Stifel Financial Corp (SF) 2008 Q2 法說會逐字稿

Good morning. My name is Yazzi and I will be your conference operator today. At this time I would like to welcome everyone to the Stifel Financial second-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). Mr. Jim Zemlyak, Chief Financial Officer, you may begin your conference.

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

Before we begin today's call I'd like to remind listeners that this presentation may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are not statements of facts or guarantees of performance; they are subject to risks, uncertainties and other factors that may cause actual future results to differ materially from those discussed in the statement.

To supplement our financial statements presented in accordance with GAAP we use certain non-GAAP measures of financial performance and liquidity. These non-GAAP measures should only be considered together with the Company's GAAP results.

And finally, for a discussion of risks and uncertainties in our business, please see the business factors affecting the Company and 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.

Let me begin the call by going over our second-quarter business highlights. Net revenues of $209 million, down slightly from the prior year's second quarter and the first quarter 2008. We reported GAAP net income of $12.3 million or $0.45 per diluted share, a 752% increase over the prior year's second quarter and a 14% decrease from the first quarter of 2008.

Core net income of $16.3 million or $0.60 per diluted share, a 13% decrease from the prior year's second quarter and an 11% decrease from the first quarter of 2008. Again core is after acquisition-related charges which were adjusted which Ron will discuss later in the presentation. Commission and principal transaction revenue increased $34.8 million, 31% over the previous year's second quarter. Investment banking revenue declined 67% to $20.9 million from the prior second quarter.

Asset management and service fee revenue increased 17% to $30 million as compared to the prior year's second quarter. For the three months ending June 30, 2008 utilizing core earnings pretax margin was 13% and for the three months ended June 30, 2008 utilizing core earnings annualized return on average equity was 14%.

The fixed income capital market segment recorded a net revenue of $34.7 million, a 231% increase over the second quarter of '07. And lastly, we had a three for two stock split distributed on June 12, 2008 to shareholders of record as of May 29, 2008.

We move forward to the next slide which is our year-to-date business highlights. Net revenue of $420.4 million, a 14% increase for the six months as compared to '07. Our GAAP net income of $26.7 million or $0.99 per diluted share, a 160% increase for the six months. Book value per common share increased to $19.75 as of June 30th, a 14% decrease from 12-31-07. Core net income of $34.6 million or $1.29 per diluted share, an 8% increase for the year compared to 2007.

Our Private Client Group and fixed income capital market's net revenue increased 16% and 213% respectively in the first six months as compared to the prior year. Commission and principle transaction revenue increased 49% to $301 million from the prior six months. Investment banking revenue declined 60% to $42.8 million from the prior six months.

Again the prior six months and second-quarter results include the firm's largest investment banking transaction which contributed $24.7 million in Q2 of '07. Asset management and service fee revenue increased 34% to $60.2 million from the prior six months. For the six months ending June 30, '08 utilizing core earnings pretax margin was 14% and for the six months ending June 30, '08 utilizing core earnings return on average equity was 16%.

Now I'd like to turn the call over to our Chairman and CEO, Ron Kruszewski.

Thank you, Jim. What I would like to talk about, first of all, as I've said, given the difficult market conditions we're pleased to report what I think was a very strong quarter. The quarter would be characterized by balance, balance in our businesses as the investment banking which was weak across the industry but was offset by strong Private Client business -- actually record Private Client business, a very strong fixed income capital markets. And within equity capital markets our cash equities business, or our flow business, has been very strong and something that we're gratified that we're getting traction on our business model, our research driven business model.

But this environment -- certainly one of the things I want to talk about, maybe focus on this call is that this environment provides us the opportunity to continue to build our franchise. Unlike what many people are reading in the industry, which are the thousands and thousands of jobs that are being either eliminated or, according to today's paper, being shipped abroad, we are adding people almost at a very fast pace.

And so I have a slide here which talks about recent growth and talks about why I think this adds significantly to our franchise and our shareholder value, but also, as I cautioned in the press release, there are startup costs always associated when any time you -- when you add people and that can have a depressing impact on short-term results. But we're not running the firm for short-term results; we're running it for long-term volume value.

If you look at this in our Private Client Group, we've hired 89 financial advisors and this is all since the first of 2008. We've opened 16 new offices. A lot of offices out West, but offices all around. The startup cost year to date in excess of $2 million in some of these offices for the quarter, in excess of $1 million -- I'll come back to that in a moment.

Equity capital markets, in sales and trading hired 21 professionals since the first of the year. Of note, we associated with Bear Stearns, 11 people in New York, sales and trading; made an immediate positive impact to our firm. It was a great association for us.

On the investment banking side, we've added 18 professionals including a number of managing directors that also includes a nine person energy team that is already beginning to add to our pipeline. On the fixed income side we've added 25 sales and trading professionals including 12 in an aircraft leasing group.

