UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)

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

FOR THE QUARTERLY PERIOD ENDED September 30, 2005

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

FOR THE TRANSITION PERIOD FROM TO

Commission file number 000-27437

PARAGON FINANCIAL CORPORATION

(Exact name of registrant as specified in its charter)

Delaware

94-3227733

(State or other jurisdiction of

incorporation or organization)

(I.R.S. Employer

Identification No.)

830-13 A1A North, Ponte Vedra Beach, FL 32082

(Address of principal executive offices and zip code)

(904) 285-0000

(Registrant’s telephone number, including area code)

2207 Sawgrass Village Drive, Ponte Vedra Beach, FL 32082

(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨

Indicate by check mark whether the Registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x

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

The total number of shares of the registrant’s common stock outstanding as of November 15, 2005: 88,006,250

INDEX


PART I – FINANCIAL INFORMATION

Item 1.		Financial Statements
		Unaudited Condensed Consolidated Balance Sheets as of September 30, 2005 and December 31, 2004

		Unaudited Condensed Consolidated Statements of Operations for the three and nine months ended September 30, 2005 and 2004

		Unaudited Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2005 and 2004

		Notes to the Unaudited Condensed Consolidated Financial Statements

Item 2.		Management’s Discussion and Analysis of Financial Condition and Results of Operations

Item 3.		Quantitative and Qualitative Disclosures About Market Risk

Item 4.		Controls and Procedures

PART II – OTHER INFORMATION

Item 1.		Legal Proceedings

Item 2.		Unregistered Sales of Equity Securities and Use of Proceeds

Item 3.		Defaults Upon Senior Securities

Item 4.		Submission of Matters to a Vote of Security Holders

Item 5.		Other Information

Item 6.		Exhibits and Reports on Form 8-K

PART I – FINANCIAL INFORMATION

Item 1. Financial Statements.

PARAGON FINANCIAL CORPORATION AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS

AS OF SEPTEMBER 30, 2005 AND DECEMBER 31, 2004

(Dollars in thousands, except share data)


	2005			2004*
ASSETS
Current assets:
Cash and cash equivalents	$	130		$	135
Fees receivable		67			46
Prepaid and other current assets		6			9

Total current assets		203			190

Office property and equipment, net of accumulated depreciation of $64 and $43		78			64
Goodwill		993			822
Other assets		419			416

TOTAL ASSETS	$	1,693		$	1,492

LIABILITIES AND STOCKHOLDERS’ DEFICIT
Current liabilities:
Liabilities to formerly related party	$	1,531		$	580
Short-term debt		186			221
Notes payable		26			48
Notes payable – related parties		33			25
Convertible notes payable		—			379
Accounts payable		383			371
Accrued expenses – related parties		59			59
Accrued expenses – other		604			392
Stock subscription proceeds received		—			178

Total current liabilities		2,822			2,253

Long-term debt:
Liabilities to formerly related party, less current portion		—			951
Convertible debentures		455			—

Total liabilities		3,277			3,204

Stockholders’ deficit:
Preferred stock: Issuable in series, $0.0001 par value; 5,000,000 shares authorized: Series E, $1,000 stated value; 659 and 659 shares issued and outstanding, respectively		—			—
Common stock, $0.0001 par value. 400,000,000 shares authorized: 88,006,250 and 65,212,744 shares issued and outstanding		8			6
Additional paid-in capital		7,697			6,914
Retained deficit		(9,228	)		(8,625	)
Cumulative comprehensive income:		—			—
Unearned stock-based compensation		(61	)		(7	)

Total stockholders’ deficit		(1,584	)		(1,712	)

TOTAL LIABILITIES AND STOCKHOLDERS’ DEFICIT	$	1,693		$	1,492

*	Derived from audited consolidated financial statements filed in the Company’s 2004 Annual Report on Form 10-K.

See Notes to Unaudited Condensed Consolidated Financial Statements

PARAGON FINANCIAL CORPORATION AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004

(Dollars in thousands, except share data)


	Three Months Ended						Nine Months Ended
	2005			2004			2005			2004
Revenue:
Loan origination fees	$	689		$	479		$	1,469		$	1,698

Expenses:
Salaries, commissions, benefits, and stock-based compensation		495			407			1,127			1,776
Loan production costs		14			7			31			54
General and administrative expenses		331			135			771			578

Total expenses		840			549			1,929			2,408

Operating loss		(151	)		(70	)		(460	)		(710	)

Interest expense, net		49			41			143			84

Loss from continuing operations		(200	)		(111	)		(603	)		(794	)

Discontinued operations (Note 2):
Loss from discontinued operations (including loss on disposal of segment of $102)		—			—			—			(3,640	)

Net loss	$	(200	)	$	(111	)	$	(603	)	$	(4,434	)

Net Income Per Common Share - Basic and Diluted:

Loss from continuing operations	$	(0.00	)	$	(0.00	)	$	(0.01	)	$	(0.01	)

Loss from discontinued operations		—			—			—		$	(0.04	)

Basic and diluted loss per share	$	(0.00	)	$	(0.00	)	$	(0.01	)	$	(0.05	)

Weighted average shares outstanding – basic and diluted		86,759			64,044			82,683			93,000

See Notes to Unaudited Condensed Consolidated Financial Statements

PARAGON FINANCIAL CORPORATION AND SUBSIDIARIES

UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2005 AND 2004

(Dollars in thousands)


	2005			2004
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss from continuing operations	$	(603	)	$	(794	)

Adjustments to reconcile net loss to cash used by operating activities:
Depreciation		21			33
Stock-based compensation		11			57
Non-cash interest expense for beneficial conversion feature		9			—
Changes in operating assets and liabilities, net of acquisitions:
Increase in fees receivable		(21	)		(27	)
Decreases in prepaids and other assets		—			4
Increase in accounts payable, accrued expenses and other current liabilities		206			78

Cash used by operating activities		(377	)		(649	)

CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment		(8	)		(4	)
Cash acquired from purchases of business		6			—
Proceeds from the sale of websites		—			30

Cash (used) provided by investing activities		(2	)		26

CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from the issuance of common stock		338			—
Proceeds from the issuance of warrants		9			—
Proceeds from the issuance of debentures		106			—
Repayment of convertible debentures		(30	)		—
(Repayments of) proceeds from promissory notes		(49	)		23

Cash provided by financing activities		374			23

Net cash provided by discontinued operations		—			626

Net (decrease) increase in cash and cash equivalents		(5	)		26

Cash and cash equivalents, beginning of period		135			70

Cash and cash equivalents, end of period	$	130		$	96

See Notes to Unaudited Condensed Consolidated Financial Statements

PARAGON FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands, except share and per share amounts)

NOTE 1. PRINCIPLES OF CONSOLIDATION, BASIS OF PRESENTATION, AND SIGNIFICANT ACCOUNTING POLICIES

BASIS OF PRESENTATION – Paragon Financial Corporation (the “Company”) was incorporated in Delaware on August 27, 1999. The unaudited condensed consolidated financial statements include the accounts of Paragon Financial Corporation and its wholly owned subsidiaries, Paragon Homefunding, Inc. and First Charleston Mortgage, L.L.C. (collectively referred to as the “Company”, “we”, or “us”). The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments, consisting of normal recurring accruals, considered necessary for a fair presentation have been included. Operating results for the three and nine months ended September 30, 2005 are not necessarily indicative of the results that may be expected for the year ending December 31, 2005. All intercompany balances and transactions are eliminated in consolidation. The unaudited consolidated financial statements presented herein should be read in conjunction with the audited consolidated financial statements and related notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2004.

