Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)

Cowen Group (NASDAQ:COWN)

Q4 2013 Earnings Call

February 27, 2014 9:00 am ET

Executives

Peter Anthony Cohen - Chairman, Chief Executive Officer, President, Member of Executive Committee and Member of Operating Committee

Michael E. Singer - Chief Executive Officer of Ramius

Jeffrey Marc Solomon - Chief Executive Officer of Cowen & Company and Director of Cowen Group

Stephen A. Lasota - Chief Financial Officer, Principal Accounting Ofifcer and Member of Operating Committee

Analysts

Joel Jeffrey - Keefe, Bruyette, & Woods, Inc., Research Division

Michael Adams - Sandler O'Neill + Partners, L.P., Research Division

Devin P. Ryan - JMP Securities LLC, Research Division

Operator

Good morning, ladies and gentlemen, and thank you for joining the Cowen Group Inc. conference call to discuss the financial results for the 2013 Fourth quarter and full year results. By now, you should have received a copy of the company's earnings release, which can be accessed at the Cowen Group Inc. website at www.cowen.com.

Before we begin, the company has asked me to remind you that some of the comments made on today's call and some of the responses to your questions may contain forward-looking statements. These statements are subject to the risks and uncertainties described in the company's earnings release and other filings with the SEC. Cowen Group Inc. has no obligation to update the information presented on the call. A more complete description of these and other risks and uncertainties and assumptions is included in the company's filings with the SEC, which are available on the company's website and on the SEC website at www.sec.gov.

Also, on today's call, our speakers will reference certain non-GAAP financial measures, which the company believes will provide useful information for investors. Reconciliation of those measures to GAAP is consistent with the company's reconciliation as presented in today's earnings release. Now I'd like to turn the call over to Mr. Peter Cohen, Chairman and Chief Executive Officer. Please go ahead.

Peter Anthony Cohen

Thank you, operator. Good morning, everyone, and welcome to Cowen's Fourth Quarter and Full Year 2013 Earnings Call. With me today are Michael Singer, CEO of Ramius, our asset management business; Jeff Solomon, CEO of Cowen and Company; and Steve Lasota, CFO of Cowen Group.

I will start with an overview of our performance for the quarter, followed by Michael who will discuss the investment management business and Jeff will provide an update on the broker-dealer and Steve will take you through some of the details of our fourth quarter and full year results.

Cowen was profitable in the fourth quarter and full year 2013. This is the first full year of positive Economic Income since the Cowen/Ramius business combination in 2009. Finally, during this time of transition, we worked methodically to remake our operating businesses into one that can thrive in the new economic realities. We face significant challenges that require meaningful investment and management efforts. However, we believe, you can see from our recent results, our efforts are now beginning to pay off.

Ramius had a successful year. Assets grew by $1.4 billion in new assets, which is net of over $400 million of redemptions from legacy funds. And we ended the year with $9.4 billion of AUM. It was also an active year for new product launches with 6 new products and 1 new investment capability addressing several different distribution channels.

Cowen, the broker-dealer, also had a rewarding year. In banking, we are a leader in equity underwriting and a leader in middle market debt financings in our core sectors. In what is arguably one of the most difficult environments for equity trading volumes that many of us have ever seen, our equity division is gaining market share, which Jeff will talk about.

Here are some of the financial and operating highlights from the full year 2013. Firm reported Economic Income of $6.5 million for the year versus an Economic loss of $17.6 million in 2012, for a swing of almost $24 million -- over $24 million. Full year 2013 revenue is $345 million, a $56 million increase over 2012. We remain committed to keeping our expenses in check without impacting our future revenue opportunities. In fact, we continue to identify additional areas of potential savings for this year, 2014.

For last year, total non-comp expenses were up 4.5% due largely to the increased variable expenses that came along with the 19% improvement in top line revenue. Notably, our fixed non-comp expenses were flat for the year, which indicated our ability to successfully leverage our fixed cost structure with recent acquisitions.

Turning to our balance sheet. We ended the year with $508 million in equity and $428 million in invested capital. In 2013, we generated $37 million in investment income, which compares with $50 million in 2012. Investment income was down for the year, primarily a result of the underperformance in certain of our liquid strategies relative to the market and relative to what those strategies were able to throw off last year.

Over the years, we have consistently maintained a strong capital base and it has served us well. It has given us the flexibility to continually evaluate a variety of opportunities that we come across and intelligently invest in our future. The reality is, it is a very different market environment to thrive in as demonstrated by many, many smaller, less-capitalized firms. However, with the momentum on our side, we view this as an opportunity to continue to invest in our future in order to put more distance between ourselves and competitors.

Our 2013 performance gives you a view of the progress at Cowen. However, we still have a lot more ground to cover to ensure that we are well positioned to succeed in all market environments. We are in a competitive business and we must continue to forge ahead and execute on our strategy.

I'm extremely proud of my associates and colleagues for all their hard work and resolve [ph] to make 2013 our best year in a long time. And even with improved results, we have been working with the same amount of intensity and focus as on day 1. To that, I want to express my gratitude and appreciation to all.

I will now turn the call over to Michael who will give you an update on Ramius.

Michael E. Singer

Thank you, Peter. Ramius had a very productive 2013. At the start of the year, we established 4 objectives that will be critical in moving our business forward. First, increasing AUM in revenues within our existing investment capabilities; second, realigning our expense base; third, reorganizing our sales and distribution efforts; and fourth, creating bolt-on products for existing capabilities and recruiting new investment capabilities to our platform. I'm pleased to say that we achieved each of these objectives.