Public finance, a 57% increase in our professional staff and public finance by adding 20 professionals including two new offices, one in Lansing, Michigan, the other in San Antonio, Texas. And on the banks, People Bank, not just professionals but across the infrastructure, at the Bank we've added 63 people to support the growth initiatives of the Bank which is, again, to primarily service our clientele in the brokerage firm.

So this growth has been as -- probably we have been as active in hiring and adding quality people as we have ever been, certainly in my tenure at the firm. It continues into the third quarter and I am very excited about the prospects for the future. I do not believe the world is coming to an end. It might stagger along for longer than a lot of us anticipate, but in the end we are certainly adding to the capabilities of this firm.

If you go quickly -- Jim went through a lot of the numbers; I don't want to be redundant on the income statement. But I will point out that if you look at the slide we're looking at, it shows core net income at $0.60 and GAAP at $0.45. I'll just point a couple things out for the quarter.

Our margins were I think 12.8, call it 13% margins for the quarter. We look at and we manage to 15% margins. The difference between the 13% and the 15% is about $1 million in the quarter for start-up costs in our Private Client Group; we had about a $500,000 mark down in our investment portfolio; and we had about $2 million in what I would say would be additional comp accruals to make sure that we're adequately reserved for comp. We don't want to be in a position where in the fourth quarter we have to ramp our comp accruals up significantly because -- you still have to pay people even though the market is difficult.

So when you look at our ratios and you see comp and benefits at 66% of net revenue I wouldn't get too excited about that. That's higher than we certainly target, but we want to be conservative in our comp accruals and so that's at 66% and operating expenses at 21, there's a point to a point and a half there in the startup cost, so that gets us margin of 13%. But we have our arms around why that is. The difference between 13% and 15% is $0.08 to $0.09 a share, so if you want to understand the magnitude of that.

If you flip the slide and just look at the source of revenues, the two things that really jump out is, again, principle transactions up some 97% although relatively flat from the first quarter. Again, primarily driven by strong fixed income results would be the primary reason for that.

And then investment banking for the quarter, down 67%, a combination of weak industry-wide environment which we're not immune, coupled with the fact that last year in the second quarter we did the People's transaction with a carryover from our Ryan Beck merger and that transaction added significantly almost $25 million to investment banking. So the combination of those two results and a 67% decline in investment banking which again, that will carry through almost all the slides, the weakness in the calendar and then in the M&A is true across the industry and for us.

If you look at the segments, again despite a lot that we're hearing about pleased to report that our Private Client Group had a record quarter in terms of revenue -- all-time record and an all-time record in terms of profitability despite some of these additional startup costs for all these new branches. Fixed income capital markets had their second best quarter both in terms of revenue and profitability. Again equity capital markets, a strong performance in the cash equities business offset by weakness in investment banking. And then I'll get to be bank.

So if you look, let's look at the Private Client Group quickly, again a record quarter, record profitability, really nothing to comment, comp and benefits of 60, operating expenses at 15, pretax margins at 25. Pleased with the results of the Private Client Group for the quarter.

Equity capital markets, you'll note net margins not where we want them to be, driven by a 69% comp to net revenue ratio which is, again, us making sure that we're adequately reserved. If you look at the sources of revenue, again I've said this, but our model is based upon the fact that we are a research driven -- we drive our results or we drive our business through quality research, the goal of which is to add alpha to our clients.

We think we're getting traction, as you can see, quarter-over-quarter a 22% increase in the flow of business, 30% for the year. So when I compare that to what's going on on the Street I feel that we're certainly gaining market share and every day it seems that we continue to gain new clients.

On the investment banking front, again as you can see, a very difficult comparison to last year's quarter again because of People's. So within equity capital markets banking is down 76%, it's down 17% sequentially, but we do see -- we have a very good pipeline and we believe that when the markets rebound we will participate accordingly. So while it's been difficult, the core underpinnings of our business is very good in equity capital markets.

Fixed income capital markets, simply a fantastic performance again. Margins of 34%. As I said last quarter, I did not believe the revenue run rate of $44 million was sustainable. We felt that we had about a $100 million business at that time, so it was interesting that that actual prediction seems to have come out as we had revenues of $34 million, but annualized is at about $100 million.

I will say that the tax exempt public finance business has been slow, as it usually is for the -- usually in the first six months of the year that's slow, it's just the way our business works, we generally do most of that business in the second half of the year. But a very good performance across the board in fixed income sales trading and you have it -- we feel we've added a lot of good people and that business is humming along.

On the bank, probably the only real thing noteworthy at the Bank is the provision for loan loss that went up from $135,000 to $935,000. Included in that provision for loan loss is approximately $500,000 of net charge-offs which then in turn causes our nonperforming loans as a percentage of loans to go from 1.4% down to 0.7. So net net we wrote off a loan of about $0.5 million. But you can see our nonperformers are at 0.73. Again, the Bank is small. You will see that there has not been a lot of growth in the bank; certainly we're not growing it as fast as we could grow it, but that's on purpose. Probably don't need to say anything more about that.

