Cowen Inc.
Q4 2018 Earnings Call Transcript

Published: 18 Feb 2019

[Operator:]

Good morning, ladies and gentlemen. And thank you for joining Cowen's Conference Call to discuss the Financial Results for Fourth Quarter and Full-Year 2018. By now, you should have received a copy of the company's earnings release, which can be accessed at Cowen's Web site at www.cowen.com. Before we begin, the company 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 has no obligations to update the information presented on the call. A more complete description of these and other risks and uncertainties and assumptions is included in the company's filings with the SEC, which are available on the company's Web site and on the SEC Web site 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. Jeffrey Solomon, Chief Executive Officer.

[Jeffrey Solomon:]

Thank you, operator good morning everyone. And welcome to Cowen's fourth quarter and full-year 2018 earnings call. This is Jeffrey Solomon and joining me today on the call is our CFO, Steve Lasota. 2018 was a milestone year for Cowen on many fronts. We made great progress towards accomplishing the objectives we set out a year ago when I became the CEO. As a reminder, these objectives are outlined on Page 9 of our investor presentation. And after the quarter, they are all about making the company more profitable and more sustainable for the long term by driving return on common equity or ROCE, on an economic operating income basis. Following the mantra of simpler, fewer, deeper, which is a framework velocity underlying these objectives, we also set out to provide more transparency to investors. To that end, we now have available a new financial supplement, which provides additional operating and financial information, as well as a reconciliation of GAAP to economic income. In an effort to better illustrate how our businesses are progressing, we will be providing this financial supplement on a quarterly basis going forward. It is available for download on the investor relations section of our Web site and should be read in conjunction with our earnings release. In addition, given the GAAP net income to common stockholders is a financial measures and that is after preferred stock dividends, I want to highlight, that we've started including an additional economic income financial measure, beginning with this quarter's earnings release, which is economic income attributable to common stockholders. This financial measure is also after preferred dividends so as to better facilitate the comparisons between GAAP and economic income for our stockholders and potential investors. There's no mistaking the positive results for 2018 where we produced an ROCE on an economic operating income basis of 12.1% in 2018 versus 3.1% in 2017. Those outcomes are the product of great collaboration and great effort by our team at Cowen. Please keep in mind that as I review some of the key operating highlights that are defining the company's success over the past year that it's really a team sport. And then it reflects the work of a lot of people here at Cowen. You've heard us mention before that we are actively working to make improvements in our capital allocation process by harmonizing our balance sheet with our operating activities. We not only made some decisions to exit certain non-core businesses that we felt were not in service of our long-term ROCE goals, but we reallocated capital into dealer and spread businesses, such as securities finance and stacked trading where the returns on that capital are less volatile. We also continued to scale our higher margin businesses, especially in our strategic merger and advisory business, which nearly doubled in organic revenue in 2018. But it wasn’t just our organic efforts where we made great strides. Most of you know in November of 2018 we entered into an agreement to acquire leading middle market financial advisory firm, Quarton, which provides us with significant scale, revenue diversification and cross-border expertise. The acquisition was completed at the beginning of January, so the 2018 results do not include any revenue or expenses from Quarton. In addition, we continued to diversify our revenue streams, maintain and grow contribution from our recurring revenue businesses, simplify our balance sheet and focus on opportunities where we have strong domain expertise, all things we said we would accomplish at the start of 2018. We also worked to position the investment management platform toward strategies that are saleable and scalable and leveraged Cowen's domain expertise or what we call Cowen DNA with the operating businesses. Now it's easy to look at this and say our results were entirely driven by the work we accomplished in the past year. But the truth is that our strong operating performance in 2018 was the result of decisions made in prior years to put the fundamental building blocks in place to enable us to successfully grow the organization and drive higher profitability. Now, I will spend some time going over the financial highlights for the fourth quarter, as well as the entire year. In the fourth quarter, economic income attributable to Cowen includes $7.7 million compared to a loss of $9.4 million in the fourth quarter of 2017. Economic income to common stockholders, which is after preferred stock dividends, increased to $6 million from a loss of $11.1 million in the fourth quarter of '17. And economic operating income, which represents economic income to common stockholders and adds back depreciation and amortization, totaled $8.7 million for the quarter versus a loss of $7.9 million in the fourth quarter of 2017. For the full-year, economic income attributable to Cowen Inc. was $76.1 million, up nearly 5 times compared to the $15.8 million for the full year of 2017. Economic income to common stockholders improved to $69.3 million from $9 million in 2017. And economic operating income almost quadrupled to each $80.9 million from $20.6 million in 2017. Now as I highlight the successes in our specific operating businesses, I encourage you to follow along with the financial supplement book to get [Technical Difficulty], which is entitled revenue metrics. There you will find a lot of information to which we'll be referring throughout this call and on calls going forward. Turning to banking and capital markets. We continued to take advantage of the strong capital raising environment. Investment banking revenue grew 47% in 2018 to $329 million and you can see that investment banking performance also held-up well during the market volatility in the fourth quarter. For the full year 2018, healthcare continued to drive strong equity raising activity, but we also gained additional momentum in our non-healthcare verticals. In 2018, non-healthcare investment banking revenue represented 38% of total investment banking revenue, up from 28% in 2017. Pro forma for Quarton the non-healthcare revenue would have been 44% of total investment banking revenue in 2018. And just to add a quick note on our alliance with Intrepid Partners, because it does play into our diversification strategy. As a reminder, we partnered with Intrepid in November 2018 to jointly provide comprehensive capital markets advisory and execution services to North American oil and gas companies and investors. We've already had a few wins on the board, but there's lots more we can be doing here, especially now with the recent addition of our debt team, which has a lot of relevance to the Intrepid clients, more to come on that later. But it's nice to say that getting early validation not only of the partnership but that our growth in banking doesn’t all have to be built organically or through acquisition. It can be through strategic partnerships as well and Intrepid has been a great example of that so far. In addition to industry diversification, we are working to gain traction of scaling products that will drive margins such as our merger advisory business. This business almost doubled