Piper Jaffray's CEO Discusses Q1 2014 Results - Earnings Call Transcript

Apr.24.14 | About: Piper Jaffray (PJC)

Piper Jaffray Companies (NYSE:PJC)

Q1 2014 Results Earnings Conference Call

April 24, 2014, 09:00 AM ET

Executives

Andrew S. Duff - Chairman and Chief Executive Officer

Debbra L. Schoneman - Chief Financial Officer

Analysts

Michael Needham - KBW

Douglas Sipkin - Susquehanna Financial Group

Operator

Good morning, ladies and gentlemen, and welcome to the Piper Jaffray Companies Conference Call to discuss the Financial Results for the First Quarter of 2014. During the question-and-answer session security industry professionals may ask questions of management.

The company has asked but I remind you the statements on this call are not historical or current facts, including statements of their beliefs and expectations are forward looking statements that involve inherent risks and uncertainties. Factors that could cause actual results to differ materially from those anticipated are identified in the company’s earnings release and reports on file with the SEC which are available on the company’s website at www.piperjaffray.com and on the SEC website at www.sec.gov.

This call will also include statements regarding certain non-GAAP financial measure. Please refer to the company’s earnings release issued today for reconciliation of these non-GAAP financial measures to the most comparable GAAP measure. The earning release in available on the Investor Relations page of the company’s website or at the SEC website. As a reminder this call is being recorded. And now I would like to turn the call over to Mr. Andrew Duff. Mr. Duff you may begin you call.

Andrew S. Duff

Good morning and thank you for joining us to review our first quarter results. I will spend a few minutes discussing the market environment and the performance of our business and then hand the call over to Deb to review our financial results. With markets conditions that were mostly accommodative, we got off to a strong start in 2014 as we sustained the momentum in our business in the second half of 2013, at record levels at the end of 2013 and attracted both issuers and investors into the market. As a result, equity capital raising remained strong and trading volumes were up for the quarter. These market conditions also were beneficial for asset managers.

As for fixed income markets, we saw interest rates decline slightly during the quarter. These declines contributed to our favorable results and fixed income trading and investing. The interest rate declines were not sufficient however to reignite refinancing activity in corporate finance that dropped off sharply due to last year’s spike in interest rates. Underwriting activity for Q1 was off about 35% however, we noted some signs of improvement towards the end of the quarter.

Moving onto our performance for the quarter, the primary objective of our strategy over the past couple of years were to achieve profitability in more challenging markets, produce strong results in healthier markets and make disciplined investments in our high margin businesses. We continue to execute on this strategy, as reflected by our strong performance to the start of year.

Historically in our financial results, we reported annualized return on equity for the quarter. We feel that reporting ROE on a rolling 12 month basis provides a more accurate representation on the performance of the Firm.

Our ROE for the last 12 month ending in March improved to 7.2% compared to an ROE of 6.7% for the comparable period of 2013.

Our return on tangible equity for the last 12 months also improved to 10.9%. For the quarter, on balance we produced good results in our operating businesses. The sequential decline in revenue from the record levels last quarter primarily was attributable to lower gains in our investments in the absence of significant performance fees in asset management which are generally reported in Q4.

Nevertheless, our results for the quarter represented a very substantial improvement over last year’s first quarter. Performance in our capital market businesses continue to demonstrate the strength we saw in the latter part of 2013. Equity capital raising was up slightly sequentially and more than double a year ago. Capital raising for growth companies was robust, especially in healthcare, our strongest industry sector.

We were particularly pleased with the performance of our M&A business where we often see a low end activity to the start of the year our results were up sequentially. Revenue increased in our M&A business for the third consecutive quarter. These results reflect our strategic focus in recent years to strengthen our M&A capabilities.

Our equity brokerage business experienced an increase in activity that was in line with the market. The sequential decline in revenue was attributable to lower gains from our equity strategic trading results. We remain very pleased with the progress we are making in the equity brokerage business as demonstrated by a substantial increase in revenues versus last year.

As I noted in my comments regarding market conditions and public finance, we were not immune to the significant decline in new issuance activity as our results indicate. With the sharp increase in interest rates in the middle of last year, we have seen a substantial decline in refinancing activity. One bright spot for the quarter was a $1.5 billion capital raise for the Texas Department of Transportation where we were the lead manager. We expect a gradual improvement in underwriting activity as the year progresses.

