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

Executives

Jeremy Skule – Chief Communications Officer

Jon Corzine – Chairman and CEO

Randy MacDonald – CFO

Analysts

Rich Repetto – Sandler O’Neill

Maria [ph] – KBW

Chris Allen – Ticonderoga

Howard Chen – Credit Suisse

Ken Kosin – Barclays Capital

Ken Worthington – JP Morgan

Mike Carrier – Deutsche Bank

MF Global Holdings Ltd. (MF) F1Q11 (Qtr End 06/30/10) Earnings Call Transcript August 5, 2010 7:30 AM ET

Operator

Good day ladies and gentlemen, and welcome to the fiscal first quarter 2011 MF Global conference call. Today’s call is being recorded. My name is Michele, and I will be your conference coordinator for today. (Operator instructions) I will now turn the presentation over to your host, Mr. Jeremy Skule, Chief Communications Officer. Please proceed.

Jeremy Skule

Good morning, and thank you for joining our first quarter call. With us today are Jon Corzine, Chairman and CEO; and Randy MacDonald, our CFO.

The information made available on this conference call contains certain forward looking statements that reflect MF Global's view of future events and financial performance as of June 30, 2010. Any such forward looking statements are subject to risks and uncertainties indicated from time to time in our SEC filings. Therefore, our future results of operations could differ from historical results or current expectations as more formally discussed in our SEC filings. The company does not undertake any obligation to update publicly any forward looking statement.

The information made available also includes certain non-GAAP financial measures as defined under SEC rules. The reconciliation of these measures is included in our earnings release, and can be found on our website and in our SEC filings.

With that, I will now turn the call over to Jon.

Jon Corzine

Thank you Jeremy and good morning everyone. Thank you for joining us on this quarterly call. Today, we update you on our results and the initial steps taken to return our operations to sustain profitability, all that as we go about resetting the firm’s strategy direction. After my comments, Randy will provide details on the quarter’s financial performance, with summary results of which were presented on slide 3.

For the quarter, GAAP earnings per share were $0.01, following the $0.78 loss last quarter. Adjusted earnings, which factor out the UK bonus taxes, restructuring costs and residual IPO awards, were $0.16, up from the $0.17 loss the previous quarter.

Net revenue was up 20% quarter-over-quarter and adjusted EBITDA improved from a negative $8 million to a positive $67 million. Obviously, these numbers reflected a good first step towards the turnaround of the firm. While our quarterly performance speaks to the progress made, it in no way meets our long-term objectives or reflects the firm’s potential. The results are simply a positive first step, reflecting our commitment to strategic restructuring and growing profitability. Much work remains in the next few quarters, as we build future business plans, grow market share and improve execution.

In that context, we realized that cost reductions and strong controls are absolutely a necessary foundation for a developing strategy that will emphasize revenue growth. Tactically, the June quarter was dominated by a series of restructuring and cost reduction measures, most of which are completed. Randy will detail more on the specifics of this effort.

In future quarters, we will sustain our cost control disciplines, while giving greater attention to growing revenues, growing revenues being the central requirement to our long-term success. To that purpose, our strategic planning process is in its early stages, and initiatives will be developed and rolled out over the next 4 to 6 quarters. The first step in this process addressed our retail product line, has developed in our review. Our plan is to organize and integrate all of our retail activities globally around a single multi-asset, multicurrency electronic platform.

We intend to use this platform in combination with our sales representatives to focus on growing our market share among our basic retail and high net worth clients, with substantial attention also to middle market, corporate and finance clients, particularly introducing brokers. We also began last quarter the fundamental and incremental process of embedding client facilitation risk-taking in all of our core product lines, with emphasis on incremental.

We have taken this initiative without a significant buildup in our measured value at risk. At quarter end, our VAR usage was approximately $6 million. On a day-to-day basis, we’re generally using less than half of our board authorized risk authority [ph], which remains unchanged since I joined MF Global. While we are executing more principal transactions, we have implemented these activities with a high turnover philosophy, confirmed in part by the reduced size of our balance sheet and our unchanged usage of regulatory capital.

Let me repeat, we have added revenue generating capacity that serves our client’s without substantially increasing measured risks for use of regulatory capital or balance sheet. Equally strategic, we have also moved aggressively to implement a one firm mentality and culture. Our changing reward system seeks to better align client, shareholder, and employee interest, reflecting firm results as well as individual performance.

To that end, we have significantly reset our compensation to net revenue objectives. For the quarter, the compensation ratio dropped to 54%, down from 69% for all of last year on a GAAP basis. And while there has been some loss of personnel and revenue due to the new payout structure, there has also been broad success in retaining our most productive people in the businesses most key to our future success.

What we have lost in commission revenues have for now been more than offset by the noted principal activities. The bottom-line impact of this payout shift will be an important building block to our long-term earnings power. Beyond these initiatives, we are also reviewing and reshaping our governance, technology and control environment. As indicated earlier, we are in the early stages of our strategic planning and reset with a tremendous amount of work ahead.

Most of these efforts will require time and some additional talent, some with different skills sets. The quarter should demonstrate our ability to acquire and motivate top talent. So to summarize, our quarter was a positive step in the right direction on both strategy and profitability, and demonstrates that we will work quickly and diligently to meet stated objectives.

