10-Q 1 jfgi10qaug2012.txt UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended August 31, 2012 Commission file number 0-21210 JACOBS FINANCIAL GROUP, INC. ------------------------------------------------------------- (Exact name of registrant as specified in its charter) ===================================== ================================== DELAWARE 84-0922335 ------------------------------------- ---------------------------------- (State or other jurisdiction of (IRS Employer Identification No.) incorporation) ===================================== ================================== 300 SUMMERS STREET, SUITE 970, CHARLESTON, WV 25301 ------------------------------------------------------------- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (304) 343-8171 -------------- Indicated by a 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 proceeding 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 [ X ] No[ ] Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. Large accelerated filer [ ] Accelerated filer [ ] Non-accelerated filer [ ] Smaller reporting company [ X ] Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No[ X ] Indicate the number of shares outstanding of each of the registrant's classes of common stock, as of the latest practicable date: 307,288,805 shares of common stock as of October 22, 2012. PART I -- FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS ---------------------------- The following financial statements are included herein in response to Item 1: Financial Statements (Unaudited) Page ------------- Consolidated Condensed Balance Sheets F-1 Consolidated Condensed Statements of Operations F-2 Consolidated Condensed Statements of Comprehensive Income (Loss) F-3 Consolidated Condensed Statements of Cash Flows F-4 Consolidated Condensed Statement of Mandatorily Redeemable Preferred Stock and Stockholders Equity (Deficit) F-5 and F-6 Notes to Consolidated Condensed Financial Statements F-7 2

JACOBS FINANCIAL GROUP, INC. CONSOLIDATED CONDENSED BALANCE SHEETS (UNAUDITED) AUGUST 31, 2012 MAY 31, 2012 ---------------- --------------- ASSETS INVESTMENTS AND CASH: Bonds and mortgaged-back securities available for sale, at market value $ 6,750,365 $ 6,098,648 (amortized cost - 8/31/12 $6,549,944; 05/31/12 $5,915,428) Equity investments available for sale, at market value, net 452,542 484,274 (amortized cost - 8/31/12 $479,431; 05/31/12 $519,120) Short-term investments, at cost (approximates market value) 331,675 991,875 Cash 218,190 259,079 ---------------- --------------- TOTAL INVESTMENTS AND CASH 7,752,772 7,833,876 Investment income due and accrued 24,096 42,981 Premiums and other accounts receivable 499,742 289,463 Prepaid reinsurance premium 241,529 243,877 Funds deposited with Reinsurers - 42,458 Deferred policy acquisition costs 170,276 167,010 Furniture, automobile, and equipment, net of accumulated depreciation of $105,288 and $102,616, respectively 19,733 22,404 Other assets 90,018 96,370 Intangible assets 150,000 150,000 ---------------- --------------- TOTAL ASSETS $ 8,948,166 $ 8,888,439 ================ =============== LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT) Reserve for losses and loss expenses $ 1,075,861 $ 1,026,489 Reserve for unearned premiums 787,633 771,089 Advanced premium 126,000 139,402 Accrued expenses and professional fees payable 575,567 473,540 Accounts payable 185,602 172,627 Ceded reinsurance payable 8,595 - Related party payable 109,834 109,309 Term and demand notes payable to related party 428,677 377,954 Notes payable 4,716,000 4,836,000 Accrued interest payable 1,857,726 1,716,884 Accrued interest payable to related party 226,385 209,069 Other liabilities 295,002 290,706 Mandatorily redeemable Series A Preferred Stock, $.0001 par value per share; 1 million shares authorized; 1,126 shares issued and outstanding at August 31, 2012 and May 31, 2012, respectively; stated liquidation value of $1,000 per share 1,439,072 1,424,863 Mandatorily redeemable Series B Preferred Stock, $.0001 par value per share; 3,136 shares authorized; 2,817 shares issued and outstanding at August 31, 2012 and May 31, 2012; stated liquidation value of $1,000 per share 4,702,227 4,610,224 ---------------- --------------- TOTAL LIABILITIES 16,534,181 16,158,156 Series A Preferred Stock, $.0001 par value per share; 1 million shares authorized; 1,549 shares issued and outstanding at August 31, 2012 and May 31, 2012, respectively; stated liquidation value of $1,000 per share 1,859,920 1,841,555 ---------------- --------------- TOTAL MANDATORILY REDEEMABLE PREFERRED STOCK 1,859,920 1,841,555 COMMITMENTS AND CONTINGENCIES (SEE NOTES) STOCKHOLDERS' EQUITY (DEFICIT) Series C Preferred Stock, $.0001 par value per share; 10,000 shares authorized; 6,805 shares issued and outstanding at August 31, 2012 and May 31, 2012, respectively; includes $4,520,655 and $4,299,181 accrued Series C dividends, respectively 10,551,586 10,330,112 Common stock, $.0001 par value per share; 490 million shares authorized; 275,259,668 and 270,352,831 shares issued and outstanding at August 31, 2012 and May 31, 2012, respectively 27,526 27,035 Additional paid in capital 3,776,565 3,664,923 Accumulated deficit (23,975,144) (23,281,717) Accumulated other comprehensive income (loss) 173,532 148,375 ---------------- --------------- TOTAL STOCKHOLDERS' EQUITY (DEFICIT) (9,445,935) (9,111,272) ---------------- --------------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT) $ 8,948,166 $ 8,888,439 ================ ===============

See accompanying notes. F-1

JACOBS FINANCIAL GROUP, INC, CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS (UNAUDITED) THREE MONTHS ENDED AUGUST 31, 2012 2011 ------------ -------------- REVENUES: Investment advisory services $ 54,892 $ 74,970 Insurance premiums and commissions 255,040 499,039 Net investment income 58,989 70,017 Net realized investment gains 11,426 12,093 Other income 4,030 645 ------------ -------------- TOTAL REVENUES 384,377 656,764 OPERATING EXPENSES: Incurred policy losses 49,373 60,413 Insurance policy acquisition costs 69,724 84,919 General and administrative 298,065 321,105 Depreciation 2,671 2,693 ------------ -------------- TOTAL OPERATING EXPENSES 419,833 469,130 ------------ -------------- NET INCOME (LOSS) FROM OPERATIONS (35,456) 187,634 Accrued dividends of Series A Mandatorily Redeemable Preferred Stock (14,210) - Accrued dividends and accretion of Series B Mandatorily Redeemable Preferred Stock (92,002) (85,102) Interest expense (311,920) (229,573) ------------ -------------- NET INCOME (LOSS) (453,588) (127,041) Accretion of Mandatorily Redeemable Convertible Preferred Stock, including accrued dividends (18,365) (31,300) Accrued dividends on Series C Preferred Stock equity (221,474) (204,564) ------------ -------------- NET INCOME (LOSS) ATTRIBUTABLE TO COMMON STOCKHOLDERS $ (693,427) $ (362,905) ============ ============== BASIC AND DILUTIVE NET INCOME (LOSS) PER SHARE: NET INCOME (LOSS) PER SHARE $ - $ - ============ ============== WEIGHTED-AVERAGE SHARES OUTSTANDING 273,271,058 243,496,194 ============ ==============

See accompanying notes. F-2

JACOBS FINANCIAL GROUP, INC, CONSOLIDATED CONDENSED STATEMENTS OF COMPREHENSIVE INCOME (LOSS) (UNAUDITED) THREE MONTHS ENDED AUGUST 31, 2012 2011 --------------- ------------- COMPREHENSIVE INCOME (LOSS): Net loss attributable to common stockholders $ (693,427) $ (362,905) OTHER COMPREHENSIVE INCOME (LOSS): Net unrealized gain of available-for-sale investments arising during period 31,748 22,540 Reclassification adjustment for realized gain included in net loss (6,591) (6,742) --------------- ------------- Net unrealized gain attributable to available-for-sale investments recognized in other comprehensive income (loss) 25,157 15,798 --------------- ------------- COMPREHENSIVE LOSS ATTRIBUTABLE TO COMMON STOCKHOLDERS $ (668,270) $ (347,107) =============== =============

See accompanying notes. F-3

JACOBS FINANCIAL GROUP, INC, CONSOLIDATED CONDENSED STATEMENT OF CASH FLOWS (UNAUDITED) THREE MONTHS ENDED AUGUST 31 2012 2011 ------------- ------------- CASH FLOWS FROM OPERATING ACTIVITIES Net Loss $ (453,588) $ (127,041) Adjustments to reconcile net loss to net cash provided by (used in) operating activities: Unearned premium 5,490 (43,744) Stock option expense - 370 Stock issued (or to be issued) in connection with financing arrangements 101,191 20,215 Stock issued in connection with dividend arrangements 10,942 10,560 Accrual of Series A preferred stock dividends 14,210 - Accrual of Series B preferred stock dividends and accretion 92,002 85,102 Provision for loss reserves 49,373 60,413 Amortization of premium 16,725 17,207 Depreciation 2,671 2,693 Accretion of discount (3,984) - Realized loss on sale of securities (11,426) (12,093) Change in operating assets and liabilities: Other assets 6,352 6,840 Premium and other receivables (210,279) (15,520) Investment income due and accrued 18,477 8,381 Deferred policy acquisition costs (3,266) (931) Related party accounts payable 525 4,525 Accounts payable and cash overdraft 12,975 130,534 Accrued expenses and other liabilities 315,534 167,012 ------------- ------------- NET CASH FLOWS FROM (USED IN) OPERATING ACTIVITIES (36,076) 314,521 CASH FLOWS FROM INVESTING ACTIVITIES Decrease in short-term investments 660,200 312,355 Costs of bonds acquired (586,104) (434,412) Costs of mortgaged-backed securities acquired (232,628) (345,353) Purchase of equity securities (10,113) (133,964) Sale of securities available for sale 61,227 113,939 Repayment of mortgage-backed securities 171,474 213,591 (Purchase)/Collection of accrued interest 408 55 ------------- ------------- NET CASH FLOWS FROM (USED IN) INVESTING ACTIVITIES 64,464 (273,789) CASH FLOWS FROM FINANCING ACTIVITIES Proceeds from related party debt 439,238 120,252 Repayment of related party debt (388,515) (237,986) Proceeds from borrowings 160,000 258,000 Repayment of borrowings (280,000) (206,000) ------------- ------------- NET CASH FLOWS USED IN FINANCING ACTIVITIES (69,277) (65,734) NET DECREASE IN CASH (40,889) (25,002) CASH AT BEGINNING OF PERIOD 259,079 290,569 ------------- ------------- CASH AT END OF PERIOD $ 218,190 $ 265,567 ============= ============= SUPPLEMENTAL DISCLOSURES Interest paid $ 40,789 $ 44,590 Income taxes paid - - Non-cash investing and financing transaction: Additional consideration paid for issuance of debt 101,191 20,215

