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 June 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 o      Accelerated Filer þ      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 July 28, 2006, the registrant had 20,740,866 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 June 30, 2006 and December 31, 2005

Consolidated Statements of Operations for the three months and six months ended June 30, 2006 and June 30, 2005

Consolidated Statements of Cash Flows for the six months ended June 30, 2006 and June 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 4. Submission of Matters to a Vote of Security Holders

Item 6. Exhibits

Signatures

Exhibit Index

Amended and Restated 2003 Annual and Long-Term Incentive Plan

Rule 13a-14(a)/15d-14(a) Certification of CEO

Rule 13a-14(a)/15d-14(a) Certification of CFO

Certifications Pursuant to 18 U.S.C. Section 1350

PART I. FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

Piper Jaffray Companies

		June 30,				December 31,
		2006				2005
(Amounts in thousands, except share data)		(Unaudited)
Assets
Cash and cash equivalents		$	138,167			$	60,869
Receivables:
Customers (net of allowance of $1,665 at June 30, 2006 and $1,793 at December 31, 2005)			60,627				54,421
Brokers, dealers and clearing organizations			136,503				299,056
Deposits with clearing organizations			58,340				64,379
Securities purchased under agreements to resell			243,883				222,844
Trading securities owned			615,154				517,310
Trading securities owned and pledged as collateral			174,792				236,588
Total trading securities owned			789,946				753,898
Fixed assets (net of accumulated depreciation and amortization of $70,424 and $76,581, respectively)			37,520				41,752
Goodwill (net of accumulated amortization of $52,531)			317,167				317,167
Intangible assets (net of accumulated amortization of $2,533 and $1,733, respectively)			2,267				3,067
Other receivables			38,269				24,626
Other assets			89,399				69,200
Assets held for sale			419,855				442,912
Total assets		$	2,331,943			$	2,354,191
Liabilities and Shareholders’ Equity
Payables:
Customers		$	111,299			$	73,781
Checks and drafts			36,141				53,304
Brokers, dealers and clearing organizations			259,816				259,597
Securities sold under agreements to repurchase			198,175				245,786
Trading securities sold, but not yet purchased			328,049				332,204
Accrued compensation			118,617				171,551
Other liabilities and accrued expenses			171,602				138,122
Liabilities held for sale			120,815				145,019
Total liabilities			1,344,514				1,419,364
Subordinated debt			180,000				180,000
Shareholders’ equity:
Common stock, $0.01 par value;
Shares authorized: 100,000,000 at June 30, 2006 and December 31, 2005;
Shares issued: 19,487,319 at June 30, 2006 and 19,487,319 at December 31, 2005;
Shares outstanding: 18,556,143 at June 30, 2006 and 18,365,177 at December 31, 2005			195				195
Additional paid-in capital			721,660				704,005
Retained earnings			118,425				90,431
Less common stock held in treasury, at cost: 931,176 shares at June 30, 2006 and 1,122,142 at December 31, 2005			(29,429	)			(35,422	)
Other comprehensive loss			(3,422	)			(4,382	)
Total shareholders’ equity			807,429				754,827
Total liabilities and shareholders’ equity		$	2,331,943			$	2,354,191

Piper Jaffray Companies

		Three Months Ended								Six Months Ended
		June 30,								June 30,
(Amounts in thousands, except per share data)		2006				2005				2006				2005
Revenues:
Investment banking		$	61,236			$	47,958			$	131,000			$	96,502
Institutional brokerage			40,898				42,401				87,172				79,223
Interest			13,521				10,835				28,065				20,658
Other income			(1,262	)			947				11,268				1,454
Total revenues			114,393				102,141				257,505				197,837
Interest expense			9,143				7,909				17,296				15,268
Net revenues			105,250				94,232				240,209				182,569
Non-interest expenses:
Compensation and benefits			60,653				53,998				133,577				104,613
Occupancy and equipment			6,718				7,879				14,827				15,202
Communications			5,593				6,097				10,976				12,398
Floor brokerage and clearance			3,373				3,963				6,048				7,449
Marketing and business development			6,122				5,226				11,301				10,966
Outside services			6,836				6,460				13,128				11,674
Cash award program			886				1,061				2,161				2,197
Restructuring-related expense			—				8,595				—				8,595
Other operating expenses			2,910				2,811				7,347				6,197
Total non-interest expenses			93,091				96,090				199,365				179,291
Income/(loss) from continuing operations before income tax expense/(benefit)			12,159				(1,858	)			40,844				3,278
Income tax expense/(benefit)			4,230				(750	)			14,209				983
Net income/(loss) from continuing operations			7,929				(1,108	)			26,635				2,295
Discontinued operations:
Income/(loss) from discontinued operations, net of tax			(3,792	)			2,345				1,359				6,277
Net Income		$	4,137			$	1,237			$	27,994			$	8,572
Earnings per basic common share
Income/(loss) from continuing operations		$	0.43			$	(0.06	)		$	1.44			$	0.12
Income /(loss) from discontinued operations			(0.20	)			0.12				0.07				0.33
Earnings per basic common share		$	0.22			$	0.07			$	1.51			$	0.45
Earnings per diluted common share
Income/(loss) from continuing operations		$	0.40			$	(0.06	)		$	1.37			$	0.12
Income/(loss) from discontinued operations			(0.19	)			0.12				0.07				0.33
Earnings per diluted common share		$	0.21			$	0.06			$	1.44			$	0.44
Weighted average number of common shares outstanding
Basic			18,556				19,028				18,509				19,141
Diluted			19,669				19,195				19,408				19,297

