Cowen Inc.
Q3 2014 Earnings Call Transcript

Published: 6 Nov 2014

[Operator:]

Good morning, ladies and gentlemen, and thank you for joining the Cowen Group, Inc. conference call to discuss the financial results for the 2014 third quarter. By now, you should have received a copy of the company's earnings release, which can be accessed at Cowen Group, Inc.'s website at www.cowen.com. Before we begin, the company has asked me to remind you that some of the comments made on today's call and some of the responses to your questions may contain forward-looking statements. These statements are subject to the risks and uncertainties described in the company's earnings release and other filings with the SEC. Cowen Group, Inc. has no obligation to update the information presented on the call. A more complete description of these and other risks and uncertainties and assumptions included in the company's filings with the SEC, which are available on the company's website and on the SEC website at www.sec.gov. Also on today's call, our speakers will reference certain non-GAAP financial measures, which the company believes will provide useful information for investors. Reconciliation of those measures to GAAP is consistent with the company's reconciliation as presented in today's earnings release. Now I would like to turn the call over to Mr. Peter Cohen, Chairman and Chief Executive Officer. Please proceed.

[Peter Anthony Cohen:]

Thanks, operator. Good morning, everyone. Welcome to Cowen Group's Third Quarter 2014 Earnings Call. With me today are Jeff Solomon, President of the Cowen Group; Steve Lasota, our CFO. This marks the 5th anniversary of the Cowen-Ramius business combination back in 2009. It's been a very challenging period in which we have successfully repositioned our businesses. We transitioned the investment management business from a multi-strategy platform to a platform consisting of businesses for alpha generating strategies that are relevant in today's market environment, and we think are scalable. And we transformed the broker-dealer into an organization that also is alpha generating in its capabilities to clients to expand [ph] and research the sales trading businesses. And we think our latest results are a reflection of that transformation that we've been working on in the last 5 years. Third quarter 2014 economic income revenue rose 20% year-over-year to $110 million in the quarter. Third quarter 2014 economic income was $6.7 million or $0.06 per diluted share, our 5th consecutive profitable quarter on an economic income basis. And this compares with $3.7 million or $0.03 per share in the third quarter last year. Excluding the syndication cost associated with asset raising for our healthcare royalties fund, which has to be expensed on the current period basis, third quarter economic income was $8.8 million or $0.08 per diluted share. Jeff will review the performance for our operating businesses and Steve will review the financial performance of the firm in just a few minutes. Before I turn the call over to them, just like to sort of highlight and put the quarter in context for everyone. The third quarter performance was accomplished despite a more volatile equity market than we've seen in the past few years. Large cap indices ended up only modestly despite hitting new highs in September, while the smaller cap indices were down several percentage points, which is a playground that we operate in, and so it has its effect on us, but as Jeff will tell you our business sort of overcame that. We also saw increased volatility in fixed income markets due, in part, to mixed macroeconomic influences and everything else that was going on in the third quarter that you already know about. Investment performance on the balance sheet, affected by the 2 things I just mentioned above, was less productive in the third quarter than it was earlier in the year. Some of our investment strategy was exposed to that volatility. However, the regionality [ph] in risk assets, we think, portend well for the performance of an overall strategy as we manage our Ramius and on our balance sheet, and should bode well for our equity and capital markets businesses at Cowen and Company. Despite the increased volatility we saw in the third quarter, Ramius continued to succeed in raising new assets, while expanding its platform of capabilities, which should be covered in Jeff's text. We also continue to have a favorable equity capital raising environment, albeit it was more tempered relative to the first half of the year. In fact, after adjusting for the Alibaba IPO in the third quarter, actual dollars raised in U.S. equity capital markets were roughly flat in the quarter compared to prior year period. Health Care and Technology were among the best performing sectors in the quarter, which obviously plays well to our strengths. And our equity business, as I mentioned before, again, showed nice improvements despite depressed overall volumes. While there was some debt market volatility in the quarter, our Debt Capital Markets business, which focuses primarily on middle market companies, was insulated from the shifting markets and had its best quarter so far this year. It's really gratifying to see the hard work we put in over the last several years starting to payoff. Our businesses are on very solid ground, we are very well-capitalized and we believe our businesses are well positioned to make additional gains across the board. And I look forward to more positive calls in the future with you. And finally, none of this would have happened without all the dedication and hard work of all of our colleagues who continue to do a tremendous job in helping us advance our culture and our objectives as a firm. With that, let me turn it over to Jeff, who will talk about the business.

