UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

þ		QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended September 30, 2006

o		TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from                      to                     

PIPER JAFFRAY COMPANIES

(Exact name of registrant as specified in its charter)

DELAWARE (State or other jurisdiction of incorporation or organization)		30-0168701 (IRS Employer Identification No.)
800 Nicollet Mall, Suite 800
Minneapolis, Minnesota (Address of principal executive offices)		55402 (Zip Code)

(612) 303-6000
(Registrant’s telephone number, 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, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.

Large Accelerated Filer þ       Accelerated Filer o      Non-Accelerated Filer o

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

     As of October 27, 2006, the registrant had 18,583,156 shares of Common Stock outstanding.

 

 

Piper Jaffray Companies
Index to Quarterly Report on Form 10-Q

PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Statements of Financial Condition as of September 30, 2006 and December 31, 2005
Consolidated Statements of Operations for the three months and nine months ended September 30, 2006 and September 30, 2005
Consolidated Statements of Cash Flows for the nine months ended September 30, 2006 and September 30, 2005
Notes to Consolidated Financial Statements
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Item 4. Controls and Procedures
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Item 1A. Risk Factors
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
Item 6. Exhibits
Signatures
Exhibit Index
Master Confirmation
Rule 13a-14(a)/15d-14(a) Certification of CEO
Rule 13a-14(a)/15d-14(a) Certification of CFO
Certifications furnished Pursuant to 18 U.S.C. 1350

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

Piper Jaffray Companies

		September 30,				December 31,
		2006				2005
(Amounts in thousands, except share data)		(Unaudited)
Assets
Cash and cash equivalents		$	97,756			$	60,869
Cash and cash equivalents segregated for regulatory purposes			35,000				—
Receivables:
Customers (net of allowance of $0 at September 30, 2006 and $1,793 at December 31, 2005)			93,559				54,421
Brokers, dealers and clearing organizations			441,731				299,056
Deposits with clearing organizations			39,678				64,379
Securities purchased under agreements to resell			177,892				222,844
Trading securities owned			803,418				517,310
Trading securities owned and pledged as collateral			4,848				236,588
Total trading securities owned			808,266				753,898
Fixed assets (net of accumulated depreciation and amortization of $51,726 and $76,581 respectively)			24,957				41,752
Goodwill (net of accumulated amortization of $38,364 and $52,531, respectively)			231,567				317,167
Intangible assets (net of accumulated amortization of $2,933 and $1,733, respectively)			1,867				3,067
Other receivables			31,845				24,626
Other assets			91,441				69,200
Assets held for sale			—				442,912
Total assets		$	2,075,559			$	2,354,191
Liabilities and Shareholders’ Equity
Short-term bank financing		$	50,000			$	—
Payables:
Customers			80,789				73,781
Checks and drafts			14,780				53,304
Brokers, dealers and clearing organizations			296,881				259,597
Securities sold under agreements to repurchase			3,560				245,786
Trading securities sold, but not yet purchased			273,547				332,204
Accrued compensation			121,664				171,551
Other liabilities and accrued expenses			341,151				138,122
Liabilities held for sale			—				145,019
Total liabilities			1,182,372				1,419,364
Subordinated debt			—				180,000
Shareholders’ equity:
Common stock, $0.01 par value;
Shares authorized: 100,000,000 at September 30, 2006 and December 31, 2005;
Shares issued: 19,487,319 at September 30, 2006 and at December 31, 2005;
Shares outstanding: 16,959,795 at September 30, 2006 and 18,365,177 at December 31, 2005			195				195
Additional paid-in capital			718,776				704,005
Retained earnings			305,038				90,431
Less common stock held in treasury, at cost: 2,527,524 shares at September 30, 2006 and 1,122,142 at December 31, 2005			(127,630	)			(35,422	)
Other comprehensive loss			(3,192	)			(4,382	)
Total shareholders’ equity			893,187				754,827
Total liabilities and shareholders’ equity		$	2,075,559			$	2,354,191

See Notes to Consolidated Financial Statements

Piper Jaffray Companies

		Three Months Ended								Nine Months Ended
		September 30,								September 30,
(Amounts in thousands, except per share data)		2006				2005				2006				2005
Revenues:
Investment banking		$	72,107			$	73,407			$	203,107			$	169,909
Institutional brokerage			34,964				42,476				122,136				121,699
Interest			16,663				11,357				44,728				32,015
Other income			863				949				12,131				2,403
Total revenues			124,597				128,189				382,102				326,026
Interest expense			8,490				8,064				25,786				23,332
Net revenues			116,107				120,125				356,316				302,694
Non-interest expenses:
Compensation and benefits			69,079				72,649				202,656				177,262
Occupancy and equipment			6,878				7,710				21,705				22,912
Communications			5,761				5,683				16,737				18,081
Floor brokerage and clearance			3,759				3,887				9,807				11,336
Marketing and business development			5,887				4,827				17,188				15,793
Outside services			6,344				5,237				19,472				16,911
Cash award program			512				1,004				2,673				3,201
Restructuring-related expense			—				—				—				8,595
Other operating expenses			2,838				3,319				10,185				9,516
Total non-interest expenses			101,058				104,316				300,423				283,607
Income from continuing operations before income tax expense			15,049				15,809				55,893				19,087
Income tax expense			5,521				4,871				19,730				5,854
Net income from continuing operations			9,528				10,938				36,163				13,233
Discontinued operations:
Income from discontinued operations, net of tax			177,085				4,210				178,444				10,487
Net income		$	186,613			$	15,148			$	214,607			$	23,720
Earnings per basic common share
Income from continuing operations		$	0.53			$	0.58			$	1.97			$	0.70
Income from discontinued operations			9.82				0.22				9.73				0.56
Earnings per basic common share		$	10.35			$	0.80			$	11.70			$	1.26
Earnings per diluted common share
Income from continuing operations		$	0.50			$	0.57			$	1.87			$	0.70
Income from discontinued operations			9.29				0.22				9.25				0.55
Earnings per diluted common share		$	9.79			$	0.79			$	11.12			$	1.25
Weighted average number of common shares outstanding
Basic			18,031				18,841				18,348				18,814
Diluted			19,071				19,107				19,294				19,007

See Notes to Consolidated Financial Statements

Piper Jaffray Companies

		Nine Months Ended
		September 30,
(Dollars in thousands)		2006				2005
Operating Activities:
Net income		$	214,607			$	23,720
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Depreciation and amortization			10,512				13,458
Gain on sale of PCS branch network			(327,749	)			—
Deferred income taxes			(11,598	)			(1,105	)
Stock-based compensation			21,433				14,231
Amortization of intangible assets			1,200				1,200
Decrease (increase) in operating assets:
Cash and cash equivalents segregated for regulatory purposes			(35,000	)			—
Receivables:
Customers			33,058				(56,415	)
Brokers, dealers and clearing organizations			(141,257	)			194,319
Deposits with clearing organizations			24,701				1,182
Securities purchased under agreements to resell			44,952				(24,677	)
Net trading securities owned			(113,311	)			(146,195	)
Other receivables			(5,099	)			(4,543	)
Other assets			(11,859	)			4,016
Increase (decrease) in operating liabilities:
Payables:
Customers			(18,900	)			20,518
Checks and drafts			(38,524	)			(21,504	)
Brokers, dealers and clearing organizations			275,066				(5,498	)
Securities sold under agreements to repurchase			(13,527	)			(10,517	)
Accrued compensation			(41,662	)			(38,876	)
Other liabilities and accrued expenses			166,832				7,954
Net cash provided by (used in) operating activities			33,875				(28,732	)
Investing Activities:
Sale of PCS branch network			701,861				—
Purchases of fixed assets, net			(6,456	)			(14,345	)
Net cash provided by (used in) investing activities			695,405				(14,345	)
Financing Activities:
Increase (decrease) in securities loaned			(234,676	)			23,868
Decrease in securities sold under agreements to repurchase			(228,699	)			(138,745	)
Increase in short-term bank financing			50,000				170,000
Repayment of subordianted debt			(180,000	)			—
Repurchase of common stock			(100,000	)			(42,381	)
Net cash provided by (used in) financing activities			(693,375	)			12,742
Currency adjustment:
Effect of exchange rate changes on cash			982				—
Net increase (decrease) in cash and cash equivalents			36,887				(30,335	)
Cash and cash equivalents at beginning of period			60,869				67,387
Cash and cash equivalents at end of period		$	97,756			$	37,052
Supplemental disclosure of cash flow information —
Cash paid during the period for:
Interest		$	35,137			$	28,483
Income taxes		$	36,981			$	10,394
Noncash financing activities —
Issuance of common stock for retirement plan obligations:
190,966 shares and 331,434 shares for the nine months ended September 30, 2006 and 2005, respectively		$	9,013			$	13,187