First, AUM in revenues. AUM increased from $8 billion at the start of the year to $9.4 billion by the end, an increase of $1.4 billion in net new assets. Asset growth in the year came from our value activists, alternative solutions, and real estate capabilities. Management incentive fees collectively were up 10% year-to-date to $78.9 million versus $71.5 million in the prior period. Second, we focused on realigning our expense base. In terms of that, we successfully reduced our core expense base in '13 by approximately $2 million and have identified additional areas for savings in '14. However, the real driver to our P&L will be our ability to deliver innovative products and solutions to our clients leading to AUM in revenue growth, which brings us to objective #3.

We reorganized sales and distribution. We significantly repositioned the team to better meet the challenges in raising assets from institutions and private clients. We enhanced the sales force to add additional resources in our direct institutional selling efforts while maintaining our existing strength in platform distribution. With 7 different capabilities and a variety of product constructs in distribution channels, our shift to a generalist specialist model yielded success, $1.4 billion net new AUM raised.

Recently, we announced 2 important additions to Ramius that will be instrumental in launching new firm capabilities and expanding the firm's relationships with investors. First, Jake Walthour joined us a few weeks ago as Vice Chairman of New Business and Product Development. He'll be responsible for expanding the firm's relationships within the global financial community, attracting talented emerging investment teams, and also, serving as a leader and senior salesperson across the Ramius platform. Jake is an experienced and accomplished industry professional and joins us from Cliffwater, a premier hedge fund consultant, where he served as a trusted advisor to a number of the country's largest public pensions, endowments and foundations.

Second, Brad Sussman joined us as Head of Liquid AI, liquid alternative products. Brad has been in the forefront of the movement to offer liquid alternative strategies to retail and mass affluent investors in his former role at Merrill Lynch. He will be responsible for our current suite of 4 alternative mutual funds and has a mandate to extend our offerings with both existing and new investment teams that have strategies well suited for the liquid AI space.

Fourth, additional products and capabilities. Ramius was successful in launching 6 new funds and 1 new capability during the year. This helped to diversify our product suite and expands our capacity to raise additional AUM. We expect to further broaden our breadth of capabilities in '14 by adding talented investment teams in the emerging and liquid alternative areas and by expanding the range of products within the general platform.

We also continue to develop strategic distribution relationships within our Liquid AI platform. Overall, we achieved our 4 goals, but there's a lot more to do. This significant stride forward was possible thanks to our 2 greatest assets, our clients and colleagues. We have an incredibly talented group of passionate and motivated investment teams which benefit from our top-quality institutional infrastructure, sales and marketing professionals and industry know-how, so that they can do what they do best, deliver strong risk-adjusted returns and effective solutions for our clients.

The entire team in Ramius is dedicated to the success of each our client's investment goals, and we are grateful for the strong relationships we have with clients across the spectrum in terms of size and geography and greatly value their long-standing support. We have evolved significantly over the last decade to become a stronger firm all round. And to be clear as to who we are, we're not a fund of funds. We're not a multi-strategy hedge fund. Ramius is a $9.4 billion alternative investment platform that offers innovative products and solutions across the liquidity spectrum to institutional and private clients.

We have 7 different capabilities. We attract talented teams to our platform and provide them 3 things: institutional infrastructure, sales and marketing sophisticated reportings and know-how that allow them to be successful. We also invest a significant portion of our capital amongst our clients because we are committed to the strategy that we run.

I look forward to discussing Ramius' progress with you during our next quarterly call. I'll now turn the call over to Jeff who will provide an update on our broker-dealer, Cowen and Company.

Jeffrey Marc Solomon

Thank you, Michael. As Peter mentioned earlier, our journey to rebuild Cowen and Company over the last 3 years has been one aimed at transforming the firm to one that is recognized by our clients as the thought leader in our core sectors by consistently providing unparalleled domain expertise, quality independent research coverage, trusted advice and superior execution. We've come a long way.

In 2013, we realized new levels of success in both banking and brokerage. We recorded record revenue highs since the Cowen/Ramius business combination in 2009, gained market share and completed a franchise-enhancing acquisition.

To give some perspective on the magnitude of the changes that occurred in the 3 years, in 2010, revenue at Cowen and Company was $151 million. In 2013, it was $226 million, that's a 50% increase. In the course of this past year, our research bench has gone from 27 publishing analysts covering less than 400 companies to 42 publishing analysts covering approximately 700 companies. More importantly, we've enhanced the research product offering while establishing greater relevance to clients with a research breadth that now places us on a more level playing field against our larger peers with more content than ever before. We have more insights to share with accounts, more conversations to be had, and in general, there's just more of everything that is high quality.

To give you a snapshot, our corporate access events were up 33% year-over-year, our non-deal roadshows were up 16%, and our conference one-on-ones grew 32% year-over-year. With the help of an expanded product management team, we can now ensure that our research is being heard by those clients that care. Our success can be measured in part by the growth we're seeing in our brokerage division. After bottoming in 2012 at $94 million, brokerage revenue in 2013 rose to $121 million and exceeded the 2010 revenue of $112 million.

In banking and capital markets, in 2013, we exceeded the $105 million mark in revenue versus $39 million in 2010. Today, we're also book running more deals than ever before. In 2013, we acted as a book runner in 40% of our deals versus 2010 where it was closer to 10%. In March 2013, we completed the acquisition of Dahlman Rose, which expanded our overall platform to include the natural resource supply chain. The acquisition was a natural fit, and we experienced early benefits across the platform as there was a lot of cultural commonality between the 2 organizations.

As you can see, we're starting to reap the benefits of this -- of the efforts we've made over the past years to elevate our franchise to the next level. To be sure, the favorable capital raising environment has helped to advance our business, but it was made -- but our success was made possible because of this stronger position that we're in today.

