Apr 30, 2010
Executives
Andrew Palmer – IR Joe Jolson – Chairman and CEO Ray Jackson – CFO Mark Lehmann – Co-President, JMP Securities Carter Mack – Co-President, JMP Securities
Analysts
Devin Ryan - Sandler O'Neill Lauren Smith – KBW
Operator
Good morning everyone and welcome to JMP Group’s first quarter 2010 earnings conference call. Today’s call is being recorded.
All lines have been placed on mute. (Operator Instructions) At this time, I would like to turn the conference over to Andrew Palmer, JMP Group’s Head of Investor Relations.
Please go ahead.
Andrew Palmer
Thank you, good morning, and welcome to JMP Group’s first quarter 2010 conference call. On the line with me this morning is Joe Jolson, JMP Group’s Chairman and Chief Executive Officer as well as Ray Jackson, the company’s Chief Financial Officer.
We are joined by Craig Johnson, President of JMP Group and Carter Mack and Mark Lehmann, Co-Presidents of the JMP Securities. Before I turn the call over to Joe, I would like to remind you that some of the comments made this morning may contain forward-looking statements about future events that by their nature are uncertain and outside of the JMP Group’s control.
Actual results may differ materially from those indicated or implied in any forward-looking statements. For a discussion of some of the risks and uncertainties that could affect JMP Group’s future performance, please see the description of risk factors included in JMP’s most recent 10-K.
With that, I give your Chairman and CEO Joe Jolson.
Joe Jolson
Thanks, Andrew and thanks to everyone listening in this morning and for your interest in our company. We had mixed results in the first quarter but nonetheless managed to generate $0.10 share in operating net income.
Thanks to the diversification of our business model and to our more variable incentive compensation structure. Given our robust investment banking pipeline that we discussed at the last call going into 2010, we were somewhat disappointed by the lack of revenue throughput in the first quarter.
Thanks to a slowdown in the U.S. equity capital market activity.
Thus far in the second quarter we have been involved in quite a few capital raising and strategic advisory transactions and we remain optimistic about our momentum in that business. Continuing the trend from the past few quarters, institutional equities trading volume has also been subdued during the March period.
Offsetting these shortfalls was another solid performance of JMP Credit and continued progress at Harvest Capital Strategies. We continue to anticipate reduced net investment income in 2010 and 2011 as JMP Credit reinvests the cash proceeds from sales and payoffs of loans that we acquired at distressed prices a year ago in the current, more normalized pricing environment.
Nevertheless, we hope to offset much of the decline with earnings growth at our other operating businesses which have benefitted from our decision 18 months ago to spend some earnings to build them out during the down cycle. JMP Group will continue to invest in people and platforms in 2010 and we remain hopeful for an acceleration in topline growth in 2011 and beyond.
That said I have Ray take you through the rest of the actual numbers for the quarter. Ray?
Ray Jackson
Thanks, Joe. First quarter net revenues were $25.2 million compared to $24.2 million a year ago.
As Joe mentioned, first quarter operating net income was $2.2 million or $0.10 per diluted share compared to $0.6 million or $0.03 per diluted share for the first quarter of 2009. Operating net income excludes compensation expense related to the grant of restricted stock units at our IPO and assumes an effective tax rate of 42%.
GAAP net income for the quarter was $1.7 million or $0.08 per share while it was just $34,000 or $0.00 per share a year earlier. Investment banking revenues were $5.5 million, up 33% from $4.1 million for the first quarter of 2009.
Public equity underwriting revenues were $2.7 million for 2009; private placement revenues were $0.4 million; and strategic advisory were $2.4 million. In total, JMP executed 10 investment banking transactions during the quarter versus six a year before.
As for sales and trading, net brokered revenues were $7.7 million, down 10% from $8.5 million for the first quarter of 2009, which is indicative of the industry-wide decline in institutional equity trading volumes that has affected the majority of IPOs. However it’s worth noting that our brokered revenues have historically been the lowest in the first quarter of each year, which is not the case for our largest competitors.
Asset management related fee revenues were $3.4 million for the quarter, down 61% from $8.7 million a year ago. Base management fees increased to $2.3 million from $2 million for the first quarter of 2009, though incentive fees dropped sharply to $0.6 million from $6.5 million.
Other asset management fees doubled to $2.5 million. Client assets under management at March 31st equaled $1.1 billion compared to $1.1 billion at December 31st and $502 million at March 31st, 2009.
Principal transactions generated net revenues of $1.4 million versus $2.9 million for the first quarter of last year. In addition, JMP Credit Corporation realized gains of $3.5 million from the payoff or sale of 11 of the loans in its portfolio.
A loan loss provision of $0.2 million was recorded for the quarter as a pooled reserve against performing loans at JMP Credit. Compensation and benefits expense was $15.5 million, compared to $18.8 million a year ago.