See Notes to Consolidated Financial Statements

Piper Jaffray Companies

Note 1 Background and Basis of Presentation

Background

     Piper Jaffray Companies is the parent company of Piper Jaffray & Co. (“Piper Jaffray”), a securities broker dealer and investment banking firm; Piper Jaffray Ltd., a firm providing securities brokerage and investment banking services in Europe headquartered in London, England; Piper Jaffray Financial Products Inc., an entity that facilitates customer derivative transactions; Piper Jaffray Financial Products II Inc., an entity dealing primarily in variable rate municipal products; and other immaterial subsidiaries. Piper Jaffray Companies and its subsidiaries (collectively, the “Company”) operate as one reporting segment providing investment banking services and institutional sales, trading and research services. As discussed more fully in Note 14, the Company completed the sale of its Private Client Services branch network and certain related assets to UBS Financial Services, Inc., a subsidiary of UBS AG (“UBS”), on August 11, 2006, thereby exiting the Private Client Services (“PCS”) business.

Basis of Presentation

     The consolidated financial statements include the accounts of Piper Jaffray Companies, its wholly owned subsidiaries and other entities in which the Company has a controlling financial interest. All material intercompany balances have been eliminated. Certain financial information for prior periods has been reclassified to conform to the current period presentation.

     The consolidated financial statements have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission (“SEC”) with respect to Form 10-Q and reflect all adjustments that in the opinion of management are normal and recurring and that are necessary for a fair statement of the results for the interim periods presented. In accordance with these rules and regulations, certain disclosures that are normally included in annual financial statements have been omitted. The consolidated financial statements included in this Form 10-Q should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2005.

     The consolidated financial statements are prepared in conformity with U.S. generally accepted accounting principles. These principles require management to make certain estimates and assumptions that may affect the reported amounts of assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The nature of the Company’s business is such that the results of any interim period may not be indicative of the results to be expected for a full year.

Note 2 Summary of Significant Accounting Policies

     Refer to the Company’s Annual Report on Form 10-K for the year ended December 31, 2005, for a full summary of the Company’s significant accounting policies. Updates to the Company’s significant accounting policies are described below.

Revenue Recognition

     Investment Banking – Investment banking revenues, which include underwriting fees, management fees and advisory fees, are recorded when services for the transactions are completed under the terms of each engagement. Expenses associated with such transactions are deferred until the related revenue is recognized or the engagement is otherwise concluded. Investment banking revenues are presented net of related expenses.

     Institutional Brokerage – Institutional brokerage revenues include (i) commissions paid by customers for the execution of brokerage transactions in listed and over–the–counter (OTC) equity, fixed income and convertible debt securities, which are recorded on a trade date basis; (ii) trading gains and losses and (iii) fees paid to the Company for equity research.

Other Assets

     Other assets includes investments in partnerships, investments to fund deferred compensation liabilities, prepaid expenses, and net deferred tax assets. In addition, other assets includes 55,440 restricted shares of NYSE Group, Inc. On March 7, 2006, upon the consummation of the merger of the New York Stock Exchange, Inc. (“NYSE”) and Archipelago Holdings, Inc., NYSE Group, Inc. became the parent company of New York Stock Exchange, LLC (which is the successor to the NYSE) and Archipelago Holdings, Inc. In connection with the merger, the Company received $0.8 million in cash and 157,202 shares of NYSE Group, Inc. common stock in exchange for the two NYSE seats owned by the Company. The Company sold 101,762 shares of NYSE Group, Inc. common stock in a secondary offering during the second quarter of 2006.

Note 3 Recent Accounting Pronouncements

     In June 2006, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes – an interpretation of FASB Statement 109” (“FIN 48”). FIN 48 clarifies the accounting for uncertainty in income taxes recognized in accordance with FASB Statement No. 109, “Accounting for Income Taxes.” FIN 48 prescribes a two-step process to recognize and measure a tax position taken or expected to be taken in a tax return. The first step is recognition, whereby a determination is made whether it is more-likely-than-not that a tax position will be sustained upon examination based on the technical merits of the position. The second step is to measure a tax position that meets the recognition threshold to determine the amount of benefit to recognize. FIN 48 also provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition. FIN 48 is effective for fiscal years beginning after December 15, 2006. The Company is currently evaluating the impact of FIN 48 on the Company’s results of operations and financial condition.

     In September 2006, the SEC issued Staff Accounting Bulletin No. 108, “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements” (“SAB 108”). SAB 108 requires the evaluation of prior year misstatements in quantifying misstatements in the current year financial statements. SAB 108 is effective for fiscal years ending after November 15, 2006. In the initial year of adoption, the cumulative effect of applying SAB 108, if any, will be recorded as an adjustment to the beginning balance of retained earnings. In subsequent years, previously undetected material misstatements require restatement of the financial statements. The Company does not believe adoption of SAB 108 will impact the Company’s results of operations or financial condition.

     In September 2006, the FASB issued Statement of Financial Accounting Standard No. 157, “Fair Value Measurements” (“SFAS 157”). SFAS 157 defines fair value, establishes a framework for measuring fair value and expands disclosures regarding fair value measurements. SFAS 157 does not require any new fair value measurements, but its application may, for some entities, change current practice. SFAS 157 is effective for fiscal years beginning after November 15, 2007. The Company is currently evaluating the impact of SFAS 157 on the Company’s results of operations and financial condition.

     In September 2006, the FASB issued SFAS No. 158, “Employers’ Accounting for Defined Benefit Pension and Other Postretirement
Plans – an amendment of FASB Statements No. 87, 88, 106 and 132(R)” (“SFAS 158”). SFAS 158 requires an employer to recognize the overfunded or underfunded status of a defined benefit postretirement plan (other than a multiemployer plan) as an asset or liability in its statement of financial position and to recognize changes in the funded status in the year in which the changes occur through comprehensive income. In addition, SFAS 158 requires disclosure in the notes to the financial statements of the estimated portion of net actuarial gains or losses, prior service costs or credits and transition assets or obligations in other comprehensive income that will be recognized in net periodic benefit cost over the fiscal year. These requirements are effective for fiscal years ending after December 15, 2006. SFAS 158 also requires employers to measure plan assets and benefit obligations as of the date of its year-end statement of financial position. This requirement is effective for fiscal years ending after December 15, 2008. The Company is currently evaluating the impact of SFAS 158 on the Company’s results of operations and financial condition.

Note 4 Derivatives

     Derivative contracts are financial instruments such as forwards, futures, swaps or option contracts that derive their value from underlying assets, reference rates, indices or a combination of these factors. A derivative contract generally represents future commitments to purchase or sell financial instruments at specified terms on a specified date or to exchange currency or interest payment streams based on the contract or notional amount. Derivative contracts exclude certain cash instruments, such as mortgage-backed securities, interest-only and principal-only obligations and indexed debt instruments that derive their values or contractually required cash flows from the price of some other security or index.

     The Company uses interest rate swaps, interest rate locks, and forward contracts to facilitate customer transactions and as a means to manage risk in certain inventory positions. The Company also enters into interest rate swap agreements to manage interest rate exposure associated with holding residual interest securities from its tender option bond program. As of September 30, 2006, and December 31, 2005, the Company was counterparty to notional/contract amounts of $5.7 billion and $4.6 billion, respectively, of derivative instruments.