Let me give you some additional detail on the performance. In banking and capital markets for the quarter, we closed 33 deals across all product lines compared to 22 a year ago. We completed 29 equity transactions, 3 Debt Capital Markets transactions and 1 advisory assignment. For the year, we closed on 102 transactions compared to 74 in 2012, and we completed 78 equity transactions, 17 Debt Capital Markets transactions and 7 advisory assignments.

In 2013, we served as a book runner on 9 of the 23 IPOs in which we were involved compared to 3 of the 13 in 2012. As a testament to our Health Care franchise, we are the #1 issuer for LEED-managed life sciences offering in the United States.

Our Debt Capital Markets business continues to grow nicely and it's accounted for 26% of our banking revenue for the year. In just 3 years, we've established ourselves as a top placement agent or book runner for high-yield middle market offerings. Our momentum has continued into the first quarter of 2014 as the public offerings in our sectors continue to be favorable. In fact, the first 2 months of the year have been some of the busiest we've seen since the Cowen/Ramius merger.

In the brokerage business, our U.S. trading volume -- while U.S. trading volumes were down 4.5% in 2013, our equity's revenue was up 21%. Part of our success can be attributed to our electronics business we acquired and integrated in 2012, which is growing nicely. If you look at our quarterly numbers, you will notice that our momentum began to pick up in earnest in mid-2012 once our new leadership began implementing programs to establish relevancy with commission-paying clients and we began a new mapping-and-matching effort to serve our clients more appropriately.

In 2014, thus far, we're also starting to see signs of increased commissions flows in equities as we've seen mutual fund flows increase significantly in the equity space as investors have migrated a little bit away from fixed income. We continue to make improvements on that front and expect our improvements in the broker vote to manifest themselves through increased commissions in the quarters to come.

It's been a very gratifying year. But as Michael said, there's still many areas for us to improve as well, and we have a lot of ground to cover to be what we want to be. The coming year is about driving organic growth for us and identifying opportunities to integrate businesses that will either drive higher operating margins or leverage the unique characteristics of having Ramius and Cowen under the same organization.

Finally, to all of our employees, thank you for your hard work this year. You've done an amazing job over the past couple of years by showing tremendous vision, tenacity, and of course, empathy. I'm excited for what 2014 holds for us.

With that, I'll now pass the call to Steve Lasota who will give you an update on our financial performance.

Stephen A. Lasota

Thank you, Jeff. For the full year 2013, we reported GAAP net income of $4.6 million, or $0.04 per share, compared to a GAAP net loss of $23.9 million, or $0.21 per share, for 2012. The fourth quarter of 2013 reported GAAP net income of $2.5 million, or $0.02 per share compared to a GAAP net loss of $9.3 million, or $0.08 per share, in the prior-year period. In addition to our GAAP results, management utilizes non-GAAP measures what we term as Economic Income to analyze our core operating segments' performance. We believe Economic Income provides a more accurate view of the operating businesses by excluding the impact of acquisition-related expenses and other reorganization charges. Economic income also excludes the impact of accounting rules that require us to consolidate certain of our funds.

Economic income was $6.5 million for the full year 2013, or $0.06 per share, versus an economic loss of $17.6 million, or $0.15 per share. For the 3 months ended December 31, 2013, the company reported economic income of $2.7 million, or $0.02 per share, compared to an economic loss of $8.5 million, or $0.07 per share, in the fourth quarter of 2012. For the full year 2013, economic income revenue was $344.5 million, which is up $55.9 million, or 19%, from 2012.

Fourth quarter 2013 economic income revenues were $96.4 million, an increase of $19.2 million compared to $77.2 million in the fourth quarter of '12. We generated $36.7 million and $9.9 million investment income for the full year and fourth quarter 2013, respectively. This compares to $50.1 million and $11.8 million in the full year 2012 and fourth quarter 2012, respectively.

On the alternative investment side of our business, management fees of $57 million were unchanged versus 2012. For the fourth quarter, management fees were $13.9 million. Incentive income increased by $6.7 million to $21.9 million for the year. For the fourth quarter 2013, incentive income rose by 7% to $7.4 million.

In our broker-dealer segment investment banking revenues were $105.3 million for the full year 2013 versus $71.8 million for 2012, a 47% increase year-over-year. For the fourth quarter, revenue was $34.9 million compared to $21.2 million in the prior year period. Brokerage revenue rose by 29% to $121.1 million in 2013 from $93.9 million in 2012. For the most recent quarter, revenue is $27.7 million, a $5.3 million increase over the prior year period. For the year, we reported compensation and benefit expense of $204.8 million, a 9% increase over the prior year. For the quarter, it was $58.8 million, an 8% increase over the prior year period.

The increase is due to higher revenues during 2013 as compared to 2012. The increase was also related to an increase in head count due to the acquisition of Dahlman Rose in the first quarter of 2013.

In 2013, we reported an aggregate compensation-to-revenue ratio of 59% compared to 65% for 2012. Excluding expenses for activities in which the company gets reimbursed in severance, the comp-to-rev ratio was 57% for the year versus 62% for 2012. For the fourth quarter 2013, we reported an aggregate comp-to-rev ratio of 61% compared to 70% in the prior year period. Excluding expenses for activities in which we get reimbursed in severance, the comp-to-rev ratio was 59% for the year versus 68% in 2012.

Moving to our non-comp expenses. Fixed non-comp expenses were unchanged for the full year 2013 at $95.5 million even though we acquired Dahlman Rose in the first quarter of 2013. For the quarter, fixed non-comp expenses declined by 12% to $22.6 million.