See accompanying notes. F-4

JACOBS FINANCIAL GROUP, INC. CONSOLIDATED CONDENSED STATEMENT OF MANDATORILY REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY (DEFICIT) (UNAUDITED) FOR THE THREE MONTH PERIOD ENDED AUGUST 31, 2012 ----------------- ---------------------------------------------------------------------------------------- STOCKHOLDERS' EQUITY (DEFICIT) ---------------------------------------------------------------------------------------- SERIES A COMMON STOCK SERIES C PREFERRED ACCUMULATED MANDATORILY REDEEMABLE ------------------------------ -------------------- OTHER ADDITIONAL COMPREHENSIVE PREFERRED STOCK PAID-IN AMOUNT ACCUMULATED INCOME SHARES AMOUNT SHARES AMOUNT CAPITAL SHARES AND APIC DEFICIT (LOSS) TOTAL ------ ---------- ----------- ------- ---------- --------- ----------- ------------- -------- ------------ BALANCE, MAY 31, 2012 1,549 $1,841,555 270,352,831 $27,035 $3,664,923 6,805 $10,330,112 $(23,281,717) $148,375 $(9,111,272) Issuance of common stock as additional consideration for financing arrangements - - 4,906,837 491 14,016 - - - - 14,507 Accrued dividends of Series A mandatorily redeemable convertible preferred stock - 18,365 - - - - - (18,365) - (18,365) Accrued dividends of Series C equity preferred stock - - - - - - 221,474 (221,474) - - Increase (Decrease) in accural of common shares to be issued in connection with financing arrangements - - - - 97,626 - - - - 97,626 Common stock option expense - - - - - - - - - - Unrealized net gain (loss) on available for sale securities - - - - - - - - 25,157 25,157 Net income (loss), three month period ended August 31, 2012 - - - - - - - (453,588) - (453,588) ------ ---------- ----------- ------- ---------- --------- ----------- ------------- -------- ------------ BALANCE, AUGUST 31, 2012 1,549 $1,859,920 275,259,668 $27,526 $3,776,565 6,805 $10,551,586 $(23,975,144) $173,532 $(9,445,935) ====== ========== =========== ======= ========== ========= =========== ============= ======== ============ ----------------- ----------------------------------------------------------------------------------------

See accompanying notes. F-5

JACOBS FINANCIAL GROUP, INC. CONSOLIDATED CONDENSED STATEMENT OF MANDATORILY REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY (DEFICIT) (UNAUDITED) FOR THE THREE MONTH PERIOD ENDED AUGUST 31, 2011 ----------------- ---------------------------------------------------------------------------------------- STOCKHOLDERS' EQUITY (DEFICIT) ---------------------------------------------------------------------------------------- SERIES A COMMON STOCK SERIES C PREFERRED ACCUMULATED MANDATORILY REDEEMABLE ------------------------------ -------------------- OTHER ADDITIONAL COMPREHENSIVE PREFERRED STOCK PAID-IN AMOUNT ACCUMULATED INCOME SHARES AMOUNT SHARES AMOUNT CAPITAL SHARES AND APIC DEFICIT (LOSS) TOTAL ------ ---------- ----------- ------- ---------- --------- ----------- ------------- -------- ------------ BALANCE, MAY 31, 2011 2,675 $3,138,623 242,304,304 $24,230 $3,549,443 6,805 $ 9,482,279 $(21,214,153) $182,671 $(7,975,530) Issuance of common stock as additional consideration for financing arrangements - - 2,404,949 241 17,112 - - - - 17,353 Accrued dividends of Series A mandatorily redeemable convertible preferred stock - 31,300 - - - - - (31,300) - (31,300) Accrued dividends of Series C equity preferred stock - - - - - - 204,564 (204,736) - (172) Increase (Decrease) in accural of common shares to be issued in connection with financing arrangements - - - - 13,594 - - - - 13,594 Common stock option expense - - - - 370 - - - - 370 Unrealized net gain (loss) on available for sale securities - - - - - - - - 15,798 15,798 Net income (loss), three month period ended August 31, 2011 - - - - - - - (127,041) - (127,041) ------ ---------- ----------- ------- ---------- --------- ----------- ------------- -------- ------------ BALANCE, AUGUST 31, 2011 2,675 $3,169,923 244,709,253 $24,471 $3,580,519 6,805 $ 9,686,843 $(21,577,230) $198,469 $(8,086,928) ====== ========== =========== ======= ========== ========= =========== ============= ======== ============ ----------------- ----------------------------------------------------------------------------------------

See accompanying notes. F-6 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED) NOTE A - BASIS OF PRESENTATION ------------------------------ The accompanying unaudited financial statements are of Jacobs Financial Group, Inc. (the "Company" or "JFG"). These financial statements were prepared in accordance with generally accepted accounting principles for interim financial information and Article 8-03 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments considered necessary for a fair presentation of the results of operations and financial condition for the periods presented have been included. Such adjustments are of a normal recurring nature. The results of operations for the three month period ended August 31, 2012, are not necessarily indicative of the results of operations that can be expected for the fiscal year ending May 31, 2013. For further information, refer to the Company's audited financial statements and footnotes thereto included in Item 8. of Form 10-K filed on September 13, 2012. RECLASSIFICATIONS Certain amounts have been reclassified in the presentation of the Consolidated Condensed Financial Statements for the three-months ended August 31, 2011 to be consistent with the presentation in the Consolidated Condensed Financial Statements for the three-months ended August 31, 2012. This reclassification had no impact on previously reported net income, cash flow from operations or changes in shareholder equity. LIQUIDITY AND GOING CONCERN These financial statements are presented on the basis that the Company is a going concern. Going concern contemplates the realization of assets and the satisfaction of liabilities in the normal course of business over a reasonable length of time. The Company experienced income (loss) from operations of approximately $16,000 and ($22,000) for the years ended May 31, 2012 and 2011. The Company's income (or loss) decreases (or increase) when accretion of mandatorily redeemable convertible preferred stock and accrued dividends on mandatorily redeemable preferred stock are taken into account to approximately ($1,220,000) and ($1,440,000) for the years ended May 31, 2012 and 2011. For the three month period ended August 31, 2012, the Company had a loss from operations of approximately $35,000, or a loss of approximately $472,000 after interest expense and accrued dividends on mandatorily redeemable preferred stock are taken into account. Losses are expected to continue until the Company's insurance company subsidiary, First Surety Corporation ("FSC") develops a more substantial book of business. While improvement is anticipated as the business plan is implemented, restrictions on the use of FSC's assets (See Management's Discussion and Analysis), the Company's significant deficiency in working capital and stockholders' equity raise substantial doubt about the Company's ability to continue as a going concern. Effective April 1, 2009, FSC entered into a reinsurance agreement with Lloyd's of London for its coal reclamation surety bonding programs. This agreement has provided additional bonding capacity to FSC and has enabled FSC to write more bonds and of greater size for its coal reclamation bonding clients. Management expects this reinsurance arrangement to continue FSC's expansion of market share and to result in increased cash flow for each of the Company's operating subsidiaries F-7 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED) Expansion of FSC's business to other states is a key component of fully implementing the Company's business plan. Regulatory approval and licensing is required by each state in which FSC seeks to conduct business. In fiscal 2009, the Company was able to increase the capital of FSC and reactivate FSC's insurance license in Ohio and obtain authority to issue surety bonds in that state. However, management has found that entry into other states (as a surety) has been difficult without the benefit of more substantial capital and reserves due to FSC's status as a new entry into this market and based upon the financial condition of the parent company, notwithstanding the reinsurance agreement entered into by FSC with Lloyd's of London and the resulting increase in bonding capacity. Management believes that if FSC's capital and surplus reserves were significantly more substantial and the financial condition of the Company was stabilized, entry into other states would be less challenging. Accordingly, management continues to pursue avenues that can provide additional capital to increase the capacity of its insurance subsidiary and to fund continuing operations as the business is being fully developed. As an alternative means of generating premium revenue in additional state markets, management is seeking to establish a relationship with sureties licensed in other states that comprise significant markets for the bonding programs of FSC therefore permitting the issuance of surety bonds that are underwritten and reinsured by FSC. Under such a "fronting" arrangement, the need for additional capital at the level of FSC to facilitate entry to other state markets would become secondary, since the payment of a fronting fee to the insurance company with active licenses would provide access to the state market without formal entry. Beginning in fiscal 2008 and completed during the first quarter of fiscal 2009, the Company obtained two rounds of bridge financing totaling an aggregate of $3,500,000. The purpose of the financing was to pay expenses of operations and to pay fees and expenses incurred or expected to be incurred in connection with a larger permanent financing and, in addition, to increase the capital surplus of FSC to make possible the reactivation of FSC's surety license in the state of Ohio. The terms of the bridge-financing arrangement provide for payment in full upon consummation by the Company of a qualified equity offering providing net proceeds of at least $15 million on or before September 10, 2013; and because such a qualified equity offering was not consummated by September 10, 2008, accrued interest-to-date was payable, and quarterly installments of principal and interest became payable over five years commencing in December 2008. The interest rates on such notes were fixed at 10.00%. Payments due December 2008 and March 2009 were not made by the Company as scheduled, but a forbearance agreement was subsequently entered into with the bridge lenders on June 5, 2009, modifying payment terms to cure the default (including increasing the interest rate on the loans to 17%), issuing additional common stock to the loan holders, and pledging the stock of the Company's subsidiary, CMW, as security for repayment of the loans. The modification required the Company to pay interest of $224,515 on June 10, 2009 and increase the quarterly payments by $67,185 (to a total of $291,700) for eight consecutive quarters beginning September 10, 2009 to satisfy the arrearage. Although the Company has failed to make the payment that was due September 10, 2009 and the payments that were due in the ensuing quarters, management has remained in close contact with the bridge lenders, providing reports regarding its efforts to refinance or otherwise repay the bridge loans. To date, none of the bridge lenders has elected to pursue legal remedies. Certain equity inducements in the form of common stock of the Company were provided under the terms of the bridge loan documents. Upon issuance of the bridge notes, an aggregate of 7% of the outstanding common stock of the Company was issued to the bridge lenders. Upon retirement of the notes and upon consummation of a qualified equity offering, the Company will issue to the bridge lenders a percentage of the outstanding common stock of the Company which, when added to the stock initially issued, may equal as much as 28% of the common stock of the Company that would otherwise have been retained by the F-8 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED) holders of the Company's common shares immediately prior to the financing. Finally, because a qualified financing was not completed by September 10, 2008, the Company was required to issue to the bridge lenders under the terms of the loan documents a total of 2.8% of the Company's outstanding common shares at such date. An additional 2.8% of the Company's outstanding common shares are required to be issued upon each six-month anniversary date thereof until retirement of the notes. (See Note D). In anticipation of a proposed financing and as a condition thereof, the Company and each of the bridge lenders entered into a Loan Modification Agreement dated February 25, 2012 which provided for modification of the Promissory Notes, including an extension of the term of the Promissory Notes, and Subscription Agreements in exchange for a partial cash payment to each bridge lender. To date, the proposed financing has not closed, and the Company has been unable to remit the partial payment. On August 10, 2012, the Company entered into an agreement with the bridge lenders, pursuant to which the bridge lenders formally agreed to forbear from exercising their rights and remedies arising from the accumulated acknowledged events of default with respect to the bridge loans until such date. As consideration for this forbearance, the Company entered into an Amended and Restated General Hypothecation and Pledge Agreement dated August 9, 2012 (the "August 2012 Pledge"), but effective September 23, 2011, granting to the bridge lenders as security for the repayment of the loans a lien and security interest in all of the Company's shares of capital stock of First Surety Corporation. Under the August 2012 Pledge, the bridge lenders acknowledge that the effectiveness of certain of the rights and remedies provided by such agreement may be subject to prior approval by the Office of the Commissioner of Insurance for the State of West Virginia. To date, none of the bridge lenders has elected to pursue legal remedies under the Promissory Notes or the August 2012 Pledge. Given current financial market conditions and the uncertainties as to when stability will return to the financial markets, until permanent financing can be secured, management will strive to reduce and then eliminate operating losses by implementing further measures to control and reduce costs while maintaining and growing the Company's current revenue base. Unless permanent financing can be secured, future revenue growth can be expected to be achieved at a slower pace than has been projected by the Company. Until such time that the Company's operating costs can be serviced by the Company's revenue stream, management will continue to seek to raise additional funds for operations through private placements of stock, other long-term or permanent financing, or short-term borrowings. However, the Company cannot be certain that it will be able to continue to obtain adequate funding in order to reasonably predict whether it will be able to continue as a going concern. The accompanying financial statements do not include any adjustments that might result from the outcome of this uncertainty. NOTE B - RECENT ACCOUNTING PRONOUNCEMENTS ----------------------------------------- In December 2011, the FASB issued Accounting Standards Update 2011-12, "Comprehensive Income: Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05". The object of this Update is to defer only those changes in ASU No. 2011-05 that relate to the presentation of reclassifications adjustments. This update is effective for annual reporting periods beginning on or after December 15, 2011 and interim periods within that fiscal year. Management does not expect this update to have a material effect on the Company's financial statements. F-9 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED) In December 2011, the FASB issued Accounting Standards Update 2011-11, "Balance Sheet: Disclosures about Offsetting Assets and Liabilities". The differences in the requirements for offsetting assets and liabilities in the presentation of financial statements prepared in accordance with U.S. GAAP and financial statements prepared in accordance with International Financial Reporting Standards (IFRS) makes the comparability of those statements difficult. The objective of this Update is to facilitate comparison between those financial statements, specifically within the scope of instruments and transactions eligible for offset in the form of derivatives, sale and repurchase agreements and reverse sale and repurchase agreements, and securities borrowing and securities lending arrangements. This update is effective for annual reporting periods beginning on or after January 1, 2013 and interim periods within that fiscal year. Management does not expect this update to have a material effect on the Company's financial statements. In June 2011, the FASB issued Accounting Standards Update 2011-05, "Comprehensive Income: Presentation of Comprehensive Income". The object of this Update is to improve the comparability, consistency, and transparency of financial reporting and to increase the prominence of items reported in other comprehensive income. This update is effective for annual reporting periods beginning on or after December 15, 2011 and interim periods within that fiscal year. Management does not expect this update to have a material effect on the Company's financial statements. In May 2011, the FASB issued Accounting Standards Update 2011-04,"Fair Value Measurement: Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs". The amendments in this Update will improve the comparability of fair value measurements presented and disclosed in financial statements prepared in accordance with U.S. generally accepted accounting principles and International Financial Reporting Standards. This update is effective for annual reporting periods beginning on or after December 15, 2011 and interim periods within that fiscal year. Management does not expect this update to have a material effect on the Company's financial statements. In October 2010, the FASB issued Accounting Standards Update 2010-26, "Financial Services - Insurance: Accounting for Costs Associated with Acquiring or Renewing Insurance Contracts." This FASB is intended to specify costs incurred in the acquisition of new and renewal contracts that should be capitalized as deferred acquisition costs and amortized over time using amortization methods dependent upon the nature of the underlying insurance contract. This update is effective for annual reporting periods beginning on or after December 15, 2011 and interim periods within that fiscal year. Management does not expect this update to have a material effect on the Company's financial statements. F-10 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED) NOTE C - INVESTMENTS AND FAIR VALUE DISCLOSURES ----------------------------------------------- The Company classifies its investments as available-for-sale, and as such, they are carried at fair value. The amortized cost of investments is adjusted for amortization of premiums and accretion of discounts which are included in net investment income. Changes in fair value are reported as a component of other comprehensive income, exclusive of other-than-temporary impairment losses, if any. For the three month period ended August 31, 2012, there have been no other-than-temporary impairments. The Company intends and believes it has the ability to hold all investments in an unrealized loss position until the expected recovery in value, which may be at maturity. The Company uses derivatives in the form of covered call options sold to generate additional income and provide limited downside protection in the event of a market correction. These transactions expose the Company to potential market risk for which the Company receives a premium up front. The market risk relates to the requirement to deliver the underlying security to the purchaser of the call within a definite time at an agreed price regardless of the then current price of the security. As a result the Company takes the risk that it may be required to sell the security at the strike price, which could be a price less than the then market price. Should the security decline in price over the holding period of the call option, the Company realizes the option premium received as income and the Company lessens or mitigates this risk which may be eliminated by a closing transaction for the covered call and sale of the underlying security. The Company invests in large capitalized US securities traded on major US exchanges and writes standardized covered calls only against these positions (covered calls), which are openly traded on major US exchanges. The use of such underlying securities and standardized calls lessens the credit risk to the furthest extent possible. The Company is not exposed to significant cash requirements through the use of covered calls in that it sells a call for a premium and may use these proceeds to enter a closing transaction for the call at a later date. The following table sets forth the amortized cost and estimated market value of bonds and equity securities available-for-sale and carried at market value on August 31, 2012.