As a percentage of net revenues, pro forma compensation and benefits expense, which excludes the cost of IPO-related equity awards, was 58.9% compared to 73.7% for the first quarter of 2009 and 64.4% for the fourth quarter. The decline was primarily due to revenue mix shift in the first quarter with net investment income going up and incentive asset management fees going down.
Non-compensation expense totaled $6.3 million, up from $5.3 million a year earlier due to increased business development activity and JMP Credit related operating cost. As in the first quarter of last year, we didn't yet own JMP Credit.
Non-compensation expense equaled 24.9% of net revenues versus 21.9% for the first quarter of 2009. From a balance sheet standpoint JMP Group operate at very low leverage with a debt-to-total capitalization ratio of less than 7% excluding non-reco CLO debt.
We have just $9 million of term debt outstanding. From a liquidity perspective, we have access to our currently undrawn $19 million line of credit that bears an interest rate of LIBOR Plus 2.25% and have over $72 million of liquid net assets or approximately $3.35 per share.
Total equity at March 31st was $123 million and tangible book value per share was $5.68 compared to $5.60 at the end of the prior quarter. Now I will turn things back over to Joe.
Joe Jolson
Thanks, Ray. I wanted to provide some details on our investment spending at JMP Securities over the last 12 to 18 months.
We have been acutely focused on increasing our Senior Analyst ranks within our existing sectors of financial services, real estate, healthcare, technology and consumer, a number that has grown from 16 analysts in early 2009 to 22 today. We fully expect that these analysts will initiate coverage on more than 100 new names in the next year, which could bring our research universe to approximately 400 companies compared to just over 200 at the beginning of last year, roughly a double in less than two years.
Concurrent with the product rollout, we have been focused on upgrading and completing the build-out of our sales and trading operation. We have a number of offers outstanding to senior producers and hope to have accomplished our objective within the next few months.
The last phase of the rollout of our middle market boutique will be the addition of three to five senior investment bankers to focus on the industry verticals where we have added research coverage. While we are deep in the recruiting process, it is still too early to tell whether we will attract the 18 players we are after in an increasingly competitive environment.
So fast forward to March 2011 at JMP Securities, we hope to have around 200 employees which would be about 10% more than we have today half of which will be MDs and Directors more than 400 companies under research coverage industry and product focused investment bankers and a full complement of sales people and sales traders catering to more than 600 active institutional accounts. While we have projected our revenues will lag this build-out of critical mass, we are very optimistic that positive topline trends could emerge later this year and accelerated over the next few years.
Also wanted to say a few words about Harvest Capital Strategies and JMP Credit, our asset management businesses because they are key to understanding what occurred in the first quarter and what could happen as the year goes on. Harvest Capital Strategies is in the second inning of its quest to be a multi-strategy alternative asset management platform with multiple top decile performance records over the past few years.
We are hopeful that layering in more marketing resources this year will help the desire to (inaudible) an accelerating AUM growth over the next few years. Asset management revenues consists of base fees, which are directly tied to AUM levels and incentive fees that can fluctuate each quarter depending on individual fund performance.
To reduce the impact of the volatility of these incentive fees on our earnings, we chose a while ago to participate out a high percentage of those fees to the fund management teams themselves, which was the case in last year’s first quarter and which can lead to overstated or understated compensation ratio but a much greater stability of earnings as you saw this quarter. From a principal investment standpoint, we had another great quarter overall with a return of nearly 6% on invested capital even though performance was mixed with our hedge funds due to their consistently high short exposure and the obvious sharp drop or a sharp jump, I should say in indices for February and March.
JMP Credit had another great quarter. The improved market conditions mean that our opportunity to generate outsized capital gains on senior debt investments will likely diminish over the next year.
We believe that there are tremendous growth opportunities for this business as a result of the fallout from the severe recession and financial crisis. We hope to share our plans with investors later this year.
Lastly I will point out that our compensation ratios (reset) for the first quarter was lower than it’s typically the case due to our revenue mix, which was heavily weighted to investment income and included minimal carry interest fees. As we have described before, we assigned different compensation ratios to different sources of revenue, so the blended ratio will vary quarter to quarter depending on our revenue mix.
Assuming that our investment banking and hedge fund businesses perform according to plan this year, we believe our full year pro forma comp ratio will be somewhere in the mid 60s. And in closing, as always, I wanted to thank JMP employees for the hard work and for our shareholders for the continued support.
We are always happy to hear from you and answer any questions you may have. With that I would like to open up the call to any questions.
Thanks, operator.
Operator
(Operator Instructions) And we will take our first quarter today from Devin Ryan from Sandler O'Neill. Please go ahead.
Devin Ryan - Sandler O'Neill
Just thinking about the brokerage business, what do you think is going to take the material improvement in activity and revenues? Is it more primary issuance, more conviction by market participants or higher equity flows can be enough or do you think that the industry outlook for that business is becoming any less attractive I guess I would say?
