JMP Group LLC
Q1 2015 Earnings Call Transcript

Published: 24 Apr 2015

[Operator:]

Welcome to JMP Group’s First Quarter 2015 Earnings Conference Call. Please note that today’s call is being recorded. [Operator Instructions]. I’ll now turn the call over to Andrew Palmer, the Company’s Head of Investor Relations. Please go ahead.

[Andrew Palmer:]

Good morning. Here with me today are Joe Jolson, JMP Group’s Chairman and Chief Executive Officer, and Ray Jackson the Company’s Chief Financial Officer. We are joined by Carter Mack, President of JMP Group and Mark Lehmann, President of JMP Securities. Before we get started, I will note that some of this morning’s comments may contain forward-looking statements about future events that are out of JMP’s control. Actual results may differ materially from those indicated or implied. For a discussion of the uncertainties that could affect future performance please see the description of risk factors included in our most recent 10-K. That said, I’ll turn things over to our Chairman and CEO, Joe Jolson.

[Joe Jolson:]

Thanks Andrew. JMP got off to a good start in 2015 with operating earnings per share increasing 21% year-over-year to $0.23 in our first quarter as a publicly traded partnership. Excluding net investment income and corporate cost, our fully taxed operating subsidiaries are in the solid 0.14 per share, an increase of 27% from the previous but a decline of 22% from the first quarter of last year when JMP Securities produced its record results. Our return on average equity improved to 15.6% for the quarter although our book value fell slightly to $6.14, solely due to the conversion to a PTP and a onetime tax accrual charge related to that. For the first quarter we paid out roughly 45% of our operating EPS and cash distributions, increasing the payout ratio from 35% in the fourth quarter of last year. We recently increased our quarterly distribution to $0.1101 per share by declaring three monthly cash distributions of $0.307 per share for the second quarter. That represented an increase of the 122% from the dividend that we paid in the second quarter of 2014 when the company was a C corp. We continue to anticipate that our payout ratio will be between 50% and 70% of operating earnings this year compared to roughly 30% last year. The upper end of that range could take the form of one or more special distributions based on our actual investment income as the year progresses. I'll have Ray go through a few financial highlight before I continue. Ray?

[Ray Jackson:]

Thanks Joe. Adjusted net revenues of $36.7 million compared to $43.8 million for the first quarter of last year. Operating net income was $5.1 million or $0.23 per share, up from $4.4 million or $0.19 a year ago. From an expense standpoint, we focused on compensation ratio and non-compensation ratios. Our adjusted compensation ratio excludes two items, first any hiring costs related to strategic growth initiatives, though there were none for the first quarter. Second all hedge fund incentive fees, since the majority of these fees is passed through to the investment teams when earned. This ratio came to 66% for the quarter, exactly in line with the number a year earlier. On the same basis, our non-compensation ratio was 17.1% versus 15.6% for the first quarter of 2014. Our adjusted operating margin pre-tax operating earnings over adjusted net revenues was 16.8% for the quarter compared to 16.1% a year ago. From a balance sheet perspective, our re-cost debt to capital ratio was 42% in [indiscernible]. Shareholders equity, all of which was tangible was $130.4 million with book value per share of $6.14 as Joe previously stated. With that I will turn things back to you, Joe.

[Joe Jolson:]

