Cowen Inc (COWN) 2006 Q4 法說會逐字稿

Good morning, ladies and gentlemen and thank you for joining the Cowen Group, Inc. conference call to discuss the financial results for the fourth quarter and full year 2006. By now you should have received a copy of the company's earnings release which can be accessed at the Cowen Group Inc. website at www.cowen.com. If you do not have internet access and would like a copy of the press release, please call [Suon Lee] at (646) 562-1846.

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

Also, on today's call our speakers will reference certain non-GAAP financial measures which the company believes will provide useful information for investors. Reconciliation of those measures to GAAP is consistent with the company's reconciliation as presented in today's earnings release.

Now, I would like to turn the call over to Mr. Kim Fennebresque, Chairman and Chief Executive Officer, who is joined today by Mr. Tom Conner, Chief Financial Officer.

Thank you. Good morning, and thank you for joining our conference call. I'm going to start this morning with our results for the fourth quarter and then spend some time discussing a number of highlights from both the fourth quarter and the full year that are indicative of our long-term strategy for continued growth. I will then turn the call over to Tom, who will review the financial information for the quarter in greater detail before we take your questions.

I would like to start by saying we are pleased with our solid performance for both the quarter and the year as well as with the steady progress we are making in strengthening our franchise in important areas. For the fourth quarter 2006, revenue increased to $96.8 million, up 20% from the prior year period on strong performances from investment banking and the solid performance from our sales and trading group. Net income for the period was $7.1 million, up $7.7 million from a net loss of $600,000.00 in the fourth quarter of 2005.

For the full year, total revenues were $344.4 million, representing an increase of $50.1 million, or 17% from $294.3 million in 2005. Net income for 2006 was $37.8 million, up 213% from the prior year. I would like now, to focus on some highlights from the fourth quarter and the full year that I believe underscore both the strength of our existing platform and the initial steps we are taking to transform our business by executing on a long-term growth strategy.

Our disciplined asset allocation strategy and new business initiatives on our trading floor are yielding results as evidenced by an 8% year-over-year increase in sales and trading revenue. We are particularly pleased with the results here as it demonstrates the efforts we've made to enhance our sales and trading operations despite industry wide pressures on the cash equities business.

We had a solid quarter and full year of public capital raising executing 26 equity and convertible transactions in the fourth quarter, compared to 16 in the prior period, and 67 equity and convertible offerings for the full year as compared to 50 transactions in 2005. Our private placement franchise continued to perform throughout 2006, executing 14 transactions in the fourth quarter compared to nine in the prior year period and representing the single best quarter in Cowen history, both in terms of number of executed transactions and proceeds raised. This performance really does speak to the strength of our franchise and this product.

For the full year, Cowen executed 38 private capital raisings, compared to 25 total transactions throughout 2005. We continue to attract exceptional professionals to strengthen our existing platform as well as build out our franchise. Recent additions include Kevin McCarthy, who joined Cowen in November as general counsel, with extensive experience as an attorney including work at two major law firms and at Credit Suisse where he was global head of litigation.

In a significant step towards building out our alternative asset management practice, we formed Cowen Healthcare Royalty Partners; hiring professionals with extensive experience financing the commercialization of drugs through royalty structures. We are confident that these professionals will be strong contributors to our asset management business and healthcare franchise.

We recently established a new alternative energy group consisting of a team of industry experts across the company's investment banking, research and trading divisions. We have been the leading investment bank within the sector, completing more transactions and raising more capital than any other Wall Street firm since the beginning of 2005. I'm confident that by dedicating a group of talented individuals to this sector, we can expand our market share and meet the increasing demand for our services in this burgeoning industry.

As you can see, we are committed to building upon our existing platform by selectively adding new products, exceptional professionals and complimentary business lines. I would also note that as a newly independent company, we are now able to implement improvements to our existing business that were previously not permitted as a subsidiary of a larger organization.

For example, I am pleased to announce that we have successfully completed our conversion to a new clearing agent, National Financial Services last month. We believe that our conversion to National Financial Services will make us more efficient and we know that it will allow us to reduce costs. I assure you that we will continue to examine the way we conduct business in an effort to make improvements and or reduce costs.

As previously discussed in our third quarter earnings call, we anticipate that we will reduce our non-compensation expenses by between $5 million and $6 million in 2007, excluding expenses associated with new initiatives that have not yet been identified. What you are seeing from Cowen today is an indication of a steady progress we are making inside the business each day.

