Capital Accumulation Plan for Key Employees is incorporated by reference to Registrant's Registration Statement on Form S-8 (No. 33-64490) filed on June 15, 1993. (10.10) Jefferies Group, Inc. Non-Employee Directors' Stock Option Plan is incorporated by reference to Appendix C of Registrant's Proxy Statement filed on April 4, 1994. (10.11) Jefferies Group, Inc. Pay-for-Performance Incentive Plan is incorporated by reference to Appendix B of Registrant's Proxy Statement filed on April 4, 1994. (10.12) Jefferies Group, Inc. Non-Employee Directors' Deferred Compensation Plan is incorporated by reference to Appendix B of Registrant's Proxy Statement filed on March 29, 1996.
55 58 (10.13) Jefferies Group, Inc. United Kingdom Capital Accumulation Plan for Key Employees is incorporated by reference to Exhibit 10.13 of Registrant's Form 10-K filed for the fiscal year ended December 31, 1996. (10.14)+ Agreement and Plan of Merger, dated as of March 17, 1999, by and between Jefferies Group, Inc. ("Group") and Investment Technology Group, Inc. ("ITGI"). (10.15)+ Distribution Agreement, dated as of March 17, 1999, by and between Group and JEF Holding Company, Inc. ("New Jefferies"). (10.16)+ Tax Sharing and Indemnification Agreement, dated as of March 17, 1999, by and among ITGI, Group and New Jefferies. (10.17)+ Amended and Restated Tax Sharing Agreement, dated as of March 17, 1999, by and among ITGI, Group and New Jefferies. (10.18)+ Benefits Agreement, dated as of March 17, 1999, by and between Group and New Jefferies. (10.19)+ Fully Disclosed Clearing Agreement, dated as of January 1, 1999, by and between Jefferies & Company, Inc. and ITG Inc. (10.20)+ Amendment No. 1 dated as of January 1, 1999 to Service Agreement dated March 15, 1994, by and between Jefferies & Company, Inc. and ITG Inc. (10.21)+ Execution Agreement, dated as of January 1, 1999, by and between W&D Securities, Inc. and ITG Inc. (10.22)+ Form of Pre-Closing and Escrow Agreement by and among The Bank of New York, Group, New Jefferies and ITGI. (21)* List of Subsidiaries of Registrant. (23)* Consent of KPMG LLP. (27) Financial Data Schedules (99.1)* ITGI's 1998 Year 2000 discussion. An excerpt from ITGI's 1998 10-K.
- --------------- * Filed herewith. + To be filed as an Exhibit to the registrant's Form S-4 to be filed with the SEC on March 18, 1999. Exhibits 10.1 to and including 10.13 are management contracts or compensatory plans or arrangements. ALL OTHER EXHIBITS ARE OMITTED BECAUSE THEY ARE NOT APPLICABLE. (b) The following reports on Form 8-K have been filed by the Registrant during the fourth quarter of 1998. On November 6, 1998, the Company filed a Form 8-K updating financial information related to the previously announced plans to separate the Company's 100% owned subsidiary, Jefferies & Company, Inc., and its 80.5% owned subsidiary, Investment Technology Group, Inc., through a proposed spin-off and related transactions. 56 59 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. JEFFERIES GROUP, INC. By /s/ FRANK E. BAXTER ------------------------------------ Frank E. Baxter Chairman of the Board of Directors Dated: March 17, 1999 Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons in the capacities and on the dates indicated.
NAME TITLE DATE ---- ----- ---- /s/ FRANK E. BAXTER Chairman of the Board of March 17, 1999 - -------------------------------------------------------- Directors and Chief Frank E. Baxter Executive Officer /s/ MICHAEL L. KLOWDEN President and Chief March 17, 1999 - -------------------------------------------------------- Operating Officer Michael L. Klowden /s/ CLARENCE T. SCHMITZ Executive Vice President and March 17, 1999 - -------------------------------------------------------- Chief Financial Officer Clarence T. Schmitz /s/ RICHARD G. DOOLEY Director March 17, 1999 - -------------------------------------------------------- Richard G. Dooley /s/ RICHARD B. HANDLER Director March 17, 1999 - -------------------------------------------------------- Richard B. Handler /s/ TRACY G. HERRICK Director March 17, 1999 - -------------------------------------------------------- Tracy G. Herrick /s/ SHELDON B. LUBAR Director March 17, 1999 - -------------------------------------------------------- Sheldon B. Lubar /s/ FRANK J. MACCHIAROLA Director March 17, 1999 - -------------------------------------------------------- Frank J. Macchiarola
57 EX-21 2 EXHIBIT 21 1 EXHIBIT 21 SUBSIDIARIES OF JEFFERIES GROUP, INC. NAME OF SUBSIDIARY PLACE OF INCORPORATION - ------------------ ---------------------- Jefferies & Company, Inc. Delaware Investment Technology Group, Inc. Delaware Jefferies International Limited England Jefferies Pacific Limited Hong Kong Jefferies Analytical Trading Group, Inc. Delaware JEF Investment Company Delaware JEF Holding Company, Inc. Delaware EX-23 3 EXHIBIT 23 1 EXHIBIT 23 INDEPENDENT AUDITORS' CONSENT The Board of Directors Jefferies Group, Inc.: We consent to incorporation by reference in the Registration Statements No. 2-94727 dated December 6, 1984; No. 33-17065 dated September 8, 1987; No. 33-19741 dated January 21, 1998; No. 33-64318 dated May 27, 1993; No. 33-64490 dated June 15, 1993; No. 33-52139 dated February 3, 1994; No. 33-54373 dated June 30, 1994, and No. 33-02489 dated April 12, 1996, all on Form S-8, and No. 33-54265 dated July 14, 1994, and No. 33-40263 dated December 5, 1997, both on Form S-4 of Jefferies Group, Inc. of our report dated January 19, 1999, except as to note 19 to the consolidated financial statements, which is as of March 17, 1999, relating to the consolidated statements of financial condition of Jefferies Group, Inc. and subsidiaries as of December 31, 1998 and 1997, and the related consolidated statements of earnings, changes in stockholders' equity and cash flows for each of the years in the three-year period ended December 31, 1998, which report appears in the December 31, 1998 annual report on Form 10-K of Jefferies Group, Inc. /s/ KPMG LLP Los Angeles, California March 17, 1999 EX-27 4 FINANCIAL DATA SCHEDULE