USE OF ESTIMATES - In preparing financial statements in conformity with generally accepted accounting principles, management is required to make estimates and assumptions that materially affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and revenues and expenses during the reporting period. Material estimates that are particularly susceptible to significant change in the near term relate to the determination of goodwill and loss on disposal of our discontinued segment. Actual results could differ from those estimates.

FINANCIAL STATEMENT PRESENTATION - The condensed consolidated financial statements and notes are representations of the Company’s management. The Company’s management is responsible for the integrity and objectivity of these financial statements.

RECLASSIFICATIONS - Certain reclassifications have been made to our previously issued financial statements to conform to the current period’s presentation. As of December 31, 2004, certain amounts due to formerly related party have been reclassified from current portion of long-term debt ($100) and notes payable ($580) and included under the caption “Liabilities to formerly related party.” In addition, we reclassified the loss on the disposal of PGNF as a part of the loss from discontinued operations (see footnote 2 “Discontinued Operations”). In our Form 10-Q for the nine months ended September 30, 2004, we reported this amount as part of our loss from continuing operations.

ACQUISITIONS - On January 19, 2005, the Company completed its acquisition of First Charleston Mortgage, L.L.C. (“FCM”). As consideration for the acquisition, the Company issued 4,285,714 shares of its $0.0001 par value common stock valued at $186 (or $0.043 per share). FCM has been in the business of originating residential mortgage loans since 2002. The acquisition is effective February 1, 2005 and was accounted for as an acquisition pursuant to SFAS No. 141, Accounting for Business Combinations (“SFAS 141”). Accordingly, the Company’s results of operations include the operating results of FCM from the effective date of the acquisition.

PARAGON FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands, except share and per share amounts)

NOTE 1. PRINCIPLES OF CONSOLIDATION, BASIS OF PRESENTATION, AND SIGNIFICANT ACCOUNTING POLICIES – (continued)

The Company’s unaudited condensed consolidated results of operations on a pro forma basis for the nine months ended September 30, 2005 and 2004 as if it had consummated the acquisition of FCM and disposed of PGNF Home Lending Corp. (see Note 2) on January 1, 2004 are as follows (in thousands except per share data):


	2005			2004
Revenue	$	1,480		$	1,769
Net loss	$	(614	)	$	(815	)
Basic and diluted loss per share	$	(0.01	)	$	(0.01	)
Weighted average shares outstanding – basic and diluted		82,982			68,256

CASH AND CASH EQUIVALENTS - For purposes of the statement of cash flows, the Company considers all highly liquid investments purchased with original maturities of three months or less on their acquisition date to be cash equivalents. Cash and cash equivalents include cash on hand and funds held in checking, money market, and savings accounts.

FEES RECEIVABLE - Fees receivable consist of fees due on loans closed prior to the balance sheet date. Fees receivable are typically collected within 30 days.

OFFICE PROPERTY AND EQUIPMENT, NET - Office property and equipment, net, are stated at cost less accumulated depreciation. Depreciation is computed using the straight-line method over the estimated useful lives of the asset as follows:


Computer hardware		Five years
Furniture and fixtures		Five to seven years
Computer software		Three years
Leasehold improvements		Lower of life of lease or asset

DERIVATIVE FINANCIAL INSTRUMENTS - The Company does not purchase, sell, or utilize off-balance sheet derivative financial instruments or derivative commodity instruments.

GOODWILL - Goodwill represents the excess of the purchase price over the fair value of the net assets acquired in a purchase business combination. Goodwill and other intangible assets are stated on the basis of cost. See also “Impairment” which follows.

PARAGON FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands, except share and per share amounts)

NOTE 1. PRINCIPLES OF CONSOLIDATION, BASIS OF PRESENTATION, AND SIGNIFICANT ACCOUNTING POLICIES – (continued)

IMPAIRMENT - Long-lived assets, including certain identifiable intangibles and goodwill, are reviewed for impairment annually or whenever events or changes in circumstances indicate that the carrying amount of the asset in question may not be recoverable including, but not limited to, a deterioration of profits for a business segment that has long-lived assets, and when other changes occur which might impair recovery of long-lived assets.

ORIGINATION FEES - Origination fees are comprised of points and other fees charged on mortgage loans originated by the retail segment of the Company. Points and fees are primarily a function of the volume of mortgage loans originated by our retail segment. Origination fees on loans originated by the Company that are subsequently sold are deferred and recognized as part of the gain on sale of loans.

INCOME TAXES - The Company accounts for income taxes pursuant to Statement of Financial Accounting Standards (“SFAS”) No. 109, “Accounting for Income Taxes.” Under the asset and liability method specified thereunder, deferred taxes are determined based on the difference between the financial reporting and tax bases of assets and liabilities. Deferred tax liabilities are offset by deferred tax assets relating to net operating loss carryforwards and deductible temporary differences.

STOCK BASED COMPENSATION - The Company has elected to follow Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”), and related interpretations, in accounting for employee stock options rather than the alternative fair value accounting allowed by FASB Statement No. 123, “Accounting for Stock-Based Compensation” (“SFAS 123”). APB 25 provides that compensation expense relative to the Company’s employee stock options is recorded on the date of grant only if the current market price of the underlying stock exceeds the exercise price. Under SFAS 123, the fair value of stock options at the date of grant is recognized in earnings over the vesting period of the options. In December 2002, FASB issued SFAS No. 148, “Accounting for Stock-Based Compensation—Transition and Disclosure” (“SFAS 148”), which amends SFAS 123 to provide alternative methods of transition for a voluntary change to the fair value method of accounting for stock-based employee compensation. In addition, SFAS 148 amends the disclosure requirements of SFAS 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method on reported results. The Company will continue to report stock based compensation under APB 25 but has adopted the interim reporting requirements of SFAS 148. The maximum number of shares of common stock that may be issued pursuant to the plan is 100,000,000 shares. As of September 30, 2005, 29,744,250 shares had been issued under the 2002 Equity Participation Plan.

PARAGON FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands, except share and per share amounts)

NOTE 1. PRINCIPLES OF CONSOLIDATION, BASIS OF PRESENTATION, AND SIGNIFICANT ACCOUNTING POLICIES – (continued)

ADVERTISING - The Company’s advertising costs are expensed as incurred.

FAIR VALUE OF FINANCIAL INSTRUMENTS - Financial instruments of the Company consist of cash and cash equivalents, receivables for fees, accounts payable, notes payable, and convertible debentures payable. The carrying amount of financial instruments approximates fair value.

CONCENTRATIONS OF RISKS - The Company is required by Statement of Financial Accounting Standards No. 105 to disclose concentrations of credit risk regardless of the degree of such risk. The Company’s operations are concentrated in single-family first mortgage residential real estate market. The Company operates in a heavily regulated environment. The operations of the Company are subject to changes in laws, administrative directives and rules and regulations of federal, state, and local governments and regulatory agencies. Such changes may occur with little notice of time for compliance. Further, the Company performs credit evaluations of its customers’ financial condition, performs its operations under contracts and requires deposits when deemed necessary. Historically, the Company has not incurred any significant credit losses.