Variable non-comp expenses were $30.6 million for the full year 2013 compared to $25.3 million in 2012. The increase in the full year 2013 is a result of an increase in floor brokerage and trade execution expense related to the increase in brokerage revenue. Marketing and business development expenses have increased due to firm-wide increase in marketing activity.

For the quarter, variable non-comp expense was $7.9 million compared to $5.5 million in the fourth quarter of 2012. While Economic Income is a pretax measure, I'd like to briefly touch on our tax situation.

Cowen has significant net operating losses or NOLs in the U.S. that carry forward into the future of $323 million. The associated gross deferred tax asset currently amounts to $128 million. There's 100% valuation allowance against that asset, but it adds significant value to the firm. IRS rules associated with the acquisition of Cowen and Company in 2009 and LaBranche in 2011 partially limit the amount of NOL that the company will be able to utilize annually, but significant amounts of future earnings will be shielded from taxes by this asset.

Turning to our balance sheet. Our stockholders' equity amounted to $508 million at December 31, and our book value per share was $4.41 per share. Tangible book value per share, which is a non-GAAP measure, was $3.99 per share compared to $4.03 at the end of 2012.

Finally, moving to our share repurchase program. In the fourth quarter, we repurchased approximately 2.7 million shares in the open market and 64,000 shares as a result of net share settlement related to the vesting of equity awards. Total cost of the program in the quarter was $10.6 million, or $3.85 per share. Since we announced our original repurchase program in July 2011, we have repurchased 11.4 million shares in the open market and an additional 4 million shares as a result of net share settlement related to the vesting of equity awards. The total cost of the programs for the first quarter of -- fourth quarter of 2013 was $46.3 million, which represents an average price of $3 per share.

As of December 31, we had $15 million remaining under the current program. The board approved an additional $10 million to bring us up to $25 million. This $10 million increase is in addition to the company's existing $50 million share repurchase program. I'll turn -- now I'll turn the call back over to Peter for closing remarks.

Peter Anthony Cohen

Now thanks, everybody. I would like to open it up to questions at this point, operator.

Question-and-Answer Session

Operator

[Operator Instructions] The first question comes from the line of Joel Jeffrey of KBW.

Joel Jeffrey - Keefe, Bruyette, & Woods, Inc., Research Division

Peter, just want to follow-up on a comment you made on the call about having a lot more ground to cover before Cowen can succeed in all market environments. Can you talk a little bit about sort of what initiatives you're looking at that would specifically get you there and sort of the timing of those potentially?

Peter Anthony Cohen

Yes. I mean, I was speaking sort of very, very broadly long term about the things we want to accomplish. I mean, we have tremendous momentum in the Cowen and Company side of the business, and it's continuing to drive home sort of our position at research and monetize that. Every point we pick up in votes is meaningful commission dollars. Our Debt Capital Markets, which was almost nonexistent 2 years ago, wrapped a fantastic year, and we're going to grow that business. So it's really driving home those businesses in the Cowen and Company side and seeing if there are any initiatives that we need to sort of add. We're not trying to be all things to all people, but trying to be alpha-generators in very specific segments or verticals where we think we can bring real value-added. On the asset management side of business, yes, we went from what we used to be, a multi-strategy shop to these individual verticals. And we now think the platform, while it continue to -- it will continue to grow in its existing verticals, has the ability to -- now to add more verticals. So the firm just completely repositioned itself over the last 3 years. Now it's just building on that foundation. And I'm kind of looking way down the road. It's not sort of like what we have to do in the next 3 months, it's what we have to do in the next 3 years, 5 years. You can tack on [ph] and add to the asset management business that we can append to the investment bank that we'll leverage our fixed cost interest structure by only adding variable costs, comp and maybe some transaction costs. We've got the capital to do it. We're very well-positioned in that respect and it's not taking advantage of -- what continues to be, I think, a lot of sort of I'll call it this equilibrium or dis-economic scale in the industry amongst small firms and niche firms. For instance, I mean, Jeff can talk to it, but filling out -- getting more robust in sort of the advisory business is -- would leverage our fixed cost in the investment bank a lot. And we're getting more traction there. So it's a little bit of this, a little bit of that.

Joel Jeffrey - Keefe, Bruyette, & Woods, Inc., Research Division

Okay, great. And then on -- in terms of what's going on at Ramius. Appreciate all the color you guys gave on sort of the objectives that you laid out. But just sort of thinking about the difference between the strength and the inflows and the performance that we've seen this year, is that really just being driven by the current market conditions? And is there anything that could potentially improve them -- the performance of the funds meaningfully in the near term?

Peter Anthony Cohen

I'll let Michael answer that.

Michael E. Singer

Sure. I mean, I'll look at that in 2 parts. It's AUM flows and it's performance fees. Alternative products in buoyant markets don't capture all the upside. They're not built for that. They're built for steady returns, high, sharp performance. So in a year like last year, we did fine. And we got our share, but it's not as if we caught a ton of it. From the asset raising standpoint, we certainly didn't raise assets because the market was up. We raised them in products that have long track records, loyal clients that -- where we've been developing institutional relationships for several years, and those assets came in here. We're not performance changers. People tend to get that through ETFs and index products. So coming into this year, we continue to have good momentum. We have a number of product offerings in the market where we expect to raise significant AUM.

Joel Jeffrey - Keefe, Bruyette, & Woods, Inc., Research Division

Okay. And then switching over to the brokerage side of the business. Jeff, the capital markets business was very strong in fourth quarter and sounds like first quarter is off to a really strong start as well. And you mentioned that you guys are -- lead, I guess, 40% of the deals you were book runner on. I mean, is that -- how high do you think that number can get? And do you think you can continue to see the strength in ECM throughout 2014? Or is this just sort of a quarter-by-quarter number that we need to check back?

