ITEM 1. BUSINESS:
(a) General Development of Business.
Inter-Regional Financial Group, Inc. (the "Company") is a holding company, formed in 1973 and based in Minneapolis, Minnesota. The Company offers regional securities broker-dealer and investment banking services through its wholly owned subsidiaries, Dain Bosworth Incorporated ("Dain Bosworth"), headquartered in Minneapolis, Minnesota, and Rauscher Pierce Refsnes, Inc. ("Rauscher Pierce Refsnes"), headquartered in Dallas, Texas. The Company's largest subsidiary, Dain Bosworth, serves the Midwest, Rocky Mountain and Pacific Northwest regions of the United States. In October 1994, Dain Bosworth acquired Chicago-based Clayton Brown Holding Company ("Clayton Brown"), a privately held firm specializing in the sale, trading and origination of fixed income securities through its wholly owned brokerage subsidiary, Clayton Brown & Associates, Inc. Such acquisition together with retail employees hired in 1994 provides the Company with a base for expansion in the Illinois market. At December 31, 1994, Dain Bosworth had 1,916 employees located in 18 states. Rauscher Pierce Refsnes primarily serves the Southwest region of the United States. At December 31, 1994, Rauscher Pierce Refsnes had 1,058 employees located in eight states. Each of Dain Bosworth and Rauscher Pierce Refsnes, as well as 130 correspondent brokerage firms serviced through Rauscher Pierce Refsnes' RPR Clearing Services unit ("RPR Clearing Services"), based in St. Louis, Missouri, clears and settles all securities trades on a fully disclosed basis through Regional Operations Group, Inc. ("ROG"), a third wholly owned subsidiary and registered broker- dealer based in Minneapolis. ROG, which also provides data processing and information services to IFG and its subsidiaries, had 308 employees at December 31, 1994. IFG Asset Management Services, Inc. ("AMS"), formerly known as Insight Investment Management, Inc., the Company's wholly owned money management subsidiary, manages a series of mutual funds, Great Hall Investment Funds, and also provides fixed income portfolio management services through its Insight Investment Management ("Insight Management") division. AMS, which was formed in January 1995, has also begun to develop services to support the sale by Dain Bosworth and Rauscher Pierce Refsnes investment executives of externally managed mutual funds and cash management products. The Company is a Delaware corporation with its executive offices located at Dain Bosworth Plaza, 60 South Sixth Street, Minneapolis, Minnesota 55402-4422. Its telephone number is (612) 371-7750.
(b) Financial Information About Industry Segments
The Company, through its principal subsidiaries, operates in a single segment, the securities broker-dealer and investment banking business.
The following table lists the Company's revenues by source for the last three years. Because these classes of services use the same distribution personnel and facilities and the same support services, it is impractical to identify the cost, expenses and profitability of each class of service.
(c) Narrative Description of Business
Securities Business
General. The securities broker-dealer and investment banking activities of the Company are conducted through Dain Bosworth and Rauscher Pierce Refsnes. Both Dain Bosworth and Rauscher Pierce Refsnes deal in securities of and are market-makers for entities based throughout the United States. In general, research and investment banking activities are concentrated on entities based in their respective regions. At December 31, 1994, Dain Bosworth had 854 retail sales representatives and 87 institutional sales representatives in 67 offices located in 18 states and Rauscher Pierce Refsnes had 324 retail sales representatives and 49 institutional sales representatives in 28 offices located in seven states. Both firms are member firms of the New York Stock Exchange ("NYSE") and are registered in the NASDAQ system as market makers. At December 31, 1994, Dain Bosworth was registered as a market maker for 412 companies and Rauscher Pierce Refsnes was registered as a market maker for 270 companies.
Dain Bosworth's and Rauscher Pierce Refsnes' operating results are sensitive to many factors outside the control of the Company, including volatility of securities prices and interest rates, trading volume of securities, income and capital gains tax legislation and demand for investment banking services. Economic conditions in the regions in which Dain Bosworth and Rauscher Pierce Refsnes operate also affect operating results.
Principal Transactions. Dain Bosworth and Rauscher Pierce Refsnes are dealers in corporate, tax-exempt and governmental fixed income securities and corporate equity securities and may recognize profits or losses on transactions in, or fluctuations in the value of, such securities held in inventory. These inventories require the commitment of substantial capital and expose the companies to the risk of a loss if market prices of the securities held in inventory decrease. General market conditions, interest rates and the financial prospects for issuers of such securities may affect the market price of securities held in inventory. Internal guidelines intended to limit the size and risk of inventories maintained have been established and are periodically reviewed.
Commission Business. As securities brokers, Dain Bosworth and Rauscher Pierce Refsnes act as agents in the purchase and sale of securities, options, commodities and futures contracts traded on various securities and commodities exchanges or in the over-the- counter ("OTC") market. Dain Bosworth and Rauscher Pierce Refsnes charge a brokerage commission when acting as agent for the purchaser or seller of a security. If the security is listed on an exchange, the transaction is generally effected through Dain Bosworth's or Rauscher Pierce Refsnes' own floor broker or a floor broker who is unaffiliated with either of them. If the security is traded in the OTC market, transactions are generally effected with a market maker in the security. In addition, Dain Bosworth and Rauscher Pierce Refsnes also earn commissions from transactions involving various other financial products including mutual funds. Dain Bosworth's and Rauscher Pierce Refsnes' commission business is derived primarily from individual investors. However, commission revenues from institutional investors have increased in recent years and both companies are investing resources to develop more fully their institutional businesses.
Investment Banking Activities. Dain Bosworth and Rauscher Pierce Refsnes earn investment banking revenues by assisting clients in planning to meet their financial needs and advising them on the most advantageous means of raising capital. Such plans are sometimes implemented by managing or co-managing public offerings of securities or by arranging private placements of securities with institutional or individual investors. The syndicate departments coordinate the distribution of managed and co-managed corporate equity underwritings, accept invitations to participate in competitive or negotiated underwritings managed by other investment banking firms, and allocate and merchandise Dain Bosworth's and Rauscher Pierce Refsnes' selling allotments to their branch office systems, to institutional clients and to other broker-dealers. Both companies are also among the leaders in their respective regions in the origination, syndication and distribution of securities of municipalities, state and local agencies, health care organizations and financial institutions. Participation in underwritings can expose the companies to material risk since the possibility exists that securities they have committed to purchase cannot be sold at the initial offering price. Federal and state securities laws and regulations also affect the activities of underwriters and impose substantial potential liabilities for violations in connection with sales of securities by underwriters to the public. In addition to public offerings and private placements, Dain Bosworth and Rauscher Pierce Refsnes provide other consulting services, including providing valuations of securities and companies, arranging and evaluating mergers and acquisitions and advising clients with respect to financing plans and related matters.
Customer Financing. A significant portion of Dain Bosworth's and Rauscher Pierce Refsnes' profitability is derived from net interest income, the major portion of which relates to customer balances. Customer transactions are effected on either a cash or margin basis. Purchases on a cash basis require full payment by the designated settlement date, generally the fifth business day following the transaction date. (Beginning in June 1995, most securities will settle on the third business day following the transaction date.) ROG carries all customer balances of each of Dain Bosworth, Rauscher Pierce Refsnes and the correspondent introducing firms serviced by RPRCS and allocates interest income and expense related to customers, as well as uncollectible amounts due from customers, back to Dain Bosworth and Rauscher Pierce Refsnes and, through Rauscher Pierce Refsnes, to such correspondent introducing firms. Both Dain Bosworth and Rauscher Pierce Refsnes are at risk in the event a customer fails to settle a trade and the value of the securities declines subsequent to the transaction date. When a purchase is made on a margin basis, Dain Bosworth or Rauscher Pierce Refsnes, through ROG, extends credit to the customer for a portion of the purchase price. The amount of the loan is subject to margin regulations of the Federal Reserve Board, the NYSE and the internal policies of Dain Bosworth, Rauscher Pierce Refsnes and ROG, which are generally more stringent than applicable regulations. In permitting customers to purchase on margin, Dain Bosworth and Rauscher Pierce Refsnes, through ROG, take the risk that a market decline could reduce the value of the collateral securing the margin loan below the amount of the customer's indebtedness and that the customer might be unable to repay the indebtedness. Interest is charged at a floating rate based on amounts borrowed by customers to finance purchases on margin. The rate charged is dependent on the average net debit balance in the customer's accounts, the activity level in the accounts and the applicable cost of funds.
Customers will at times accumulate credit balances in their accounts. Such balances result from payment of dividends, interest or principal on securities held for such customers, from funds received in connection with sales of a customer's securities and from cash deposits made by customers pending investment. Pending investment of such funds or reimbursement upon the customer's request, ROG pays interest on those credit balances on behalf of Dain Bosworth and Rauscher Pierce Refsnes. ROG uses available credit balances to lend funds to Dain Bosworth and Rauscher Pierce Refsnes customers purchasing securities on margin. Excess customer credit balances are invested in short- term securities in accordance with applicable regulations and are segregated for the exclusive benefit of customers. Both Dain Bosworth and Rauscher Pierce Refsnes generate net interest income through ROG from the positive interest rate spread between the rate earned from margin lending and alternative short-term investments and the rate paid on customer credit balances.
