Stifel Financial Corp (SF) 2008 Q1 法說會逐字稿

Good afternoon, my name is Jacob, and I'll be your conference operator today. At this time I would like to welcome everyone to the Stifel Financial first quarter earnings 2008 conference call. 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).

Please Mr. Zemlyak, you may begin your conference.

Thank you, operator. Good morning everyone, this is Jim Zemlyak, CFO of Stifel Financial Corp. I'd like to welcome everyone to our conference call today to discuss our first quarter 2008 fiscal results. Please note that this conference call is being recorded. If you would like a copy of today's presentation, you may download slides and view it from www.Stifel.com.

Before we begin today's call, I would like to remind listeners that this presentation may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1985. These statements are not statements of fact or guarantees of performance, they are subjects to risks, uncertainties and other factors that may cause actual future results to differ materially from those discussed in the statements. To supplement our financial statements presented in accordance with GAAP, we assert non-GAAP measures of financial performance and liquidity. These non-GAAP measures should only be considered together with the company's GAAP results. Finally, for a discussion of risks and uncertainties in our business, please see the business factors affecting the company in the financial services industry in the company's annual report on form 10-K and MD&A of results in the company's quarterly report on form 10-Q.

Before I turn the call over to our Chairman, CEO, and President of Stifel Financial, Ron Kruszewski, I would like to review the financial highlights. Before I start, I want to remind everyone that the first quarter included one month of Ryan Beck in 2007, and did not include Stifel Bank and Trust which closed April 1st of 2007. Net revenue of $211.5 million, a 35% increase over the prior year first quarter, and down slightly from the first quarter of 2007. GAAP net income of $14.3 million or $0.81 per diluted share, a 62% increase over the prior year first quarter, and a 4% increase from the fourth quarter of 2007. Core net income of $18.3 million or $1.03 per share, a 39% increase over the prior year first quarter, and a 11% decrease from the fourth quarter of 2007, and Ron will review in detail the difference between GAAP and core.

Commission and principal transactions increased $64.7 million, 74% over the previous year first quarter. Asset management and service fees increased 56% to $30.3 million, as compared to the prior year first quarter. For the three months ended March 31, 2008, utilizing core earnings, pretax margins were 14%. For the three months ending March 31st, 2008 utilizing core earnings, annualized return on average equity was 17%. At March 31, 2008, our equity was $436.8 million, resulting in a book value per share of $28.07. The number of financial advisors increased to 972 from 956 and the fixed income capital markets recorded record net revenues of $44 million and record income before taxes of $14.9 million.

With that, I will turn the call over to Ron.

Thanks, Jim. Good morning, everyone. First of all, we have had in summary a very good quarter, in what can best be described as turbulent and difficult markets. As Jim stated the numbers, I'm pleased to report it is our second best quarter ever in terms of net revenue, essentially flat with our record quarter of all time. Third best with respect to core net income and actually our best quarter ever with respect to GAAP net income. And our ability to have this kind of a quarter in the difficult markets, is in many respects the result of our conservative balance sheet. We have assets of $1.6 billion supported by over $530 million of equity in trust preferred securities. And even with this leverage of just over three times leverage, we achieved a 17% annualized return on average equity if you utilize our core earnings as the earnings number.

During the quarter a lot went on. We completed a secondary offering of our common stock. We didn't have any primary shares in that offering. We completed it. We actually priced the offering in probably the most difficult times right in the midst of the Bear Stearns takeover and that was -- but during that time we were able to sell the majority of Bank Atlantic positions Stifel Financial, and I would like to take the opportunity to welcome our new investors and thank them for their confidence in our company. I'm also pleased to announce that we are going to have a 50% stock dividend in the form of a 3 for 2 stock split will be distributed June 12th to shareholders of record of May 29th. This, I believe, underscores our confidence in our business going forward, and will also serve to add liquidity to our common stock.