Thanks, Ray. JMP securities earned a solid $0.13 per share on a fully taxed basis excluding all the net investment income, equating to an annualized return on average equity of nearly 46% for the quarter. Investment banking revenues were $20.7 million, up 30% from the fourth quarter but as previously mentioned down 17% from the first quarter of last year when we had record results in investment banking. Equity capital markets fees made up 80% of the total with the strategic advisory area accounting for another 13%, essentially in line with the results of the first quarter of last year. In all, we executed 44 investment banking transactions versus 43 a year earlier and acted as a lead manager of 11 public equity offerings up from 10 a year ago. Institutional brokerage revenues of $6.1 million were down 9% year-over-year. Our advisory -- our asset management platforms, harvest capital strategies, H Cap Advisors and JMP credit advisors earned $0.02 per share fully taxed excluding all net investment income as well and that equated to an annualized return on average equity of 22% for the quarter. Asset management related fee revenues decreased 20% year-over-year to around $5 million as incentive fees were just $0.8 million compared to $2.7 million for the first quarter of last year. As I've said in previous calls, the majority of our hedge fund incentive fee opportunity still resides with Harvest Small Cap partners which had an outstanding year in 2014 when it produced a net return to its investors of 32%, but for the first quarter of this year it was down modestly. Total client AUM, including sponsored funds from which we earned fees equal $2.5 billion at March 31, up 20% from a year earlier. Hedge fund client AUM, including sponsored funds remained flat during the quarter but rose 14% during the last year, ending March at $910 million, and that amount includes us returning a capital of about $110 million on our franchise fund which we closed at the end of the year. At quarter end 37% of our sponsored AUM was in hedge funds and 63% was in private capital strategies. JMP credit advisors currently manages three CLOs totaling $1.1 billion and we expect to begin accumulating loans for CLO four later this year, assuming market conditions remain favorable. For the first quarter we earned a return of about 1.8% on our capital and our hedge funds, which on an annualized basis almost covers the cost of our 8% long term debt. Including principle investments and allocated interest expense from our long term debt, our overall return on invested capital was 3.5% for the quarter. Net corporate income, which is net investment income less corporate expenses contributed 0.9% to our total operating EPS of $0.23 for the quarter. That's about $0.5 a share related to our conversion to a PTP in a more tax efficient corporate structure. On a consolidated basis, our return on average equity was one of the highest in our capital markets industry at 15.6% for the quarter, even though our financial leverage continues to be well below that of our peers at just 0.7 to 1, excluding non-recourse CLO debt. Adjusting for the onetime tax charge in the quarter of $0.31 per share for our conversion to a PTP, our book value per share would have increased by roughly 8% from March of last year, despite our returning more than a 100% of our operating earnings to shareholders through stock buybacks and cash dividends or distributions over the last 12 months. Our capital light business model continues to focus on market share gains to drive revenue growth and consistent cost discipline to deliver attractive profit margins. Our business has never been dependent on having a large balance sheet, either to buy market share or to fund the high level of fixed cost to provide global delivery of services to our intuitional high net worth and corporate clients. Since inception 16 years ago, we have paid out essentially all of our operating earnings to our investors in regular cash dividends or distributions and since going public eight years ago in stock buybacks as well. With our recent conversion back to a partnership structure which was how we operated prior to our IPO. We're now in a much better position to distribute cash to shareholders in a tax efficient manner and to accelerate the growth of our core businesses. Initially as we've said a few times as well as disclosed last year we plan to pay out somewhere between 50% and 70% of our operating earnings through monthly cash distributions while retaining the remainder to invest in the growth of our businesses and to potentially buy back stock. The upper end of that payout ratio will depend on the actual investment returns from the financial assets we transferred to our new holding company which were primarily our investments in CLO equity and hedge fund LP interest, and it could take the form of one and more special distributions as the year goes along. In addition, we could decide to supplement our regular cash distributions with some portion of the fully taxable earnings of our subsidiary, JMP group Inc. each quarter or on an annual basis. Besides providing for a much more efficient tax pay out structure, our new PTP can also facilitate an acceleration of our growth if we’re able to source opportunities that meet our disciplined investment criteria of an unlevered IRR of 15% plus and that enhanced the growth of our core businesses. When JMP was structured as a C Corp, a 15% IRR on an incremental share of stock issued to grow was dilutive to our EPS outlook without levering up our balance sheet. Under the new PTP structure this is no longer the case. At a price of $8 a share, a new share of JMP stock would potentially earn a $20 share, which is well above the current analyst consensus of $0.85 for 2015. This is not to say that binding unlevered IRRs of 15% in the current interest rate environment is easy. However I'm confident that we will be able to source these opportunities through our existing business lines as well as through new business ventures overtime. We continue to have roughly $50 million of temporary investments earning positive but lower rates of return that await opportunities for redeployment before we would utilize future retained earnings that we expect to as well as tap the debt or equity markets in the future. In closing, I want to thank our employees and independent board members again for their consistent efforts and hard work which has enabled us to produce another strong quarter to start other strong year I hope. I look forward to updating everyone on our progress after our second quarter results are released in late July. With that operator, we’d be happy to take any questions.

[Operator:]

(Operator Instruction) Your first question comes from line of Joe Janssen with Barrington Research.

[Joe Janssen:]

Let me start with brokerage, down 9% I guess is pretty good I guess versus what some of your competitors are reporting. In the quarter I think previously said you kind of -- it was weather related in the January, early February months. Do you expect it to be back end loaded? Did you see that pick up in the margin? Maybe just kind of give me a little bit of visibility what you're seeing in April on that side.