     The market or fair values related to derivative contract transactions are reported in trading securities owned and trading securities sold, but not yet purchased on the consolidated statements of financial condition and any unrealized gain or loss resulting from changes in fair values of derivatives is recognized in institutional brokerage on the consolidated statements of operations. The Company does not utilize “hedge accounting” as described within SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” Derivatives are reported on a net-by-counterparty basis when a legal right of offset exists under a legally enforceable master netting agreement in accordance with FASB Interpretation No. 39, “Offsetting of Amounts Related to Certain Contracts.”

     Fair values for derivative contracts represent amounts estimated to be received from or paid to a counterparty in settlement of these instruments. These derivatives are valued using quoted market prices when available or pricing models based on the net present value of estimated future cash flows. The valuation models used require inputs including contractual terms, market prices, yield curves, credit curves and measures of volatility. The net fair value of derivative contracts was approximately $18.3 million and $17.0 million as of September 30, 2006, and December 31, 2005, respectively.

Note 5 Securitizations

     In connection with its tender option bond program, as of September 30, 2006, the Company has outstanding securitizations of $279.2 million of highly rated municipal bonds. Each municipal bond is sold into a separate trust that is funded by the sale of variable rate certificates to institutional customers seeking variable rate tax-free investment products. These variable rate certificates reprice weekly. Securitization transactions meeting certain SFAS 140 criteria are treated as sales, with the resulting gain included in institutional brokerage on the consolidated statements of operations. If a securitization does not meet the sale of asset requirements of SFAS 140, the transaction is recorded as a borrowing. The Company retains a residual interest in each structure and accounts for the residual interest as a trading security, which is recorded at fair value in trading securities owned on the consolidated statements of financial condition. The fair value of retained interests was $7.4 million at September 30, 2006, with a weighted average life of 8.7 years. The fair value of retained interests is estimated based on the present value of future cash flows using management’s best estimates of the key assumptions—expected yield, credit losses of 0 percent and a 12 percent discount rate. At September 30, 2006, the sensitivity of the current fair value of retained interests to immediate 10 percent and 20 percent adverse changes in the key economic assumptions was not material. The Company receives a fee to remarket the variable rate certificates derived from the securitizations.

     Certain cash flow activity for the municipal bond securitizations described above during the nine months ended September 30, 2006 includes:

(Dollars in thousands)
Proceeds from new securitizations		$	7,578
Remarketing fees received			106
Cash flows received on retained interests			5,525

     Three securitization transactions were designed such that they did not meet the asset sale requirements of SFAS 140; therefore, the Company consolidated these trusts. As a result, the Company has recorded an asset for the underlying bonds of approximately $51.2 million in trading securities owned and a liability for the certificates sold by the trust for approximately $50.1 million in other liabilities and accrued expenses on the consolidated statement of financial condition as of September 30, 2006. The Company has economically hedged the activities of these securitizations with interest rate swaps, which have been recorded at fair value and resulted in a liability of approximately $4.8 million at September 30, 2006.

     The Company has contracted with a major third-party financial institution to act as the liquidity provider for the Company’s tender option bond securitized trusts. The Company has agreed to reimburse this party for losses associated with providing liquidity to the trusts. The maximum exposure to loss at September 30, 2006 was $251.2 million, representing the outstanding amount of all trust certificates at that date. This exposure to loss is mitigated by the underlying municipal bonds held in the trusts, which are either AAA or AA rated. These bonds had a market value of approximately $263.2 million at September 30, 2006. The Company believes the likelihood it will be required to fund the reimbursement agreement obligation under any provision of the arrangement is remote, and accordingly, no liability for such guarantee has been recorded in the accompanying consolidated financial statements.

Note 6 Receivables from and Payables to Brokers, Dealers and Clearing Organizations

     Amounts receivable from brokers, dealers and clearing organizations at September 30, 2006 and December 31, 2005 included:

		September 30,				December 31,
(Dollars in thousands)		2006				2005
Receivable arising from unsettled securities transactions, net		$	35,290			$	108,454
Deposits paid for securities borrowed			366,152				92,495
Receivable from clearing organizations			24,054				50,236
Securities failed to deliver			5,925				34,946
Other			10,310				12,925
		$	441,731			$	299,056

     Amounts payable to brokers, dealers and clearing organizations at September 30, 2006 and December 31, 2005 included:

		September 30,				December 31,
(Dollars in thousands)		2006				2005
Deposits received for securities loaned		$	275,500			$	234,676
Payable to clearing organizations			11,313				8,117
Securities failed to receive			9,266				16,609
Other			802				195
		$	296,881			$	259,597

     In the third quarter of 2006, the Company began operating a stock loan conduit business. The business consists of a “matched book” where the Company will borrow a security from an independent party in the securities business and then loan the exact same security to a third party who needs the security. The Company earns interest income on the securities borrowed and pays interest expense on the securities loaned, earning a net spread on the transactions. Prior to the third quarter of 2006, the Company participated in securities lending activities by using customer excess margin securities to finance customer receivables. Deposits paid for securities borrowed and deposits received for securities loaned approximate the market value of the securities. Securities failed to deliver and receive represent the contract value of securities that have not been delivered or received by the Company on settlement date.

Note 7 Trading Securities Owned and Trading Securities Sold, But Not Yet Purchased

     Trading securities owned and trading securities sold, but not yet purchased were as follows:

		September 30,				December 31,
(Dollars in thousands)		2006				2005
Owned:
Corporate securities:
Equity securities		$	31,693			$	13,260
Convertible securities			53,955				9,221
Fixed income securities			101,015				68,017
Mortgage-backed securities			239,816				329,057
U.S. government securities			30,352				26,652
Municipal securities			326,875				286,531
Other			24,560				21,160
		$	808,266			$	753,898
Sold, but not yet purchased:
Corporate securities:
Equity securities		$	39,402			$	8,367
Convertible securities			2,652				2,572
Fixed income securities			13,262				31,588
Mortgage-backed securities			106,161				157,132
U.S. government securities			105,365				127,833
Municipal securities			—				93
Other			6,705				4,619
		$	273,547			$	332,204

     At September 30, 2006, and December 31, 2005, trading securities owned in the amount of $4.8 million and $236.6 million, respectively, have been pledged as collateral for the Company’s secured borrowings, repurchase agreements and securities loaned activities.

     Trading securities sold, but not yet purchased represent obligations of the Company to deliver the specified security at the contracted price, thereby creating a liability to purchase the security in the market at prevailing prices. The Company is obligated to acquire the securities sold short at prevailing market prices, which may exceed the amount reflected on the consolidated statements of financial condition. The Company economically hedges changes in market value of its trading securities owned utilizing trading securities sold, but not yet purchased, interest rate swaps, futures and exchange-traded options. It is the Company’s practice to economically hedge a significant portion of its trading securities owned.

Note 8 Goodwill and Intangible Assets

     The following table presents the changes in the carrying value of goodwill and intangible assets for the nine months ended September 30, 2006:

		Continuing				Discontinued				Consolidated
(Dollars in thousands)		Operations				Operations				Company
Goodwill
Balance at December 31, 2005		$	231,567			$	85,600			$	317,167
Goodwill acquired			—				—				—
Goodwill disposed in PCS sale			—				(85,600	)			(85,600	)
Impairment losses			—				—				—
Balance at September 30, 2006		$	231,567			$	—			$	231,567
Intangible assets
Balance at December 31, 2005		$	3,067			$	—			$	3,067
Intangible assets acquired			—				—				—
Amortization of intangible assets			(1,200	)			—				(1,200	)
Impairment losses			—				—				—
Balance at September 30, 2006		$	1,867			$	—			$	1,867

The Company wrote-off $85.6 million of goodwill in conjunction with the sale of the PCS branch network. The intangible assets are amortized on a straight-line basis over three years.

Note 9 Financing

     The Company has uncommitted credit agreements with banks totaling $675 million at September 30, 2006, composed of $555 million in discretionary secured lines of which $0 was outstanding at September 30, 2006 and December 31, 2005, and $120 million in discretionary unsecured lines of which $50 million and $0 was outstanding at September 30, 2006 and December 31, 2005, respectively. In addition, the Company has established arrangements to obtain financing at the end of each business day using as collateral the Company’s securities held by its clearing bank and by another broker dealer. Repurchase agreements and securities loaned to other broker dealers are also used as sources of funding.

