PINX:SOHL Southern Trust Securities Holding Corp Quarterly Report 10-Q Filing - 3/31/2012

Effective Date 3/31/2012

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-Q
(Mark One)
 
þ
QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the quarterly period ended March 31, 2012
 
 o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from ______ to ___________
 
Commission file number: 000-52618

SOUTHERN TRUST SECURITIES HOLDING CORP.
(Exact name of registrant as specified in its charter)

Florida
 
651001593
(State or other jurisdiction of
 
(I.R.S Employer
Incorporation or organization)
 
Identification No.)
 
145 Almeria Ave., Coral Gables, Florida
 
33134
(Address of principal executive offices)
 
(Zip Code)

(305) 446-4800
(Registrant’s telephone area, including area code)

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  þ No  o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
 
Large accelerated filer 
o
Accelerated filer 
o
Non-accelerated filer 
o
Smaller reporting company
þ

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes  o No þ

State the number of shares outstanding of each of the issuer’s classes of common equity, as of the latest practicable date:

The registrant had 19,177,828 shares of common stock issued and outstanding on June 6, 2012.

Introductory Note:  The Registrant qualifies as a “smaller reporting company” and has elected to comply with the requirements applicable to smaller reporting companies set forth in Regulation S-K and Form 10-Q.
 


 
 

 
INDEX
 
Item 1.
Consolidated Interim Financial Statements
       
           
 
Consolidated Statements of Financial Condition as of March 31, 2012 and December 31, 2011
    3  
           
 
Consolidated Statements of Operations and Comprehensive Loss for the three and three months ended March 31, 2012 and 2011
    4  
           
 
Consolidated Statements of Changes in Stockholders’ Equity
    5  
           
 
Consolidated Statements of Cash Flows for the three months ended March 31, 2012 and 2011
    6  
           
 
Notes to Consolidated Interim Financial Statements
    7 - 29  
           
Item 2.
Management’s Discussion and Analysis
    30  
           
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
    38  
           
Item 4.
Controls and Procedures
    39  
           
Part II
           
Item 1.
Legal Proceedings
    40  
           
Item 1A.
Risk Factors
    42  
           
Item 2.
Unregistered Sale of Equity Securities and Use of Proceeds
    42  
           
Item 3.
Default Upon Senior Securities
    42  
           
Item 4.
None.
    42  
           
Item 5.
Other Information
    42  
           
Item 6.
Exhibits
    43  
           
Signature Page     44  
 
 
2

 
 
PART I - FINANCIAL INFORMATION
 
ITEM 1. FINANCIAL STATEMENTS
 
SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
 
   
March 31,
   
December 31,
 
   
2012
   
2011
 
   
(Unaudited)
       
ASSETS
           
             
Cash and cash equivalents
  $ 1,475,077     $ 339,445  
                 
Restricted cash
               
                 
Securities owned at fair value
    1,015,696       957,953  
                 
Due from clearing brokers
    3,701,333       4,480,177  
                 
Commissions receivable
    47,849       76,566  
                 
Investment in AR Growth
    22,370       22,370  
                 
Investment in Nexo Emprendimientos, S.A. (see Note 17)
    1,623,035       1,763,855  
                 
Other assets
    28,440       17,322  
                 
Property and equipment, net
    1,567,274       1,555,628  
                 
Total assets   $ 9,481,074     $ 9,213,316  
                 
LIABILITIES AND STOCKHOLDERS' EQUITY
               
                 
Liabilities
               
Accounts payable and accrued expenses
  $ 354,517     $ 290,805  
Payable to customers
    5,159,186       4,715,566  
Notes payable
    685,946       700,739  
                 
Total liabilities
    6,199,649       5,707,110  
                 
Commitments and contingencies (notes 15 and 16)
               
                 
Stockholders' equity
               
Series C 8% convertible preferred stock, no par value, 2.5 million shares authorized,
               
520,000 issued and outstanding
    5,200,000       5,200,000  
Common stock, no par value, 100 million shares authorized; 19,177,826 and 19,177,826
               
shares issued and outstanding at March 31, 2012 and December 31, 2011, respectively
    10,474,760       10,474,760  
Additional paid-in capital
    1,786,390       1,729,538  
Accumulated deficit
    (14,280,615 )     (13,992,111 )
Accumulated other comprehensive loss
    (11,877 )     (18,154 )
                 
Total Southern Trust Securities Holding Corp. and Subsidiaries stockholders' equity
    3,168,658       3,394,033  
Noncontrolling interest
    112,767       112,173  
Total stockholders' equity     3,281,425       3,506,206  
                 
Total liabilities and stockholders' equity   $ 9,481,074     $ 9,213,316  
 
See accompanying notes to consolidated financial statements.
 
3

 
 
SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
 
   
Three Months
   
Three Months
 
   
Ended
   
Ended
 
   
March 31,
   
March 31,
 
   
2012
   
2011
 
   
(Unaudited)
   
(Unaudited)
 
             
             
Revenues
           
Trading income
  $ 582,577     $ 364,803  
Commissions
    91,987       380,336  
Investment banking fees
            3,704  
Managed account fees
    22,600       19,715  
Interest and dividend income
    34,386       9,946  
Other miscellaneous income
    15,321       -  
      746,871       778,504  
                 
Expenses
               
Commissions and clearing fees
    389,254       433,420  
Employee compensation and benefits
    204,439       186,821  
Occupancy
    21,376       16,803  
Communications and market data
    51,199       30,880  
Professional fees
    126,262       117,215  
Travel and entertainment
    15,084       8,688  
Depreciation and amortization
    14,959       15,813  
Interest expense
    12,907       13,980  
Other operational expenses
    58,481       37,709  
      893,961       861,329  
                 
Loss before equity in loss of NEXO Emprendimientos SA
    (147,090 )     (82,825 )
                 
Equity in loss of NEXO Emprendimientos SA
    (140,820 )     (155,777 )
                 
Net loss
    (287,910 )     (238,602 )
                 
Net income attributable to noncontrolling interest
    594       891  
                 
Net loss attributable to Southern Trust Securities Holding Corp. and Subsidiaries
               
    $ (288,504 )   $ (239,493 )
                 
Net loss applicable to common stockholders
  $ (288,504 )   $ (239,493 )
                 
Comprehensive loss:
               
Net loss
  $ (287,910 )   $ (238,602 )
Foreign currency translation adjustment     6,277       11,343  
                 
Total Comprehensive loss
    (281,633 )     (227,259 )
Comprehensive loss attributable to noncontrolling interest
    594       891  
                 
Comprehensive loss attributable to Southern Trust Securities Holding Corp.
  $ (281,039 )   $ (226,368 )
                 
Weighted average common shares outstanding
               
Basic and diluted
    19,177,826       14,333,378  
                 
Net (loss) per common share
               
Basic
  $ (0.02 )   $ (0.02 )
 
See accompanying notes to consolidated financial statements.
 
 
4

 
 
SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLERS' EQUITY
 
   
Preferred Stock
   
Common Stock
   
Additional
Paid-In
   
Accumulated
   
Accumulated
Other
Comprehensive
Income
   
Total
Stockholders'
   
Noncontrolling
   
Total
 
   
Shares
   
Amount
   
Shares
   
Amount
   
Capital
   
Deficit
   
(loss)
   
Equity
   
Interest
   
Equity
 
Balances, January 1, 2010
    520,000     $ 5,200,000       14,333,378     $ 9,002,986     $ 1,357,612     $ (12,865,070 )   $ 2,918     $ 2,698,446     $ 104,320     $ 2,802,766  
                                                                                 
Stock-based compensation
                                    179,379                       179,379               179,379  
                                                                                 
Comprehensive loss:
                                                                               
                                                                                 
         Net income
                                            7,404               7,404       6,876       14,280  
             Foreign currency
                                                                               
               currency adjustment
                                                    (13,920 )     (13,920 )             (13,920 )
                                                                                 
Balances, December 31, 2010
    520,000       5,200,000       14,333,378       9,002,986       1,536,991       (12,857,666 )     (11,002 )     2,871,309       111,196       2,982,505  
                                                                                 
Issuance of common stock
                                                                               
  in private placement
                    2,979,591       1,042,857                               1,042,857               1,042,857  
                                                                                 
Issuance of common stock
                                                                               
  in connection with Nexo investment
                    1,864,857       428,917                               428,917               428,917  
                                                                                 
Stock-based compensation
                                    192,547                       192,547               192,547  
                                                                                 
Dividends to preferred stockholders
                                            (52,000 )             (52,000 )             (52,000 )
                                                                                 
Comprehensive loss:
                                                                               
                                                                                 
         Net loss
                                            (1,082,445 )             (1,082,445 )     977       (1,081,468 )
             Foreign currency
                                                                               
               currency adjustment
                                                    (7,152 )     (7,152 )             (7,152 )
                                                                                 
Balance, December 31, 2011
    520,000     $ 5,200,000       19,177,826     $ 10,474,760     $ 1,729,538     $ (13,992,111 )   $ (18,154 )   $ 3,394,033     $ 112,173     $ 3,506,206  
                                                                                 
Stock based compensation
                                    56,852                       56,852               56,852  
                                                                                 
Comprehensive loss:
                                                                               
                                                                                 
         Net loss
                                            (288,504 )             (288,504 )     594       (287,910 )
             Foreign currency
                                                                               
               currency adjustment
                                                    6,277       6,277               6,277  
Balance, March 31, 2012 (unaudited)
    520,000     $ 5,200,000       19,177,826     $ 10,474,760     $ 1,786,390     $ (14,280,615 )   $ (11,877 )   $ 3,168,658     $ 112,767     $ 3,281,425  
 
See accompanying notes to consolidated financial statements.
 