Dain Bosworth, Rauscher Pierce Refsnes and ROG are members of the Securities Investor Protection Corporation ("SIPC"), which insures customer accounts up to specified limits in the event of liquidation. Additionally, all three firms maintain insurance coverage in order to insure customer accounts to specified amounts in excess of SIPC coverage.
Security Repurchase Activities. Dain Bosworth and Rauscher Pierce Refsnes act as principals in the purchase and sale to their customers of securities of the United States Government and its agencies, including repurchase agreements in such securities and certain other money market instruments. Dain Bosworth and Rauscher Pierce Refsnes may match purchases and sales of these securities. Dain Bosworth and Rauscher Pierce Refsnes are at risk to the extent that they do not properly match the contracts or their customers are unable to meet their obligations, especially during periods of rapidly changing interest rates and fluctuations in market conditions. All positions are collateralized. Dain Bosworth and Rauscher Pierce Refsnes generally take physical possession of securities purchased under agreements to resell. Such agreements provide Dain Bosworth and Rauscher Pierce Refsnes with the right to maintain the relationship between the market value of the collateral and the receivable. Typically, these contracts are entered into only with clients of substantial size and credit-worthiness. Dain Bosworth and Rauscher Pierce Refsnes also periodically utilize securities sold under repurchase agreements as a means of financing portions of their trading inventories and facilitating hedging transactions.
Securities Lending and Borrowing Activities. Securities brokers and dealers, including ROG, borrow securities from and lend securities to other brokers and dealers to facilitate clearance and delivery of securities that have been sold when customers fail to deliver securities prior to settlement date. ROG also will act as a conduit by arranging securities lending transactions between brokers wishing to lend securities and those wishing to borrow the same securities. When such transactions occur, the lending broker provides excess customer margin securities to the borrowing broker in return for a cash deposit that is generally equivalent to 102 percent of the market value of the securities loaned. Both the lending and borrowing brokers have the right to mark the securities to market in order to maintain the relationship between the market value of the securities loaned and the cash collateral deposited. When the securities are no longer needed by the borrowing firm, they are returned to the lending broker, which returns the cash deposit held, plus interest, to the borrowing broker. When engaging in such securities lending and borrowing activities, ROG collects cash deposits from brokers that collateralize the securities loaned, invests the cash deposit and profits from the spread between the interest rate paid to the borrowing broker on the cash deposit and the rate earned by ROG. In all securities lending transactions, ROG is at risk to the extent that it does not maintain the relationship between the market value of securities loaned and the value of the cash deposit held. ROG is also at risk to the extent that securities it borrows decline in value and the loaning broker fails to return ROG's cash deposit.
Research Activities. Both Dain Bosworth and Rauscher Pierce Refsnes have research departments which provide analysis, investment recommendations and market information with an emphasis on companies located in their respective regions. At December 31, 1994, Dain Bosworth had 16 securities analysts and Rauscher Pierce Refsnes had 11. Both companies also purchase certain research products from independent research organizations to supplement their internal research activities.
Regulation. The securities industry is subject to comprehensive regulation by federal and state governments, the various securities and commodities exchanges and other self-regulatory bodies. The regulations cover all aspects of the securities business including sales methods, registration and distribution of securities, trade practices among broker-dealers, transactions with affiliates, conflicts of interest, uses and safekeeping of customers' funds and securities, capital levels of securities firms, record keeping and the conduct of employees. Violations of these rules and regulations can result in censure, fines, suspensions, revocation of the right to do business and private rights of action for damages. Dain Bosworth, Rauscher Pierce Refsnes, ROG and AMS believe they have operated in compliance with applicable rules and regulations in all material respects.
Uniform Net Capital Rule. As broker-dealers and member firms of the NYSE, Dain Bosworth, Rauscher Pierce Refsnes and ROG are subject to the Uniform Net Capital Rule (the "Rule") promulgated by the Securities and Exchange Commission (the "Commission"). The Rule is designed to measure the general financial integrity and liquidity of a broker-dealer and the minimum net capital deemed necessary to meet the broker-dealer's continuing commitments to its customers. The Rule provides for two methods of computing net capital. ROG, which carries all of the customer accounts of Dain Bosworth, Rauscher Pierce Refsnes and the correspondent firms serviced through RPR Clearing Services, currently uses what is generally referred to as the alternative method. Minimum net capital is defined under this method to be equal to 2 percent of customer debit balances, as defined. The NYSE may also require a member organization to reduce its business if net capital is less than 4 percent of such aggregate debit items and may prohibit a member firm from expanding its business and declaring cash dividends if its net capital is less than 5 percent of such aggregate debit items. In computing net capital, various adjustments are made to exclude assets which are not readily convertible into cash and to provide a conservative valuation of other assets such as a company's trading securities. Failure to maintain the required net capital may subject a firm to suspension or expulsion by the NYSE, the Commission and other regulatory bodies and may ultimately require its liquidation. Dain Bosworth and Rauscher Pierce Refsnes, which do not carry customer accounts, must maintain minimum net capital of $1 million each. At all times, Dain Bosworth, Rauscher Pierce Refsnes and ROG have maintained their net capital above the required levels. See Note K to "Consolidated Financial Statements."
Money Management
AMS was formed in January 1995 as a new financial services organization supporting all mutual fund and cash management products sold by Dain Bosworth and Rauscher Pierce Refsnes as well as mutual fund vendor relations. In addition, AMS, a registered investment advisor, will continue to conduct the portfolio management business of Insight Investment Management, now a division of AMS, including the provision of fixed income portfolio management services to Great Hall Investments Funds, Inc., ("Great Hall") and to individual and institutional clients. Great Hall is an open-end management investment company that currently offers shares in five series, each of which is, in essence, a separate mutual fund. Three of the Great Hall series are "money market" funds and the remaining two series invest primarily in longer-term municipal securities. Although Insight Management's expertise has historically been in the tax-exempt fixed-income area, AMS plans to develop and expand the division's taxable fixed income management capabilities and to market such expanded services primarily to institutional investors.
Since 1993 AMS has also introduced and sponsored four series of Great Hall Value Ten Trusts, unit investment trusts offering units in a portfolio of "blue chip" equity securities, and two series of Great Hall Equity Trusts, one focusing on stocks of issuers located within the Rocky Mountain region of the U.S. and the other focusing on common and preferred stocks of utility companies. AMS has no current plans to sponsor additional unit investment trusts.
Clearing and Other Services
In April 1993 ROG began clearing and settling trades on a fully disclosed basis for Dain Bosworth, Rauscher Pierce Refsnes and the correspondent introducing firms previously clearing through them. RPR Clearing Services, a division of Rauscher Pierce Refsnes, is in the business of marketing correspondent clearing services provided by ROG. As of December 31, 1994, ROG provided clearing services to 130 correspondent introducing firms introduced through RPR Clearing Services and one correspondent introducing firm introduced through Dain Bosworth. ROG also provides data processing services to the Company and its subsidiaries. Correspondent firms introduced through RPR Clearing Services or otherwise and cleared through ROG are charged fees based on their use of services.
Real Estate Services
Prior to its dissolution in 1994, Minneapolis-based Dain Corporation provided real estate investment and portfolio management services. Prior to 1989, Dain Corporation sold participation interests in the partnerships to individual and institutional investors primarily through the sales representatives of Dain Bosworth, Rauscher Pierce Refsnes and other financial services firms. However, as a result of federal tax reform, depressed market values and extremely tight credit conditions that dramatically affected the real estate industry, Dain Corporation raised its last capital for new property syndications in 1988. Since that time Dain Corporation focused its resources on managing the portfolio of properties owned by partnerships in which it served as general partner and on selling partnership properties as it deemed appropriate, subject to the approval of the limited partners. During 1994 Dain Corporation sold the remaining properties owned by partnerships in which it served as general partner and is now inactive.
Competition
Dain Bosworth, Rauscher Pierce Refsnes and AMS encounter intense competition in their businesses and compete directly with numerous firms, many of which have substantially greater capital and other resources. Such subsidiaries also encounter competition from banks, insurance companies and financial institutions in many elements of their businesses. Legislative proposals currently under consideration would permit banks to offer additional services which have traditionally been provided only by securities and money management firms. Additionally, competition among securities firms and other competitors for successful sales representatives, securities traders and investment bankers is intense and continuous.
Dain Bosworth and Rauscher Pierce Refsnes compete with other securities firms and with banks, insurance companies and other financial institutions principally on the basis of service, product selection, location and reputation in local markets. Dain Bosworth and Rauscher Pierce Refsnes operate at a price disadvantage to discount brokerage firms that do not offer equivalent services.
RPR Clearing Services competes for the business of correspondent introducing brokers on the basis of service, product selection, reputation and price.
AMS' Insight Management division competes with other fixed income portfolio managers principally on the basis of portfolio performance, price and convenience.