organically to $81.7 million in revenue in 2018 from $41.8 million in 2017. As a percentage of the total investment banking revenue, our advisory business grew from 19% in 2017 to 25% in 2018. And taking a closer look, we had meaningful contributions from a variety of industries, including industrial, technology, consumer, information services as well as healthcare. And pro forma for Quarton, our advisory business would have been 35% of total investment banking revenue in 2018. It is worth noting that Quarton's average transaction fees have historically been lower than Cowen. And so therefore, going forward, we expect to see overall implied average fees and medium fees for transactions to actually decline with the inclusion of Quarton. As I mentioned earlier, the acquisition of Quarton is expect to add significant scale to our advisory business and diversify our overall banking revenue, as well as expand our international presence. Although, it's early days the integration has been going according to plan and Quarton finished in 2018 in a high note and their mandated pipeline continues to look very strong. We look forward to providing more updates on the integration as the year progresses. Now turning to our markets businesses. For the full year, brokerage revenue was up 45% compared to 2017 and this includes the fourth quarter, which was one of our strongest quarters due to the heightened market volatility. You can see this in our brokerage revenue per trading day figures. For the full year 2018, we averaged $1.8 million per trading day versus $1.2 million in 2017. During the fourth quarter, brokerage revenue averaged $2 million per trading day. And as a reminder, we broadly describe the individual units within the brokerage business as institutional brokerage and institutional services, which are defined further in the financial supplement. Starting with the first component, institutional brokerage, revenue increased 36% in 2018. As a reminder, 2017 include seven months of Convergex. But if we normalize and by that I mean assuming Convergex was included in our numbers for 12 months in 2017, this increase was actually 15%. As for our institutional services business, revenue grew 74% in 2018. Again, if you normalize for Convergex, this increase was 20%. Our European cash and electronic revenue, which largely represents European accounts in U.S. equities, was up for the full year in 2018 despite the onset of MiFID II regulations. Research is a critical differentiator for Cowen and an anchor for our business. These results demonstrate that research matters. And they demonstrate that Cowen is increasingly a key provider of choice for the buy side with our non-conflicted independent execution model, as well as our collaborative value-added research product. One area that we haven't talked much about but should is our initiative to maintain and grow contribution from our recurring revenue or spread businesses. Markets revenue which includes brokerage financing and other revenue increased $476.7 million in 2018 from $323.9 in 2017. Normalizing 2017, for the acquisition of Convergex, markets revenue increased $82 million or 21% year-over-year. Moving to with increased scale and clearing execution, we reduced overall brokerage expense in 2018. Some of these savings were one-time in nature, which means we expect slightly higher non-comp brokerage expenses in 2019. Steve will talk more about that later in the call. Moving to the investment management business. As at January 1st, we had $10.4 billion in assets under management, which is $481 million decrease from October 1, 2018. And before I provide a strategy update on the investment management business, I'd like to spend a moment going over the performance of each of our strategies. Turning first with our private healthcare strategy, which as a reminder, is the first Cowen DNA investment platforms. This strategy performed exceptionally well in 2018 and were looking forward to launching follow-on products later this year. And the healthcare royalty strategy is now 78% committed and its co-mingle fund and building on the strong performance achieved throughout 2018 with $403 million deployed across all active vehicles. Merger arbitrage meaningfully outperformed the HFRX merger arbitrage index in both the quarter and year. Each of our real-estate vehicles are actually closed and are now in their investment period. And the long and short equity business, which focuses mostly on TMT and consumer sectors, outperform the HFRX to equity index and the S&P 500 for the year. We discussed in recent quarters that will be selective in how we grow the investment management business going forward. In 2018, our focus was on investment capabilities that are salable and scalable as we draw more closely upon the expertise and DNA of Cowen. As a result, we monetized and transitioned certain strategies to reduce costs and reduce risk during the year. As we grow our Cowen DNA strategies, there will be private equity type structures, which should provide more consistency in our results overtime. Since Elizabeth Rosman's appointment as the Head of Investment Management in August, we've sharpened our focus in this business. And our angle is for investment management to be more profitable, more profitable more consistent and more closely aligned with our overall strategy at Cowen. We will have more to say about this as the year unfolds. Ultimately, we believe these steps will help us drive investor returns, not just within the investment management business but for Cowen as a whole. And with that, I'd like to discuss some more macro-pieces of our strategy, starting with improving our capital allocation process, which helped us to drive higher ROCE in 2018. We also continued to buyback our shares, as well as invest in areas of our business we believe have significant expertise and growth opportunities. During the quarter, we repurchased $15 million of our common stock, leaving about $10 million available to repurchase under our current program. As we've talked before, we continue to use our capital strategically and sustainably to ensure that we have enough in capital in all market conditions, while still being able to repurchase shares opportunistically. One of the other areas we've discussed before is monetizing some of our non-core investments, which are valued at $126.9 million as of December 31st. This process does require time. And as I've said before, we don't have unilateral decision rights in most of these investments. We are continuing to make progress on realizations, although, it's still too early to provide specifics. And as a reminder, these legacy investments are not a key driver to the operating performance of the business if they periodically contribute to invest income when there is a change to our market. And they will provide additional sources of capital to grow our business once they are monetized. Investment income in 2018 did include an outsized unrealized gain in Tilray, which we invested in Tilray as many of you know in a private round prior to its IPO in July. This is a great example of harmonizing our balance sheet with our operating activities. And the stock had quite a run in 2018, which created some volatility to the investment income line in both the third and fourth quarters. It is worth noting that after the underwriters lockup expired earlier in the year, we did sell our position completely and earned quite a significant return on that investment. We will take a look at what the company has accomplished this past year and we believe it’s clear that we're moving in the right direction; from a more diversified revenue mix and focus on higher margin businesses to cleaner and simpler balance sheet and an investment management business that’s more integrated with the rest of Cowen, our result are starting to follow the execution. Before I offer some closing remarks and thoughts about where we go next, I'll turn it over to Steve Lasota for a brief review of our financials. Steve?