RECENT ACCOUNTING DEVELOPMENTS - In December 2004, the Financial Accounting Standards Board issued a revision of SFAS No. 123, Accounting for Stock-Based Compensation, which also supersedes APB 25, Accounting for Stock Issued to Employees. The revised standard eliminates the alternative to use Opinion 25’s intrinsic value method of accounting and eliminates the disclosure only provisions of SFAS No. 123. The compliance date for the revised standard was extended by the Securities and Exchange Commission (the “SEC”) in April 2005. The revision, as extended by the SEC, applies to all awards granted after December 31, 2005 and requires the recognition of the cost of employee services received in exchange for awards of equity instruments based on the grant-date fair value of those awards and applies to all stock options and awards granted after December 31, 2005 and requires the recognition of compensation expense in the financial statements for all share-based payment transactions subsequent to that date. The revision also requires the prospective recognition of compensation expense in the financial statements for all unvested options as of January 1, 2006. Adoption of this standard on January 1, 2006 will have a slightly negative impact on our earnings based on the pro forma data in the table above.

In May 2005, the FASB issued SFAS 154, Accounting Changes and Error Corrections, which replaces APB Opinion No. 20, Accounting Changes, and SFAS 3, Reporting Accounting Changes in Interim Financial Statements-An Amendment of APB Opinion No. 28. SFAS 154 changes the requirements for the accounting and reporting of a change in accounting principle. It applies to all voluntary changes in accounting principle as well as to changes required by an accounting pronouncement that does not include specific transition provisions. SFAS 154

PARAGON FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands, except share and per share amounts)

NOTE 1. PRINCIPLES OF CONSOLIDATION, BASIS OF PRESENTATION, AND SIGNIFICANT ACCOUNTING POLICIES – (continued)

eliminates the requirement in APB Opinion No. 20 to include the cumulative effect changes in accounting principle in the income statement in the period of change. Instead, to enhance comparability of prior period financial statements, SFAS 154 requires that changes in accounting principle be retrospectively applied. Under retrospective application, the new accounting principle is applied as of the beginning of the first period presented as if that principle had always been used. The cumulative effect of the change is reflected in the carrying value of assets and liabilities as of the first period presented and the offsetting adjustments are recorded to opening retained earnings. Each period presented is adjusted to reflect the period specific effects of applying the change. Although retrospective application is similar to restating prior periods, SFAS 154 gives the treatment a new name to differentiate it from restatement for correction of an error. Only direct effects of the change will be included in the retrospective application; all indirect effects will be recognized in the period of change. If it is impracticable to determine the cumulative effect for all periods, the new accounting principle should be applied as if it were adopted prospectively from the earliest date practicable. SFAS 154 is effective for accounting changes and corrections of errors made in fiscal years beginning after the date SFAS 154 was issued. The changes required by SFAS 154 are not expected to have a material impact on the financial condition, results of operations, or liquidity of the Company.

NOTE 2. DISCONTINUED OPERATIONS

On June 30, 2004, we sold our PGNF Home Lending Corp. (“PGNF”) subsidiary effective May 31, 2004. Pursuant to the agreement, we exchanged the common stock of PGNF, as well as the assumption of all of PGNF’s liabilities, contingent and otherwise, for 52,329,735 shares of our common stock valued at $3,140 (based upon the closing price of $0.06 on May 31, 2004) and 1,800 shares of our Series E preferred stock plus accrued dividend valued at $1,813. At the closing of this sale, our book value in PGNF was $5,054, and we recognized a loss of $102 as a result of this sale.

In accordance with Statement of Financial Accounting Standards No. 144, “Accounting for Impairment or Disposal of Long-Lived Assets,” the assets and liabilities of the PGNF have been classified as discontinued operations, with its operating results in the current and prior periods reported in discontinued operations for the nine-month period ended September 30, 2004. We recorded an impairment charge related to this subsidiary in the three months ended March 31, 2004 that was included in the results of discontinued operations for that period. A summary of the operating results of the discontinued operations for the nine months ended September 30, 2004 was as follows:

PARAGON FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands, except share and per share amounts)

NOTE 2. DISCONTINUED OPERATIONS – (continued)


Revenues:
Gain on sale of loans	$	1,949
Loan origination fees		551
Interest, dividends, and other income		546

Total revenue		3,046

Expenses:
Salaries, commissions, benefits, and stock-based compensation		2,151
Loan production costs		309
General and administrative expenses		1,306
Impairment of goodwill		2,582
Non-recurring expense (income)		(198	)
Interest expense		436
Other (income) expense		(2	)

Total expenses		6,584

Loss on disposal of segment		102

Total expenses and loss on disposal of segment		6,686

Loss from discontinued operations	$	(3,640	)

NOTE 3. GOING CONCERN

As shown in the accompanying unaudited condensed consolidated financial statements, we incurred a net loss of $200 and $603 in the three and nine months ended September 30, 2005, respectively, and have incurred cumulative losses of $9,228 At September 30, 2005, we had a working capital deficit of $2,619 and a deficit in stockholders’ equity of $1,584. These factors raise substantial doubt about the Company’s ability to continue as a going concern. The accompanying financial statements do not include any adjustments that might result from the outcome of this uncertainty. The Company’s continued existence depends on a number of factors, including but not limited to, the ability to originate loans and improve the operating results of our existing subsidiaries, to secure adequate sources of capital and to locate and fund acquisitions of suitable companies. However, there can be no assurance that we will be successful in these endeavors or able to continue as a going concern.

PARAGON FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands, except share and per share amounts)

NOTE 4. OFFICE PROPERTY AND EQUIPMENT

Office property and equipment from continuing operations as of September 30, 2005 and December 31, 2004 are summarized as follows:


	2005			2004
Furniture and fixtures	$	25		$	20
Leasehold improvements		13			—
Office equipment		104			87

		142			107
Accumulated depreciation		(64	)		(43	)

	$	78		$	64

Depreciation expense for the nine months ended September 30, 2005 and 2004 was $21 and $33, respectively.

NOTE 5. GOODWILL

Goodwill represents the excess of the merger consideration over the fair value of the net assets of PHF and FCM on the date they were acquired. A summary of goodwill follows:


PHF - Consideration for the merger was $876 consisting of $836 in shares of the Company’s common stock (1,224,000 shares at approximately $0.6833 per share), $25 in a promissory note issued by the Company, and $15 in costs associated with the merger. At the time of the merger, the fair value of the net assets of PHF was $54.	$	822

FCM – Consideration for the merger was $186 consisting of $186 in shares of the Company’s common stock (4,285,714 shares at approximately $0.043 per share). At the time of the acquisition, the estimated fair value of the net assets of FCM was $15.		171

	$	993

NOTE 6. OTHER ASSETS

Other assets from continuing operations at September 30, 2005 and December 31, 2004 were:


	2005		2004
Deferred income tax assets	$	414	$	414
Security deposits and other		5		2

	$	419	$	416

NOTE 7. SEGMENT DATA

The Company previously operated in two separate business segments: wholesale and retail. With the disposal of PGNF (Note 2), the Company operates in one business segment: retail mortgage brokering.