[Joe Jolson:]

The last thing I would say was weather related because I think we have winter every year. But obviously this particular winter there was some pretty severe snow storms in Northeast. So perhaps it was a little worse than a typical year. But we're not especially retail or anything. The markets operate if you can’t get into your office or not. So it's hard to gauge, except at hind sight when everyone reports exactly how we're doing compared to others. So we weren't that excited about the first quarter. We're hoping for better results. But as you said, when we have seen what other people have reported so far, maybe half of our competitors have reported we did better than in terms of comparisons than they did. So that makes us feel little better but we're not big enough to be in relative comparison game. We're in the absolute result scheme and I think we're still expecting to have an up year hopefully plus or minus 10% in that business.

[Joe Janssen:]

One of your competitors in that business cited kind of a short term market shift between the bulge and the some of the smaller broker dealers as they pay off kind of like their fix commitments in the bulge brackets. Did you see any of that shift go on?

[Joe Jolson:]

Obviously no. That’s right up there with weather as an excuse, in terms of year-over-year because it happens over the year. It's true but it happened in 2014, in 2013, it happens every year. It’s one reason why in a typical year our brokerage revenues wouldn’t be the highest in the first quarter compared to the big ice that are on the other side of that kind of seasonality where it's typically their best quarter every year right. But we have a first quarter every year. So I don’t think we would use that as an excuse for anything.

[Joe Janssen:]

And then about six months ago you signed that agreement with RCAP. I'm just curious kind of what’s that done to you recently? Has that been incrementally additive when pitching new business?

[Joe Jolson:]

Well, we had perfect timing on signing that agreement. I don’t know. I don’t really want to comment on what's happening in terms of RCAP and the various kind of corporate stuff going on there. But I think we are hopeful that over time we're able to develop relationships with not just a Company like RCAP where we had a formal agreement, but also with a number of quality retail firms that whack access to equity capital market business that we can partner up with. So we've been in the process of trying to develop that model and we tend to move slowly on things and conservatively. But we think there is some benefit to us over the next few years if we can roll that out. But so far it hasn’t really affected our results.

[Joe Janssen:]

Okay and then one last question and I'll jump back in queue. Maybe just some color in terms of the banking pipeline, maybe relative -- where it’s at now versus what it was last year. And some color on that would be helpful.

[Joe Jolson:]

Carter Mack is here and he can probably comment on that much better than I can. I have a few observations but I’ll let him start off.

[Carter Mack:]

I think we’ve had a good start to the second quarter in April. The one comment I'd make is the first quarter as we all know was fairly from an IPO volume. I think we did 10 IPOs in the first quarter. Last year we did five. In the first quarter this year I'd expect that to tick up. We've already seen I think three deals since the end of the first quarter close that we were involved in on the IPO side, and another one last night. So I expect the IPO volume to pick up. We've got somewhere around 15 IPOs that are either filed publically or confidentially right now with a number of others that are in the process of drafting the file. So really good pipeline there. I also think our M&A pipeline is pretty weighted to the second half of the year but that's continued to grow and we feel good about the M&A pipeline. So all in all, the market environment feels good. Good start to the second quarter and we feel if the markets continue to remain open, we feel good about the year.

[Joe Jolson:]

I don't really have anything to add to that. That’s pretty much covered.

[Joe Janssen:]

Okay. One more if I could sneak it in their real quick. Joe, I heard your comments, $1.20 versus consensus of estimates out there, the potential of reinvestment opportunity. Just curious maybe comment on the revenue side of that. I'm looking out forward, some pretty lofty expectations especially in the second half of the year. Any comments around that.

[Joe Jolson:]

I can comment about the $1.20 that I said close opportunities but I'm not sure what you’re talking about in terms of the revenue side. So let me comment on your $1.20 and then maybe you can reword that in some way. But we’re always looking for opportunities to grow, and even though we don't do a lot, it doesn't mean that we don't spend a lot of time looking at things and I think most people that are looking to invest capital to grow businesses right now are having a hard time doing it on a risk adjusted basis at the 10% rate, let alone the 15% hurdle that we’ve kind of had since we went public. So I think that we've stated pretty disciplined there, in part because our CLO business is a capital user and we typically underwrite to around a 15% IRR on that. So just over time as -- if the market is normal for issuance there we think we can put capital out at those kind of returns. So there is some visibility that it wouldn’t be indefinitely sitting in our hedge funds, which have done well, but as you know, they are hedged. And so when the markets are up like they have been, if you are short a lot of stocks, especially in a speculative tape, it takes away quite a lot of your absolute return. But no, being up 7% or 8% in the first quarter annualized and similar numbers over the last year. So and this kind of tape is pretty good performance I think, much better than kind of the market neutral HFR index kind of numbers have been. Now on the revenue outlook I'm not sure exactly what you were talking about there.