See Notes to Consolidated Financial Statements

Piper Jaffray Companies

		Six Months Ended
		June 30,
(Dollars in thousands)		2006				2005
Operating Activities:
Net income		$	27,994			$	8,572
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
Depreciation and amortization			7,874				8,749
Disposal of fixed assets			359				112
Deferred income taxes			(8,797	)			(2,947	)
Stock-based compensation			14,634				9,167
Amortization of intangible assets			800				800
Forgivable loan reserve			200				—
Decrease (increase) in operating assets:
Receivables:
Customers			14,402				(39,813	)
Brokers, dealers and clearing organizations			162,667				196,457
Deposits with clearing organizations			6,039				2,750
Securities purchased under agreements to resell			(21,039	)			(92,475	)
Net trading securities owned			(40,567	)			(136,516	)
Other receivables			(12,982	)			(4,466	)
Other assets			(11,487	)			1,593
Increase (decrease) in operating liabilities:
Payables:
Customers			12,810				92,687
Checks and drafts			(17,163	)			(10,593	)
Brokers, dealers and clearing organizations			8,455				(3,517	)
Securities sold under agreements to repurchase			13,839				(5,009	)
Accrued compensation			(44,106	)			(75,240	)
Other liabilities and accrued expenses			33,826				2,199
Net cash provided by (used in) operating activities			147,758				(47,490	)
Investing Activities:
Purchases of fixed assets, net			(5,281	)			(8,526	)
Net cash used in investing activities			(5,281	)			(8,526	)
Financing Activities:
(Decrease) increase in securities loaned			(4,559	)			61,383
Decrease in securities sold under agreements to repurchase			(61,450	)			(48,702	)
Increase in short-term bank financing			—				46,000
Repurchase of common stock			—				(31,397	)
Net cash provided by (used in) financing activities			(66,009	)			27,284
Currency adjustment:
Effect of exchange rate changes on cash			830				—
Net increase (decrease) in cash and cash equivalents			77,298				(28,732	)
Cash and cash equivalents at beginning of period			60,869				67,387
Cash and cash equivalents at end of period		$	138,167			$	38,655
Supplemental disclosure of cash flow information -
Cash paid during the period for:
Interest		$	22,063			$	16,480
Income taxes		$	24,588			$	10,150
Noncash financing activities -
Issuance of common stock for retirement plan obligations:
190,966 shares and 331,434 shares for the six months ended June 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 through an office located 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 13, the Company announced the sale of its Private Client Services branch network business in the second quarter of 2006 and will exit the Private Client Services business when the sale closes, which currently is expected to occur in the third quarter of 2006.

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 which result from market making activities and from the Company’s commitment of capital to facilitate customer transactions; 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 evaluating the impact of FIN 48 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 June 30, 2006, and December 31, 2005, the Company was counterparty to notional/contract amounts of $5.5 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. 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 $28.0 million and $17.0 million as of June 30, 2006, and December 31, 2005, respectively.

Note 5 Securitizations

     In connection with its tender option bond program, as of June 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 $1.3 million at June 30, 2006, with a weighted average life of 8.9 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. The Company receives a fee to remarket the variable rate certificates derived from the securitizations.

     At June 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 sensitivity analysis does not include the offsetting benefit of financial instruments the Company utilizes to economically hedge risks inherent in its retained interests and is hypothetical. Changes in fair value based on a 10 percent or 20 percent variation in an assumption generally cannot be extrapolated because the relationship of the change in the assumption to the change in the fair value may not be linear. Also, the effect of a variation in a particular assumption on the fair value of the retained interests is calculated independent of changes in any other assumption; in practice, changes in one factor may result in changes in another, which might magnify or counteract the sensitivities. In addition, the sensitivity analysis does not consider any corrective action that the Company might take to mitigate the impact of any adverse changes in key assumptions.