Employees
At December 31, 1994, the Company had approximately 3,340 full- time employees. Of these, 1,916 were employed by Dain Bosworth, 1,058 were employed by Rauscher Pierce Refsnes, 308 were employed by ROG and the rest were employed in other activities. None of the Company's employees is represented by a collective bargaining unit.
ITEM 2.
ITEM 2. PROPERTIES:
The headquarters and administrative offices of the Company, Dain Bosworth, AMS and ROG are located in three buildings in downtown Minneapolis, Minnesota, including the Dain Bosworth Plaza. The Company began occupying space in the new Dain Bosworth Plaza under a long-term operating lease in January 1992. The Company's office space in a second building remains under a long-term lease commitment and was renovated in 1992 to facilitate the consolidation of the Company's clearance and settlement functions into ROG (see "Clearing and Other Services"). Additional space in a third building in Minneapolis was obtained in 1994 by ROG under an operating lease to facilitate growth. Rauscher Pierce Refsnes leases office space in Dallas, Texas that is used as its corporate headquarters. During 1994 Rauscher Pierce Refsnes entered into a long-term operating lease for new headquarters space in Dallas, Texas which it will occupy commencing during the 1995 third quarter. Both Dain Bosworth and Rauscher Pierce Refsnes have extensive branch office systems which lease space in various locations throughout their regions. As a result of its acquisition of Clayton Brown in October 1992, Dain Bosworth also has a long-term lease commitment for Clayton Brown's former headquarters in Chicago. The Company believes that its facilities are suitable and adequate to meet its needs and that such facilities have sufficient productive capacity and are appropriately utilized.
Further information about the lease obligations of the Company is provided in Note I to the "Consolidated Financial Statements."
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS:
Dain Bosworth and Rauscher Pierce Refsnes are defendants in numerous civil actions and arbitrations incidental to their business involving alleged violations of federal and state securities laws and other laws. Some of these actions, including certain actions against Rauscher Pierce Refsnes described in more detail in previous filings and below, have been brought on behalf of purported classes of plaintiffs claiming substantial damages relating to underwritings of securities.
On September 26, 1994, a Settlement Agreement was entered into by certain settling plaintiffs and settling defendants in connection with the multi-district proceeding, In Re Taxable Bond Securities Litigation (MDL 863), in which Rauscher Pierce Refsnes is named as a defendant. As described in detail in previous filings, this action resulted from Rauscher Pierce Refsnes' participation in the underwriting syndicates for seven taxable municipal bond offerings for an aggregate of $1.55 billion. Rauscher Pierce Refsnes underwrote an aggregate of $57.8 million of such bonds and served as a co-manager of one $200 million bond offering. Rauscher Pierce's portion of the underwriting syndicates' contribution to the settlement fund was approximately $870,000. Such funds are being held in escrow pending satisfaction of certain requirements contained in the Settlement Agreement, including, among others, a requirement that the United States District Court for the Eastern District of Louisiana hold a hearing and determine that the settlement should be approved as fair, reasonable and adequate. In addition, the settlement may be terminated if the aggregate amount of the claims of members of the plaintiff class who elect not to participate in the settlement exceeds certain specified limits. Rauscher Pierce Refsnes believes that it has substantial and meritorious defenses to the claims raised by the plaintiffs. If the settlement is not consummated or is consummated but the plaintiffs in any of the actions in which Rauscher Pierce is a defendant elect to not to participate in the settlement, Rauscher Pierce will vigorously defend itself against such actions.
Rauscher Pierce Refsnes is one of 13 broker-dealer defendants named in a purported class action, Smith, et al. v. Merrill Lynch & Co., Inc., et al. (SA CV-94-1063-LIIM), pending in the United States District Court for the Central District of California. The case arises out of the issuance of debt securities by Orange County, California ("the County") and participants in the Orange County Investment Pool ("the Pool Participants") between July 1992 and December 1994 ("the class period"). The County and the Orange County Investment Pool each commenced Chapter 9 bankruptcy proceedings on December 6, 1994. Several class action complaints against Merrill Lynch and certain other defendants were filed shortly thereafter; the cases were subsequently consolidated and amended to name additional brokerage firm defendants, including Rauscher Pierce Refsnes. Rauscher Pierce Refsnes was first served with the amended consolidated complaint on March 7, 1995. The named plaintiffs allegedly purchased securities in numerous issues over the class period, two of which involved Rauscher Pierce Refsnes: a $299.7 million one-year tax and revenue anticipation note issue by a group of school districts in the name of the County in July 1994, in which Rauscher Pierce Refsnes was the financial advisor, and a $119.2 million long-term special tax bond issue by a community facilities district in July 1992 in which Rauscher Pierce Refsnes served as a co-managing underwriter along with two other brokerage firms. Plaintiffs purport also to represent purchasers of other securities issued by the County or Pool Participants during the class period, including securities issued in additional transactions in which Rauscher Pierce Refsnes was an underwriter or financial advisor. Plaintiffs allege violations of federal and state securities laws. They seek an unspecified amount of compensatory damages, rescission and other relief. Rauscher Pierce Refsnes believes that it has substantial and meritorious defenses available and plans to defend itself vigorously in this action.
While the outcome of any litigation is uncertain, management, based in part upon consultation with legal counsel as to certain of the actions pending against Dain Bosworth and Rauscher Pierce Refsnes, believes that the resolution of all such matters will not have a material adverse effect on the Company's consolidated financial condition.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS:
No matters were submitted to a vote of security holders during the fourth quarter ended December 31, 1994.
EXECUTIVE OFFICERS OF THE REGISTRANT
The following officers have been designated by the Board of Directors of the Company as its current "executive officers" for SEC reporting purposes. All officers are generally elected annually at the Board meeting held in conjunction with the Company's Annual Stockholders meeting and hold such offices until the following year, subject to their earlier death, resignation or removal.
Principal Occupation and Business Experience Name Age for the Past Five Years - ----- --- ----------------------- John C. Appel 46 President and Chief Operating Officer, Dain Bosworth Incorporated since February 1994; Executive Vice President and Chief Financial Officer, Dain Bosworth Incorporated, April 1990 to February 1994; Executive Vice President, IFG since April 1990; Senior Vice President, IFG, from May 1986 to April 1990; Chief Financial Officer, IFG, from May 1986 to February 1994. Member IFG Executive Committee.
Angela M. Chicoine 32 Controller, IFG, since March 1995. Vice President and Director of Corporate Audit, IFG, since June 1993. Field Audit Manager, Honeywell Inc., from January 1992 to June 1993. Audit Manager, Coopers & Lybrand from June 1989 to January 1992.
Jerry W. Hayes 49 President and Chief Executive Officer, Regional Operations Group, Inc. since May 1992. Senior Vice President of Dain Bosworth Incorporated, from May 1992 to November 1992; Senior Vice President, Marquette Bank, Minneapolis from December 1989 to April 1992. Member of IFG Executive Committee.
Richard D. McFarland 65 Chairman of the Board, IFG since June 1985; Chief Executive Officer, IFG, from June 1985 to December 1989; President of IFG from January 1982 to June 1985. Mr. McFarland has announced intention to retire as Chairman of the Board effective May 1995.
Mary M. Melbo 44 Executive Vice President - Human Resources of IFG since January 1995. Executive Vice President - Director of Human Resources of Dain Bosworth Incorporated from February 1994 to January 1995. Senior Vice President - Director of Human Resources of Dain Bosworth Incorporated from January 1991 to February 1994. Vice President - Human Resources, Commercial and Investment Banking, First Bank System, Inc. from September 1987 to November 1990. Member of IFG Executive Committee.
Daniel J. Reuss 39 Acting Chief Financial Officer, IFG, since February 1994; Senior Vice President, IFG since May 1991; Vice President, IFG April 1987 to May 1991; Treasurer, IFG since May 1989; Corporate Controller, IFG February 1985 to March 1995. Appointed Executive Vice President and Chief Financial Officer, Dain Bosworth effective January 1, 1995, however, Mr. Reuss continues to serve in his IFG role as Chief Financial Officer and Treasurer on an interim basis.
Carla J. Smith 37 Senior Vice President, IFG, since May 1994; General Counsel and Secretary, IFG, since January 1991; Partner, Dorsey & Whitney, from January 1989 to June 1990; Associate, Dorsey & Whitney, from May 1981 to December 1988.
David A. Smith 48 Chief Executive Officer, Rauscher Pierce Refsnes since May 1983; President, Rauscher Pierce Refsnes since January 1985; Chairman of the Board, Rauscher Pierce Refsnes since January 1990; Executive Vice President of IFG since May 1991. Member of IFG Executive Committee.
J. Scott Spiker 39 President, IFG Asset Management Services, Inc. and Chief Executive Officer of its Insight Investment Management division since January 1995. Senior Vice President and Director of Strategic Planning and Corporate Development, IFG from February 1994 to December 1994; Senior Vice President and Manager Employee Benefit Services, Norwest Bank Minnesota, N.A., June 1989 to January 1994; Vice President, Strategic Planning and Acquisitions, Norwest Corporation, December 1987 to June 1989. Member of IFG Executive Committee.