[Jeffrey Marc Solomon:]

Thanks, Peter. Both Ramius and Cowen had a solid quarter. Our objectives at Ramius have been to grow assets under management, to expand our investment capabilities and bring high-quality products with unique alpha characteristics to market. We continue to make steady progress in each of these areas. Ramius ended the quarter with $12.2 billion in assets under management, up $2.7 billion since the beginning of the year. During the quarter, we had $611 million in net inflows attributed to most of -- to almost all of our strategies. Year-to-date, we closed on 50-plus new mandates, totaling more than $3.3 billion in gross assets in our healthcare royalties, alternative solutions, activist and real estate strategies. We are finding success across distribution channels from institutional and high net worth and mass affluent, which speaks not only to the effectiveness of our sales organization across a variety of channels and strategies, but importantly, to the relevance of our product offerings. To give you some highlights of AUM on our platform. Alternative solutions, with $3.7 billion in AUM as of October 1, was up $796 million in the first 9 months of this year. AUM across our hedge funds strategies was up, was -- is $4.1 billion, up $931 million since the start of the year. Healthcare royalties AUM stood at $2.5 billion at quarter end and $1.5 billion at the start of the year. Healthcare royalties recently closed its third fund with very strong interest. Real estate had $1.7 billion in AUM at September 30 and we look forward to raising additional investor capital in real estate over the next few quarters. During the quarter, we signed a new team, Quadratic Capital Management, which runs a global macro strategy, and while we do not expect this to materially impact our earnings until later in the year, it is worth noting that Quadratic does expand our platform of investment capabilities in a very important area. Today, our broad range of investment capabilities include value activist, healthcare royalties, alternative solutions, real estate, event-driven managed futures and global macro. While our average management fee in the quarter was 55 basis points compared to 62 basis points in the prior year quarter, aggregate management fees were up year-over-year. The year-over-year decline in average management fee was due, in part, to growth in committed but uninvested capital in some of our newly raised funds and the growth in AUM in our alternative solutions business, which has lower fee-paying assets. As AUM continues to rise, we expect management fees to continue to grow. However, the real elasticity in our P&L comes when our funds outperform and generate performance fees. At Cowen and Company, we also had a strong quarter despite a more challenging markets. Our Investment Banking division continues to benefit from our capital markets-based activities. We saw improved product and sector diversity with contributions coming from Cowen's traditional areas of strength, such as ECM, DCM as well as Health Care. ECM revenue was up significantly over the year driven by our Health Care and Technology franchises. We closed 24 transactions in the quarter, and had significant increase in our average transaction fee compared to the prior year period. Our Debt Capital Markets business had a record quarter, closing 10 transactions across 8 industries, with an average transactions fee exceeding the average fee for the full year of 2013. All told, we participated in transactions that raised $5.3 billion in equity and debt proceeds for investment banking clients in the quarter. We also closed 3 strategic advisory transactions this quarter. Third quarter 2014 was our strongest quarter for equities this year despite weak year-over-year growth in equity markets volumes broadly. This performance is the result of our increased investment in research content as well as accretive acquisitions. Today, we cover 750 stocks compared to approximately 400 stocks 2.5 years ago. The 2012 acquisition of the Algorithmic Trading Management platform gave us our electronics business. And the 2013 acquisition of Dahlman Rose enabled us to broaden our industry focus areas meaningfully, to increase our relevance with clients. Collectively, these efforts, along with other initiatives, have deepened our relevance to clients and we've seen meaningful revenue increases as a result. Customers of our equities business are also paying us more consistently and it shows in our market share gains, which have been consistent over the past few years. According to the latest McLagan market share data, we ranked 14th among those accounts we refer to as our Focus 150. This is impressive because the top 10 spots are typically held by [indiscernible] banks. Three years ago, we were closer to 20. As we increase our relevance with clients, we expect to keep further leverage in our model as clients consolidate their commissions towards the top brokers. I will now turn the call over to Steve Lasota, who will review our financials. Steve?