PARAGON FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands, except share and per share amounts)

NOTE 8. DEBT

The Company’s debt from continuing operations as of September 30, 2005 and December 31, 2004 was as follows:


	2005		2004
Revolving line of credit subject to a standstill agreement with a commercial bank secured by certain equipment and furniture of the Company bearing interest at prime rate requiring monthly principal and interest payments of $5, due November 1, 2005	$	186	$	221
Insurance premium finance note bearing an interest rate of 8% with monthly principal and interest payments of $6, due May 1, 2005		—		24
Promissory note to vendor bearing interest of 8% with monthly principal and interest payments of $4		26		24
Promissory note to shareholders of PHF bearing interest at 4.92%, due December 31, 2005		25		25
Promissory note to former members of FCM		8		—
Convertible debentures bearing interest at 10% due December 31, 2006, currently in default		349		379
Convertible debentures bearing interest at 12% due December 31, 2007		106		—
Subordinated note payable to former stockholder bearing interest at 5%, due November 30, 2005, currently in default for payments due at December 31, 2004		480		480
Subordinated note payable to former stockholder bearing interest at 5%, due May 31, 2008, currently in default		1,051		1,051

Total debt	$	2,231	$	2,204

On August 8, 2005, our Board of Directors authorized the issuance of up to $250 in 12% convertible debentures with 1,000,000 detachable warrants in a private placement. Under this authorization, the conversion price of the debt and the exercise price of the warrants is equal to the closing market price of our common stock on the closing date. To date, we have placed $115 in face value of these notes. In accordance with EITF 98-05 and 00-27, we allocated $9 to the value of the warrants based upon the relative fair values of the securities. In addition, we determined that the convertible note had a beneficial conversion feature and recorded $9 as interest expense in the three months ended September 30, 2005 for the value of the beneficial conversion feature.

NOTE 9. COMMITMENTS AND CONTINGENCIES

Off-Balance Sheet Risks - The Company enters into commitments to extend credit in the normal course of business. These commitments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the balance sheet. Commitments to fund loans are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Commitments generally have fixed expiration dates or other termination clauses. One-to-four family residential properties, if funded, would collateralize the commitments. The Company evaluates each customer’s creditworthiness and obtains appraisals to support the value of the underlying collateral. Also, external market forces affect the probability of commitments being exercised; therefore, total commitments outstanding do not necessarily represent future cash requirements. The Company quotes interest rates to borrowers, which are generally subject to change by the Company. Although the Company typically honors such interest rate quotes, the quotes do not constitute interest rate locks, minimizing the potential interest rate risk exposure. The Company had no binding commitments to fund loans at September 30, 2005.

PARAGON FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands, except share and per share amounts)

NOTE 9. COMMITMENTS AND CONTINGENCIES – (continued)

Supervisory Regulation - The Company’s mortgage brokering business is subject to the rules and regulations of the Department of Housing and Urban Development (“HUD”) and various state and federal agencies with respect to originating, processing, and selling mortgage loans as a nonsupervised correspondent lender. Those rules and regulations require, among other things, that the Company’s subsidiary, PHF, maintain a minimum net worth of $63 each, plus $25 for each branch office. As of September 30, 2005, PHF was in compliance with these requirements. The Company currently does not service loans for other investors or federal agencies.

Minimum Operating Lease Commitments - The Company is party to real estate leases for its mortgage offices in Florida and South Carolina as well as leases for certain office equipment. The Company pays taxes, insurance, other operating expenses, and general maintenance for all lease arrangements.

Litigation – On September 24, 2004, the Company defaulted on its promissory note dated June 4, 2003 to Bank of America, N.A. (“BoA”) being unable to repay this note in full when demanded to do so by BoA. BoA has commenced legal action against the Company and other guarantors of the indebtedness for repayment. On December 13, 2004, the Company entered into a standstill agreement whereby, for a principal reduction payment of $25 and the payment of an extension fee and the bank’s legal fees, the maturity date of the note was extended to December 1, 2005, the interest rate was increased to the bank’s prime rate plus 4%, and requires principal reduction payments of $5 per month through November 1, 2005.

On November 23, 2004, we entered into an agreement with our former corporate law firm whereby we would make monthly payments of $17 until we had liquidated the $231 due them. In addition, we executed an affidavit of confession of judgment waiving notice upon default or breach of the agreement related to this debt. On May 15, 2005, we defaulted on this agreement due to non-payment.

In mid-2001, the Company, and certain of its former directors and officers were named as defendants in class action complaints alleging violations of the federal securities laws in the United States District Court for the Southern District of New York. In mid-2002, the complaints against the Company were consolidated into a single action.

The essence of the complaint is that in connection with the Company’s initial public offering in October 1999 (“IPO”), the defendants issued and sold the Company’s common stock pursuant to a registration statement which did not disclose to investors that certain underwriters in the offering had solicited and received excessive and undisclosed commissions from certain investors acquiring the Company’s common stock in connection with the IPO. The complaint also alleges that the registration statement failed to disclose that the underwriters allocated Company shares in the IPO to customers of the underwriters in exchange for the customers’ promises to purchase additional shares in the aftermarket at pre-determined prices above the IPO price. The action seeks damages in an unspecified amount.

PARAGON FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands, except share and per share amounts)

NOTE 9. COMMITMENTS AND CONTINGENCIES – (continued)

The action is being coordinated with approximately 300 other nearly identical actions filed against other companies that had initial public offerings of securities between 1997 and 2000 same time period.

The Company has approved a Memorandum of Understanding (“MOU”) and related agreements which set forth the terms of a settlement between the Company, the plaintiff class and the vast majority of the other approximately 300 issuer defendants. Among other provisions, the settlement contemplated by the MOU provides for a release of the Company and the individual defendants for the conduct alleged in the action to be wrongful. The Company would agree to undertake certain responsibilities, including agreeing to assign away, not assert, or release certain potential claims the Company may have against its underwriters.

It is anticipated that any potential financial obligation of the Company to plaintiffs pursuant to the terms of the MOU and related agreements will be covered by existing insurance. Therefore, the Company does not expect that the settlement will involve any payment by the Company. The MOU and related agreements are subject to a number of contingencies, including the negotiation of a settlement agreement and its approval by the Court. The Company cannot opine as to whether or when a settlement will occur or be finalized. Whether or not the settlement is ultimately approved, the Company believes the resolution of this matter will not have a material adverse effect on the Company.

The Company is also a party to various legal proceedings arising out of the ordinary course of the Company’s business. Management believes that any liability with respect to these legal actions, individually or in the aggregate, will not have a material adverse effect on the Company’s consolidated financial position and results of operations.

NOTE 10. SUPPLEMENTAL CASH FLOW INFORMATION


	2005		2004
SUPPLEMENTAL CASH FLOW DATA:
Cash interest paid	$	50	$	32
Income taxes paid	$	—	$	—


	2005
ACQUISITIONS OF BUSINESSES, NET OF CASH ACQUIRED

Fair value of assets acquired	$	204
Liabilities assumed		(18	)

Fair value of assets acquired		186

Stock issued		186
Fair value of net assets acquired (other than goodwill)		(15	)

Goodwill	$	171

Cash acquired in purchase of business	$	6

PARAGON FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands, except share and per share amounts)

NOTE 11. STOCKHOLDERS’ DEFICIT

PREFERRED STOCK - The Company’s certificate of incorporation authorizes a series of 5,000,000 shares of preferred stock with a par value of $0.0001 and with such rights, privileges and preferences, as the board of directors may determine.

On March 26, 2003, the Company’s board of directors authorized the issuance of 3,000 shares of preferred stock, par value $0.0001 per share, and designated the shares as Series E Preferred Shares (the “Series E Preferred”). The stated value of each share of the Series E Preferred is $1,000 per share; has a mandatory dividend of 4% of the stated value, per annum and shall be payable on January 1st of each year and is payable in either shares of the Company’s common stock or cash; has no voting rights; and is not convertible. On March 26, 2003, certain of the Company’s executive officers converted certain accrued salary and benefits into 659 shares of Series E Preferred.