Slide four lays out the tactical if not strategic objectives we outlined to investors in the last quarter call, and the results achieved. With that extensive dialogue, let me summarize our stated objectives and the actions taken. First, we stated that we would work to improve our credit profile. As we noted, we increased the size of our capital, while increasing its permanency and reducing its required cash flow. We also improved and strengthened our liquidity by extending and amending our credit facilities in an attractive cost.

Two, as noted, we have revamped our client facilitation activities to add more principal trading to our revenue generating portfolio. In short, we are transitioning from primarily a broker to a broker dealer.

Today, as noted, we have taken difficult but necessary steps to realign compensation for the long run benefits of all stakeholders. This realignment was a necessary precondition to developing a one firm culture and sustain profitability.

And four, we have returned to profitability for the first time in 6 quarters on a GAAP basis, most importantly our EBITDA has improved significantly. As we look ahead, these metrics will be the measures management will be responsible to drive. That said, to those metrics, as Randy will detail, we will have in the September quarter a large one-time adjustment associated with our tender offer, as well as the significant final write-down of the deferred tax asset associated with IPO awards.

This fourth objective, profitability, remains key to our future, and is my central focus day in and day out. Earnings, earnings, earnings continues to be the mantra and the task at hand.

Let me close with a perspective on the regulatory reform and its impact on MF Global, a perspective summarized on slide five. In brief, while I acknowledge that the detail is yet to be fully laid out by regulators, I believe the bottom line for MF Global and the system at large is unequivocally good. Systemic exposure for MF Global will be markedly less as highly leveraged and concentrated risk held by institutions, perceived to be too big to fail will be constrained.

While we also may be constrained by the new regulatory environment, the spreading of risks across the system will take us out of being a collateral victim of a systemic breakdown. A stronger system makes for a more secure environment for us. Increased focus on central clearing and exchange traded activities with its transparency benefits also allows MF Global to compete in markets, where we have tremendous reach, know-how, and experience. Our recent strategic partnership with BNY Mellon in the clearing arena is an example of how for a fee we may leverage our capabilities.

And lastly, the deleveraging of most of our larger competitors will leave greater room for aspirational and disciplined newcomers to compete for the risk intermediation that others may necessarily be required to forego. This will be particularly attractive in an expanding global marketplace, particularly with respect to emerging markets. All in all, change is good and we should be flexible and strong enough to meet the opportunities the new environment provides.

Let me now turn the presentation over to Randy MacDonald.

Randy MacDonald

Great. Thank you Jon. Over the last couple of months, MF Global has undertaken a significant effort to deliver greater returns for shareholders, enhance our counterparty standing, and put the company on a stronger path to becoming a leading financial services firm. All the actions we took in the June quarter helped us to continue to be focused on delivering greater profitability and generating better returns on our capital.

So let us start with the enhancement of our revenues on slide six. Our revenues increased across all revenue streams versus the March quarter. On the far left side, total commission based revenues increased 7%. In the middle of the page, principal transactions and related interest increased 62%. The category on the far right is net interest revenue we earned from our client and corporate funds, which increased 11%.

So nearly every one of our business areas increased revenue this quarter. Let us see the details of these net revenues on slide seven. Total net revenues are in column A. As I mentioned last quarter, we combined our execution only and clear commission revenues into one line on the income statement, as well as for this slide in column B. Now, row 13, the yield in our commission based businesses decreased to $0.27 in the June quarter from $0.31 in the March quarter.

And this was primary due to significantly higher professional trader volume, which is lower yielding. Our volumes, which are in row 11, were 525 million contracts, which is 23% higher than the March quarter. However, composite exchange volumes grew 31%. So, although our cleared volumes kept pace with the market, our exchange only volumes did not, as the interest-rate products business was further rationalized against our new compensation principles.

In column C, our principal transactions and related interest. This quarter we also combined our principal transaction and fixed income columns to reflect how this business area is evolving, and to give investors a comprehensive view of our matched principal businesses.

The slide that we usually present on the performance of the fixed-income business is located in the appendix. These are revenues earned from spreads, which include fixed income, energy, equity, metals, and foreign exchange products, as well as the stock borrow loan business. Net revenues from these businesses totaled $87.4 million up 62% from $54.1 million in the March quarter. Higher volatility generated greater than normal client activity in foreign exchange products and demand for energy and metals products.

For instance, the significant rise in the US dollar against most currencies brought investors, hedgers and speculators back into the currency markets. We also continue to execute some finance structured equity financing trades, which you might remember from our previous calls. At row 14, our average balances for the repo and stock borrow loan book were reduced by about $3 billion.

Part of the increase in yield this quarter was driven by wider spreads, as old fixed-income positions rolled into new ones, as we saw an increase in spreads contributing 4 basis points to the improvement in revenues this quarter. And lastly, we have column D or net interest margin. In row 12, the average assets were 13.3 billion. And these balances were down slightly from the March quarter or about 400 million, but we maintained our market share of US segregated assets.