[Joe Janssen:]

I was just curious. I know you don't give guidance, but given Carters comment on the banking, I looked out -- looking at consensus estimates in the back half of the year, just the hurdle rate seems to be high.

[Joe Jolson:]

Let me make a couple of comment on revenues. One is that Ray didn't allude to it on the call and just so everyone realizes it, we kind of changed the definition of our adjusted revenues in the quarter with this conversion to a PCP. Now we net out all of our minority interest out of revenues. Now minority interest for us, since we’re now able under the GAAP accounting change, we no longer have to consolidate or venture fund. So that was a big source of volatility in the past, which is why we've reported adjusted revenues, but for us it's really the CLO business and for instance in CLO three, we did in the end of September, I think there was as a total of like 37 million or 38 million invested in the equity and over -- we only invested $4.7 million. It was like 13%. Okay. But for gap purposes, for whatever reason, even though we don't control the CLO, because we don't have over 50% of the equity, we’re still required to consolidate it. So the effect of that is we book all of the net interest income and assets on our books, but then there is this just large minority interest, essentially a 85% of the equity return or – I'm sorry, 86.5% goes to minority interest. And so if we continue to do as we hope to CLOs with third party equity, it's going to overstate our revenues more so relative to what on a deconsolidated basis they really would be. So we made that change to try that make it more consistent with cash to us and I think that -- so if you are looking at the current consensus, it may not reflect the fact that we're netting that out now, okay and versus -- last time I looked at consciences, there was only three estimates. One of the three doesn't even have kind of quarterly numbers. So I'm not sure it's all that detailed in terms of that kind of stuff. But it's a pretty wide range. So I don't know if that helps you at all on that. In terms of the second half of the year though, I can just give you some color on what we would be expecting. We would be expecting just from a seasonal point of view, all else being equal, our second half of the year in the brokerage side would be above the first half of the year, not materially, but maybe in the 10% range, and that’s just because of the first quarter, weighing in the first half of the year. I think doing $20 million plus of investment banking in a quarter, given the footprint that we have right now is pretty good result and we did that on average a little better than that last year, and given kind of what we see right now, if the markets kind of stay where they are plus or minus, we'd be hopping to be able to continue that kind of level of execution. Of course we don’t have any better crystal ball than anyone else. We continue to look to add a few producing investment bankers -- a year more of waiting on the M&A side and we've hired kind of one tech guy, and we’re looking for – it was a good hire and we're looking for maybe one or two more this year. And that kind of gives you a little bit of an underlying growth rate through cycles. But as we all know, it's a cyclical kind of business and we'll see what happens. We don’t have any way to predict that any better than anyone else. On the asset management side, revenues have a big swing with incentive fees. Even though we back that out in that comp ratio, it does effect revenues. And last year we had something like $20 million or something of incentive fees in our small cap fund right, and there was none in the first quarter. So that’s obviously a big swing too. So hopefully that helps you in terms of kind of getting some baseline for what to expect, maybe fine tuning it a little bit. If you look at our margins, we’ve not changed any of our kind of compensation accruals or anything like that. We’ve tightened it up a little bit, and so I think that not more at the corporate level than anything else and I think that that’s going to – and we keep a close eye on non-comp expenses. So we're looking to deliver as we say every year 15% kind of operating margins and we think that if we could grow market share and maintain cost control through a cycle, that in an organic growth way, 15% operating margins on a -- building franchise value along the way is a pretty good balance for growth in returns -- current returns. So that’s always been what we would try to do. So hopefully that helps a little bit without any real guidance.

[Operator:]

Your next question comes from the line of Doug Doucette with KBW.

[Doug Doucette:]

This is Doug filling in for Joel. I think -- some of my questions have answered, but just a few. In terms of ECM, it seems like healthcare and bio-tech have had a pretty good run so far. I was just wondering kind of what your outlook for these specific verticals are and if they feel maybe a little stretched at all to you guys.

[Joe Jolson:]

I'll let Carter talk about that as well, but this one I’ll weigh in on after I think after he reduces. Because he is going to give you an idea about what the pipeline in the field actually looks like and I’ll give you like a broader or longer term perspective.

