Sanders Morris Harris Group Q4 2007 Earnings Call Transcript

Mar. 7.08 | About: The Edelman (EF)

Sanders Morris Harris Group Inc. (SMHG) Q4 2007 Earnings Call March 7, 2008 10:00 AM ET

Executives

George Ball - Chairman

Ben Morris - CEO

Rick Berry - CFO

John Unger - SVP and General Counsel

Analysts

Dan Fannon - Jefferies

Devin Ryan - Sandler O'Neill

Operator

At this time, I would like to welcome everyone to the Sanders Morris Harris Group fourth quarter earnings teleconference. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (Operator Instructions)

I will now turn the call over to George Ball, Chairman of Sanders Morris Harris Group. Thank you Mr. Ball. You may begin your conference.

George Ball

Thank you, operator. Good morning, everybody. Welcome to Sanders Morris Harris Group's earnings release conference call for the fourth quarter of 2007. Please let us know if there are any technological glitches please.

With me today are Ben Morris, Chief Executive Officer, Rick Berry, CFO and John Unger, Senior Vice President and General Counsel.

In just a moment I'm going to turn the call over to Rick. He will discuss our financial results for the fourth quarter of 2007 and it will be followed by a question-and-answer session.

Before we begin, I would like to take this opportunity to remind you that during the course of this conference call, we may discuss some non-GAAP measures in talking about our Company's performance. You can find a reconciliation of those measures to GAAP measures in our earnings press release; now, to Rick.

Rick Berry

Thanks George. I'd like to remind you that statements made during the course of this call that are not purely historical are forward-looking statements regarding the company or management's future intentions, hopes, beliefs, expectations, and strategies for the future. Because such statements deal with future events, they are subject to various risks and uncertainties and actual results might differ materially from those projected in the forward-looking statements.

Important factors that could cause actual results to differ materially from those in the forward-looking statements are discussed in today's press release and in our annual report on Form 10-K and quarterly reports on Form 10-Q filed with the SEC. You should not unduly rely on these forward-looking statements and we assume no obligation to update them.

You should have had a chance to review our earnings release. It outlines in some detail the components of our fourth -quarter results. I won't cover that material at any length therefore, but will answer any questions later.

We had a fourth quarter loss $596,000 or $0.02 per diluted share, compared to net income of $2.6 million or $0.11 per diluted share during the prior year quarter. Revenue during the 2007 quarter was $48 million versus $41 million during the fourth quarter of 2006, up 17%.

Earnings for the full 2007 year were $5.1 million or $0.20 per diluted share, compared to $3.4 million or $0.16 per diluted share during 2006. Revenue totaled a $186 million during 2007, up 11% from $167 million in 2006.

Fourth quarter pretax profits in our Asset/Wealth Management division jumped by 73% over the year earlier quarter, with revenue growing by 34%. Asset/Wealth Management accounted for 64% of the company's revenues during the 2007 fourth quarter, up from 56% in the same period in 2006.

Edelman, Salient Partners, and our Wealth Management units, all did especially well and none of them did poorly. Their respective earnings were up 70%, 104%, and 117%.

Along the same line, we also announced yesterday, the acquisition of 50% of Leonetti & Associates, a wealth manager with approximately $400 million under management as a further step in that direction.

Our high-yield bond unit SMH Capital Advisors had a year-over-year profit increase of $1.1 million or 43%. So, its contribution to our net income was very good. On the other hand, as we have previously announced our investment is hedge fund failed by $5.8 million in value in the 2006 year with $3.1 million of that decline in value in the fourth quarter. The fund was hurt by the high yield market overall by the leverage inherited hedge funds by industry concentration and in common with many other similar funds hedges that did not hedge.

We have gone through its portfolio bond-by-bond in some detail. The unit has a 10 year record of extremely low default rates. We believe its superior credit value relation acumen is undiminished. When bond market does settle, we think SMH Capital Advisors and its hedge fund will once again have shown it has chosen its investment well. But of course only time is going to prove or disprove those pieces.