[Steve Lasota:]

Thank you, Jeff. For the fourth quarter of 2018, we reported GAAP net income attributable to common stockholders of $3.4 million or $0.11 per diluted common share compared to a net loss of $77.7 million or $2.51 -- loss of $2.51 per diluted share in the prior period. As a reminder, our GAAP results for the fourth quarter of 2017 were negatively impacted by certain one-time charges, including the reduction in value of our net deferred tax asset of $40.6 million as a result of the Tax Cuts and Jobs Act of 2017. For the full-year of 2018, we reported GAAP net income attributable to common shareholders of $36 million or $1.17 per diluted common share compared to a loss of $67.7 million or $2.29 per diluted common share in the prior year. Note that our GAAP stockholders equity increased by $46.4 million to $794.4 million at December 31, 2018 from $748 million at December 31, 2017. Our GAAP revenue was up 27% year-over-year to $259.9 million compared to $204.5 million in the prior year period. For the full-year, GAAP revenue was up 47% to $966.9 million compared to $658.8 million in 2017. The increase for both the quarter and the year was due to the continued strong performance across our businesses and with banking and brokerage. Also, we adopted the new revenue recognition standard effective January 1, 2018, which requires underwriting expenses to be shown growth rather than net of associated investment banking revenues and expenses reimbursed from clients to be shown growth in investment banking revenues rather than net in the respective expense category. In the fourth quarter of 2018, comp and benefits expenses were $115 million. Non-comp expenses for the fourth quarter of 2018 were $109.4 million and depreciation and amortization of $2.9 million. In addition, other income from gains on investments was $0.8 million, income tax benefit of $280,000 and non-controlling interest expense was a benefit of $655,000 for the quarter. The new revenue recognition standard has impacted several components of our GAAP income statement. To begin with underwriting expenses and expenses reimbursed like clients are now shown on a gross basis. Meaning underwriting expenses, which were previously shown net of investment banking revenues, are now included with our expenses and expenses reimbursed by clients were previously shown net of their respective expense line item are now include in investment banking revenues. This change however has no impact in our GAAP net income. Within our investment management business, the majority of fees from certain funds that we previously presented as incentive fees are still being recognized but are now being presented as equity investments in the funds with associated gains or losses in the income statement. Only a portion of our previously recognized incentive fees are now being deferred to GAAP with future period at the point that they are crystallized. Now, turning to our non-GAAP financial measures, which we refer to as economic income. As a reminder, we use economic income to measure our performance and to make certain operating decisions. In general, economic income is a pretax measure that eliminates the impact of consolidations, the consolidated funds and excludes goodwill and intangible impairment, certain other transaction related to adjustments or reorganization expenses, certain costs associated with debt and preferred stock dividends. Economic income revenues also include incentive income during the period when incentive fees are not yet crystallized with GAAP reporting. The remainder of my remarks will be based on these non-GAAP financial measures. We reported economic income of $7.7 million for the fourth quarter of 2018 versus a loss of $9.4 million in the prior year quarter. For the full-year 2018, economic income increased to $76.1 million from $15.8 million in 2017. Going forward, economic income attributable to common stockholders, which is economic income less preferred dividends is a new financial metric that we'll be including with our quarterly results. Economic income attributable to common stockholders was $6 million or $0.19 per common share in the fourth quarter of 2018 compared to a loss of $11.1 million or a loss of $0.36 per common share in the prior year quarter. For the year, economic income attributable to common stockholders was $69.3 million or $2.26 per common share, an improvement from $9 million and $0.31 per common share for 2017. For the fourth quarter of 2018, economic income revenue increased 13% year-over-year to $207.4 million compared to $183 million in the prior year quarter. For the full year 2018, economic income revenue increased 37% to $909.5 million from $606.2 million in 2017. The increase in economic income revenue for both the quarter and year was due