In the row below this row 13 is the net interest income yield of 142 basis points. This is 16 basis points higher than the March quarter. Now some of this was because the Fed fund effective rate jumped from 14 basis points to 19 basis points. But also our treasury team took advantage of widening spreads, and higher rates in global debt markets. As Europe and Asia experienced some dislocation in Interbank lending markets, we were able to capitalize on this.

We also saw some good opportunities in sovereign debt markets as a result of the European economic crisis, and we have maintained our laddered approach to maturities consistent with the last quarter, by extending approximately $8 billion or 59% of our average balances into longer dated maturities with the average maturity of the extended portfolio being 9 months. That means the blended portfolio of $13 billion has an average duration of 6 months.

Now, our view on interest rates is that they are probably not changing in the next four quarters. So as a result, we will consider extending the majority of our total portfolio out another quarter. So now let me highlight some of the key financial metrics on slide eight.

In the first box on the upper left, you see listed items that we presented last quarter, where we estimated the future savings. So the estimates that we presented located in the right column are compared to the actual results this quarter, and you can see that we either met or exceeded our estimates in each case, and we are well on track to meeting and exceeding fiscal year ’11 estimates.

On the top right-hand side of the page, we have adjusted compensation ratios. Now calculating the June compensation ratio, we eliminated the UK bonus tax of $3 million, and restructuring charges of about $10 million. You will see that we had an 11 point reduction from 64% in the March quarter to 53% in the June quarter. So if I use the June quarter net revenues of $289 million, and I use the March compensation ratio of 64%, then one would have expected compensation to have been $185 million, when it was actually about $155 million or $30 million lower.

No half of this change or $15 million is detailed on the top left side of this slide, and that would get you down to 59%. Now what is the other 15 million? Well, it is made up of three things, each about $5 million or 5 points. The first one being that we had FICA [ph] taxes, and they are seasonally higher in the March quarter. The second one is net interest margin and client facilitation revenues have a much less impact on compensation than other revenues, and then third, we had some miscellaneous items that all added up to about $5 million.

So, then assuming that items 2 and 3 did not occur, then the pro forma ratio would have been over 57%. No, there are two other items that we have got to consider, however, they generally offset each other. In the September quarter, there will be the full quarter impact for headcount reductions that had only a partial impact on the June quarter. And we estimate this will have a positive impact of about $2 million.

Offsetting this however is the higher levels of net revenues, the non-producer compensation pool will begin to participate for another 1% to 2% of net revenues. Now, although we continue to strive for much lower levels of compensation ratios, it still might take several quarters for us to ramp down this ratio, especially if we don’t meet or exceed the June quarter net revenue levels.

On the bottom left-hand side, our non-compensation expenses. In the June quarter last year excluded the effect of an FX charge, and the March quarter, if you remember, excluded a number of non-recurring items, which means it is also really in the mid to low 90s. Some of our peers were subjected to the FX volatility during the quarter, and we are pleased to report that with the currency hedging strategies that we implemented a year ago, (inaudible) foreign currency translation adjustments were effectively neutral.

So overall at this time we still foresee $100 million as the run rate for non-compensation as we continue to make investments in infrastructure and straight-through processing, like our new firm wide databases, and new Oracle General Ledger, HR systems and procurement workflow, and self-service modules. Now, as we roll out our new database and general ledger system, we can now be more granular at tracking certain expenses.

As an example, we are reclassifying at the compensation line, temporary workers to professional fees line. And we are also reclassifying training fees from the compensation line to general and other expense. Now turning to the bottom right section of the slide, all these cost savings have generated adjusted pre-tax income for MF Global of $37 million, or a margin of 13%.

Now slide 18 in the appendix lists the adjusting items, but the two major ones being the restructuring charges, and the IPO stock compensation. If you look at [ph] adjusted EBITDA, we add back to the adjusted pre-tax margin, amortization, depreciation, stock compensation and interest expense. That gets us to an adjusted EBITDA of 67 million or a margin of 23%, which on an annualized basis is $268 million. Now as I stated in the past, when growing this business generates the capital it needs to fund the expansion of the business. Said another way, it is self funding even at these extraordinarily low levels of interest. And these results get us to a more healthy level of EBITDA, which help satisfy the rating agencies.

The adjusted return on equity for common shareholders was an annualized rate of 10%. So the increased client facilitation and control of our expenses got us closer to the reasonable returns expected by our shareholders.

Now lastly, I want to remind you about 2 non-recurring items for the September quarter. First is, as we mentioned in previous calls, since the IPO in July 2007, we have recorded deferred tax assets on our balance sheet of approximately $62 million related to our equity awards, and about 37 million of this related to the restricted stock units that were issued at the IPO at a fair value of $30 per share.

In July, those options vested when the stock price was $6.22. Therefore, we wrote off approximately 27 million of the 37 million of deferred tax assets. The rest of the deferred tax assets, or other equity awards with longer vesting periods and lower issuance prices, and therefore are not at that risk.

The second item is the $53 million premium we paid in July for the tender. So, in addition to improving internal generation of capital via higher revenues and expense management, we also took steps to improve our capital structure. So, let us take a look at the details of how we have enhanced our capital structure and improved our credit profile on slide 9.

