Late FOCUS, an Unbooked Award, and the 120% Line
Halstead Securities filed its March FOCUS Part II on April 28, well after the filing deadline, reporting net capital of $268,000, aggregate indebtedness of $2,385,200 and a ratio of 8.9:1 against a $250,000 minimum. The owner took a $40,000 distribution in April. In May the new controller finds that a $95,000 prepaid technology item is a non-refundable deposit on a software subscription with no resale market, and that a $30,000 arbitration award against the firm was never booked. No amended report has been filed and no notice has gone to any regulator.
1. Recompute net capital and the ratio, and characterize the firm's status in March and in April.
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Corrected figures:
- Net capital: $268,000 - $95,000 - $30,000 = $143,000
- Aggregate indebtedness: $2,385,200 + $30,000 = $2,415,200
- Ratio: $2,415,200 / $143,000 = 16.9 (1,690%)
Two independent failures: net capital is $107,000 below the $250,000 minimum, and the ratio exceeds the 1,500% ceiling.
Consequences:
- The firm was deficient as of the March computation date, and the March FOCUS was materially inaccurate when filed.
- The April distribution was made by an already-deficient firm - a prohibited withdrawal under Rule 15c3-1(e) and, given the size of the deficiency, likely charged as a serious violation rather than an error.
- The $40,000 must be restored (or the deficiency cured by an equal capital addition) before the firm can represent itself as compliant.
2. What must be filed, with whom, and when?
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- Rule 17a-11 notice of net capital deficiency - immediate written notice to the SEC and to FINRA, with a computation showing the deficiency and the proposed cure. It must go out as soon as the deficiency is known and in any event within 24 hours.
- Cease business. While below the minimum, the firm may not conduct a general securities business. It may effect only transactions necessary to liquidate, and it must not accept customer funds or securities.
- Amended FOCUS for March and for any later period computed on the same basis, including April.
- Books and records notice. The unbooked arbitration award and the misclassified prepaid item mean the books were not current; the separate Rule 17a-11 notice for failure to keep current books and records should be considered, along with a self-report to FINRA covering the late Part II filing.
- Cure documentation - capital infusion or a subordinated loan meeting Rule 15c3-1(d), plus a written commitment of no further distributions until the 120% and 1,000% tests are comfortably satisfied.
3. Assess the allowability of the $95,000 item, the correct treatment of the $30,000 award, and the FINOP's responsibility.
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$95,000 prepaid item. A non-refundable software subscription deposit with no resale market is a prepaid expense. Prepaid expenses are not allowable assets under the net capital rule because they cannot be converted to cash on demand; in substance the amount is a sunk cost. It should never have been in the numerator, and the full $95,000 is deducted.
$30,000 award. A liability when the claim is probable and the amount estimable. Booking it a period late understates aggregate indebtedness and overstates net capital in that period. The correction is reflected in the current computation and, because it is material to the reported ratio, in the amended report.
The financial and operations principal is accountable for the accuracy of the financial reports. Inaccurate FOCUS filings and non-current books are grounds for individual disqualification and firm discipline. The controller should preserve the workpapers, document when each item was discovered, and ensure the correction is reflected before the next filing rather than smoothed into a later period.