Piper Sandler Companies (PIPR) 2009 Q3 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the Piper Jaffray Company's conference call to discuss the financial results for the third quarter of 2009. During the question and answer session, securities industry professionals may ask questions of management.

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

As a reminder, this conference is being recorded today, Wednesday, October 21, 2009. And now I would like to turn the call over to Mr. Andrew Duff. Mr. Duff, you may begin your call.

Thank you and good morning. We are pleased with our third-quarter results, our second consecutive quarter of solid performance. We have a balanced mix of businesses, and all of them contributed to our performance, the largest of which represented no more than a third of aggregate revenues. We also held the compensation ratio to 60%, and non-compensation costs were at the lower end of our stated goal of $32 million to $33 million per quarter resulting in a pretax operating margin of 13%.

Over the past 18 months, we have added 89 senior professionals across our platform. This includes 16 new team members in the third quarter. These seasoned professionals bring new and deep client relationships to our firm, extending our franchise in a number of areas.

For example, we were pleased with the performance within Equity Investment Banking where we have added 14 senior professionals over the past 18 months. Additional resources, combined with an improving market environment, make us optimistic for equity financing activity in the end of 2009 and the first half of 2010.

Turning to M&A, revenues were below the levels we reported in the second quarter. Within US middle-market M&A, reported deal values are well below historical levels, although we are encouraged by signs of improving conditions.

In public finance we see forward momentum and revenues, and our market share is very competitive and growing. In the past 18 months, we have added 19 senior professionals in this franchise, and we benefited from disruption at some larger competitors.

In the second and third quarters of this year, our underwriting revenues have been 34% above our 15 quarter average.

In addition, the par value of completed transactions is up 30% year-to-date compared to the year ago period. This par amount for the industry is down 10% over the same time period. We believe we have more opportunity when the non-investment-grade portion of the tax-exempt market begins to function, which has historically been a significant part of our client base.

In fixed income institutional brokerage, client activity was solid, and trading revenues provided significant incremental revenue. We have added 27 senior professionals in this business over the past 18 months, bringing the total team to over 100. We have also added several taxable corporate credit sectors and taxable municipals. We have proprietary product to intersect with our client base, and we plan to continue investing in this business while also maintaining our diversified platform.

In summary, we believe we are gaining revenue momentum in our businesses and are benefiting from the operating leverage we built into our model. Our market knowledge and client focus, combined with a broad product set, positions us well with our clients. And importantly, we are reasonably optimistic about the market environment.

Now I would like to turn the call over to Deb to review the financial results in more detail.

Thank you, Andrew. In the third quarter of 2009, we generated net income from continuing operations of $9.3 million or $0.47 per diluted common share, compared to a net loss of $27.5 million or $1.75 per diluted common share in the same quarter last year and net income $11.6 million or $0.59 per diluted common share in the second quarter of 2009. Third-quarter 2009 net revenues were $120 million, up significantly compared to the year ago period and down 10% from the strong sequential second quarter.

First, I will comment on the revenues beginning with Investment Banking. We had a good equity financing quarter, although below the sequential second quarter and well below historical levels. Revenues were $17.8 million. The decline compared to the second quarter of 2009 was mainly a result of fewer US public offerings from China-based companies and lower activity in Europe. However, our equity financing activity was relatively broad-based across our sectors, including healthcare, consumer, technology, clean technology and financials.

In the first nine months of 2009, we have completed 10 equity financings for our healthcare clients, making us the top underwriter for issuers with less than $2 billion of market capitalization. Our public offering backlog is currently seven transactions, which is up from four when we disclosed our second-quarter results. Fixed income financing revenues were $20.5 million and are substantially all public finance related.

This business produced another very strong quarter as a result of a continued high volume of transactions, including in California where we were the lead underwriter for the first nine months of 2009. Our strong results are despite low issuance, activity and high yield, real estate and development finance, areas which historically have been meaningful contributors to our business.

Financial advisory revenues were $10.1 million, approximately half of what we reported in the year ago period and in the second quarter of 2009. The decline was due to lower M&A activity as Andrew has already mentioned.