     On August 15, 2006 the Company utilized proceeds from the sale of its PCS branch network to pay in full its $180 million subordinated loan with U.S. Bancorp.

     The Company’s short-term financing bears interest at rates based on the London Interbank Offered Rate or federal funds rate. At September 30, 2006 and December 31, 2005, the weighted average interest rate on borrowings was 6.00 percent and 5.55 percent, respectively. At September 30, 2006 and December 31, 2005, no formal compensating balance agreements existed, and the Company was in compliance with all debt covenants related to these facilities.

Note 10 Legal Contingencies

     The Company has been the subject of customer complaints and also has been named as a defendant in various legal proceedings arising primarily from securities brokerage and investment banking activities, including certain class actions that primarily allege violations of securities laws and seek unspecified damages, which could be substantial. Also, the Company is involved from time to time in investigations and proceedings by governmental agencies and self-regulatory organizations.

     The Company has established reserves for potential losses that are probable and reasonably estimable that may result from pending and potential complaints, legal actions, investigations and proceedings. In addition to the Company’s established reserves, U.S. Bancorp has agreed to indemnify the Company in an amount up to $17.5 million for certain legal and regulatory matters. Approximately $13.2 million of this amount remained available as of September 30, 2006.

     As part of the asset purchase agreement between UBS and the Company for the sale of the PCS branch network, UBS agreed to assume certain liabilities of the PCS business, including certain liabilities and obligations arising from litigation, arbitration, customer complaints and other claims related to the PCS business. In certain cases we have agreed to indemnify UBS for litigation matters after UBS has incurred costs of $6.0 million related to these matters. In addition, we have retained liabilities arising from regulatory matters and certain litigation relating to the PCS business prior to the sale. The amount of loss in excess of the $6.0 million indemnification threshold and for other PCS litigation matters deemed to be probable and reasonably estimable are included in the Company’s established reserves. Adjustment to litigation reserves for matters pertaining to the PCS business are included within discontinued operations on the consolidated statements of operations.

     Given uncertainties regarding the timing, scope, volume and outcome of pending and potential litigation, arbitration and regulatory proceedings and other factors, the amounts of reserves are difficult to determine and of necessity subject to future revision. Subject to the foregoing, management of the Company believes, based on its current knowledge, after consultation with outside legal counsel and after taking into account its established reserves and the U.S. Bancorp indemnity agreement, that pending legal actions, investigations and proceedings will be resolved with no material adverse effect on the financial condition of the Company. However, if during any period a potential adverse contingency should become probable or resolved for an amount in excess of the established reserves and U.S. Bancorp indemnification, the results of operations in that period could be materially adversely affected.

Note 11 Net Capital Requirements and Other Regulatory Matters

     As a registered broker dealer and member firm of the NYSE, Piper Jaffray is subject to the Uniform Net Capital Rule of the SEC and the net capital rule of the NYSE. Piper Jaffray has elected to use the alternative method permitted by the SEC rule, which requires that it maintain minimum net capital of the greater of $1.0 million or 2 percent of aggregate debit balances arising from customer transactions, as such term is defined in the SEC rule. Under the NYSE rule, the NYSE may prohibit a member firm from expanding its business or paying dividends if resulting net capital would be less than 5 percent of aggregate debit balances. Advances to affiliates, repayment of subordinated debt, dividend payments and other equity withdrawals by Piper Jaffray are subject to certain notification and other provisions of the SEC and NYSE rules. In addition, Piper Jaffray is subject to certain notification requirements related to withdrawals of excess net capital.

     At September 30, 2006, net capital under the SEC rule was $370.6 million, or 280.2 percent of aggregate debit balances, and $367.9 million in excess of the minimum net capital required under the SEC rule.

     Piper Jaffray is also registered with the Commodity Futures Trading Commission (“CFTC”) and therefore is subject to CFTC regulations.

     Piper Jaffray Ltd., which is a registered United Kingdom broker dealer, is subject to the capital requirements of the United Kingdom Financial Services Authority (“FSA”). As of September 30, 2006, Piper Jaffray Ltd. was in compliance with the capital requirements of the FSA.

Note 12 Stock-Based Compensation and Cash Award Program

     The Company maintains one stock-based compensation plan, the Piper Jaffray Companies Amended and Restated 2003 Annual and Long-Term Incentive Plan (“Long-Term Incentive Plan”). The plan permits the grant of equity awards, including non-qualified stock options and restricted stock, to the Company’s employees and directors for up to 4.5 million shares of common stock. In 2004, 2005 and 2006, the Company has granted shares of restricted stock and options to purchase Piper Jaffray Companies common stock to employees and granted options to purchase Piper Jaffray Companies common stock to its non-employee directors. The Company believes that such awards help align the interests of employees and directors with those of shareholders and serve as an employee retention tool. The awards granted to employees have three-year cliff vesting periods. The director awards are fully vested upon grant. The maximum term of the stock options granted to employees and directors is ten years. The plan provides for accelerated vesting of option and restricted stock awards if there is a change in control of the Company (as defined in the plan), in the event of a participant’s death, and at the discretion of the compensation committee of the Company’s board of directors.

     Prior to January 1, 2006, the Company accounted for stock-based compensation under the fair value method of accounting as prescribed by Statement of Financial Accounting Standards No. 123, “Accounting and Disclosure of Stock-Based Compensation,” as amended by Statement of Financial Accounting Standards No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure.” As such, the Company had recorded stock-based compensation expense in the consolidated statement of operations at fair value, net of estimated forfeitures.

     Effective January 1, 2006, the Company adopted the provisions of Statement of Financial Accounting Standards No. 123(R) (“SFAS 123(R)”), “Share-Based Payment,” using the modified prospective transition method. SFAS 123(R) requires all share-based payments to employees, including grants of employee stock options, to be recognized in the income statement based on fair value, net of estimated forfeitures. Because the Company historically expensed all equity awards based on the fair value method, net of estimated forfeitures, SFAS 123(R) did not have a material effect on the Company’s measurement or recognition methods for stock-based compensation.

     Employee and director stock options granted prior to January 1, 2006, were expensed by the Company on a straight-line basis over the option vesting period, based on the estimated fair value of the award on the date of grant using a Black-Scholes option-pricing model. Employee and director stock options granted after January 1, 2006, are expensed by the Company on a straight-line basis over the required service period, based on the estimated fair value of the award on the date of grant using a Black-Scholes option-pricing model. At the time it adopted SFAS 123(R), the Company changed the expensing period from the vesting period to the required service period, which shortened the period over which options are expensed for employees who are retiree-eligible on the date of grant or become retiree-eligible during the vesting period. The number of employees that fell within this category at January 1, 2006 was not material. In accordance with SEC guidelines, the Company did not alter the expense recorded in connection with prior option grants for the change in the expensing period.

     Employee restricted stock grants prior to January 1, 2006, are amortized on a straight-line basis over the vesting period based on the market price of Piper Jaffray Companies common stock on the date of grant. Restricted stock grants after January 1, 2006, are valued at the market price of the Company’s common stock on the date of grant and amortized on a straight-line basis over the required service period. The majority of the Company’s restricted stock grants provide for continued vesting after termination, so long as the employee does not violate non-competition and certain other post-termination restrictions, as set forth in the award agreements. The Company considers the required service period to be the greater of the vesting period or the non-competition period. The Company believes that the non-competition restrictions meet the SFAS 123(R) definition of a substantive service requirement.

     The Company recorded compensation expense, net of estimated forfeitures, of $6.8 million and $5.1 million for the three months ended September 30, 2006 and 2005, respectively, and $21.4 million and $14.2 million for the nine months ended September 30, 2006 and 2005, respectively, related to employee stock option and restricted stock grants. The tax benefit related to the total compensation cost for stock-based compensation arrangements totaled $2.6 million and $1.9 million for the three months ended September 30, 2006 and 2005, respectively, and $8.2 million and $5.5 million for the nine months ended September 30, 2006 and 2005, respectively.