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

(Dollars in thousands)
Proceeds from new securitizations		$	7,578
Remarketing fees received			68
Cash flows received on retained interests			3,325

     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 $51.0 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 June 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 an asset of approximately $2.0 million at June 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 June 30, 2006 was $251.0 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 $256.6 million at June 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 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:

		June 30,				December 31,
(Dollars in thousands)		2006				2005
Owned:
Corporate securities:
Equity securities		$	27,849			$	13,260
Convertible securities			45,547				9,221
Fixed income securities			107,005				68,017
Mortgage-backed securities			278,677				329,057
U.S. government securities			6,957				26,652
Municipal securities			293,649				286,531
Other			30,262				21,160
		$	789,946			$	753,898
Sold, but not yet purchased:
Corporate securities:
Equity securities		$	44,854			$	8,367
Convertible securities			5,040				2,572
Fixed income securities			25,292				31,588
Mortgage-backed securities			81,371				157,132
U.S. government securities			158,119				127,833
Municipal securities			10,515				93
Other			2,858				4,619
		$	328,049			$	332,204

     At June 30, 2006, and December 31, 2005, trading securities owned in the amount of $174.8 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 7 Goodwill and Intangible Assets

     The following table presents the changes in the carrying value of goodwill and intangible assets for the six months ended June 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			—				—				—
Impairment losses			—				—				—
Balance at June 30, 2006		$	231,567			$	85,600			$	317,167
Intangible assets
Balance at December 31, 2005		$	3,067			$	—			$	3,067
Intangible assets acquired			—				—				—
Amortization of intangible assets			(800	)			—				(800	)
Impairment losses			—				—				—
Balance at June 30, 2006		$	2,267			$	—			$	2,267

The intangible assets are amortized on a straight-line basis over three years.

Note 8 Financing

     The Company has uncommitted credit agreements with banks totaling $675 million at June 30, 2006, composed of $555 million in discretionary secured lines of which $0 was outstanding at June 30, 2006 and December 31, 2005, and $120 million in discretionary unsecured lines of which $0 was outstanding at June 30, 2006 and December 31, 2005. 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.

     Piper Jaffray has executed a $180 million subordinated loan agreement, which satisfies provisions of Appendix D of SEC Rule 15c3-1 and has been approved by the NYSE and is therefore allowable in Piper Jaffray’s net capital computation. The entire amount of the subordinated debt will mature in 2008. In April 2006, the Company announced its intention to repay in full the outstanding balance of this subordinated debt following the closing of the sale of its Private Client Services branch network, currently expected to occur in the third quarter of 2006.

     The Company’s subordinated debt and short-term financing bear interest at rates based on the London Interbank Offered Rate or federal funds rate. At June 30, 2006 and December 31, 2005, the weighted average interest rate on borrowings was 6.33 percent and 5.55 percent, respectively. At June 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 9 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 (“USB”) has agreed to indemnify the Company in an amount up to $17.5 million for certain legal and regulatory matters. Approximately $13.3 million of this amount remained available as of June 30, 2006.

     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 USB 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 indemnification, the results of operations in that period could be materially adversely affected.

Note 10 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 June 30, 2006, net capital under the SEC rule was $335.2 million, or 63.2 percent of aggregate debit balances, and $324.6 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 June 30, 2006, Piper Jaffray Ltd. was in compliance with the capital requirements of the FSA.

Note 11 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. 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, providing 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 $8.0 million and $5.5 million for the three months ended June 30, 2006 and 2005, respectively, and $14.6 million and $9.2 million for the six months ended June 30, 2006 and 2005, respectively, related to employee stock option and restricted stock grants. The tax benefit recognized related to the total compensation cost for stock-based compensation arrangements totaled $3.1 million and $2.1 million for the three months ended June 30, 2006 and 2005, respectively, and $5.6 million and $3.5 million for the six months ended June 30, 2006 and 2005, respectively.

     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 30 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 six months ended June 30:

Weighted average assumptions in option valuation		2006				2005
Risk-free interest rates			4.55	%			3.77	%
Dividend yield			0.00	%			0.00	%
Stock volatility factor			40.08	%			38.11	%
Expected life of options (in years)			5.53				5.86
Weighted average fair value of options granted		$	22.14			$	16.66

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

										Weighted Average
						Weighted				Remaining				Aggregate
		Options				Average				Contractual				Intrinsic
		Outstanding				Exercise Price				Term (Years)				Value
December 31, 2005			643,032			$	42.29
Granted			50,560				53.16
Canceled			(56,127	)			42.29
June 30, 2006			637,465			$	43.15				8.3			$	11,511,648
Options exercisable at June 30, 2006			65,947			$	43.16				8.6			$	1,190,263

     As of June 30, 2006, there was $4.6 million of total unrecognized compensation cost related to stock options expected to be recognized over a weighted average period of 1.6 years.

