Freedom (US:FRHC)2023-02-13 16:00PART I — FINANCIAL INFORMATION This section covers unaudited financial statements, management's analysis, market risk, and internal controls Item 1. Unaudited Condensed Consolidated Financial Statements This chapter presents unaudited condensed consolidated financial statements, including recast prior periods and restatements, with Russian operations classified as discontinued Condensed Consolidated Balance Sheets As of December 31, 2022, total assets increased to $5.37 billion from $3.23 billion at March 31, 2022, driven by growth in trading securities, loans, and customer liabilities Condensed Consolidated Balance Sheet Highlights (in thousands of USD) | Account | Dec 31, 2022 | Mar 31, 2022 (Recasted) | | :--- | :--- | :--- | | Total Assets | $5,368,134 | $3,227,750 | | Cash and cash equivalents | $664,095 | $225,464 | | Trading securities | $1,929,840 | $1,158,377 | | Loans issued | $639,377 | $92,446 | | Assets held for sale | $961,566 | $825,419 | | Total Liabilities | $4,685,803 | $2,681,142 | | Securities repurchase agreement obligations | $1,233,928 | $840,224 | | Customer liabilities | $1,786,452 | $765,628 | | Liabilities held for sale | $931,484 | $812,478 | | Total Shareholders' Equity | $682,331 | $546,608 | Condensed Consolidated Statements of Operations Net income for the three months ended December 31, 2022, increased to $62.4 million, while the nine-month net income decreased to $148.7 million due to reduced trading gains, with Russian operations reported as discontinued Key Operating Results (in thousands of USD, except per share data) | Metric | Three Months Ended Dec 31, 2022 | Three Months Ended Dec 31, 2021 (Restated) | Nine Months Ended Dec 31, 2022 | Nine Months Ended Dec 31, 2021 (Restated) | | :--- | :--- | :--- | :--- | :--- | | Total Revenue, Net | $214,548 | $155,169 | $566,686 | $597,549 | | Fee and commission income | $80,883 | $91,408 | $253,486 | $262,549 | | Net gain on trading securities | $25,456 | $7,663 | $38,894 | $197,947 | | Interest income | $80,255 | $33,657 | $187,817 | $82,514 | | Income from Continuing Operations | $46,391 | $58,178 | $138,754 | $319,840 | | Income/(loss) from Discontinued Operations | $16,009 | ($4,105) | $9,929 | ($3,656) | | Net Income | $62,400 | $54,073 | $148,683 | $316,184 | | EPS - Diluted | $1.36 | $0.91 | $2.81 | $5.34 | Condensed Consolidated Statements of Cash Flows For the nine months ended December 31, 2022, net cash used in operating and investing activities totaled $465.8 million and $641.3 million respectively, offset by a $1.51 billion inflow from financing activities, resulting in a $484.1 million net increase in cash Cash Flow Summary (Nine Months Ended Dec 31, in thousands of USD) | Cash Flow Activity | 2022 | 2021 (Restated) | | :--- | :--- | :--- | | Net cash flows used in operating activities | ($465,791) | ($611,853) | | Net cash flows used in investing activities | ($641,321) | ($93,095) | | Net cash flows from financing activities | $1,506,188 | $441,794 | | Net Change in Cash, Cash Equivalents and Restricted Cash | $484,140 | ($256,780) | Notes to Condensed Consolidated Financial Statements This section details business operations, accounting policies, and key financial events, including Russian divestiture, recast financials, related-party transactions, and segment reporting - The company has entered into an agreement to sell its Russian subsidiaries, Freedom RU and Freedom Bank RU, which are now classified as assets and liabilities held for sale and reported as discontinued operations28224 - Financial statements for prior periods were recast to reflect the acquisition of Freedom Life and Freedom Insurance, deemed under common control, and restated to correct classification errors in the Statement of Cash Flows and Statement of Operations111113122 - The company restructured its operations into five geographical segments: Central Asia, Europe, the U.S., Russia (discontinued), and Middle East/Caucasus98241 - A significant portion of fee and commission income is generated from FFIN Brokerage, a company owned by FRHC's CEO, Timur Turlov, accounting for approximately 93% of total related party fee and commission income ($181.4 million) for the nine months ended Dec 31, 2022193194 - An impairment charge of $43,973 thousand was recorded for the nine months ended December 31, 2022, related to the planned divestiture of the Russian subsidiaries228234 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Management discusses financial performance, key factors like the Russian divestiture, and liquidity, highlighting revenue and net income trends for the quarter and nine-month period Overview and Key Factors This section outlines the company's five geographic segments, key factors like the Russian subsidiary sale, customer account growth, and significant related-party transactions - The company entered into an agreement to sell its Russian subsidiaries, with the sale approved by the Central Bank of the Russian Federation on February 10, 2023, and expected to close before the end of February 2023265282 - Total customer accounts grew from approximately 250,000 as of March 31, 2022, to approximately 350,000 as of December 31, 2022291 - Fee and commission income from FFIN Brokerage (a related party) accounted for approximately 54% and 67% of total fee and commission income for the three and nine months