     In connection with the sale of the Company’s PCS branch network, the Company undertook a plan to significantly restructure the Company’s support infrastructure. The Company accelerated the equity award vesting for employees terminated as part of this restructuring. The acceleration of equity awards was deemed to be a modification of the awards as defined by SFAS 123(R). For the three months ending September 30, 2006, the Company recorded $1.9 million of expense in discontinued operations related to the modification of equity awards to accelerate service vesting. Unvested equity awards related to employees transferring to UBS as part of the PCS sale were canceled. See Notes 14 and 15 for further discussion of the Company’s discontinued operations and restructuring activities.

     The fair value of each stock option is estimated on the date of grant using the Black-Scholes option-pricing model using assumptions such as the risk-free interest rate, the dividend yield, the expected volatility and the expected life of the option. The risk-free interest rate assumption is based on the U.S. treasury bill rate with a maturity equal to the expected life of the option. The dividend yield assumption is based on the assumed dividend payout over the expected life of the option. The expected volatility assumption is based on industry comparisons. The Company has only been a publicly traded company for approximately 33 months; therefore, it does not have sufficient historical data to determine an appropriate expected volatility. The expected life assumption is based on an average of the following two factors: 1) industry comparisons; and 2) the guidance provided by the SEC in Staff Accounting Bulletin No. 107 (“SAB 107”). SAB 107 allows the use of an

“acceptable” methodology under which the Company can take the midpoint of the vesting date and the full contractual term. The following table provides a summary of the valuation assumptions used by the Company to determine the estimated value of stock option grants in Piper Jaffray Companies common stock for the nine months ended September 30:

		2006				2005
Weighted average assumptions in option valuation
Risk-free interest rates			4.55	%			3.77	%
Dividend yield			0.00	%			0.00	%
Stock volatility factor			40.08	%			38.03	%
Expected life of options (in years)			5.53				5.83
Weighted average fair value of options granted		$	22.14			$	16.58

     The following table summarizes the Company’s stock options outstanding for the nine months ended September 30, 2006:

										Weighted Average
						Weighted				Remaining				Aggregate
		Options				Average				Contractual				Intrinsic
		Outstanding				Exercise Price				Term (Years)				Value
December 31, 2005			643,032			$	42.29				8.7			$	11,786,777
Granted			50,560				53.16
Exercised			(10,271	)			42.94
Canceled			(152,000	)			42.83
September 30, 2006			531,321			$	43.16				8.0			$	9,276,865
Options exercisable at September 30, 2006			73,420			$	43.31				7.7			$	1,270,900

     As of September 30, 2006, there was $3.0 million of total unrecognized compensation cost related to stock options expected to be recognized over a weighted average period of 1.39 years.

     The following table summarizes the Company’s nonvested restricted stock for the nine months ended September 30, 2006:

						Weighted
		Nonvested				Average
		Restricted				Grant Date
		Stock				Fair Value
December 31, 2005			1,417,444			$	41.37
Granted			840,592				48.21
Vested			(48,599	)			45.25
Canceled			(594,443	)			44.23
September 30, 2006			1,614,994			$	43.76

     As of September 30, 2006, there was $37.0 million of total unrecognized compensation cost related to restricted stock expected to be recognized over a weighted average period of 1.98 years.

     In connection with the Company’s spin-off from U.S. Bancorp, the Company established a cash award program pursuant to which it granted cash awards to a broad-based group of employees to aid in retention of employees and to compensate employees for the value of U.S. Bancorp stock options and restricted stock lost by employees. The cash awards are being expensed over a four-year period ending December 31, 2007. Participants must be employed on the date of payment to receive payment under the award. Expense related to the cash award program is included as a separate line item on the Company’s consolidated statements of operations.

Note 13 Shareholders’ Equity

Issuance and Purchase of Shares

     During the nine months ended September 30, 2006, the Company reissued 190,966 common shares out of treasury in fulfillment of $9.0 million in obligations under the Piper Jaffray Companies Retirement Plan. The Company also reissued 38,687 common shares out of treasury as a result of vesting and exercise transactions under the Long-Term Incentive Plan. In the third quarter of 2006, the Company entered into an accelerated share repurchase (“ASR”) agreement with a financial institution pursuant to which the Company repurchased 1.6 million shares of its common stock. Under the agreement, the financial institution purchased an equivalent number of shares of the Company’s common stock in the open market. The shares repurchased by the Company were subject to a future price adjustment based upon the weighted average price of the Company’s common stock over an agreed upon period, subject to a specified collar. In October 2006, the Company settled the ASR. The Company elected settlement in shares and received 13,492 additional shares of common stock.

Earnings Per Share

     Basic earnings per common share is computed by dividing net income by the weighted average number of common shares outstanding for the period. Diluted earnings per common share is calculated by adjusting the weighted average outstanding shares to assume conversion of all potentially dilutive restricted stock and stock options. The computation of earnings per share is as follows:

		For the Three Months Ended								For the Nine Months Ended
		September 30,								September 30,
		2006				2005				2006				2005
(Amounts in thousands, except per share data)
Net income		$	186,613			$	15,148			$	214,607			$	23,720
Shares for basic and diluted calculations:
Average shares used in basic computation			18,031				18,841				18,348				18,814
Stock options			91				—				77				—
Restricted stock			949				266				869				193
Average shares used in diluted computation			19,071				19,107				19,294				19,007
Earnings per share:
Basic		$	10.35			$	0.80			$	11.70			$	1.26
Diluted		$	9.79			$	0.79			$	11.12			$	1.25

Note 14 Discontinued Operations

     On August 11, 2006, the Company and UBS completed the sale of the Company’s PCS branch network under a previously announced asset purchase agreement. The purchase price under the asset purchase agreement was approximately $750 million, which included $500 million for the branch network and approximately $250 million for the net assets of the branch network, consisting principally of customer margin receivables.

     In accordance with the provisions of SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” (“SFAS 144”), the results of PCS operations have been classified as discontinued operations for all periods presented and the related assets and liabilities included in the sale have been classified as held for sale. The Company recorded income from discontinued operations, net of tax of $177.1 million and $178.4 million for the three and nine months ended September 30, 2006, respectively. The Company has reclassified $442.9 million in assets and $145.0 million in liabilities as held for sale as of December 31, 2005 related to the sale of the PCS branch network to UBS. Upon completion of the sale of the PCS branch network on August 11, 2006, the assets and liabilities related to the PCS branch network were transferred to UBS.

     In connection with the sale of the Company’s PCS branch network, the Company initiated a plan to significantly restructure the Company’s support infrastructure. As described more fully in Note 15, the Company incurred $56.9 million in restructuring costs related to the restructuring plan for the nine months ended September 30, 2006. All restructuring and transaction costs related to the sale of the PCS branch network are included within discontinued operations in accordance with SFAS 144.

Note 15 Restructuring

     The Company has incurred pre-tax restructuring costs of $56.9 million for the nine months ended September 30, 2006 in connection with the sale of the Company’s PCS branch network to UBS. The expense was incurred upon implementation of a specific restructuring plan to reorganize the Company’s support infrastructure.

     The restructuring charges include the cost of severance, benefits, outplacement costs and equity award accelerated vesting costs associated with the termination of employees. The severance amounts were determined based on a one-time severance benefit enhancement to the Company’s existing severance pay program in place at the time of termination notification and will be paid out over a benefit period of up to one year from the time of termination. Approximately 315 employees have received a severance package. In addition, the Company has incurred restructuring charges for contract termination costs related to the reduction of office space and the modification of technology contracts. Contract termination fees are determined based on the provisions of SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities,” which among other things requires the recognition of a liability for contract termination under a cease-use date concept. The Company also incurred restructuring charges for the impairment or disposal of long-lived assets determined in accordance with SFAS 144.

