Stifel Financial Corp.
Q1 2017 Earnings Call Transcript

Published: 2 May 2017

[Operator:]

Good afternoon. My name is Heidi, and I will be your conference operator today. At this time, I'd like to welcome everyone to the First Quarter 2017 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. Thank you. It is now my pleasure to turn the call over to Mr. James Zemlayak, CFO. You may begin your conference, sir.

[James Mark Zemlyak:]

Thank you, Heidi. Good afternoon. I'm Jim Zemlyak, CFO of Stifel. I would like to welcome everyone to our conference call today to discuss our first quarter 2017 financial results. Please note that this conference call is being recorded. If you would like a copy of today's presentation, you may download slides from our website at stifel.com. Before we begin today's call, I would like to remind listeners that this presentation may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are not statements of facts or guarantees of performance. They may include statements regarding, amongst other things, our ability to successfully integrate acquired companies or branch offices and financial advisors; general, economic, political, regulatory and market conditions; the investment banking and brokerage industries; our objectives and results; and they may include our beliefs regarding the effects of various regulatory matters, legal proceedings, management expectations, our liquidity and funding sources, counterparty credit risks, or other similar matters. As such, they are subject to risks, uncertainties and other factors that may cause actual future results to differ materially from those discussed in the statements. To supplement our financial statements presented in accordance with GAAP, we may use certain non-GAAP measures of financial performance and liquidity. These non-GAAP measures should only be considered together with the company's GAAP results. To the extent we discuss non-GAAP measures, the reconciliation to GAAP is available on our website at stifel.com. And finally, for a discussion of risks and uncertainties in our business, please see the business factors affecting the company and the financial services industry in the company's Annual Report on Form 10-K and MD&A of results on the company's quarterly reports on Form 10-Q. I will now turn the call over to our Chairman and CEO, Ron Kruszewski.

[Ronald James Kruszewski:]

Thanks, Jim. Good afternoon to everyone and thank you for taking the time to listen to our first quarter 2017 results. This afternoon, we issued a press release on our first quarter results. We also posted a slide deck on our website, and I'll be referring to slides as is our custom on this call. So with that, look, I'm pleased with our results. Stifel generated a second consecutive quarter of record net revenue, and non-GAAP pre-tax margins came in just under 15%, which is the highest level since the fourth quarter of 2014. Our continued growth on both the top and bottom line is a testament to Stifel's diversified business strategy as well as our efforts to improve our expense (03

[Operator:]

Certainly. Your first question comes from the line of Steven Chubak with Nomura Instinet. Steven, your line is now open.

[Steven Chubak:]

Hey. Good afternoon, Ron.

[Ronald James Kruszewski:]

Steven, how are you?

[Steven Chubak:]

Good. Thanks. So just want to kick off, I've had a couple of questions from folks that have just come in, just trying to clarify some of the guidance that you'd given around NII. So you did note that you should see a comparable benefit next quarter from the March rate hike. And I was hoping you can give some insight into whether that's in terms of NIM expansion or NII uplift? If you can just give more specifics around how we should think about that benefit, that'd be helpful.

[Ronald James Kruszewski:]

I think I said that the – that – you would – a couple things happened and there's a lag effect here, okay? I mean, we – you do get some immediate fee when you have a rate increase, but assets take a while to reprice, okay? You also have a lag effect on deposit. So I think what I've said is that you'd see a similar impact in the second quarter as we saw in the first and if I would give you a number, I would say 10 basis points to 12 basis points.

[Steven Chubak:]

Okay. Got it. And in terms of the benefit that you saw from, on some of the off balance sheet cash and the asset management fee line. Since you had really strong growth in fee-based assets, I'm just trying to parse how much of the benefit we saw this quarter was from higher rate on cash balances or off balance sheet cash versus the benefit from stronger fee-based conversions that you guys continue to see?

[Ronald James Kruszewski:]

Yes, well, look, it was – part of that is – the answer is, it's about equally split, just so if you're trying to model it, if I could say, part of it, our asset fees have a full, our (31

[Steven Chubak:]

Perfect. And just one more from me. I was hoping you could speak to some of the secular headwinds you alluded to for the equities business. What factors are at least most concerning to you? And any thoughts you can provide on MiFID II, which continues to garner more attention?

[Ronald James Kruszewski:]

Well, we were talking – I was in a meeting earlier, Steven, and the secular headwinds and the equity brokerage business I think is celebrating its 40th anniversary (31

[Steven Chubak:]

Fair enough, Ron. I appreciate the color. And thanks for taking my questions.

[Ronald James Kruszewski:]

Yeah.

[Operator:]

Your next question comes from the line of Devin Ryan with JMP Securities. Devin, your line is now open.

[Devin P. Ryan:]

Devin Ryan. Thanks.