ended December 31, 2022, respectively297 Results of Operations For the three months ended Dec 31, 2022, total revenue increased 38% to $214.5 million, while for the nine-month period, total revenue decreased 5% to $566.7 million, primarily due to lower trading gains Revenue Comparison - Three Months Ended Dec 31 (in thousands of USD) | Revenue Source | 2022 | 2021 (Restated) | Change % | | :--- | :--- | :--- | :--- | | Fee and commission income | $80,883 | $91,408 | (12)% | | Net gain on trading securities | $25,456 | $7,663 | 232% | | Interest income | $80,255 | $33,657 | 138% | | Total revenue, net | $214,548 | $155,169 | 38% | Expense Comparison - Three Months Ended Dec 31 (in thousands of USD) | Expense Category | 2022 | 2021 (Recasted) | Change % | | :--- | :--- | :--- | :--- | | Interest expense | $52,037 | $21,890 | 138% | | Operating expense | $50,608 | $31,581 | 60% | | Provision for impairment losses | $24,140 | ($333) | (7349)% | | Total expense | $163,088 | $95,185 | 71% | - For the nine months ended Dec 31, 2022, net gain on trading securities fell by 80% to $38.9 million from $197.9 million in the prior-year period352 Liquidity and Capital Resources The company's liquidity strengthened with cash and cash equivalents rising to $664.1 million, driven by a $1.51 billion inflow from financing activities, and all subsidiaries met minimum net capital requirements Cash Flow Summary - Nine Months Ended Dec 31 (in thousands of USD) | Flow | 2022 | 2021 (Restated) | | :--- | :--- | :--- | | Net cash used in operating activities | ($465,791) | ($611,853) | | Net cash used in investing activities | ($641,321) | ($93,095) | | Net cash from financing activities | $1,506,188 | $441,794 | | Net Change in Cash | $484,140 | ($256,780) | - As of December 31, 2022, the aggregate minimum net capital and capital adequacy requirement for the company's subsidiaries was approximately $56.7 million, and all subsidiaries were in compliance414 Item 3. Qualitative and Quantitative Disclosures About Market Risk The company faces market, credit, and operational risks, with a hypothetical 100 basis point interest rate increase impacting its investment portfolio by $65.4 million and significant credit concentration in related-party margin lending - A sensitivity analysis shows that a hypothetical 100 basis point increase in interest rates would result in a $65.4 million decline in the fair market value of the investment portfolio as of December 31, 2022434 - As of December 31, 2022, 97% of the company's margin lending receivables balance was due from FFIN Brokerage, an affiliate owned by the company's CEO439 - A 10% adverse change in the value of the U.S. dollar against all other functional currencies would have resulted in a decrease of income before income tax by approximately $5.5 million as of December 31, 2022435 Item 4. Controls and Procedures Management concluded that disclosure controls and procedures were ineffective as of December 31, 2022, due to material weaknesses in internal control over financial reporting, necessitating a remediation plan - Management concluded that disclosure controls and procedures were not effective as of December 31, 2022, due to material weaknesses in internal control over financial reporting463 - The material weaknesses relate to the incorrect classification of certain loans and deposits in the Statement of Cash Flows and interest income from margin loans in the Statement of Operations, leading to a restatement of prior financial periods465 - Management has initiated a remediation plan to enhance the design of its control activities to address these weaknesses467 PART II — OTHER INFORMATION This section covers legal proceedings, updated risk factors, and a list of exhibits filed with the report Item 1. Legal Proceedings The company is involved in routine legal proceedings, including a specific litigation where $8,378 was deposited with the court, with management not expecting a material adverse effect on financial condition - In the Estate of Toleush Tolmakov litigation, the company deposited $8,378 with the court registry on October 21, 2022, in accordance with a court order471 Item 1A. Risk Factors New and updated risk factors include uncertainties regarding the Russian subsidiary sale, potential inaccuracies in insurance business modeling, and material weaknesses in internal control over financial reporting impacting financial accuracy and investor confidence - There is a risk that the sale of the Russian subsidiaries may not be completed as expected or achieve its intended effects, such as reducing geopolitical exposure and accelerating growth in other markets473474 - The company's insurance businesses face risks from modeling and assumptions that may differ from actual results, potentially leading to mispricing of products475 - The company has identified material weaknesses in its internal control over financial reporting, which could adversely affect its ability to report financial results accurately and on time, potentially damaging investor confidence and the stock price480486 Item 6. Exhibits This section lists the exhibits filed with the Form 10-Q, including CEO and CFO certifications and financial information formatted in inline XBRL - The filing includes required CEO and CFO certifications (Exhibits 31.01, 31.02, 32.01) and financial data in inline XBRL format (Exhibit 101)487