At September 30, 2005 and December 31, 2004, the Company had 659 shares of Series E Preferred Stock issued and outstanding. The cumulative dividend payable under this Series E Preferred Stock was $60 and $47 at September 30, 2005 and December 31, 2004, respectively.

COMMON STOCK - On February 28, 2005, the Company completed a private placement financing transaction pursuant to which it sold 17,207,791 units (at $0.0308 per unit) to several accredited investors for an aggregate purchase price of $530,000. Each unit consisted of one share of common stock, par value $0.0001 per share (the “Common Stock”), and one warrant to purchase one share of Common Stock at $0.04 per share expiring on December 31, 2007.

On July 1, 2005, we issued 650,000 restricted shares valued at $32 (or $0.05 per restricted share) to a consultant for services to be rendered over the next thirty-six months. These restricted shares vest ratably over a thirty-six (36) month period.

On July 29, 2005, we issued 650,000 restricted shares valued at $32 (or $0.05 per restricted share) to a consultant for services to be rendered over the next thirty-six months. These restricted shares vest ratably over a thirty-six (36) month period.

STOCK PURCHASE WARRANTS - As part of our convertible notes offering completed in 2003, we issued detachable warrants to purchase up to 75,800 shares of common stock at a rate of $0.25 per share. The warrants are exercisable at a rate of $0.25 per share for a period of three years. On January 31, 2005, we extended the exercise period to December 31, 2006 and reduced the exercise price to $0.05 per share as part of a restructuring of this debt.

PARAGON FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Dollars in thousands, except share and per share amounts)

NOTE 11. STOCKHOLDERS’ DEFICIT – (continued)

On February 28, 2005, we issued warrants to purchase up to 17,207,791 shares of our common stock with an exercise price of $0.04 per share as part of the units offered as part of our private placement financing transaction. These warrants expire on December 31, 2007.

On September 1, 2005, we issued warrants to purchase up to 460,000 shares of our common stock with an exercise price of $0.04 per share as part of our private placement of convertible debt securities. These warrants expire on December 31, 2006.

STOCK-BASED COMPENSATION – As of September 30, 2005, there were stock options outstanding for the purchase of 29,744,250 shares of the Company’s common stock. There were 3,372,500 and 5,922,000 stock options granted during the three and nine months ended September 30, 2005, respectively. There were 10,590,00 stock options forfeited during the three and nine months ended September 30, 2005, respectively.

The following table shows the pro forma net loss as if the fair value method of SFAS No. 123 had been used to account for stock-based compensation expense for the nine months ended September 30, 2005 and 2004 (dollars in thousands, except per share amounts):


	2005			2004
Net loss	$	(603	)	$	(896	)
Stock-based employee compensation expense determined under fair value method for all awards, net of related tax effects		174			1,178

Pro forma net loss	$	(777	)	$	(2,074	)

Net loss per share:
Basic and diluted, as reported	$	(0.01	)	$	(0.01	)
Pro forma basic and diluted	$	(0.01	)	$	(0.02	)

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

The following discussion should be reviewed in conjunction with our consolidated financial statements and the related notes and other financial information appearing elsewhere in this report. In addition to historical information, the following discussion and other parts of this document contain forward-looking information that involves risks and uncertainties. Please refer to the section below entitled “Forward-Looking Statements”. Our actual results could differ materially from those anticipated by such forward-looking information due to factors discussed under the section entitled “Risk Factors That May Affect Future Results” and elsewhere in this report.

Forward-Looking Statements

Certain information contained in this report may include “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995, and is subject to the safe harbor created by that act. We caution readers that certain important factors may affect our actual results and could cause such results to differ materially from any forward-looking statements which may be deemed to have been made in this Report or which are otherwise made by or on behalf of us. For this purpose, any statements contained in this Report that are not statements of historical fact may be deemed to be forward-looking statements. Without limiting the generality of the foregoing, words such as “may,” “will,” “expect,” “believe,” “explore,” “consider,” “anticipate,” “intend,” “could,” “estimate,” “annualized,” “plan,” or “continue” or the negative variations of those words or comparable terminology are intended to identify forward-looking statements. Factors that may affect our results include, but are not limited to the risks and uncertainties associated with:

•

our ability to raise capital necessary to sustain our operations and to implement our business plan,

•

our ability to obtain regulatory permits and approvals to continue operating in the financial services area,

•

our ability to identify and complete acquisitions and successfully integrate the businesses we acquire, if any,

•

changes in the real estate market, interest rates, or the general economy of the markets in which we operate,

•

our ability to employ and retain qualified management and employees,

•

changes in government regulations that are applicable to our businesses,

•

general volatility of the capital markets and the maintenance of a market for our shares,

•

changes in the demand for our services,

•

the degree and nature of our competition,

•

our ability to generate sufficient cash to pay our creditors, and

•

disruption in the economic and financial conditions primarily from the impact of past terrorist attacks in the United States, threats of future attacks, police and military activities overseas, and other disruptive worldwide political events.

We are also subject to other risks detailed from time to time in our Securities and Exchange Commission filings. Any one or more of these uncertainties, risks and other influences could materially affect our results of operations and whether forward-looking statements made by us ultimately prove to be accurate. Our actual results, performance, and achievements could differ materially from those expressed or implied in these forward-looking statements. We undertake no obligation to publicly update or revise any forward-looking statements, whether from new information, future events, or otherwise.

Overview

We were incorporated in Delaware in August 1999 and are headquartered in Ponte Vedra Beach, Florida. We are a retail mortgage broker in the one-to-four family residential mortgage market. We conduct business in the states of Florida and South Carolina from our 8 offices.

Our business relies on our ability to originate mortgage loans at a reasonable cost. The mortgage industry is generally subject to seasonal trends, and loan origination volumes in our industry have historically fluctuated from year to year and are affected by such external factors as home values, the level of consumer debt and the overall condition of the economy. In addition, the premiums we receive from the secondary market for our loans have also fluctuated, also influenced by the overall condition of the economy and, more importantly, the interest rate environment. As a consequence, the business of originating and selling loans is cyclical.

Loan Originations

As of September 30, 2005, we originated loans through our offices in Florida and South Carolina.

Critical Accounting Policies

We have established various accounting policies which govern the application of accounting principles generally accepted in the United States of America in the preparation of our financial statements. Certain accounting policies require us to make significant estimates and assumptions that may have a material impact on certain assets and liabilities, as well as our operating results, and we consider these to be critical accounting policies. The estimates and assumptions we use are based on historical experience and other factors which we believe to be reasonable under the

circumstances. Actual results, particularly goodwill and loss of our discontinued segment, could differ materially from these estimates and assumptions, which could have a material impact on the carrying value of assets and liabilities and our results of operations.

We believe the following are critical accounting policies that require the most significant estimates and assumptions that are subject to significant change in the preparation of our consolidated financial statements:

Loan Origination Fees

Origination fees are comprised of points and other fees charged on mortgage loans originated by our loan officers and brokered through other banks and financial institutions. Points and fees are primarily a function of the volume of mortgage loans originated by our loan officers.

Loan Production Costs

We also measure and monitor the cost to originate our loans. Such costs include the costs of credit, appraisals, and other direct costs associated with originating a mortgage loan, net of fees we receive from borrowers. Commissions paid to our loan officers are included in the Salaries, commissions, benefits and stock-based compensation caption on our statement of operations.

Income Taxes

We file a consolidated federal income and combined state franchise tax returns. We utilize the asset and liability method of accounting for income taxes, under which deferred income taxes are recognized for the future tax consequences attributable to the differences between the financial statement values of existing assets and liabilities and their respective tax bases. We measure deferred tax assets and liabilities using enacted tax rates we expect to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. We recognize the effect on deferred taxes of a change in tax rates in income in the period that includes the enactment date.