 
5

 
 
SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
 
   
Three Months
   
Three Months
 
   
Ended
   
Ended
 
   
March 31,
   
March 31,
 
   
2012
   
2011
 
   
(Unaudited)
   
(Unaudited)
 
Cash flows from operating activities
           
             
Net loss
  $ (287,910 )   $ (238,602 )
Adjustments to reconcile net loss to net cash provided by operating activities:
               
Stock-based compensation - employees
    56,852       47,974  
Depreciation and amortization
    14,959       15,813  
Loss in equity of affiliate
    140,820       155,777  
Changes in operating assets and liabilities:
               
Securities owned
    (57,743 )     32,404  
Due from clearing broker
    778,844       (392,892 )
Commissions receivable
    28,717       (65,131 )
Other assets
    (11,118 )     (10,572 )
    Accounts payable and accrued expenses     63,712       72,960  
Payable to custormers
    443,620       291,382  
                 
Net cash provided by operating activities
    1,170,753       (90,887 )
                 
Cash Flows from investing activities
               
                 
Purchases of equipment
    (26,605 )     -  
                 
Net cash used in investing activities
    (26,605 )     -  
                 
Cash flows from financing activities
               
                 
Principal payments on notes payable and capital lease obligations
    (14,793 )     (15,269 )
                 
Net cash flows used in financing activities
    (14,793 )     (15,269 )
                 
Effect of foreign exchange rate changes on cash and cash equivalents
    6,277       11,343  
                 
Net increase (decrease) in cash and cash equivalents
    1,135,632       (94,813 )
                 
Cash and cash equivalents, beginning of period
    339,445       281,878  
                 
Cash and cash equivalents, end of period
  $ 1,475,077     $ 187,065  
                 
Supplementary disclosure of cash flow information:
               
Cash paid during the years for interest
  $ 12,907     $ 13,980  
 
See accompanying notes to consolidated financial statements.
 
 
6

 
 
SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1.  
Basis of Presentation

The following (a) condensed consolidated statement of financial condition as of March 31, 2012, which has been derived from audited financial statements, and (b) the unaudited condensed consolidated interim financial statements included herein have been prepared by Southern Trust Securities Holding Corp. and subsidiaries  (collectively, the “Company”) in accordance with accounting principles generally accepted in the Unites States (“GAAP”) for interim financial information and the instructions to the quarterly report on Form 10-Q and Rule 8-03 of Regulation S-X. We are providing herein the consolidated interim statements of financial condition of Southern Trust Securities Holding Corp. and subsidiaries (collectively the "Company") as of March 31, 2012 and December 31, 2011, and the related consolidated interim statements of operations and comprehensive loss for the three months ended March 31, 2012 and 2011, and cash flows for the three months ended March 31, 2012 and 2011 and the consolidated interim statements of changes in stockholders equity and comprehensive income (loss) for the three months ended March 31, 2012.  Certain information and footnote disclosures normally included in the financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations. The consolidated interim financial statements should be read in conjunction with the Company's consolidated financial statements and related notes contained in the Company's Annual Report on Form 10-K for the year ended December 31, 2011 as filed with the SEC.

The information furnished in this report reflects all adjustments consisting of only normal recurring adjustments, which are in the opinion of management necessary for a fair presentation of the results for the interim periods. The results of operations for the three months ended March 31, 2012 are not necessarily indicative of results that may be expected for the fiscal year ending December 31, 2012.

2.  
Nature of operations

Southern Trust Securities Holding Corp. (the "Company”) owns Southern Trust Securities, Inc. ("STS"), Southern Trust Metals, Inc. (“STM”), Southern Trust Securities Asset Management, Inc. ("STSAM"), and Loreley Overseas Corporation (“LOR”). Additionally, on October 23, 2006, the Company formed Kiernan Investment Corp. (“KIC”) as an international business company in Belize.  KIC has had very limited operations since inception.

The Company contributed $105,653 in cash to form a new company, IPWM, España S.A. ("IPWM Spain") under a partnership agreement with a Swiss Financial Group, International Private Wealth Management, SA (“IPWM, SA”), in exchange for a 50.01% interest and control of the newly created company.  During July 2008, IPWM Spain commenced operations and opened offices in the cities of Barcelona, Spain, San Sebastian, Spain and Marbella, Spain.  IPWM Spain had limited operations for the three months ended March 31, 2012 and the year ended December 31, 2011.

The Company is a Florida corporation and was organized on January 25, 2000.  STS, a Florida corporation, was organized on June 10, 1999 and is registered as an introducing broker/dealer with the Securities and Exchange Commission (“SEC”).  STS is a member of the Financial Industry Regulatory Authority (“FINRA”) and National Futures Association (“NFA”). STS operates as an introducing broker clearing customer trades on a fully disclosed basis through clearing firms.  Under this basis, it forwards all customers transactions to another broker who carries all customers’ accounts and maintains and preserves books and records.  Pershing, LLC currently performs the transaction clearing functions and related services for STS.   STSAM, a Florida corporation formed on November 22, 2005, is a fee-based investment advisory company which offers its services to retail customers. STM, a Florida corporation formed on October 29, 2009, to capitalize on investor interest in the trading of precious metals such as gold, silver, platinum, and palladium.  LOR, a British Virgin Islands corporation, was formed on May 19, 2004, and acts as an international intermediary for STM’s international trading transactions; the corporation had been inactive until 2010.
 
 
7

 
 
SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

3.  
Liquidity

The Company reported a net loss applicable to common shareholders of approximately $288,504 and $239,493 for the three month periods ended March 31, 2012 and 2011, respectively. The Company has not attained a level of revenues sufficient to support recurring expenses.

Should the Company revenues decline from their current levels the Company will need to seek alternative sources of funding to continue its operations.

4.  
Summary of significant accounting policies

Basis of Presentation and Principles of Consolidation
 
The consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”).
 
The accompanying consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries, STS, STM, STSAM, LOR, and KIC.  IPWM Spain’s assets and liabilities are consolidated with those of the Company and the outside investor’s 49.99% interest in IPWM Spain is included in the accompanying consolidated financial statements as a non-controlling interest.  All intercompany balances and transactions have been eliminated in consolidation.

Use of Estimates
 
The preparation of consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect certain reported amounts of assets and liabilities at the date of the consolidated financial statements, as well as their related disclosures.  Such estimates and assumptions also affect the reported amounts of revenues and expenses during the reporting period.  Actual results could differ from those estimates.

Cash and Cash Equivalents
 
The Company considers short-term interest bearing investments with initial maturities of three months or less to be cash equivalents. Cash and cash equivalents consist of cash in banks, free credit on investment accounts and money market accounts.

Government and Other Regulation
 
The business of STS is subject to significant regulation by various governmental agencies and self-regulatory organizations. Such regulation includes, among other things, periodic examinations by these regulatory bodies to determine whether the Company is conducting and reporting its operations in accordance with the applicable requirements of these organizations.
 
 
8

 
 
SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 
4.  
Summary of significant accounting policies (continued)
 
Property and Equipment
 
Property and equipment is stated at cost less accumulated depreciation and amortization.  Improvements are amortized using the straight-line method over the shorter of the estimated useful lives of the respective assets or the lease term. Depreciation is computed using the straight-line method over the estimated useful lives of the assets.  Repairs and maintenance are expensed as incurred while betterments and improvements are capitalized. When property and equipment are retired, sold, or otherwise disposed of, the asset’s carrying amount and related accumulated depreciation are removed from the accounts and any gain or loss is included in operations.