If you look at the quarter and I'm on page 3 of the slides, as Jim mentioned, net revenue increased 35%, which was driven in large part by the addition of Ryan Beck's private client business, and simply an educational quarter for our fixed income capital markets group, offset by a difficult quarter for investment banking. The investment banking, industry-wide, has experienced a very difficult quarter and we were not immune from that. I think the difference that for Stifel Financial though, can be summed up in a word, and it is balance. We have a lot of balance in our revenue from both private client fixed income, investment banking, our flow business. Had we preannounced that our investment banking was going to be down 31% yeah, we would have this kind of quarter. Initially a lot of people would have been surprised. I think it under cores the balance in our firm in that we have other businesses that are complimentary.

Because the numbers quarter to quarter are skewed by the Ryan Beck private client business, we did say -- I said in my quote if you exclude Ryan Beck's private client revenue, net revenues were still up 12% from the first quarter of 2007. Commissions were up about 40%, down a little bit sequentially. Principal transactions up significantly to -- up 152%. I will anticipate the question that I get on this all the time is what drove principal transactions. Again, it is simply the results from fixed income, primarily flow business and fixed income. Our flow business in that segment is all principal transaction. It is not trading. It is just flow business and fixed income.

Investment banking as I stated was down almost 50% and down 31% sequentially. A little skewed as I will comment in a minute by the fact that closed end offerings flow through investment banking, and we had a number of closed end offerings in the first quarter of ' 07 and none or maybe one in the first quarter of 2008. That also skews that line item. As I have said, it was a difficult quarter for investment banking. Asset management service fees continues a nice steady growth in that business of 56% and 2% sequentially. All in all, a very good quarter on the revenue side.

I will point out that other revenue was a negative $1.2 million versus last year it was $4.1 million in the fourth quarter. The primary reason for that were mark to mark losses. We recorded $2.4 million of losses in the first quarter of '08 compared to gains of $400,000 in the first quarter of ' 07 and we had $1.9 million of gains in the fourth quarter of 2007. The primary item there, we have some general marks but the primary item is the fluctuation in our remaining shares from the New York Stock Exchange seat. It's as simple as that. It does fluctuate and we have a number of shares and that's down. It is unrealized but it does fluctuate.

If we go forward and look at -- on the expense side of our income statement, the -- again, in general, met all of our metrics in a very difficult quarter again. Pretax margins of almost 14.5%. Our comp and benefit line item historically is higher in the first quarter, primarily due to payroll taxes, employee benefits, the way we start the year is if you look historically, our comp and benefit ratio is highest usually in the first quarter of any year. Operating expenses coming better under control. I think we told everyone that we were looking to get those operating expenses below 20% of net revenue. While it is driven in part by revenue I can tell you that we have continued to get expenses out of the integration of Ryan Beck and we are always mindful of expenses. Back in at 19% which was down from 22% in the is he when shall quarter shows our progress in that area.

If you flip to the next slide which is page 5 you can look at the segments again. This will underscore the balance in the firm. While the comparisons to the first quarter are all generally up except for equity capital markets, they were impacted certainly on the private client by the addition of Ryan Beck although our private client business was still up, I think it is about 9% excluding Ryan Beck. It was up 34% quarter to quarter. Down slightly 4% sequentially. Fixed income capital markets and I will come back to these in a minute, up over 200% in revenue, 600 -- 700% in pretax contribution. So a very strong quarter in fixed income capital markets.

If we look at them individually -- let's take a look at the private client group first. On the private client side, the highlights were that net revenue as I said up 34%, commissions and principal transactions all up nicely. The one item that was down, as I said was investment banking, down 67% in the private client business. That was due, again, to both the overall difficult market conditions for co- -- for managed and co- managed equity offerings, but also the lack of any closed end fund offerings in Q1 of 2008, as compared to Q1 of 2007. If you look at the segment sequentially, while revenue and pretax income declined 4 and 7% respectively from the record, we had a record preceding quarter, our results were, frankly, outstanding given market conditions. We continue the growth. We added 32 financial advisors. We opened five new offices in the quarter, and you can look at the press release and it will give you the details on those offices.