Fixed income brokerage performed in line with our expectations for the quarter as our trading and investing activities experienced a rate environment that was generally constructive. We continue to manage our business on the premise of gradually rising rate environment for the year.

Moving onto our asset management business we finished the quarter with $11.5 billion in assets under management that was up slightly over year end levels. The increase in AUM was attributable to a slight net inflow in assets, plus market appreciation. The highlight for the quarter was the new closed-end fund that we completed at the end of the quarter, where we served as a sub advisor to Nuveen. The fund which invests in small and midcap MLP companies represents a unique investment strategy in the MLP space.

In summary, we are pleased with our results for the quarter. The progress we have made is substantial and demonstrates the operating leverage in our model. We have a solid foundation which to build just as we move our strategy to a more growth oriented bias. Now I would like to turn the call over to Deb to review the financial results in more detail.

Debbra L. Schoneman

Thanks Andrew. In the first quarter of 2014 continuing operations generated net revenues on a GAAP basis of $168.1 million, a 54% increase compared to the year ago period and a 10% decrease compared to the sequential quarter. Net income for the quarter was $17.7 million or $1.10 per diluted common share and our pretax operating margin was 19.5%.

In addition to our GAAP results we have presented non-GAAP financial measures to provide a more meaningful basis for comparison of our core operating results. The non-GAAP measures exclude revenues and expenses related to non-controlling interest, amortization of intangible assets related to acquisition, compensation for acquisition related agreement and restructuring and acquisition integration cost. The remainder of my remarks will be based on these non-GAAP financial measures.

In the first quarter of 2014 continuing operations generated adjusted net revenues of $161.5 million, adjusted net income of $20 million or $1.24 per diluted common share and our adjusted pretax operating margin was 19.3%. For the first quarter of 2014, adjusted compensation and benefits expenses were 61.4% of adjusted net revenues, consistent with 61.6% in the first quarter of 2013 and up 80 basis points from the 60.6% in the fourth quarter of 2013.

The increase in the compensation ratio on a sequential basis primarily related to a seasonal increase in benefits expense. Compensation and benefits expenses as a percent of net revenues for the current quarter were in line with our goal of 60% to 62%. Adjusted non-compensation expenses were $31.1 million for the first quarter of 2014 compared to $22.7 million in the year ago period and $29.9 million in the fourth quarter of 2013.

Non-compensation expenses increased compared to the year ago period due to the receipt of insurance proceeds for the reimbursement of prior legal settlements in the first quarter of 2013 and incremental cost associated with the acquisitions we made mid last year.

On a non-GAAP basis our effective tax rate from continuing operations was 35.7% for the first quarter of 2014 consistent with our expectation of 34% to 37%.

Now I will turn to segment results. For the first quarter capital markets generated adjusted net revenues of $141.8 million, adjusted pretax operating income of $24.1 million and an adjusted pretax operating margin of 17%. Adjusted net revenues increased 60% compared to the first quarter of 2013 due primarily to higher equity financing and M&A revenues.

The active capital raising environment at the end of 2013 continued into the first quarter of 2014. This resulted in more completed transactions and higher revenue per transaction in our equity financing business compared to the year ago period, especially in the healthcare sector. Our M&A business also has had one of its strongest start to the year and generated $39.7 million of revenue as a result of more completed transactions.

Equity institutional brokerage revenues benefited from higher client trading volumes compared to the prior year period. The increased net revenues for the current quarter were partially offset by a decrease in public finance revenues. This decrease which was consistent with the market was primarily driven by a lower level of refinancing activity in the current quarter.

Adjusted pretax operating margin improves compared to the first quarter of 2013 due to higher net revenues and decreased compared to a very strong fourth quarter of 2013 due to lower net revenues and higher compensation revenues ratio and higher non-compensation cost. Asset management generated $19.7 million of net revenues, $7.1 million of adjusted pretax operating income and an adjusted pretax operating margin of 36%.