Irving Weiser 47 Chief Executive Officer, IFG since January 1990; President, IFG since July 1985; Chief Executive Officer, Dain Bosworth Incorporated since April 1990; Chairman of the Board, Dain Bosworth Incorporated since April 1990; President, Dain Bosworth Incorporated from April 1990 to February 1994. Member of IFG Executive Committee.
PART II
ITEM 5.
ITEM 5. MARKET PRICE OF AND DIVIDENDS ON THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS:
(a) Market Information.
The Company's common stock trades on the NYSE under the symbol "IFG." The high and low sales prices per share of the Company's common stock by quarter for the last two years were as follows:
(b) Holders.
At February 28, 1995, there were approximately 5,700 shareholders of the Company's common stock. The number of shareholders was determined by adding the number of recordholders to the estimated number of proxies to be sent to street name holders.
(c) Dividends.
Cash dividends per common share paid by the Company by quarter for the last two years were as follows:
The determination of the amount of future cash dividends, if any, to be declared and paid will depend on the Company's future financial condition, earnings and available funds.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA:
ITEM 7.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS:
Business Environment
The Company's subsidiaries are principally engaged in securities brokerage, investment banking and trading as principals in equity and fixed income securities. All of these activities are highly competitive and sensitive to many factors outside the control of the Company, including volatility of securities prices and interest rates, trading volume of securities, economic conditions in the regions in which the Company does business, income tax legislation and demand for investment banking services. While revenues are dependent upon the level of trading volume, which may fluctuate significantly, a large portion of the Company's expenses remain fixed. Consequently, net earnings can vary significantly from period to period.
Three Years Ended December 31, 1994 Summary of Operating Results
Net earnings totaled $25.5 million in 1994, a decrease of $22.2 million or 47 percent from the record earnings achieved in 1993. Net revenues (revenues less interest expense) for 1994 were $457.4 million, $25.6 million or 5 percent less than in the previous year. During 1994 the financial markets in which the Company and its competitors operate deteriorated, chiefly as a result of a series of interest rate increases that began late in the first quarter. Six successive interest rate increases by the Federal Reserve Board during the year led to lower and more volatile securities prices, particularly in fixed income securities, reduced levels of municipal and corporate underwritings and general uncertainty on the part of investors. Industry profitability declined in 1994, particularly at firms with significant dependence upon the fixed income business. The Company's broker-dealer subsidiaries have substantial fixed income operations and, consequently, 1994 results were negatively impacted by the volatility in the fixed income markets. During the year the Company made significant investments in long-term growth initiatives within its core businesses, including its fixed income business. Management estimates that Dain Bosworth's October 1994 acquisition of Clayton Brown had a negative impact on the Company's 1994 fourth quarter and full-year net earnings of approximately $800,000 or $.10 per share (see "Liquidity and Capital Resources"). While this investment and others, including growth in the retail sales forces, enhanced net revenues during 1994, such incremental revenues were more than offset by increased expenses. The 1994 growth initiatives increased the Company's future production capability, yet adversely affected 1994 profit margins.
During 1993 net earnings totaled $47.6 million, an increase of $13.1 million or 38 percent over the prior year. Net earnings and net revenues for 1993 represented the highest achieved in the Company's history. The Company, along with the rest of the securities industry, benefited in 1993 from continued strong financial markets, low interest rates, high securities prices and increased levels of municipal and corporate underwritings. As a result of the favorable economic environment and, in management's opinion, actions taken during the two to three years prior to 1993, the Company's core securities brokerage and investment banking businesses within Dain Bosworth and Rauscher Pierce Refsnes all posted record results for 1993.
Comparative Net Revenues and Expenses Summary. The following is a summary of the year-to-year increases (decreases) in categories of net revenues and operating expenses:
Principal Transactions
Principal transactions revenue declined less than 1 percent from 1993 to 1994. While over-the-counter equity and tax-exempt fixed income trading revenues increased 6 percent over the prior year, revenues from the trading of taxable fixed income products declined 15 percent. With the presence of rising interest rates, the 1994 trading environment for fixed income products, in particular, was much more volatile and difficult than in 1993 resulting in reduced trading profits in 1994. However, individual investor demand for and revenues from certain fixed income products, particularly tax-exempt securities increased due to comparatively larger Dain Bosworth and Rauscher Pierce Refsnes sales forces, as well as comparatively higher yields offered by such fixed income investments than in the prior year.
The 10-percent increase in revenues from principal transactions in 1993 over 1992 was due primarily to higher transaction volumes, declining interest rates and improved trading results in over-the-counter equity and fixed income securities (both taxable and tax-exempt).
Commissions
The $7.6 million or 5-percent decrease in commission revenues from 1993 to 1994 was due principally to lower sales of mutual fund and listed securities to individual and institutional investors and lower securities prices. The decline was partially offset by the effects of 11-percent increases in both the average number of investment executives and the New York Stock Exchange average daily trading volume.
Commission revenues increased 17 percent in 1993 over 1992, due chiefly to higher sales of mutual funds and listed securities. Contributing to the increase was a 7-percent rise in the average number of investment executives, as well as a 30-percent increase in the New York Stock Exchange's average daily trading volume and higher securities prices.
Investment Banking and Underwriting
Investment banking and underwriting revenues declined $32.9 million or 25 percent in 1994 from the prior year as rising interest rates significantly increased the costs of raising capital for Dain Bosworth's and Rauscher Pierce Refsnes' underwriting clients, thereby reducing the demand for such municipal and corporate underwritings. Revenues and pretax profits derived from municipal refundings fell from approximately $41 million and $13 million, respectively, in 1993 to $17 million and $2 million, respectively, in 1994, as anticipated by the Company. The effects of the decline in municipal refunding transactions, however, were partially offset by increases at both Dain Bosworth and Rauscher Pierce Refsnes in fee-based investment banking revenues, most significantly mergers and acquisitions, restructuring and private placement services performed for corporate clients.
Investment banking and underwriting revenues increased 23 percent from 1992 to 1993 as Dain Bosworth and Rauscher Pierce Refsnes clients issued greater quantities of corporate and municipal securities in order to take advantage of the then-favorable market conditions for raising capital. During 1993 investment banking revenues benefited from an increased number of initial public offerings underwritten for corporate clients, as well as the aforementioned volumes of municipal refundings.
Net Interest Income
The major sources of interest revenues and expenses for the past three years are:
Short-term investments segregated for regulatory purposes and margin loans to customers, both financed primarily by credit balances in customer accounts, comprise the majority of the Company's interest-earning assets. Fixed income trading inventories, which are generally financed with short-term bank borrowings or repurchase agreements, also generated significant net interest income. The Company's net interest income is dependent upon the level of customer balances and trading inventories, as well as the spread between the rate it earns on those assets compared with its cost of funds.
Net interest income accounted for 8 percent of the Company's net revenues in 1994 versus 5 percent in 1993 and 6 percent in 1992. The majority of the 1994 increase was due to a 35-percent rise in margin loan balances, which resulted largely from the 11-percent increase in the average number of investment executives. Also, a portion of the increase was the result of increasing spreads on all customer balances, as well as increases in stock borrow and stock loan activities. See "Liquidity and Capital Resources."
As long as favorable interest rate spreads are maintained and the level of interest-bearing accounts remains stable, the Company expects net interest income to continue to be a significant component of its earnings. The Company continues to examine alternative cash management products and services that it may offer to customers with credit balances in their accounts. Management believes that implementation of new cash management products and services would not have a material effect on net earnings.
Average balances and interest rates for 1992 through 1994 are:
Asset Management
Asset management revenues increased 48 percent in 1994 from 1993 and 36 percent from 1992 to 1993 as a result of 34-percent and 12-percent increases, respectively, in assets under management at AMS, as well as increased revenues from larger volumes of assets in fee-based, managed account programs at Dain Bosworth and Rauscher Pierce Refsnes.
Correspondent Clearing
Correspondent clearing revenues increased less than 1 percent from 1993 to 1994 as the positive effect of increased trade volumes handled by RPR Clearing Services, the Rauscher Pierce Refsnes unit that markets correspondent clearing services and coordinates clearing for 130 correspondent brokerage firms, was offset by the 1994 loss of a significant RPR Clearing Services correspondent. Such revenues increased $1.9 million or 19 percent from 1992 to 1993 primarily as a result of increased trade volumes and a 13-percent increase in the number of correspondents handled by RPR Clearing Services.
Other Revenues
The 1994 decline and 1993 increase in other revenues was primarily the result of a one-time gain in 1993 of approximately $5.2 million from the sale of the Minneapolis Energy Center, a district heating and cooling company owned by a partnership in which Dain Bosworth was the general partner. Net of expenses, this transaction increased the Company's 1993 pretax earnings by $4.0 million, net earnings by $2.4 million and earnings per share by $.29. Partially offsetting the absence of this gain in 1994 were increased revenues from sales of insurance products and fees earned from Individual Retirement Accounts and other types of accounts.