If you look at equity capital markets there are two things to talk about here. One, is that while our investment banking line item -- if you look here, you will see it was down 48% up from '07 and 41% sequentially. That again is the same thing you have seen across the industry. The difficult markets. I remember when I was on the road selling our stock, I think we were the only company out -- us and Visa -- were the only ones out doing a deal. You couple that with the freeze up in the credit markets that has impacted our M&A business and the ability to finance M&A and that will explain the weakness in investment banking.

Just to look at that, I will say that our backlog remains strong. We believe that the market -- I think it will have to be led by the market. We believe the market is going to improve in the second half of the year and consequently, our business is poised to rebound nicely when the market also improves. We are not going to lead the market out of this. But we are well positioned that as the market improves we will improve also. The other item that -- to take note of is our flow business, which continues to improve. We continue to add analysts. We continue to add to our capabilities and our flow business increased 41% over the comparable quarter of 2007. So it is just very, very good results, as it relates to just our research driven model in equity capital markets. Contributions, again, margins down to 14% as you would expect, considering the weaknesses that I have already talked about.

Fixed income capital markets, simply a great quarter. Revenue of $44 million, up over 200% from 2007. Up over 85% from the fourth quarter of 2007. A lot of it is simply the market -- the steepening of the yield curve and frankly I believe a lot of the clients coming back to us. We lost a lot of clients when there was a lot of structured product going around the street. We did not manufacturer nor have the ability to sell that, with the turmoil in that market, we have seen a lot of our business come back. So this has been -- was a tremendous quarter. I never want to annualize results that are up over 200%. I can tell you I believe we have seen an up tick in this business that will continue. We were going through some difficult markets in the last year and a half, and we see truly some systemic type changes in this business that bodes fairly for our fixed income capital markets business. The margins, again, comp and benefit below 60. OpEx below 10, margins over 30 was a great quarter and again underscores the balance of our firm.

If you look at the bank -- the net revenues increased 11%, loans increased 16%, assets up 16%. Net net we continue to grow the bank in a balanced and prudent manner. We are not looking -- it would be very easy to explode the growth in the bank. We're not doing that. Our strategic rationale is to use the bank to provide products to our clients, banking products to our clients. If you look at the ratios of assets and loans, deposits, all nice growth. Our allowance for loan losses is 1.15% and our non performing loans to total loans are at 1.42%. Basically the credit quality of the bank has been and continues to be very strong. If you look at the other segment, you will see the increase in the loss of the other segment, primarily due to the mark to mark losses versus the gain last year as the primary driver of why the other segment shows a larger loss than it does in the past.

Next let's look at the reconciliation of GAAP to core earnings. This will be, as I have said we will not utilize non-GAAP measures at the end of 2008. If you look at this, you will see -- I'm on page 12 of the slide. You will see that our core business generated diluted earnings per share of $1.03. Acquisition related expenses for the quarter were $0.22, primarily again a stock based compensation related to the Legg Mason transaction of a couple years ago, plus some remaining OpEx in Ryan Beck very small now but it is $0.22. If you look at this in our press release you will see that core earnings $1.03. Acquisition related $0.22 results in GAAP earnings of $0.81. Last year the same math would be core income of $0.86, acquisition related of $0.28 down to $0.58. If you flip the slide, people told me this has been helpful. We will continue to do this -- this is the reconciliation.

Page 13 shows our acquisition related charges and our estimates for 2008. As you can see, in 2009 they go away. We are estimating that for 2008 we will have $0.88 in acquisition related charges. It is the one number we have been forecasting. There is no change in this forecast over the last year or so. If you flip the page, you will look at the quarterly impact on page 14. The actual impact for Q1 was $0.22 and you will see that we estimate that for Q2 through Q4 it will remain at $0.22 a share, again primarily a debit to expense and a credit to equity as we amortize the stock based comp, and then in '09 those charges go away as that amortization is complete.