[Stephen A. Lasota:]

Thank you, Jeff. In the third quarter of 2014, we reported GAAP net income of $6.5 million or $0.05 per diluted common share compared to GAAP net income of $3.6 million or $0.03 per diluted common share in the prior year period. Excluding syndication cost associated with an alternative investment asset fund, third quarter 2014 GAAP net income was $0.07 per diluted common share. In addition to our GAAP results, management utilizes non-GAAP financial measures, what we term as economic income, to analyze our core operating segment performance. We believe economic income provides a more accurate view of the operating businesses by excluding the impact of accounting rules that require us to consolidate certain of our funds and certain other acquisition-related expenses, reorganization expenses and taxes. The remainder of my comments will be based on these non-GAAP financial measures. In the third quarter of 2014, the company reported economic income of $6.7 million or $0.06 per diluted common share. This compares to economic income of $3.7 million or $0.03 per diluted share in the prior year period. Third quarter 2014 economic income revenues were $110.3 million, an increase of $18.2 million compared to $92.1 million in the prior year period. Investment banking revenue was $45.8 million compared to $27.7 million in the prior year period. Brokerage revenue rose 11% year-over-year to $35.6 million. Management fees were $16.3 million versus $14.3 million in the prior year period. Incentive income was $4.7 million compared to $5.7 million in the prior year period, and we generated $7.5 million in investment income compared to $12.3 million in the prior year period. For the third quarter of 2014, compensation and benefits expense was 59% of economic income revenue compared to 57% in the prior year period. For the quarter, fixed non-compensation expense were $23.8 million. This was unchanged versus the prior year period, while revenues were up 20% year-over-year. Bearable non-comp expenses were $12.2 million compared to $8.4 million in the comparable period a year ago. The increase is primarily related to syndication costs related to a capital raise by one of our alternative investment funds, for which a large portion is treated as the current expense and increased firm-wide marketing activity. While economic income is a pretax measure, I'd like to briefly touch on our tax situation. After the acquisition of LaBrance, Cowen had significant net operating losses [indiscernible] in the U.S. that carry forward into the future of $321 million. We have gross deferred tax assets of $190 million and a gross deferred tax liability of $53 million. We currently have 100% valuation allowance or $137 million against the net DTA. We assess our positive and negative factors when determining whether we need to record a full or partial valuation allowance. The major negative evidences is the company's cumulative loss position. And due to recent and current positive operating results, we anticipate to begin a 3-year accumulative income position by year end. As a result of this and other positive factors, it is possible that we could release [ph] some or all of the $137 million valuation allowance in the fourth quarter. Stockholders' equity amounted to $539 million, and invested capital was $594 million as of September 30. Book value per share was $4.74, intangible book value per share was $4.33 at quarter end. In the third quarter, we repurchased approximately 1,482,000 shares in the open market, and 65,000 shares as a result of net share settlement related to the vesting of equity awards at an average price of $4.07 per share and a total cost of $6.3 million. As of September 30, $19 million remains available under our share repurchase program. I will now turn the call back over to Jeff for closing remarks.