[Ronald James Kruszewski:]

Changed your name? Did you change your name (33

[Devin P. Ryan:]

Actually, it's a nice name. So a couple of quick ones here. So I guess, first, financial advisor headcounts stepped up. I suspect that's from City Financial, but I'm just curious, it seems like we've kind of been flat-lining a little bit in kind of maybe the core financial advisor work force, I know that's a little bit of an industry dynamic, but I'm just curious how focused you are right now on growing financial advisors in this backdrop? Is it a high priority? Or is there maybe some reason that I'm not seeing that you'd be less interested like competitive dynamics or just waiting for DOL to get resolved?

[Ronald James Kruszewski:]

Look, it's a combination of a lot of those things, okay. And we're always, every day, trying to bring people that believe in our business model and believe in our culture and the way we do things. Those people, we're trying to bring in every single day. There have been a number of trends. The DOL has had two impacts. One is, it does create some questions about even, frankly, the legality of the structure of some of the recruiting deals. That's caused some pause. But on the other hand, it's also caused, well, I would say frankly an uptick in just retirement, in people that have looked at how they've done business and can you just conform with this and so a lot of people have just said, you know, I was going to retire anyway, I just think they've accelerated it. So we're seeing a combination of that. I would say that it's never a numbers game for us. We don't have a target to hire X number of people, we don't have a budget to say we're going to have this kind of money at recruiting. We believe that we're going to continue to recruit. I think when DOL does get results here, one way or the other, it will change the environment. At least for us, it'll be a more conducive recruiting environment, once that uncertainty gets off the table. We don't – there's a lot of questions about that, at least to me.

[Devin P. Ryan:]

Okay. That's great color. Thank you. And then GWM commissions principal transactions, obviously, a nice step-up this quarter. I'm not sure if you look at it like this, but can you give us any sense of how much of that increase was driven by just higher billings on trailing commissions, just with the higher markets versus how much was seeming, maybe more or a better retail investor engagement, or customer engagement and then, if any was City Financial?

[Ronald James Kruszewski:]

Well, look, first of all, asset-based fees don't fall in those line items, okay. So asset-based fees fall in assets and servicing side (36

[Devin P. Ryan:]

Okay. Okay. Great. And last quick one here, just on the FICC commentary that was for fixed income brokerage. I mean, what's the biggest driver of just the maybe more subdued activity? Is it tax uncertainty, or the yield curve? I'm just trying to think about it before thinking for what could make it change and maybe break back up to something that's a little bit more active, what might that be?

[Ronald James Kruszewski:]

Well, I – first of all, in our business it's a growth area for us and we're focused on increasing our debt underwriting capability, all right. And that is something that we believe we can have strong growth in and that adds benefits across that business, just as equity underwriting and businesses has benefited from (37

[Devin P. Ryan:]

Okay. All right. Terrific. Thanks, Ron.

[Ronald James Kruszewski:]

Yeah.

[Operator:]

Your next question comes from the line of Christian Bolu with Credit Suisse. Christian, your line is now open. Christian Bolu - Credit Suisse Securities (USA) LLC Good afternoon, Ron.

[Ronald James Kruszewski:]

Hey, Christian. Christian Bolu - Credit Suisse Securities (USA) LLC Hey. Apologies for the nitty question here, but following-up on Steven's earlier question, is it possible just to break out of the $163 million in asset management fees, how much of that came from kind of cash balances fees on that? And what kind of yields are you getting on that?

[Ronald James Kruszewski:]

I think that, probably, depending on how we can do this under (39

[Ronald James Kruszewski:]

The average... Christian Bolu - Credit Suisse Securities (USA) LLC Yeah. (40

[Ronald James Kruszewski:]

Yeah, okay. Christian Bolu - Credit Suisse Securities (USA) LLC And then just on this $7 million you mentioned that was a benefit from the December hike, I believe you said there was still some left to come in the second quarter, so how much is left from the December hike?

[Ronald James Kruszewski:]

So, I think it's all – I didn't give you a number. Our asset side reprices overtime, okay? It doesn't immediately reprice on the asset side. So I think I gave 10 basis points to 12 basis points. I think I would focus on that right now, as what the impact on the second quarter and then we'll get a little bit more color. More often, I tend to be cautious about this, because the dynamics around the NII, the dynamics around the – what deposit rate path through (41

[Ronald James Kruszewski:]

A lot of the growth – as I've said in the past, a lot of the growth, the higher, if you will, margin business is actually in the Bank at net interest income. To answer your question, we changed our guidance from 62% to 64% to 60.5% to 62.5%, and we're at the high end of that range right now. So, I think it's fair to think that we might – there's more room to the downside than there is to the upside, but so much of this, Christian, is market dependent. And we want to make sure that in times like this that we retain the optionality for business improvement. And that means that we just not (43

[Ronald James Kruszewski:]

Yes, absolutely. Christian Bolu - Credit Suisse Securities (USA) LLC Okay. And then, just a longer-term one. I know we've had this one back and forth here. But ROE target, just given the integration of your major acquisitions, we've now had three rate hikes, you've grown the balance sheet. Just curious how you're thinking of where long-term ROEs ultimately shake out for Stifel.