Our capital markets business as you have seen had a small loss in the fourth quarter compared to a $748,000 profit in the 2006 quarter. Disappointing results in investment bank were the primary cause, the climate for offerings and for mergers was difficult. We had expected better than good banking results in the quarter, however we were unable to close several sizable deals although we hope that some or all of those will ultimately be consummated. That said the dealer environment is still challenging.

We realized the equity markets value are two primary businesses, asset wealth management and capital markets quite differently. We believe many investors have historically viewed our stock is being more that of a traditional brokerage firm. Many also prepare so called pure-plays. As a result, we have been studying the possibility of separating the two business units, probably by a spin-off. There are number of tax of company costs, structural and organizational issues involved. Before recommending a course to our board we want to be certain all of the ramifications.

The possibility of the separation of asset/wealth management in capital markets let me stress possible. The simply a recognition that the two businesses has may well carry a higher shareholder values separately been together. If a division does occur we will do everything to ensure that job continuity, product access in the current working linkages continue unabated.

A number of other companies in our business have done so successfully, hence there are ample blueprints to follow to help maintain the inner workings and provide employment security for those, who have made our firm strong.

With that we will be please to answer any questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Dan Fannon with Jefferies.

Dan Fannon - Jefferies

Thanks for taking my question. In terms of the separation of the two units, where are you in this process something you guys are just starting to think about here in 2008 and you've been contemplating this for a while. And then also, in terms of your ownership interest for your asset management business, will you have to go and receive approval from the different entities in which you have stakes in and do you see that as a hurdle in terms of getting any type of spin-off approved?

George Small

Dan, it is George. Let me speak to the first part. It's something that we have been first talking about and then studying for probably six months, more intensively of late obviously. We have gone in terms of revealing the macro elements in to some debt though internally with other advisors.

We are now in verge in the process of talking to tax advisors, to our outside accountants, to attorneys and others about the very considerable detail, that is as Rick mentioned is an important part of deciding a whether or not to do a spin-off and be also very importantly exactly how you do it. How would capital be allocated? And how would people be allocated? How do you avoid making tax mistakes and in a few cases what elements of the firm would be considered capital markets and which might be considered asset in wealth management? So, we are well in embarked in to the process but we certainly have not completed it.

As to the question of other we'd require approvals let me turn to John Unger our Chief Counsel.

John Unger

Well, to do a spin off just of capital markets essentially would just be your creation of an entity that we spun off to shareholders and that would not require your consent or any of our, internal field managers.

Dan Fannon - Jeffries

Okay. And then, can you just give me the AUM number that you guys had at the end of the quarter?

John Unger

It's right at $17 billion.

Dan Fannon - Jeffries

Okay. And just in comparison what was it last quarter?

John Unger

It's around $16 billion.

Dan Fannon - Jeffries

Okay. So I mean given what the market did, it's safe to assume you guys had some in addition to acquisition, that you had inflows in the quarter or…?

John Unger

Net inflows definitely yes.

George Small

Yeah, we had net inflows in -- [Steve Cordell] is here and I think most of our units, now the strongest inflow source was continued superb results at Salient Partners. But Steve, I think the others had…

Steve Cordell

Except for of our high yield….

George Small

Yeah.

Dan Fannon - Jeffries

Okay.

Steve Cordell

If you just look in there, there was more market evaluation than it was outflow so.

Dan Fannon - Jeffries

Okay. And then, could you lastly give some commentary around the Leonetti & Associates deal, in terms of the margins and what the mix of assets that they currently manage?

Ben Morris

Yeah mix of assets is a fairly planned in [L&A], If you wanted to stick a barometer to it, the best one would be a 60-40 S&P 500, Lehman Brother’s intermediate term sort of index. It is a wealth management unit. They have about $430 million under management. Their margins are poised to grow from two different really causes.