[Jeffrey Marc Solomon:]

Thanks, Steve. Our third quarter 2014 results highlight our progress on building a business that is well-positioned for success in all market environments. Peter mentioned at the beginning of call that we've transformed the firm into a leading provider of alpha. The basis of our success is rooted in our mission to help our clients outperform consistently. Specifically, at Ramius, we sell unique alpha to the end buyer and at Cowen and Company, we sell alpha generating capabilities to clients who want to outperform. In our view, the United States as an investment theme [ph] presents significant alpha-generating opportunities over the next decade. And with our business oriented towards the United States as an investment theme we are well-positioned to benefit on our country's growth over the next decade. Every decision we make as a firm is about driving our outperformance for whoever our end buyer is, and no other firm, we believe, has the same kind of focus on alpha like we do. Before we take questions, I'd like say thanks to our colleagues who've done a really fantastic job bringing their A-game everyday. And now, I'd like to open up the call for questions. Operator?

[Operator:]

[Operator Instructions] And our first question comes from the line of Devin Ryan with JMP Securities.

[Brian McKenna:]

This is Brian McKenna for Devin. Just a couple of questions from me. So with respect to the strength of debt underwriting this quarter, was it tied to any change in market conditions, or was it just timing where everything came together at the same time? We know it can be lumpy, but just trying to get some perspective around this quarter's strength relative to the go-forward level.

[Jeffrey Marc Solomon:]

So I think it's definitely lumpy. I would say that we had a number of these things that we've been working on for a while that came together, though I would say the pipeline has also continued to be pretty robust. And so we look at that business as how we're going to perform in any given year, never quite sure whether it's going to come smoothly across each quarter or over clustered in any 1 quarter. But on an annual basis, we feel like that is a significant contributor and will continue to be so.

[Brian McKenna:]

Okay. Got it. And then can you just provide a little more perspective around what products have been driving that recent flows in asset management and where the new mandates are concentrated?

[Jeffrey Marc Solomon:]

Well I think it's been pretty much across-the-board. In a number of our products, we've been able to do significant raises. For our hedge fund products, we've been raising pretty constantly in our activist strategies, in our healthcare royalty product, as I mentioned, we closed the fund, we've raised some incremental money as well as the alternative solutions business. So it has been pretty broad-based, which is a real testament to the strength and the diversity of the platform.

[Operator:]

Your next question comes from the line of Mike Adams with Sandler O'Neill.

[Michael Adams:]

So first off, just in terms of your invested capital and the impact of the market volatility around quarter end, were they specific strategies that underperformed that accounted for the lion's share, like the negative marks into quarter end?

[Stephen A. Lasota:]

Yes. Our high yield credit-based investing activities certainly were affected. We did have a pretty sizable backup in raising the high-yield market. So that was a strategy that underperformed versus the prior year. And volatility late in the month certainly affected spreads in our merger arbitrage portfolio, which even got more exacerbated in October when the [indiscernible] Shire deal broke. The spreads, so many people were kind of wrong-sided and mispositioned. Well, I wouldn't say that, I shouldn't say they were mispositioned, I mean that was a trade that everybody had on. So the rebalancing of portfolios, of course, present and provided [ph] further. 90% of our book is in definitive deals and while we took -- we had some mark-to-market experience, I would say, at the end of September and into early October, we've recovered substantially all of that. And we are very comfortable, but certainly, those are the 2 areas that had the biggest impact on the decline.

[Michael Adams:]

Got it. And just to clarify, you did say that you've recovered a lot of that underperformance in late-September, here in October?

[Stephen A. Lasota:]

Well, it continued into October, but we've recovered substantially all of that as of kind of where we are right now.

[Michael Adams:]

Got it. Great. And then, Steve, I appreciate the update on the DTA and the valuation allowance that you have there. I guess, I'm trying to think about the different factors that will influence potential reversal in, around year end. I'm assuming it's not like a black-and-white issue, it's not like formulaic. So what are the things that you're talking about with your auditors and what could push it one way or the other?