If you look at the balance sheet, a couple of things that we can talk about. One is our assets at $1.6 billion. As I've already said, supported by $532 million of capital, $437 million of equity, $95 million of trust preferred. We are very well capitalized. Conservative balance sheet book value of $28.07, as Jim said. We did start showing the -- our level 1, 2 and 3 assets and I will tell you that as of the end of the quarter we had total securities at fair value of $238 million and of those, we had trading securities of level 3 of $15 million and available for sale securities and that's in the bank, category level 3 of $19 million. So in total that's what some $35 million in round numbers of level 3 assets.

The primary reason for this -- this is an increase, although this is the first quarter that we are showing this. A significant portion of those are that we categorized our inventory in auction rate securities as level 3. Even though the Street and a lot of what we own are the auction rate preferred and while some of them -- a lot of them are starting to get called at par we felt that for evaluation purposes, we needed to characterize them as a level 3. We also own some student loan auction rate securities. Those are less clearest as to the outcome of those. The primary assets that we have in level 3 now are these auction rate securities. Frankly, I'm pleased with our relatively low level of auction rate securities as compared to many of our brethren on the Street.

If you look at page 16, we will talk about our capitalization. I will point out as I have in the past, while we adopted the provisions of 157 or1 59 -- I forget which is which -- accounting 157. We did not adopt the one that would allow us to mark our liabilities to market. We felt that he company -- although many people have adopted that standard -- we felt that it is just moving things around and we were not -- we just decided not to do it. But I will take the benefit of pointing out that had we done it, our trust preferred securities based on our recent trade in we would be able to mark that liability at 60 versus par. So you have seen many firms taking that gain through their income statement. We have not nor are we going to but rest assured there is a lot of value in our capital structure with $95 million with trust preferred at LIBOR plus 170 to 185 for 30 years. There is a lot of value there.

Finally, the last slide just shows some financial data. The financial advisors I have talked about. The increase is not as many people as we hired because in the first quarter is when we have our highest attrition, the way we go through our process. If we are going to have people depart usually for performance issues, they will do so in the first quarter of any given year but you will see an increase in locations, associates, financial advisors, the only decline is in client assets, and that's the mark to market of our client assets with the markets being down our client assets are down we did experience net inflows of client assets.

So I will take questions. I think just a great quarter. We look forward to not sailing into the wind, but getting a little wind at our back as the markets and the environment for financial services improve. With that, operator, I will be pleased to take any questions. Operator?

I'm here, sir.

We will take questions.

(OPERATOR INSTRUCTIONS). We will pause for a brief moment. Our first question comes from Guy Moszkowski.

Good morning, Ron.

Hey, Guy.

Just a couple of follow-up questions if you have a minute for them. In private client, what percentage of your commissions and principal transactions is actually commissions now more or less and is that different from before the Ryan Beck acquisitions?

How much are commissions versus principal transactions?

Yes, the way you give it it is a combined number of commissions and PT. I'm wondering in private clients how that breaks out.

I will be -- in private clients -- the reason we do this, Guy, is that we do not believe that in private client the breakdown between commissions and principal transactions is meaningful, in many respects, it is not anything that we track. Fixed income business, it tends to be principal transactions, UITs whether stock is done principal versus agency today but to answer your question, principal transactions -- of that, principal transactions is looking at the number of about $77 million commissions are about $47 million principal transactions about $30 million give or take. Any significant change with Ryan Beck, I would say no. I think that the balance was about the same as it relates to principal and commissions. Whether the breakdown between those two, I have no idea because I don't look at that, guy.

That's fair and then just turning to fixed income for a moment and I can see -- you did point this out that the comp ratio and some of your other expense ratios were down quite a bit versus the bench mark quarters. Is that just the benefit of operating leverage as a result of very strong volume or is there some shift in the economics again because of the acquisition?

No, I think you got it right the first time. It was a 200% increase in revenue should have some operating leverage to it and it does. I would like to have 200% increases in all our businesses but it is -- there was really no significant trading gains or anything that drove that out of the ordinary. I would talk about that if that were. In fact, for the quarter we had trading losses. I would characterize it as just, that last marginal dollar comes in at huge profit margins and we had a lot of last marginal dollars last quarter.