Off-Balance Sheet Arrangements

We were not a party to any off-balance sheet arrangements during the period ended March 31, 2012.  We do not have any interest in limited purpose entities, which include special purpose entities and structured finance entities.

Long-Lived Assets

In accordance with Financial Accounting Standard Board (“FASB”) Accounting Standards Codification (“ASC”) Topic 360 “Property, Plant, and Equipment,” the Company records impairment losses on long-lived assets used in operations when indicators of impairment are present and the undiscounted cash flows estimated to be generated by those assets are less than the assets’ carrying amounts.  There were no impairment charges during the three months ended March 31, 2012 and 2011.

Fair Value of Financial Instruments – Definition and Hierarchy

In accordance with GAAP, fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (i.e., the “exit price”) in an orderly transaction between market participants at the measurement date.

In determining fair value, the Company uses various valuation approaches.  In accordance with GAAP, a fair value hierarchy for inputs is used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available.  Observable inputs are those that market participants would use in pricing the asset or liability based on market data obtained from sources independent of the Company.  Unobservable inputs reflect the Company’s assumptions about the inputs market participants would use in pricing the asset or liability developed based on the best information available in the circumstances.
 
 
9

 

SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

4.  
Summary of significant accounting policies (continued)

Fair Value of Financial Instruments – Definition and Hierarchy (continued)

The fair value hierarchy is categorized into three levels based on the inputs as follows:
 
Level 1 – Inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities the Company has the ability to access.

Level 2 - Valuations based on quoted prices in markets that are not active or for which all significant inputs are observable, either directly or indirectly.
 
Level 3 - Valuations based on inputs that are unobservable and significant to the overall fair value measurement.
 
The availability of valuation techniques and observable inputs can vary from security to security and is affected by a wide variety of factors including, the type of security, whether the security is new and not yet established in the marketplace, and other characteristics particular to the transaction.  To the extent that valuation is based on models or inputs that are less observable or unobservable in the market, the determination of fair value requires more judgment.  Those estimated values do not necessarily represent the amounts that may be ultimately realized due to the occurrence of future circumstances that cannot be reasonably determined.
 
Because of the inherent uncertainty of valuation, those estimated values may be materially higher or lower than the values that would have been used had a ready market for the securities existed. Accordingly, the degree of judgment exercised by the Company in determining fair value is greatest for securities categorized in Level 3. In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, for disclosure purposes, the level in the fair value hierarchy within which the fair value measurement in its entirety falls is determined based on the lowest level input that is significant to the fair value measurement.
 
Fair value is a market-based measure considered from the perspective of a market participant rather than an entity-specific measure.  Therefore, even when market assumptions are not readily available, the Company’s own assumptions are set to reflect those that market participants would use in pricing the asset or liability at the measurement date.  The Company uses prices and inputs that are current as of the measurement date, including periods of market dislocation.  In periods of market dislocation, the observability of prices and inputs may be reduced for many securities.  This condition could cause a security to be reclassified to a lower level within the fair value hierarchy.

Fair values of financial instruments are estimated using relevant market information and other assumptions, as more fully disclosed in Note 6. Fair value estimates involve uncertainties and matters of significant judgment regarding interest rates, credit risk, prepayments, and other factors, especially in the absence of broad markets for particular instruments. Changes in assumptions or in market conditions could significantly affect the estimates.
 
 
10

 

SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

4.  
Summary of significant accounting policies (continued)

Valuation Techniques

The Company values investments in securities that are freely tradable and are listed on a national securities exchange or reported on the NASDAQ national market at their last sales price as of the last business day of the year.

Derivative Contracts

The Company records its derivative activities at fair value. Gains and losses from derivative contracts are included in trading income in the consolidated statements of operations.  Derivative contracts include future and option contracts related to foreign currencies, government bonds and other securities.

The fair value of the derivative contracts traded by the Company is generally based on quoted prices in active markets on national exchanges. The derivative contracts, such as options and futures, which are listed on a national securities exchange or reported on the NASDAQ national market, are generally categorized in Level 1 of the fair value hierarchy.
 
Offsetting of Amounts Related to Certain Contracts

The Company has elected to offset fair value amounts recognized for cash collateral receivables and payables against fair value amounts recognized for net derivative positions executed with the same counterparty under the same master netting arrangement. At March 31, 2012 and December 31, 2011, the Company offset cash collateral receivables of approximately $19,000 and $9,000 against its net derivative positions, respectively.

Broker Receivable and Payable to Customers

As part of its operations STM collects funds from customers and remits the amounts to the respective clearing broker.  The receivable and payable amounts are stated at the amounts transferred.  Upon liquidation of customer positions, STM typically remits the proceeds back to the customer after deducting commission and other fees. As further discussed in Note 5, the Company is dependent upon clearing brokers to satisfy its obligations to the Company in order for the Company to liquidate its payable to the customers.
 
Securities Transactions

Revenues for executing customer securities transactions and associated expenses are recorded as earned and incurred, on a trade date basis. Securities owned are valued at fair value. Unrealized appreciation or depreciation is reflected in income currently.

Commissions

Commissions and related clearing expenses are recorded on a trade-date basis as securities transactions occur.
 
 
11

 

SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

4.  
Summary of significant accounting policies (continued)

Investment Banking Fees
 
Investment banking fees include fees, net of syndication expenses, arising from securities offerings in which the Company acts as an underwriter or agent.  Investment banking revenues also include fees earned in providing financial advisory services.  These revenues are recorded in accordance with the terms of the investment banking agreements.

Managed Account Fees

Managed account fees are primarily earned based on a percentage of assets under management.  Fees are computed and due at specified intervals, generally quarterly and recorded when earned.

Investments-Equity Method

Investee companies that are not consolidated, but over which the Company exercises significant influence, are accounted for under the equity method of accounting. Whether or not the Company exercises significant influence with respect to an Investee depends on an evaluation of several factors including, among others, representation on the Investee company’s board of directors and ownership level, which is generally a 20% to 50% interest in the voting securities of the Investee company. Under the equity method of accounting, an Investee company’s accounts are not reflected within the Company’s Consolidated Statements of Financial Condition and Statements of Operations; however, the Company’s share of the earnings or losses of the Investee company, Nexo Emprendimientos S.A., is reflected in the caption ‘‘Equity in loss of Nexo Emprendimientos, S.A.” in the Consolidated Statements of Operations. The Company’s carrying value in an equity method Investee company is reflected in the caption ‘‘Investment in Nexo Emprendimientos, S.A.” in the Company’s Consolidated Statements of Financial Condition.

As a result of an additional 12.2% interest in Nexo, thereby increasing its level of ownership to 29.5%, the Company changed its method of accounting for this investment from the cost method to the equity method. According to ASC 323-10-35-33, the investment, results of operations (current and prior periods presented), and retained earnings of the investor shall be adjusted retroactively as if the equity method had been in effect during all previous periods in which the investment was held.  The carrying amount of an investment in common stock of an investee that qualifies for the equity method of accounting may differ from the underlying equity in net assets of the investee. The difference shall affect the determination of the amount of the investor's share of earnings or losses of an investee as if the investee were a consolidated subsidiary. However, if the investor is unable to relate the difference to specific accounts of the investee, the difference shall be recognized as goodwill and not be amortized in accordance with Intangibles-Goodwill. However, an equity investor shall recognize its share of any impairment charge recorded by an investee in accordance with the guidance in Investments- Equity method and consider the effect, if any, of the impairment on the investor’s basis difference in the assets giving rise to the investee’s impairment charge.

On March 21, 2012, Nexo executed a debt for equity exchange, which resulted in the issuance of new shares by Nexo, thereby reducing the Company’s level of ownership in Nexo from 29.5% to 25.13%. Subsequent to March 31, 2012, the Company exercised a put option, thereby further reducing its level of ownership in Nexo.  The Company anticipates reducing its level of ownership below 20% by June 30, 2012.
 
 
12

 

SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

4.  
Summary of significant accounting policies (continued)

Investments-Equity Method (continued)

As a result of the method change noted in the prior paragraph, the 2010 investment accumulated deficit was adjusted to give effect to equity method accounting.
 