[Stephen A. Lasota:]

Well, the negative evidence is the cumulative 3-year loss decision which we anticipate being audited in the fourth quarter. '11 rolls off, and now you look at '12, '13 and '14, which will be in a cumulative income position. Then you look at the NOL carryforward, how many years, which is 20-year carryforward and our NOL -- most of our NOLs are anywhere from 18- to 20-years. So as long as we can show projections that we can get the auditors comfortable with, that we're going to be able to use that in a reasonable time period, we will be able to take down some or all of the valuation allowances.

[Michael Adams:]

Got it. Understood. And then sort of related, but the diluted share count saw a nice sequential decline down over 1 million shares, and I know you guys have been very consistent with your stand from the buybacks of the stock below tangible book value. But you've shifted to more of a cash-based comp in recent quarters. So can you help me think about the trajectory for the share count over the next like 2 or 3 quarters? I mean, if the stock remains below tangible book, should we expect it to continue to drip down quarter-over-quarter?

[Peter Anthony Cohen:]

I'd say flattish to drift down. We basically have repurchased a decent part of what we'll vest in 2015, share-based comp. And we're always kind of like trying to and looking at balancing sort of cash flow with our investment opportunities on the balance sheet, and investment into new businesses, and where is the best place to use liquidity, which we have a great deal of, as you probably -- as you know. So as we get into the new year, we are definitely looking at some very interesting new business opportunities for the firm, one of them, obviously, our finance company, where we'll start to put some money to work next year, first quarter next year. So I can't give you a hard-sensed answer. We know where we like to go, which is to keep the share count kind of where it is and drift lower. But if we see better opportunities for the cash to work in businesses, we may decide to do that on a short-term basis.

[Michael Adams:]

Last one for me, Steve...

[Peter Anthony Cohen:]

I was going to say -- we take a long term view of building value in the business. This is -- we're really not quarter-to-quarter driven by things like share count. I mean we're taking a kind of a rolling 5-year view all the time about how to create value for our shareholders, which our employees are a substantial part of and will be an increasing part of. So that sort of gets reassessed constantly.

[Michael Adams:]

Understood. Steve, last one for me. But the variable non-comp, the syndication cost that were in there this quarter, what was the actual dollar amount of the placement fee? I'm just trying to figure out for modeling purposes what the good run rate is in 4Q.

[Stephen A. Lasota:]

Approximately $2.1 million was syndicated in the -- that's in the third quarter.

[Operator:]

Your next question comes from the line of Steven Chubak with Nomura.

[Steven J. Chubak:]

So I really appreciate the details you provided on the management fee trends. You noted the declines in the fee rates at 55 basis point level. It appears that the decline is largely attributable to the remixing of fund strategies and maybe an elevated level of uninvested capital. But I just want to get a better understanding as to based on the current mix of strategies, how we should think about that metric on a go-forward basis?

[Stephen A. Lasota:]

It, again, it depends on where we raise the assets. So as Jeff was saying, alternative solutions has raised close to $800 million this year, which is lower fee pay -- lower management fee paying, but it does have performance fees associated with a lot of those assets. On the hedge fund side of the business, our activist business did have a fund this year that was committed based on committed capital. So when that was funded, we would collect management fees. So that had some effect on it as well. And then healthcare royalty partners, which had raised Fund 3, had a retroactive in Fund 1, the management fees would decrease when they raise Fund 3. So going forward, we are raising money in all higher management fee paying except for alternative solution products. It's just, I guess, what we are showing is it's hard for us to predict quarter-to-quarter what that will be. But as long as our AUM is increasing, we fully expect our management fees will be increasing as well.