Gross Unrealized Gross Unrealized Amortized Cost Gains Losses Fair Market Value ------------------- -------------------- ------------------- -------------------- State and municipal securities $ 2,666,300 $ 24,444 $ 15,418 $ 2,675,326 Equity securities 495,796 13,518 33,545 475,769 Derivatives (16,364) (8,182) (1,319) (23,227) Foreign obligations 204,121 135 - 204,256 U.S. government agency 3,679,522 192,744 1,483 3,870,783 mortgage-backed securities ------------------- -------------------- ------------------- -------------------- $ 7,029,375 $ 222,659 $ 49,127 $ 7,202,907 =================== ==================== =================== ====================

The following table sets forth the amortized cost and estimated market value of bonds and equity securities available-for-sale and carried at market value on May 31, 2012. F-11 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED)

Gross Unrealized Gross Unrealized Amortized Cost Gains Losses Fair Market Value ------------------- -------------------- ------------------- -------------------- State and municipal securities $ 2,077,399 $ 16,051 $ 6,110 $ 2,087,340 Equity securities 533,669 15,176 52,377 496,468 Derivatives (14,549) (2,344) (4,699) (12,194) Foreign Obligations 205,247 - 9,997 195,250 U.S. government agency 3,632,782 185,140 1,864 3,816,058 mortgage-backed securities ------------------- -------------------- ------------------- -------------------- $ 6,434,548 $ 214,023 $ 65,649 $ 6,582,922 =================== ==================== =================== ====================

The Company's short-term investments of $331,675 and $991,875 at August 31, 2012 and May 31, 2012 consisted of money-market investment funds. Management believes the Company has the ability to hold all fixed income securities to maturity. However, the Company determined it may dispose of securities prior to their scheduled maturity due to changes in interest rates, prepayments, tax and credit considerations, liquidity or regulatory capital requirements, or other similar factors. As a result, the Company classifies all of its fixed income securities (bonds) and equity securities as available-for-sale. These securities are reported at fair value, with unrealized gains and losses, net of deferred income taxes, reported in stockholders' equity as a separate component of accumulated other comprehensive income. There are no securities classified as held to maturity at May 31, 2012 or August 31, 2012. Invested assets are exposed to various risks, such as interest rate, market and credit risks. Due to the level of risk associated with certain of these invested assets and the level of uncertainty related to changes in the value of these assets, it is possible that changes in risks in the near term may significantly affect the amounts reported in the Consolidated Condensed Balance Sheets and Statements of Income. Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. The Company uses the following fair value hierarchy in selecting inputs, with the highest priority given to Level 1, as these are the most transparent or reliable: O Level 1 - Quoted prices for identical instruments in active markets. O Level 2 - Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which all significant inputs are observable in active markets. O Level 3 - Valuations derived from valuation techniques in which one or more significant inputs are unobservable. Fair market values are provided by the Company's independent investment custodians that utilize third-party quotation services for the valuation of the fixed-income investment securities and money-market funds held. The Company's investment custodians are large money-center banks. F-12 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED) The following section describes the valuation methodologies used to measure different financial instruments at fair value, including an indication of the level in the fair value hierarchy in which the instrument is generally classified. FIXED INCOME SECURITIES Securities valued using Level 1 inputs include highly liquid government bonds for which quoted market prices are available. Securities using Level 2 inputs are valued using pricing for similar securities, recently executed transactions, cash flow models with yield curves and other pricing models utilizing observable inputs. Most fixed income securities are valued using Level 2 inputs. Level 2 includes corporate bonds, municipal bonds, asset-backed securities and mortgage pass-through securities. EQUITY SECURITIES Level 1 includes publicly traded securities valued using quoted market prices. SHORT-TERM INVESTMENTS The valuation of securities that are actively traded or have quoted prices are classified as Level 1. These securities include money market funds and U.S. Treasury bills. Level 2 includes commercial paper, for which all significant inputs are observable.