Other segment, again we'll talk about acquisition related. The other segment, which is primarily the overhead of the firm, is up as you would expect it to be as net revenues are up 14% year-over-year and our overhead is also -- up accordingly, although we think we have operating leverage across that.

If you look at GAAP to core earnings, as we do every quarter, you will see that slide 14 shows a reconciliation from core to GAAP, $0.60 in core income down to $0.15 of acquisition-related. I'll remind everyone that while -- everyone has seen we had a 750% increase in GAAP net income, that's the result of last year in the second quarter is when we took the large acquisition-related charge related to Ryan Beck. So that's why we always focus on core net income. But you can see the reconciliation.

As I always like to talk about, if you look at slide 15, it's where we do project to our acquisition-related expenses. You will see that we had for the second quarter on a pretax basis $6.514 million. We've been projecting $6.5 million a quarter, that's what we estimate for Q3 and Q4; it's about $0.14 to $0.15 a share. But again, the important thing is in 2009 we will no longer have these charges as they're primarily stock-based compensation expenses related primarily to the Legg Mason transaction which is going to be coming up on its third anniversary and a little bit to the Ryan Beck.

On the balance sheet side we remain well-capitalized with $560 million in capital, $465 million in equity, $95 million in a very attractive trust preferred security. That's against assets of $1.7 billion, book value per share $19.75, book value up both because of earnings and the amortization of that stock-based comp, offset by the fact that we bought back 572,000 shares at a premium to book. So that's dilutive to our book value. Net net book value is at $19.75 a share.

If you look at Level 3 Assets, again probably underscores why we have not had a lot of the difficulties. Our total Level 3 Assets are $44 million, which is less than 1% of our equity. Of that $44 million $27 million of it we classify auction rate securities as a Level 3 Asset for purposes of this. So $27 million of it, so almost all of our Level 3 Assets are auction rate securities, primarily closed and preferreds and some student -- the student loan auction rate securities.

We're confident that that market is beginning to clear up in whatever manner it takes here. It's been in the press every day, but we do think that that's going to resolve. Then we have about $17 million, which is really investments in partnerships and other things that simply have no observable inputs to value. But this is not what everyone has been reading about. So again, that's our Level 3 Assets.

Capital I've already spoken about in that we're very well-capitalized; equity to assets at 28%, our total capitalization of 33% and our trust equity are only at 20%. So we feel very good about our capital structure.

Finally, if you look at our other financial data you'll see the Bank quarter-over-quarter did not really grow that much, from $290 million to $300 million. The broker-dealer stayed relatively flat, so total assets really didn't change quarter-to-quarter although equity did.

Net net a very good quarter but I'm mostly excited about the capabilities that we've added to allow us to continue to not only gain market share, but to continue to be a great investment for our shareholders. So with that, operator, I'll be glad to take any questions.

(OPERATOR INSTRUCTIONS). KBW.

It's Joel Jeffrey. A quick question. In your 10-Q you talk about a transfer from the available for sale securities of about $10 million at the held for maturity. Can you give us a little color on that?

Sure. That is a position that we have in a bank trup CLO and there have been a lot of discussions about the accounting for that. If you look, Joel, a lot of firms have moved that into held to maturity. We believe we're going to hold this thing for a while. Certainly the market to sell these things is very difficult if there's a market at all. So we felt that we should move it into held to maturity at the Bank. It effectively takes some of the volatility out of other comprehensive income.

Okay. And then in terms of your auction rate securities, how much exposure do your clients have to that?

In total -- depends how you classify auction rate securities. There's a whole bunch in terms of whether they're [VVRNs] or whatever. But let's talk about our primary one that we look at the most are the closed in funds, and that would be about $260 million, $265 million that clients own.

Okay.

Let me add one other thing to the that. I think it's important for people on the call to understand there's a lot going on and people are reading about a lot of this -- the developments in this area. One of the things that's of note is -- and we're continuing to analyze this -- but of that $265 million, more than half, maybe 60% to 65% of that total was transferred to our firm through our recruiting efforts.

So that's some of these issues that people have to understand how is this all going to get resolved and it's securities that just transferred into us that we're holding. So it's a complex situation.

Okay. And then finally at the Bank, it looks like the loan portfolio grew primarily in the residential and home-equity lines. Is that part of your plan to move this portfolio to more residential focused or was that just where the best opportunities were?

I think it's where -- we, as we're marketing to our clientele in putting in what we're trying to have a combined collateral securities, home-equity, the home equity portfolio for our clients is where we see opportunity, as hard as that is to believe today.

In the home-equity lines, were those people exercising existing lines or were these new lines that were initiated?

I don't know that have the data for that, Joel. I'm sure it's a little of both.

Okay, great. Thanks very much.

(OPERATOR INSTRUCTIONS). I show no questions in queue.

Our questions keep getting less and less, so hopefully that's good. Anyway, everyone, thank you. We look forward to -- appreciate your interest in the Company and look forward to talking to you after the third quarter. Take care. Bye.

This concludes today's conference call. You may now disconnect your lines.