Compensation and Benefits
Compensation and benefits expense is generally affected by the level of operating revenues, earnings and the number of employees. While the largely variable components of compensation and benefits expense (commissions and incentive compensation) were lower in 1994 than 1993 due to reduced operating revenues and earnings, the fixed component increased from the prior year due to a 12-percent increase in the average number of employees, as well as increased expense from the amortization of forgivable loans issued in the recruitment of revenue-producing employees. The compensation and benefits expense increase from 1992 to 1993 of 16 percent was comprised primarily of commissions, incentive compensation and related benefits that rose in conjunction with operating revenues and earnings, as well as an 8-percent increase in the average number of employees.
Other Expenses
During 1994 expenses other than compensation and benefits increased $10.9 million or 10 percent largely as the result of volume and headcount-driven increases in communications, market data and clearing services; increased occupancy costs related to the addition of 14 operating office locations and expansion of several others during 1994, including the expansion of space in the Company's Minneapolis headquarters; increased costs associated with recruiting and the generation of new business; and the acquisition of Clayton Brown (see "Liquidity and Capital Resources").
During 1993 expenses other than compensation and benefits and interest increased $13.6 million or 14 percent from 1992 principally as a result of volume-driven increases in the use of communications, market data and clearing services; increased travel costs associated with the generation of new business; increased reserves; and increased occupancy expenses related to higher real estate and operating costs at the Company's Minneapolis headquarters, the net addition of nine operating office locations and the expansion of several others.
In light of the difficult market conditions in which the Company is currently operating, management has taken steps to selectively pare expenses and reduce spending in areas not related to revenue production. Nonetheless, management anticipates operating expenses to be somewhat higher in 1995 than in 1994 due to the full-year effect of significant growth investments made during 1994. Management also anticipates delaying, where possible, most future growth initiatives until the market environment in which the Company operates improves.
Inflation
Since the Company's assets are primarily liquid in nature and experience a high rate of turnover, they are not significantly affected by inflation. However, the rate of inflation does affect many of the Company's operating costs which may not be readily recoverable through price increases on services offered by the Company.
Liquidity and Capital Resources
The Company's assets are substantially liquid in nature and consist mainly of cash or assets readily convertible into cash. These assets are financed primarily by interest-bearing and non- interest bearing customer credit balances, repurchase agreements, other payables, short-term and subordinated bank borrowings and equity capital. Changes in the amount of trading securities owned by the Company, customer and broker receivables and securities purchased under agreements to resell directly affect the amount of the Company's financing requirements.
The Company has various sources of capital for operations and growth. In addition to capital provided by earnings, Regional Operations Group maintains uncommitted lines of credit from a number of banks to finance transactions (principally trading and underwriting positions of Dain Bosworth and Rauscher Pierce Refsnes) when internally generated capital is not sufficient. The majority of these uncommitted lines of credit are collateralized by trading securities and customers' margin securities. On February 28, 1995, approximately $220 million of a total of $425 million in uncommitted lines of credit were unused. Also, the Company has a $15 million, committed, unsecured revolving credit facility that is used for advances to its subsidiaries, irrevocable letters of credit and general corporate purposes. On February 28, 1995, $15 million of this revolving credit facility was unused.
Dain Bosworth and Rauscher Pierce Refsnes must comply with certain regulations of the Securities and Exchange Commission measuring capitalization and liquidity and restricting amounts of capital that may be transferred to affiliates. Regional Operations Group clears and settles trades for Dain Bosworth and Rauscher Pierce Refsnes (including the accounts of RPR Clearing Services). Regional Operations Group carries all customer accounts, extends margin credit to customers, pays interest on credit balances of customers and invests any excess customer balances. As a result, Regional Operations Group is subject to similar Securities and Exchange Commission regulations. During 1994 Dain Bosworth, Rauscher Pierce Refsnes and Regional Operations Group all operated above the minimum net capital standards. At December 31, 1994, regulatory net capital was $48.4 million at Regional Operations Group, which was 6.5 percent of aggregate debit balances and $11.2 million in excess of the 5- percent requirement. Dain Bosworth's and Rauscher Pierce Refsnes' net capital requirement is $1 million for each company as neither firm carries customer balances. At December 31, 1994, Dain Bosworth and Rauscher Pierce Refsnes had net capital of $26.9 million and $20.1 million, respectively, in excess of the $1 million requirement.
The Company paid a special cash dividend of $.16 per share on the Company's common stock during the first quarter of 1992 and regular quarterly cash dividends of $.04 per share thereafter through the first quarter of 1993. In the second quarter of 1993, the regular quarterly dividend was increased to $.08 per share and was subsequently increased to $.16 per share in the second quarter of 1994. The determination of future cash dividends, if any, to be declared and paid will depend on the Company's future financial condition, earnings and available funds.
In April 1994 the Company's Board of Directors authorized a plan to repurchase up to 400,000 shares of the Company's common stock. Purchases of the common stock will be made from time to time at prevailing prices in the open market, by block purchases, or in privately negotiated transactions. The repurchased shares will be used for the Company's employee stock option and other benefit plans, or for other corporate purposes. Through February 28, 1995, the Company had repurchased 162,500 shares in accordance with this program at a cost of $3.6 million.
Dain Bosworth and Rauscher Pierce Refsnes are dealers in corporate, tax-exempt and governmental fixed income securities which are carried in inventory primarily for distribution to Dain Bosworth's and Rauscher Pierce Refsnes' retail and institutional clients in order to meet those clients' needs. Periodically Dain Bosworth and Rauscher Pierce Refsnes buy, sell or position in trading inventories mortgage-derivative securities or structured notes. Holdings of high-yield securities are not material. Each of the Company's securities subsidiaries maintains comprehensive risk management policies encompassing position limits, agings, duration and credit. These policies are intended to limit the size of and risk in the Company's trading inventories.
In September 1994 Dain Bosworth and Rauscher Pierce Refsnes, respectively, entered into $10 million and $7 million four-year subordinated bank loans. The loans require monthly, interest- only payments throughout the four-year term, with equal quarterly principal payments during years two through four. Proceeds of the loans qualify as regulatory capital and will be used to support current and future growth in the number of operating office locations and forgivable loans issued as part of the recruitment of investment executives and other revenue-producing employees.
In order to finance its October 1994 acquisition of Clayton Brown for an aggregate cash purchase price of approximately $24 million, Dain Bosworth entered into an additional $10 million four-year subordinated bank loan. Proceeds of the loan qualify as regulatory capital. The loan requires monthly, interest-only payments throughout the four-year term, with equal quarterly principal payments during years two through four.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Index to Consolidated Financial Statements As of December 31, 1994 and 1993, and for each of the years in the three-year period ended December 31, 1994 and Supplementary Data
Page ---- Independent Auditors' Report 19
Consolidated Financial Statements:
Consolidated statements of operations 20
Consolidated balance sheets 21
Consolidated statements of shareholders' equity 22
Consolidated statements of cash flows 23
Notes to consolidated financial statements 24
Quarterly Financial Information 33
INDEPENDENT AUDITORS' REPORT
Board of Directors and Shareholders Inter-Regional Financial Group, Inc.:
We have audited the accompanying consolidated balance sheets of Inter-Regional Financial Group, Inc. and subsidiaries as of December 31, 1994 and 1993, and the related consolidated statements of operations, shareholders' equity and cash flows for each of the years in the three-year period ended December 31, 1994. In connection with our audits of the consolidated financial statements, we have also audited the financial statement schedule listed in the table of contents on page 38 hereof. These consolidated financial statements and financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedule 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 Inter-Regional Financial Group, Inc. and subsidiaries as of December 31, 1994 and 1993, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1994, in conformity with generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.
KPMG Peat Marwick LLP
Minneapolis, Minnesota February 1, 1995, except as to Note I which is as of March 7, 1995
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Years ended December 31, 1994, 1993 and 1992
Inter-Regional Financial Group, Inc. and Subsidiaries
A. Summary of Significant Accounting Policies
Basis of Presentation: The consolidated financial statements include the Company and its subsidiaries, all of which are wholly owned. All material inter-company balances and transactions have been eliminated in consolidation. Certain prior-year amounts in the financial statements have been reclassified to conform to the 1994 presentation.
Cash and Cash Equivalents: Cash and cash equivalents include cash on hand, cash in depository accounts with other financial institutions and money market investments with original maturities of 90 days or less.
Securities: Securities transactions and the related commission revenues and expenses are recorded on settlement date, which is not materially different than if transactions were recorded on trade date.
Trading securities owned and trading securities sold, but not yet purchased, are stated at market value. Unrealized gains and losses on such securities are recognized currently in revenues. Market value is determined by using public market quotations, quote prices from dealers or recent market transactions, depending upon the underlying security.
Repurchase Transactions: Securities purchased under agreements to resell (reverse repurchase agreements) and securities sold under repurchase agreements are accounted for as financing transactions and are recorded at the contract amount at which the securities will subsequently be resold or reacquired, plus accrued interest.