               
December 31,2010
 
         
Effect of
   
Giving Effect
 
   
December 31, 2010
   
Retrospective
   
to Retrospective
 
   
As originally
   
Application of
   
Application of
 
   
Reported
   
Equity Method
   
Equity Method
 
                   
Investment in Nexo
                 
                   
Emprendimientos, S.A.
  $ 1,250,000     $ (3,131 )   $ 1,246,869  
                         
Accumulated Deficit
    (12,854,535 )     (3,131 )     (12,857,666 )
                         
Equity in income of NEXO Emprendimientos SA
    -       253,623       253,623  
 
               
March 31,2011
 
         
Effect of
   
Giving Effect
 
   
March 31, 2011
   
Retrospective
   
to Retrospective
 
   
As originally
   
Application of
   
Application of
 
   
Reported
   
Equity Method
   
Equity Method
 
                         
Equity in income of NEXO Emprendimientos SA
    -     $ (155,777 )   $ (155,777 )

Income Taxes

The Company files a consolidated income tax return with its subsidiaries.  The Company accounts for income taxes in accordance with FASB ASC Topic 740 “Income Taxes”, which requires accounting for deferred income taxes under the asset and liability method.  Deferred income tax asset and liabilities are computed for difference between the financial statement and tax bases of assets and liabilities that will result in taxable or deductible amounts in the future based on the enacted tax laws and rates applicable to the periods in which the differences are expected to affect taxable income.  Valuation allowances are established, when necessary, to reduce the deferred income tax assets to the amount expected to be realized.

The determination of the Company’s provision for income taxes requires significant judgment, the use of estimates, and the interpretation and application of complex tax laws.  Significant judgment is required in assessing the timing and amounts of deductible and taxable items and the probability of sustaining uncertain
 
 
13

 

SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

4.  
Summary of significant accounting policies (continued)

Income Taxes (continued)

tax positions.  The benefits of uncertain tax positions are recorded in the Company’s consolidated financial statements only after determining a more-likely-than-not probability that the uncertain tax positions will withstand challenge, if any, from tax authorities.  When facts and circumstances change, the Company reassesses these probabilities and records any changes in the consolidated financial statements as appropriate.

In accordance with GAAP, the Company is required to determine whether a tax position of the Company is more likely than not to be sustained upon examination by the applicable taxing authority, including resolution of any related appeals or litigation processes, based on the technical merits of the position.  The tax benefit to be recognized is measured as the largest amount of benefit that is greater than fifty percent likely of being realized upon ultimate settlement.  De-recognition of a tax benefit previously recognized could result in the Company recording a tax liability that would reduce stockholders’ equity.  This policy also provides guidance on thresholds, measurement, de-recognition, classification, interest and penalties, accounting in interim periods, disclosure, and transition that is intended to provide better consolidated financial statement comparability among different entities.  Management’s conclusions regarding this policy may be subject to review and adjustment at a later date based on factors including, but not limited to, on-going analyses of and changes to tax laws, regulations and interpretations thereof.  Generally, the tax filings are no longer subject to income tax examinations by major taxing authorities for years before 2008. Any potential examinations may include questioning the timing and amount of deductions, the nexus of income among various tax jurisdictions and compliance with U.S. federal, state and local tax laws.  The Company's management does not expect that the total amount of unrecognized tax benefits will materially change over the next twelve months.

Interest and Penalty Recognition on Unrecognized Tax Benefits

The Company recognizes interest accrued related to unrecognized tax benefits in interest expense and penalties in other operational expenses. No interest expense or penalties have been recognized as of and for the three month periods ended March 31, 2012 and 2011 and the year ended December 31, 2011.

Foreign Currency Adjustments

The financial position and results of operations of the Company’s foreign subsidiary is measured using the foreign subsidiary’s local currency as the functional currency in accordance with FASB ASC Topic 830, “Foreign Currency Matters.” Revenues and expenses of such subsidiary have been translated into U.S. dollars at average exchange rates prevailing during the period. Assets and liabilities have been translated at the rates of exchange as of the balance sheet date. The resulting translation gain and loss adjustments are recorded directly as a separate component of stockholders’ equity.  Foreign currency translation adjustments resulted in a gain of $6,277 and $11,343 for the three months ended March 31, 2012 and 2011, respectively.

Transaction gains and losses that arise from exchange rate fluctuations on transactions denominated in a currency other than the functional currency are included in the consolidated results of operations as incurred.
 
 
14

 
 
SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

4.  
Summary of significant accounting policies (continued)

Comprehensive Income (Loss)

The Company complies with FASB ASC Topic 220, “Comprehensive Income,” which establishes rules for the reporting and display of comprehensive income (loss) and its components.  FASB ASC Topic 220 requires the Company’s change in foreign currency translation adjustments to be included in other comprehensive loss, and is reflected as a separate component of stockholders’ equity.
 
Fair Value of Financial Instruments
 
The approximate fair value of the mortgage loan as of March 31, 2012 and December 31,211 was $916,000 and $944,000, respectively. The carrying amount of all other financial assets and liabilities that qualify as financial instruments under FASB ASC Topic 825, “Financial Instruments,” approximate their carrying amounts presented in the accompanying consolidated statements of financial condition at March 31, 2012 and December 31, 2011.

Loss Per Common Share

The Company complies with the accounting and disclosure requirements of FASB ASC 260, “Earnings Per Share.” Basic loss per common share is computed by dividing net loss available to common stockholders by the weighted average number of common shares outstanding during the period.  The calculation of diluted net loss per share excludes zero and 4,500 warrants and 2,080,000 shares of common stock issuable upon the conversion of the Series C 8% convertible preferred stock as of March 31, 2012 and 2011, respectively, since their effect is anti-dilutive.

Loss Contingencies

The Company recognizes contingent losses that are both probable and estimable.  In this context, the Company defines probability as circumstances under which events are likely to occur.  In regards to legal cost, we record such costs as incurred.

Funds received from court awarded legal settlements
 
The Company accounts for funds received from court awarded legal settlements on the cash basis.  These funds are reported as miscellaneous income on the consolidated statements of operations.

Investment

The Company classifies its common stock investment in AR Growth Finance Corp. (“AR Growth”) as available-for-sale in accordance with FASB ASC Topic 320, “Investments-Debt and Equity securities.” Available-for-sale investments are carried on the consolidated statements of financial condition at their fair value with the current period adjustments to the carrying value recorded in accumulated other comprehensive income (loss).

Stock-Based Compensation

The Company complies with FASB ASC Topic 718 “Compensation – Stock Compensation,” which establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services.
 
 
15

 
 
SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

4.  
Summary of significant accounting policies (continued)

Stock-Based Compensation (continued)
 
It also addresses transactions in which an entity incurs liabilities in exchange for goods or services that are based on the fair value of the entity’s equity instruments or that may be settled by the issuance of those equity instruments. FASB ASC Topic 718 focuses primarily on accounting for transactions in which an entity obtains employee services in share-based payment transactions.  FASB ASC Topic 718 requires an entity to measure the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award (with limited exceptions).  That cost will be recognized over the period during which an employee is required to provide service in exchange for the award the requisite service period (usually the vesting period).  No compensation costs are recognized for equity instruments for which employees do not render the requisite service.  The grant-date fair value of employee share options and similar instruments will be estimated using option-pricing models adjusted for the unique characteristics of those instruments (unless observable market prices for the same or similar instruments are available).  If an equity award is modified after the grant date, incremental compensation cost will be recognized in an amount equal to the excess of the fair value of the modified award over the fair value of the original award immediately before the modification.  Based on stock options and stock awards that vested during quarter ended March 31, 2012 and 2011, the Company recorded approximately $52,000 and $48,000, respectively, as compensation expense under FASB ASC 718.
 
Nonemployee awards     

The fair value of equity instruments issued to a nonemployee is measured by using the stock price and other measurement assumptions as of the date of either: (i) a commitment for performance by the nonemployee has been reached; or (ii) the counterparty’s performance is complete.  Expenses related to nonemployee awards are generally recognized in the same period as the Company incurs the related liability for goods and services received.  The Company recorded stock compensation of approximately $4,600 and $-0-during the quarter ended March 31, 2012 and 2011, respectively, related to consulting services.

Recently Adopted Accounting Pronouncements
 
On June 16, 2011, the FASB issued ASU No. 2011-05, “Presentation of Comprehensive Income (Topic 220),” which requires companies to report total net income, each component of comprehensive income, and total comprehensive income on the face of the income statement, or as two consecutive statements. The components of comprehensive income will not be changed, nor does the ASU affect how earnings per share is calculated or reported. These amendments will be reported retrospectively upon adoption. The adoption of the ASU had no material impact on the Company’s March 31, 2012 Form 10-Q filing.
 