Turning to institutional brokerage, equity sales and trading revenues were $31.4 million, down 11% compared to the year ago period and up 4% compared to the second quarter of 2009. US equities revenues declined compared to both periods, mainly due to lower volume. Other products improved including convertibles and European equities.

Fixed income institutional revenues were $32.1 million, up significantly compared to last year and down 9% compared to the robust sequential quarter. All of the product areas delivered solid performance, although below the strong second quarter. Compared to the sequential second quarter, revenues decreased from trading flow opportunities.

In addition, client activities slowed slightly, and bid ask spreads compressed somewhat. The decline in revenues was partially offset by very strong results from our proprietary municipal strategy.

As we stated last quarter, we continued to think that bid ask spreads will compress further. In addition, more recently we are seeing a slowing in customer flow as clients are hesitant to place cash in low yielding securities and after such a significant credit spread tightening over the past six months.

Now I will turn to non-interest expenses. For the third quarter of 2009, compensation and benefits expenses were $71.8 million, and the compensation ratio for the third quarter remained at 60%. Our goal is to keep the compensation ratio at this level for the fourth quarter.

For the third quarter of 2009, non-compensation expenses were $32.3 million, which is at the lower end of our stated goal of a quarterly run-rate in the $32 million to $33 million range. Again, our goal is to keep expenses at this level for the fourth quarter.

Our tax rate for the quarter was 40.5%, which was above the second-quarter rate. The increased rate was mainly driven by the lower proportion of tax exempt municipal interest income to total income and also the mix of US and UK results.

Finally, in the third quarter, we repurchased $8 million under our share repurchase authorization which runs through June of 2010.

This concludes my remarks, and I will turn the call back to Andrew.

Operator, if you would please open the line for questions.

(Operator Instructions). Devin Ryan, Sandler O'Neill.

The return on tangible equity in the quarter looks to be about 5% if you annualize the number in the quarter. But you remained relatively under-leveraged compared to some peers and your capital position also appears solid.

So how do you think about what types of returns you should be able to generate on your capital? In addition to an improving operating environment, what are some of the ways you think about how you can improve your ROE from here like through potentially increasing leverage or doing acquisitions? And I guess lastly on this topic, what type of ROE do you think would be a good average over the cycle for you guys?

Okay. Well, let me first say that we do clearly recognize that our current ROE is underperforming, and attaining a more competitive level of ROE is definitely a focus that we have.

First, I would say regarding the leverage I think long term we do see us increasing our leverage. I think in the more immediate future we really -- given our access capital and our overall low return on equity right now, adding additional leverage at this point is not something that we are looking to do. However, as I mentioned longer-term, we do view that as something that can help enhance our ROE.

I think our more immediate goal is really to utilize our excess capital, improve returns on our existing business. I think the ways that we will ultimately utilize our access capital really comes through really corporate development opportunities and share repurchases.

I think the last part of the question was really, what do we see as a goal? And we think a realistic goal is to achieve a 10% to 12% ROE over the next 24 to 30 months.

Okay. That detail is helpful. Thanks. Can you talk a bit more about the fixed income results in the quarter? I guess specifically can you give us any sense of how much the proprietary gains in munis, you kind of highlighted those, or gains in any other products contributed to the results and really just how we should think about these revenues going forward just assuming that asset valuations are more stable than they were this quarter?

Yes, I guess I would say, as we talked about, we did have solid performance from both taxable and tax-exempt businesses. However, the overall opportunities from trading flow we did see decrease. However, we did see a significant portion of our revenue or our trading profits coming from was our municipal proprietary trading effort. So that is something that I think can be more volatile and less able for us to predict over time.

I think our overall business I mentioned we saw some slowing of customer activity. I think that really is something where investors are somewhat taking a pause right now after seeing what happened with credit spreads, and just with the absolute low level of yields right now, we are starting to see those yields pick up somewhat. So it's really a matter of those investors coming back into the market again.

Okay. And then, Andrew, can you just talk a bit about the competitive environment today and what changes you have seen just over I guess the last couple of months, particularly as some of the large competitors appear to be getting healthier?