[Jeffrey Marc Solomon:]

Yes, I think we struggle, honestly, with that number. It's not a number that we necessarily control. We are looking to raise assets in all of the strategies, and they all have varied fee structures that address different parts of the marketplace. And so our goal is to build products that are scalable, so even in the alternative solutions space, for example, while we're taking in lower fee paying assets, that's accretive, because the cost associated with delivering incremental AUM is really marginal. And so, I think that's a number that we'll continue to report as an output, but it's not something that we are sitting here strategically to drive that number higher, it's just an output of where we stand. Obviously, if we can be developing products that command higher management fees because they generate greater alpha or they are limited capacity products, that's generally where you can drive your management fee higher. So I think strategically, our goal would be to create this balance between limited capacity products to drive higher fees and more, I would say, mass market-oriented products that may be drive lower fees. But all with the goal towards taking in AUM that is net-net accretive to the operating business. And so, I just think it's a metric that we've been telling everybody for a while, so we'll continue to show it, but it's not something that we manage towards.

[Steven J. Chubak:]

Understood. I do appreciate the color. And then maybe switching gears to the broker-dealer side. It was nice to see in the most recent quarter a pretty healthy balance of underwriting fee contributions from both the debt and equity side. ECM historically has been the greater contributor, and I just wanted to get a sense as to how you see that mix evolving? And I know you provided some detail on the outlook for investment banking side of the business, but we've been hearing some more cautious commentary from your larger peers on Debt Capital Markets in particular, and just wanted to get a sense as to, given your middle market focus, whether that's helped you buck the trend and are you still optimistic on that side of the business?

[Jeffrey Marc Solomon:]

So we still are optimistic on that side of the business. I think it's -- we're not really playing in the same markets that some of our larger competitors are. So to frame it for you, they are largely focused on regular way high yield with significant secondary market trading activity, we are not. Most of our deals, if not all of our deals, are really privately placed loans and high-yield instruments. There is some secondary market trading in those, but we don't really have any secondary market trading capability in fixed income. So when our larger brethren talk about the dynamics in that business, they tend to lump it altogether. There was no question that the high-yield volatility that Peter referred to in the September time frame, put a little bit of a chill on the market for regular way, big, large, liquid high-yield. That is not affecting our ability to get deals done in the sub-$200 million category because most of the buyers of that product are not really looking at mark-to-market or flows for the -- or liquidity as a credible compound to their investment decision. So we continue to focus on serving the needs of smaller clients who are really tapping into the alternative lending landscape, and that alternative lending landscape, whether it's BDCs or CLO managers, or what I would call the alternative credit spectrum, is just more of a buy and hold marketplace, and less dependent on the vagaries of the market in any given moment in time.

[Steven J. Chubak:]

And since you mentioned the alternative lending landscape, I think I just have one quick follow-up relating to Mike's earlier question on the capital management side, where just in light of the recent announcement to build out the Cowen Finance initiative, I was hoping if you could provide some additional clarity on the firm's capital management priorities. And maybe since you alluded to the DTA valuation allowance potential reversal in the fourth quarter and either some or all of it, how does that inform your thinking in terms of capital deployment as well?

[Jeffrey Marc Solomon:]

Let me answer the Cowen Finance question first, then we can talk about capital deployment. So Cowen Finance is something that we are incubating from scratch, we're building it out organically. So I want to be clear that we don't anticipate it being significant contributor to earnings one way or another until, well into 2015. We've looked at a number of platforms to acquire and decided that we thought the best way for us to grow of that business will be to build it organically, so that we can be deliberate and thoughtful and make sure that it fits really well within our risk-taking culture. And so while that will likely take longer, we think long term, it will be a lot more sustainable than trying to integrate somebody else's credit underwriting capabilities onto our platform. So I think that's a business that, in most market environments, is relatively low volatility. I think you've got to be extremely careful with your underwriting capability. It's not one that is going to have a market ball, but certainly, it's all about the credit integrity. And so if we think about capital allocation, we are always balancing the need to essentially generate consistent returns on an annual basis with our desire to build out businesses that we think have scale beyond just the investment returns. And so what we've done this year is we raised a significant amount of capital in the Debt Capital Markets, both with convertibles and with the baby bond [ph] that we did. And so there's a drag on our earnings a little bit from the fact that we've been deliberate at putting that money to work. It's really important to understand that when we access the capital markets, it's because we actually think that the long term cost of capital for us can be reduced. Interestingly enough, since we're in the capital markets, sometimes that means that the investment side of that, the flip side of that argument is, maybe there's just less opportunity at the moment in time. And so when we think about building out our capital structure, taking advantage of a really exciting capital market to sort of bring down our overall cost of capital, doesn't necessarily always line up with investing that capital at a spread. And so we continue to put money to work in our liquid strategy, the balance sheet is very liquid. As we build out things that are a little bit more long term, but we've resisted the temptation to sort of put that money to work so quickly in things where it will take -- where we think the assets may be temporarily mispriced. So it's a long way of saying capital allocation here is not one that you can judge on a quarter-over-quarter basis. I think we do -- we're extremely thoughtful. We've got a 15-year track record of managing our balance sheet with double digit returns on equity and a very -- using very little leverage. And that comes from the ability to be patient and the ability to resist the temptation to run headstrong into things that may be temporarily mispriced. So we will continue to be judicious with it, and recognize the fact that, that they are certain businesses on the investment side that will come our way. And when they do, we'll be very well capitalized and poised to take advantage of that.