BD THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION AND THE CONSOLIDATED STATEMENTS OF EARNINGS AS OF DECEMBER 31, 1998 AND FOR THE YEAR THEN ENDED AND THE NOTES THERETO AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS FILED IN THE 1998 JEFFERIES GROUP, INC. 10-K FILING. 1,000 U.S. DOLLARS YEAR DEC-31-1998 JAN-01-1998 DEC-31-1998 1 172,505 183,859 5,066 1,922,691 100,812 40,186 2,683,640 21,000 243,808 5,061 1,580,811 39,653 149,387 0 0 234 334,541 2,683,640 174,240 90,799 395,211 126,651 0 75,178 380,737 138,192 138,192 0 0 69,682 3.12 2.96
EX-99.1 5 EXHIBIT 99.1 1 EXHIBIT 99.1 ITGI'S 1998 YEAR 2000 DISCUSSION AN EXCERPT FROM ITGI'S 1998 10-K THE YEAR 2000 ISSUE Some computer systems and software products were originally designed to accept two digit entries in the data code field. As a result, certain computer systems and software packages will not be able to interpret dates beyond December 31, 1999 and thus will interpret dates beginning January 1, 2000 incorrectly. This could potentially result in computer failure or miscalculations, causing operating disruptions, including an inability to process transactions, send invoices or engage in normal business operations. Therefore, companies may have to upgrade or replace computer and software systems in order to comply with the "Year 2000" requirements. Strategy We are well aware of and are actively addressing the Year 2000 issue and the potential problems that can arise in any computer and software system. Planning and evaluation work began in 1997 including the identification of those systems affected. We established a "Year 2000 working group" to address the Year 2000 issue. We have targeted our efforts into three major areas: (1) vendors; (2) company proprietary products; and (3) clients. Vendors. Our ability to successfully meet the Year 2000 challenge is in part dependent on our vendors. We have contacted our vendors to determine the status of their Year 2000 programs and have created a database recording each vendor's readiness status. Over 95% of our vendors have responded that their systems are currently Year 2000 compliant, and substantially all or our vendors have indicated that they expect their systems to be Year 2000 compliant by September 30, 1999. Based upon the results of our testing to date, we are satisfied with the representations we have received from our vendors. We are in the process of integrating Year 2000 compliant versions of our vendors' software and hardware with our proprietary products. Company Proprietary Products. We have evaluated our trading systems and have endeavored to examine all code contained in our internally produced software. We have completed regression testing of all mission critical systems and released Year 2000 compliant versions of all such systems other than QuantEX. We plan to complete date-forward testing of all mission critical systems and release a Year 2000 compliant version of QuantEX by the end of June 1999. We also intend to participate in the Securities Industry Association's industry-wide testing program in 1999. Clients. We sent a letter explaining our Year 2000 strategy to all clients in July 1999. In addition, we contacted clients on a project-by-project basis to ascertain compatibility between our systems and changes made to the clients' systems. We plan to provide point-to-point testing opportunities for our clients starting in April 1999. Contingency Planning We are in the early stages of establishing a Year 2000 contingency plan to deal with both internal and external failures of critical systems. The Year 2000 issue can affect all businesses that rely heavily on automated systems. Our Year 2000 contingency plan is therefore intended to address failures of internal systems, client connections and connections to trading destinations, as well as failures of major infrastructure components. We intend to have our contingency plan in place by July 1999 and to update and refine such plan as needed on a continuing basis. We believe, however, that such contingency plan will not provide satisfactory solutions for our worst-case scenario -- the general failure of computer and communication systems relied upon by the securities industry, such as the systems provided by long distance telephone companies, the stock exchanges, Nasdaq, The Depository Trust Company and ADP Brokerage Services, and the failure of Jefferies & Company and W&D to provide services under their clearing and execution agreement with us. Such failure 2 would prevent us from operating in whole or in part until such systems or services have been restored and could have a material adverse effect on us. In the event any of our internally developed systems fails, we will undertake to remediate such system on an emergency basis at the time of such failure. To ensure that adequate staff will be available to handle any such emergencies in January of 2000, we have imposed a moratorium on employee vacations during the first two weeks of January 2000, and have made arrangements to have a number of software development personnel (normally based in our Culver City office) at our New York headquarters during the final week of December 1999 and the first week of January 2000. Our inability to remediate a failure of any of our internally developed mission critical systems would prevent us from operating in whole or in part until such systems have been restored and could have a material adverse effect on us. Costs We do not believe that the costs incurred to ready our systems for the Year 2000 will have a material effect on our financial condition. Total costs for the whole project are estimated to be between $2.5 and $3.0 million, which includes the cost of personnel, consultants and software and hardware costs. Through December 31, 1998, we have spent approximately $1.5 million on the Year 2000 project. -----END PRIVACY-ENHANCED MESSAGE-----