We took a number of steps during the June quarter to improve the company’s capital structure. So starting with the first row, we extended and amended our revolving credit facility. One concern of the rating agencies for all debtors is the avalanche of refinancing coming in 2012. So we elected to extend 690 million to June 2014. Now we’re proud this as creditors are extremely reluctant to grant new revolving credit facilities. And the rate we obtained was significantly below the cost of conventional four year debt.

Now as part of this amendment and extension, we agreed to reduce the capacity of the revolver to 1.2 billion. At the end of August, the intend to use some of our internally generated capital from the June quarter to retire another 142.5 million.

Moving down to the next row, we were only able to retire 9.3 million of the senior convertible notes, which we view as confidence in our future success by the bondholders. The response was also limited by the fact that as the stock price fell, the instrument behaved more like a bond, and we had a natural floor that came into play. As the dynamics between our stock price and market conditions continue to evolve, we may consider opportunities to retire more debt from time to time, if the conditions are right for us.

And then moving down to the Series B preferred shares, we successfully tendered 73% of these instruments with an after-tax dividend of 9.75%. So the combination of the after-tax interest that were saved on the senior notes plus the reduced Series B preferred dividends equals about $11 million per year. Lastly, we were successful on a follow on equity offering raising net proceeds of $174 million.

So we believe this addressed many concerns of the rating agencies that they might have had about our capital structure. So in summary, we have extended our debt maturities, reduced the portion of high cost debt, reduced a major portion of our high cost capital, raised additional permanent capital, and added $119 million of cash reserves.

So when we look at the current debt to EBITDA ratio, it is well below the three times that investment grade companies typically carry, and is vastly improved from the March quarter of nearly 9 times. At the beginning of September with similar earnings, it will reduce to just below two times if we repay 142.5 million on the revolver. So as we are internally generating capital, we currently have no plans to issue any more equity.

We will be opportunistic in the marketplace with debt to take advantage of the low interest rate environment if the opportunity presents itself.

So, how did we impact tangible book value with all these actions. Let us take a look at that on slide 10. I wanted to walk you through the impact of our actions this quarter on the company’s tangible book value. On the far left side of the slide, on March 31 of 2010 the tangible book value was $8.65 per common share. The tangible book value then increased by 174 million in net cash raised in the follow on equity offering, there were miscellaneous changes to equity of $22 million. And then we had this $9 million of senior convertible notes, 94 million of the Preferred B shares in exchange for common stock, and then tangible book value was lowered by the cash premium paid in exchange of 53 million. That is the charge that we’re going to see in September, the September quarter, and then we had expenses of 2 million.

However, when we include the 37 million shares issued or converted then there is dilution resulting in a decrease in the tangible book value down to $8. So in summary, tangible book value increased by $244 million. However, when thinking about the value created for common shareholders, let me remind you the annualized [ph] cash flow savings, and that does not include any interest that we earned on this extra cash.

Now this is in the box on the right hand side of 11.2 million. And if you use a PE of 10 on such cash flow savings, and then divide that by the new shares outstanding, you get value creation of $0.68. So, we had more tangible book value to be recovered in stock value in one year.

So finally, the company maintains a strong liquidity position, which I will show you in slide 11. On the first row is total required capital for the regulated companies of $1.3 billion. On the second row is the capital for the unregulated companies, primarily our holding company and the finance companies. So total capital of the firm is 2.2 billion. The required capital of the firm is 1.8 billion, which is leveled with the March quarter. And this is after using more client facilitation and principal trading.

And then the next column is excess capital. So, when comparing the June and March quarters, excess capital remained level at 512 million. Then we show free cash at 302 million at June 30, which is $249 million higher than in the March quarter, reflecting the internal generation of cash, the withdrawal of $50 million of capital in the UK, and the follow-on equity raise of 174 million.

We then show you the pro forma impact of the tender offer payments of 53 million, 55 million including the expenses, the dividend due on the preferreds. So, in thinking about our liquidity position, we have 758 million undrawn on our revolver, and we have another 1.5 billion of other client assets that are outside the regulated companies that are also available for liquidity events. That all adds up to nearly $3 billion of liquidity for client facilitation. So we remain well capitalized with a strong liquidity position.

So at this time, we’re going to turn it back to you the operator, and we’re going to take questions.

Question-and-Answer Session

Operator

(Operator instructions) We will first go to Rich Repetto with Sandler O’Neill.

Rich Repetto – Sandler O’Neill

Good morning Jon and Randy.

Jon Corzine

Good morning Rich.

Randy MacDonald

Hi Rich.

Rich Repetto – Sandler O’Neill

Congrats on a very strong quarter, I guess the first question is on the comp, significant improvement in the comp ratio, and I know you outlined in part about it. But I guess the question is, you know, sustainability, but I think it would be helpful if you go through a typical example of how you restructured comp, as an example say with one individual, you know, what are his sort of incentives firm versus individual, just to make it a little bit more tangible?

Jon Corzine

Well, it is a very straightforward process reducing the payout for commission dollar. If you went from $0.65 to 50% payout ratio hypothetical, that drops more revenue to the bottom line for the firm. Our efforts in also trying to transition some of our high performers on the equity also changes the cash flow aspects of that, and can certainly get some individual focus on firm wide results. So it is a combination of those kinds of actions that we have taken on a line by line process across the firm.