[Carter Mack:]

Life sciences, as we've seen from some of the folks that have already reported in our numbers as well was very active in the first quarter, I'd say very active on the follow on equity side, not as much on the IPO side, although we've seen pick up in IPO activity in life sciences at the end of the first quarter. I have a very strong pipeline in that space and well it's been very active for the last two and half years I guess you could say. We see continued solid drivers of that business, continued lots of M&A activity on the specialty pharma and life sciences side, and very good developments with certain drugs and new drugs coming out. So we feel good about the life sciences sector and that’s an area that we spend a lot of time growing over the last number of years and we're well positioned to benefit when this cycle got good in that space. On the technology side I'd say what's interesting in technology right now is that we're not seeing a more vibrant IPO market for tech companies and I think that’s driven in part by just a very active private market for companies being able to raise capital at high valuations in the private crossover market. But I see potential for lots of activity later in the second quarter into the second half in the IPO market for tech companies and we do have a nice backlog on the M&A side there. Real estate and financial services have been slow at the beginning of the year. But we expect to see enough turn in those spaces as well. So that’s gives you as much of a crystal ball as I can at this point.

[Joe Jolson:]

Yes, I would just say from a financial services kind of analyst investor point of view, we've been -- as a fund manager we've been -- people have been expecting that the life sciences space from an equity capital markets point of view has been over for more than a year. And it really is sustained for a lot longer period of time in that I think there is some differences in the dynamic of that industry now than existed in past cycles that I think make it more enduring. One Carter mentioned is there is a lot of established companies now. By established in that area I mean later stage companies, even revenue companies. And compared to past cycles, and as evidenced by the amount of follow ons that have been happening and I also think M&A and drug approval process so -- because so many of these companies are in late stages there, provide some more catalyst. And so I think that you still have a lot of investors that were well under weighted in the space and are continuing to look to put capital into it. We would never extrapolate out in our business plan that this environment will continue but by the same token we don't think it's going to go into kind of the void that is has in past cycles, just because of those dynamics that I just mentioned.

[Doug Doucette:]

Okay, great. Thanks. It's very helpful. And then just kind of switching gears on the brokerage side, obviously you guys mentioned declines in the line item in the quarter. I was just wondering, is that more of a function of just broader sort of market volumes or is there something out sort of specific that you guys I think is driving that line item.

[Joe Jolson:]

Well. Mark Lehmann is here, whose is President of JMP securities. He may have some insights into market volumes. But for us it's -- there is just some seasonality and last year in the first quarter for whatever reason was it tough comparison because we had a really good first quarter last year. And so of course when you look at the year-over-year, you got to look at last year. Last year was our best quarter of the year. It was in the first quarter which is unusual. It's usually our slowest quarter of the year for the brokerage commissions and I think that's a fact or of that seasonality that we've talked about, as well as that boutiques tend to try to have to play catch up in getting paid as the year goes along. So there is more of a effort to essentially collect what you will do as the year goes along. Its backend weighted. But I think that the – Mark, I don't know if you have any…

[Mark Lehmann:]

Yes. I mean you saw obviously some of our peers. The first quarter was not robust on this on the trading side for some. April has been better and so as part of said that we've started the second quarter has been okay. I would expect the year to progress nicely. I do think if we see the kind of capital markets activity that we expect in the back half and a little bit more of an IPO tape, there will be a broadening out and a benefit that we think we will -- that was newer to us but I think it was a tough first quarter for a lot of people for a lot of reasons and I -- like Joe said, we’re small enough where we should be able to trump some of that seasonality and some of that weather effect et cetera. But we don't feel better because we were less bad than some of our peers. We have a lot to accomplish here. I think we have a team in place to do it and I think the back half will be better.

[Joe Jolson:]

The only other thing I would add to that, and Mark kind of said it, is that -- and Carter did that just IPOs were down industry wide in the first quarter, year-over-year and life sciences in the places that we traffic in, and there is a lot of secondarily trading activity that happens around IPOs right, even if you’re not believe let books manager, like we typically unfortunately aren’t yet for a lot of these deals. So that could have had an effect as well industry wide.

[Operator:]

And at this time there are no further audio questions.

[Joe Jolson:]

Thank you. Thanks everyone. We appreciate your interest and we look forward to coming back in a few months to tell you about our second quarter.

[Operator:]

Ladies and gentlemen. This thus conclude today's conference call. You may now disconnect your lines.