Do you think that some part of that increase, which was acquisition driven is therefore probably sustainable?

Yes. First of all, I think that if you looked at it in general, to give some sense of the size of the business, I would not annualize the first quarter. I believe on a going forward basis our run rate in this business is a $100 hundred million business. You can sort of look at it that way given normal markets the people we hired. Give you some ideas -- I was looking at this when I was talking to Joe Sullivan who runs this group for us. We have added since last year we have increased our sales force 31%. We have opened a bunch of new accounts. We have, we added Ryan Beck, some nice capabilities there. So it's just -- the business has just grown and couple that with a steepening of the yield curve and then very importantly, a shift in client sentiment toward doing business with the regional firms like us. Put that all in a mix and it was a nice quarter. Going forward I wouldn't annualize $44 million. I would like to but I will not do that as I sit here today, but we do think it's last year we did some $60 million in revenue and we think we are on a run rate of $100 million give or take.

Great. That's real helpful. Let me ask one more question about the bank. I know that we are talking about small numbers at this point. The loan loss provision was up quite a bit versus last quarter even if the allowance fell as a percentage of loans. Maybe you could refresh us a little bit on the composition of the loan book and what is characterizing what appears to be an an increase in under lying losses.

I think again it is the where we put a loan on the books and you start to grow a bank by adding any loans, you provide for it when you look the loan.

Yes.

And so as you are growing the bank, you will see an increasing -- what appears to be an increasing provision, net charge off is what you have to look at. You're going to see an increasing provision as we add loans. The goal here for us is to put loans on our books. We did have -- we have a mortgage origination group that is originating a fair amount of loans, selling the majority of them off and our goal is to cherry pick -- I hate to use that word. I can't think of another one, the loans, selectively add loans to our portfolio. As we add loans or as we book any loans we will grow this, I think you will see the loan loss provisions appearing to be outsized. Similar to if you look at some of our other competitors that will explain the increase in loan loss provisions because they are adding loans.

That's fair, the composition of the loan book what are we really looking at in terms of what the assets really are?

There's two things to look at. One is that we bought a commercial bank and I need to find my -- if you look at it, and we filed it in our Q today, you will see commercial real estate of about $40 million, another commercial of $30 million, residential of $26 million, HELOC's of $10 million and consumer of another $5 million give or take. The important thing is a lot of the bank when we bought the bank it had over $100 million of commercial, commercial is a bad word today but we completely under wrote that portfolio. As we go forward, we see this loan portfolio skewing toward consumer is what we are going to do. Our composition of loans is on -- it is a footnote after the Q. You will see both the composition and the increase from the proceeding quarter.

Thanks, Ron. Thanks for the information.

Our next question comes from David Trone.

Couple quick questions, just to follow-up on the fixed income things that you were talking about. Can you expand on when you say corporate debt, what specifically are you focused on there?

Do you mean what are we selling?

Yes.

Our taxable business first of all and a lot of it was driven by taxable. Our muni business tends to be back end loaded the way states were in. They vote November. Deals get done in the second half of the year. That's historic for us. Most of our business was on the taxable side in the first quarter. It was very balanced, give or take 40% in mortgages 20, 25% in agencies, another 20% in what we call a tentative spread, which would be the CDO products. 10% credit and other give or take. It is balanced but it is primarily a flow business, David. We are buying and selling to our clients.

Okay. Sounds good, and then on the expense side, you had an unusually low 500K expense on the brokerage, and the floor and the commissions expense and that usually runs about $2 million. Anything unusual there maybe I missed it?

No you didn't miss it. You caught it. I guess I should have commented on it. We get it every year, it is a little unusual. We at the industry will receive rebates based on volume from EC and when we get that, we book it as a credit. It was $1.04 million. It accounts for most of the difference that you are pointing out there.