In determining the possible realization of deferred tax assets, we consider future taxable income from the following sources: (a) the reversal of taxable temporary differences, (b) future operations exclusive of reversing temporary differences, and (c) tax planning strategies that, if necessary, would be implemented to accelerate taxable income into periods in which net operating losses might otherwise expire.

Goodwill and Impairment

Goodwill represents the excess of the purchase price over the fair value of the net assets acquired in a purchase business combination. Goodwill and other intangible assets are stated on the basis of cost.

Long-lived assets, including certain identifiable intangibles and goodwill, are reviewed for impairment annually or whenever events or changes in circumstances indicate that the carrying amount of the asset in question may not be recoverable including, but not limited to, a deterioration of profits for a business segment that has long-lived assets, and when other changes occur which might impair recovery of long-lived assets.

Discontinued Operations

In accordance with Statement of Financial Accounting Standards No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” (SFAS 144), a component classified as held for sale is reported in discontinued operations when the following conditions are met: (a) the operations and cash flows of the component have been (or will be) eliminated from the ongoing operations of the entity as a result of the disposal transaction and (b) the entity will not have any significant continuing involvement in the operations of the component after the disposal transaction. In a period in which a component of an entity either has been disposed of or is classified as held for sale, the income statement for current and prior periods reports the results of operations of the component, including any gain or loss recognized in accordance with SFAS 144 paragraph 37, in discontinued operations. The results of discontinued operations, less applicable income taxes (benefit), are reported as a separate component of income before extraordinary items and the cumulative effect of accounting changes (if applicable). The assets and liabilities of a disposal group classified as held for sale is presented separately in the asset and liability sections, respectively, of the statement of financial position.

Results of Operations

Three Months Ended September 30, 2005 Compared with Three Months Ended September 30, 2004

Loan Originations. Loan originations increased $17,360, or 83.2%, to $38,213 for the three months ended September 30, 2005 compared to $20,854 for the three months ended September 30, 2004. We closed 231 loans in the three months ended September 30, 2005 compared to 111 loans for the three months ended September 30, 2004. The increase in loan originations is due to our acquisition of FCM in January 2005 as well as additional loan volume from our new locations in Jacksonville, Florida.

Revenues

Loan origination fees. Loan origination fees increased $210, or 43.8%, to $689 for the three months ended September 30, 2005 compared to $479 for the three months ended September 30, 2004. The increase in loan origination fees was due to our acquisition of FCM in January 2005. The average revenue per closed loan decreased 30.9% in the three months ended September 30, 2005 compared to the three months ended September 30, 2004. The number of loans closed increased 108.1% in the three months ended September 30, 2005 as compared to the three months ended September 30, 2004. Expressed as a percentage of loan origination volume, origination fees were 1.8% and 2.3% for the three months ended September 30, 2005 and 2004, respectively.

Operating Expenses

Salaries, commissions, benefits and stock-based compensation. Salaries, commissions, benefits and stock-based compensation increased $88, or 21.6%, to $495 for the three months ended September 30, 2005 compared to $407 for the three months ended September 30, 2004. This increase was due to the salaries, commissions and benefits associated with our acquisition of FCM in January 2005 and for our new branches in Jacksonville, Florida.

Loan production costs. Loan production costs increased $7, or 100.0%, to $14 for the three months ended September 30, 2005 compared to $7 for the three months ended September 30, 2004. This increase was due to the higher loan production costs associated with our FCM acquisition.

General and administrative expenses. General and administrative expenses increased $196, or 145.2%, to $331 for the three months ended September 30, 2005 compared to $135 for the three months ended September 30, 2004. This increase was primarily due to increased expenses at our corporate location associated with our revised business plan as well as the operating expenses incurred at our recently acquired subsidiary, FCM, and our new offices in the three months ended September 30, 2005.

Operating loss. The operating loss increased by $81, or 115.7%, to $151 for the three months ended September 30, 2005 compared to $70 for the three months ended September 30, 2004. This decrease was due primarily to factors discussed above.

Interest expense. Interest expense increased $8, or 19.5%, to $49 for the three months ended September 30, 2005 compared to $41 for the three months ended September 30, 2004. This increase was due primarily to the beneficial conversion feature associated with the convertible notes we issued on September 1, 2005.

Net loss. The net loss increased $89, or 80.2%, to $200 for the three months ended September 30, 2005 compared to $111 for the three months ended September 30, 2004. This decrease was primarily due to the factors discussed above.

Nine Months Ended September 30, 2005 Compared with Nine Months Ended September 30, 2004

Loan Originations. Loan originations increased $10,102, or 14.0%, to $82,315 for the nine months ended September 30, 2005 compared to $72,213 for the nine months ended September 30, 2004. We closed 495 loans in the nine months ended September 30, 2005 compared to 428 loans for the nine months ended September 30, 2004. The increase in loan originations is due to our acquisition of FCM in January 2005 as well as additional loan volume from our new locations in Jacksonville, Florida.

Revenues

Loan origination fees. Loan origination fees decreased $229, or 13.5%, to $1,469 for the nine months ended September 30, 2005 compared to $1,698 for the nine months ended September 30, 2004. This decrease was due to a decline in the average revenue per loan of $1, or 25.2%, to $3 for the nine months ended September 30, 2005 compared to $4 in the nine months ended September 30, 2004. This decrease was due primarily to competition in the marketplace as loan originators become more aggressive in pricing loans in a declining mortgage loan market.

Operating Expenses

Salaries, commissions, benefits and stock-based compensation. Salaries, commissions, benefits and stock-based compensation decreased $649, or 36.5%, to $1,127 for the nine months ended September 30, 2005 compared to $1,776 for the nine months ended September 30, 2004. This decrease was due primarily to a reduction of salaries, benefits and non-cash stock based compensation of $382 at our corporate office as well as reductions in commissions paid to our loan officers on loans originated in the nine months ended September 30, 2005 compared to the nine months ended September 30, 2004.

Loan production costs. Loan production costs decreased $23, or 42.6%, to $31 for the nine months ended September 30, 2005 compared to $54 for the nine months ended September 30, 2004. This decrease was due to a higher pull through rate from application to closing in the nine months ended September 30, 2005 compared to the nine months ended September 30, 2004.

General and administrative expenses. General and administrative expenses increased $193, or 33.4%, to $771 for the nine months ended September 30, 2005 compared to $578 for the nine months ended September 30, 2004. The increase in general and administrative expenses in the nine months ended September 30, 2005 as compared to 2004 is due to our acquisition of FCM, effective February 1, 2005, and the additional branches opened by both FCM and PHF in the nine months ended September 30, 2005.

Operating loss. The operating loss decreased by $250, or 35.2%, to $460 for the nine months ended September 30, 2005 compared to $710 for the nine months ended September 30, 2004. This decrease was due primarily to factors discussed above.

Interest expense. Interest expense increased $59, or 70.2%, to $143 for the nine months ended September 30, 2005 compared to $84 for the nine months ended September 30, 2004. This increase was due primarily to interest on the subordinated notes issued to PGNF on May 31, 2004 as part of our disposal of PGNF.

Net loss from continuing operations. The net loss from continuing operations decreased $191, or 24.1%, to $603 for the nine months ended September 30, 2005 compared to $794 for the nine months ended September 30, 2004. This decrease was primarily due to the factors discussed above.