to strong performance in equity financings and brokerage activities growing at contribution from advisory and non-healthcare sectors. As a reminder Convergex was included in seven months of 2017 and a full-year of 2018. For the quarter, investment banking revenue was up 18% to $77.6 million from $65.5 million in the fourth quarter of 2017. For the full-year, investment banking revenue was up 47% to $329.1 million from $223.6 million in 2017. Brokerage revenue for the quarter was up 19% year-over-year to $123.4 million. For the full year, brokerage revenue was up 45% to $452.3 million from $312.8 million in 2017. Management fees for the quarter were $11.2 million compared to $13.3 million from the prior year. For 2018, management fees were $49.2 million compared to $55.4 million in 2017. Incentive income was $2.3 million in the fourth quarter compared to $7.4 million in Q4 of 2017. And for the full-year, incentive income was $23.7 million compared to $26 million in 2017. Investment income for the quarter was a loss of $5.6 million compared to a loss of $6.6 million in the prior year. The decrease was mostly due to the mark-to-market adjustment of Tilray as Jeff mentioned. And we sold out of our position in Q1 of 2019. For the full-year, investment income was $56.3 million compared to $45.1 million in 2017. And finally, other revenue was a loss of $1.4 million in the fourth quarter compared to a loss of $83,000 in the prior year period. And for the full-year, other revenue was a loss of $1.2 million compared to $3.2 million in 2017. Turning now to our expenses. Comp and benefit expense for the quarter was $114.1 million or 55% of economic income revenue compared to $111.1 million or 60.7% in the prior year. For the full year, comp and benefits expenses was $506.3 million or 55.7% of economic income revenue compared to $388 million or 58.2% in 2017. Fixed non-comp expenses totaled $37.2 million for the fourth quarter compared to $35.5 million in the prior year. And for the full-year, fixed non-comp expenses increased $19.7 million to $141.8 million, compared to $122.1 million in 2017. Variable non-comp expenses in the fourth quarter of 2018 were $37.7 million, compared to $35.5 million in the prior year. For the full year, variable non-comp expenses were $143.6 million compared to $105.8 million in 2017, and this is based on a revenue increase of approximately $244 million. In 2018, we achieved significant cost savings following the Convergex acquisition and activities such as execution and clearing, driving significant efficiencies and margin improvement. We also realized approximately $5 million in one-time cost savings which benefited our variable trading cost margin from 2018. Depreciation and amortization expenses were $2.7 million compared to $3.2 million in the fourth quarter of 2017. And for the full year, D&A expenses remained flat at $11.6 million compared to 2017. Economic operating income attributable to common stockholders, which is economic income before depreciation and amortization and less the preferred dividend was $8.7 million for the fourth quarter compared to a loss of $7.9 million in the prior year quarter. And for the full year, economic operating income attributable to common stockholders was $80.9 million compared to $20.6 million in 2017. GAAP Stockholders' equity increased by $46.4 million. Common equity, which is stockholders' equity less preferred equity, was $693.3 million compared to $646.7 million at the end of 2017. Book value per share, which is common equity divided by total shares outstanding increased to $24.37 as at 12/31/2018 compared to $21.82 as of December 31, 2017. And lastly, invested capital was $786.7 million as of December 31, 2018 compared to $695.3 million as at the end of 12/31/2017. This completes my financial summary. And on a final note, we are continually monitoring and reviewing our segment reporting structure in accordance with authoritative guidance to determine whether any changes have occurred that would impact our reportable segments. As a result of the recent change in chief operating decision maker at Cowen, Jeff, we are experiencing a significant strategic shift to refocus our investment management business is on a set of differentiated products, which are aligned to content an insight within our domain of expertise. We are currently evaluating the impact of these changes on the presentation of economic information that we used to assess the performance of our operating results and make decisions about resource allocations, which may impact the company's determination of operating segments in the future. Please note that an earnings release directed to our Web site which contains our financial supplements. With that, I'll now turn the call back over to Jeff for closing remarks.