My argument to our high producers is that the new framework in which we are now acting as a broker dealer, as opposed to just a broker is that we will offer them greater volume opportunities, greater revenue opportunities for themselves, as long as it is aligned with the firm. And so I think that there are two ingredients that pull them more towards our business strategy, A, the equity participation of most of those individuals involved, and B, the fact that if we are able to use our client facilitation efforts effectively to serve their clients need, they will be much more important to their client.

Randy MacDonald

Rich, there is one other aspect, if you go back over my remarks, I tried to outline that about 15 million of the decrease this quarter is the mix of revenues. So, when you think about the net interest margin, that has a significantly lower payout ratio, and client facilitation is of the same. So, next quarter and the quarters after depending on the mix of those elements opposite these businesses where we do have higher payouts, because it is production that will be a factor. So it is hard for me to give you a crystal ball about that mix, but obviously in Jon’s remarks, what he says, I want to be more of a broker dealer than just a broker.

Rich Repetto – Sandler O’Neill

Got it. So, when rates do go up, I just am assuming that the comp ratio would even be more positively impacted?

Jon Corzine

Remember the slide that I did on interest rate sensitivity. That actually was one of the metrics that came out of that interest rate sensitivity, and it had a 4% Fed funds rate hiatus with a floor handle for that ratio, that compensation ratio.

Rich Repetto – Sandler O’Neill

Yes, my other question is Jon, you know, this increased customer facilitation is amazing, the results you are getting with a lower balance sheet, lower VAR, or equal VAR let us say, and I guess my question is are there any other risk metrics, because there are certain you know, are the VAR, lower balance sheet, in your opinion capturing the risk picture? Are there any other metrics that you could offer investors?

Jon Corzine

You have to stress your positions to a worse case, and I think you want to look at turnover ratios. Ultimately, we are very keen at this stage to make sure that we are only operating in the most liquid markets, foreign exchange, and actually not very much in our emerging market activities yet, in US Treasuries, all the exchange traded derivatives with the commodity markets where there is a lot of price volatility, there is actually fairly deep markets for entry and exit.

So, in the next, I don’t know, 4 to 6 quarters, as we build out our long-term business strategy and strategic plans, I think you will see us mostly in a high velocity space in the trading markets. We have not increased a penny in our Tier III assets, and we are not in any significant way even adding Tier II assets. So, we are keeping a very liquid balance sheet, I think those are the kinds of metrics that turnover statistics, and making sure that we actually have viable stress test against positions.

Rich Repetto – Sandler O’Neill

Thanks. Very helpful, and congrats on the improvement here.

Operator

We will now take our next question from Niamh Alexander with KBW.

Maria – KBW

Thanks and congrats, Maria [ph] KBW. And if I could just, you know, the restructure I guess so quick and so impressive here in the compensation ratio, but as well as that in people and its businesses. So, Jon I guess you touched on a little bit inter quarter, but help me understand where you like to go next in terms of building from here, and you know, you have the capital from the equity raise. It looks like you are going to use some of that to pay down debt, but help me understand where do you see things going next, but maybe it is not in our current models.

Jon Corzine

I think our emphasis are on two of the most fundamental parts of the business. One is we have to broaden and deepen our client relationship. We need more throughput in our system. I guess you could say that is market share, but frankly I think there is a qualitative nature to the business you do, as well as just the absolute numbers on market share. And we are spending a lot of time, I think you are well aware of some of the things I have done on some of my travels, and there will be more of that in the quarters ahead, as there will be by our senior people across the firm to both deepen and broaden our relationships so that we have the opportunity to be a risk intermediary, I think in a more productive way than we have.

That is why I gave emphasis to what we have done on that retail planning process to refit and get us further down the road on our basic retail and our net worth clients, and other activities. The same thing will be done in the next several weeks with regard to our institutional client base, because I think that is fundamental to our long-term success. We want to be client driven.

The second element of how we are going to grow revenues is then managing that risk intermediation process profitably for the firm. You looked at Randy’s charts where we generated revenue that is up 62% in matched, principal and trading activities. But about two thirds of that is actually traditional matched, principal activities and only about 10% is what anyone would classify as trading.

We need to grow that certainly in a 5% to 10% basis over the next quarter, and I think that can have very, very meaningful impact on our quarterly earnings. And that must be totally integrated with our client driven activities. And that is exactly what we are working on, and I think that is where growth will occur. We have had a very – the marketplace has had a very slow kick off in this quarter with respect to commissions and volume on exchanges. I think most of you know those numbers, and (inaudible) down, something like 11% July over June.

It has been a pretty slow period, and August is not particularly a high volume month. So it is important that we be focused on moving up our abilities and capacities in this principal risk-taking basis, which I think is very much there, and the opportunity with our client firm, client balance is also with an increasingly general consensus that the Fed is not going to be tightening. In fact, the big debate is quantitative easing and I think gives you a little more confidence on what you can do with client balances.

So, we see even in a quarter that traditionally would have been very challenging for MF because of commission falloff and volumes is one where we are comfortable, where we have the ability to perform to the bottom line.