In May 2011, the FASB issued an accounting standard update which works to achieve common fair value measurement and disclosure requirements in GAAP and International Financial Reporting Standards. The update both clarifies the FASB’s intent about the application of existing fair value guidance, and also changes certain principles regarding measurement and disclosure.  The update is effective prospectively and is effective for annual periods beginning after December 15, 2011.  The adoption of the ASU had no material impact on the Company’s March 31, 2012 Form 10-Q filing.
 
 
16

 

SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 
5.  
Clearing Arrangements

STS, the Company’s broker-dealer subsidiary, has clearing agreements with clearing brokers to provide execution and clearing services on behalf of its customers on a fully disclosed basis. All customer records and accounts are maintained by the clearing brokers. STS maintains a deposit with one of the clearing brokers. A termination fee may apply if the Company were to terminate its relationship with the respective clearing broker.

6.  
Fair value measurements

The Company's assets and liabilities recorded at fair value have been categorized based upon a fair value hierarchy in accordance with GAAP guidance for fair value measurement.  See Note 4 for a discussion of the Company's policies regarding this hierarchy.
 
Cash and cash equivalents, receivables, as well as accounts payable and accrued expenses, and other current liabilities, as reflected in the consolidated financial statements, approximate fair value because of the short-term maturity of these instruments. The estimated fair value of our other long-term debt instruments, approximate their carrying amounts as the interest rates approximate our current borrowing rate for similar debt instruments of comparable maturity, or have variable interest rates.

Fair value estimates are made at a specific point in time, based on relevant market information and information about the financial instrument. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.
 
         
March 31, 2012
   
December 31, 2011
 
   
Fair Value
   
Carrying
   
Fair
   
Carrying
   
Fair
 
   
Hierarchy
   
Amount
   
Value
   
Amount
   
Value
 
                                         
Liabilities:
                                       
                                         
Mortgage payable at 7.28% due 2020
 
Level 3
    $ 685,946     $ 915,835     $ 700,739     $ 943,735  
 
The fair value estimates of these financial instruments were based upon a discounted cash flow analysis taking into consideration current rates.

The Company's financial assets and liabilities measured at fair value on a recurring basis include those securities classified as securities owned on the consolidated statements of financial condition.
 
 
17

 

SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

6.  
Fair value measurements (continued)
 
   
Quoted Prices
                         
   
in Active
   
Significant
                   
   
Markets
   
Other
   
Significant
         
Balance
 
   
for Identical
   
Observable
   
Unobservable
   
Collateral
   
as of
 
   
Assets
   
Inputs
   
Inputs
   
Held
   
March 31,
 
   
(Level 1)
   
(level 2)
   
(Level 3)
   
at Broker
   
2012
 
Assets
                             
Securities owned, at fair value:
                             
Money market
  $ 268,836     $ -     $ -     $ -     $ 268,836  
Options and futures
    -       -       -       19,330       19,330  
Corporate bonds
    520,827       -       -               520,827  
Equity securities
    206,703       -       -       -       206,703  
    $ 996,366     $ -     $ -     $ 19,330     $ 1,015,696  
                                         
Investment in A/R Growth common stock
  $ -     $ -     $ 22,370     $ -     $ 22,370  
 
   
Quoted
                         
   
Prices in Active
   
Significant
                   
   
Markets
   
Other
   
Significant
         
Balance
 
   
For Identical
   
Observable
   
Unobservable
   
Collateral
   
as of
 
   
Assets
   
Inputs
   
Inputs
   
Held
   
December 31,
 
   
(Level 1)
   
(level 2)
   
(Level 3)
   
at Broker
   
2011
 
Assets
                             
Securities owned, at fair value:
                             
Money market
  $ 250,766     $ -     $ -     $ -     $ 250,766  
Options and futures
    -       -       -       8,744       8,744  
Corporate bonds
    501,064       -       -               501,064  
Equity securities
    197,379       -       -       -       197,379  
    $ 949,209     $ -     $ -     $ 8,744     $ 957,953  
                                         
Investment in A/R Growth common stock
  $ -     $ -     $ 22,370     $ -     $ 22,370  
 
 
18

 
 
SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 
6.  
Fair value measurements (continued)

During the year ended December 31, 2010, the Company recognized an impairment loss on its investment in AR Growth based on the excess of the carrying value over the fair value of the investment.  The Company estimated the fair value of the investment to be approximately $ 22,000 based on an analysis of its ownership of outstanding shares, trading volume, and trading prices of A/R Growth.  The fair value measurement of the investment in A/R Growth is categorized as a Level 3 in the fair value hierarchy.

Derivatives

In the normal course of business, the Company utilizes derivative contracts in connection with its proprietary trading activities.  Investments in derivative contracts are subject to additional risks that can result in a loss of all or part of an investment.  The Company’s derivative activities and exposure to derivative contracts are classified by the following primary underlying risks: interest rate, credit, foreign currency exchange rate, commodity price, and equity price risks.  In addition to its primary underlying risks, the Company is also subject to additional counterparty risk due to inability of  its counterparties to meet the terms of their contracts.

Options

The Company is subject to equity price risk in the normal course of pursuing its investment objectives.  Option contracts give the Company the right, but not the obligation, to buy or sell within a limited time, a financial instrument, commodity or currency at a contracted price that may also be settled in cash, based on differentials between specified indices or prices.

The Company is exposed to counterparty risk from the potential that a seller of an option contract does not sell or purchase the underlying asset as agreed under the terms of the option contract.  The maximum risk of loss from counterparty risk to the Company is the fair value of the contracts and the premiums paid to purchase its open option contracts.  The Company considers the credit risk of the intermediary counterparty to its option transactions in evaluating potential credit risk.

Futures Contracts

The Company is subject to equity price risk in the normal course of pursuing its investment objectives. The Company may use futures contracts to gain exposure to, or hedge against, changes in the value of equities. A futures contract represents a commitment for the future purchase or sale of an asset at a specified price on a specified date. At March 31, 2012, there are eight futures contract held and is classified by commodity price risk. At December 31, 2011, the fair value of open contracts amounted to approximately ($500) and is reflected in the Securities Owned at fair value caption of the accompanying consolidated statements of financial condition.
 
 
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SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

7.  
Property and equipment, net

Property and equipment, net consisted of the following at March 31, 2012 and December 31:
 
   
March 31,
   
December 31,
 
   
2012
   
2011
 
             
Building  and improvements
  $ 1,075,942     $ 1,075,942  
Land
    725,000       725,000  
Furniture and fixtures
    75,042       72,178  
Office equipment
    93,393       69,652  
                 
      1,969,377       1,942,772  
                 
Less:  accumulated depreciation and amortization
    (402,103 )     (387,144 )
    $ 1,567,274     $ 1,555,628  
Depreciation and amortization expense was $14,959 and 15,813 for the three month periods ended March 31, 2012 and 2011, respectively.

8.  
Notes Payable

Notes payable consisted of the following at March 31, 2012:
 
Mortgage payable to a bank, secured by the building, monthly payments of $9,207, including interest at 7.28% per annum, due July 20, 2020.   $ 685,946  
         
Maturities of notes payable are approximately as follows at March 31, 2012:
       
         
2012
  $ 46,000  
2013
    65,000  
2014
    70,000  
2015
    76,000  
2016
    81,000  
Thereafter
    348,000  
    $ 686,000  
 
 
20

 

SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

9.  
Income taxes

The Company files a consolidated income tax return with its subsidiaries.  Income taxes are charged by the Company based on the amount of income taxes the subsidiaries would have paid had they filed their own income tax returns.  In accordance with FASB ASC Topic 740, “Accounting for Income Taxes,” allocation of the consolidated income tax expense is necessary when separate financial statements are prepared for the affiliates.  As a result, the Company uses a method that allocates current and deferred taxes to members of the consolidated group by applying the liability method to each member as if it were a separate taxpayer.

The Company had no income tax expense (benefit) for the three month periods ended March 31, 2012 and 2011 and the year ended December 31, 2011. At March 31, 2012, the Company had approximately $5.7 million of net operating losses (“NOL”) carry-forwards for federal and state income purposes.  These losses are available for future years and expire through 2032.  Utilization of these losses may be severely or completely limited if the Company undergoes an ownership change pursuant to Internal Revenue Code Section 382.
 
The Company has taken a full valuation allowance against the other timing differences and the deferred asset attributable to the NOL carry-forwards of approximately $3,080,000 and $3,119,000 at March 31, 2012 and December 31, 2011, respectively, due to the uncertainty of realizing the future tax benefits.
 