Yes, it remains competitive. Our view is we are out from under what was a very difficult environment. It would appear that people have moved back from reducing headcount to many are actually adding headcount. And we see that in a competitive environment to bring on talent which we intend to continue to do. Obviously the equity environment continues to improve what started as large cap secondaries has moved into a reasonable IPO market where you're even seeing some pre-profitability companies come to the marketplace, and we expect that to continue.

Okay. Great. Just lastly on the tax rate, it seemed a bit high. Was that a true-up at all for the year, or just how should we think about that for the remainder of the year?

I think that the rate in the quarter was not really necessarily a true-up in the year. It was more a result of the second-quarter activity. As I mentioned, lowered tax-exempt interest relative to our total interest income, and just the mix between our US and international, primarily UK business.

I think going forward those are the factors that will ultimately impact the rates. That has really been what we have seen this year is somewhat the biggest impact being that mix of US versus international businesses.

Lauren Smith, KBW.

A couple of questions. I guess first just to follow up on that tax rate question or more just to focus on the mix of business US versus international, and within international I would be curious what just even round numbers UK is versus, say, Asia, China. I mean China has historically been a reasonably good market for you guys. Just some color on that would be helpful.

Okay. Well, obviously we disclosed results on a consolidated basis only. But just to give you a little more color, international businesses do have weaker results than our US. Performance is improving in both. Really what was driving the tax rate specifically is a loss in the UK where I think you may recall we had taken 100% reserve in 2008 against our deferred tax asset there. And, as a result of that, we are not able to recognize any tax benefit from those losses. So that is what is really driving the rate relative to that mix in business. I think we are encouraged to see capital markets activity picking up, which primarily we are seeing in the China and Hong Kong region.

Okay. So the UK business you characterize being disproportionately weaker than US, maybe slower to recover? Because you guys have invested a fair amount in the UK.

I think that is a fair characterization. The European markets are lagging and slower than the capital markets, slower to come back. Asia has rebounded significantly already. So that would be fair.

Okay. Thank you. That is helpful. And then just one or two sort of housekeeping or nitpicky. But other income and other expense they both sort of seemed above or below trend, other income at $3.3 million. Was there anything of note in that line item?

Within the other income, primarily that is driven by increased valuations on firm investments.

Okay. All right. So like some private equity investments? (multiple speakers)

Yes.

Okay. And then on other expense, the same thing, the $4.4 million looked above trend. Anything one time in nature in there?

I would say primarily that was related to additional accrual for a litigation-related matter. The other piece that is in there is our charitable giving, which obviously increases as our profits grow.

Is that a seasonal thing, the charitable --?

No. No, it is just really a function of our profitability. I think overall the comment just overall from a non-comp expense as I mentioned, we do view that $32 million to $33 million range that we had guided to previously being more consistent with that going into the fourth quarter.

Okay. Great. And then I guess just last one for me, maybe an update on FAMCO. The increase in AUM was good. I'm assuming that it pretty much tracks, right, S&P 500, but I guess any color there, mix of market appreciation and flows, and maybe any update there in terms of how you are thinking about your asset management business and continued growth there?

Yes, it was primarily market appreciation, but there was net inflows of a little over $100 million for the quarter. The performance remains right around the benchmarks, and we continue to believe that this business really provides a nice stable floor to the more cyclical capital markets and continue to look at ways to grow this part of the business significantly. It is an area we continue to look in corporate development as well.

Okay. I mean do you feel like they are just given what has gone on in the past 12, 24 months there are or more less opportunities for you guys now than, say, in the past?

You know, I don't think it is distinctly different, but it is an area of opportunity. Unlike other areas for corporate development, you have got limitations on how many platforms are really truly complementary. This is an area we know there are really hundreds of asset managers of various sizes and product mixes and believe over time we can find additional complementary properties. And we are focused on it. We stay focused on it even through the more difficult environment.

(Operator Instructions). Steve Stelmach, FBR Capital Markets.

Congrats on a good quarter. Can you give us a flavor for the fixed income trading, how that progressed through the quarter? Was the third quarter just an overall weaker quarter relative -- still strong or relatively weaker quarter versus second -- or was there a deceleration as the quarter progressed?

No, it really was fairly consistent throughout the quarter.