Jeffrey Marc Solomon

Well, I mean, I think the pipeline and the backlog, assuming the market stay recently stable, is as strong as I've seen it. So the replenishment rate has been pretty high. We're not burning off backlog and sort of running out of steam. I think there's always a flurry of activity that happens in the first 6 weeks of the year before numbers go stale. So we've seen a significant number of companies get done before February 15. And as you can see from the public filings, we've also done a handful of deals in this intermediate period, which should show you, I think, the strength of the marketplace in general. So I don't expect to see -- again, barring any major macro upheaval, I don't expect to see any change in that. I also would say that there's been a pretty significant change in the complexion of a lot of these deals. So we did have, as an industry, a very solid IPO pipeline last year. And those companies in many respects, especially in our areas like life sciences, are going to be repeat issuers. So there's a consistency around our ability to finance these companies. If we're in on the IPO, that's not a spot that we're going to let go off so easily. We really shine after these companies get public with the efforts that we've put forth in corporate access and non-deal road shows. I'd say, a couple of years ago, we had to scratch and claw to move our way on to the covers and then move our way up the covers. But once we're there, we're not losing any of that tenacity. We're really making sure that we are the go-to bank for companies that we bring. So even if the IPO market cools off a little bit, the follow-on market for our sector should be -- should continue to be strong, and we'll take advantage of that.

Joel Jeffrey - Keefe, Bruyette, & Woods, Inc., Research Division

Okay. And do you think there's further upside in the percentage of deals you can book run? Or is it sort of the 40% range kind of the macro...

Jeffrey Marc Solomon

It's a number -- that, to me, is a number that's an output. Obviously, we're trying to move up on the covers. But if we're -- we don't have -- we have some hard and fast rules, but we have a lot of exceptions around what the assignments we'll take. For us, it's a matter of making sure that we're getting paid adequately for the services that we provide. So I'd like it to -- obviously, it's our goal to move that number higher, but I'm not going to move that number higher at the expense of missing out on some really good pieces of business where we're not book runner. So it turns out that we -- that number dips a lot, we made a constant decision to take on maybe larger clients where we think we can move up market cap. I mean, there's so much that goes into that. So I kind of view that as an output. I'd like it not to go down. But if it does go down, it'd be a function effect. And we're making some investments in some larger companies where we think we can do book run deals with them subsequently.

Joel Jeffrey - Keefe, Bruyette, & Woods, Inc., Research Division

Okay, great. And then just on the brokerage side of the business. I mean, it sounds like from your comments that the 1Q is off to a pretty decent start. But the revenue number came down quarter-on-quarter into the fourth quarter. And kind of just wondering, given that equity market volumes overall were up a bit, just kind of what drove that decline in the fourth quarter?

Jeffrey Marc Solomon

I think -- first of all, I think, for us, fourth quarter is always -- if you look historically, fourth quarter has always been a slightly -- it's been a quarter that come down every year. And first of all, everybody in the business loses the last week or 2 of volumes. And I think we've shown some remarkable traction in the second and the third quarter. So I'm not really looking at the quarter-over-quarter comparable numbers as much as I am looking at year-over-year. And I'm looking at whether or not we're capturing a significant mind share from clients in both. To me, the move-up in research bodes. Capturing that market share tells me all I need to know about future revenue sources, right? We've been looking very carefully at the votes that have come in on the course of that 6 months, and we've moved up significantly. In some cases, we moved up a little bit. In other cases, I can only think of 2 situations where we haven't, where we actually moved down. And that's been more of a conscious effort around focusing our research efforts in places where we can move the needle. So to me, a one -- a quarter-over-quarter analysis isn't one that I look at much. I'm looking more at whether or not we can take significant market share. What I will say is the McGraw-Hill [ph] report came out -- our McGraw-Hill [ph] report came out, and I think we were the single biggest mover in terms of market percentage for the non-bulge in terms of market share. And that tells, again, all I need to know about whether or not we're making traction.

Joel Jeffrey - Keefe, Bruyette, & Woods, Inc., Research Division

All right, great. And just lastly for me, a bit of a housekeeping question. Looking at the diluted share count, that was up quarter-on-quarter, but the period-end share count was down quarter-on-quarter. Just wondering if Steve could just talk a little bit about why -- how to think about the share count going forward and why the difference between the 2?

Stephen A. Lasota

Well, in the fourth quarter, we bought back 2.7 million shares. So that decreased the share count. And as I've said, we -- the board approved another $10 million to repurchase shares in the open market. When the window is open, we'll continue to do so if the price is right.

Joel Jeffrey - Keefe, Bruyette, & Woods, Inc., Research Division

So just thinking about the fully diluted share count, we would expect that to come down in coming quarters?

Peter Anthony Cohen

It depends on what the stock does, Joel. I mean, we're not going to be buying stock at sort of a premium to probably a tangible book value. I mean, it's dilutive to our overall equity. So we're going to be sort of opportunistic about when we can -- we buy stock and at what price.

Operator

And your next question comes from the line of Mike Adams of Sandler O'Neill.

Michael Adams - Sandler O'Neill + Partners, L.P., Research Division

So a question for Jeff on the brokerage business. Clearly, you guys performed really well in -- during the year, but it remains a challenging business. So you saw some of the comments from SEC chair, Mary Jo, last week about prioritizing the tick-size pilot. And then Jeff, you've been kind of spot on with your view on whether or not this would get pushed through because it looks like it's going to happen. So if you wouldn't mind, what are your expectations for how it will impact the business, really, both in terms of like the revenue opportunity and maybe like any additional investments or hiring that you're going to have to make?