Assets measured at fair value on a recurring basis are summarized below: August 31, 2012 ---------------------------------------------------------------------- Fair Value Measurements Using Assets At Level 1 Level 2 Level 3 Fair Value ------------------ --------------- ----------------- ----------------- Assets: Fixed income securities at fair value $ - $ 6,750,365 $ - $ 6,750,365 Equity securities at fair value 452,542 - - 452,542 (includes derivatives) Short-term investments at fair value 331,675 - - 331,675 ------------------ --------------- ----------------- ----------------- Total Assets $ 784,217 $ 6,750,365 $ - $ 7,534,582 ================== =============== ================= =================

May 31, 2012 ---------------------------------------------------- ----------------- Fair Value Measurements Using Assets At Level 1 Level 2 Level 3 Fair Value ------------------ --------------- ----------------- ----------------- Assets: Fixed income securities at fair value $ - $ 6,098,648 $ - $ 6,098,648 Equity securities at fair value 484,274 - - 484,274 (includes derivatives) Short-term investments at fair value 991,875 - - 991,875 ------------------ --------------- ----------------- ----------------- Total Assets $ 1,476,149 $ 6,098,648 $ - $ 7,574,797 ================== =============== ================= =================

F-13 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED) The Company had no assets or liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3) at either May 31, 2012 or at August 31, 2012. During the three months ended August 31, 2012, the Company recognized gross realized gains on the sale of securities classified as available-for-sale as follows: Gross Gross Gross Realized Realized Proceeds Gains Losses ----------- ----------- ----------- Equity securities $ 39,716 $ 1,843 $ - Equity securities (derivatives) 19,696 9,583 - ----------- ----------- ----------- Total $ 59,412 $ 11,426 $ - =========== =========== =========== NOTE D - NOTES PAYABLE AND ADVANCES FROM RELATED PARTY ------------------------------------------------------ The Company had the following notes payable to individuals and businesses as of August 31, 2012 and May 31, 2012 respectively: August 31, May 31, 2012 2012 ------------- ------------- Unsecured demand notes payable to individuals and others; interest rate fixed @ 10.00% ($75,000 to related party) $ 1,369,000 $ 1,589,000 Secured demand note payable to individuals and other; interest rate fixed @ 12% 15,000 15,000 Secured demand note payable to individuals; interest rate fixed @ 14%; secured by accounts receivable for investment advisory fees 92,000 62,000 Secured demand note payable to individuals; interest rate fixed @ 10%; secured by accounts receivable for investment advisory fees 175,000 105,000 Unsecured short-term advances from principal shareholder and chief executive officer; interest rate fixed @ 12% (6,323) (57,046) Note(s) payable to individual(s) under a bridge-financing arrangement described below ($360,000 to related party) 3,500,000 3,500,000 ------------- ------------- Notes payable $ 5,144,677 $ 5,213,954 ============= ============= F-14 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED) In accordance with the terms of the first round bridge-financing of $2.5 million on March 10, 2008, the holders of such notes were paid accrued interest-to-date and issued 5.00% of the Company's common shares. Holders of the second round of bridge-financing notes of $1.0 million received 2.00% of the Company's common shares. Upon retirement of the notes subsequent to consummation of a qualified equity offering, the Company shall issue to the holders of the bridge financing notes additional Company common stock that, when added to the stock initially issued to the holders of the notes, will equal the note holder's pro rata share of the applicable percentage of the outstanding common stock of the Company as follows: If the qualified financing consists of $50 million or more, the holders of such notes will receive 28% of the common stock of the Company that would otherwise be retained by the holders of the Company's common shares immediately prior to the financing; if the qualified financing is for an amount less than $50 million, the percentage will be reduced on a sliding scale to a fraction of 28% of the amount retained by the holders of the Company's common shares (where the numerator is the amount of financing and the denominator is $50 million). Beginning September 10, 2008, because a qualified financing had not been completed, the Company became required under the terms of the bridge financing to issue 2.80% of the Company's outstanding common shares and shall issue 2.80% of the Company's outstanding common shares upon each six-month anniversary date thereof until retirement of the notes. The following table summarizes the common shares issued to those note holders. Date of Issuance Shares Issued -------------------------- ---------------- September 10, 2008 4,870,449 March 10, 2009 5,010,640 September 10, 2009 5,354,642 March 10, 2010 6,005,925 September 10, 2010 6,213,285 March 10, 2011 6,738,900 September 10, 2011 7,043,710 March 10, 2012 7,430,017 ---------------- 48,667,568 ================ Pursuant to the terms of the Promissory Notes, the first two of 20 equal quarterly installments of principal and interest payable thereunder were to have been paid on December 10, 2008 and March 10, 2009 (the "INITIAL AMORTIZATION PAYMENTS"). As the result of upheavals and dislocations in the capital markets, the Company was unable to either refinance the indebtedness evidenced by the Promissory Notes or make the Initial Amortization Payments to the Holders when due; and an Event of Default (as defined in the Promissory Notes) occurred under the Promissory Notes as a result of the Company's failure to pay the Initial Amortization Payments within 14 days after same became due and payable. On June 5, 2009 the Company entered into an agreement with the bridge lenders to forbear from exercising their rights and remedies arising from the Acknowledged Events of Default. As consideration for the forbearance, the Company issued 5,171,993 shares of Common stock, and pledged the stock of the Company's subsidiary, Crystal Mountain Water (CMW), as security for repayment of the loans. The original repayment schedule called for quarterly payments of $224,515. The Holders agreed that under the forbearance, the Company may satisfy its obligation by increasing the quarterly payments by $67,185, (to a total of $291,700) for eight consecutive quarters beginning September 10, 2009 to satisfy the arrearage. In addition, the interest rate was increased to 17.00%. Although the Company has failed to make the payment that was due September 10, 2009 and F-15 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED) the payments that were due in the ensuing quarters, management has remained in close contact with the bridge lenders, providing reports regarding its efforts to refinance or otherwise repay the bridge loans. In anticipation of a proposed financing and as a condition thereof, the Company and each of the bridge lenders entered into a Loan Modification Agreement dated February 25, 2012 which provided for modification of the Promissory Notes, including an extension of the term of the Promissory Notes, and Subscription Agreements in exchange for a partial cash payment to each bridge lender. To date, the proposed financing has not closed, and the Company has been unable to remit the partial payment. On August 10, 2012, the Company entered into an agreement with the bridge lenders, pursuant to which the bridge lenders formally agreed to forbear from exercising their rights and remedies arising from the accumulated acknowledged events of default with respect to the bridge loans until such date. As consideration for this forbearance, the Company entered into an Amended and Restated General Hypothecation and Pledge Agreement dated August 9, 2012 (the "August 2012 Pledge"), but effective September 23, 2011, granting to the bridge lenders as security for the repayment of the loans a lien and security interest in all of the Company's shares of capital stock of First Surety Corporation. Under the August 2012 Pledge, the bridge lenders acknowledge that the effectiveness of certain of the rights and remedies provided by such agreement may be subject to prior approval by the Office of the Commissioner of Insurance for the State of West Virginia. To date, none of the bridge lenders has elected to pursue legal remedies under the Promissory Notes or the August 2012 Pledge. During the three months ended August 31, 2012 and the year ended May 31, 2012, a company owned by a board member provided consulting services. This company provided services totaling $15,525 in the three months ended August 31, 2012 and $15,525 in the three months ended August 31, 2011. Amounts owed to this company are treated as related party payables in the amounts $109,834 and $109,309 at August 31, 2012 and May 31, 2012. Advances have been made to the Company by its principal shareholder and chief executive officer to fund ongoing operations under a pre-approved unsecured financing arrangement bearing interest at the rate of 12.00%. The following table summarizes the activity under such arrangement for the three month period ended August 31, 2012. Three month period ended August 31, 2012 ------------------ Balance owed, beginning of period $ (57,046) Proceeds from borrowings 217,370 Assumption of company debt 221,868 Repayments (388,515) ------------------ Balance owed, end of period $ (6,323) ================== F-16 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED) Scheduled maturities and principal payments for each of the next five years ending August 31 are as follows: 2013 (including demand notes) $ 5,144,677 2014 - 2017 - ----------------- $ 5,144,677 ================= NOTE E - STOCKHOLDERS EQUITY ---------------------------- In the three month period ending August 31, 2012, the Company issued 1,061,000 shares of the Company's common stock in connection with new and continued borrowings totaling $969,000. The shares were valued at approximately $.003359 per share based on the average quoted closing price of the Company's stock for the 20-day period proceeding the date of the transaction and totaled $3,564. On July 1, 2012 the Company issued 3,845,837 shares of the Company's common stock in connection with the additional 2% stock dividend associated with Series B Preferred shares that were requested to be redeemed upon maturity. The shares were valued at approximately $.002845 per share based on the average quoted closing price of the Company's stock for the 20-day period proceeding the date of the transaction and totaled $10,941. NOTE F - PREFERRED STOCK ------------------------ REDEEMABLE PREFERRED STOCK On December 30, 2005, through a private placement, the Company issued 350 shares of 4% Non-Voting Series A Preferred Stock (Series A Preferred Stock), along with 1,050,000 warrants for common shares of Company stock as additional consideration, for a cash investment in the amount of $350,000, in connection with the Company's acquisition of FSC. Holders of Series A Preferred Stock are entitled to participate in FSC's partially collateralized bonding programs, subject to continuing satisfaction of underwriting criteria, based upon the bonding capacity of FSC attributable to capital reserves of FSC established with the subscription proceeds (i.e., bonding capacity equal to ten times subscription proceeds) and for so long as the subscriber holds the Series A shares. Holders of the Series A Preferred Stock are entitled to receive, when and as declared by the board of directors, cumulative preferential cash dividends at a rate of four percent of the $1,000 liquidation preference per annum (equivalent to a fixed annual rate of $40 per share). The Series A Preferred Stock ranks senior to the Company's common stock and pari passu with the Company's Series B Preferred and Series C Preferred Stock with respect to dividend rights and rights upon liquidation, dissolution or winding up of the Company. The holder may redeem the Series A Preferred Stock on or after the seventh anniversary of the Issue Date, if the holder provides a written statement to the Company that it will no longer require surety bonds issued by the Company's insurance subsidiary (FSC) under its partially collateralized bonding programs and, if no such surety bonds are then outstanding, the Company, at the option of the holder, will redeem all or any portion of the Series A Preferred Stock of such holder at a price per share equal to the Series A Preferred Stock Issue Price plus all accrued and unpaid dividends with respect to the shares of the Series A Preferred Stock of such holder to be redeemed. The conditional redemption shall not be available to any holder of Series A Preferred Stock for so long as surety bonds of the Company's insurance subsidiary issued on a partially collateralized basis remain outstanding for the benefit of such holder, and upon redemption, such holder shall no longer be F-17 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED) eligible to participate in the partially collateralized bonding programs of the insurance subsidiary. The Company is authorized to issue up to 1,000,000 shares of the Series A Preferred Stock. As of May 31, 2012, the Company has issued 2,675 shares of Series A Preferred Stock in exchange for cash investments in the amount of $2,675,000. No shares were issued in the three month period ending August 31, 2012. On December 30, 2005, through a private placement, the Company issued 3,980 shares of 8% Non-Voting Series B Convertible Preferred Stock (Series B Preferred Stock), along with 19,900,000 warrants for common shares of Company stock as additional consideration, for a cash investment in the amount of $2,985,000; and issued 4,891 shares of Series B Preferred Stock, along with 24,452,996 warrants for common shares of Company stock as additional consideration, for a conversion of $3,667,949 of indebtedness of the Company, in connection with the Company's acquisition of FSC. Holders of the Series B Preferred Stock are entitled to receive, when and as declared by the board of directors, cumulative preferential cash dividends at a rate of eight percent of the $1,000 liquidation preference per annum (equivalent to a fixed annual rate of $80 per share). The Series B Preferred Stock ranks senior to the Company's common stock and pari passu with the Company's Series A Preferred and Series C Preferred Stock with respect to dividend rights and rights upon liquidation, dissolution or winding up of the Company. Each share of the Series B Preferred Stock is convertible at the option of the holder, at any time after the original issue date, into 1,000 fully paid and non-assessable shares of the Company's common stock at a conversion price of $1.00 per common share. The Company may redeem the Series B Preferred Stock at any time after the first anniversary of the Original Issue Date at a price per share equal to the Series B Preferred Stock Face Amount plus all accrued and unpaid dividends with respect to the shares of the Series B Preferred Stock of such holder to be redeemed. To the extent that the Series B Preferred Stock has not been redeemed by the Company, the holder may redeem the Series B Preferred Stock on or after the fifth anniversary of the Original Issue Date at a price per share equal to the Series B Preferred Stock Face Amount plus all accrued and unpaid dividends with respect