10.  
Common stock
 
The Company is authorized to issue 100 million shares of common stock, no par value and 10 million shares of preferred stock of which 2.5 million shares have been designated as Series C 8% convertible preferred stock, no par value.

In June 2011, the Company issued 2,979,591 shares of its no par value common stock for $1,042,857 cash.  These shares were deemed to have been issued pursuant to an exemption provided by Section 4(2) of the Act, which exempts from registration “transactions by an issuer not involving any public offering.”

In June 2011, the Company issued 1,864,857 shares of its no par value common stock at an agreed value of $0.23 per share, in connection with its purchase of an additional 12.2% equity investment in Nexo Emprendimientos S.A. (“Nexo”), a credit card and consumer loan financing company based in Sunchales, Argentina.  These shares were deemed to have been issued pursuant to an exemption provided by Section 4(2) of the Act, which exempts from registration “transactions by an issuer not involving any public offering.”
 
 
21

 

SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

11.  
Preferred stock

No Series C preferred stock was sold during the three months ended March 31, 2012 or the year ended December 31, 2011. The Series C 8% Convertible Preferred Stock provides for non-cumulative dividends at the rate of 8% per year.  Subject to certain restrictions, the Series C 8% Convertible Preferred Stock shall automatically convert into shares of the Company’s Common Stock upon any of the following events: (i) the sale by the Corporation of all or substantially all of its assets; (ii) the consummation of a merger or a consolidation in which the Corporation is not the survivor or (iii) the sale or exchange of all or substantially all of the outstanding shares of the Corporation’s common stock.  The Series C 8% Convertible Preferred Stock is redeemable, at the option of the Company, for cash in the amount of $11.00 per share of Series C Convertible Preferred Stock or for shares of the Company’s Common Stock in accordance with a conversion rate.

The holders of preferred stock have liquidation preferences over the holders of the Company’s common stock.

12.  
Stock options

The Company accounts for its stock option awards under FASB ASC Topic 718 “Compensation—Stock compensation.” The fair value of each option is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted average assumptions used for each grant for the three months ended March 31, 2012; risk free interest rate between 1.95% and 2.01%, no dividend yield, expected lives of ten years and volatility between 140.32% and 157.01%. The expected term of stock option awards granted is generally based up the “simplified” method for “plain vanilla” options discussed in SEC Staff Accountng Bulletin (“SAB”) No. 107, as amended by SAB No. 110. The expected volatility is derived from historical volaltility of the Company’s stock on the OTCBB for a period that matches the expected term of the option.  The risk free interest rate is the yield from a Treasury bond or note corresponding to the expected term of the option.
 
Options vest ratably between one and ten years and are exercisable over ten years. The Company granted 950,000 options to employees during the three month period ended March 31, 2012. The Company recognized approximately $52,000 and $48,000, respectively, of stock-based compensation expense related to the issuance of options to employees during the quarters ended March 31, 2012 and 2011. This expense is reported within Employee compensation and benefits in the accompanying consolidated statements of operations.
 
The Company has not paid cash dividends and does not expect to pay cash dividends in the future.  Forfeiture rates are based on management’s estimates.
 
 
22

 
 
SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

12.  
Stock options (continued)
 
Options Outstanding
   
Options Exercisable
 
                                 
     
Number
   
Weighted
         
Number
       
     
Outstanding
   
Average
   
Weighted
   
Exercisable
   
Weighted
 
     
at
   
Remaining
   
Average
   
at
   
Average
 
Exercise
   
March 31,
   
Contractual
   
Exercise
   
March 31,
   
Exercise
 
Price
   
2012
   
Life
   
Price
   
2012
   
Price
 
                                 
$ 0.25       4,250,000       8.5     $ 0.25       984,583     $ 0.25  
$ 0.35       950,000       9.8     $ 0.35       37,500     $ 0.35  
$ 0.50       200,000       4.8     $ 0.50       200,000     $ 0.50  
$ 0.75       100,000       6.7     $ 0.75       65,000     $ 0.75  
$ 1.00       400,000       5.0     $ 1.00       400,000     $ 1.00  
$ 1.50       60,000       6.5     $ 1.50       49,000     $ 1.50  
          5,960,000       8.3     $ 0.35       1,736,083     $ 0.51  
 
 
23

 

SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 
12.  
Stock options (continued)

The following is a summary of all option activity through March 31, 2012:
 
               
Weighted
       
               
Average
       
   
Number of
   
Weighted
   
Remaining
   
Aggregate
 
   
Shares
   
Average
   
Term
   
Instrinsic
 
   
Outstanding
   
Price
   
(in years)
   
Value
 
                         
                         
Options outsanding at December 31, 2011
    5,010,000     $ 0.34       8.3     $ -  
                                 
Granted in 2012
    950,000     $ 0.35                  
Canceled in 2012
    -       -                  
                                 
Options outstanding at March 31, 2012
    5,960,000     $ 0.35                  
                                 
Excercisable at March 31, 2012
    1,736,083     $ 0.51       7.2     $ -  
 
         
Weighted Average
 
   
Stock
   
Grant Date
 
   
Options
   
Fair Value
 
             
Options unvested, December 31, 2011
    3,491,667     $ 0.25  
                 
Options granted
    950,000     $ 0.13  
                 
Options vested
    (217,750 )   $ 0.24  
                 
Options unvested, March 31, 2012
    4,223,917     $ 0.23  
 
 
24

 
 
SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 
12.  
Stock options (continued)

Cash flows resulting from excess tax benefits are to classified as part of cash flows from financing activities.  Excess tax benefits are realized tax benefits from tax deductions of exercised options in excess of the deferred tax asset attributable to the compensation cost for such options.  There were no options exercised during the three months ended March 31, 2012 and 2011; therefore, the Company did not receive any cash payments or recognize any tax benefits from options exercised during the three month periods ended March 31, 2012 and 2011.

13.  
Net capital requirement

STS is a member of FINRA and is subject to the SEC Uniform Net Capital Rule 15c3-1.  This Rule requires the maintenance of minimum net capital and requires that the ratio of aggregate indebtedness to net capital, both as defined, shall not exceed 15 to 1 and that equity capital may not be withdrawn or dividends paid if the resulting net capital ratio would exceed 10 to 1.  STS is also subject to the Commodity Futures Trading Commission’s minimum financial requirements which require that STS maintain net capital, as defined for securities brokers and dealers, equal to or in excess of the greater of $45,000 or the amount of net capital required by the SEC Rule 15c3-1. At March 31, 2012, STS’s net capital was approximately $687,000 which was approximately $587,000 in excess of its minimum requirement of $100,000. STS’s ratio of aggregate indebtedness to net capital was 0.28 to 1 as of March 31, 2012.

14.  
Exemption from Rule 15c3-3

The Company is exempt from the SEC Rule 15c3-3 pursuant to the exemptive provision under sub-paragraph (k) (2) (ii) and, therefore, is not required to maintain a “Special Reserve Bank Account for the Exclusive Benefit of Customers.”
 
 
25

 

SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

15.  
Concentration of risk

Off-balance Sheet Risk

Pursuant to a clearance agreement, certain of the Company’s subsidiaries introduce all of its securities transactions to a clearing broker on a fully-disclosed basis.  All of the customers' money balances and long and short security positions are carried on the books of the clearing broker. In addition, STM has entered into several clearance agreements with clearing brokers. In accordance with the clearance agreements, certain of the Company’s subsidiaries have agreed to indemnify the clearing broker for losses, if any, which the clearing brokers may sustain from carrying securities transactions introduced by the Company.

In accordance with industry practice and regulatory requirements, certain of the Company’s subsidiaries and the clearing broker monitor collateral on the customers' accounts. In addition, the receivable from clearing broker is pursuant to the clearance agreement.

The maximum potential amount of future payments that certain of the Company’s subsidiaries could be required to make under these indemnifications cannot be estimated.  However, the Company believes that it is unlikely it will have to make material payments under these arrangements and has not recorded any contingent liability in the consolidated financial statements for these indemnifications.
 
In the normal course of business, the Company’s customer activities involve the execution, settlement and financing of various customer securities transactions.  These activities may expose the Company to off-balance sheet risk in the event the customer or other broker is unable to fulfill its contracted obligations and the Company has to purchase or sell the financial instrument underlying the contract at a loss.

Credit Risk

The Company maintains its cash in financial institutions, which at times, may exceed federally insured limits.  The Company has not experienced any losses in such accounts and believes it is not subject to any significant credit risk on cash.