Okay, and does that go for the first few weeks of October as well? The same sort of environment?

Yes, I think consistent with the comments we made just overall through the third quarter and continuing into the first quarter. We just had seen some flowing in some of the trading flow opportunities that we mentioned, and I think that ultimately that environment is fairly consistent.

Okay. And if you have mentioned it, I apologize about the headcount. How do you guys feel about that going forward as a use of your capital, maybe recruitment, acquisitions? How should we think about those opportunities today versus maybe what was a pretty good real robust recruiting environment six months ago?

Yes, I think I mentioned in my comments somewhere in the last 18 months somewhere around 90 professionals. I think, as we look across the platform both here, Europe, Asia, some of the industry sectors or public finance franchise, I could see us adding a like amount in the next 12, 15, 18 months. I do believe it is getting more competitive. We have taken a position that we are not going to do fixed pay guarantees. Those are clearly reappearing. So we may not get all the talent we want exactly in the timeframe. However, we think our approach is going to work very well in the long term.

[Dave Pietromala], BlueBay Asset Management.

One thing I want to commend you on is the breakout of the goodwill and coming out with adjusted shareholders equity. At the same time, you typically do assess your goodwill on an annual basis in October/November timeframe. Do you see any write-offs of the legacy goodwill coming into play? Can you talk about that?

I think you are correct, we do look at our annual impairment testing in and around November of each year. So we will be getting into that as we move into November. I think ultimately as you look at the factors that are continued there, that are included in that analysis, we look at our own cash flow analysis, as well as comparable transactions in the market and overall valuations. So really ultimately those factors that will play into that.

Okay. And I guess when it comes to along the lines of operating leverage and the whole return on equity, in the past actually your operating leverage turned out to be kind of understated in that you had a lot of off-balance sheet stuff that was actually made you look like you were under-leveraged, but you ended up taking a lot of write-offs on that, and you are out of that business. So in terms of going forward, could you again elaborate on how you are going to get the ROE? Will you be using on balance sheet leverage this time?

Yes, so definitely on balance sheet leverage. I think currently if you look at it right now, we are just under two times levered. We see that going higher in the long-term. I mean maybe three to four times levered would be something that we are looking at right now.

And again, for us the more immediate focus for us is really utilizing our excess capital whether that be through deploying that through corporate development opportunities, investing in our current businesses or share repurchases.

So those are the areas we are most focused on currently. I think we really need to start to improve our ROE and utilize this excess capital before putting additional leverage with the cost of that debt onto our balance sheet and really make sense.

Okay. Thank you. And then one final question is on the overall muni environment, can you give us an assessment on what is going on in California and what the litigation environment is out there? Particularly you mentioned in some lawsuits about some refinancing. Is that going to be an issue going forward at all with your ability to continue to do business in California, or do you think you will have any kind of litigation reserves set up for that stuff in California?

I actually don't know what you are referring to in California. You know, our -- there is not a specific issue that I understand you are referring to. The municipal environment overall remains pretty good. In fact, I think it was close to 40-year low on rates in the last couple of weeks, end of the quarter. Now they have backed up a little bit. But when we look at the calendar, it is pretty healthy. In particular, our position in California is very strong and improving, and we are really at all time market share. (multiple speakers)

Yes. Just, you know, I was referring to an article that was in Bloomberg approximately a month and a half ago that talked about some of the underwriting being particularly unconstitutional and the Attorney General looking into that. But again, that was an article in Bloomberg. But if you say there is nothing else more specific out there, no need to comment further.

Yep.

Mr. Duff, there are no further questions at this time. I will now turn the call back to you. Please continue with your presentation or closing remarks.

Thank you. I did have a final remark, which as it turns out today is Youth, I.N.C.'s Trading Day for Kids, which is probably sponsored by Piper Jaffray. The goal for the Trading Day for Kids is $1 million in designated commission executed with Piper Jaffray to be donated to Youth, I.N.C. These dollars will positively impact 45,000 children in New York City. Piper will donate 100% of designated commissions on equity trades made through our firm to Youth Inc. So please help us with that.

Thank you very much.

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines. Have a great day.