[Operator:]

And your next question comes from the line of Joel Jeffrey with KBW.

[Joel Jeffrey:]

So most of my questions have been asked and answered. Just wanted to get a little bit more clarity though on the DTA situation. Steve, so you're saying that during the fourth quarter, all or part of the DTA valuation allowance could come back on the balance sheet?

[Stephen A. Lasota:]

Yes, that's possible, yes. We -- as I said, you look at your cumulative 3-year level. When we had '11 -- you look at your cumulative price for 3-years, and we were in a loss situation, that's negative evidence, meaning you really don't even go forward from there, you need a full valuation allowance. Now that we are coming up [ph] a level, we will have cumulative 3-years of profits, you now look at other positive evidence, meaning can I show the accounts that I can you use these NOL in the near future? And we believe we can do that. We are working with the accounts now, and we fully expect to take some, if not all, of the valuation allowance down in the fourth quarter.

[Joel Jeffrey:]

And when you talk about sort of the sum aspect of it, I mean, it would -- are you talking about potentially just a very small piece? Or is it something more along the lines of half? Or just any additional color on that.

[Stephen A. Lasota:]

It's 100 -- the valuation allowance is $137 million. I would expect a portion of that to come down, but I'm not sure if it's going to be the whole thing. But again, we need to work with the accountants on that.

[Jeffrey Marc Solomon:]

It also depends on fourth quarter performance. I mean, we're only part of the way through the quarter, and how that will play out depends largely on how the year finishes [ph] out. So hard to give more clarity than that.

[Operator:]

Your next question comes from the line of Mike Adams with Sandler O'Neill.

[Michael Adams:]

Just one more question following up on what Joel was just getting at here. So Steve, you talked about 2011 performance rolling off and that's one of the reasons why you're talking about reversing this valuation allowance. Let's try to frame like the worst case scenario, if fourth quarter is a little disappointing, you're not able to bring that entire DTA on balance sheet in 4Q. Timing wise, is this something we have to wait till the end of '15 to bring it up again with the auditors? Or can you have this discussion again in the first half of next year?

[Stephen A. Lasota:]

It's rolling quarters, Mike. So you're look -- the fact that we -- that '11 was an unprofitable year, '12 was not as a bad as '11, but '13 we're profitable and '14 we've been profitable, and hopefully the fourth quarter, as Jeff said, continues. We would expect to take that down. If there's a hiccup in the fourth quarter, you still continue to roll this in '12, which wasn't as bad as '11, but we could rolled off. So we look at it every quarter, so I guess...

[Michael Adams:]

Got it. So it's rolling quarters not rolling years?

[Stephen A. Lasota:]

Correct.

[Operator:]

At this time, we have no further questions. Ladies and gentlemen, thank you for your participation in today's conference. You may now disconnect, and have a great day.