[Jeffrey Solomon:]

Thanks Steve. And it's clear that we've accomplished a lot the fact that we still have a lot more work to do. We'll continue to focus on how we drive higher and more sustainable ROCE. But it's clear that the Cowen today looks quite different from a year-ago and certainly a quite different from a few years ago. We are encouraged by the progress thus far and becoming more transparent, consistent and profitable; transparent in a sense of providing relevant information to model our businesses and a framework to think about how we're achieving progress on our objectives; consistent in the sense of working hard to have more predictability in our results without depending on any single outlier of business to carry us in any quarter; and profitable in the sense that our operating businesses and balance sheet activities work in concert with one another towards driving more sustainable ROCE over the long-term. I started the call by outlining some of the operational objectives we are working towards and have achieved and ready. And it bears repeating that will some of these objectives which we'll continue to inform our strategy over the next couple of years. As a reminder, the objectives are; continuing to diversify our revenue streams so that we're sustainable on all market environments, both in strong years like 2018 and in less favorable environments; healthcare is and always will be a key strength of Cowen, but were also capturing additional market share in other areas where we have domain expertise; scaling the businesses that will drive margin. We've talked about what we're doing on the advisory side from the strong organic growth in 2018 to the recent acquisition of Quarton, but it doesn't stop there. Other businesses like securities financing and factoring also generate higher margins. And we will be gradually scaling those businesses in ways that will generate attractive returns on our capital. We will also continue to focus on Cowen's DNA opportunities in part by simplifying our balance sheet by exiting non-core investments to strategies. In 2018, we took a big step in that regard. But as I mentioned, there is still plenty of work to be done and we expect to share updates on those initiatives in 2019. We also look to maintain and grow contribution from our recurring revenue or spreads emphasis, such as securities finance. And this is just another reflection of us moving deeper into the areas where we're already exhibiting strong growth. We are still in the early stages of this effort and we look forward to continuing to improve our capital allocation process, even as we were able to significantly increase our ROCE for the year. Our goal remains to achieve sustainable mid-teens ROCE over the long-term. Let me finish by saying these objectives inform each and every one of our business decisions. We understand that our progress cannot be distilled into a single number but plugs nicely into a model. And that's why we're taking steps to improve transparency in order to make it easier for investors to value us and ultimately to understand what we're seeing here internally, which is a company with significant growth and profitability potential. So I want to thank each and every one of our employees and partners, not only for helping us to get to this important juncture but also for helping to position the company to scale even further and drive more attractive returns. Also, I want to thank our shareholders who've continued to believe in the Cowen story and what we're doing, and to know that our strong operating performance and progress we're making were only a preview of what we can generate in the future. With that, I will open it up for questions. Operator?