The strong performance this quarter is a reflection of the ambitious goals that we have set for ourselves and part of a mandate I have given my senior management team. One step at a time, these goals are being achieved. We are pleased with the quarter and encouraged by the solid start to 2007.

I would now like to turn the call over to Tom Conner, to review the financial results in more detail.

Thank you, Kim. For the quarter ending December 31, 2006, total revenues were $96.8 million, representing an increase of 20% from $80.6 million during the same quarter of 2005. Revenues for the full year increased $50.1 million or 17% to $344.4 million as compared to $294.3 million in 2005. Investment banking revenue for the fourth quarter was $53.1 million, an increase of $17.2 million, compared to the same period in 2005. This increase primarily reflects higher transaction volumes in both our public and private capital raising activities offset slightly by a decrease in our strategic advisory fees.

Compared to the prior year period, revenue from sales and trading for the fourth quarter increased $0.7 million to $38.7 million. Our fourth quarter sales and training revenue increased primarily due to higher over the counter equity volumes as well as revenue from trading listed options. Revenue from interest and dividend income for the fourth quarter was $3.2 million, compared to $5.4 million in the same period last year. The decreased of $2.2 million resulted from lower average interest bearing assets partially offset by higher interest rates during the fourth quarter of 2006.

The reduction in interest earning and assets was a result of our returning capital to SG in connection with our IPO. For 2007, we anticipate that our full year interest and dividend income will be approximately $7.5 million. Turning to expenses, our compensation and benefits expense was $58.8 million in the fourth quarter compared to $54.5 million in the fourth quarter of 2005.

The increase was primarily attributable to the application of our compensation to revenue ratio to higher revenues in 2006 and $2.6 million of expense associated with the initial grant of equity to employees in connection with our initial public offering. This was partially offset by the accrual of compensation expense in the fourth quarter of 2005 related to a profit sharing arrangement with our former parent. Excluding the expense associated with the initial grant of equity, compensation and benefits expense represented 58% of revenue in the fourth quarter of 2006.

For the full year, our compensation and benefits expense was $215.4 million including $5.2 million in expense associated with our initial grant of equity to employees in connection with the IPO, and $10.6 million of expense related to accelerated vesting of certain differed compensation plans as a result of our separation from SG. Excluding these expenses, our compensation and benefits expense for 2006 was $199.6 million, once again representing 58% of revenues.

Non-compensation expenses for the quarter were $28.8 million, compared to $27.7 million during the same quarter last year. The increase was primarily attributable to increases related to higher secondary equity volume, higher pricing under the clearing arrangement in place during the fourth quarter, and higher occupancy expense as a result of entering into a sub-lease with SG for our New York location. These expenses were partially offset by decreases in service fees, litigation and related expense and interest expense.

For the fourth quarter we're recorded a provision for taxes of $3.1 million, compared to a tax benefit of $0.1 million for the fourth quarter of 2005. Also for the fourth quarter, we recorded net income of $7.1 million, compared to our net loss of $0.6 million for the fourth quarter 2005. Excluding the compensation expenses associated with the initial grant of equity to our employees in connection with the IPO, our adjusted operating income was $11.8 million in the quarter. Diluted earnings per share for the fourth quarter was $0.54.

For the full year, our net income was $37.8 million, an increase of $25.7 million, compared to net income of $12.1 million in 2005. Excluding one time gains on exchange membership seats, and the compensation expense associated with both the termination of certain differed compensation plans, and the initial grant of equity to our employees in connection with the IPO, our adjusted operating income for 2006 was $32.1 million.

This concludes our formal remarks. Kim and I will now take questions.

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Your first question comes from the line of Guy Moszkowski with Merrill Lynch.

Good morning. I wanted to start with just one or two quick factual questions. First of all, do you have an ROE calculation for us?

ROE is going to be a little rough because equity obviously was a pro forma number for 2007. I'm sorry, for the first half of '06 and then it changed during the third quarter. So, for a GAAP basis 2006, I would use 18%.

And for the quarter?

For the quarter, GAAP 13.3%.

Okay, thanks. Just a little tax rate guidance. Obviously we've all been working with something like the 45% pro forma that you were guiding us to but again, you've had a quarter with a much lower rate than that. For '07 is it still realistic to be working with 45% or should we be thinking that you can achieve a lower rate?