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

						Weighted
		Nonvested				Average
		Restricted				Grant Date
		Stock				Fair Value
December 31, 2005			1,417,444			$	41.37
Granted			823,334				48.00
Vested			(1,080	)			45.24
Canceled			(56,055	)			44.72
June 30, 2006			2,183,643			$	43.78

     As of June 30, 2006, there was $58.5 million of total unrecognized compensation cost related to restricted stock expected to be recognized over a weighted average period of 2.0 years. Approximately $12.3 million of this unrecognized compensation is expected to be forfeited at the close of the PCS sale to UBS.

     In connection with the Company’s spin-off from USB, it established a cash award program pursuant to which it granted cash awards to a broad-based group of employees. The cash award program was intended to aid in retention of employees and to compensate employees for the value of USB 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 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 12 Shareholders’ Equity

Issuance of Shares

     During the six months ended June 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.

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 Six Months Ended
		June 30,								June 30,
(Amounts in thousands, except per share data)		2006				2005				2006				2005
Net income		$	4,137			$	1,237			$	27,994			$	8,572
Shares for basic and diluted calculations:
Average shares used in basic computation			18,556				19,028				18,509				19,141
Stock options			125				—				70				—
Restricted stock			988				167				829				156
Average shares used in diluted computation			19,669				19,195				19,408				19,297
Earnings per share:
Basic		$	0.22			$	0.07			$	1.51			$	0.45
Diluted		$	0.21			$	0.06			$	1.44			$	0.44

Note 13 Discontinued Operations

     On April 10, 2006, the Company and UBS Financial Services Inc., a subsidiary of UBS AG, entered into an Asset Purchase Agreement (the “Agreement”) pursuant to which UBS has agreed to purchase the branch network of the Private Client Services (“PCS”) business and certain assets of that business consisting primarily of customer collateralized margin loans (as disclosed in the Company’s Form 8-K filed with the SEC on April 11, 2006). The Company’s board of directors and management completed an analysis of the long-term prospects of the PCS business and concluded that the sale of PCS was in the best interest of shareholders and PCS clients. The Company intends to use the sale proceeds to grow and enhance its existing capital markets business, expand into new businesses that support the Company’s strategic priorities, and to pay down debt and repurchase common stock. The purchase price under the Agreement is $800 million, which includes $500 million for the branch network and approximately $300 million for the net assets of the branch network. In addition, the agreement provides for additional cash consideration of up to $75 million dependent on post-closing performance of the transferred business; at present, however, the Company anticipates realizing only a portion, if any, of such additional cash consideration. The Company currently expects the transaction covered by the agreement to close in the third quarter of 2006, subject to certain regulatory approvals and customary closing conditions.

     In accordance with the provisions of Statement of Financial Accounting Standards No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” (“SFAS 144,”) the results of PCS operations, as summarized below, have been classified as discontinued operations for all periods presented and the related assets and liabilities included in the sale as held for sale. In connection with the sale of the Company’s PCS business the Company has approved a plan to significantly restructure the Company’s support infrastructure. As described more fully in Note 14, the Company incurred $16.2 million in costs related to the restructuring plan in the three months ended June 30, 2006. In addition, the Company incurred $1.0 million of transaction costs related to the sale of the PCS business for the three months ended June 30, 2006. These restructuring and transaction costs are included within discontinued operations in accordance with SFAS 144.

Results from discontinued operations are as follows:

		For the Three Months Ended								For the Six Months Ended
		June 30,								June 30,
(Dollars in thousands)		2006				2005				2006				2005
PCS net revenues		$	89,195			$	85,433			$	181,790			$	176,164
PCS operating expenses			77,511				81,983				161,910				166,371
Restructuring costs			16,191				—				16,191				—
Transaction costs			957				—				957				—
Income/(loss) before tax expense/(benefit)			(5,464	)			3,450				2,732				9,793
Income tax expense/(benefit)			(1,672	)			1,105				1,373				3,516
Income/(loss) from discontinued operations, net of tax		$	(3,792	)		$	2,345			$	1,359			$	6,277

     The Company has included the following assets and liabilities as held for sale in connection with the sale of the PCS branch network to UBS:

		June 30,				December 31,
(Dollars in thousands)		2006				2005
Assets held for sale
Customer receivables		$	394,899			$	418,566
Fixed assets (net of accumulated depreciation and amortization of $23,114 and $22,371, respectively)			14,842				13,372
Employee forgiveable loans			8,704				9,984
Other receivables			1,410				990
Total assets held for sale		$	419,855			$	442,912

		June 30,				December 31,
(Dollars in thousands)		2006				2005
Liabilities held for sale
Customer payables		$	118,193			$	142,871
Other payables			2,622				2,148
Total liabilities held for sale		$	120,815			$	145,019

Note 14 Restructuring

     The Company incurred pre-tax restructuring costs of $16.2 million in the second quarter of 2006 in connection with the pending sale of the Company’s PCS branch network to a subsidiary of UBS AG. The expense was incurred upon implementation of a specific restructuring plan to reorganize the Company’s support infrastructure.

     The restructuring charge incurred to date includes the cost of severance, other benefits and outplacement 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 will receive severance. The following table presents a summary of activity with respect to the restructuring-related liability:

		June 30,
(Dollars in thousands)		2006
Balance at December 31, 2005		$	—
Provision charged to operating expense			16,191
Cash outlays			—
Noncash write-downs			—
Balance at June 30, 2006		$	16,191

     The Company anticipates recording additional restructuring charges in the second half of 2006 of approximately $44 million, the majority of which will be in the third quarter of 2006.

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 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 the 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 and public sector and non-profit entities in the United States, with some activity in Europe. Revenues are generated primarily through 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 to serve the best interests of our clients, thereby serving the best interests of our company.

     Our discontinued operations consist of our retail brokerage business, which provides financial advice and a wide range of financial products and services to individual investors through our network of branch offices. Revenues are generated primarily through 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.

     On April 10, 2006, we entered into a definitive agreement to sell 100 percent of our Private Client Services (“PCS”) branch network to a subsidiary of UBS AG. The purchase price under the agreement is $800 million, which includes $500 million for the branch network and approximately $300 million for the net assets of the branch network. In addition, the agreement provides for additional cash consideration of up to $75 million depending on post-closing performance of the transferred business; at present, however, we anticipate realizing only a portion, if any, of such additional cash consideration. Excluding the potential additional consideration of up to $75 million, we currently expect the sale to result in after-tax proceeds of approximately $510 million and an after-tax book gain of approximately $170 million, net of approximately $60 million in restructuring charges. The sale is expected to close in the third quarter of 2006.

     In light of the pending sale of our PCS branch network, the PCS results of operations are accounted for as discontinued operations. We now operate through a single reporting segment representing our capital markets focused business. See Notes 13 and 14 to our unaudited financial statements for a further discussion of our discontinued operations and restructuring.

     We anticipate utilizing the after-tax proceeds from the sale to accelerate the growth of our existing capital markets business and to enter new businesses to support our strategic priorities. In addition, we expect to significantly change our capitalization structure by repaying $180 million in subordinated debt and repurchasing up to $180 in common stock, to be effected through a combination of an accelerated share repurchase and open market purchases.

     Our divestiture of the PCS branch network will have a material impact on our results of operations and financial condition. We anticipate the most material of the changes to our statement of financial condition to be as follows: most of our customer receivables and payables will be eliminated, goodwill related to PCS of $85.6 million will be written-off, and our subordinated debt will be repaid. Our results of operations have been reclassified to present PCS results within discontinued operations. In the near term, we expect continuing operations to have an increase in net interest income as we invest the excess cash proceeds from the sale prior to making any business investments and due to the

elimination of our subordinated debt. We also expect to use up to $180 million of the sale proceeds to repurchase common stock. In addition, certain equity awards granted to PCS employees will be forfeited upon their transfer to UBS, and other awards will become vested.

RESULTS FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2006

     For the three months ended June 30, 2006, our net income, which includes both continuing and discontinued operations, was $4.1 million, or $0.21 per diluted share, up from net income of $1.2 million, or $0.06 per diluted share, for the year-ago period. The second quarter of 2006 included a restructuring charge and transaction costs related to the pending sale of the PCS branch network; the restructuring charge and transaction costs reduced net income by $10.6 million after tax, or $0.54 per diluted share. The second quarter of 2005 results included a pre-tax restructuring charge of $8.6 million, or $0.29 per diluted share after tax, related to implementing certain expense reduction measures. For the quarter ended June 30, 2006, net income from continuing operations totaled $7.9 million, up from a net loss of $1.1 million in the year-ago period, on net revenues of $105.3 million, up 11.7 percent from $94.2 million for the same quarter last year. Diluted earnings per share from continuing operations were $0.40, up from a loss of $0.06 per share in the prior-year quarter.