[Operator:]

[Operator Instructions] Our first question comes from Devin Ryan of JMP Securities. You line is open.

[Devin Ryan:]

A first question here just on the brokerage business. Clearly, a great result in the quarter. I know that was partially a function of volatility, but it did create a nice hedge in some other areas. And so I think the strategic rationale of the addition of Convergex has really have been playing out in the market. But from here, how are you guys thinking about the ability to grow that business? Can you still do more at prime brokerage or connect more services into what's now brought in client base? Or just trying to think about whether we should be thinking about this business as more of a ballast in these types of markets versus a growth driver from here?

[Jeffrey Solomon:]

Obviously, we still think we have room to grow. It's certainly taking market share from others, because I don’t think we're building, and we said this over and over again. We're not predicating our business strategy on the growth in U.S. commission market. We know that it's relatively stagnant and we know there're pressures from our clients to pay less for more services. And so are predicated to surround them with more products and get in front of them with ways to be more effective, and take a larger share of their overall wallet. You could certainly see that as we moved in the prime brokerage business. Moving into the clearing business and allowing us to grow our securities lending business has been a fantastic boon for us, both in the sense that we can begin to offer some of our clients on a selective basis products and services that they can't otherwise get from some of the larger organizations. This is really about bifurcating the clients that we're talking to in many instances. We just still get the right attention from some of the larger institutions, and so we're building our business to make sure that they are getting the right attention from organizations like ours that would be securities lending and things like that. We've actually launched a sloth product. Its early days, so I wouldn’t build into a model or anything like that that gives you an idea of where we’re going. It effectively allows us to offer synthetic prime services to people on a selected basis. And that's just a great way for us to 360 clients and who're really impactful to us really help them to figure out ways to pay us even if their commission wallets are likely to decrease overtime. So look, we see adjacencies all over the place in that business. Our international algo product we launched this year I think is just getting started. That was something that we acquired is really part of the Convergex acquisition and development work that’s done improving that product over the course of the past year and half has been tremendous. And we're already seeing uptake from clients. So again, do I think there is likely to be growth? Yes, I do. And I don’t think it's predicated on the notion that we will be having to see growth in the overall market. I would also say the last piece is we don’t really talk much about it because it's been a few years. But we're seeing actually really great progress in what's happened at the firm formerly known CRT. The cross asset capabilities that we are presenting to clients for them to be able to trade in securities and look at securities up and down the capital structure, it's pretty unique. And I'm thinking it's a few years to get it right, frankly. We've got great leadership in that area. And so what we're seeing is significant progress we've made there. And finally, we've seen great growth in the options trading business, and we are getting the volatility of the markets and we've added a bunch of new clients. So I don’t know that we'll have the same growth that we had year-over-year but still remain optimistic.

[Devin Ryan:]

On the advisory business, so you guys also had a strong year. I think Quarton is expected or was expected to generate about $45 million revenue on their own, so that would put you pro forma and about $125 million in advisory fees, which is really a new level of scale. And so when you guys think about the addressable market and the business that you're building, because I know advisory has been a focus. Do you have any aspirational goals for how large you would like to see that business become maybe, over the next five years or so? And some of your middle market focus peers are a few hundred million or higher in terms of revenue, so that would still leave a lot of room for you guys to grow that. So just how are you thinking about that business scaling and where you would like that to be over the next handful of years?