Okay. Great. The mark to market loss as you mentioned in the release 2.4, that was municipal?

No, that was primarily our exchange seat. We still own shares in the New York Stock Exchange.

You did mention that. Sorry about that.

All in all, we were able to avoid a lot of the losses experienced in the industry.

Great. Thanks a lot.

Thanks, David.

Our next question comes from Lauren Mice --

Do you mean Lauren Smith, because then that that would be me?

Hi, Lauren!

How are you, Ron? Most of my questions would be answered. One or two follow ups. When you mention trading losses, clearly it was a difficult equity trading environment, I'm wondering if you can characterize for us how much of an increase there was in trading losses? Like if you typically run 10 or 15% a year or a quarter, what was it like this quarter?

You are talking about losses that we use to facilitate flow business?

Yes.

I would say it was generally the same. It was up but as a percentage of our revenue, about the same. Again, our trading group in equity capital markets has done a nice job of keeping capital commitments and revenues properly in check. So there was nothing unusual there that would change the amount of losses that we incurred as a percentage of the revenue we generated was generally consistent?

And then switching to the private client group segment data, clearly I'm looking at the non comp expenses. It was down sequentially and up year on year a lot. You opened five offices in the quarter. Had we seen -- were all those expenses captured in the quarter or how should we think about a run rate going forward?

Well, I think that, you know, we would like this segment and if we broke it out, the segment absent new offices and absent some of the hiring incentives. We did just do a major merger with Ryan Beck. We are not breaking out those hiring incentives, we are just running them through the segment, because we want to get away from core or non-core, but it is not insignificant. Our business, absent opening new offices generates in excess of 25% margin, between 25 and 30% margins, and then we invest. So the -- we are going to talk about maybe -- in fact, maybe we will think about having an analyst day if any of you actually come and see us, and talk about breaking out the -- our investment in new offices which tends to be significant.

I can tell you we have had some -- we have had some great success out west and we are opening a lot of offices but that has not come without some costs both in the fourth quarter of last year and this year. A lot of the costs just to transfer accounts is significant. To help you here, I believe that if you look at margins in this range, 21 to 23%. I know that is a wide range. It will just depend on how many offices we open and how much of an investment we are going to make in those new offices. Net net, all of these new offices are future significant contributors to both the value of this company and to the profitability of the private client group. I probably didn't answer your question but sorry.

A little bit. When we think out the next 12, 18, 24 months, I mean, do you think you might be opening at a similar pace new offices or do you feel like you have filled in the geographic gaps and you are where you want to be at this juncture?

I'm thinking of people shuddering in terms of how I answer this question. Listen, we will open plenty of offices. That is our whole business plan is to be opportunistic to open new offices. We are nowhere near where we are going to be as we build this private client group. Every day we look at do we have the infrastructure in place as I said when we were on the road to go from a thousand SA's to 3 to 4000 SA's. I'm not going to give you a time on that. To do that, we are in no way at all satisfied where we are and we believe that our business model, our culture, and where this market is going is one of the primary strategic advantages of our company and so nowhere at all are we geographically pleased. We probably have plans to open in three or four states today. It is a major growth engine of our company.

Thanks. Just one minor cleanup, just so we can kind of normalize. $2.4 million in losses in 1Q '08 we know this is from NYSE, that was versus $400,000 in 1Q and $1.9 million in 4Q?

Yes, in profits. And 1.9 of profit versus 2.4 of loss. I think it is fair when you are looking at this, I think the 2.4 million was certainly unusual as compared to the other quarters. But as the other person pointed out, we did have a benefit of the DTC credit also. I would want to point that out also. 2.4 losses, and we had a 1.5 credit in the quarter too that went through brokerage and clearing. Just so we are fair about that.

Appreciate it. Thanks much.

You are welcome.

At this time we have no more questions in queue.

Well, to everyone, thank you for your time. To our new shareholders, we appreciate your investment and confidence in the company and we look forward to reporting to you some time in early August with respect to the second quarter of 2008. Thank you very much.