     For the six months ended June 30, 2006, our net income increased to $28.0 million from $8.6 million for the corresponding period in the prior year, resulting in diluted earnings per share of $1.44 and $0.44, respectively. Net revenues from continuing operations for the first six months of 2006 increased 31.6 percent to $240.2 million, compared to $182.6 million for the first six months of 2005. For the six months ended June 30, 2006, net income from continuing operations increased to $26.6 million from $2.3 million for the corresponding period in the prior year, resulting in diluted earnings per share of $1.37 and $0.12, respectively.

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 commission charged for trade execution, the level and shape of various yield curves and the demand for investment banking services as reflected by the number and size of public offerings 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 specific sectors such as the consumer, financial institutions, health care and technology industries within the corporate sector and on health care, higher education, housing, 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 JUNE 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
		June 30,												June 30,
										2006
		2006				2005				v2005				2006				2005
(Dollars in thousands)
Revenues:
Investment banking		$	61,236			$	47,958				27.7	%			58.2	%			50.9	%
Institutional brokerage			40,898				42,401				(3.5	)			38.9				45.0
Interest			13,521				10,835				24.8				12.8				11.5
Other income			(1,262	)			947				N/M				(1.2	)			1.0
Total revenues			114,393				102,141				12.0				108.7				108.4
Interest expense			9,143				7,909				15.6				8.7				8.4
Net revenues			105,250				94,232				11.7				100.0				100.0
Non-interest expenses:
Compensation and benefits			60,653				53,998				12.3				57.6				57.3
Occupancy and equipment			6,718				7,879				(14.7	)			6.4				8.4
Communications			5,593				6,097				(8.3	)			5.3				6.5
Floor brokerage and clearance			3,373				3,963				(14.9	)			3.2				4.2
Marketing and business development			6,122				5,226				17.1				5.8				5.5
Outside services			6,836				6,460				5.8				6.5				6.9
Cash award program			886				1,061				(16.5	)			0.8				1.1
Restructuring expense			—				8,595				N/M				—				9.1
Other operating expenses			2,910				2,811				3.5				2.8				3.0
Total non-interest expenses			93,091				96,090				(3.1	)			88.4				102.0
Income/(loss) from continuing operations before tax expense/(benefit)			12,159				(1,858	)			N/M				11.6				(2.0	)
Income tax expense/(benefit)			4,230				(750	)			N/M				4.1				(0.8	)
Net income/(loss) from continuing operations			7,929				(1,108	)			N/M				7.5				(1.2	)
Discontinued operations:
Income/(loss) from discontinued operations, net of tax			(3,792	)			2,345				N/M				(3.6	)			2.5
Net income		$	4,137			$	1,237				234.4	%			3.9	%			1.3	%

     Net income for the three months ended June 30, 2006 was significantly impacted by $17.1 million of pre-tax restructuring and transaction costs included within discontinued operations related to the pending sale of the PCS branch network. Net income for the year-ago period was impacted by $8.6 million of pre-tax restructuring-related expenses incurred in that quarter to implement certain expense reduction measures. For the three months ended June 30, 2006, investment banking revenues increased 27.7 percent to $61.2 million, compared with revenues of $48.0 million in the prior-year period; the increase in revenues was due to an increase in equity underwriting and advisory services activity.

Institutional brokerage revenues decreased 3.5 percent from the prior-year period to $40.9 million as a result of decreased equity commissions. For the second quarter of 2006, net interest income increased to $4.4 million, up from $2.9 million for the second quarter of 2005. This increase was due to the impact of rising short-term interest rates on net inventories and other net earning assets, and the growth in sales of interest-rate products. Other income for the three months ended June 30, 2006 reflects a loss of $1.3 million, primarily resulting from losses we recognized due to a decrease in the market value of NYSE Group, Inc. restricted shares held by us, approximately two-thirds of which we sold during the quarter in a NYSE Group, Inc. secondary offering. For the three months ended June 30, 2006, non-interest expenses from continuing operations were $93.1 million, down 3.1 percent from $96.1 million for the year-ago period. This decrease was principally the result of the $8.6 million restructuring charge taken in the second quarter of 2005, offset in part by increased variable compensation and benefits expenses for the three months ended June 30, 2006, due to higher 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 June 30, 2006, compensation and benefits expenses increased 12.3 percent to $60.7 million, from $54.0 million for the prior-year period due primarily to higher variable compensation resulting from increased net revenues and profitability. Compensation and benefits expenses as a percentage of net revenues increased slightly to 57.6 percent, compared to 57.3 percent for the second quarter of 2005.