I would continue to work with 45%.

Okay. Any particular reason why it would go up as much, looking into '07 relative to what you were able to achieve in the fourth quarter?

I think taxes in general for this year, as I think I spoke about last time are kind of unusual in that you really had two separate returns for the first half of the year and the second half of the year. So, in the third quarter, obviously it was an unusual tax rate because it was not only a split tax year but for the first 12 days, it was SG's tax year and for the last almost 80% of the quarter it was ours.

But basically, each tax calculation for each quarter is based on the estimated full year results and due to our estimate at the end of the third quarter, we've recorded a tax benefit which was based on actual full year results would have been a little larger. So, that cased Q4 to be a little under the 45% we would have projected. But I think going forward in 2007, 45% is the right number.

Okay, thanks for that. That's helpful. I was wondering if maybe we could get a little update on your initiatives to improve your strategic advisory business?

I'd be happy to, Guy. We have, as I mentioned the last call, I've been unhappy for a while with our strategic advisory business. Don Meltzer, who runs our banking business has a long and deep back on the M&A business, and we have enhanced our focus on the product and we think we're making great progress. Obviously, I can't forecast what the results will be, but we are encouraged by the level of intensity and focus on the strategic advisory product and obviously, as you might guess, he continues to look at potential hires, none made yet and none promised. But, he continues to look at that area.

Okay, thanks. And then final question. I'd just like to understand this Healthcare Royalty Partners a little bit better. It sounds like somehow it bridges both investment banking and asset management. I'd like to try and understand how that works. Are they raising a fund, what exactly are they doing?

It is anticipated that they will raise a fund and that process should begin relatively soon. How soon it's completed and how big it is we don't know yet. Obviously we have high hopes for this business. We think it's a terrific activity. It is synergistic to the house because we have lots of healthcare relationships, so there's lots of synergy there.

It is obviously a potential financing alternative for our clients but that is not the reason we got into the business. That is a second order unintended consequence. The reason we got into the business is because we believe it's a terrific asset management business and these people have a terrific record in that area.

Okay, that's great. That's helpful. Thank you, very much.

Thanks, Guy.

Your next question comes from the line of David Cohen with Midwood Capital.

Hi, gentlemen. Congrats on the fourth quarter.

Thank you, David.

I missed Kim's comments about what he's seeing so far, and I'm seeing something that makes me worry about the strength of the first quarter so far in terms of comparisons to last year. I think, last year I saw almost a dozen underwritten deals, actually over a dozen, underwritten deals. And I think convert a couple of pipes versus, this is January February versus this year, only seeing five underwritten deals and not as much in the pipeline that looks like it can close terribly soon given the filing dates. I was looking at different databases. So, what am I not seeing that you're seeing in terms of the pipeline for this first quarter?

Our pipeline, I think we have nine transactions on file now. We have completed seven, two of which have been leads. I will tell you that last year the first quarter was the best quarter of the year and the best quarter of any kind we had seen since the bubble. So, I am reluctant to do a compare against first quarter particularly in the first week in February. But, I will tell you it was a spectacular quarter last year.

I would also say, speaking to this whole topic generally David, if I may, when we had that first quarter we were in the process of preparing for our IPO. And our parent, having seen that first quarter asked me if I would revise my forecast for the year with the analysts from the investment banking firms that were underwriters, because obviously we give them forecasts so they could build their model.

I told them that it was just a quarter, it meant nothing more than that and I wouldn't revise it. They asked strongly that I revise it and I said I wouldn't do it. And in order to prove my point, I took the first quarter from the previous five years and extrapolated it out for the year, annualized it, and it had nothing to do with what the year turned out to be.

So, not to wax philosophical here Dave, that's not my intent, but we are five weeks into the year, and we're encouraged by what we've seen so far. Whether it will meet last year's first quarter or not, I have no opinion.

Okay, thanks.

You're welcome.

Your next question comes from the line of Jeff Harte with Sandler O'Neill.

Hi, Jeff.

Sir, your line may be on mute.

Folks, am I here now?

Yes, we hear you Jeff.

Good morning -- technology issues, nice quarter. I have a couple of more detailed things. Looking at operating expenses, litigation related expenses actually ticked up in the quarter after the prior quarter had some broken deal expenses in there. Anything weird going on there? What should we be thinking that line item may do in the future?