[Jeffrey Solomon:]

Obviously, we think it has tremendous growth potential. I mean, I do look and I admire a lot of what some of our competitors were able to do on the early part of this decade, they put themselves in a position where you can capture huge market share. I said over and over again, I wish we could have got to it earlier. I think we did the right thing, frankly, at Cowen. I don't regret anything that we did in the past six years in terms of focusing on the businesses that were really critical to making sure that Cowen can have a strong foundation. But when you look at that market, especially the middle market, there is tremendous growth opportunity. And there's just a dearth of high quality players that can play at scale. And our strategy is, I mean I'm happy to talk about it, because I think it's hard to replicate. If you want to go in and provide clients the middle-market and the lower middle market with solutions, now those solutions might be financing solutions, they might be acquisition opportunities, they might be sale opportunities. But when you sit where the client, which is not used to being covered with a firm that has a full suite of products with individuals who actually understand what it means to run the small businesses, it's an amazing thing. And I look at the early wins we've had post acquisition and I look at the wins that we had last year. And the common theme among them is that we're able to really engage with clients for the full suite of products where they know that we can execute for them. If they chose path A, whether that's equity finance or path B that is debt finance and path C, strategic acquisitions or path D, looking at strategic alternatives to monetize. And I think there are just a dearth of players in that in the middle market who can play at scale and still execute like us a small firm with a lot of engagement. And that’s why I think we have tremendous upside. So, I'm not going to give you a number of what I think it could be but you know what some of our competitors do. And I don’t see why that can’t be us.

[Devin Ryan:]

Another question here just on banking but more of the ECM side. Just any sense of impact of the government shutdown either on backlog deals just falling apart altogether, because of the timing or how that affects first quarter timing versus second quarter? Just trying to think about near term or intermediate term effects of the shutdown? Or just more broadly two of you can just expand a little bit on the backlog at ECM?

[Jeffrey Solomon:]

So I would say there is no question that the lack of SEC opens in January will definitely impact first quarter revenues. We don’t think it impacts year long revenues. So the backlog will get cleared and ultimately things that might have happened in the first quarter will happen in the second quarter, assuming that market conditions are continuing to be favorable. So we're not seeing here full year outlook at all. But there is no questions that we had a backlog of things that we think should have got done in the first few weeks of the year that don’t. And of course in equity finance when people's numbers go stay on the middle of February, you have a period of time until they report where you can't do anything. And so certainly we will have missed that. The companies that actually did have the well known seasoned issuers that had shelves in place, many of them took advantage of the market and so we participated there. And certainly our M&A franchise and the debt deals we're working on are continuing to help deal with the fact that it was a slower equity finance market in January.

[Devin Ryan:]

And last one here I'll sneak in. So you guys made a lot of progress during 2018 on reducing the non-core capital. And I think that was one of the contributors to the strong return on equity that you had and you alluded to this. But when you look at 2019, can you maybe remind us of some of the high-level areas that you could still take capital out of or even events that we should be thinking about to have on the radar where capital could come out. I know Linkem is one thing we've spoken about potentially something happening there. But is there anything else? And as you talked about refining your capital allocation process, because this all interconnected here. How do stock repurchases or how are you thinking about that? Is there any shift with stock repurchases as you are thinking about capital allocation? I know you had a relatively active buyback in the quarter. And will you be neutralizing the Quarton share issuance? So I know there is a lot there but would appreciate it.

[Jeffrey Solomon:]