Jeffrey Marc Solomon

So let me just say, this is a -- keeping our theme that we benefit as an organization from increased capital formation activity for emerging growth companies. So if you look at -- I don't think it's an accident that we've seen ECM activity pick up after the JOBS Act. And that's benefited us, but it's also benefited the U.S. economy and it's benefited private sector job growth, and there's a lot going on in that area that is meaningful. For us, the tick-size pilot is twofold. One is it's widening increments for small-cap stock and it's also limiting trading increments so that our institutional clients who have routinely said to us that they stay away from small-cap stocks can reengage. And that's an important part for us, not so much from an economic standpoint, but we want to see increased liquidity for small-cap stocks. So it's going to be a fairly lengthy process. Once the pilot is actually designed, we're going to have to do -- internally here, we'll be looking at ways that we can help to drive liquidity in the stocks we think are going to be relevant to our institutional clients. So I'm cautious about making an overstatement about a return to the way it used to be in terms of wider spread. That's not what this is about. This is really about, in my mind, driving liquidity to small-cap stocks, which would eventually come around to increasing capital formation, creating private sector job growth. At Cowen, I think our view is anything we can do to drive commission flow to small-caps is beneficial. But I want to caution you that we're not -- if there is a tick-size pilot that occurs in the near future, you're not going to all of a sudden see a massive spike in volumes. It's going to take some time for that to work itself through.

Michael Adams - Sandler O'Neill + Partners, L.P., Research Division

Got it, understood. And so I know we don't have all the rules written at this point or however they're going to turn out. But is your impression of this will also include like a trade act rule, the tick-size pilot that is?

Jeffrey Marc Solomon

So, I think it's really clear just -- let's define the terms. The trade act generally means that lit markets will get preference over dark markets. I actually don't think that will happen. And in fact, the task force that we chaired, the Equity Capital Formation Task Force that we chaired, does not recommend preferential venues. It simply says we're in favor of limiting the increments at which small stocks can trade. So to the bid price, the offer price or one spot in the middle, and we do that because we actually want to cluster liquidity to create market depth in small-cap stocks. Our view is one of the major impediments to liquidity in small caps is that you can't see a lot of flow because there's no aggregation of -- there's no clustering of order flow at the increments. And so we want to be able to drive that clustering effects to create market depth. And then, we want to limit sub-penny trading because at the end of the day, that's what a lot of our institutional clients and a lot of institutional investors in the country feel dissuades them from engaging in investing in small-cap stocks.

Michael Adams - Sandler O'Neill + Partners, L.P., Research Division

Understood. Changing gears, a question on expenses. So we saw that the fixed non-comp expenses tick down again in the fourth quarter. And I believe Michael talked about some additional savings coming in 2014 from the Ramius side of the business. So how should we think about those non-comp expenses in the coming quarters, like how much more can come out there?

Peter Anthony Cohen

This is Peter speaking. We think that -- I wouldn't count particularly on Ramius per se as being sort of the big contributor. I think at the corporate side, we are finding ways to bring the expenses down more. I mean, we're burning off a lot real estate over the next few years from going to the Cowen merger to the LaBranche acquisition to Dahlman Rose. We're losing space. Leases are expiring. We've sublet space. Commercial real estate in New York is particularly strong. And we really kind of -- this is surgical now. We're digging in and seeing where we can save $10,000 here, $50,000 there. And so we expect we'll still continue to have pressure to bring and there will be pressure on expenses coming down. And it can come from any part of the firm. So it's not going to be massive, but there's room that we think to continue to sort of press expenses down.

Stephen A. Lasota

Mike, we've identified some fixed non-comp expenses that we can reduce in '14. It won't be as significant as it has been in prior years. On the variable side, that actually may kick up as we have more revenues in brokerage and trading execution expenses.

Michael Adams - Sandler O'Neill + Partners, L.P., Research Division

Sure, sure. Typically a good thing when those variable expenses are going up. So Steve, another question for you maybe. Can you explain what happened with the minority interest line this quarter because -- was this some sort of a year-end true-up? Because when we look at the asset management fees in the fourth quarter, they were up modestly sequentially, but the minority interest really jumped.

Stephen A. Lasota

Well, for the whole year, I mean, and if you compare it to prior year, there was only one group that was minority interest, and we entered into agreements with 2 other groups for '13 that is now minority interest. And part of that anomaly in the fourth quarter was the fact that there was kind of like a double coming [ph]. So what would be accrued in the past, we had some -- you book some incentive fees that are not -- that are unrealized. In the past, you wouldn't pay out on that; but now, because it's a profit share, you have to book that through NCI. So that's really what happened in the fourth quarter.

Peter Anthony Cohen

It's sort of as a true-up. I mean, it's like a catch-up in this transition year from fully consolidated to nonconsolidated.

Stephen A. Lasota

Right. Going from employees to a partnership arrangement.

Michael Adams - Sandler O'Neill + Partners, L.P., Research Division

Right. And which funds have those partnership relationships? Is it the health care fund? And I think there's 1 or 2 others in there. Can you remind me?

Stephen A. Lasota

Yes, health care was -- has been since existence. But Orchard Square, which is our credit group, and what we call RASL, our alternative solutions group, those are the 2 new ones for '13.

Michael Adams - Sandler O'Neill + Partners, L.P., Research Division

Great. And last one for me and I'll get back in the queue, but your initial comment on the return to profitability this year, clearly, it's going to sort of bring into the focus the valuation allowance against that DTA [ph]. So can you talk about maybe the criteria your auditors are looking at in order to reverse that allowance? I mean, like for example, are they looking at overall group profitability? Do they look at the broker-dealer specifically just -- and then, what sort of time frame are we looking at where these discussions all will take place?