Net revenues increased 8% compared to the first quarter of 2013 and decreased 29% compared to the fourth quarter of 2013. The decrease compared to the sequential quarter was due to lower performance fees, the majority of which are recorded in the fourth quarter if earned as well as lower investment income. The adjusted operating margin declined compared to both the first and fourth quarters of 2013 due to higher non-compensation expenses attributable to marketing related professional services.

This concludes my remarks. And I'll turn the call back to Andrew.

Andrew S. Duff

That concludes our formal remarks. Operator, would you please open the line for questions.

Question- and-Answer Session

Operator

(Operator Instructions). Your first question comes from the line of Michael Needham of KBW. Your line is open.

Michael Needham - KBW

Good morning guys. Congrats on the quarter.

Andrew S. Duff

Thank you.

Debbra L. Schoneman

Morning.

Michael Needham - KBW

I was hoping you could touch on some of the ECM strength you have seen, in particular within the healthcare sector. Has this sell-off in some of your healthcare and tech names of late has that changed some of the discussions you're having or pushed back some of the deals in your pipelines?

Andrew S. Duff

So the pipeline remains strong. The recent sale off has moderated perhaps the quality of the company that can come and the markets are open to high-quality more seasoned companies.

Michael Needham - KBW

Okay, fair. On the advisory side, you touched on it in your comments you made earlier. That some of the investments you’ve been making in the business are starting to play out there. Is there any way you can share maybe productivity levels or try to give us an indication of how much this is maybe driven by a couple of sectors that have been strong in the first quarter because this is very seasonally adjusted and very strong quarter for you guys.

Andrew S. Duff

So look a couple of comments, first of all the macro-environment is favorable for M&A activity and robust capital markets including the credit markets. Our activity is across our industry sectors that it’s certainly led by the healthcare environment which is our strongest franchise and our backlog reflects that as well.

Michael Needham - KBW

Okay. And on M&A do you expect this year maybe revenues are more weighted towards the first half of the year.

Andrew S. Duff

We would certainly view them as more balanced. As you may recall, I think you referenced they were heavily weighted to the backhalf of last year and we do not expect that this year.

Michael Needham - KBW

All right. And last question from me on the fixed income brokerage it looks like over the last three quarters has been sort of business as usual for you guys. Can you just comment on I know the rate environment has been better. But can you comment on the where inventory levels have gone during the first quarter and maybe contrast that with where they were at the beginning of 2013?

Debbra L. Schoneman

Yeah our inventory levels there is been maybe some change in mix in different products but inventory levels have not changed that dramatically, they're definitely lower. However, I would say that is not necessarily representative of risk, the risk that we're taking. A lot of it has to do with how are hedging the product mix, the duration of our inventories. And the last couple of quarters gives me in particular our measurements of risk particularly in our fixed income inventories as measured by DBO1 for example has declined very substantially being only about a quarter of what it was two quarters ago. So it's more to do with how we are hedging and ultimately the risk appetite that we have in our inventory.

Michael Needham - KBW

Got it. Alright, thanks for taking the question.

Debbra L. Schoneman

Thank you.

Operator

Your next question comes from the line of Douglas Sipkin of Susquehanna.

Your line is open.

Douglas Sipkin - Susquehanna Financial Group

Yeah, thank you. Good morning.

Debbra Schoneman

Good morning.

Andrew Duff

Good morning.

Douglas Sipkin - Susquehanna Financial Group

So wanted to dig a little bit more into the ECM obviously very impressive. You know I think everyone knows you guys are very strong in healthcare and related. We’re just curious were there any other pockets that sort of outperformed in the quarter. I am just trying to sort of think through the breadth of the offering in the event you know maybe that’s sector is slow, something else picks up given sort of some choppiness in the stocks in the middle of the first quarter. So I am just curious you know maybe you could talk through the breadth of the backlog and the actual result for ECM.

Andrew Duff

So the backlog as I mentioned is diversified. It includes our other sectors of strength particularly consumer and tech. There is reasonable representation of healthcare as well but it’s clearly diversified.