16.  
Commitments and contingencies

Legal Claims

In the ordinary course of business, incidental to the Company’s operations, the Company retains outside counsel to address claims with which the Company is involved. As of March 31, 2012   , the Company was not aware of any legal proceedings, which management has determined to be material to its business operations; however, the Company has been named in the following two actions which it is vigorously defending and which actions, based on management's assessment in coordination with outside litigation counsel, the Company believes to be frivolous and without merit:

On December 7, 2010, the Company filed a FINRA arbitration against Joseph Meuse, Rosewood Securities, LLC, BP Capital, LLC, and China Values Technology, Inc.  The FINRA filing was amended on January 18, 2011, before FINRA commenced serving the Respondents.  The Company seeks to recover compensation it was entitled to receive for acting as placement agent under an agreement involving an offering of securities in a reverse merger into a publicly traded company, Respondent China Valves, which closed on May 18, 2009.
 
 
26

 

SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

16.  
Commitments and contingencies  (continued)

Legal Claims (continued)

The Agreement provided that the Company would receive 23,490 warrant shares of China Valves, but it only received 5,739 warrant shares.  Thus, the Company has sued the Respondents to recover the additional 17,751 warrant shares that it should have received on May 18, 2009, their value, lost profits, and lost opportunity costs caused by the failure to timely deliver the shares as required. The Respondents, in response to the Company’s pre-filing demands for payment, each blamed the other for the claimed failures to timely deliver the missing warrant shares.

On April 7, 2011, the Company entered into a Settlement Agreement (“Agreement”) with BP Capital, LLC, for which Joseph Meuse as managing member (“BP Capital”) and Joseph Meuse (“Meuse”) an individual.  The Agreement provides that Meuse will make a payment to the Company in the amount of $125,000, in full settlement with Meuse and BP Capital.  The payment will be made by Meuse to the Company in five (5) installments, with the first payment of $25,000 due on the date of the signing of the Agreement and four successive payments of $25,000 due thirty (30) days following each prior payment until the full payment has been made.  As of March 31, 2012, the Company has received a total of $118,000 from Meuse under the terms of the Agreement.  Of the $118,000, $15,000 and $103,000 was received during the year three month period ended March 31, 2012 and year ended December 31, 2011, respectively. These amounts were included in the applicable consolidated statement of operations as other miscellaneous income. The remaining balance of $7,000 was received in May 2012.

Employment Agreements
 
During the three months ended March 31, 2012, the Company entered into employment agreements with certain employees, which provides that they will be paid on a profit sharing and/or commission basis, based on the results of the business unit managed by these employees.  In connection with the agreement, the Company granted stock options to the two employees totaling 950,000 shares of its common stock with an option price of $0.35 per shares vesting equally over three years.
 
On January 4, 2007, the Company entered into employment agreements with several of its key executives.  The agreements are for two to three-year duration and renew automatically for one year unless either party provides notice of non-renewal 30 days prior to the anniversary date of the agreement or the agreement is earlier terminated in accordance with its terms.  Two of the agreements are for two-year duration with total compensation of $247,000 per year. The third agreement is for three-year duration with total compensation of $150,000 per year.  In July 2009, two of our executive officers, Robert Escobio, CEO, and Kevin Fitzerald, president, agreed to take a reduction in salary, commencing in July 2009, with the right to request payment pursuant to the terms of their employment agreements, when the Company’s financial condition will allow it to do so.

As part of the agreements, the Company granted 4,500,000 shares of common stock vesting over five years to one of the executives, reduced to 3,500,000 shares pursuant to a stock waiver agreement entered into on November 18, 2009; on August 4, 2010, the executive waived his right, title, and interest to vest the remaining 3,000,000 shares, the balance after 500,000 were vested and issued in December 2009. Also, as part of the
 
 
27

 
 
SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

16.  
Commitments and contingencies  (continued)

Employment Agreements (continued)

employment agreements, the Company granted 922,389 shares vesting equally over eighteen months to another executive, and 200,000 options to the third executive exercisable on December 31, 2007 for a period of ten years.

One of the key executive’s agreements provides for a lump-sum payment of $5 million and the repurchase of all shares based on their fair market value, if his employment is terminated as a result of a change of control.  Should the executive’s employment be terminated for any other reason, the Company would have to pay him $2 million and repurchase all of his shares based on their fair market value.  Lastly, another agreement provides for a lump-sum payment of $1 million to one of the executives if his employment is terminated due to change of control.

17.  
Investment in AR Growth Finance Corp. and Nexo Emprendimientos S.A.

The following presents statements of operations for Nexo Emprendimientos S.A. (“Nexo”).  Such summary information has been provided herein based upon the individual significance of the unconsolidated equity investments to the consolidated information of the Company.
 
   
For the Three Months Ended
 
   
March 31,
 
   
2012
   
2011
 
             
Revenues
  $ 577,873     $ 871,604  
Cost of services
    (1,138,298 )     (1,763,998 )
Operating loss
    (560,424 )     (892,394 )
Net loss
    (560,366 )     (892,487 )
 
The difference, of approximately $1 million, between the amount at which an investment is carried and the amount of underlying equity in net assets, represents goodwill assets recognized by the Company.

18.  
Subsequent events

On May 10, 2012, the Company entered into an Amendment Agreement ("Amendment") to the Stock Exchange Agreement ("Agreement") dated August 4, 2009, between the Company and ProBenefit S.A. ("ProBenefit"). The Amendment grants the Company the right to exercise its Put Option (as defined in the Agreement) to sell shares of Nexo Emprendimientos S.A. ("Nexo") held by the Company to Probenefit on a different schedule than that outlined in the Agreement. Specifically, the Company has exercised its option to sell to Probenefit the 2,184,250 Nexo shares ("First Exercise Group") held by the Company for a purchase price of $1,200,000. This purchase price will be paid as follows: (1) $100,000 on May 11, 2012 (payment of $100,000 was received on the scheduled payment date), (2) $400,000 on June 30, 2012, (3) $200,000 on July 15, 2012 and (4) $500,000 on October 15, 2012.
 
 
28

 

SOUTHERN TRUST SECURITIES HOLDING CORP. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

18.  
Subsequent events (continued)

The remaining shares subject to the Put Option consists of 3,458,396 Nexo shares ("Second Exercise Group") owned by the Company. The Company can sell these shares to Probenefit for a total purchase price of $1,900,000 at any time, in whole or part, during the 12-month period of September 1, 2014 through September 1, 2015. The purchase price for this Second Exercise Group will be paid to the Company by Probenefit in ten quarterly installments beginning on the date of exercise.

As a result of the Company's sale of the First Exercise Group, the Company now owns 19.42% of the outstanding shares on Nexo.
 
 
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ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS

The following Management’s Discussion and Analysis of Financial Condition and Results of Operations contain “forward-looking statements” including statements about our beliefs and expectations. There are many risks and uncertainties that could cause actual results to differ materially from those discussed in the forward-looking statements.
 
All forward-looking statements are based on information available to us on the date of this filing, and we assume no obligation to update such statements. The following discussion should be read in conjunction with the consolidated financial statements and the related notes included in this Annual Report on Form 10-K.

We were formed as a Florida corporation on January 14, 1998. We are the holding company for STS, which is registered as an introducing broker-dealer with the SEC and is a member of, or subject to regulations of, the SEC, FINRA, the NFA, the CFTC, SIPC and the MSRB. We are also the holding company for both: (i) STSAM a fee-based investment advisory service registered with the State of Florida, which offers its services to retail customers, (ii) Southern Trust Metals, a trader of primarily gold, silver, platinum and palladium, and (iii) Loreley Overseas Corporation (“LOR”), which acts as an international intermediary for STM’s international trading transactions.

Our principal business is the business of STS. We offer clients access to all major domestic and international securities and options exchanges, as well as trading in fixed income products, corporate, government, agencies, municipals, and emerging market debt. We also offer fixed and variable annuities and life insurance. We currently offer hundreds of domestic and international mutual funds, as well as retirement plans. We manage portfolios for individuals, pension funds, retirement plans, foundations, trusts and corporations. Our corporate services facilitate restricted stock dispositions and employee stock option exercises. Our offshore services give clients access to foreign trusts and corporations, which they can use to structure their financial planning.
 
Our investment banking group provides traditional as well as innovative securities transaction structures. Our focus is on merger and acquisition services, private placements convertible into publicly-traded shares, and private placements bridging to public offerings through reverse mergers into publicly-traded shell corporations.
 