Stephen A. Lasota

Yes. It's overall group profitability. And the way it -- really, the -- you need significant earnings to reverse that valuation allowance. We have looked at a couple of -- we've looked at a few transactions that may help us with that. But we haven't pulled the trigger or anything like that yet. But we do need to -- we need to show significant earnings before the auditors will let us reverse that valuation allowance.

Operator

And your next question comes from the line of Devin Ryan of JMP Securities.

Devin P. Ryan - JMP Securities LLC, Research Division

Just want to circle back on Ramius and some of the comments in the prior questions. But you guys have said in the past that Ramius has the infrastructure to be a $15 billion to $20 billion investment manager without really much changing. So just love to get an update on how do you characterize that today. Because we're just trying to think about the operating leverage from each additional dollar of AUM that you have from here. Essentially, how much capacity is there really where fixed costs really aren't going to change that much?

Michael E. Singer

Yes, the asset management business, if done right, is a highly scalable business. We have the benefit of a deep infrastructure. And what I mean by that is legal and compliance, technology and technology platform, operations, client and salesperson support. The firm has invested in that, which distinguishes us from many other asset management firms that are really more products and businesses. So the short answer is we have an awful lot of scale. We could certainly get over $15 billion without adding much in additional expense. This is a business with incremental revenues because the profit margin and incremental revenues get significant. The way to create AUM, as Peter referenced before, we're an alternative investment platform with affiliated and proprietary teams that we provide this infrastructure to resell the products, provide marketing support and general know-how in the business. We have 7 capabilities today. I would expect by the end of the year, and you'll learn about this quarter-by-quarter, that number is going to increase. As we add additional capabilities, and based on the liquidity fees that we need in the distribution channels, we want to sell those products into, we'll wrap those capabilities without adding much in terms of fixed costs. Additional costs, of course, will be the variable costs, which would be paid to those capabilities based on their success.

Peter Anthony Cohen

I'm going to add to what Michael said. And this goes back to Joel Jeffrey's question to Michael earlier, the first question about performance. We're not trying to manufacture product that we think we're good at and then try and sell it. What we're trying to do and have been doing is hearing out what does the market need, what does it want? And then build the product to that demand in the marketplace because it's not one-size-fits-all anymore. And we have been very successful. It's a little, I would say, sort of oblique to everybody, but since the end of '08, we have returned $6.6 billion of assets to investors from old strategy, the old multi-strategy, and even people who cycle that as some of what we do now. But we returned $6.6 billion, and we reached kind of a recovery high here of $9.5 billion. So we're building product that, whether it's tailored to the specific buyer, like health care royalty, it's very unique; or a solutions group, it's providing certain hedging techniques through technology to institutional investors; to our Starboard group, which is a very kind of in-demand-type strategy today. So not everything we do is going to be sort of big incentive fee-generating, but we can amass a lot of assets. And our overhead is going to stay relatively fixed to do that. So the bulk of this whole transition is really behind us at this point. It's not even the bulk, it is behind us. So now it's adding on very specific things that we think the market is telling us it wants and then sort of raising the assets from those segments of the marketplace and growing AUM.

Devin P. Ryan - JMP Securities LLC, Research Division

Okay, great. And then just following up on the -- your comment that some strategies have been moved to profit-sharing in 2014. How is that going to impact the overall profitability of those strategies to Cowen, if at all? What was the driver behind that? Are there any other benefits that maybe we can't see where you may be able to scale the AUM faster with them kind of having that type of arrangement?

Peter Anthony Cohen

Yes. I mean, the idea was it shouldn't affect the profitability at all because what we did is we took what was sort of compensation expense and we transferred it to a partnership sharing. What we did is we wanted to make all of our PMs partners in their business where they had -- they weren't employees, but partners that had a vested interest in growing their business, using all of the resources of the firm to leverage their business. And in return for that, we got certain considerations that we believe append people to us under the normal circumstances for a very long period of time. I mean, we're almost like a fund of funds, but not really because what we're doing is we're directly managing these strategies through our portfolio groups.

Devin P. Ryan - JMP Securities LLC, Research Division

Okay, got it. And then just with respect to your thinking about the use of your balance sheet to generate investment income, it seems like you guys have been on more the conservative end with how you've been positioned and maybe that's a market view, but obviously, a great long-term track record there, some great expertise. So just thinking about the returns on the balance sheet in recent years, which have still been good. Do you still feel like you guys have the right amount of capital allocated to that strategy? Are there may be some other opportunities to move the capital elsewhere that might be more compelling just as the environment changes today? Or just an update there in terms of how you guys feel like you have capital allocated to the balance sheet.

Peter Anthony Cohen

Sure. Look, the balance sheet had, in the last few years, benefited greatly from performance in -- through the Starboard group's activities. And we also benefited substantially from the credit spread compression that went on since the end of '08. Credit was less robust last year than it had been in years before and Starboard's performance, while good, was not as outstanding as has been the years before. One of the things we have been doing is we've been bringing down the nonliquid side of the balance sheet substantially. And we have more to do. And we'll get to a level where we we're going to have -- where we can just start to recycle money in opportunities. One of the great sort of things that's been happening in the last year is now integrating the investment side with unique asset flow from the investment banking side. We're taking advantage of the relationships that our bankers have to invest in private transactions that we think have just tremendous upside potential. So we'll probably, for the time being, continue to run the balance sheet with the allocations as it is. We've got some new strategies that we want to see. We'll put money into those strategies, they'll be yielding from day 1 and we'll start to sort of migrate the balance sheet a little bit away from some of the places we've had it, but not terribly different.