     The following table presents a summary of activity with respect to the restructuring-related liability:

(Dollars in thousands)
Balance at December 31, 2005		$	—
Provision charged to operating expense			56,919
Cash outlays			(20,719	)
Noncash write-downs			(3,254	)
Balance at September 30, 2006		$	32,946

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

     The following information should be read in conjunction with the accompanying consolidated financial statements and related notes and exhibits included elsewhere in this report. Certain statements in this report may be considered forward-looking. Statements that are not historical or current facts, including statements about beliefs and expectations, are forward-looking statements. These forward-looking statements cover, among other things, the future prospects of Piper Jaffray Companies. Forward-looking statements involve inherent risks and uncertainties, and important factors could cause actual results to differ materially from those anticipated, including those factors discussed below under “External Factors Impacting Our Business” as well as the factors identified under “Risk Factors” in Part 1, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2005, as updated in our subsequent reports filed with the SEC, including any updates found in Part II, Item 1A of this report on Form 10-Q. These reports are available at our Web site at www.piperjaffray.com and at the SEC Web site at www.sec.gov. Forward-looking statements speak only as of the date they are made, and we undertake no obligation to update them in light of new information or future events.

Executive Overview

     Our continuing operations are principally engaged in providing investment banking, institutional brokerage and related financial services to corporations, public sector and non-profit entities in the United States, Europe and Asia, where we recently opened an office in Shanghai, China. Our revenues are generated primarily through the receipt of advisory and financing fees earned on investment banking and public finance activities, commissions and sales credits earned on equity and fixed income transactions, and net interest earned on securities inventories. While we maintain securities inventories primarily to facilitate customer transactions, our capital markets business also realizes profits and losses from trading activities related to these securities inventories.

     The securities business is a human capital business; accordingly, compensation and benefits comprise the largest component of our expenses, and our performance is dependent upon our ability to attract, develop and retain highly skilled employees who are motivated and committed to provide the highest quality of service and guidance to clients throughout their lifecycle.

     Our discontinued operations consist of the operations of our Private Client Services (“PCS”) retail brokerage business through August 11, 2006, the date we closed the sale of our PCS branch network and certain related assets to UBS Financial Services, Inc., a subsidiary of UBS AG (“UBS”), the gain on the sale of the PCS branch network and related restructuring and transaction costs. Our retail brokerage business provided financial advice and a wide range of financial products and services to individual investors through a network of branch offices. Revenues were generated primarily through the receipt of commissions earned on equity and fixed income transactions and for distribution of mutual funds and annuities, fees earned on fee-based client accounts and net interest from customers’ margin loan balances. We received $500 million for the sale of the branch network and approximately $250 million for the net assets of the branch network, consisting principally of customer margin receivables. We did not realize any portion of the additional cash consideration of up to $75 million available under the asset purchase agreement with UBS dependent on post-closing performance of the transferred business. The sale resulted in after-tax proceeds of approximately $510 million and an after-tax book gain for the nine months ended September 30, 2006 of $169 million, net of restructuring and transaction charges. We expect to incur additional pre-tax restructuring costs during the fourth quarter of 2006 related to severance benefits, contract termination costs and other business expenses.

     Our divestiture of the PCS branch network had a material impact on our results of operations and financial condition. The majority of our customer receivables and payables were eliminated, stock loan liabilities that helped finance customer receivables were repaid, we wrote-off goodwill related to PCS of $85.6 million, and we significantly changed our capitalization structure by repaying $180 million in subordinated debt and repurchasing 1.6 million common shares through an accelerated share repurchase agreement for an aggregate purchase price of $100 million. In addition, certain equity awards held by PCS employees were forfeited upon the employees’ transfer to UBS, and certain equity awards held by severed employees were vested on an accelerated basis. As discussed above, the results of our PCS business operations, the gain on the sale of our PCS branch network and the related restructuring and transaction costs have been classified within discontinued operations with prior period PCS results of operations reclassified to discontinued operations for a comparable presentation. See Notes 14 and 15 to our unaudited financial statements for a further discussion of our discontinued operations and restructuring.

     We plan to utilize a portion of the remaining after-tax proceeds from the PCS branch network sale to accelerate the growth of our existing capital markets businesses and to enter new businesses to support our strategic priorities. Deployment of proceeds may include acquisitions to expand existing businesses or to enter new businesses. In addition, as opportunities arise we anticipate we will use more capital to facilitate customer activity and for principal activities to leverage our expertise. Principal activities may include investing our own capital to a greater extent than we have in the past. These investments may include taking proprietary positions in equity or debt securities of public and private companies.

     As part of our growth strategy we also intend to increase the number of business sectors or industries in which we specialize, enhance our product offerings and expand the geographic reach of our services. Within the corporate sector we have traditionally operated in the health care, technology, financial institutions, consumer and aircraft finance sectors. We have recently expanded into the alternative energy, business services and industrial growth sectors to serve our corporate clients. In addition, we have expanded our fixed income financing capabilities to

provide services to the hospitality and commercial real estate industries. In the third quarter of 2006, as part of our efforts to enhance our product offerings, we announced a strategic relationship with CIT Group, Inc. (“CIT”) to offer middle-market companies a comprehensive set of financing solutions. We also increased our geographic reach in the third quarter of 2006 by strengthening our international presence with the addition of offices in Madrid and Shanghai. These growth initiatives will require investments in personnel and other expenses, which may have a short-term negative impact on our profitability as it may take time to develop meaningful revenues from these growth initiatives.

RESULTS FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2006

     For the three months ended September 30, 2006, our net income, including continuing and discontinued operations, was $186.6 million, or $9.79 per diluted share, up from net income of $15.1 million, or $0.79 per diluted share, for the year-ago period. Net income for the third quarter of 2006 included $179.7 million, after tax and net of restructuring and transaction costs, related to the gain on the sale to UBS of the PCS branch network and certain related assets. For the quarter ended September 30, 2006, net income from continuing operations totaled $9.5 million, or $0.50 per diluted share, down from net income of $10.9 million, or $0.57 per diluted share, in the year-ago period. Net revenues for the three months ended September 30, 2006 were $116.1 million, down 3.3 percent from $120.1 million for the same quarter last year.

     For the nine months ended September 30, 2006, our net income increased to $214.6 million, or $11.12 per diluted share, from $23.7 million, or $1.25 per diluted share, for the corresponding period in the prior year. Net revenues from continuing operations for the first nine months of 2006 increased 17.7 percent to $356.3 million, compared to $302.7 million for the first nine months of 2005. For the nine months ended September 30, 2006, net income from continuing operations increased to $36.2 million, or $1.87 per diluted share, from $13.2 million, or $0.70 per diluted share, for the corresponding period in the prior year.

EXTERNAL FACTORS IMPACTING OUR BUSINESS

     Performance in the financial services industry in which we operate is highly correlated to the overall strength of economic conditions and financial market activity. Overall market conditions are a product of many factors, which are mostly unpredictable and beyond our control. These factors may affect the financial decisions made by investors, including their level of participation in the financial markets. In turn, these decisions may affect our business results. With respect to financial market activity, our profitability is sensitive to a variety of factors, including the volume and value of trading in securities, the volatility of the equity and fixed income markets, the level and shape of various yield curves, and the demand for investment banking services as reflected by the number and size of equity and debt financings and merger and acquisition transactions.

     Factors that differentiate our business within the financial services industry also may affect our financial results. For example, our business focuses primarily on middle market companies in specific sectors such as the health care, technology, financial institutions, consumer, aircraft finance, alternative energy, business services, and industrial growth industries within the corporate sector and on health care, higher education, housing, hospitality and state and local government entities within the government/non-profit sector. These sectors may experience growth or downturns independently of general economic and market conditions, or may face market conditions that are disproportionately better or worse than those impacting the economy and markets generally. In either case, our business could be affected differently than overall market trends. Given the variability of the capital markets and securities businesses, our earnings may fluctuate significantly from period to period, and results of any individual period should not be considered indicative of future results.

Results of Operations

FINANCIAL SUMMARY FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005

     The following table provides a summary of the results of our operations and the results of our operations as a percentage of net revenues for the periods indicated.