Other Receivables: Included in other receivables are forgiveable loans made to investment executives and other revenue-producing employees, typically in connection with their recruitment. Such forgiveable loans are amortized over the life of the loan, which is generally three to five years, using the straight-line method.
Depreciation and Amortization: Equipment is depreciated using the straight-line method over estimated useful lives of two to eight years. Leasehold improvements are amortized over the lesser of the estimated useful life of the improvement or the life of the lease. Buildings are depreciated using the straight-line method over an estimated useful life of 25 years.
Income Taxes: Effective January 1, 1993, the Company adopted Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes." Under this method, deferred tax liabilities and assets and the resultant provision for income taxes are determined based on the difference between the financial statement and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. Financial statements for 1992 have not been restated and the cumulative effect of the accounting change was not material. (See note M.)
In 1992 the provision for income taxes was based on income and expenses included in the accompanying consolidated statements of operations. Differences between taxes so computed and taxes payable under applicable statutes and regulations were classified as deferred taxes arising from timing differences.
Fair Values of Financial Instruments: Substantially all of the Company's financial assets and liabilities are carried at market value or at amounts which, because of their short-term nature, approximate current fair value. The Company's borrowings, if recalculated based on current interest rates, would not differ significantly from the amounts recorded at December 31, 1994.
Earnings Per Share: Primary earnings per share are based upon the weighted average number of common shares outstanding and the dilutive effect of common stock options and, in 1992, the assumed conversion of the Series 10% and 12% convertible preferred stock.
Fully diluted earnings per share for 1992 reflect the additional dilutive effect of the assumed conversion of convertible subordinated debentures. The weighted average number of shares used in the primary and fully diluted computations, respectively, are: 1994 - 8,361,084 and 8,361,084; 1993 - 8,404,501 and 8,466,797; and 1992 - 8,573,507 and 8,960,560.
B. Acquisition
On October 7, 1994, the Company acquired all of the issued and outstanding common stock of Clayton Brown Holding Company (Clayton Brown), the holding company for Clayton Brown & Associates, a registered broker-dealer in Chicago, Illinois, specializing in fixed income securities, for a cost of $24.2 million, which approximated the net book value of Clayton Brown. The transaction was accounted for under the purchase method of accounting and, accordingly, the revenues and operating results of Clayton Brown have been included in the consolidated statement of operations for the period from October 7, 1994, through December 31, 1994.
C. Receivable from and Payable to Customers
The amounts receivable from and payable to customers result from cash and margin transactions. Securities owned by customers and held as collateral for receivables and securities sold short by customers are not reflected in the consolidated financial statements. Included in payable to customers are customer funds on deposit for reinvestment totaling $674 million and $709 million as of December 31, 1994 and 1993, respectively. The Company pays interest on such funds at varying rates, the weighted average of which was 4.9 percent at December 31, 1994.
D. Receivable from and Payable to Brokers and Dealers
Securities failed to deliver and receive represent the contract value of securities which have not been delivered or received subsequent to settlement date. Securities borrowed and securities loaned are recorded at the amount of cash collateral advanced or received in connection with the transaction. Securities borrowed transactions require the Company to deposit cash or other collateral with the lender. With respect to securities loaned, the Company receives cash or other collateral. The initial collateral advanced or received has a market value equal to or greater than the market value of the securities borrowed or loaned. The Company monitors the market value of the securities borrowed and loaned on a daily basis and requests additional collateral or returns excess collateral, as appropriate.
E. Trading Securities
The market values of trading security positions are summarized as follows:
F. Short-Term Borrowings
The loans to the securities subsidiaries consist of bank borrowings on uncommitted lines of credit, the majority of which are collateralized by trading securities owned and customers' margin securities, and have a floating rate of interest approximately .50 percent above the Federal Funds rate. The market value of trading securities pledged as collateral at December 31, 1994 was $140 million. At December 31, 1994, approximately $290 million of additional credit was available under uncommitted credit lines.
Revolving credit loan borrowings and irrevocable letters of credit are available under a commitment totaling $15 million (100 percent of which was used as of December 31, 1994) which expires June 30, 1995. Loans under this facility are unsecured and bear interest at a floating rate of Federal Funds plus 1.125 percent. The Company must maintain certain levels of net worth under the agreement.
G. Subordinated and Other Debt
During 1994 Dain Bosworth and Rauscher Pierce Refsnes entered into a series of four-year subordinated bank loans totaling $27 million. Proceeds of the loans qualify as regulatory capital. The loans require monthly, interest-only payments throughout the four-year terms, with equal quarterly principal payments during years two through four. The outstanding subordinated debt bears a floating rate of interest of approximately 2.5 percent to 2.75 percent above the London Interbank Offered Rates. At December 31, 1994, the weighted average interest rate on all of the Company's subordinated debt was 8.8 percent.
Other debt is used primarily to finance equipment and building improvements, is payable in monthly or quarterly installments and bears interest at floating rates which approximated 6.9 percent at December 31, 1994. The Company must maintain certain levels of net worth under one of the debt agreements.
Annual principal payments on subordinated bank loans and other debt (excluding obligations under capital leases) during the next five years are as follows: 1995-$4,255,000; 1996-$13,333,000; 1997-$12,977,000; 1998-$9,107,000; 1999-$54,000.
H. Shareholders' Equity
Common Stock: The common stock has a par value of $.125 per share; 20,000,000 shares are authorized. During 1994 the Company's Board of Directors authorized a plan to repurchase up to 400,000 shares of the Company's common stock. Purchases of the common stock are made from time to time at prevailing prices in the open market, by block purchases, or in privately negotiated transactions. The repurchased shares will be used for the Company's employee stock option and other benefit plans, or for other corporate purposes. During 1994 the Company repurchased 162,500 shares in accordance with this program at a cost of $3.6 million.
At December 31, 1994, 1,683,000 shares of the Company's common stock were reserved for the 1986 Stock Option Plan, 106,000 shares were reserved for issuance to the IFG Stock Bonus Plan and 100,000 shares were reserved for issuance to the IFG Restricted Stock Plan for Non-Employee Directors.
Dividends: The Company paid a special cash dividend of $.16 per share during the first quarter of 1992 and regular quarterly cash dividends of $.04 per share each quarter thereafter through the first quarter of 1993. In the second quarter of 1993 the regular quarterly dividend was increased to $.08 per share and was subsequently increased to $.16 per share in the second quarter of 1994. The determination of the amount of future cash dividends, if any, to be declared and paid will depend on the Company's future financial condition, earnings and available funds.
Stock Options: The Company maintains a stock option plan, under which key employees and outside directors may be granted options to purchase common stock at not less than 100 percent of the fair market value of the shares at the date of grant for incentive stock options or 50 percent for non-qualified options. Options generally become exercisable at rates of 20, 50 and 100 percent as of two, three and four years, respectively, after the date of grant and expire ten years from date of grant. Options granted to outside directors become exercisable six months after grant date and expire five years after grant date. At December 31, 1994, 814,000 shares of common stock were available for grant.
The following table summarizes the activity related to the Company's stock option plan for each of the last three years:
All outstanding options were granted at 100 percent of the fair market value of the shares at the date of grant. The Company's closing stock price on December 31, 1994, was $22.50.
I. Commitments and Contingent Liabilities
Leases: The Company and its subsidiaries lease office space, furniture and communications and data processing equipment under several noncancelable leases. Most office space leases are subject to escalation and provide for the payment of real estate taxes, insurance and other expenses of occupancy, in addition to rent.
Aggregate minimum rental commitments as of December 31, 1994, are as follows:
Rental expense for operating leases was $22,414,000, $19,085,000 and $18,741,000, for the years ended December 31, 1994, 1993 and 1992, respectively. Included in net equipment, leasehold improvements and buildings at December 31, 1994 and 1993, is $5,037,000 and $5,952,000, respectively, for leases which have been capitalized.
Litigation: The Company's securities subsidiaries are defendants in numerous civil actions and arbitrations incidental to their business involving alleged violations of federal and state securities laws, and other laws. Some of these actions have been brought on behalf of purported classes of plaintiffs claiming substantial damages relating to underwritings of securities.
Rauscher Pierce Refsnes is one of 13 broker-dealer defendants named in a purported class action arising out of the issuance of debt securities by Orange County, California ("the County") and participants in the Orange County Investment Pool ("the Pool Participants") between July 1992 and December 1994 ("the class period"). The County and the Orange County Investment Pool each commenced Chapter 9 bankruptcy proceedings on December 6, 1994. The named plaintiffs allegedly purchased securities in numerous issues over the class period, two of which involved Rauscher Pierce Refsnes: a $299.7 million one-year tax and revenue anticipation note issue by a group of school districts in the name of the County in July 1994, in which Rauscher Pierce Refsnes was the financial advisor, and a $119.2 million long-term special tax bond issue in July 1992 co-managed by Rauscher Pierce Refsnes. Plaintiffs purport also to represent purchasers of other securities issued by the County or Pool Participants during the class period, including securities issued in additional transactions in which Rauscher Pierce Refsnes was an underwriter or financial advisor. Plaintiffs allege violations of federal and state securities laws. They seek an unspecified amount of compensatory damages, rescission and other relief. Rauscher Pierce Refsnes believes that it has substantial and meritorious defenses available and plans to defend itself vigorously in this action.