Occupancy and Equipment

     For the three months ended June 30, 2006, occupancy and equipment expenses were $6.7 million, compared with $7.9 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 will be entering into a new lease contract related to our London office and exiting our current lease contract. As a result, we will incur expense of approximately $1.5 million 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 second quarter of 2006, communication expenses were $5.6 million, down 8.3 percent from the corresponding period in the prior year. 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.

Floor Brokerage and Clearance

     For the three months ended June 30, 2006, floor brokerage and clearance expenses declined 14.9 percent to $3.4 million from the same period last year as a result of our continued efforts to reduce expenses associated with accessing electronic communication networks.

Marketing and Business Development

     Marketing and business development expenses include travel and entertainment, postage, supplies and promotional and advertising costs. For the second quarter of 2006, marketing and business development expenses increased 17.1 percent to $6.1 million, compared with $5.2 million for the second quarter of 2005. This increase was driven by deal-related travel and entertainment expense from higher equity underwriting and advisory services activity in the second 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 June 30, 2006, outside services expenses increased modestly to $6.8 million, compared with $6.5 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 and floor brokerage and clearing expenses, as well as outside services.

Cash Award Program

     In connection with our spin-off from U.S. Bancorp, 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. The sale of the PCS branch network will result in the forfeiture and accelerated vesting of a significant number of cash awards, resulting in a decrease to our ongoing cash award expense. We anticipate incurring approximately $0.8 million and $0.6 million of cash award expense within continuing operations in the third and fourth quarters of 2006, respectively. We anticipate incurring approximately $2.0 million of cash awards expense in 2007.

Restructuring-Related Expense

     In the second 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 three months ended June 30, 2006, other operating expenses were essentially flat at $2.9 million, compared with the prior-year period.

Income Taxes

     For the three months ended June 30, 2006, income taxes from continuing operations were $4.2 million, an effective tax rate of 34.8 percent, compared with an income tax benefit of $0.8 million and an effective tax rate of 40.4 percent, for the corresponding period in 2005. The 40.4 percent effective tax rate for the year-ago period was not reflective of our 2005 annual effective tax rate and was higher as the result of the loss in the year-ago period.

NET REVENUES FROM CONTINUING OPERATIONS (DETAIL)

		For the Three Months Ended
		June 30,								2006
(Dollars in thousands)		2006				2005				v2005
Net revenues:
Institutional sales and trading
Fixed income		$	16,621			$	17,391				(4.4	)%
Equities			31,530				30,029				5.0
Total institutional sales and trading			48,151				47,420				1.5
Investment banking
Underwriting
Fixed income			15,675				19,758				(20.7	)
Equities			25,648				16,960				51.2
Advisory services			19,913				11,240				77.2
Total investment banking			61,236				47,958				27.7
Subordinated debt interest expense			(2,875	)			(2,093	)			37.4
Other income			(1,262	)			947				N/M
Total net revenues		$	105,250			$	94,232				11.7	%

     For the three months ended June 30, 2006, net revenues were $105.3 million, up 11.7 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, economically 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 June 30, 2006, institutional sales and trading revenues were $48.2 million, a slight increase compared with $47.4 million recorded in the prior-year period as increased equity sales and trading revenues were partially offset by a decline in fixed income sales and trading. Fixed income institutional sales and trading revenues decreased 4.4 percent to $16.6 million for the three months ended June 30, 2006, compared with $17.4 million for the corresponding period in 2005. This decrease was due primarily to a decline in sales of interest rate products. Equity institutional sales and trading revenue increased 5.0 percent for the three months ended June 30, 2006, to $31.5 million. We improved year-over-year performance through higher convertible net revenues and incremental sales and trading revenue related to our European expansion.

     In the second quarter of 2006, investment banking revenues increased 27.7 percent to $61.2 million, compared with $48.0 million in the second quarter of 2005. This increase was driven by strong demand for equity underwriting and advisory services. Equity underwriting revenues increased 51.2 percent to $25.6 million for the three months ended June 30, 2006. This increase was due to a large convertible transaction and an increased volume of completed equity transactions. During the three months ended June 30, 2006, we completed 20 equity offerings (10 lead-managed), raising $2.9 billion in capital for our clients, compared with 14 equity offerings (6 lead-managed), raising $2.5 billion in capital, during the three months ended June 30, 2005. Advisory services revenues increased 77.2 percent to $19.9 million for the three months ended June 30, 2006 as merger and acquisition activity remained strong. In the second quarter of 2006, we completed 9 mergers and acquisitions transactions valued at $1.7 billion, compared with 6 deals valued at $0.6 billion in the second quarter of 2005. Partially offsetting these increases was a decline in fixed income underwriting revenues of 20.7 percent, compared to the record second quarter of 2005, due to fewer municipal refinancing transactions.