Maria – KBW

That is really helpful. Thanks Jon. And I guess as a follow on to that end what helps it would be the rating, especially with respect to the client balances, but also may be with respect to principal. I understand that the last thing that the rating agencies needed to see, and to get more positive, not the kind of knockdown rates you provide us, kind of look the other side of it, was to deliver GAAP earnings, is that still the case, how should we think about, is it a few quarters, is it – do you think that the discussions are turning very much more favorable?

Jon Corzine

Well, we have had discussions with the rating agencies. I think they appreciate the fact that we took the steps that we took with both regard to liquidity management and capital management. I think they can appreciate that there has been some significant change in our earnings profile. But they want to trust and verify at the same time, and I think that has got some timeframe associated with it.

You will have to ask them how positively they feel about it, but I think that the story speaks for itself in the context of an improving credit situation where internally generated cash, or internally generated capital is taking place and we need to make sure, as I said in my call, the mantra is earnings, earnings, earnings.

Maria – KBW

Okay. Thanks and congrats again.

Operator

We will now move on to Chris Allen with Ticonderoga.

Chris Allen – Ticonderoga

Good morning guys.

Jon Corzine

Hi Chris.

Randy MacDonald

Hi Chris.

Chris Allen – Ticonderoga

I wanted to focus a little bit just on the thick book, which you brought down fairly meaningfully, but saw the spreads pick up and Randy you gave some color in terms of how that occurred, I just wanted to think about that book going forward in terms of how the environment is looking into the next quarter, and how to think about that moving forward, and I guess just overall, obviously due to strong industry volumes this past quarter, things look a bit softer into the next quarter, but how do you see kind of the environment right now as we move forward.

Jon Corzine

Well, Chris, the last quarter was very active in the first half of the quarter. June had a pretty sharp fall off in volume activities. I don’t think I have to tell you that. I think the CME was down 29% June over May, and so there was a pretty steep fall off in activity from month to month. Good quarter, and now we are in summer season, which tends to have lower volume. So, I think as I suggested to the previous questioner, we need to make sure that we are focused on those client balances and how we maximize their benefit, and we move further down the road in our principal activities as a safety valve against the revenue challenges that are associated with commission.

By the way, as I tried to say very clearly we have also lost some producers in this area as we have taken this very strong position with regard to how we are managing our compensation structure going forward. I think some of that was inevitable. You all asked a lot of questions about that the last time, and we indicated we thought we would make it up with other actions. I think we will restore much of that by bringing new younger people in or more productivity out of some of the folks that we have been able to retain in those areas. But there is a transition that is going on here.

I’m still quite confident, we will be able to move in a more sustainable basis to profitability, because we have added functionality. We have added something new and we will be adding more things that are part of the strategic plan that we will be rolling out. And we are not going to wait to get a completed strategic plan, when we see things that we can implement we will be doing that as we go forward.

Chris Allen – Ticonderoga

Okay. And just if Randy can provide some color just on the thick book, I mean, I know you guys have talked about the yields, about 60 bps being kind of the upper end of the range if I recall correctly. I mean, is there any reason to expect that to fall off, in current levels moving forward if the environment remains somewhat stable?

Jon Corzine

Well, we are going to continue to look at opportunities that present themselves. Last quarter, we had the European Union taking a very strong stand at supporting the peripherals. We believe that not with every country, but with differentiated amounts of commitment, short dated participation in sovereign debt made sense at a basis that was betting the ranch, but was improving our yields. And that helped substantially, and that continues to be the case, and we will keep an eye on how strongly we think the stop [ph] is of participation by the authorities in Europe, but we will do that.

We see opportunities in several of the mortgage related markets, which I think Randy has talked about previous quarter and still are available, and you might have more confidence with that in the current environment than you do in other environments where you have less certainty about when the Fed will next move. That has certainly been stretched out with a high probability, and bank deposits are yielding more the globe than they have in a significant period of time. There has been some pickup in those spreads. So, we think there is still good opportunity for us to grow, not dramatically, but within the context of where the book is today, add revenues to it.

Chris Allen – Ticonderoga

Great. Thanks a lot guys.

Operator

We will now move on to Howard Chen with Credit Suisse.

Jon Corzine

Hi, Howard.

Howard Chen – Credit Suisse

Good morning Jon and Randy. Congratulations on all the progress during the quarter.

Jon Corzine

Thank you.

Howard Chen – Credit Suisse

Jon, I guess you touched on this a little bit in various points, but just a lot of focus in your commentary on revenue growth, and as we just try to establish a baseline to gauge franchise progress in here, just hoping to get your thoughts on how much in your mind in the June quarter is environmental related, how much do you equate to the kind of that loss of commission revenues from the headcount reductions, and how much is improvement from the principal side?

Jon Corzine

Well, we were able to stay with the market in most parts with regard to commissions. Randy explained it, our volume was not up as much as some of the exchange volumes were in particular areas, so we were a little less effective in maintaining our market share than I would like, (inaudible), for instance, very significant fall off. Some of that, where our people concentrate their efforts, and two, we lost some producers that were most affected in that. We will address those shortcomings, so I think we can replace some of that loss, because of turnover of personnel, I think to be – the quarter is not going to be a high volume quarter.