While the outcome of any litigation is uncertain, management, based in part upon consultation with legal counsel as to certain of these actions, believes that the resolution of these matters will not have a material adverse effect on the Company's consolidated financial condition.
J. Trading Activities and Financial Instruments with Off-Balance- Sheet Risk
Dain Bosworth and Rauscher Pierce Refsnes are dealers in corporate, tax-exempt and governmental fixed income securities and corporate equity securities and may recognize profits or losses on transactions in, or fluctuations in the value of, such securities held in inventory. Internal guidelines intended to limit the size and risk of inventories maintained have been established and are periodically reviewed. These inventories are positioned primarily for distribution to Dain Bosworth's and Rauscher Pierce Refsnes' individual and institutional clients in order to meet those clients' needs. Revenues from principal transactions for the year ended December 31, 1994, originate from the following:
Dain Bosworth and Rauscher Pierce Refsnes sell securities not yet purchased (short sales) for their own accounts primarily to hedge their fixed income trading inventories. The establishment of short positions exposes the Company to off-balance-sheet risk in the event prices increase, as the Company may be obligated to acquire the securities at prevailing market prices.
The Company may periodically hedge its fixed income trading inventories with financial futures or interest-rate option contracts. These contracts expose the Company to off-balance- sheet risk in the event that the changes in interest rates do not closely correlate with the change in the inventory price. At December 31, 1994, the Company had open commitments under financial futures contracts with a notional amount of $9.7 million. At December 31, 1994, the fair market value of these financial futures and option contracts was not material. Also, the average fair market value and trading revenues associated with these contracts during 1994 was not material.
The Company does not enter into interest-rate swap agreements, foreign currency contracts or other off-balance-sheet derivative financial instruments.
In the normal course of business the Company's activities involve the execution, settlement and financing of various securities transactions. These activities may expose the Company to off- balance-sheet credit and market risks in the event the customer or counterparty is unable to fulfill its contractual obligations. Such risks may be increased by volatile trading markets.
In the normal course of business the securities subsidiaries enter into when-issued underwriting and purchase commitments. Transactions relating to such commitments open at year end and subsequently settled had no material effect on the consolidated financial statements.
The Company seeks to control the risks associated with its customer activities by requiring customers to maintain margin collateral in compliance with various regulatory and internal guidelines. The Company monitors required margin levels daily and, pursuant to such guidelines, requires customers to deposit additional collateral or to reduce positions when necessary. Market declines could, however, reduce the value of collateral below the amount loaned, plus accrued interest, before the collateral could be sold.
A portion of the Company's customer activity involves the sale of securities not yet purchased (short sales) and the writing of option contracts. Such transactions may require the Company to purchase or sell financial instruments at prevailing market prices in order to fulfill the customer's obligations.
The Company lends money subject to reverse repurchase agreements. All positions are collateralized, primarily with U.S. government or U.S. government agency securities. The Company generally takes physical possession of securities purchased under agreements to resell. Such transactions may expose the Company to risk in the event such borrowers do not repay the loans and the value of collateral held is less than that of the underlying receivable. These agreements provide the Company with the right to maintain the relationship between market value of the collateral and the receivable.
The Company may pledge firm or customer margin securities for bank loans, repurchase agreements, securities loaned or to satisfy margin deposits of clearing organizations. In the event the counterparty is unable to return such securities pledged, the Company may be exposed to the risks of acquiring the securities at prevailing market prices or holding collateral possessing a market value less than that of the related pledged securities. The Company seeks to control these risks by monitoring the market value of securities pledged and requiring adjustments of collateral levels where necessary. At December 31, 1994, the market value of such securities pledged approximated the borrowings outstanding.
K. Regulatory Requirements
Dain Bosworth and Rauscher Pierce Refsnes are subject to the Securities and Exchange Commission's Uniform Net Capital Rule. Regional Operations Group, the Company's operations subsidiary, clears and settles trades for Dain Bosworth and Rauscher Pierce Refsnes (including the customers of RPR Clearing Services). Regional Operations Group carries all customer accounts, extends margin credit to customers, pays interest on credit balances of customers and invests any excess customer balances. As a result, Regional Operations Group is subject to the Uniform Net Capital Rule whereby net capital of not less than 2 percent of aggregate debit items must be maintained. The New York Stock Exchange, Inc. also may require a member organization to reduce its business if regulatory net capital is less than 4 percent of such aggregate debit items, and may prohibit a member firm from expanding its business and declaring cash dividends if its regulatory net capital is less than 5 percent of such aggregate debit items. At December 31, 1994, net capital was $48.4 million at Regional Operations Group, which was 6.5 percent of aggregate debit balances and $11.2 million in excess of the 5-percent requirement. Dain Bosworth's and Rauscher Pierce Refsnes' net capital requirement is $1 million for each company as neither firm carries customer balances on its balance sheet. At December 31, 1994, Dain Bosworth and Rauscher Pierce Refsnes had net capital of $26.9 million and $20.1 million, respectively, in excess of the $1 million requirement.
Rule 15c3-3 of the Securities Exchange Act of 1934 specifies certain conditions under which brokers and dealers carrying customer accounts are required to maintain cash or qualified securities in a special reserve account for the exclusive benefit of customers. Amounts to be maintained are computed in accordance with a formula defined in the Rule. At December 31, 1994, Regional Operations Group had $338.0 million segregated in special reserve accounts. This amount consisted of qualified securities purchased under agreements to resell and was collateralized by U.S. government or government agency securities.
L. Employee Benefit Plans
The Company and its participating subsidiaries have profit sharing and stock bonus plans which cover substantially all full- time employees who are at least 21 years of age and have been employed for at least one year (six months beginning January 1, 1995).
Prior to January 1, 1995, participants could contribute on a pretax basis up to 5 percent of eligible compensation to the stock bonus plan and up to 10 percent to the profit sharing plan subject to certain aggregate limitations. The Company and its participating subsidiaries matched all participant contributions to the stock bonus plan at a 50-percent rate. The Company also matched participant contributions to the profit sharing plan at a 25-percent rate up to 5 percent of eligible compensation (less any amounts contributed to the stock bonus plan). All matching contributions were paid to the stock bonus plan. All stock bonus plan contributions were used to purchase the common stock of the Company. Company contributions to the profit sharing plan equaled 3 percent of eligible compensation paid on a quarterly basis plus a discretionary annual contribution determined by each participating company's board of directors at year end.
Beginning January 1, 1995, participants may contribute on a pretax basis up to 12 percent of eligible compensation to either or both plans; the Company will match up to 5 percent of eligible compensation at a 40-percent rate. Matching contributions will be limited to $3,000 per employee annually and will continue to be paid to the stock bonus plan. At the end of each calendar year, a contribution to the profit sharing plan will be determined by each participating company's board of directors. The minimum contribution will be 3 percent of eligible compensation.
The Company's policy is to fund currently profit sharing and stock bonus plan costs. Earnings have been charged for contributions, net of forfeitures, to the above plans as follows:
M. Income Taxes
Income tax expense consists of the following:
A reconciliation of ordinary federal income taxes (based on rates of 35 percent for 1994 and 1993 and 34 percent for 1992) with the actual tax expense provided on earnings is as follows:
Deferred income tax expenses/benefits resulted from differences in the timing of revenue and expense recognition for financial statement and tax reporting purposes in 1992. The sources and tax effect of the changes in deferred taxes were:
The tax effects of temporary differences that give rise to the deferred tax assets and deferred tax liabilities are:
The Company has determined that it is not required to establish a valuation allowance for the deferred tax asset since it is more likely than not that the deferred tax asset will be realized principally through carryback to taxable income in prior years, and future reversals of existing taxable temporary differences, and, to a lesser extent, future taxable income. The Company's conclusion that it is "more likely than not" that the deferred tax asset will be realized is based on federal taxable income of over $190 million in the carryback period, substantial state taxable income in the carryback period, as well as prospects for continued earnings.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE:
None.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT:
See Part I, Item 4 of this Annual Report for information with respect to executive officers of the Company. Other information required in Item 10 will be contained in the Company's definitive Proxy Statement to be filed pursuant to Regulation 14A within 120 days after the close of the fiscal year for which this Report is filed and is incorporated herein by reference.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION:
The information required in Item 11 will be contained in the Company's definitive Proxy Statement to be filed pursuant to Regulation 14A within 120 days after the close of the fiscal year for which this Report is filed and is incorporated herein by reference, except that, pursuant to Item 402(a)(8) of Regulation S-K, the information to be contained in the Company's definitive Proxy Statement in response to paragraphs (k) and (l) of Item 402 is not incorporated by reference herein.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT:
The information required in Item 12 will be contained in the Company's definitive Proxy Statement to be filed pursuant to Regulation 14A within 120 days after the close of the fiscal year for which this Report is filed and is incorporated herein by reference.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS:
The information required in Item 13 will be contained in the Company's definitive Proxy Statement to be filed pursuant to Regulation 14A within 120 days after the close of the fiscal year for which this Report is filed and is incorporated herein by reference.