So I think you've highlighted the big elements, I mean the $126 million is stuff that we're going to continue to work down, biggest of that is clearly Linkem, clearly ours investment and formation. And those are just things we just don’t have the ability to laterally make them happen at prices that I think you would like or we would like. So, there is always an opportunity to monetize stuff at significant discounts. So we're not going to go that route, because we don’t have to. And so we're working I'd say very hard. This year, we are certainly working on things that would need me to feel better about fact that we’re closer to monetization in some of those assets. I can’t get into too many details around that. But last year this time we were looking on those things and now we are. And so will continue to work hard on that. We'll continue to buy back stock out of cash flow like we've been saying. Certainly, we saw strong cash flow last year and we certainly wanted to be aggressive in buying back stock ahead of the issuance for Quarton. And I think that was an opportunity for us to do that we know that there is a pretty lengthy period of time during the first quarter in which we can’t be in the market. Obviously, that ends soon. But we're basically have been out of the market for almost two months and then we've short window to be in the market before first quarter is over. So we're smart about how we access the market. And clearly with the market volatility and where the stock was trading, it's attractive to buy back shares at those prices. And so we'll continue to be aggressive and tactical with that. And then as we start to monetize some of these bigger pieces, we will do capital allocation. And that's why it's important to focus on ROCE. ROCE is the measure that incentivizes us to do the right thing with capital. And there is a balance between the short-term gain of having stock buybacks and driving your equity calculation lower and making I would say difficult decisions, sometimes to make investments in business to continue to drive you forward. And so we're constantly debating that but we have this very consistent framework of how we are making those determinations. And it all revolves around this idea that we should be doing things that put us in a position where we can be consistently achieving mid-teens pretax ROEs over the business cycle. And so this year we made great progress in that and we're putting ourselves in a position where we start just as every year with opportunity to do that and the markets don’t have to be exceptional for us to accomplish that. So I hope that's helpful but obviously stock buybacks are a part of that equation, but they are not the only factor that goes into it.

[Operator:]

[Operator Instructions] Our next question comes from Sumeet Mody of Sandler O'Neill. Your line is open.

[Sumeet Mody:]

I want to follow-up on the ECM side of the business. From the outside, it looks like overall industry activity has been trending down the last couple of quarters and healthcare volumes haven’t been to insulated from that downtick. How are you feeling about that environment in biotech today and are we still in the early stages there? Maybe just to get an update on the color.

[Jeffrey Solomon:]

I think we are still in the early phases of drug discovery. I have I think said on previous calls, the amount of investigatory new drug applications in front of the FDA is at record level and those companies need to be financed. It doesn’t mean that we won't have ups and downs in that financing cycle. And certainly, it was a bad fourth quarter for a lot of investors, which obviously makes them a little bit more cautious with new issue. But when you look at the broader trend and what's going to play out over the next five years, there is not a better to be in, especially if you do equity finance, all of these companies will need to finance. And increasingly, they are going to be doing it with debt financing. And so we are engaged in a lot of conversations around helping our healthcare companies to think through debt financing and royalty financing, because that’s a real alternative for them. And so it's not just equity finance and we are having lots of conversations about hybrid equity finance and we certainly think that there will be a lot of folks who are doing convertible issuance. And so one of the things we did that we don’t talk much about is we have a combined and consolidated global capital markets effort that rolls into this one group, one team where we can sit in front of a client and talk about multitude of products that might fit their needs and objectives. Now ultimately, they can and we can advise them on what's the best one is for them. But to be able to sit in a room and say here is path A, here is path B, here is path C and be able to balance that against what's happening in the market in each of those areas is a huge advantage. And I think we are just beginning to track the service on that. So we'll see how it progresses. Certainly, it's not going to be linear. But I mean I couldn’t be happier that we have an expertise in that area, because one thing I do know is the sun is going to come up tomorrow, another thing I know is biotech companies will need to finance themselves at some point.

[Sumeet Mody:]

And then one quick one on modeling. Just for the comp ratio, came in a little bit lower than we were expecting for the year, pretty solid step down year-over-year. Just wondering if that’s a good run rate for us to use for '19 or any consideration that we should be aware of?

[Jeffrey Solomon:]

Sumeet as I've said in the past, we are definitely working on getting that comp to rev ratio down. But because we had an exceptional year, I think that's why the comp -- the rev ratio was where it is at. I mean, we are pushing to get it lower. But depending on where the revenues come out this year, we are projecting in a similar area.

[Operator:]

There are no further questions. I would like to turn the call back over to Jeffrey Solomon for any closing remarks.

[Jeffrey Solomon:]

So thanks again for joining us for the call today. Sorry that I have a cold and keep coughing. I want to wish everybody a happy Valentine's Day. I want to make sure we do that. And of course it's also a very special day here at Cowen, because it's Steve Lasota's birthday. So we certainly don’t want the call to end without saying happy birthday to you Steve. You did an amazing job and we wish you all prosperity and success for your next year.

[Steve Lasota:]

Thank you. I'm just getting older.

[Jeffrey Solomon:]

Getting older is better than not getting older buddy. So anyway with that, we thank you all for your continued support. And look forward to speaking with you on the next call. Talk to you soon.

[Operator:]

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program and you may all disconnect. Everyone, have a great day.