     Subordinated debt interest expense increased 37.4 percent from the year-ago period to $2.9 million due to increased short-term interest rates.

     For the three months ended June 30, 2006, other income was a $1.3 million loss primarily resulting from losses we recognized due to a decline in the market value of restricted NYSE Group, Inc. shares held by us, approximately two-thirds of which we sold during the quarter.

DISCONTINUED OPERATIONS

     Discontinued operations include the operating results of our PCS business. On April 10, 2006, we signed a definitive agreement to sell our PCS branch network and certain other assets of that business to a subsidiary of UBS AG. We expect the transaction to close in the third quarter of 2006. In addition, discontinued operations include restructuring and transactions costs incurred in connection with this pending sale.

		For the Three Months Ended
		June 30,								2006 vs.
(Dollars in thousands)		2006				2005				2005
PCS revenues		$	89,195			$	85,433				4.4	%
PCS operating expenses			77,511				81,983				(5.5	)
Restructuring costs			16,191				—				N/M
Transaction costs			957				—				N/M
Income/(loss) before tax expense/(benefit)			(5,464	)			3,450				N/M
Income tax expense/(benefit)			(1,672	)			1,105				N/M
Income/(loss) from discontinued operations, net of tax		$	(3,792	)		$	2,345				N/M
Number of PCS financial advisors			736				863				(14.7	)%
(period end)

     For the three months ended June 30, 2006, PCS recorded pre-tax operating income before restructuring and transaction costs of $11.7 million, compared with $3.5 million for the three months ended June 30, 2005. PCS net revenues improved from the year-ago period due to increases in fee-based revenues and increased net interest income due to increased short-term interest rates. These increases were partially offset by reduced revenues from 14.7 percent fewer financial advisors. A large portion of the decline in financial advisors is attributable to the pending sale of the PCS branch network. PCS operating expenses declined 5.5 percent from the year-ago period due to the cancellation of various PCS initiatives and the discontinuation of depreciation in accordance with Statement of Financial Accounting Standard No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” See Note 13 to our unaudited consolidated financial statements for further discussion.

     In connection with the sale of our PCS branch network, we recorded $17.1 million in pre-tax restructuring and transactions costs during the second quarter of 2006. See Note 14 to our unaudited consolidated financial statements for further discussion of these costs.

FINANCIAL SUMMARY FOR THE SIX MONTHS ENDED JUNE 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 Six Months Ended												For the Six Months Ended
		June 30,												June 30,
										2006
(Dollars in thousands)		2006				2005				v2005				2006				2005
Revenues:
Investment banking		$	131,000			$	96,502				35.7	%			54.5	%			52.9	%
Insititutional brokerage			87,172				79,223				10.0				36.3				43.4
Interest			28,065				20,658				35.9				11.7				11.3
Other income			11,268				1,454				675.0				4.7				0.8
Total revenues			257,505				197,837				30.2				107.2				108.4
Interest expense			17,296				15,268				13.3				7.2				8.4
Net revenues			240,209				182,569				31.6				100.0				100.0
Non-interest expenses:
Compensation and benefits			133,577				104,613				27.7				55.6				57.3
Occupancy and equipment			14,827				15,202				(2.5	)			6.2				8.3
Communications			10,976				12,398				(11.5	)			4.6				6.8
Floor brokerage and clearance			6,048				7,449				(18.8	)			2.5				4.1
Marketing and business development			11,301				10,966				3.1				4.7				6.0
Outside services			13,128				11,674				12.5				5.5				6.4
Cash award program			2,161				2,197				(1.6	)			0.9				1.2
Restructuring expense			—				8,595				N/M				—				4.7
Other operating expenses			7,347				6,197				18.6				3.0				3.4
Total non-interest expenses			199,365				179,291				11.2				83.0				98.2
Income from continuing operations before tax expense			40,844				3,278				1,146.0				17.0				1.8
Income tax expense			14,209				983				1,345.5				5.9				0.5
Net income from continuing operations			26,635				2,295				1,060.6				11.1				1.3
Discontinued operations:
Income from discontinued operations, net of tax			1,359				6,277				(78.3	)			0.6				3.4
Net income		$	27,994			$	8,572				226.6	%			11.7	%			4.7	%