One of them is that he has a new entree and specialty somewhat developed, but now inflow is coming from neurosurgeons and practices of neurosurgery groups across the country. The other is that there's just operational efficiency that we seek to gain together with him post acquisition. And those are largely off loading a lot of administrative duties to us, and allowing them to focus more on the client end and in the asset management end. We also think that the margins firm-wide accrete slightly from this because they are users of some of our proprietary investment vehicles as well.

Dan Fannon - Jefferies

Okay, great. Thank you.

Operator

(Operator Instructions) Your next question comes from Devin Ryan with Sandler O'Neill.

Devin Ryan - Sandler O'Neill

Sorry, if I missed this, but can you give a timeframe on when do you like to have the review of the separation of the capital markets and asset management business actually completed?

Rick Berry

We think we'll take two or three months to get through the review and reach some sort of conclusion.

Devin Ryan - Sandler O'Neill

Okay. Moving over to your investment in the high-yield hedge fund SMH asset management credit opportunities, I appreciate the color that you guys gave, but just with high-yield spreads continuing to widen in the first quarter. Is it safe to assume that there maybe continued write-downs if the environment doesn't improve from here?

Ben Morris

Devin, its Ben Morris. We, in January did show some deterioration. We have seen some firming of the taxes in February and hopeful that those process will continue to firm in March. We hope towards that is behind us, no assurances to that effective course, but it would like to, what I saw in February numbers that I just look at, I think yesterday or the day before.

Devin Ryan - Sandler O'Neill

Okay, great. And in investment banking you also noted that you unable to close sizable deals in the quarter, with these equities underwriting offerings or advisory deals and what factors where they from, and I guess secondly, are you seeing any increase in activity on energy side just given how high oil prices are currently.

Ben Morris

Well, on the intentional question that will both M&A assignments and more private equity and public equity deals that we didn't close. As George mentioned the challenge in the financial market right now is well it is challenging, to keep to get these things close. Our energy practice, although, strong continues to be a bit volatile. We have some very interesting opportunities there, but to some extent we face the same challenges we do in other industries.

So, I'm cautiously optimistic about the first six to nine months of this year. I'm not too optimistic about the first quarter in terms of closing, but I think our backlog to close over the next six or nine months. Even assuming the current financial markets and the nature of these assignments we have -- we are encouraged.

Devin Ryan - Sandler O'Neill

Okay. And finally if prime brokerage expenses increased 28% sequentially, while revenues increased 17%, was the expense increased compensation related and then also what drove in the strong prime brokerage revenues in the quarter as well?

Rick Berry

Devin, in each of our business units, we have various compensation arrangements that fit the particular needs of that business and those managers. And the Concept division or prime brokerage segment, there is a compensation arrangement in place in which over the course of a year, we split the first certain amount of profits with managers. There is a following segment of profits that we keep 100% then there is another segment of profits that go to the mangers 100% and then we split again, so, it's somewhat complicated.

You don't know as you go through the year just, where we are going to end up in that business, so it's difficult to try to project and match and allocate and [splice the dice], the earnings. So we record those as they go. And it so happens that business has been a very strong business for us. It is a sort of the shining star in the capital markets part of our business and when we got to the fourth quarter it was a very profitable quarter for that business but under the compensational arrangements all of those profits belong to the managers.

Devin Ryan - Sandler O'Neill

Okay and then from the revenue prospective what drove such strong revenue? Was it more hedge fund clients or was it the volatility just in the markets, revenues looked -- very strong demand, I am just trying to get some color on that?

Rick Berry

Devin, the answer is, that with increased volatility in the market are base of hedge fund clients who were trading more actively that was part of it. We also added several, I think four or five or I am not certain of the exact number, of hedge funds they were of more than seed capital size. So there was organic growth in the volatility in the markets meant that the existing bunch were trading more actively. This is doing very well right now.

Devin Ryan - Sandler O'Neill

Okay great. Thanks for taking my questions.

Operator

(Operator Instructions)

George Small

All right if there is nothing else thank you everybody we appreciate it and we will be talking to you certainly within three months. Thanks very much. Bye, bye.

Operator

Thank you this concludes today's conference call you may now disconnect.

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