														Results of Operations
														as a Percentage of Net
		Results of Operations												Revenues
		For the Three Months Ended												For the Three Months Ended
		September 30,												September 30,
										2006
		2006				2005				v2005				2006				2005
(Amounts in thousands)
Revenues:
Investment banking		$	72,107			$	73,407				(1.8	)%			62.1	%			61.1	%
Institutional brokerage			34,964				42,476				(17.7	)			30.1				35.3
Interest			16,663				11,357				46.7				14.4				9.5
Other income			863				949				(9.1	)			0.7				0.8
Total revenues			124,597				128,189				(2.8	)			107.3				106.7
Interest expense			8,490				8,064				5.3				7.3				6.7
Net revenues			116,107				120,125				(3.3	)			100.0				100.0
Non-interest expenses:
Compensation and benefits			69,079				72,649				(4.9	)			59.5				60.5
Occupancy and equipment			6,878				7,710				(10.8	)			5.9				6.4
Communications			5,761				5,683				1.4				5.0				4.7
Floor brokerage and clearance			3,759				3,887				(3.3	)			3.2				3.2
Marketing and business development			5,887				4,827				22.0				5.1				4.0
Outside services			6,344				5,237				21.1				5.5				4.4
Cash award program			512				1,004				(49.0	)			0.4				0.8
Other operating expenses			2,838				3,319				(14.5	)			2.4				2.8
Total non-interest expenses			101,058				104,316				(3.1	)			87.0				86.8
Income from continuing operations before tax expense			15,049				15,809				(4.8	)			13.0				13.2
Income tax expense			5,521				4,871				13.3				4.8				4.1
Net income from continuing operations			9,528				10,938				(12.9	)			8.2	%			9.1
Discontinued operations:
Income from discontinued operations, net of tax			177,085				4,210				4,106.3				N/M				3.5
Net income		$	186,613			$	15,148				1,131.9	%			N/M				12.6	%

N/M — Not Meaningful

     Net income for the three months ended September 30, 2006, was $186.6 million, which included $177.1 million in income from discontinued operations related to the sale of our PCS branch network. For the three months ended September 30, 2006, investment banking revenues decreased slightly to $72.1 million. Revenues from equity and debt financings were stronger than the year-ago period and were offset by a decline in advisory services revenues, which were at record levels for us as of one year ago. Institutional brokerage revenues decreased 17.7 percent from the prior-year period to $35.0 million as a result of decreased equity volumes and lower interest rate product revenues. For the third quarter of 2006, net interest income increased to $8.2 million, up from $3.3 million for the third quarter of 2005. In August 2006, we repaid $180 million in subordinated debt with proceeds from the sale of the PCS branch network, reducing interest expense. Additionally, we have invested the excess proceeds from the sale in short-term interest bearing instruments generating interest income. Other income for the three months ended September 30, 2006, remained flat compared to the prior-year period. For the three months ended September 30, 2006,

non-interest expenses from continuing operations were $101.1 million, down 3.1 percent from $104.3 million for the year-ago period. This decrease was principally the result of a decline in variable compensation and benefits expenses for the three months ended September 30, 2006, driven by lower revenues and profitability.

NON-INTEREST EXPENSES FROM CONTINUING OPERATIONS

Compensation and Benefits

     Compensation and benefits expenses, which are the largest component of our expenses, include salaries, commissions, bonuses, benefits, employment taxes and other employee costs. A substantial portion of compensation expense is comprised of variable incentive arrangements, including discretionary bonuses, the amount of which fluctuates in proportion to the level of business activity, increasing with higher revenues and operating profits. Other compensation costs, primarily base salaries and benefits, are more fixed in nature.

     For the three months ended September 30, 2006, compensation and benefits expenses decreased 4.9 percent to $69.1 million, from $72.6 million for the prior-year period, due primarily to lower variable compensation resulting from a decline in net revenues and profitability. Compensation and benefits expenses as a percentage of net revenues decreased to 59.5 percent, compared to 60.5 percent for the third quarter of 2005.

Occupancy and Equipment

     For the three months ended September 30, 2006, occupancy and equipment expenses were $6.9 million, compared with $7.7 million in the prior-year period. The decrease was attributable to prior investments in technology becoming fully depreciated in the first quarter of 2006. In the fourth quarter of 2006, we anticipate entering into a new lease contract related to our London office and exiting our current lease contract. As a result, we will incur expenses of approximately $1.7 million in the fourth quarter of 2006 related to payment of the remaining 2006 lease payments, early exit penalties and leasehold write-offs.

Communications

     Communication expenses include costs for telecommunication and data communication, primarily consisting of expense for obtaining third-party market data information. For the third quarter of 2006, communication expenses were $5.8 million, essentially flat when compared with the corresponding period in the prior year.

Floor Brokerage and Clearance

     For the three months ended September 30, 2006, floor brokerage and clearance expenses declined 3.3 percent to $3.8 million from the same period last year as a result of our continued efforts to reduce expenses associated with accessing electronic communication networks, offset in part by incremental expense related to our European trading system.

Marketing and Business Development

     Marketing and business development expenses include travel and entertainment, postage, supplies and promotional and advertising costs. For the third quarter of 2006, marketing and business development expenses increased 22.0 percent to $5.9 million, compared with $4.8 million for the third quarter of 2005. This increase was driven by deal-related travel and entertainment expense from higher equity financing activity in the third quarter of 2006.

Outside Services

     Outside services expenses include securities processing expenses, outsourced technology and operations functions, outside legal fees and other professional fees. For the three months ended September 30, 2006, outside services expenses increased to $6.3 million, compared with $5.2 million in the prior-year period due to services associated with our equity trading system being bundled and provided by a single vendor. Previously, these services were provided by multiple vendors and were recorded in communications, floor brokerage and clearance and outside services. In addition, we incurred increased professional fees expenses related to recruitment of capital markets personnel.

Cash Award Program

     In connection with our spin-off from U.S. Bancorp in 2003, we established a cash award program pursuant to which we granted cash awards to a broad-based group of our employees. The award program was designed to aid in retention of employees and to compensate for the value of U.S. Bancorp stock options and restricted stock lost by our employees as a result of the spin-off. The cash awards are being expensed over a four-year period ending December 31, 2007. For the three months ended September 30, 2006, cash awards expense decreased 49.0 percent to $0.5 million, compared with the prior-year period. The sale of our PCS branch network resulted in the forfeiture and accelerated vesting of approximately half of our cash awards and as a result, our ongoing cash award expense will decrease. We anticipate incurring approximately $0.3 million of cash award expense within continuing operations in the fourth quarter of 2006 and approximately $1.5 million of cash awards expense in 2007.

Other Operating Expenses

     Other operating expenses include insurance costs, license and registration fees, expenses related to our charitable giving program, amortization on intangible assets and litigation-related expenses, which consist of the amounts we reserve and/or pay out related to legal and regulatory matters. For the three months ended September 30, 2006, other operating expenses decreased 14.5 percent to $2.8 million, compared with the prior-year period primarily due to a decline in litigation-related charges.

Income Taxes

     For the three months ended September 30, 2006, income taxes from continuing operations were $5.5 million, an effective tax rate of 36.7 percent, compared with an income tax expense of $4.9 million and an effective tax rate of 30.8 percent, for the corresponding period in 2005. The increase in our effective tax rate from the prior-year period is primarily due to a decrease in the ratio of municipal interest income, which is non-taxable, to total taxable income.

NET REVENUES FROM CONTINUING OPERATIONS (DETAIL)

		For the Three Months Ended
		September 30,								2006
(Dollars in thousands)		2006				2005				v2005
Net revenues:
Institutional sales and trading
Fixed income		$	14,723			$	15,616				(5.7	)%
Equities			28,591				32,455				(11.9	)
Total institutional sales and trading			43,314				48,071				(9.9	)
Investment banking
Underwriting
Fixed income			18,920				15,809				19.7
Equities			27,792				18,166				53.0
Advisory services			25,395				39,432				(35.6	)
Total investment banking			72,107				73,407				(1.8	)
Other income			686				(1,353	)			N/M
Total net revenues		$	116,107			$	120,125				(3.3	)%

N/M —Not Meaningful

     For the three months ended September 30, 2006, net revenues were $116.1 million, down 3.3 percent compared with the prior-year period.

     Institutional sales and trading revenues comprise all the revenues generated through trading activities, primarily the facilitation of customer trades. To assess the profitability of institutional sales and trading activities, we aggregate institutional brokerage revenues with the net interest income or expense associated with financing, hedging and holding long or short inventory positions. Our results in the sales and trading area vary from quarter to quarter with changes in trading margins, trading volumes and the timing of transactions as a result of market opportunities. Increased price transparency in the fixed income market, pressure from institutional clients in the equity market to reduce commissions and the use of alternative trading systems in the equity market have put pressure on trading margins. We expect this pressure to continue.