Devin P. Ryan - JMP Securities LLC, Research Division

Great. I appreciate that. And then just lastly for Jeff just on the brokerage business and a lot of progress there. I'd just love to get some perspective around where Dahlman Rose is with respect to getting back on the voting list. You talked a little bit about that, but maybe where you think you are in terms of having that business to what would be a budgeted or kind of a reasonable run rate? Are you already there? Are there still some wood to chop with respect to just kind of getting everything onto the combined platform? I'd just appreciate some perspective there.

Jeffrey Marc Solomon

So let me say, they're -- it's fully integrated platform, and it was within the first quarter. So I -- we don't think about Dahlman Rose as a separate entity. We don't think about our energy business any differently than we think about any business that we have here. So it's been fully integrated. We're in the first quarter. And I think that we've already started to see some of the gains from having that integrated in 2 ways. One, the way we've realigned our sales effort here has allowed us to maintain a degree of depth of knowledge in the sales force as we talk to PMs and analysts that -- where we didn't give up the knowledge base. And that's really important because to us, having intelligence at the sales level and the training level is really critical to being able to drive customer business. And we see that as a very different methodology that maybe the rest of the Street engages. So the integration has been extremely successful in maintaining the specialness and the domain knowledge that exists on the sales force. Where we've seen incremental benefits, and it's hard to say whether or not it belongs specifically to any one sector, is that we just -- we have more heft inside each of these organizations. Our clients are very large. We were hitting on a fairly narrow number of industries. Broadening that depth to include more industries has allowed us simply to -- by the volume of research and the volume of connectivity in touch points we've had inside these organizations to move northward. Rarely do you see, in our estimation, 1 plus 1 equal 2 in this business because there's so much overlap, but we didn't have a lot of overlap. The PMs and analysts we were talking to -- Cowen, prior to the Dahlman merger, we weren't talking to the same people. So it's been largely additive, and we've seen that show through in a lot of our votes. So don't think about it as separate. Definitely see it as fully integrated and seeing benefits both from domain knowledge as well as simply having more heft.

Operator

And your next question comes from the line of Harris Henrik [ph] of [indiscernible] Capital.

Unknown Analyst

I hate to be the fly in the ointment here but -- and I missed the beginning of the call, so if this was addressed, I apologize. But at some point, you guys really have to start making money and getting back to even is not really good enough. So what is your targeted return on equity longer term? And how long will it be, do you think, before you can reach that? And obviously, that will solve the other problem of the -- of getting the deferred tax back. But the first question is you got to make money, and how long is it going to be before that happens at a reasonable ROE rate?

Peter Anthony Cohen

Well, I think, given where the history rate is right now that we should be and sort of think in terms of a 10% to 12% ROE. I would've -- 5 years ago, I probably would have said 15% ROE. But let's be realistic about what capital can do. So if we got to a 10% ROE, in this environment, I think we'd be doing just fine. And unless we get sort of major market disruption, that's sort of the direction that we would hope to be in sooner than later.

Unknown Analyst

What does that mean? I mean, is that years or quarters? Or...

Peter Anthony Cohen

Well, it depends on how you view sooner than later.

Unknown Analyst

How do you view sooner than later?

Peter Anthony Cohen

At my age? I view sooner than later, sooner.

Jeffrey Marc Solomon

Sooner is better than later, how is that? I think that we've done a very good job here at not sacrificing the long-term buildout of sustained profitability at the expense of driving current quarters. So the investments that we're making, the investments we made over the last 3 years have really helped to drive and propel revenue back to a level where we can cover our fixed costs significantly. And as Peter pointed out, the revenue drive that we're looking from this point forward is simply to add revenue that will drive margin and will be largely variable and expense in nature. So the key for us in terms of margin expansion is driving revenue that -- where we can continue to maintain the same fixed cost structure. And so whether that's acquisition opportunities or organic growth, I mean, it's hard to pinpoint specifically. Our drive forward has to be supremely focused on making sure that we're leveraging the fixed cost structure of the organization. So first step was we had to get back to business to profitability and make sure that we were building it in such a way that we could have sustained profitability and enough of platforms to really -- to drive revenue growth in the longer term.

Unknown Analyst

Yes. But at some point, you have to earn your cost of capital. And I just would love to know when do you expect to do that. Obviously, no one is answering that, but I think that's an important question that at some point you're going to have to address with investors.

Jeffrey Marc Solomon

I think we agree with you. And what we're looking at -- again, first things first. We had to get ourselves back to a spot where we could be profitable and happy to talk that more with you off-line on that topic.

Operator

And the next question comes from the line of Mike Adams of Sandler O'Neill.

Michael Adams - Sandler O'Neill + Partners, L.P., Research Division

Actually, my follow-up's been answered.

Operator

Okay. So no more questions. So I'd now like to hand back to Peter Cohen for closing remarks.

Peter Anthony Cohen

Well, really, I think nothing further to say. The questions helped us sort of round out our view of the business. I think that what we're trying to convey here and perhaps maybe not doing a good enough job, how much of a transition and rebuild this firm has gone through in both businesses, Cowen side and the Ramius side and our belief that that's really behind us. And if that's the truth and we're right about that, then we'll start earning our returns on equity that we think are appropriate. And given that employees own about 28% of this company, that's more than a passing question that exists within the organization, especially among those of us who own a lot of stock. So I thank you for attending the call, your questions and, of course, we're always available to speak one-on-one. Thanks, operator.

Operator

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Good day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Cowen Group Management Discusses Q4 2013 Results - Earnings Call Transcript
This Transcript
All Transcripts