PART IV
ITEM 14
ITEM 14 EXHIBITS, FINANCIAL STATEMENT SCHEDULE AND REPORTS ON FORM 8-K:
(a) Documents filed as part of this Report: Page ---- 1. Financial statements:
Reference is made to the table of contents to financial statements and financial statement schedule hereinafter contained 38
2. Financial statement schedules: Reference is made to the table of contents to financial statements and financial statement schedule hereinafter contained for all other financial statement schedules 38
3. Exhibits:
Item No. Item Method of Filing - ------- ---- ----------------
3.1 Restated Certificate of Incorporated by reference Incorporation of the to Exhibit 4.1 to the Company. Company's Registration Statement on Form S-8 dated March 14, 1995, File No. 33-58069.
3.2 Amended and Restated Incorporated by reference Bylaws of the Company. to Exhibit 4.2 to the Company's Registration Statement on Form S-8 dated March 14, 1995, File No. 33-58069.
4.1 Credit Agreement dated Incorporated by reference June 23, 1993. to Exhibit 4(a) to the Company's Current Report on Form 8-K dated July 15, 1993.
4.2 First Amendment to Incorporated by reference Credit Agreement dated to Exhibit 4(a) to the November 30, 1993. Company's Current Report on Form 8-K dated February 11, 1994.
4.3 Second Amendment to Incorporated by reference Credit Agreement dated to Exhibit 4(a) to the June 27, 1994. Company's Current Report on Form 10-Q dated June 30, 1994.
4.4 Third Amendment to Incorporated by reference Credit Agreement dated to Exhibit 4(a) to the September 30, 1994. Company's Current Report on Form 8-K dated September 26, 1994.
4.5 Term Loan Agreement Incorporated by reference dated October 16, 1992. to Exhibit 4(e) to the Company's Annual Report on Form 10-K for the year ended December 31, 1992.
4.6 First Amendment to Term Incorporated by reference Loan Agreement dated to Exhibit 4(g) to the March 12, 1993. Company's Annual Report on Form 10-K for the year ended December 31, 1992.
4.7 Second Amendment to Incorporated by reference Term Loan Agreement dated to Exhibit 4(b) to the June 23, 1993. Company's Current Report on Form 8-K dated July 15, 1993.
4.8 Third Amendment to Term Incorporated by reference Loan Agreement dated to Exhibit 4(b) to the November 30, 1993. Company's Current Report on Form 8-K dated February 11, 1994.
4.9 Fourth Amendment to Incorporated by reference Term Loan Agreement dated to Exhibit 4 (b) to the June 27, 1994. Company's Current Report on Form 10-Q dated June 30, 1994.
4.10 Fifth Amendment to Incorporated by reference Term-Loan Agreement dated to Exhibit 4 (b) to the September 30, 1994. Company's Current Report on Form 8-K dated September 26, 1994.
10.1* 1986 Stock Option Incorporated by reference Plan, as amended on to Exhibit 10(b) to the April 24, 1987, May 9, Company's Current Report 1990, March 3, 1993 on Form 8-K dated July 15, and April 27, 1993. 1993.
10.2 Form of Indemnity Incorporated by reference Agreement with Directors to Exhibit 10(c) to the and Officers of the Company. Company's Annual Report on Form 10-K for the year ended December 31, 1990.
10.3* Form of Non-Employee Incorporated by reference Director Retirement to Exhibit 10(g) to the Compensation Agreement. Company's Annual Report on Form 10-K for the year ended December 31, 1992.
10.4* IFG Executive Incorporated by reference Deferred Compensation Plan to Exhibit 10(a) to the dated March 31, 1993. Company's Current Report on Form 8-K dated July 15, 1993.
10.5 Trust Agreement for Filed herewith. IFG Executive Deferred Compensation Plan dated February 11, 1994.
11 Computation of net Filed herewith. earnings per share.
22 List of subsidiaries. Filed herewith.
23 Independent Auditors' Filed herewith. consent.
24 Power of attorney. Filed herewith.
27 Financial Data Schedule Filed herewith.
* Management contract or compensatory plan or arrangement required to be filed as an exhibit pursuant to Item 14(c) of this report.
(b) One report on Form 8-K was filed during the fourth quarter of1994.
Items Reported
Item 5 - Other events (Dain Bosworth acquisition of Clayton Brown Holding Company; tentative settlement of In Re Taxable Municipal Bond Securities Litigation)
Item 7 - Financial Statement and Exhibits
Exhibit 4(a) Third Amendment to Credit Agreement dated September 30, 1994
Exhibit 4(b) Fifth Amendment to Term-Loan Agreement dated September 30, 1994.
Date of earliest event reported - September 26, 1994.
Financial Statements Filed - None
REPORT FOR EMPLOYEE STOCK PURCHASE PLAN:
The financial statements required by Form 11-K with respect to the Company's Stock Bonus Plan will be filed by amendment hereto within 180 days of such plan's fiscal year end as permitted by Rule 15d-21.
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.
INTER-REGIONAL FINANCIAL GROUP, INC.
By: Daniel J. Reuss -------------------- Daniel J. Reuss Senior Vice President and Treasurer Dated: March 23, 1995
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant in the capacities and on the dates indicated:
Signature Title - --------- -----
Irving Weiser President, Chief Executive Officer - ------------------------- (Principal Execitive Officer) Irving Weiser and Director Daniel J. Reuss Senior Vice President, and - ------------------------- Treasurer (Principal Financial Daniel J. Reuss and Accounting Officer)
Susan S. Boren Director - ------------------------- Susan S. Boren
F. Gregory Fitz-Gerald Director By Daniel J. Reuss - ------------------------- ---------------- F. Gregory Fitz-Gerald Daniel J. Reuss Pro Se and as Attorney-in-Fact Richard D. McFarland Chairman of Dated: March 23, 1995 - ------------------------- the Board Richard D. McFarland and Director
Lawrence Perlman Director - ------------------------- Lawrence Perlman
C.A. Rundell, Jr. Director - ------------------------- C.A. Rundell, Jr.
Robert L. Ryan Director - ------------------------- Robert L. Ryan
Arthur R. Schulze, Jr. Director - ------------------------- Arthur R. Schulze, Jr.
David A. Smith Executive Vice President - ------------------------- and Director David A. Smith
INTER-REGIONAL FINANCIAL GROUP, INC. AND SUBSIDIARIES FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULE
As of December 31, 1994 and 1993 and for each of the years in the three-year period ended December 31, 1994
Page ---- Independent Auditors' Report 19
Consolidated Financial Statements:
Consolidated statements of operations 20
Consolidated balance sheets 21
Consolidated statements of shareholders' equity 22 Consolidated statements of cash flows 23
Notes to consolidated financial statements 24
Financial Statement Schedule:
Schedule III - Condensed financial information of the registrant 39
Schedules not listed above have been omitted because they are either not applicable or the required information has been provided in the consolidated financial statements or notes thereto.
SCHEDULE III __ CONDENSED FINANCIAL INFORMATION OF THE REGISTRANT __ (Continued)
INTER-REGIONAL FINANCIAL GROUP, INC. (Parent Company)
NOTES TO CONDENSED FINANCIAL INFORMATION
A. The condensed financial statements of Inter-Regional Financial Group, Inc. (Parent Company), should be read in conjunction with the consolidated financial statements of Inter- Regional Financial Group, Inc., and the notes thereto beginning on Page 20.
B. Investments in subsidiaries are carried at cost plus equity in undistributed earnings. See Note K to consolidated financial statements for information regarding net capital requirements of the broker-dealer subsidiaries which could result in restriction on the ability of the subsidiaries to transfer funds to the parent in the form of loans, advances or cash dividends.
During 1993, the Parent Company received $52 million in loans from two of its subsidiary broker-dealers, Dain Bosworth and Rauscher Pierce Refsnes, in order to capitalize its third broker- dealer, Regional Operations Group, Inc. During 1994 the Parent received $8 million in loans from Dain Bosworth and Rauscher Pierce Refsnes in order to add to Regional Operations Group's capital. See Item 1(c) "Securities Business - Customer Financing" and "Securities Business - Uniform Net Capital Rule."
C. Other Debt:
Other debt is used primarily to finance equipment and building improvements and is payable in monthly and quarterly installments and bears interest at floating rates which approximated 6.9 percent at December 31, 1994. The Parent Company must maintain certain levels of net worth under one of the debt agreements.
Annual principal payments on other debt (excluding obligations under capital leases) during the next five years are as follows: 1995 - $1,546,000; 1996 - $1,621,000; 1997 - $1,260,000; 1998 - $17,000; 1999 - $-0-.
D. Commitments:
The Parent Company has guaranteed $27 million of four-year subordinated bank debt incurred by Dain Bosworth and Rauscher Pierce Refsnes in September and October 1994. See Note G to the consolidated financial statements.
Aggregate minimum rental commitments as of December 31, 1994, are as follows: