Cohen & Co Inc. - Quarter Report: 2021 June (Form 10-Q)

Forward-Looking Statements 

 

This Quarterly Report on Form 10-Q contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933, as amended or the Securities Act, and Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act. Forward-looking statements discuss matters that are not historical facts. Because they discuss future events or conditions, forward-looking statements may include words such as “anticipate,” “believe,” “estimate,” “intend,” “could,” “should,” “would,” “may,” “seek,” “plan,” “might,” “will,” “expect,” “predict,” “project,” “forecast,” “potential,” “continue,” negatives thereof or similar expressions. Forward-looking statements speak only as of the date they are made, are based on various underlying assumptions and current expectations about the future and are not guarantees. Such statements involve known and unknown risks, uncertainties, and other factors that may cause our actual results, level of activity, performance, or achievement to be materially different from the results of operations or plans expressed or implied by such forward-looking statements.

 

These forward-looking statements are found at various places throughout this Quarterly Report on Form 10-Q and include information concerning possible or assumed future results of our operations, including statements about the following subjects:

 

 

These forward-looking statements represent our intentions, plans, expectations, assumptions, and beliefs about future events and are subject to risks, uncertainties, and other factors. Many of those factors are outside of our control and could cause actual results to differ materially from the results expressed or implied by those forward-looking statements. In light of these risks, uncertainties, and assumptions, the events described in the forward-looking statements might not occur or might occur to a different extent or at a different time than we have described. You should consider the areas of risk and uncertainty described above and discussed under “Item 1A — Risk Factors” included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2020. Actual results may differ materially as a result of various factors, some of which are outside our control, including the following:

You are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this Quarterly Report on Form 10-Q. All subsequent written and oral forward-looking statements concerning other matters addressed in this Quarterly Report on Form 10-Q and attributable to us or any person acting on our behalf are expressly qualified in their entirety by the cautionary statements contained or referred to in this Quarterly Report on Form 10-Q. Except to the extent required by law, we undertake no obligation to update or revise any forward-looking statements, whether as a result of new information, future events, a change in events, conditions, circumstances, or assumptions underlying such statements, or otherwise.

Certain Terms Used in this Quarterly Report on Form 10-Q 

In this Quarterly Report on Form 10-Q, unless otherwise noted or as the context otherwise requires, the “Company,” “we,” “us,” and “our” refer to Cohen & Company Inc. (formerly Institutional Financial Markets, Inc.), a Maryland corporation, and its subsidiaries on a consolidated basis; and “Cohen & Company, LLC” (formerly IFMI, LLC) or the “Operating LLC” refer to the main operating subsidiary of the Company. 

“JVB Holdings” refers to JVB Financial Holdings, L.P., a wholly owned subsidiary of the Operating LLC; “JVB” refers to J.V.B. Financial Group, LLC, a wholly owned broker-dealer subsidiary of JVB Holdings;  “CCFEL” refers to Cohen & Company Financial (Europe) Limited, a wholly owned subsidiary of the Operating LLC regulated by the Central Bank of Ireland ( the “CBI”).

“Securities Act” refers to the Securities Act of 1933, as amended; and “Exchange Act” refers to the Securities Exchange Act of 1934, as amended.

PART I. FINANCIAL INFORMATION 

ITEM 1. FINANCIAL STATEMENTS.

COHEN & COMPANY INC.

CONSOLIDATED BALANCE SHEETS 

(Dollars in Thousands) 

( 

 

See accompanying notes to unaudited consolidated financial statements.

COHEN & COMPANY INC. 

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)

(Dollars in Thousands, except share or per share information)

(Unaudited)

 

 

See accompanying notes to unaudited consolidated financial statements.

COHEN & COMPANY INC. 

CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY

(Dollars in Thousands, except share or per share information)

(Unaudited)

 

   

  

See accompanying notes to unaudited consolidated financial statements.

 

COHEN & COMPANY INC. 

Consolidated Statements of Cash Flows

(Dollars in Thousands)

(Unaudited)

 

 

 

See accompanying notes to unaudited consolidated financial statements.

COHEN & COMPANY INC.

Notes to Consolidated Financial Statements

(Dollars in Thousands, except share and per share information) 

(Unaudited)

 

1. ORGANIZATION AND NATURE OF OPERATIONS

Organizational History 

Cohen Brothers, LLC (“Cohen Brothers”) was formed on October 7, 2004 by Cohen Bros. Financial, LLC (“CBF”). Cohen Brothers was established to acquire the net assets of CBF’s subsidiaries (the “Formation Transaction”): Cohen Bros. & Company, Inc.; Cohen Frères SAS; Dekania Investors, LLC; Emporia Capital Management, LLC; and the majority interest in Cohen Bros. & Toroian Investment Management, Inc. The Formation Transaction was accomplished through a series of transactions occurring between March 4, 2005 and May 31, 2005.

From its formation until December 16, 2009, Cohen Brothers operated as a privately-owned limited liability company. On December 16, 2009, Cohen Brothers completed its merger (the “AFN Merger”) with a subsidiary of Alesco Financial Inc. (“AFN”), a publicly traded real estate investment trust.

As a result of the AFN Merger, AFN contributed substantially all of its assets into Cohen Brothers in exchange for newly issued units of membership interests directly from Cohen Brothers. In addition, AFN received additional Cohen Brothers membership interests directly from its members in exchange for AFN common stock. In accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”), the AFN Merger was accounted for as a reverse acquisition, and Cohen Brothers was deemed to be the accounting acquirer. As a result, all of AFN’s assets and liabilities were required to be revalued at fair value as of the acquisition date. The remaining units of membership interests of Cohen Brothers that were not held by AFN were included as a component of non-controlling interest in the consolidated balance sheets.

Subsequent to the AFN Merger, AFN was renamed Cohen & Company Inc. In January 2011, it was renamed again as Institutional Financial Markets, Inc. (“IFMI”) and on September 1, 2017 it was renamed again as Cohen & Company Inc.  Effective January 1, 2010, the Company ceased to qualify as a REIT.

The Company 

The Company is a financial services company specializing in fixed income markets and more recently, the SPAC markets. As of June 30, 2021, the Company had $2.14 billion in assets under management (“AUM”) of which 60.3% or $1.29 billion, was in collateralized debt obligations (“CDOs”). The remaining portion of AUM is from a diversified mix of Investment Vehicles (as defined herein).

In these financial statements, the “Company” refers to Cohen & Company Inc. and its subsidiaries on a consolidated basis. Cohen & Company, LLC or the “Operating LLC” refers to the main operating subsidiary of the Company.  “Cohen Brothers” refers to the pre-AFN Merger Cohen Brothers, LLC and its subsidiaries. “AFN” refers to the pre-merger Alesco Financial Inc. and its subsidiaries. When the term “Cohen & Company Inc.” is used, it is referring to the parent company itself. “JVB Holdings” refers to J.V.B. Financial Holdings, LP; “JVB” refers to J.V.B. Financial Group LLC, a broker-dealer subsidiary; “CCFEL” refers to Cohen & Company Financial (Europe) Limited, a subsidiary regulated by the Central Bank of Ireland in Ireland.

The Company’s business is organized into the following three business segments.

Capital Markets: The Company’s Capital Markets business segment consists primarily of fixed income sales, trading, matched book repurchase agreement (“repo”) financing, new issue placements in corporate and securitized products, and advisory services. The Company’s fixed income sales and trading group provides trade execution to corporate investors, institutional investors, mortgage originators, and other smaller broker-dealers. The Company specializes in a variety of products, including but not limited to: corporate bonds, asset backed securities (“ABS”), mortgage-backed securities (“MBS”), residential mortgage-backed securities (“RMBS”), CDOs, collateralized loan obligations (“CLOs”), collateralized bond obligations (“CBOs”), collateralized mortgage obligations (“CMOs”), municipal securities, to-be-announced securities (“TBAs”) and other forward agency MBS contracts, Small Business Administration (“SBA”) loans, U.S. government bonds, U.S. government agency securities, brokered deposits and certificates of deposit (“CDs”) for small banks, and hybrid capital of financial institutions including trust preferred securities (“TruPS”), whole loans, residential transition loans, (“RTLs”), and other structured financial instruments. The Company also offers execution and brokerage services for equity products. The Company operates its capital markets activities primarily through its subsidiaries: JVB in the United States, and CCFEL in Europe.

Asset Management: The Company’s Asset Management business segment manages assets within CDOs, managed accounts, joint ventures, and investment funds (collectively referred to as “Investment Vehicles”). A CDO is a form of secured borrowing. The borrowing is secured by different types of fixed income assets such as corporate or mortgage loans or bonds. The borrowing is in the form of a securitization, which means that the lenders are actually investing in notes backed by the assets. In the event of default, the lenders will have recourse only to the assets securing the loan. The Company’s Asset Management business segment includes its fee-based asset management operations, which include ongoing base and incentive management fees.

Principal Investing: The Company’s Principal Investing business segment is comprised of investments that the Company holds related to its SPAC franchise and other investments the Company has made for the purpose of earning an investment return rather than investments made to support the Company’s trading, matched book repo, or other Capital Markets business segment activities.  These investments are included in the Company’s other investments, at fair value; other investments sold, not yet purchased; and investments in equity method affiliates in the Company’s consolidated balance sheets.

The Company generates its revenue by business segment primarily through the following activities.

Capital Markets

Asset Management

Principal Investing

2. BASIS OF PRESENTATION

The financial statements of the Company included herein were prepared in conformity with U.S. GAAP for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. The information furnished includes all adjustments and accruals of a normal recurring nature, which, in the opinion of management, are necessary for a fair presentation of results for the interim month periods. All intercompany accounts and transactions have been eliminated in consolidation. The results for the six months ended June 30, 2021 and 2020 are not necessarily indicative of the results for the entire year or any subsequent interim period. These financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2020.

Capitalized terms used herein without definition have the meanings ascribed to them in the Annual Report on Form 10-K for the year ended December 31, 2020.  

3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

A. Adoption of New Accounting Standards

In June 2016, the FASB issued ASU 2016-13, Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.  This ASU requires that financial instruments recorded as assets and at amortized cost as well as certain securities accounted for as available for sale be presented at the net amount expected to be collected.  The ASU requires the recording of a valuation allowance that is deducted from amortized cost and is based on expected credit losses.  This ASU does not apply to financial assets carried at fair value.  Therefore, this ASU does not apply to any financial asset that the Company classifies as investments-trading; other investments, at fair value; trading securities sold, not yet purchased; and other investments sold, not yet purchased.  However, reverse repurchase agreements are not carried at fair value and fall within the scope of this ASU.  ASC 326-20-35-6 contains simplifying provisions that apply to reverse repurchase agreements.  Because the Company requires its reverse repurchase counterparty to provide liquid collateral at all times (which is continually adjusted based on current market values) at an amount greater than the carrying value of the reverse repurchase agreement, the Company is allowed to assume zero credit losses and no valuation allowance is recorded.  If, for some reason, the amount of collateral should fall below the carrying value of the reverse repurchase agreement, the total valuation allowance recorded is limited to that difference. The Company adopted the provisions of ASU 2016-13, effective January 1, 2020.

In January 2017, the FASB issued ASU 2017-04, Intangibles – Goodwill and Other (Topic 350):  Simplifying the Test for Goodwill Impairment. The amendments in this ASU eliminate Step 2 from the goodwill impairment test. The annual or interim goodwill impairment test is performed by comparing the fair value of a reporting unit with its carrying amount.  An impairment charge should be recognized for the amount by which the carrying amount exceeds the reporting unit’s fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit.  The Company adopted the provisions of ASU 2017-04, effective January 1, 2020.  The Company recorded an impairment of goodwill for the six months ended June 30, 2020.  See note 12.  This impairment charge was not the result of the adoption of ASU 2017-04. 

In August 2018, the FASB issued ASU 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework – Changes to the Disclosure Requirements for Fair Value Measurement.  The ASU modifies the disclosure requirements in Topic 820, by removing certain disclosure requirements related to the valuation hierarchy, modifying existing disclosure requirements related to measurement uncertainty and adding new disclosure requirements such as disclosing the changes in unrealized gains and losses for the period included in other comprehensive income for recurring level 3 fair value measurements held at the end of the reporting period and disclosing the range and weighted average of significant unobservable inputs used to develop level 3 fair value measurements. This ASU is effective for public companies for annual reporting periods and interim periods within those annual periods beginning after December 15, 2019. The Company’s adoption of the provisions of ASU 2018-13, effective January 1, 2020, did not have an effect on the Company’s consolidated financial statements.

In October 2018, the FASB issued ASU 2018-17, Consolidation (Topic 810):  Target Improvements to Related Party Guidance for Variable Interest Entities.  The ASU made targeted changes to the related party consolidation guidance. The new guidance changes how entities evaluate decision-making fees under the variable interest entity guidance. To determine whether decision-making fees represent a variable interest, an entity will need to consider indirect interests held through related parties under common control on a proportionate basis under the new guidance, rather than in their entirety, as has been the case under current guidance. The guidance is effective in annual periods beginning after December 15, 2019 and interim periods within those fiscal years. The Company’s adoption of the provisions of ASU 2018-17, effective January 1, 2020, did not have an effect on the Company’s consolidated financial statements.

 

In November 2018, the FASB issued ASU 2018-18, Collaborative Arrangements (Topic 808): Clarifying the Interaction Between Topic 808 and Topic 606.  The ASU provides more comparability in the presentation of revenue for certain transactions between collaborative arrangement participants. It accomplishes this by allowing organizations to only present units of account in collaborative arrangements that are within the scope of the revenue recognition standard together with revenue accounted for under the revenue recognition standard.  The parts of the collaborative arrangement that are not in the scope of the revenue recognition standard should be presented separately from revenue accounted for under the revenue recognition.  The Company’s adoption of the provisions of ASU 2018-18, effective January 1, 2020, did not have an effect on the Company’s consolidated financial statements.

 

In November 2019, the FASB issued ASU 2019-08, Compensation – Stock Compensation (Topic718) and Revenue from Contracts with Customers (Topic 606): Codification Improvements– Share-Based Consideration Payable to a Customer.  This ASU requires companies to measure and classify (on the balance sheet) share-based payments to customers by applying the guidance in Topic 718, Compensation—Stock Compensation.  As a result, the amount recorded as a reduction in revenue would be measured based on the grant-date fair value of the share-based payment. The Company’s adoption of the provisions of ASU 2019-08, effective January 1, 2020,  did not have an effect on the Company’s consolidated financial statements.

 

In December 2019, the FASB issued ASU 2019-12, Income Taxes (Topic 740):  Simplifying the Accounting for Income Taxes. This ASU is intended to simplify accounting for income taxes. It removes specific exceptions to the general principles in Topic 740 and amends existing guidance to improve consistent application.  The Company’s adoption of the provisions of ASU 2019-12, effective January 1, 2021, did not have an effect on the Company’s consolidated financial statements.

 

In January 2020, the FASB issued ASU 2020-01, Investments—Equity Securities (Topic 321), Investments—Equity Method and Joint Ventures (Topic 323), and Derivatives and Hedging (Topic 815)—Clarifying the Interactions between Topic 321, Topic 323, and Topic 815.  This ASU clarifies certain accounting topics impacted by Topic 321 Investments-Equity Securities. These topics include measuring equity securities using the measurement alternative, how the measurement alternative should be applied to equity method accounting, and certain forward contracts and purchased options which would be accounted for under the equity method of accounting upon settlement or exercise. The Company’s adoption of the provisions of ASU 2020-01, effective January 1, 2021, did not have an effect on the Company’s consolidated financial statements.

In March 2020, the FASB issued ASU 2020-04, Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting. This ASU provides temporary optional guidance to ease the burden in accounting for reference rate reform by providing optional expedients and exceptions for applying generally accepted accounting principles to contract modifications and hedging relationships, subject to meeting certain criteria, that reference LIBOR or another reference rate expected to be discontinued.  The ASU is intended to help stakeholders during the global market-wide reference rate transition period and will be in effect for a limited time through December 31, 2022. The Company’s adoption of the provisions of ASU 2020-04, effective March 12, 2020, did not have an effect on the Company’s consolidated financial statements.

  

B. Recent Accounting Developments 

In August 2020, the FASB issued ASU 2020-06, Debt—Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging—Contracts in Entity's Own Equity (Subtopic 815-40):  Accounting for Convertible Instruments and Contracts in an Entity's Own Equity.  This ASU simplifies accounting for convertible instruments by removing major separation models currently required.  The ASU removes certain settlement conditions that are required for equity contracts to qualify for the derivative scope exception.  The ASU also simplifies the diluted earnings per share (EPS) calculation in certain areas. This ASU is effective for fiscal years beginning after December 15, 2023, including interim periods within those fiscal years.  The Company is currently evaluating the new guidance to determine the impact it may have on its consolidated financial statements. 

In October 2020, the FASB issued ASU 2020-08, Codification Improvements to Subtopic 310-20, Receivables—Nonrefundable Fees and Other Costs.  The ASU clarifies that an entity should reevaluate whether a callable debt security is within the scope of ASC paragraph 310-20-35-33 for cash reporting period. This ASU is effective for fiscal years beginning after December 15, 2021, including interim periods within fiscal years beginning after December 15, 2022.  The Company is currently evaluating the new guidance to determine the impact it may have on its consolidated financial statements. 

In October 2020, the FASB issued 2020-10, Codification Improvements.  The ASU affects a wide variety of Topics in the Codification. The ASU, among other things, contains amendments that improve consistency of the Codification by including all disclosure guidance in the appropriate Disclosure Section.  Many of the amendments arose because the FASB provided an option to give certain information either on the face of the financial statements or in the notes to financial statements and that option only was included in the Other Presentation Matters Section of the Codification. The option to disclose information in the notes to financial statements should have been codified in the Disclosure Section as well as the Other Presentation Matters Section (or other Section of the Codification in which the option to disclose in the notes to financial statements appears). The amendments are effective for annual periods beginning after December 15, 2021, and interim periods within annual periods beginning after December 15, 2022.  The Company is currently evaluating the new guidance to determine the impact it may have on its consolidated financial statements. 

In May 2021, the FASB issued 2021-04, Earnings Per Share (Topic 260), Debt—Modifications and Extinguishments (Subtopic 470-50), Compensation (Topic 718), and Derivatives and Hedging—Contracts in Entity's Own Equity (Subtopic 815-40):  Issuer's Accounting for Certain Modifications or Exchanges of Freestanding Equity-Classified Written Call Options. This ASU provides guidance for a modification or an exchange of a freestanding equity-classified written call option that is not within the scope of another topic. It specifically addresses: (1) how an entity should treat a modification of the terms or conditions or an exchange of a freestanding equity-classified written call option that remains equity classified after modification or exchange; (2) how an entity should measure the effect of a modification or an exchange of a freestanding equity-classified written call option that remains equity classified after modification or exchange; and (3) how an entity should recognize the effect of a modification or an exchange of a freestanding equity-classified written call option that remains equity classified after modification or exchange. This ASU is effective for fiscal years beginning after December 15, 2021.  The Company is currently evaluating the new guidance to determine the impact it may have on its consolidated financial statements. 

C. Fair Value of Financial Instruments

The following methods and assumptions were used by the Company in estimating the fair value of its financial instruments. These determinations were based on available market information and appropriate valuation methodologies. Considerable judgment is required to interpret market data to develop the estimates and, therefore, these estimates may not necessarily be indicative of the amount the Company could realize in a current market exchange. The use of different market assumptions and/or estimation methodologies may have a material effect on the estimated fair value amounts. Refer to note 8 for a discussion of the valuation hierarchy with respect to investments-trading; other investments, at fair value; other investments sold, not yet purchased; and derivatives held by the Company. 

 

Cash equivalents: Cash equivalents are carried at historical cost, which is assumed to approximate fair value. The estimated fair value measurement of cash equivalents is classified within level 1 of the valuation hierarchy.

Investments-trading: These amounts are carried at fair value. The fair value is based on either quoted market prices of an active exchange, independent broker market quotations, market price quotations from third- party pricing services, or valuation models when quotations are not available.

Other investments, at fair value: These amounts are carried at fair value. The fair value is based on quoted market prices of an active exchange, independent broker market quotations, or valuation models when quotations are not available.  In the case of investments in alternative investment funds, fair value is generally based on the reported net asset value of the underlying fund.

Other investments sold, not yet purchased:  These amounts are carried at fair value. The fair value is based on quoted market prices of an active exchange, independent broker market quotations, or valuation models when quotations are not available.

Receivables under resale agreements: Receivables under resale agreements are carried at their contracted resale price, have short-term maturities, and are repriced frequently or bear market interest rates and, accordingly, these contracts are at amounts that approximate fair value. The estimated fair value measurements of receivables under resale agreements are based on observations of actual market activity and are generally classified within level 2 of the valuation hierarchy.

Trading securities sold, not yet purchased: These amounts are carried at fair value. The fair value is based on quoted market prices of an active exchange, independent market quotations, market price quotations from third party pricing services, or valuation models when quotations are not available.

Securities sold under agreements to repurchase: The liabilities for securities sold under agreements to repurchase are carried at their contracted repurchase price, have short-term maturities, and are repriced frequently or bear market interest rates and accordingly, these contracts are carried at amounts that approximate fair value. The estimated fair value measurements of securities sold under agreements to repurchase are based on observations of actual market activity and are generally classified within level 2 of the valuation hierarchy.

Redeemable financial instruments: The liabilities for redeemable financial instruments are carried at their redemption value, which approximates fair value. The estimated fair value measurement of the redeemable financial instruments is classified within level 3 of the valuation hierarchy. 

Debt: These amounts are carried at outstanding principal less unamortized discount and deferred financing costs. However, a substantial portion of the debt was assumed in the AFN Merger and recorded at fair value as of that date. As of June 30, 2021 and December 31, 2020, the fair value of the Company’s debt was estimated to be $61,930 and $62,496, respectively. The estimated fair value measurements of the debt are generally based on discounted cash flow models prepared by the Company’s management primarily using discount rates for similar instruments issued to companies with similar credit risks to the Company and are generally classified within level 3 of the value hierarchy.

Derivatives: These amounts are carried at fair value. Derivatives may be included as a component of investments-trading; trading securities sold, not yet purchased; other investments, at fair value; and other investments, sold not yet purchased. The fair value is generally based on quoted market prices on an exchange that is deemed to be active for derivative instruments such as foreign currency forward contracts and Eurodollar futures.  For derivative instruments, such as TBAs and other extended settlement trades, the fair value is generally based on market price quotations from third party pricing services.

 

 

4. OTHER RECENT BUSINESS TRANSACTIONS OR EVENTS 

COVID 19 / Impairment of Goodwill 

 

In March 2020, the World Health Organization declared the outbreak of a novel coronavirus (COVID-19) as a pandemic, which continues to spread throughout the United States. The spread of COVID-19 has caused significant volatility in domestic and international markets. There is on-going uncertainty around the breadth and duration of business disruptions related to COVID-19, as well as its impact on the U.S. and international economies.  While the Company cannot fully assess the impact COVID-19 will have on all of its operations at this time, there are certain impacts that the Company has identified:

 

 

In 2021, medical professionals developed COVID-19 vaccines and governments began to distribute them globally, which is expected to reduce virus spread and further aid economic recovery.  Despite broad improvements in the global fight against the COVID-19 virus, the Company will likely be impacted by the pandemic in other ways which the Company cannot reliably determine.  The Company will continue to monitor market conditions and respond accordingly. 

The Company applied for and received a $2,166 loan under the Paycheck Protection Program (PPP) of the Coronavirus Aid, Relief, and Economic Security ("CARES") Act.  The Company carefully considered the eligibility requirements for PPP loans as well as supplemental guidance regarding the PPP beyond the applicable statute issued from time to time by government agencies and certain government officials. The Company was eligible for a PPP loan because it had fewer than 100 employees at the time of the loan. Further, although the Company is public and listed on the NYSE American stock exchange, the Company’s market capitalization is small, and the Company believes that it did not have access to the public capital markets at the time. In part due to the PPP loan, the Company does not anticipate any significant workforce reduction or reductions in compensation levels in the near future. However, the Company will continue to carefully monitor revenue levels to assess whether compensatory or other cost-cutting measures might be necessary. On September 23, 2020, the Company applied for forgiveness of the PPP loan.  On June 21, 2021, the Company received notification that the U.S. Small Business Administration, as administrator of the PPP, had approved the Company’s PPP loan forgiveness application for $2,127 and all accrued interest on the PPP loan, leaving the Company with a remaining PPP loan balance of $39. The Company repaid the remaining balance, plus accrued interest, on June 25, 2021, at which point the PPP loan balance was reduced to zero.  See note 17.

The 2020 Senior Notes 

On January 31, 2020, the Operating LLC entered into a note purchase agreement with each of JKD Capital Partners I LTD, a New York corporation (“JKD Investor”), and RN Capital Solutions LLC, a Delaware limited liability company (“RNCS”).  The JKD Investor is owned by Jack DiMaio, the vice chairman of the Company’s board of directors, and his spouse.

 

Pursuant to the note purchase agreements, JKD Investor and RNCS each purchased a senior promissory note in the principal amount of $2,250 (for an aggregate investment of $4,500).  The senior promissory notes bear interest at a fixed rate of 12% per annum and mature on January 31, 2022.  On February 3, 2020, pursuant to the note purchase agreement, the Operating LLC used the proceeds received from the issuance of the senior promissory notes to repay in full all amounts outstanding under the senior promissory note, dated September 25, 2019, issued by the Company to Pensco Trust Company, Custodian fbo Edward E. Cohen IRA in the principal amount of $4,386 (the “Cohen IRA Note”).  The Cohen IRA Note was included as a portion of the 2019 Senior Notes outstanding as of December 31, 2019.  The Cohen IRA Note was fully paid and extinguished on February 3, 2020.  Subsequent to this repayment, $2,400 of the 2019 Senior Notes remain outstanding.  On September 25, 2020, the Company amended and restated the 2019 Senior Notes to extend the maturity date of the remaining $2,400 to  September 25, 2021. See note 17 for details regarding the 2019 Notes. 

Insurance SPAC

The Operating LLC is the manager of Insurance Acquisition Sponsor, LLC (“IAS”) and Dioptra Advisors, LLC (“Dioptra” and, together with IAS, the “Insurance SPAC Sponsor Entities”).  The Insurance SPAC Sponsor Entities were sponsors of Insurance Acquisition Corp. ("Insurance SPAC"), a special purpose acquisition company formed for the purpose of effecting a merger, capital stock exchange, asset acquisition, stock purchase, reorganization, or similar business combination with one or more businesses.

On June 29, 2020, Insurance SPAC entered into an Agreement and Plan of Merger (the “Insurance SPAC Merger Agreement”) with IAC Merger Sub, Inc., a Delaware corporation and direct wholly owned subsidiary of Insurance SPAC (“Insurance SPAC Merger Sub”), and Shift Technologies, Inc., a Delaware corporation (“SFT”).  On October 13, 2020, Insurance SPAC Merger Sub was merged (the “Insurance SPAC Merger”) with and into SFT. In connection with the Insurance SPAC Merger, the Insurance SPAC changed its name from “Insurance Acquisition Corp.” to “Shift Technologies, Inc.” and, on October 15, 2020, the Insurance SPAC’s NASDAQ trading symbol changed from "INSU" to “SFT.” The Insurance SPAC Merger was approved by the Insurance SPAC’s stockholders at a special meeting of stockholders held on October 13, 2020.

Upon the closing of the Insurance SPAC Merger, the Insurance SPAC Sponsor Entities held 375,000 shares of SFT’s Class A Common Stock, par value $0.0001 per share (“SFT Class A Common Stock”), and 187,500 warrants (“SFT Warrants”) to purchase an equal number of shares of SFT Class A Common Stock for $11.50 per share (such SFT Class A Common Stock and SFT Warrants, collectively, the “Placement Securities”) as a result of the 375,000 placement units which the Insurance SPAC Sponsor Entities had purchased in a private placement that occurred simultaneously with the Insurance SPAC’s initial public offering on March 22, 2019.  Further, upon the closing of the Insurance SPAC Merger, the Insurance SPAC Sponsor Entities collectively held an additional 4,497,525 shares of SFT Class A Common Stock as a result of its previous purchase of founder shares of the Insurance SPAC.  In general, when founder shares and placement shares are discussed as a group, the Company refers to them as "Sponsor Shares."  Of the 375,000 placement units, 122,665 were allocable to the Operating LLC.  Of the 4,497,525 founder shares, 2,019,721 were allocable to the Operating LLC.  

As of the closing of the Insurance SPAC Merger, the Company continued to consolidate the Insurance SPAC Sponsor Entities. Prior to the closing, the Company treated the consolidated Insurance SPAC Sponsor Entities’ investment in the Insurance SPAC as an equity method investment.  Effective upon the closing of the Insurance SPAC Merger:

Subsequent to the closing of the Insurance SPAC Merger, any change in the fair value of the shares held by the Insurance SPAC Sponsor Entities has been recorded as a component of principal transactions and other income.  The Company concurrently records a corresponding non-controlling interest entry related to the Sponsor Shares distributable to the non-controlling interest holders in the Insurance SPAC Sponsor Entities.  No adjustment is made to the equity-based compensation expense recorded as of the closing of the Insurance SPAC Merger.  Rather, all post-merger changes in value related to Sponsor Shares distributable to the non-controlling interest holders in the Insurance SPAC Sponsor Entities are recorded as non-controlling interest expense.  

During the six months ended June 30, 2021, the Insurance SPAC Sponsor Entities distributed all the unrestricted and restricted shares held to its members including the Operating LLC.  The portion of such SFT shares that was distributed to members other than the Operating LLC were treated as an in-kind non-controlling interest distribution.  Subsequent to that distribution, the Company will continue to record any change in the fair value of the SFT shares held by the Operating LLC as a component of principal transactions and other income.  However, no offsetting entry to non-controlling interest is necessary subsequent to the non-controlling interest distribution.  

Concurrently with the closing of the Insurance SPAC Merger, a subsidiary of the Operating LLC, INSU Pipe Sponsor, LLC, purchased 600,000 shares of SFT Class A Common Stock at a purchase price per share of $10.00 pursuant to a subscription agreement that such subsidiary executed at the time of the execution of the Insurance SPAC Merger Agreement. The Company's interest in INSU Pipe Sponsor LLC entitled it to an allocation of 350,000 shares of SFT Class A Common Stock.  During 2020, the Company consolidated INSU Pipe Sponsor LLC, and recorded principal transactions and other income for the full 600,000 shares and then non-controlling interest expense or income for the 250,000 shares not owned by the Company.  In December 2020, the shares of SFT Class A Common Stock were registered for sale and INSU Pipe Sponsor, LLC distributed the shares to the non-controlling interest holders resulting in INSU Pipe Sponsor, LLC being 100% owned by the Operating LLC.  INSU Pipe Sponsor, LLC was dissolved in the first quarter of 2021, and the Company's 350,000 shares of SFT class A common stock were transferred to the Operating LLC or other wholly owned subsidiaries of the Operating LLC. 

The following table details the impact of all the entries associated with the Insurance SPAC during the three and six months ended June 30, 2021.  This table excludes any tax impact.  

As of  June 30, 2021, the Operating LLC's total investment in SFT was $16,039, which is included as a component of other investments, at fair value.  This fair value is broken out as follows:

SFT's closing shares price on June 30, 2021 was $8.58 per share.  

INSU Acquisition Corp. II ("Insurance SPAC II")

The Operating LLC is the manager of Insurance Acquisition Sponsor II, LLC (“IAS II”) and Dioptra Advisors II, LLC (“Dioptra II” and, together with IAS II, the “Insurance SPAC II Sponsor Entities”). The Insurance SPAC II Sponsor Entities were sponsors of INSU Acquisition Corp. II (“Insurance SPAC II”), a blank check company that sought to effect a merger, capital stock exchange, asset acquisition, stock purchase, reorganization or similar business combination with one or more businesses (each a “Insurance SPAC II Business Combination”). 

On November 24, 2020, Insurance SPAC II entered into an Agreement and Plan of Merger and Reorganization (the “Insurance SPAC II Merger Agreement”) with INSU II Merger Sub Corp., a Delaware corporation and direct wholly owned subsidiary of Insurance SPAC II (“Insurance SPAC II Merger Sub”), and MetroMile, Inc., a Delaware corporation (at the time, named MetroMile Operating Company) (“MetroMile”). The Insurance SPAC II Merger Agreement provided for, among other things, the acquisition of MetroMile by Insurance SPAC II pursuant to the proposed merger of Insurance SPAC II Merger Sub with and into MetroMile with MetroMile continuing as the surviving entity and a direct wholly owned subsidiary of Insurance SPAC II (the “Insurance SPAC II Merger”).  On February 9, 2021, the Insurance SPAC II Merger was consummated and Insurance SPAC II changed its name to MetroMile.   

Upon closing of the Insurance SPAC II Merger, the Insurance SPAC II Sponsor Entities received a total of 6,669,667 founder shares and 452,500 placement units. On April 16, 2021, of the founder shares, 3,414,875 shares of MILE Class A Common Stock were distributed to the non-controlling interest holders of the Insurance SPAC II Sponsor Entities and 3,254,792 shares of MILE Class A Common Stock were distributed to the Operating LLC. All of the placement units were distributed to the non-controlling interest holders of the Insurance SPAC II Sponsor Entities. 

Each placement unit consists of one share of Insurance SPAC II Common Stock and one-third of one warrant (the “Insurance SPAC II Warrant”).  Each whole Insurance SPAC II Warrant entitles the holder to purchase one share of Insurance SPAC II common stock for $11.50 per share.  Of the 6,669,667 founders shares, (i) 1,569,333 founder shares were freely transferable and saleable at the closing as of the Insurance SPAC II Merger, (ii) 2,550,167 founder shares will become freely transferable and saleable at such time as MetroMile's stock price is greater than $15.00 per share for any period of 20 trading days out of 30 consecutive trading days; (iii) 2,550,167 founder shares will become freely transferable and saleable at such time as MetroMile's stock price is greater than $17.00 per share for any period of 20 trading days out of 30 consecutive trading days.

As of the closing of the Insurance SPAC II Merger, the Company continued to consolidate the Insurance SPAC II Sponsor Entities. Prior to the closing, the Company treated the consolidated Insurance SPAC Sponsor Entities’ investment in the Insurance SPAC II as an equity method investment.  Effective upon the closing of the Insurance SPAC II Merger:

Subsequent to the closing of the Insurance SPAC II Merger through April 16, 2021, any change in the fair value of the shares held by the Insurance SPAC II sponsor Entities was recorded as a component of principal transactions and other income.  The Company concurrently recorded a corresponding non-controlling interest entry related to the Sponsor Shares distributable to the non-controlling interest holders in the Insurance SPAC Sponsor II Entities.  No adjustment was made to the equity-based compensation expense recorded as of the closing of the Insurance SPAC II Merger.  Rather, all post-merger changes in value related to Sponsor Shares distributable to the non-controlling interest holders in the Insurance SPAC II Sponsor Entities were recorded as non-controlling interest expense. 

On April 16, 2021, the Insurance SPAC II Sponsor Entities distributed all the unrestricted and restricted MetroMile shares held to its members including the Operating LLC.  The portion of such MetroMile shares that was distributed to members other than the Operating LLC was treated as an in-kind non-controlling interest distribution.  Subsequent to that distribution, the Company will continue to record any change in the fair value of the MetroMile shares held by it as a component of principal transactions and other income.  However, no offsetting entry to non-controlling interest is necessary subsequent to the non-controlling interest distribution.  

The following table details the impact of all the entries associated with the Insurance SPAC II during the three and six months ended June 30, 2021.  This table excludes any tax impact.  

The Operating LLC's total investment in MetroMile of $22,227 as of June 30, 2021 is included as a component of other investments, at fair value in our consolidated balance sheet. These values are broken out as follows:

MetroMile's closing share price on June 30, 2021 was $9.15 per share. 

INSU Acquisition Corp III ("Insurance SPAC III")

The Operating LLC is the manager of Insurance Acquisition Sponsor III, LLC (“IAS III”) and Dioptra Advisors III, LLC (together with IAS III, the “Insurance SPAC III Sponsor Entities”). The Insurance SPAC III Sponsor Entities are sponsors of INSU Acquisition Corp. III ("Insurance SPAC III").  On December 22, 2020, Insurance SPAC III completed the sale of 25,000,000 units (the “Insurance SPAC III Units”) in its initial public offering which included 3,200,000 units issued pursuant to the underwriters’ over-allotment option.

Each Insurance SPAC III Unit consists of one share of Insurance SPAC III's Class A common stock, par value $0.0001 per share (“Insurance SPAC III Common Stock”), and one-third of one Insurance SPAC III warrant (each, an “Insurance SPAC III Warrant”), where each whole Insurance SPAC III Warrant entitles the holder to purchase one share of Insurance SPAC III Common Stock for $11.50 per share. The Insurance SPAC III Units were sold in the IPO at an offering price of $10.00 per Unit, for gross proceeds of $250,000 (before underwriting discounts and commissions and offering expenses). Pursuant to the underwriting agreement in the IPO, Insurance SPAC III granted the underwriters in the IPO (the “Insurance SPAC III Underwriters”) a 45-day option to purchase up to 3,270,000 additional Insurance SPAC III Units solely to cover over-allotments, if any; and on December 21, 2020, the Insurance SPAC III Underwriters notified the Company that they were partially exercising the over-allotment option for 3,200,000 Insurance SPAC III Units and waiving the remainder of the over-allotment option. Immediately following the completion of the IPO, there were an aggregate of 34,100,000 shares of Insurance SPAC III Common Stock issued and outstanding.  If the Insurance SPAC III fails to consummate a business combination within the first 24 months following the IPO, its corporate existence will cease except for the purposes of winding up its affairs and liquidating its assets.

The Insurance SPAC III Sponsor Entities purchased an aggregate of 575,000 of placement units in Insurance SPAC III in a private placement that occurred simultaneously with the IPO for an aggregate of $5,750, or $10.00 per placement unit. Each placement unit consists of one share of Insurance SPAC III Common Stock and one-third of one warrant (the “Insurance SPAC III Placement Warrant”). The Insurance SPAC III placement units are identical to the Insurance SPAC III Units sold in the IPO except (i) the shares of Insurance SPAC III Common Stock issued as part of the placement units and the Insurance SPAC III Warrants will not be redeemable by Insurance SPAC III, (ii) the Insurance SPAC III Warrants may be exercised by the holders on a cashless basis, and (iii) the shares of Insurance SPAC III Common Stock issued as part of the placement units, together with the Insurance SPAC III Warrants, are entitled to certain registration rights. Subject to certain limited exceptions, the placement units (including the underlying Insurance SPAC III Warrants and Insurance SPAC III Common Stock and the shares of Insurance SPAC III Common Stock issuable upon exercise of the Insurance SPAC III Warrants) will not be transferable, assignable or salable until 30 days after the completion of the Insurance SPAC III’s initial business combination.

A total of $250,000 of the net proceeds from the private placement and the IPO (including approximately $10,600 of the deferred underwriting commission from the IPO) were placed in a trust account. Except for the withdrawal of interest to pay taxes (or dissolution expenses if a business combination is not consummated), none of the funds held in the trust account will be released until the earlier of (i) the completion of Insurance SPAC III’s initial business combination, (ii) in connection with a stockholder vote to amend Insurance SPAC III’s amended and restated certificate of incorporation (A) to modify the substance or timing of Insurance SPAC III’s obligation to redeem 100% of its public shares if it does not complete an initial business combination within 24 months from the completion of the IPO or (B) with respect to any other provision relating to stockholders’ rights or pre-initial business combination activity, or (iii) the redemption of all of Insurance SPAC III’s public shares issued in the IPO if the Insurance SPAC III is unable to consummate an initial business combination within 24 months from the completion of the IPO. If Insurance SPAC III does not complete a business combination within the first 24 months following the IPO, the placement units will expire worthless.

The Insurance SPAC III Sponsor Entities collectively hold 8,525,000 founder shares in Insurance SPAC III.  Subject to certain limited exceptions, the founder shares will not be transferable or salable except (a) with respect to 25% of such shares, until consummation of a business combination, and (b) with respect to additional 25% tranches of such shares, when the closing price of Insurance SPAC III Common Stock exceeds $12.00, $13.50, and $17.00, respectively, for 20 out of any 30 consecutive trading days following the consummation of a business combination. Certain non-controlling interests in the Insurance SPAC III Sponsor Entities, including executive and key employees of the Operating LLC, purchased membership interests in the Insurance SPAC III Sponsor Entities and, in addition to having an interest in Insurance SPAC III’s placement units discussed above, have an interest in Insurance SPAC III’s founder shares through such membership interests in the Insurance SPAC III Sponsor Entities. The number of the Insurance SPAC III’s founders shares in which such non-controlling interests in the Insurance SPAC III Sponsor Entities, including such executives and key employees of the Operating LLC, have an interest in through the Insurance SPAC III Sponsor Entities will not be finally and definitively determined until consummation of a business combination. The number of Insurance SPAC III’s founder shares currently allocated to the Operating LLC is 4,267,500, but such number of founder shares will also not be finally and definitively determined until the consummation of a business combination.

As of  June 30, 2021, the Company had a total equity method investment in Insurance SPAC III of $5,052, which was included as a component of investment in equity method affiliates in its consolidated balance sheet.  Partially offsetting this amount was non-controlling interest of $5,066, which was included as a component of non-controlling interest in our consolidated balance sheet.  Therefore, the net carrying value of the Company's investment in Insurance SPAC III was $(14) as of June 30, 2021.  

In April 2021, the SEC issued guidance regarding how SPACs account for the warrants they issue.  This guidance resulted in Insurance SPAC III, as well as most SPACs restating their previously issued financial statements.

5. NET TRADING 

 

Net trading consisted of the following in the periods presented.



 

Trading inventory includes investments classified as investments-trading as well as trading securities sold, not yet purchased.  See note 7. 

Also, see note 10 for discussion of receivables under resale agreements and securities sold under agreements to repurchase.  See note 6 for discussion of margin payable.  See note 17 for discussion of LegacyTexas Credit Facility. 

  

6. RECEIVABLES FROM AND PAYABLES TO BROKERS, DEALERS, AND CLEARING AGENCIES

Amounts receivable from brokers, dealers, and clearing agencies consisted of the following.

Amounts payable to brokers, dealers, and clearing agencies consisted of the following.





Deposits with clearing agencies represent contractual amounts the Company is required to deposit with its clearing agents.

 

Securities transactions that settle in the regular way are recorded on the trade date, as if they had settled. The related amounts receivable and payable for unsettled securities transactions are recorded net in receivables from or payables to brokers, dealers, and clearing agencies on the Company’s consolidated balance sheets. 

 

Receivables from clearing agencies are primarily comprised of (i) cash received by the Company upon execution of short trades that is restricted from withdrawal by the clearing agent and (ii) cash deposited with the FICC to support the Company’s General Collateral Funding (“GCF”) matched book repo business.

 

Margin payable represents amounts borrowed from Pershing, LLC to finance the Company’s trading portfolio.  Substantially all of the Company’s investments-trading and deposits with clearing agencies serve as collateral for the margin payable.  See note 5 for interest expense incurred on margin payable.

 

7. FINANCIAL INSTRUMENTS

Investments—Trading

Investments-trading consisted of the following.

 

Trading Securities Sold, Not Yet Purchased

Trading securities sold, not yet purchased consisted of the following.

 

The Company manages its exposure to changes in interest rates for the interest rate sensitive securities it holds by entering into offsetting short positions for similar fixed rate securities. See note 5 for realized and unrealized gains recognized on investments-trading.

Other investments, at fair value

Other investments, at fair value consisted of the following.

 

 

Other investments, sold not yet purchased

Other investments, sold not yet purchased consisted of the following.

8. FAIR VALUE DISCLOSURES

Fair Value Option

The Company has elected to account for certain of its other financial assets at fair value under the fair value option provisions of FASB ASC 825. The primary reason for electing the fair value option was to reduce the burden of monitoring the differences between the cost and the fair value of the Company’s investments, previously classified as available for sale securities, including the assessment as to whether the declines are temporary in nature and to further remove an element of management judgment.

Such financial assets accounted for at fair value include:

The changes in fair value (realized and unrealized gains and losses) of these instruments for which the Company has elected the fair value option are recorded in principal transactions and other income in the consolidated statements of operations. All of the investments for which the Company has elected the fair value option are included as a component of other investments, at fair value in the consolidated balance sheets.

The Company recognized net gains (losses) related to changes in fair value of investments that are included as a component of other investments, at fair value during the three months ended June 30, 2021 and 2020 of $(11,953) and $2,240, respectively. The Company recognized net gains (losses) related to changes in fair value of investments that are included as a component of other investments, at fair value during the six months ended June 30, 2021 and 2020 of $67,236 and $(455), respectively.

The Company recognized net gains (losses) related to changes in fair value of investments that are included as a component of other investments, sold not yet purchased during the three months ended June 30, 2021 and 2020 of $714 and $0, respectively. The Company recognized net gains (losses) related to changes in fair value of investments that are included as a component of other investments, sold not yet purchased during the six months ended June 30, 2021 and 2020 of $776 and $0, respectively.

Fair Value Measurements

In accordance with FASB ASC 820, the Company has categorized its financial instruments, based on the priority of the inputs to the valuation technique, into a three level valuation hierarchy. The valuation hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (level 1 measurement) and the lowest priority to unobservable inputs (level 3 measurement). The three levels of the valuation hierarchy under FASB ASC 820 are described below.

Level 1            Financial assets and liabilities with values that are based on unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities.

Level  2           Financial assets and liabilities with values that are based on one or more of the following:

Level 3            Financial assets and liabilities with values that are based on prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable. These inputs reflect management’s own assumptions about the assumptions a market participant would use in pricing the asset or liability.

In certain cases, the inputs used to measure fair value may fall into different levels of the valuation hierarchy. In such cases, the level in the valuation hierarchy within which the fair value measurement in its entirety falls has been determined based on the lowest level input that is significant to the fair value measurement in its entirety. The Company’s assessment of the significance of a particular input to the fair value measurement in its entirety requires judgment and considers factors specific to the asset or liability.

Both observable and unobservable inputs may be used to determine the fair value of positions that the Company has classified within the level 3 category. As a result, the unrealized gains and losses for assets and liabilities within the level 3 category presented in the tables below may include changes in fair value that were attributable to both observable (e.g., changes in market interest rates) and unobservable (e.g., changes in unobservable long-dated volatilities) inputs.

The following tables present information about the Company’s assets and liabilities measured at fair value as of June 30, 2021 and December 31, 2020 and indicates the valuation hierarchy of the valuation techniques utilized by the Company to determine such fair value.