It is just not going to compete with what we saw in the June quarter with regard to volumes. We intend to, as I suggested, move up our trading contribution to the overall revenues. It has a different probability associated with it than commissions, but I think probably not the next few steps, because as to tried to say, we are not taking enormous market risk in executing our strategy, and I don’t see that changing dramatically in the next quarter, and we were pretty easily able to add some principal revenue last quarter in this trading area, and really are just getting started.

And we don’t have a number of key positions across the globe to execute this get in place, and as I tried to allude to in my remarks, this will be a quarter that shows that we are able to get quality additions in places, where we think we need to add strength. So, I feel good about that, and I fully would expect that knowing you can take 5% to 10% of our revenues someplace in that range, and anticipate that we will generate that out of that trading book, and now that make up for a lot of lost volume on exchanges.

Randy MacDonald

And the other thing Howard is you know, we’ve talked about bringing in (inaudible) you ran equities at BoA, you know, he has ramped up but it is still nascent the equity business. So, it is tough in this summer to ramp up businesses, but you know, we’ve seen some successes there. So, over time you know, we’re – although that was the flagship product, interest-rate products. The fact of the matter is that we’ve got to be much more diversified as a firm and our dependence on that. You’ve seen that over the last year. I mean, we’ve steadily increased other aspects of our business and that was by design. So the fact that this all got accelerated in this quarter, I think is a good thing.

Howard Chen – Credit Suisse

Agreed, thanks. That’s very helpful Jon and Randy, and then switching gears, on the longer term goal to deliver ROEs, do you think the adjusted 10% is more or less sustainable just from the cost-cutting initiatives and I will just be curious to get your thoughts there.

Jon Corzine

Everything has some market environment factors that have to be considered. What we have done is put flexibility enough into our system now that our costs will go down if our revenues go down, and we’re very confident we will be dropping a lot more to the bottom line as we grow our revenues, and that’s both our intent, and we think we’re in a position to do that and we will be unfolding these strategic changes that summer alluded to.

I would even expect sometime over the next 4 to 6 quarters, you’ll see another element or functionality of generation of revenues, mention one briefly, a fee-based activity that we’re taking on was BNY Mellon, and there are other small initiatives that were playing out there with regard to a CTA fund, which we are taking on in Taiwan, which is a new addition. We’re going to make sure that we can manage that effectively and you might see us be more aggressive in generating fee income in a number of areas that the firm hasn’t previously been involved in, but those won’t be next quarter, but over a period of time I think you’ll see that, and I have every expectation that we will be sustaining higher returns on equity than what that adjusted number is, and that effect wouldn’t be satisfied in any sense with that 10% number that Randy laid out.

Howard Chen – Credit Suisse

Great, thanks John and congratulations again.

Operator

Our next question comes from Roger Freeman with Barclays Capital.

Ken Kosin – Barclays Capital

Hi good morning guys. This is Ken [ph] for Roger.

Jon Corzine

Hi Ken.

Ken Kosin – Barclays Capital

Hi. Just had a quick question on the follow-up on the pricing and some of the pressure you felt there on the exchange volume front. You mentioned that was mostly negatively impacted by the professional trader segment. Just kind of wondered if you have seen a shift in that segment this quarter, some of the weaker flows from the retail institution volumes, and then also are there any steps you can take over the next few quarters or longer-term that could potentially stabilize that rate per contract going forward?

Jon Corzine

Well, I think it was, although it is about 10% which is sort of what I would consider the high end of just an exchange. You had the (inaudible) volumes coming down, and the combination of that with more of the professional traders, especially the IT network going up. That was just mix. That wasn’t what I would consider to be pressure on rates. So I don’t consider that to be really accurate, when it comes to pressure on rates. So to me that was not systemic.

Randy MacDonald

I will say on a longer-term basis, and I hope that is clear from how we have begun our strategic planning roll out process. Is that – we are going to the areas where we believe there are the highest margins in our client-driven business. That’s why we turned first to how we more properly and appropriately and profitably integrate a single phase to our retail activities, how do we broaden it, how do we make that an underpinning to the generation of this commission flow because we bring real value add at electronic platform which we intend to use. It’s a distribution platform for the whole level of activity. I think, has the potential to enhance our commission dollars in a way that – I don't think we’ve had a plan on how to do that other than just add (inaudible). I think we are really – we are in the early stages of that, but I am quite optimistic about it. And it will provide a platform and format for us to take it more deeply into institutional client base as time unfolds.

Ken Kosin – Barclays Capital

Great. The next question is just kind of switching gears to the headcount reduction, you mentioned in the press release should reduce by about 12%. As for the timing, where those reductions in there for most of the quarter? Then could you give any color as to the breakout, like how much maybe sales force was impacted by the reductions versus maybe some other – more of the back office functions, maybe just a split or just general.

Randy MacDonald

Yes, let me help you a little bit. The schedule that we have in the presentation materials – that slide at top left, what’s that page number 5, 6, 8, got it – so slide 8 there at the top left – if you look at the quarter, we were estimating that the number would be much lower, 2 million to 5 million; we came in at 10 million. So that’s sort of the answer to your question about how much impact. Then if you go back to my remarks, I mentioned that it was about a $2 million to $3 million impact of going from partial quarter to full quarter.