[Ronald James Kruszewski:]

Well, it's a great question, Christian. I think, there's two numbers. Our tangible ROE is 14%, which is very competitive. Our ROE is a little under 10%, not where I certainly would want it to be, and there are structural changes that will do that. I will tell you this in a very broad comment, Christian, and that is that we are – as a company, we are relatively more levered to the equity markets. Okay? And the capital raising (45

[Ronald James Kruszewski:]

I would like to see the uncertainty of potential tax reform taken off the table. I mean, meaning that what is it going to be? How are we going to do? Where are long-term rates going to settle? Are there going to be any border adjustment type things? There are a lot of questions now about pass-through rates versus personal rates. All of these things, the uncertainty especially around tax policy in general is not conducive to robust markets. That's been my experience in the past. Equity levels, you're right, on a PE basis, but (47

[Operator:]

Your next question comes from the line of Conor Fitzgerald of Goldman Sachs. Conor, your line is now open.

[Conor Fitzgerald:]

Good afternoon. Just want to appreciate the color on the deposit rates, but just wanted to kind of get a little more – dive a little deeper on those comments. Where you talked about trying to be competitive on the deposit rate but not necessarily a leader, when you think about your deposit rates, who do you consider your peer group that you'll try to match?

[Ronald James Kruszewski:]

Well, we're going to keep – we're going to watch the full-service investment firms. Much of our client cash is very mobile. It moves in and out of securities, bonds mature and sit for a while, it's not as if we have $19 billion in cash just sitting there, or $20 billion that gets moves around. And so, our clients aren't with us because they're looking for the highest Internet money market rate, we've never been there, but we'll look at, frankly, the Morgan Stanley's and the Raymond James' and the various firms that are similarly situated to us with clients similar to ours, and we'll be competitive.

[Conor Fitzgerald:]

Thank you. And then, maybe just asking on Christian's question on the comp ratio another way. I think you had almost $60 million of revenue growth year-over-year, the majority of which was net interest income, and compensation expenses were up almost $30 million year-over-year, so you had a marginal comp ratio approaching 50%. Just wondering if that's a fair way to think about the operating leverage from the revenue growth?

[Ronald James Kruszewski:]

Fair question. I think that, as I've said in the past, I think there is leverage potentially in those numbers, but also in some of those numbers is us preserving optionality in our businesses.

[Conor Fitzgerald:]

All right. Thanks for taking the questions.

[Operator:]

Your next question comes from the line of Chris Harris with Wells Fargo. Chris, your line is now open.

[Christopher Harris:]

Thanks. Another question on the expenses. Non-comp, you guys did better than you thought this quarter. Can you talk a little bit about what drove the small surprise there? And then, related to that, you mentioned that you're making progress on some of your cost initiatives. Wondering where you are in the evolution of your kind of expense management focus at this point?

[Ronald James Kruszewski:]

All right. Your second question first. I mean, it's continuous. I don't want to be in a position where we get to decide every few years that we're going to do expense look at (50

[Christopher Harris:]

Got you, okay. And then, I guess, the other question I had was a sort of a bigger picture question on DOL, Ron. There was a view in some circles that this rule was going to lead to some consolidation among wealth managers in order to achieve a little bit better scale. Hoping you can give us your updated thoughts on that, whether you actually think that view is still valid? And whether you guys are sort of assessing any opportunities or if there are really any opportunities that are presenting themselves to you at this point?

[Ronald James Kruszewski:]

Yeah. I believe that when some of this comes out and when you actually understand, the rule is so complex that I do not – I for one am not in the camp that the potential for the rule will drive consolidation. I do believe that if the rule is implemented as written, it will become effective June 9 with the full implementation date of 01/01 of 2018. But that rule – to comply with that rule will require some scale, and will require investment, will require incremental dollars and will frankly lead to some increased litigation expense, all of which you could argue would tend towards some consolidation. Right. I think that that's true. I don't think that with the specter (53

[Christopher Harris:]

Okay. Helpful. Thank you.

[Operator:]

If there are no further questions at this time, I will turn the call back over to Mr. Kruszewski.

[Ronald James Kruszewski:]

Thank you very much, everyone. Thank you. Always appreciate being able to update you. Certainly appreciate the questions. We'll try to follow up with the couple that we did not answer on this call, and I look forward to improved economic conditions and talking to you next quarter. So, thank you and good evening.

[Operator:]

Thank you, ladies and gentlemen. This concludes today's conference call. You may now disconnect.