to the shares of the Series B Preferred Stock of such holder to be redeemed. The Company is authorized to issue up to 10,000 shares of the Series B Preferred Stock. The Company has not issued any additional shares of Series B Preferred Stock during this fiscal year. The Company's outstanding Series B Preferred stock matured on December 30, 2010, meaning that the holders of the Series B Stock became entitled to request that the Company redeem their Series B Shares. As of this report, the Company has received requests for redemption of 2,219 shares of Series B Preferred. The aggregate amount to which the holders requesting redemption are entitled as of September 30, 2012, is $3,788,855. Under the terms of the Series B Preferred Stock, upon receipt of such a request, the Company's Board was required to make a good faith determination regarding (A) whether the funds of the Company legally available for redemption of shares of Series B Stock are sufficient to redeem the total number of shares of Series B Stock to be redeemed on such date and (B) whether the amounts otherwise legally available for redemption would, if used to effect the redemption, not result in an impairment of the operations of the Insurance Subsidiary. If the Board determines that there is a sufficiency of legally available funds to accomplish the redemption and that the use of such funds to affect the redemption will not result in an impairment of the operations of the Insurance Subsidiary, then the redemption shall occur on the Redemption Date. If, however, the Board determines either that there are not sufficient funds legally available to accomplish the redemption or that the use of such funds to effect the redemption will result in an impairment of the operations of the Insurance Subsidiary, then (X) the Company shall notify the holders of shares that would F-18 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED) otherwise have been redeemed of such fact and the consequences as provided in this paragraph, (Y) the Company will use those funds which are legally available therefor and which would not result in an impairment of the operations of the Insurance Subsidiary to redeem the maximum possible number of shares of Series B Stock for which Redemption Notices have been received ratably among the holders of such shares to be redeemed based upon their holdings of such shares, and (Z) thereafter, until such shares are redeemed in full, the dividends accruing and payable on such shares of Series B Stock to be redeemed shall be increased by 2% of the Series B Face Amount, with the amount of such increase (i.e., 2% of the Series B Face Amount) to be satisfied by distributions on each Dividend Payment Date of shares of Common Stock having a value (determined by reference to the average closing price of such Common Stock over the preceding 20 trading days) equal to the amount of such increase. The shares of Series B Stock not redeemed shall remain outstanding and entitled to all the rights and preferences provided herein. At any time thereafter when additional funds of the Company are legally available for the redemption of shares of Series B Stock and such redemption will not result in an impairment of operations of the Insurance Subsidiary, such funds will immediately be used to redeem the balance of the shares of Series B Stock to be redeemed. No dividends or other distributions shall be declared or paid on, nor shall the Company redeem, purchase or acquire any shares of, the Common Stock or any other class or series of Junior Securities or Equal Ranking Preferred of the Company unless the Redemption Price per share of all shares for which Redemption Notices have been given shall have been paid in full, provided that the redemption price of any Equal Ranking Preferred subject of redemption shall be paid on a pari passu basis with the Redemption Price of the Series B Stock subject of redemption in accordance herewith. Until the Redemption Price for each share of Series B Stock elected to be redeemed shall have been paid in full, such share of Series B Stock shall remain outstanding for all purposes and entitle the holder thereof to all the rights and privileges provided herein, and Dividends shall continue to accrue and, if unpaid prior to the date such shares are redeemed, shall be included as part of the Redemption Price. On March 8, 2011, the Company's Board of Directors determined based on the criteria established under the terms of the Series B Preferred Stock that there were insufficient funds available for the redemption of Series B Stock. For the three months ended August 31, 2012, the Company experienced a loss after accretion of mandatorily redeemable convertible preferred stock, and accrued dividends on mandatorily redeemable preferred stock of $471,953 as compared with a loss after accretion of mandatorily redeemable convertible preferred stock, and accrued dividends on mandatorily redeemable preferred stock of $158,341 for the three months ended August 31, 2011. EQUITY PREFERRED STOCK As a means of alleviating obligations associated with the Company's Series B Preferred Stock, which by its terms matured at the end of 2010, management proposed a recapitalization to assist in stabilizing the financial position of the Company. The Company's Certificate of Incorporation provides for two classes of capital stock, known as common stock, $0.0001 par value per share (the "COMMON STOCK"), and preferred stock, $0.0001 par value per share (the "PREFERRED STOCK"). The Company's Board is authorized by the Certificate of Incorporation to provide for the issuance of the shares of Preferred Stock in series, and by filing a certificate pursuant to the applicable law of the State of Delaware, to establish from time to time the number of shares to be included in such series and to fix the designations, preferences and rights of the shares of each such series and the qualifications, limitations and restrictions thereof. Board deemed it advisable to designate a Series C Preferred Stock and F-19 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED) fixed and determined the preferences, rights, qualifications, limitations and restrictions relating to the Series C Preferred Stock as follows: 1. Designation. The shares of such series of Preferred Stock are designated "Series C Preferred Stock" (referred to herein as the "SERIES C STOCK"). The date on which the first share of Series C Stock is issued shall hereinafter be referred to as the "ORIGINAL ISSUE DATE". 2. Authorized Number. The number of shares constituting the Series C Stock are 10,000. 3. Ranking. The Series C Stock ranks, (a) as to dividends and upon Liquidation senior and prior to the Common Stock and all other equity securities to which the Series C ranks prior, with respect to dividends and upon Liquidation (collectively, "JUNIOR SECURITIES"), (b) pari passu with the Corporation's Series A Preferred Stock, par value $0.0001 per share (the "SERIES A STOCK"), the Corporation's Series B Stock, and any other series of Preferred Stock subsequently established by the Board with equal ranking (any such other series of Preferred Stock, together with the Series C Stock, the Series B Stock and Series A Stock are collectively referred to as the "EQUAL RANKING PREFERRED") and (c) junior to any other series of Preferred Stock subsequently established by the Board with senior ranking. 4. Dividends. (a) DIVIDEND ACCRUAL AND PAYMENT. The holders of the Series C Stock shall be entitled to receive, in preference to the holders of Junior Securities, dividends ("DIVIDENDS") on each outstanding share of Series C Stock at the rate of 8% per annum of the sum of (i) the Series C Face Amount plus (ii) an amount equal to any accrued, but unpaid, dividends on such Series C Stock, including for this purpose the exchanged Series B Amount outstanding with respect to such Series C Stock. For purposes hereof, the "SERIES B AMOUNT" means an amount equal to the dividend that would have accrued on such Series C Stock held by such holder from and after the Series B Original Issue Date applicable to such share of Series C Stock, through the Original Issue Date as if such Series C Stock had been issued on such Series B Original Issue Date, less all amounts thereof distributed by the Corporation with respect to such Series C Stock. Dividends shall be payable quarterly in arrears on each January 1, April 1, July 1 and October 1 following the Original Issue Date, or, if any such date is a Saturday, Sunday or legal holiday, then on the next day which is not a Saturday, Sunday or legal holiday (each a "DIVIDEND PAYMENT DATE"), as declared by the Board and, if not paid on the Dividend Payment Date, shall accrue. Amounts available for payment of Dividends (including for this purpose the Series B Amount) shall be allocated and paid with respect to the shares of Series C Preferred and any other Equal Ranking Preferred, FIRST, among the shares of Equal Ranking Preferred pro rata in accordance with the amounts of dividends accruing with respect to such shares at the current Dividend Payment Date, and, THEN, any additional amounts available for distribution in accordance with the accrued, but unpaid, dividends (and the Series B Amount then outstanding) at each prior Dividend Payment Date, in reverse chronological order, with respect to all shares of the Equal Ranking Preferred then outstanding in accordance with amounts accrued, but unpaid. For purposes hereof, the term "SERIES B ORIGINAL ISSUE DATE" shall mean, with respect to any share of Series C Stock issued by the Corporation in exchange for a share of Series B Stock, the date on which the Corporation originally issued such share of Series B Stock. F-20 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED) The Recapitalization consisted of the exchange of Series B Shares for a combination of Series C Shares and Common Stock. For each Series B Share, the participating holder received (i) one Series C Share and (ii) 2,000 shares of JFG Common Stock (for no additional consideration). For the year ending May 31, 2010, 6,805 shares of Series B Stock were surrendered and exchanged for 6,805 shares of Series C Stock. This exchange amounted to $6,269,051 of carrying value of Series B stock being exchanged for Series C and Common Stock. 13,609,872 shares of Common Stock were issued to the Series C Stock holders at the rate of 2,000 Common shares for each exchanged Series B Stock, with the related cost associated with the Common issuance offsetting the Series C carrying value by $265,120. The shares were valued at approximately $.01948 per share based on the average quoted closing price of the Company's stock for the 20-day period proceeding the date of the transaction. Series C stock may be redeemed by the Company but does not have a fixed maturity date and, thus, is classified as permanent equity. The accrual of dividends on the equity preferred stock resulted in a charge to common stockholders' equity of $221,474 for the three month period ending August 31, 2012, as compared with a charge to common stockholders' equity of $204,564 for the three month period ending August 31, 2011. DIVIDEND PREFERENCE AND ACCRETION The Series A Shares are entitled to receive cumulative dividends at the rate of 4.00% per annum. The Series B Shares have an 8.0% per annum compounding dividend preference, are convertible into Common Shares of JFG at the option of the holders at a conversion price of $1.00 per Share (as adjusted for dilution) and, to the extent not converted, must be redeemed by the Corporation at any time after December 31, 2010 at the option of the holder. Any such redemption is subject to legal constraints, such as the availability of capital or surplus out of which to pay the redemption, and to a determination by our Board of Directors that the redemption will not impair the operations of First Surety. The Series C Shares issued in the Recapitalization have the same 8.0% per annum compounding dividend preference and carry over from the Series B Shares the same accrued but unpaid dividends. While dividends had never been declared on the Series B shares, they had been accrued, increasing the dividend preference and the redemption price and liquidity preference of such shares and increasing the liability represented thereby based upon the Series B Shares fixed maturity date. The accrued (but undeclared) dividends associated with the Series C exchange amounted to $2,295,624 and are included in the total amount exchanged for Series C Shares. Unlike the Series B Shares with their fixed maturity date, the Series C Shares are permanent equity, with accruing dividends only increasing the preference amount that must be satisfied before junior securities may participate in dividends or on liquidation. Accordingly, the effect of the accrual of dividends with respect to the Series C Shares on the Company's balance sheet is to increase the aggregate claim of the Series C Shares on the equity of the corporation and to increase the deficit in common equity, while having no effect on the net equity of the corporation as a whole. The entitlement of the Series C Shares to a priority in relation to junior securities with respect to dividends and on liquidation does not create an obligation to the Company and therefore no liability is recorded until the dividends are declared by the Board of the Company. The Series C Shares are pari passu with the Corporation's Series A Preferred Stock and Series B Shares (to the extent any remain outstanding following the Recapitalization) and no dividends or other distributions will be paid upon Common Shares or any other class of Shares that is junior in priority to the Series C Preferred while F-21 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED) dividends are in arrears. In addition, the Series C Shares are convertible into Common Shares of JFG at the option of the holders at a conversion price of $0.10 per Share. The Series C Shares may be redeemed by the Corporation, at its option, when it is in a financial position to do so. Holders of over 70% of the outstanding Series B Preferred Shares elected to participate in the recapitalization. Those Series B Preferred Shareholders that chose not to convert at this time are listed in the Liabilities section of the Balance Sheet, and therefore the accretion and dividends associated with the Series B stock after November 30, 2009 are deductions from net income. As the redemption date on the Series B shares got closer, it became apparent that it was unlikely that the shares would be converted to common at $1.00, and thus the classification was changed. Dividends on Series B mandatorily redeemable preferred stock deducted from net income amounted to $92,002 for the three-month period ended August 31, 2012. The remaining Series B shares not converted were accreted from carrying value to the face amount for the 5 year period from the date of issuance. Series C stock has no accretion. There were no shares of Series B Stock surrendered or exchanged in the 3 month period ending August 31, 2012. During the year ended May 31, 2012, two holders of Series A stock released all of their outstanding bonds held with FSC. The shares of these Series A Preferred shareholders are listed in the liability section of the Balance Sheet in the amount of $1,439,072, which consists of $1,126,000 face value of stock and $313,072 in dividends payable. The dividends associated with these shares of Series A stock are a deduction from net income in the amount of $14,210 for the three month period ended August 31, 2012. There