Bank Shot: Jefferies’s Compelling Valuation

| About: Leucadia National (LUK)

Jefferies Bank (JEF) is a full-service investment bank and securities firm with a middle-market focus. Jefferies offers capital-raising, merger and acquisition, restructuring, and other financial advisory services. The firm also provides trade execution services to its clients, specializing in smaller, less liquid securities. Jefferies operates an asset-management unit and separately runs three high-yield funds.

Solid Quarter On Top of Dynamite ‘06

JEF reported robust Q1 results on Tuesday, with most of the fuel coming from the firm’s investment banking and trading units – EBIT margins held steady at 25%. Q1 EPS of 42c beat the Street by 2c and the top line also beat cons. We think the firm has made great strides @ diversifying its operations and deepening up both its M&A and research practices. JEF’s weakness is also its strength – it commands a profitable niche in the middle market arena. Thus, JEF’s net revenue growth has been cooking & we like how 50%+ of the shares outstanding are employee owned: JEF has its own skin in the game – CEO R. Handler even manages funds aside from his day to day job.


JEF is an overlooked tadpole in a gigantic pond. Jefferies cranked out a 20% 3Y revenue CAGR and currently trades a less than 2x sales, which entails a misalignment between itself and its peer group, which fetches, on average, 3x sales. JEF should earn b/t $1.75 and $2.00 in 2008 – at a forward multiple of 19x, that puts the stock at $35, conservatively. Clearly, JEF is trading an anomalous valuation given its impressive growth in 2006 & early 07 (which it accomplishes without excess debt, we add).


Market cyclicality, related transactions, high exec compensation (54% of revs), and high yield accounts being managed by CEO Handler are some of the risks in investing in JEF. To offset that, however, are JEF’s strategic tuck in acquisitions (investment boutiques) as well as its puissance in a less competitive, smaller Wall Street niche.

Summary: Call Activity Piques Our Interest

On Wednesday, call activity on the April and May 30 strike was overwhelming. Shares went off a clip, trading over 4.5x average daily volume. The calls our betaCRACKER™ screener picked up on at the open (over 11,000 April and May 30 calls were gobbled up Wednesday) were much higher than the open interest on their respective strikes. Our sources on Wall Street have told us that Jefferies may be considering a sale, and the option action on Wednesday is reassuring, to say the least.

Disclosure: Author was long the JEF May 30 calls as of writing.