Well, from a future standpoint we really don't give guidance on that as we've mentioned. But, for the quarter two different events that triggered an increase. We had about $250,000 this quarter related to broken deals. I think if you'll recall it was $500,000 last quarter.

In addition, we had $300,000 or $400,000 of expenses related to some of the new initiatives that Kim mentioned earlier that were fairly unusual and are not likely to repeat themselves. So, as far as looking forward you can use the information I just gave you to get a feel for what that might be.

If I may Jeff, there's also, if you recall, that we have a significant and substantial indemnification agreement with our former parent on our litigation expenses that were obviously noted in the prospectus.

Okay. Then on the revenue side, other revenues picked up pretty strongly as well and the press release talked a bit about or wrote a bit about research related fees. Should we be looking at this as a new run rate for the other?

I don't think I can predict what the run rate is going to be because as new agreements like this come on, obviously that's going to increase it going forward. But we did have a slight increase in merchant banking related fees that's in that line.

The research payment fees also went up due to a new agreement and a change in an existing agreement and there was also an FX gain related to our UK subsidiary that you definitely do not want to analyze out, unless you can predict exchange rates going forward. But those are really the three items that drove the change.

Is there some kind of a standard contract as far as looking at the research fees? Is that something that hits annually? Is it something quarterly in each agreement? Is that standardized at all?

I'd prefer not to comment on the specific agreements.

Okay. Finally, compensation expenses. As we look forward, you've been keeping it in the 58% range, but you're bringing in a lot of new people and building out a lot of businesses. Do you think, I guess it's going to be revenue dependent, but how hard is it going to be to maintain that comp ratio with the number of people you're bringing in and initiatives you're bringing on in '07?

It's a good question, [David]. We are going to do all we can to maintain the 58%.

Okay, thank you.

Your next question comes from the line of Lauren Smith with KBW.

Hi, good morning. I think most everything's been answered. Just a couple cleanup if we could. When we talk about year-on-year non-comp expenses and '07 being down about $5 million to $6 million and being offset potentially by new initiatives that haven't been announced, I can appreciate that. But, could you just size it out a little bit? Would these initiatives potentially be enough to mute that entire $5 million to $6 million in savings, or 50% or can you just help us in that regard?

Sure, I'll try. I think the key thing is the words, "not yet identified." So, we really have no initiatives identified now that would eat into that at all. Right now I can't forecast it. My expectation is that nothing will eat into it, because we haven't identified any yet. Should something happen, we would obviously look to see if it's in fact an initiative that will be in the interest of the shareholders. But right now, no initiatives are identified yet that would reduce that $5 million to $6 million savings.

So, there's nothing that you're saying to yourselves, you're budgeting that will set aside x for potential R&D if you will.

Nothing. In fact, the initiatives we have identified, we have put those expenses into the budget.

Okay, just one last question, or actually two questions. One, just to follow up. On that FX gain, is there anyway you can size that for us? Obviously the delta and the other is not that big but is it $400,000? $500,000? Is there anyway to --?

It's roughly half the delta.

Okay, great. And then just lastly just answer a bigger picture. Areas that you're looking to expand. Your alternative energy group, what was the newer industry vertical for you. Is there anything that, similar to the alternative energy where you see a particular priority? Is there an industry group that you think is sort of necessary in the nearer term that you need to add?

No. We are always -- since we have contemplated independence and since we have achieved independence, Lauren, we are constantly on the prowl for things that make sense for us. But right now we have nothing in our sights. And anything we do, we are a combination of strategic and opportunistic, and so we will in the context of our broader strategy we seek opportunities and nothing right now is on the horizon. Nothing now is being looked at particularly.

Okay, thanks very much.

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Your next question comes from the line of [Jay Trager] with Park West Asset Management.

Hi. I just had a question on the pipes business. There's been some negative publicity there. I was just wondering if that was having any impact on your business?

It has had no effect on our business. I think there is the, if I may just give my personal view here for a second, I think the pipe business has -- there is a fringe aspect of some parts of the pipe community which is not an area where we traffic. So, we think this is a very mainstream, well accepted, appropriate vehicle for financing a certain type of company. And we have run a squeaky clean business, and I think the industry in fact is squeaky clean in the mainstream.

Okay, so no impact in the first quarter over fourth quarter then either from that respect.

No.

Okay.

And there are no further questions at this time.

Thank you all very much for joining us this morning, and we appreciate your interest in us. Thank you, very much. Have a good day.

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