     For the three months ended September 30, 2006, institutional sales and trading revenues were $43.3 million, a decrease of 9.9 percent compared with $48.1 million recorded in the prior-year period. Fixed income institutional sales and trading revenues decreased 5.7 percent to $14.7 million for the three months ended September 30, 2006, compared with $15.6 million for the corresponding period in 2005. This decrease was due primarily to a decline in sales of interest rate products, offset in part by higher revenues from high-yield and structured products. Equity institutional sales and trading revenue decreased 11.9 percent for the three months ended September 30, 2006, to $28.6 million. This decline compared to the prior-year period was primarily driven by lower volumes, offset in part by increased revenues from algorithmic and program trading (“APT”) and convertibles.

     In the third quarter of 2006, investment banking revenues decreased slightly to $72.1 million. Advisory services revenues decreased 35.6 percent to $25.4 million for the three months ended September 30, 2006, compared to record high advisory services revenues in the third quarter of 2005. Partially offsetting this decrease was higher fixed income and equity financing revenues. Fixed income financing revenues increased 19.7 percent to $18.9 million. The increased revenues compared to the prior-year period are due to stronger public finance revenues, resulting principally from higher average revenues per transaction. We completed 111 public finance issues with a par value of $1.5 billion during the third quarter of 2006, compared with 107 issues with a par value of $1.5 billion during the third quarter of 2005. Equity financing revenues increased 53.0 percent to $27.8 million for the three months ended September 30, 2006. Consistent with the industry, we completed fewer equity financing transactions; however, our revenues increased in the third quarter of 2006 when compared with the prior-year period due to higher average revenues per transaction. During the three months ended September 30, 2006, we completed 17 equity financings (8 lead-managed), raising $1.9 billion in capital for our clients, compared with 21 equity financings (7 lead-managed), raising $2.2 billion in capital, during the three months ended September 30, 2005.

DISCONTINUED OPERATIONS

     Discontinued operations include the operating results of our PCS business, the gain on sale of the PCS branch network, and restructuring and transaction costs. The sale of the PCS branch network to UBS closed on August 11, 2006.

     For the three months ended September 30, 2006, income from discontinued operations, net of tax, was $177.1 million. See Note 14 to our unaudited consolidated financial statements for further discussion of our discontinued operations.

     In connection with the sale of our PCS branch network, we implemented a plan to significantly restructure our support infrastructure. We recorded $40.7 million in pre-tax restructuring costs during the third quarter of 2006. We expect to incur additional costs during the fourth quarter of 2006 related to severance benefits, contract termination costs and other business expenses.

FINANCIAL SUMMARY FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006 AND 2005

     The following table provides a summary of the results of our operations and the results of our operations as a percentage of net revenues for the periods indicated.

														Results of Operations
														as a Percentage of Net
		Results of Operations												Revenues
		For the Nine Months Ended												For the Nine Months Ended
		September 30,												September 30,
										2006
		2006				2005				v2005				2006				2005
(Amounts in thousands)
Revenues:
Investment banking		$	203,107			$	169,909				19.5	%			57.0	%			56.1	%
Institutional brokerage			122,136				121,699				0.4				34.3				40.2
Interest			44,728				32,015				39.7				12.5				10.6
Other income			12,131				2,403				404.8				3.4				0.8
Total revenues			382,102				326,026				17.2				107.2				107.7
Interest expense			25,786				23,332				10.5				7.2				7.7
Net revenues			356,316				302,694				17.7				100.0				100.0
Non-interest expenses:
Compensation and benefits			202,656				177,262				14.3				56.9				58.6
Occupancy and equipment			21,705				22,912				(5.3	)			6.1				7.6
Communications			16,737				18,081				(7.4	)			4.7				6.0
Floor brokerage and clearance			9,807				11,336				(13.5	)			2.7				3.7
Marketing and business development			17,188				15,793				8.8				4.8				5.2
Outside services			19,472				16,911				15.1				5.5				5.6
Cash award program			2,673				3,201				(16.5	)			0.8				1.1
Restructuring-related expense			—				8,595				N/M				—				2.8
Other operating expenses			10,185				9,516				7.0				2.8				3.1
Total non-interest expenses			300,423				283,607				5.9				84.3				93.7
Income from continuing operations before tax expense			55,893				19,087				192.8				15.7				6.3
Income tax expense			19,730				5,854				237.0				5.6				1.9
Net income from continuing operations			36,163				13,233				173.3				10.1				4.4
Discontinued operations:
Income from discontinued operations, net of tax			178,444				10,487				1,601.6				50.1				3.4
Net Income		$	214,607			$	23,720				804.8	%			60.2	%			7.8	%

N/M — Not Meaningful

     Except as discussed below, the underlying reasons for variances to prior year are substantially the same as the comparative quarterly discussion, and the statements in the foregoing discussion also apply.

     For the nine months ended September 30, 2006, net income, including both continuing and discontinued operations, totaled $214.6 million, which included a gain of $169.1 million, after-tax and net of restructuring and transaction costs, from the sale of our PCS branch network. Net revenues from continuing operations increased to $356.3 million for the nine months ended September 30, 2006, an increase of 17.7 percent from the corresponding period in the prior year. Investment banking revenues increased 19.5 percent to $203.1 million for the nine months ended September 30, 2006, compared with revenues of $169.9 million in the prior-year period. This increase was primarily attributable to higher equity underwriting activity. Institutional brokerage revenues remained essentially flat when compared with the prior-year period. Other income for the nine months ended September 30, 2006 was $12.1 million, compared with $2.4 million for the corresponding period in the

prior year. The increase was primarily due to a $9.3 million gain related to our ownership of two seats on the New York Stock Exchange, which were exchanged for cash and restricted shares of the NYSE Group, Inc. We sold approximately 65 percent of our NYSE Group, Inc. restricted shares in a secondary offering during the second quarter of 2006. Non-interest expenses increased to $300.4 million for the nine months ended September 30, 2006, from $283.6 million for the nine months ended September 30, 2005. This increase was attributable to increased variable compensation and benefits expenses due to higher revenues and profitability, offset in part by an $8.6 million restructuring charge taken in the second quarter of 2005.

NON-INTEREST EXPENSES FROM CONTINUING OPERATIONS

Communications

     Communication expenses include costs for telecommunication and data communication, primarily consisting of expense for obtaining third-party market data information. For the first nine months of 2006, communication expenses were $16.7 million, down 7.4 percent from the corresponding period in 2005. The decrease was due to costs savings associated with a change in vendors related to our equity trading system and a portion of these costs now being recorded within outside services.

Restructuring-Related Expense

     In the third quarter of 2005, we implemented certain expense reduction measures as a means to better align our cost infrastructure with our revenues. This resulted in a pre-tax restructuring charge of $8.6 million, consisting of $4.9 million in severance benefits and $3.7 million related to the reduction of office space.

Other Operating Expenses

     Other operating expenses include insurance costs, license and registration fees, expenses related to our charitable giving program, amortization on intangible assets and litigation-related expenses, which consist of the amounts we reserve and/or pay out related to legal and regulatory matters. For the nine months ended September 30, 2006, other operating expenses increased to $10.2 million, compared with $9.5 million for the year-ago period. The increase of 7.0 percent was primarily a result of increased charitable giving expenses, offset in part by a reduction in litigation-related expenses.

NET REVENUES FROM CONTINUING OPERATIONS (DETAIL)

		For the Nine Months Ended
		September 30,								2006
(Dollars in thousands)		2006				2005				v2005
Net revenues:
Institutional sales and trading
Fixed income		$	53,959			$	47,275				14.1	%
Equities			92,880				89,322				4.0
Total institutional sales and trading			146,839				136,597				7.5
Investment banking
Underwriting
Fixed income			50,347				47,199				6.7
Equities			83,483				55,464				50.5
Advisory services			69,277				67,246				3.0
Total investment banking			203,107				169,909				19.5
Other income			6,370				(3,812	)			N/M
Total net revenues		$	356,316			$	302,694				17.7	%