Loss from discontinued operations. The net loss from discontinued operations was $3,640 in the nine months ended September 30, 2004 and relates to the operations of PGNF which were disposed of June 1, 2004. Total revenues of our discontinued operations were $3,046 for the nine months ended September 30, 2004. Total expenses of our discontinued operations were $6,584 for the nine months ended September 30, 2004. Total expenses of our discontinued operations include an impairment charge of $2,582 in the nine months ended September 30, 2004 for the reduction in carrying value of PGNF. We incurred a non-cash loss of $102 on the disposal of PGNF in the nine months ended September 30, 2004.

Net loss. The net loss decreased $3,831, or 86.4%, to $603 for the nine months ended September 30, 2005 compared to $4,434 for the nine months ended September 30, 2004. This decrease was primarily due to the factors discussed above.

Liquidity and Capital Resources

Our primary source of liquidity is from fees earned by originating mortgage loans. Our mortgage origination operations require continued access to cash to fund ongoing administrative, operating, and tax expenses as well as providing cash to fund our corporate operations. Our corporate operations require access to cash to fund ongoing administrative expenses, our acquisition program, tax expenses as well as interest and principal payments under our existing indebtedness.

At September 30, 2005, we had cash and cash equivalents of approximately $133 and fees receivable of $67 with which to satisfy our ongoing mortgage and corporate operations’ current liabilities of $2,882. We are currently seeking to improve our liquidity by converting past due vendor balances and other liabilities to common stock as well as raising the necessary capital to continue as a going concern.

On August 8, 2005, our Board of Directors authorized the issuance of up to $250,000 in 12% convertible debentures with 1,000,000 detachable warrants in a private placement. Under this authorization, the conversion price of the debt and the exercise price of the warrants is equal to the closing market price of our common stock on the closing date. To date, we have placed $115 in face value of these notes. In accordance with EITF 98-05 and 00-27, we allocated $9 to the value of the warrants based upon the relative fair values of the securities. In addition, we determined that the convertible note had a beneficial conversion feature and recorded $9 as interest expense in the three months ended September 30, 2005 for the value of the beneficial conversion feature. If all of the notes are purchased, the holders could convert their notes into 5,000,000 shares of our common stock based upon a conversion price of $0.05 per share. To date, we have placed $115 in notes as part of this private placement.

In October 2005, we retained the services of an investment banking firm seeking to raise capital to implement our 2006 business plan. While we expect to be successful in our efforts, we can provide no assurance at this time that we will be, or if we are, that such financing will not be dilutive to our shareholders.

The performance of our operating subsidiaries continued to improve during the three months period ended September 30, 2005 as compared to the previous quarters in 2005 both in terms of loan production and profitability. While improved, their performance is still below expectation for the nine months ended September 30, 2005. Due to this poor operating performance, as well as the costs associated with our being publicly traded, we are experiencing difficulty in meeting the liquidity requirements of our corporate operations as well as servicing its existing obligations. Unless our subsidiaries’ operating performance improves, or we are able to acquire other profitable financial services operations, we will be required to raise additional equity

capital the terms of which might be substantially dilutive to our existing shareholders. We continue reviewing our corporate operating expenses, seeking to acquire profitable financial services operations producing positive cash flow, and renegotiating the terms of our existing indebtedness with major creditors, but there can be no assurances that we will be able to secure the additional capital, reduce our corporate operating expenses, renegotiate the terms of our existing indebtedness, or acquire profitable financial services operations required to continue funding our corporate operations and continue as a going concern.

Below is a summary of our actions to date attempting to restructure our debt.

Short-term debt. On June 4, 2003, we entered into a revolving line of credit with a commercial bank in the amount of $250,000. This revolving line of credit had an interest rate of prime, is secured by a general lien on our assets, and is guaranteed by our current and former subsidiaries. The commercial bank demanded repayment of this credit facility on September 13, 2004. We were not able to meet this demand, and, as discussed elsewhere, we entered into a standstill agreement with this bank whereby the maturity date of the note was extended to December 1, 2005, the interest rate increased from the bank’s prime rate to its prime rate plus 4%, and required principal reduction payments of $5 per month through December 1, 2005.

Convertible debentures. On March 6, 2003, we completed a private offering of 379 units consisting of (i) a $1 convertible promissory note due December 31, 2003 with interest payable quarterly at a stated interest rate of 15% per annum and (ii) a warrant to purchase shares of common stock, exercisable at $0.25 per share, for each $5.00 in principal of the promissory note issued in the unit. The holder has the right to convert the outstanding principal amount of the convertible promissory note (or any portion thereof), together with accrued interest thereon, into shares of our common stock at a conversion price of $0.25 per share, subject to standard anti-dilution adjustments as specified in the note. In 2005, we repaid principal of $30 to certain holders of our 15% convertible notes. The remaining holders have agreed to amend the maturity date of the convertible notes to December 31, 2006 and reduce the interest rate thereon to 10% in consideration for a reduction in the strike price of the warrants to $0.05 per share. The convertible notes require quarterly interest payments on March 31, June 30, September 30, and December 31 of each year. We are currently in default under the revised terms of these promissory notes for the non-payment of the quarterly interest.

Subordinated promissory notes to PGNF (a formerly related party). In July 2005, the owner of our former subsidiary PGNF did an assignment for the benefit of creditors and closed the business. PGNF is the holder of subordinated promissory notes with a face value of $1,531 and accrued interest of $83. We are currently in default under the terms of these promissory notes. Our attempts at having the assignee convert this debt into equity have been rejected.

In addition to the above, we continue to explore additional ways to enhance our liquidity and reduce our insolvency risk.

Future Accounting Pronouncements

There are currently no pronouncements issued that are scheduled for implementation during 2005 that are expected to have any significant impact on the accounting policies of the Company.

Item 3. Quantitative and Qualitative Disclosures About Market Risk.

Impact of Inflation

Inflation affects us most significantly in the area of loan originations and can have a substantial effect on interest rates. Interest rates normally increase during periods of high inflation and decrease during periods of low inflation. Profitability may be directly affected by the level and fluctuation in interest rates that affect our ability to earn a spread between interest received on its loans and the costs of its borrowings. Our profitability is likely to be adversely affected during any period of unexpected or rapid changes in interest rates. A substantial and sustained increase in interest rates could adversely affect our ability to originate loans and affect the mix of first and second-lien mortgage loan products. Generally, first-lien mortgage production increases relative to second-lien mortgage production in response to low interest rates and second-lien mortgage production increases relative to first-lien mortgage production during periods of high interest rates. Fluctuating interest rates may also affect the net interest income earned by us resulting from the difference between the yield to us on loans held pending sales and the interest paid by us for funds borrowed.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements.

Tabular Disclosure of Contractual Obligations

The following table presents our contractual obligations as of September 30, 2005:


			Payment Due by Period
	Total		Less than 1 Year		1-3 Years		3-5 Years
Subordinated debt due formerly related party	$	1,531	$	1,531	$	—	$	—
Short-term debt		186		186		—		—
Note payable for acquisition		25		25		—		—
Convertible notes		455		349		106		—
Notes payable		26		26		—		—
Notes payable related party		8		8		—		—
Operating leases		112		52		60		—

Total	$	2,343	$	2,177	$	166	$	—

The fair value of our contractual obligations approximates their carrying value.

Market Risk

Our market risk is the risk of economic loss resulting from adverse changes in market prices of mortgage loans and interest rates. When interest rates rise, applications in process with locked-in rates decrease in value. This risk of loss can be reflected in diminished current market values and/or reduced potential income in future periods.