Douglas Sipkin - Susquehanna Financial Group

Okay, great. That’s helpful. And then shifting gears it was nice to see you guys, it sounds like you had some inflow on the asset management side off of I guess the close-end fund you participated in and how you guys are thinking about sort of the MLP market? It’s been a great market place for a while. I mean the potential for more sort of smaller size you know close end deals possible for you guys and then maybe just a little bit of color on some of the retail offering that you guys now provide in the asset management business will be helpful also. Thanks. Away from the close end funds, I should say some of the funds.

Andrew Duff

Sure. So as to the MLP space it has performed very well for multiple years now and it appears to be quite attractive to investors still with a yield at approximately 6% that maybe lower historically but obviously saw yields across the marketplace in all kinds products fixed income included so when you look at it from that context it remains volatively attractive on the yield basis with capital appreciation and flipping over to our retail products it’s similar. We are having steady flow into the products and the lead is MLP.

Douglas Sipkin - Susquehanna Financial Group

Great. And then just last question. Obviously it’s been a much improved ECM/advisory marketplace now for a couple of quarters. I mean are you guys sensing that it’s getting the competitive framework for account is getting a little bit more challenged or are we still I guess some of the small midsize is benefiting from the structural challenges that the larger organizations still are dealing with?

Andrew Duff

I would say not particularly notable shift at this juncture. To you point obviously the environment is pretty strong but we have not seen a particular shift in the demand for human capital or changes in other organization shifting them.

Douglas Sipkin - Susquehanna Financial Group

Okay, great. Well thanks a lot and congrats.

Andrew Duff

Thank you.

Debbra Schoneman

Thank you.

Operator

(Operator Instructions). Your next question comes from the line of Michael [Warne] of Morningstar. Your line is open.

Unidentified Analyst

Good morning.

Andrew Duff

Good morning.

Debbra Schoneman

Good morning.

Unidentified Analyst

So given your high level of asset management fees I was a bit surprised that the asset management's segment’s operating margin was lower than the previous four quarters. So I was wondering has the baseline and level of expenses in that segment increased, or was there something more one-time in nature during the quarter like I believe you mention marketing related services?

Debbra Schoneman

Yeah it was really primarily driven by that marketing related services as we look back over the last number of quarters and that really aligns with our strategy to increase our assets and particularly going after the retail space and so it’s just another avenue for us to enhance our distribution to build our assets under management within advisory research.

Unidentified Analyst

So is that marketing related services expense one-time expense or is it you know it’s like recur every quarter?

Debbra Schoneman

It’s driven by the asset raised so you don't know what that is obviously till the assets are raised so one thing I would say is the expenses are coming in say in this quarter but the billing for the assets that are raised will come over four months, so four quarters excuse me. So over time you will see that more even out and not have the impact on the margin that it did in the first quarter that we really started using this party marketing firm.

Unidentified Analyst

Okay, thank you. And you know just quickly going back to that great investment banking results given especially given it’s the first quarter of the year. So how are you thinking about you know the current quarter’s results in terms of it just being a lumpy revenue line or it being more of result of Edgeview, Seattle-Northwest, your general investment in human capital or just you know the general more positive state of the economy.

Andrew Duff

So I would say it’s largely driven by the environment which is favorable and the acquisitions we made last summer, both Seattle-Northwest and Edgeview, are performing very well. The integration have gone well, the teams are intact, we are winning business both from their former clients as well as new clients as combined resources. So they are doing very well, but consistent with the favorable marketplace.

Unidentified Analyst

Okay. Did you have something else to add?

Andrew Duff

No.

Unidentified Analyst

Okay and just one more quick question so you know you mentioned your strategic chain business again in this quarter, so have you been growing that organically or have you been able to let’s say lift out teams from banks that had exited those operations?

Andrew Duff

No, the resources we have got a portfolio of activities in the resources are similar to prior quarters, steady results.

Unidentified Analyst

Okay, thank you.

Debbra Schoneman

Thank you.

Operator

There are no further questions in queue at this time. I’ll turn the call back to our presenter.

Andrew Duff

Thank you very much. Results for the quarter reflect the progress we have made in the past few years driven by our focus on execution and disciplined investments in our existing business. We will continue to pursue the strategy as we see growth opportunities to drive further improvements in our ROE. Thank you for joining us.

Operator

Ladies and gentlemen this concludes today’s conference call. You may now disconnect.

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