Southern Trust Metals, Inc. (STM) was formed to capitalize on investor interest in the trading of precious metals such as gold, silver, platinum, and palladium.  STS is a separate subsidiary of STSHC and separately managed.  STM will work with its own clients to generate new business through the innovative trading of metals.

Critical Accounting Policies and Estimates

Our consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States, which require us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our estimates, including those related to the valuation of securities owned and deferred tax assets. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results could differ from those estimates. We believe the following critical accounting policies affect our more significant judgments and estimates used in the preparation of our consolidated financial statements.
 
 
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Valuation of Investments in Securities at Fair Value – Definition and Hierarchy

FASB ASC Topic 820 “Fair Value Measurements and Disclosures” provides a framework for measuring fair value under generally accepted accounting principles in the United States and requires expanded disclosures regarding fair value measurements.  ASC 820 defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (i.e., the “exit price”) in an orderly transaction between market participants at the measurement date. 
 
In determining fair value, the Company uses various valuation approaches.  In accordance with generally accepted accounting principles (“GAAP”), a fair value hierarchy for inputs is used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available.  Observable inputs are those that market participants would use in pricing the asset or liability based on market data obtained from sources independent of the Company.  Unobservable inputs reflect the Company’s assumptions about the inputs market participants would use in pricing the asset or liability developed based on the best information available in the circumstances.

The fair value hierarchy is categorized into three levels based on the inputs as follows:

Level 1 – Inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities the Company has the ability to access.
 
Level 2 - Valuations based on quoted prices in markets that are not active or for which all significant inputs are observable, either directly or indirectly.
 
Level 3 - Valuations based on inputs that are unobservable and significant to the overall fair value measurement.
 
The availability of valuation techniques and observable inputs can vary from security to security and is affected by a wide variety of factors including, the type of security, whether the security is new and not yet established in the marketplace, and other characteristics particular to the transaction.  To the extent that valuation is based on models or inputs that are less observable or unobservable in the market, the determination of fair value requires more judgment.  Those estimated values do not necessarily represent the amounts that may be ultimately realized due to the occurrence of future circumstances that cannot be reasonably determined.
 
Because of the inherent uncertainty of valuation, those estimated values may be materially higher or lower than the values that would have been used had a ready market for the securities existed. Accordingly, the degree of judgment exercised by the Company in determining fair value is greatest for securities categorized in Level 3. In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, for disclosure purposes, the level in the fair value hierarchy within which the fair value measurement in its entirety falls is determined based on the lowest level input that is significant to the fair value measurement.

Fair value is a market-based measure considered from the perspective of a market participant rather than an entity-specific measure.  Therefore, even when market assumptions are not readily available, the Company’s own assumptions are set to reflect those that market participants would use in pricing the asset or liability at the measurement date.  The Company uses prices and inputs that are current as of the measurement date, including periods of market dislocation.  In periods of market dislocation, the observability of prices and inputs may be reduced for many securities.  This condition could cause a security to be reclassified to a lower level within the fair value hierarchy.
 
 
31

 

Valuation Techniques

The Company values investments in securities that are freely tradable and are listed on a national securities exchange or reported on the NASDAQ national market at their last sales price as of the last business day of the year. At March 31, 2012, all of the Company’s investments classified as securities owned on the consolidated statements of financial condition are classified as Level 1 investments on the fair value hierarchy table in Note 6, Fair value measurements. The Company’s investment in A/R Growth’s common stock is classified as Level 3.

Clearing Arrangements.

STS does not carry accounts for customers or perform custodial functions related to customers’ securities. STS introduces all of its customer transactions, which are not reflected in these financial statements, to its primary clearing broker, which maintains the customers’ accounts and clears such transactions. These activities may expose us to off-balance-sheet risk in the event that customers do not fulfill their obligations with the primary clearing broker, as we have agreed to indemnify our primary clearing broker for any resulting losses. We continually assess risk associated with each customer who is on margin credit and record an estimated loss when we believe collection from the customer is unlikely. Our losses incurred from these arrangements were not significant for the three month periods ended March 31, 2012 and 2011.

Stock-Based Compensation
The Company complies with FASB ASC Topic 718 “Compensation – Stock Compensation,” which establishes standards for the accounting for transactions in which an entity exchanges its equity instruments for goods or services.  It also addresses transactions in which an entity incurs liabilities in exchange for goods or services that are based on the fair value of the entity’s equity instruments or that may be settled by the issuance of those equity instruments. FASB ASC Topic 718 focuses primarily on accounting for transactions in which an entity obtains employee services in share-based payment transactions.  FASB ASC Topic 718 requires an entity to measure the cost of employee services received in exchange for an award of equity instruments based on the grant-date fair value of the award (with limited exceptions).  That cost will be recognized over the period during which an employee is required to provide service in exchange for the award the requisite service period (usually the vesting period).  No compensation costs are recognized for equity instruments for which employees do not render the requisite service.  The grant-date fair value of employee share options and similar instruments will be estimated using option-pricing models adjusted for the unique characteristics of those instruments (unless observable market prices for the same or similar instruments are available).  If an equity award is modified after the grant date, incremental compensation cost will be recognized in an amount equal to the excess of the fair value of the modified award over the fair value of the original award immediately before the modification.  Based on stock options and stock awards that vested during the three month periods ended March 31, 2012 and 2011, the Company recorded approximately $52,000 and $48,000, respectively, as compensation expense under FASB ASC 718.

Revenue Recognition.

Commissions and related clearing expenses are recorded on a trade-date basis as security transactions occur. Riskless principal transactions in regular-way trades are recorded on the trade date, as if they had settled.
 
 
32

 
 
Revenue Recognition (continued).

Investment banking revenue includes private placement agency fees earned through our participation in private placements of equity and convertible debt securities and fees earned as financial advisor in mergers and acquisitions and similar transactions. Merger and acquisition fees and other advisory service revenue are generally earned and recognized only upon successful completion of the engagement. Unreimbursed expenses associated with private placement and advisory transactions are recorded as expenses as incurred.

Asset management (or managed accounts) fees are primarily earned based on a percentage of assets under management.  Fees are computed and due at specified intervals, generally quarterly and recorded when earned.  We also offer fee-based investment advisory services to our customers and independent registered investment advisors through our wholly-owned subsidiary, STSAM.

Deferred Tax Valuation Allowance.

We account for income taxes in accordance with the provision of FASB ASC Topic 740, “Income Taxes,” which requires accounting for deferred income taxes under the asset and liability method.  Deferred income tax asset and liabilities are computed for difference between the financial statement and tax bases of assets and liabilities that will result in taxable or deductible amounts in the future based on the enacted tax laws and rates applicable to the periods in which the differences are expected to affect taxable income.  Valuation allowances are established, when necessary, to reduce the deferred income tax assets to the amount expected to be realized.  We have concluded that it is more likely than not that our deferred tax assets as of March 31, 2012 and December 31, 2011 will not be realized based on the scheduling of deferred tax assets and projected taxable income. The amount of the deferred tax assets actually realized, however, could vary if there are differences in the timing or amount of future reversals of existing deferred tax assets or changes in the actual amounts of future taxable income. Should we determine that we will be able to realize all or part of the deferred tax asset in the future, an adjustment to the deferred tax asset will be recorded in the period such determination is made.

Net Capital Requirement.

Our broker-dealer subsidiary, STS, is a member of FINRA and is subject to the SEC Uniform Net Capital Rule 15c3-1.  This rule requires the maintenance of minimum net capital and requires that the ratio of aggregate indebtedness to net capital, both as defined, shall not exceed 15 to 1 and that equity capital may not be withdrawn or dividends paid if the resulting net capital ratio would exceed 10 to 1.  STS is also subject to the Commodity Futures Trading Commission’s minimum financial requirements which requires it to maintain net capital, as defined for securities brokers and dealers, equal to or in excess of the greater of $45,000 or the amount of net capital required by the SEC Rule 15c3-1. At March 31, 2012, STS’s net capital was approximately $687,000, which was approximately $587,000 in excess of its minimum requirement of $100,000. STS’s ratio of aggregate indebtedness to net capital was 0.28 to 1 as of March 31, 2012.

Commissions and Clearing Costs.

Commissions and clearing costs include commissions paid to our employee registered representatives, independent contractor arrangements and fees paid to clearing entities for certain clearance and settlement services. Commissions paid to registered representatives vary according to the contracted payout percentage and clearing costs generally fluctuate based on revenues generated on trades and on the volume of transactions.
 
 
33