When interest rates decline, customers may withdraw their mortgage loan applications. In those instances, we may be required to reduce our interest rates to meet the market demands. When interest rates rise, fallout may occur due to customers that are not locked into a rate withdrawing their applications, and, as a result, we may suffer a reduction in the volume of loan originations. We may be required to reduce our fees to entice these customers in order to close their loans.

We do not maintain a trading account nor are we subject to currency exchange risk or commodity price risk. Responsibility for monitoring interest rate risk rests with senior management. Senior management regularly reviews our interest rate risk position and adopts balance sheet strategies that are intended to optimize operating earnings while maintaining market risk within acceptable guidelines.

While we monitor interest rates and may, from time to time, employ a strategy designed to hedge some of the risks associated with changes in interest rates, no assurance can be given that our results of operations and financial condition will not be adversely affected during periods of fluctuations in interest rates. There were no open hedging positions at September 30, 2005.

Item 4. Control and Procedures.

We carried out an evaluation, under the supervision and with the participation of the our management, including our Chief Executive Officer, or CEO, and Chief Financial Officer, or CFO, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on this evaluation, the CEO and CFO have concluded that our disclosure controls and procedures are effective to ensure that material information is recorded, processed, summarized and reported by our management on a timely basis in order to comply with our disclosure obligations under the Securities Exchange Act of 1934 and the SEC rules thereunder.

There were no significant changes in the Company’s internal controls or in other factors during the third quarter of 2005 that have materially affected, or are reasonably likely to materially affect, the Company’s internal controls.

PART II – OTHER INFORMATION

Item 1. Legal Proceedings.

Refer to Part I, Footnote 9 – Commitments and Contingencies for a discussion of our ongoing litigation. In addition to the specific items discussed therein, from time to time, we become involved in a variety of mortgage lending related claims and other matters incidental to its business in addition to the matters described above. In our opinion, the resolution of any of these matters is not expected to have a material adverse effect on our consolidated financial position and results of operations.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.

On July 1, 2005, we issued 650,000 restricted shares valued at $32 to a consultant for services to be rendered over the next thirty-six months. These restricted shares vest ratably over a thirty-six (36) month period.

On July 29, 2005, we issued 650,000 restricted shares valued at $32 to a consultant for services to be rendered over the next thirty-six months. These restricted shares vest ratably over a thirty-six (36) month period.

Item 3. Defaults Upon Senior Securities.

As we disclosed in Part I, Footnote 9 – Commitments and Contingencies, we are in default under certain of our promissory notes with our creditors. As explained therein, we are attempting to negotiate extensions and other forebearance with these creditors.

Item 4. Submission of Matters to a Vote of Security Holders.

There were no matters submitted to a vote of security holders during the quarter ended September 30, 2005.

Item 5. Other Information.

None

Item 6. Exhibits and Reports on Form 8-K.

(a)

Exhibits: The following exhibits are hereby filed as part of this Quarterly Report on Form 10-Q.


Exhibit Number		Description
2.1		Agreement and Plan of Merger dated as of October 14, 2002 among PlanetRx.com, Inc. (n/k/a Paragon Financial Corporation), Paragon Homefunding, Inc. a Delaware Corporation and Mortgage Express, Inc. (n/k/a PGNF Home Lending Corp., et al (the “Mortgage Express Plan of Merger”).**



2.2		Amendment No. 1 to the Mortgage Express Plan of Merger.***

2.3		Agreement and Plan of Merger dated December 9, 2002 among PlanetRx.com, Inc. (n/k/a Paragon Financial Corporation), Paragon Acquisition Corp. II, Paragon Homefunding, Inc., a Florida corporation, et al. (the “Paragon Homefunding Plan of Merger”).***

2.4		Amendment No. 1 to the Paragon Homefunding Florida Plan of Merger.***

2.5		Stock Purchase Agreement between Paragon and Philip Lagori for the sale of PGNF Homelending Corp. +

2.6		Member Purchase Agreement between Paragon and the Members of First Charleston Mortgage LLC dated January 19, 2005. ++

3.1		Restated Certificate of Incorporation filed with the Secretary of State of the State of Delaware on October 6, 1999. ****

3.2		Certificate of Amendment of the Restated Certificate of Incorporation filed with the Secretary of State of the State of Delaware on October 13, 2000. ****

3.3		Certificate of Amendment to Restated Certificate of Incorporation filed with the Secretary of State of the State of Delaware on November 30, 2002. ****

3.4		Certificate of Amendment of the Restated Certificate of Incorporation filed with the Secretary of State of the State of Delaware on December 26, 2002. ****

3.5		Certificate of Designations of Series E Preferred Stock.*****

3.6		Amended and Restated By-laws. ****

4.1		Form of convertible promissory note. ****

4.2		5% Subordinated promissory note due November 30, 2005 for $480,000 +

4.3		5% Subordinated promissory note due May 31, 2008 for $1,051,225 +

4.4		Form of convertible promissory note. *

10.1		Amended and Restated Employment Agreement, dated as of September 1, 2002 by and between PlanetRx.com, Inc. (now known as Paragon Financial Corporation) and Paul Danner. ****

10.2		Employment Agreement, dated as of September 4, 2002 by and between PlanetRx.com, Inc. (now known as Paragon Financial Corporation) and Steven A. Burleson. ****

10.3		Employment Agreement, dated as of January 31, 2003 by and between Paragon Financial Corporation and Philip Lagori. ****

10.4		Employment Agreement, dated as of December 30, 2002 by and between Paragon Financial Corporation and Scott Vining. ****

10.5		Lease dated January 1, 2003 between Ponte Vedra Management Group, Ltd. and Paragon Financial Corporation. ****

10.6		Lease dated September 1, 2000 between 820 West Lake, LLC and Mortgage Express, Inc. (n/k/a PGNF Home Lending Corp.). ****

10.7		Employment Agreement, dated October 16, 2003, by and between Paragon Financial Corporation and George O. Deehan *****

10.8		Employment Agreement, dated June 17, 2003, by and between Paragon Financial Corporation and Joseph P. Bryant, Jr. *****



10.9		Employment Agreement, dated May 6, 2003, by and between Paragon Financial Corporation and Steven L. Barnett. *****

31.1		Certification of Principal Executive Officer pursuant to Form of Rule 13a-14(a), as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, dated November 21, 2005 *

31.2		Certification of Principal Financial Officer pursuant to Form of Rule 13a-14(a), as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002, dated November 21, 2005 *

32.1		Certification pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, dated November 21, 2005 *

*	Filed herewith

+	Filed as an exhibit to Paragon’s Current Report on From 8-K/A, as amended, for an even dated September 30, 2004

@	This exhibit represents a management contract

**	This exhibit represents a compensatory plan

***	Filed as an exhibit to Paragon’s Current Report on Form 8 for an event dated January 31, 2003

****	Filed as an exhibit to Paragon’s Annual Report on Form 10-K for the year ended December 31, 2002

*****

Filed as an exhibit to Paragon’s Quarterly Report for the period ended March 31, 2004, as amended

++	Filed as an exhibit to Paragon’s Current Report on Form 8-K for an event dated January 19, 2005.

(b) Reports of Forms 8-K

None.

SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) 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.


PARAGON FINANCIAL CORPORATION

BY:		/s/ SCOTT L. VINING
		Scott L. Vining
		Chief Financial Officer
		Dated: November 21, 2005

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

Table of Contents

PARAGON FINANCIAL CORP 10-Q