was no accretion on these shares of Series A stock. As of August 31, 2012 the Company has chosen to defer payment of dividends on the Series A Preferred Stock with such accrued and unpaid dividends amounting to $623,991 through August 31, 2012. As of August 31, 2012 the Company has chosen to defer payment of dividends on the Series B and Series C Preferred Stock with such accrued and unpaid dividends amounting to $1,887,748 and $4,520,655 through August 31, 2012. NOTE G - COMMITMENTS, CONTINGENCIES, AND MATERIAL AGREEMENTS ------------------------------------------------------------ As of August 31, 2012, the Company had accrued and withheld approximately $207,000 in noncurrent Federal payroll taxes and approximately $27,000 in estimated penalties and interest, which are reflected in the financial statements as other liabilities. Management is in discussion with the IRS and intends to satisfy this obligation as soon as possible. As of August 31, 2012, the Company had accrued and withheld approximately $53,000 in State of West Virginia payroll withholdings and approximately $9,900 in interest and penalties, which are reflected in the accompanying financial statements as other liabilities. In August 2012 the Company entered into a payment plan with the State of West Virginia which will satisfy this obligation in full over a 15 month payment period. NOTE H - SEGMENT REPORTING -------------------------- The Company has two reportable segments, investment advisory services and surety insurance products and services. The following table presents revenue and other financial information by industry segment. F-22 THREE MONTH PERIOD ENDED INDUSTRY SEGMENT AUGUST 31, AUGUST 31, ---------------- 2012 2011 --------------- --------------- REVENUES: Investment advisory $ 58,922 $ 75,616 Surety insurance 325,455 581,148 Corporate - - --------------- --------------- Total revenues $ 384,377 $ 656,764 NET INCOME (LOSS): Investment advisory $ 17,887 $ 24,913 Surety insurance 127,663 328,766 Corporate (599,138) (480,720) --------------- --------------- Total net income (loss) $ (453,588) $ (127,041) =============== =============== NOTE I - REINSURANCE -------------------- The Company limits the maximum net loss that can arise from large risks by reinsuring (ceding) certain levels of such risk with reinsurers. Ceded reinsurance is treated as the risk and liability of the assuming companies. The Company cedes insurance to other companies and these reinsurance contracts do not relieve the Company from its obligations to policyholders. Beginning April 1, 2009, FSC entered into a reinsurance agreement with various syndicates at Lloyd's of London ("Reinsurer") and one Bermuda based reinsurer for its coal reclamation surety bonding programs. The agreement has been renewed annually with the Reinsurer, with the most recent renewal effective July 1, 2012. The reinsurance agreement is an excess of loss contract which protects the Company against losses up to certain limits over stipulated amounts and can be terminated by either party by written notice of at least 90 days prior to any July 1. The contract calls for a premium rate of 35% subject to a minimum premium of $490,000. Deposits are made to the reinsurers quarterly in arrears in equal amounts of $140,000. At August 31, 2012 and May 31, 2012, the Company had prepaid reinsurance premiums of $241,529 and $243,877 and ceded reinsurance payable/(deposited) of $8,595 and ($42,458). At May 31, 2012, the amounts deposited with the Reinsurer were greater than the ceded premium written, resulting in a net deposit instead of a payable. At the close of the contract year ended June 30, 2012, the Company had written $407,274 in ceded premium on coal reclamation surety bonds. In order to meet the contract minimum of $490,000 of ceded premium written, the Company had to record an additional $82,726 in ceded premium at June 30, 2012. There were no ceded losses and LAE expenses for the three months ended August 31, 2012 or 2011. F-23 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED) The effects of reinsurance on premium written and earned for fiscal 2012 and 2011 are as follows: Three Month Three Month Three Month Three Month Period Ending Period Ending Period Ending Period Ending August 31, 2012- August 31, 2012- August 31, 2011- August 31, 2011- Written Earned Written Earned ---------------- ---------------- ---------------- ---------------- Direct $ 350,202 $ 333,658 $ 369,070 $ 407,259 Ceded $ 191,135 $ 193,483 $ 126,551 $ 139,715 ---------------- ---------------- ---------------- ---------------- Net $ 159,067 $ 140,175 $ 242,519 $ 267,544 ================ ================ ================ ================ Under the terms of its reinsurance treaty, the Company is entitled to a No Claims Bonus from the reinsurers for each claim year in which no claims are received. The bonus is 20% of the annual reinsurance premium and is to be recorded upon the completion of each contract year. On August 31, 2011 the Company recorded receipt of $213,281 from its reinsurers representing the cumulative No Claims Bonus under the terms of its reinsurance treaty for the claim years ending June 30, 2010 and June 30, 2011. For the contract year ended June 30, 2012, the Company recorded a No Claims Bonus receivable in the amount of $98,000. The No Claims Bonus is not included in the analysis of written and earned premium above. NOTE J - STOCK-BASED COMPENSATION --------------------------------- On June 30, 2009 the compensation committee of the board of directors awarded 10,000,000 incentive stock options to acquire common shares at an exercise price of four cents ($.04) per share, of which 4,700,000 shares vested immediately and the remaining 5,300,000 options vested over the next three years ending in June 2011. The term of the options is five years and expires in June 2014. NOTE K - SUBSEQUENT EVENTS -------------------------- Subsequent to August 31, 2012, the Company obtained new borrowings of $18,000 and extended borrowings of $50,000 from individuals to fund ongoing operation and made no repayments on existing debt. Such borrowings were obtained under demand notes bearing interest at rates ranging from 10% to 14%. These borrowings included the issuance of 136,000 shares of its common stock as additional consideration. Additionally, the Company obtained borrowings of $143,009 from its principal shareholder and chief executive officer under its pre-approved financing arrangement bearing interest at the rate of 12.00% and made repayments totaling $217,850. After taking into account the net accrued payroll owed that is to be offset against these borrowings, the balance owed to the principal shareholder is $2,621 at the date of this filing. On September 10, 2012, the Company issued 8,573,594 shares of the Company's common stock in connection with the semi-annual issuance of shares under the bridge-financing arrangements (see Note D). F-24 JACOBS FINANCIAL GROUP, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (UNAUDITED) During September the Company received $98,000 as its No Claims Bonus for the reinsurance contract year ending June 30, 2012. That receipt extinguished the account receivable that had been recorded at August 31, 2012. On September 30, 2012, the Company elected to continue to defer payment of dividends on its Series A Preferred Stock, Series B Preferred Stock, and Series C Preferred Stock, with such accrued and unpaid amounting to $657,252, $1,982,617, and $4,749,028, respectively. On October 1, 2012 the Company issued 719,543 shares of common stock as additional 2.00% dividend to holders of Series B Preferred that had requested redemption. On October 1, 2012, the Company recorded the issuance of 22,600,000 shares of stock to its employees under the Company's stock incentive plan adopted October 12, 2005. F-25 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS -------------------------------------------------------------------------------- During fiscal 2012 and the three-month period ended August 31, 2012, the Company has focused its primary efforts on the development and marketing of its surety business in West Virginia and Ohio, arranging for potential strategic relationships that will accelerate the progression of the Company's business plan and raising additional capital to increase the capital base of its insurance subsidiary, First Surety Corporation ("FSC"), to facilitate entry into other state markets. RESULTS OF OPERATIONS FOR THE THREE-MONTH PERIOD ENDED AUGUST 31, 2012 The Company experienced a loss from operations for the three-month period ended August 31, 2012 of $35,456 as compared with income from operations of $187,634 for the corresponding period ended August 31, 2011. REVENUES Revenues from operations for the three-month period ended August 31, 2012 were $384,377 as compared with $656,764 for the corresponding period ended August 31, 2011. The overall decrease in revenues is largely attributable to the previous year's receipt of a cumulative No Claims Bonus from its reinsurers for the years ended June 30, 2010 and June 30, 2011, and a decline in premium written by the surety business of FSC as well. For the three-month period ended August 31, 2012 net investment income declined due to the re-allocation of assets in the investment portfolio compared to the previous year. Some interest bearing mortgage backed securities were sold at various times during the previous twelve-month period and replaced with non-interest bearing, or zero coupon bonds. In addition, investment advisory fees declined due to the decrease in the size of the portfolios under management. INVESTMENT ADVISORY REVENUES Quarterly revenues from the Company's investment management segment (Jacobs & Company or J&C) net of advisory referral fees were $54,892 for the three-month period ended August 31, 2012 as compared with $74,970 for the corresponding period ended August 31, 2011. Investment advisory fees are based on the market value of assets under management, some fluctuation will occur due to overall market conditions. For the most part, however, such revenues will remain relatively constant from quarter to quarter with any large fluctuations being attributable to the growth or decline of assets under management. INSURANCE AND INVESTMENT REVENUES Quarterly revenues from the Company's surety insurance segment, consisting of FSC and Triangle Surety Agency, Inc ("TSA"), were $325,455 for the three-month period ended August 31, 2012 as compared with $581,149 for the corresponding period ended August 31, 2011. Revenues attributable to premium earned, net investment income and commissions earned are as follows: 3 Three-month Period Ended August 31, ----------------------------------- 2012 2011 ----------------- ----------------- Premium earned $ 140,175 $ 267,544 Commissions earned 16,865 18,214 No Claims Bonus from Reinsurers 98,000 213,281 Net investment income 58,989 70,017 Net realized investment gains 11,426 12,093 ----------------- ----------------- Total $ 325,455 $ 581,149 ================= ================= Premium revenue is recognized ratably over the term of the policy period and thus is relatively stable from period to period with fluctuations for comparable periods generally reflecting the overall growth or loss of business. Whereas, commission revenue, which is dependent on the timing of issuance or renewal of bonds, is expected to be somewhat more "seasonable" from quarter-to-quarter with fluctuations for comparable periods largely reflecting the overall growth or loss of business. The decrease in premium earned for the three-month period ended August 31, 2012, in comparison to the corresponding period from the prior year is a result of the losing two customers that were acquired by a multi-national company that chose to use their in-place bond capacity although at less favorable terms, resulting in less premium written, as well as the need to recognize additional ceded premium in order to meet the minimum amount set forth in the Reinsurance contract. On August 31, 2011 the Company's insurance subsidiary, FSC, recorded receipt of $213,281 from its reinsurers representing cumulative No Claims Bonus under the terms of its reinsurance treaty for the claim years ending June 30, 2010 and June 30, 2011. For the three-month period ended August 31, 2012, the Company recorded $98,000 of No Claims Bonus receivable for the claim year ending June 30, 2012. Investment income should remain relatively consistent but can fluctuate based on interest rates and market conditions in relation to the average assets held for investment. The decrease in corresponding periods reflects consistent average assets held for investment in FSC's investment portfolio, $7.653 million for the three-month period ended August 31, 2011 and $7.656 million for the three-month period ended August 31, 2012, but offset by a decrease in investment yield from approximately 3.47% for the three-month period ended August 31, 2011 to approximately 2.95% for the three-month period ended August 31, 2012. This decrease in investment yield is mostly attributable to the shifting of some invested assets from interest earning, mortgage backed securities to non-interest earning, or zero coupon, bonds. During the period, equity securities in the portfolio provided dividends and gains from the covered call strategy utilized on the equities. During the three-month period ending August, 31, 2012, the Company sold certain equity investments for $59,412, resulting in realized gains of $11,426. During the three-month period ending August 31, 2011, the Company sold certain US Government agency mortgage backed securities and equity investments for $120,908, resulting in realized gains of $12,093. 4 EXPENSES INCURRED POLICY LOSSES The Company has experienced no claims for losses as of August 31, 2012. However, "incurred but not reported" (IBNR) policy losses for the three-month period ended August 31, 2012 and 2011 amounted to $49,373 and $60,413 respectively. Such amounts represent the provision for loss and loss adjustment expense attributable to surety bonds issued by FSC. Such estimates are based on industry averages adjusted for factors that are unique to FSC's underwriting approach and are constantly reviewed for adequacy based on current market conditions and other factors unique to FSC's business. For each of these periods, IBNR provisional losses were approximately 35% and 23% of earned premium. The increase as a percentage of earned premium for the current quarter is due to FSC's need to recognize the minimum ceded premium amount required in the Reinsurance contract without offsetting premium written. POLICY ACQUISITION COSTS Insurance policy acquisition costs of $69,724 and $84,919 for the three-month periods ended August 31, 2012 and 2011, respectively, represent charges to operations for policy acquisition expense and premium tax attributable to surety polices issued by FSC and are recognized ratably over the period in which premiums are earned. Such cost as a percentage of earned premium was approximately 50% and 32% for the periods ended August 31, 2012 and 2011 respectively. The increase as a percentage of earned premium for the current quarter is due to FSC's need to recognize the minimum ceded premium amount set forth in the Reinsurance contract, without offsetting premium written. GENERAL AND ADMINISTRATION General and administrative expenses for the three-month periods ended August 31, 2012 and 2011 were $298,065 and $321,105 respectively, representing an decrease of $23,040, and were comprised of the following:

Three-month Period Ended August 31, ------------------------------------- 2012 2011 Difference ------------------ ------------------ ------------------- Salaries and related costs $ 130,829 $ 145,730 $ (14,901) General office expense 27,243 28,301 (1,058) Legal and other professional fees and costs 60,111 54,602 5,509 Audit, accounting and related services 29,450 34,307 (4,857) Travel, meals and entertainment 18,011 22,891 (4,880) Other general and administrative 32,421 35,274 (2,853) ------------------ ------------------ ------------------- Total general and administrative $ 298,065 $ 321,105 $ (23,040) ================== ================== ===================

Salaries and related costs, net of deferred internal policy acquisition costs, decreased approximately $15,000 and are comprised of the following: 5

Three-month Period Ended August 31, -------------------------------------- 2012 2011 Difference ------------------- ------------------- ------------------ Salaries and taxes $ 136,800 $ 132,766 $ 4,034 Commissions 9,719 50,047 (40,328) Stock option expense - 370 (370) Fringe benefits 22,276 21,341 935 Key-man insurance 14,751 12,224 2,527 Deferred payroll costs (52,717) (71,018) 18,301 ------------------- ------------------- ------------------ Total salaries and related costs $ 130,829 $ 145,730 $ (14,901) =================== =================== ==================

The decrease in commissions is partially attributable to FSC's commission structure that pays a larger commission percentage on the origination of a policy but reduced for subsequent policy renewals. In addition, the loss of two customers and the timing of some commission payments contributed to the decrease. Legal and other professional fees and costs were comprised of the following:

Three-month Period Ended August 31, -------------------------------------- 2012 2011 Difference -------------------- ------------------- ----------------- General corporate services $ 11,250 $ 3,866 $ 7,384 Coal reclamation consulting 18,238 7,916 10,322 Statutory examination costs - 7,675 (7,675) Acquisition and financing related costs 30,623 7,645 22,978 Acquisition and financing related costs - due diligence - 27,500 (27,500) -------------------- ------------------- ----------------- Total legal and other professional fees $ 60,111 $ 54,602 $ 5,509 ==================== =================== =================

The increase in general corporate services results primarily from increased legal and consulting expenses affecting the insurance subsidiary. Legal and other professional services and costs related to the Company's pending acquisitions and on-going efforts to obtain financing necessary to expand the Company's business and penetrate new markets amounted to $30,623 and $7,645 for the three-month periods ended August 31, 2012 and 2011, respectively. In the three-month period ending August 31, 2011, the Company incurred costs associated with a statutory examination of its insurance subsidiary by the West Virginia Insurance Commission. In the three-month period ending August 31, 2011, the Company incurred $27,500 in costs associated with the performance of due diligence by third parties for the benefit of an investor considering a substantial investment in the Company. 6 INTEREST EXPENSE Interest expense for the three-month period ended August 31, 2012 was $311,920 as compared with $229,573 for the corresponding period ended August 31, 2011. Components of interest expense are comprised of the following:

Three-month Period Ended August 31, ----------------------------------- 2012 2011 Difference ----------------- ----------------- ----------------- Interest expense on bridge-financing $ 149,973 $ 149,973 $ - Expense of common shares issued or to be issued in connection with bridge financing and other arrangements 112,972 32,308 80,664 Interest expense on demand and term notes 43,860 47,292 (3,432) Other finance charges 5,115 - 5,115 ----------------- ----------------- ----------------- Total interest expense $ 311,920 $ 229,573 $ 82,347 ================= ================= =================

The increase in the expense of common shares issued (or to be issued) for the three-month period ended August 31, 2012, as compared to the corresponding period of the previous year is attributable to rise in market value of the common stock used to calculate the price of shares to be issued for the semi-annual bridge loan issuance. Other finance charges for the three-month period ended August 31, 2012 consists of interest charged on past due accounts payable balances and Federal and State payroll taxes. ACCRETION AND DIVIDENDS Accretion of mandatorily redeemable convertible preferred stock issued at a discount and accrued dividends for three-month periods ended August 31, 2012 and 2011 are as follows:

Three-month Period Ended August 31, -------------------------------------- 2012 2011 Difference -------------------- ------------------ ------------------ Accrued dividends - mandatorily redeemable preferred stock 18,365 31,300 (12,935) Accrued dividends - equity preferred stock 221,474 204,564 16,910 --------------------------------------- ------------------ Total accretion and dividends $ 239,839 $ 235,864 $ 3,975 ==================== ================== ==================