So I sort of covered that between that slide and my remarks. If you look at the annualized estimate, 10 times 4, that’s 40 low. If you look at the high end of our range, it’s 50. So the answer to your question is, yes, we did a good job of getting this done early in Jon’s administration. We sort of hit the ground running on that. It was – the headcount reduction was across the board, I would say, for the producer areas.

It’s probably more the 80-20 rule; it’s 80% of your revenues come from 20% of your producers, and I think based on two things going sort of contract-by-contract review of person-by-person is one way used to do that, and the other way is to just cap the pool and sort of force the senior management of each area to really think hard about whether it’s – you have the right talent. So we were able to effect that reduction in workforce across the entire population.

Ken Kosin – Barclays Capital

Great. Thanks.

Operator

We will now move on to Ken Worthington with JP Morgan.

Ken Worthington – JP Morgan

Hi, good morning.

Jon Corzine

Good morning, Ken.

Ken Worthington – JP Morgan

First for Jon. As your bidding for the business comes together, how essential is the FCM to the future of MF?

Jon Corzine

Very important. I think given the new regulatory environment it’s even more important than an aspect. We like the collection of client balances as a concept. I think it’s a terrific call on revenues in the future. We think the whole concept of clear instruments and transparency that comes with exchanged activities is good for the marketplace, good for us. We have good knowledge about it, good know-how within the firm. Absolutely essential, just not the only aspect of what we want to be when out of my way to make sure that people understand that we are more than just a broker.

Randy MacDonald

I think Jon did a good job of explaining in his remarks what we just went through was sort of systemic failure on the collateral aspects of our business. And I think lot of the change in market regulation opens the door for FCMs areas [ph] to participate in centralized clearing and I think there is lot of opportunity for us.

Ken Worthington – JP Morgan

Great. Then moving on to the relationship with the Bank of New York, what services are you actually providing to them? What are you getting back? This new SCM, to what extent are they going to be in areas that compete directly with your FCM?

Jon Corzine

Well, it’s actually fairly simple. I think they’ve had a highly successful strategy of being a custodian and they want to continue to do that. However, their clients do require that they have a full menu of opportunities including an FCM. They have realized that they need to outsource that. And their certain aspects are just about everybody’s business where you are not going to be an expert buy you need to provide that item on the checklist. So they’ve outsourced their FCM business to the firm that they thought could do the best job.

So I don't see any real channel of conflict and of course in thinking forward about relationship with someone who has a big balance sheet and really does a great job of managing large numbers of assets, we view that relationship as having a lot of potential.

Ken Worthington – JP Morgan

Okay. How the economics work?

Jon Corzine

Well, we disclosed the relationship and not the economics. So I would say that it’s not enough that we would have meant. If it was that significant, we would have mentioned it on the call.

Ken Worthington – JP Morgan

Okay. Fair enough. Thank you very much.

Operator

We will now go to Mike Carrier with Deutsche Bank.

Mike Carrier – Deutsche Bank

Thanks, guys. I look at the revenues; it looks like the big outlier in the quarter was on the principal transaction side. It’s in line with what you guys have been saying in terms of where you are looking to expand. I think from the outside it’s challenged because the principal transactions business tends to be the most volatile and it’s the tougher one to gauge and try to figure out exactly what’s going on.

So if you look at the drivers in that business, and say, you have velocity, spreads being on the right side of trades, and then market share with client. Probably the market share with clients which you alluded to is the one that you pay more for. So going forward, maybe not just in this one quarter, but how should we try to gauge that gaining traction with clients versus just being on the right side or doing well on the principal side?

Jon Corzine

Well, there are market share numbers. When we hopefully in the months and quarters or some point of time, had the primary dealer you will be able to measure what our client business is versus our professional transactions. You should see some of that activity by some growth in exchange activity in those areas where we are serving underlying principal markets as well. For instance, our level of activity in the CME NYMEX space would be the indicator if you were looking for objective evidence.

I think how we go about reporting whether we begin to show up in underwriting activities, there are going to be – it will be a collage of activities on what we are able to demonstrate sort of independently. I would say the kinds of statistics that I talked about the bar where it sits on, how is that grown, which are turnover statistics. Those are ways that you can measure. What is the usage of regulatory capital? That’s why we try to lay that out.

Mike Carrier – Deutsche Bank

Okay. It’s helpful. Then Randy just real quick on the comp ratio, you gave a lot of the different variables and if we assume a more normal mix of revenues, just wanted to make sure are you thinking in the near term something in like a mid-50% range? Then over the next four to six quarters, still have the goal to be at or below that 50% target?

Randy MacDonald

I think that’s fair.

Mike Carrier – Deutsche Bank

Okay. Thanks a lot.

Jon Corzine

Thank you everyone for joining us and look forward to talking to you in another quarter.

Operator

Ladies and gentlemen, thank you for your participation in MF Global’s fiscal first quarter 2011 earnings conference call. This concludes the meeting. You may now disconnect. Have a 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: MF Global Holdings Ltd. F1Q11 (Qtr End 06/30/10) Earnings Call Transcript
This Transcript
All Transcripts