The Series B class of stock is treated as a liability as of November 30, 2009 after the majority was exchanged for Series C equity stock. Therefore, for the three-month period ending August 31, 2012, dividends of $92,002 associated with the Series B remaining after November 30, 2009 are deductions from net income and not included in the table above. During the year ended May 31, 2012, two holders of Series A stock released all of their outstanding bonds held with FSC. Therefore, these shares of Series A Preferred Shareholders are listed in the liability section of the Consolidated Condensed Balance Sheet and the dividends after February 29, 2012 associated with these shares are a deduction from net income in the amount of $14,210 and not included in the table above. Series C equity stock is not mandatorily redeemable and does not accrete. 7 CRITICAL ACCOUNTING POLICIES AND ESTIMATES INTANGIBLE ASSETS In exchange for the purchase price of $2.9 million for the 2005 acquisition of FSC, the Company received cash and investments held by FSC totaling $2.75 million, with the difference being attributed to the multi-line property and casualty licenses of FSC in the states of West Virginia, Ohio and Indiana. Such licenses have indefinite lives and are evaluated annually for recoverability and impairment loss. Impairment loss, if any, is measured by estimating future cash flows attributable to such assets based on forecasts and projections and comparing such discounted cash flow amounts to the carrying value of the asset. Should actual results differ from such forecasts and projections, such assets may be subject to future impairment charges. RESERVE FOR LOSSES AND LOSS EXPENSES Reserves for unpaid losses and loss adjustment expenses of the insurance subsidiary are estimated using individual case-basis valuations in conjunction with estimates derived from industry and company experience. FSC has experienced no claims for losses as of August 31, 2012. FSC holds license to write coal permit and miscellaneous fixed-liability limit surety bonds in West Virginia and Ohio. Coal permit bonds are required by regulatory agencies to assure the reclamation of land that has been disturbed by mining operations, and accordingly, is a highly regulated process by federal and state agencies. Such bonds are generally long-term in nature with mining operations and reclamation work conducted in unison as the property is mined. Additionally, no two principals and properties are alike due to varied company structures and unique geography and geology of each site. In underwriting coal reclamation bonds, management obtains estimates of costs to reclaim the relevant properties in accordance with the specifications of the mining permit prepared by independent outside professionals experienced in this field of work. Such estimates are updated periodically and contrasted to the principal's pledged asset account, which FSC requires to mitigate risk exposure. Should the principal default in its obligation to reclaim the property as specified in the mining permit, FSC could then use the collateral account to reclaim the property or as an offset in forfeiting the face amount of the surety bond. Losses can occur if the costs of reclamation exceed the estimates obtained at the time the initial bond was issued or upon subsequent re-evaluations if sufficient collateral is not obtained or if the collateral has experienced significant deterioration in value and FSC is not otherwise able to recover under its contractual rights to indemnification. In general, miscellaneous fixed-liability surety bonds are collateralized in full by the principal's cash investment in a collateral investment account managed by the Company's investment advisory subsidiary (Jacobs & Co.) that mitigates FSC's exposure to loss. Losses can occur should the principal default on the performance required by the bond and the collateral investment account experiences deterioration in value. 8 In establishing its reserves for losses and loss adjustment expense, management routinely reviews its exposure to loss based on periodic monitoring and inspection reports, along with industry averages and historical experience. Management estimates such losses based on industry experience adjusted for factors that are unique to the Company's approach, and in consultation with actuaries experienced in the surety field. ANALYSIS OF LIQUIDITY, CAPITAL RESOURCES AND FINANCIAL POSITION AND RECENT DEVELOPMENTS AND FUTURE DIRECTION OF COMPANY The Company experienced income (losses) from operation of approximately $16,000 and ($22,000) for the years ended May 31, 2012 and 2011, respectively. The Company's income decreases (or loss increases) when accretion of mandatorily redeemable convertible preferred stock and accrued dividends on mandatorily redeemable preferred stock are taken into account, to approximately ($1,220,000) and ($1,440,000) for the years ended May 31, 2012 and 2011, respectively. For the three-month period ended August 31, 2012 the Company had a loss from operations of approximately $35,000, which, when accretion of mandatorily redeemable convertible preferred stock and accrued dividends on mandatorily redeemable preferred stock are taken into account, results in a loss of approximately $472,000. The Company reported cash flow used in operations of approximately $36,000 for the three-month period ended August 31, 2012. A substantial portion of the Company's cash flow is generated by its insurance subsidiary and subject to certain withdrawal restrictions. Despite the continued reduction of operating expenses, the Company has not been able to pay certain amounts due to professionals and others, continues to be unable to pay its preferred stock dividend obligation or cure its default in certain quarterly payments due its bridge-financing lenders. While management expects revenue growth and cash flow to increase significantly when its business plan is fully implemented, it is anticipated that losses will continue and the Company will be cash constrained until FSC develops a more substantial book of business. The Company is restricted in its ability to withdraw monies from FSC without prior approval of the Insurance Commissioner. Of the Company's investments and cash of $7,752,772 as of August 31, 2012, $7,751,310 is restricted to FSC. By Order dated March 26, 2012 the West Virginia Insurance Commissioner terminated the conditions imposed upon FSC by Consent Order dated December 23, 2005 and the Amended Consent Order dated June 8, 2007, which, among other conditions, included limitations before seeking license or Extension of its Authority in other states without obtaining prior approval of the Commissioner. Beginning April 1, 2009, and continuing through annual renewals, the most recent of which was July 1, 2012, various syndicates of Lloyd's of London have reinsured FSC for its coal reclamation surety bonding programs. This agreement has provided additional bonding capacity to FSC and has enabled the underwriting of more and greater size bonds for its coal reclamation bonding clients. Management expects this reinsurance arrangement to expand FSC's market share and increase cash flow for each of the Company's operating subsidiaries. 9 Expansion of FSC's business to other states is a key component to fully implementing the Company's business plan. In fiscal 2009, the Company was able to increase the capital of FSC, reactivate FSC's insurance license in Ohio and obtain authority to issue surety bonds in that state. However, management has found that entry into other states (as a surety) has been difficult due to FSC's relatively small capital base and the financial condition of the Company. Management believes that if FSC's capital and surplus reserves were more substantial and the financial condition of the Company stabilized, entry into other states would be less challenging. Accordingly, management continues to pursue investor relationships that will provide additional capital to its insurance subsidiary and fund operations as the business fully develops. As a means of alleviating obligations associated with the Company's Series B Preferred Stock, which by its terms matured at the end of 2010, management proposed a recapitalization to assist in stabilizing the financial position of the Company. Holders of the Series B Preferred Stock were offered the opportunity to exchange their Series B Shares for an equal number of shares of a new series of JFG preferred stock designated as Series C Preferred Stock plus 2,000 shares of JFG Common Stock. Series C Preferred Stock is equal in priority to the Series B Preferred Stock, entitled to dividends at the same rate as Series B Preferred Stock, entitled to convert to common stock of the Company at a conversion rate of $ .10 per common share (in contrast to $1.00 per share for Series B Preferred) and may be redeemed by the Company but does not have a fixed maturity date and thus, is classified as permanent equity. Holders of over 70% of the outstanding Series B Preferred Shares elected to participate in the recapitalization. Through the sharing of resources (primarily personnel) to minimize operating costs, the Company and its subsidiaries minimize operating expenses and preserve resources. Although FSC is cash flow positive, its assets and profits are restricted to its stand-alone operation by regulatory authority until capital and surplus reserves reaches a more substantial level. Although the growth of FSC provides additional unrestricted cash flow to the Company's other subsidiaries, Jacobs and Triangle Surety, it is anticipated that working capital deficiencies will continue and need to be met either through the raising of additional capital or borrowings. However, there can be no assurance that additional capital (or debt financing) will be available when and to the extent required or, if available, on terms acceptable to the Company. Accordingly, concerns as to the Company's ability to continue as a going concern are substantial. The consolidated condensed financial statements do not include any adjustments that might result from the outcome of this uncertainty. The Company's exposure to the subprime mortgage risk is minimal due to its investment in mortgage-backed securities being limited to only those securities backed by the United States government (i.e. Government National Mortgage Association or GNMA securities). The Company also holds municipal obligations that have been fully defeased through the purchase of Resolution Funding Corporation ("REFCORP") strips that were placed in escrow and provide means for the bond repayment. REFCORP was created by the Financial Institutions Reform, Recovery and Enforcement Act of 1989 ("FIRREA") to provide funds to the Resolution Trust Corporation ("RTC") in order to help resolve the Savings and Loan failures. REFCORP operates as a United States Treasury agency under the direction of the RTC Oversight Board, whose chair is the secretary of the United States Treasury, and its obligations are ultimately backed by the United States government. 10 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK ------------------------------------------------------------------ As the Registrant qualifies as a small reporting company as defined by ss.229.10(f)(1) of Regulation S-K, the Registrant is not required to provide the information required by this item. ITEM 4T. CONTROLS AND PROCEDURES -------------------------------- We maintain disclosure controls and procedures designed to ensure that information required to be disclosed in the reports that the Company files or submits under the Securities and Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the SEC's rules and forms, and that such information is accumulated and communicated to the Company's management, including its Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures. Our management, with the participation of its Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and procedures as defined in Rules 13a-15(e) under the Securities Exchange Act of 1934, as of August 31, 2012. As previously reported in our Annual Report on Form 10-K for the year ended May 31, 2012, control deficiencies were identified that constitute a material weakness in internal control over financial reporting. Such control deficiencies relate to the use of internally developed non-integrated accounting systems, lack of internal review of account reconciliations, and lack of internal review of general journal entries, elimination entries and the financial statement consolidation process. Based upon their evaluation, the Chief Executive Officer and Chief Financial Officer concluded that the Company's disclosure controls and procedures, as of August 31, 2012, were ineffective. Changes will be considered as additional financial resources and accounting staff become available. Notwithstanding the above, management believes the unaudited consolidated condensed financial statements in this Quarterly Report on Form 10-Q fairly present, in all material respects, the Company's financial condition as of August 31, 2012 and May 31, 2012 and the results of its operations and cash flows for the three month periods ended August 31, 2012 and 2011 in conformity with U.S. generally accepted accounting principals (GAAP). 11 PART II - OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS ------------------------- None. ITEM 1A. RISK FACTORS ----------------------- As the Registrant qualifies as a small reporting company as defined by ss.229.10(f)(1) of Regulation S-K, the Registrant is not required to provide the information required by this item. ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES ----------------------------------------------- Certificates of Designations, Powers, Preferences and Rights of Series A Preferred Stock adopted by the Board of Directors of the Company on December 22, 2005 is set forth as Exhibit 4.1 In the three months ended August 31, 2012, 1,061,000 common shares were issued as additional consideration to various lenders in private placements pursuant to short-term borrowings. In the three months ended August 31, 2012, 3,845,837 common shares were issued as additional 2% stock dividend for holders of Series B Preferred shares that had requested redemption upon maturity. Subsequent to August 31, 2012, 8,573,594 common shares were issued to the Bridge lenders, 136,000 common shares were issued in private placement to various individuals pursuant to short-term borrowings, 719,543 common shares were issued as additional stock dividend to Series B Preferred shareholders and 22,600,000 shares were issued to employees under the Company's stock incentive plan. The issuance of the aforementioned securities is exempt from registration provisions of the Securities Act of 1933, as amended (the "Securities Act"), by reason of the provision of Section 4(2) of the Securities Act, as transactions not involving any public offering, in reliance upon, among other things, the representations made by the investors, including representations regarding their status as accredited investors (as such term is defined under Rule 501 promulgated under the Securities Act), and their acquisition of the securities for investment and not with a current view to distribution thereof. The securities contain a legend to the effect that such securities are not registered under the Securities Act pursuant to an exemption from such registration. The issuance of the securities was not underwritten. ITEM 3. DEFAULTS UPON SENIOR SECURITIES --------------------------------------- The Company has incurred an event of default with respect to quarterly interest and principal payments under its bridge-financing arrangement. As of the date of filing this report, the amount required to cure the default is $3,792,106. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS ----------------------------------------------------------- None. 12 ITEM 5. OTHER INFORMATION ------------------------- None. ITEM 6. EXHIBITS ---------------- 3.1 Company's Articles of Incorporation (1) 3.2 Company's By-laws (1) 3.3 Certificate of the Designations, Powers, Preferences and Rights of Series A Preferred Stock of Jacobs Financial Group (1) 3.4 Certificate of the Designations, Powers, Preferences and Rights of Series B Preferred Stock of Jacobs Financial Group (1) 4.1 Certificate of the Designations, Powers, Preferences and Rights of Series A Preferred Stock of Jacobs Financial Group (1) 4.2 Certificate of the Designations, Powers, Preferences and Rights of Series B Preferred Stock of Jacobs Financial Group (1) 10.1 Agreement to acquire by merger Reclamation Surety Holding Company, Inc. (2) (4) 10.2 Stock Purchase Agreement with National Indemnity Company to purchase Unione Italiana Insurance Company of America dated August 20, 2008 (5) (6) 31.1 Certification of Chief Executive Officer and Chief Financial Officer pursuant to Rule 13a-146.1 promulgated under the Securities Exchange Act of 1934 32.1 Certification of Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 99.1 Form of Subscription Agreement and Promissory Note (Bridge-financing) (3) -------------------------------------------------------------------------------- (1) Incorporated by reference to the Company's Current Report on form 8-K dated December 29, 2005. (2) Incorporated by reference to the Company's Current Report on form 8-K dated February 8, 2008. (3) Incorporated by reference to the Company's Current Report on form 8-K dated June 6, 2008 (4) Incorporated by reference to the Company's Current Report on form 8-K dated June 24, 2008 (5) Incorporated by reference to the Company's Current Report on form 8-K dated August 20, 2008 (6) Incorporated by reference to the Company's Current Report on form 8-K dated November 13, 2008 13 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Date: October 22, 2012 JACOBS FINANCIAL GROUP, INC. ------------------------------------- (Registrant) By: /s/John M. Jacobs ------------------------------------- John M. Jacobs, President 14