Joe Jolson
Well, let me start and I think Mark Lehmann is there, maybe he has some comments. But the brokerage business has been in a bear market institutional brokerage business for about the last 10 years and we have a little periods here where there it seems to improve a little bit, and then it goes back to kind of not hitting expectations.
We have been able to grow through that down cycle. In fact, every year we had record revenues there, last year was our first down year since inception.
And part of that is we have invested in the business and then the revenues lag. For about three or four years, we hadn’t invested in the business part because of the competitive situation for hiring people a few years ago.
And in the down cycle, we have take a lot of the investment income that we have generated from our funds as well as the profits on the JMP Credit acquisition and chose to reinvest those into doubling our product in that business, which of course cost some money. But we believe strongly that whether the business gets better or not, we will double our revenues over the next five years.
There is a very high correlation between having good analysts that have an information edge covering industry sectors with companies that people care about and commissions revenues as well as investment banking revenues over any period of time. So that's kind of our strategy whether the environment improves or not, Devin.
And Mark, do you have anything to add to that?
Mark Lehmann
Yes, I would echo, Devin, what Joe said. I also think – kind of the perfect storm in the first quarter and we were a – we hope with some of the issuance that we have, the capital markets have improved and we continue to look for new hires.
And I think there was a rash of hiring a year ago with a lot of people expecting great things to happen as long as they have built out a huge staff and I think some of that excitement has waned with the lack of capital markets activity for some. And I think we are seen as an attractive platform again with the kind of senior analysts and people we have.
So I think some of the initiatives we have will bear fruit and I do think the kind of record low volumes that we saw in the first quarter starting to wane a little bit. But we are still actively recruiting and we still think that there is people out there who when they get to know us a little bit better will be attracted to what we are doing.
And again, more and more boutiques are gaining market share, I am not sure the biggest firms are the most attractive places for everybody. I think boutiques mind share is going up.
I continue to hear that from issuers and hopefully that will help us recruit and retain the kind of people we want here.
Devin Ryan - Sandler O'Neill
Okay, thanks for the color. A question on the comp ratio, I know the level from quarter to quarter really depends on the mix of business but if we were going to assume that earnings for 2010 set another record like last year and I guess trigger additional bonuses, will there potentially be another special accrual at some point, that becomes more clear or is that concept maybe already contemplated in the first quarter accrual?
Joe Jolson
I will let Ray answer part of that, Devin, but I mean I think that the – we are going to file our proxy today, I believe tonight. So there will be some details into how the triggers for that for you, okay to think the accrual but suffice it to say that it’s similar to it in the past or – those kind of things were driven by the ability of the company to produce record results and the record results would be viewed as net of anything as opposed to hit the number before those bonuses type of thing.
Devin Ryan - Sandler O'Neill
Right.
Joe Jolson
So I mean I think last year if you look at our numbers and I have said this in every call, we had a very percentage of our revenues in pretax coming from investment income, which was great but it obviously creates a challenge to compare to that and what we did was chose to try to find expenses that we could accelerate and invest in growing our operating businesses which is why we are doubling our product. In JMP Securities we have hired a bunch of marketing resources at Harvest Capital Strategies.
So I think that that's how we are managing through that. I think it’s way too early to tell in the year whether those things would trigger, but if they did, it would probably be late in the year, I would suspect.
I don’t know if you have anything to add to that, Ray.
Ray Jackson
No, that's accurate.
Devin Ryan - Sandler O'Neill
Okay guys, and then just thinking about the investment banking pipeline, it would be great to get a little more color in terms of what you guys are seeing in the pipeline and maybe some detail across sector – what sectors are looking better than others.
Joe Jolson
I think Carter is on the line. Carter, do you want to take that one?
Carter Mack
Sure. We have seen a pretty market pickup in activity in the second quarter through April now with a number of IPOs and follow-ons closing, I think we have two more deals closing this week.
I would say the theme is a lot more IPO activity, we have had, I think, we have had three tech IPOs in the first and the second quarter. And we see more of that to come and the pipeline on the IPO front is fairly robust, and we are seeing pickup in follow-on activity across a number of sectors, financial services in particular, and that we feel fairly good about where we sit in the second quarter so far.
Devin Ryan - Sandler O'Neill
Okay, great. And then just lastly, Joe, I don’t know if you can give us an update on the approximate amount of the gains maybe have to be realized on the current value, a fair value of that CLO portfolio, any flavor for that?
Joe Jolson
Yes, I mean I think that it will be in our Q that gets filed next week, you can derive the number. But obviously, the way to think about it is we bought a pool of assets, some of which were highly stressed in the economy at an average price of little over $0.60 on the dollar and part of those assets were valued low because they had credit issues.
So the performing assets might have had average price closer to 65 to 70 range, Devin. And in this environment, all those assets are pretty much back at par or they paid off par and we are taking the cash and we are redeploying it in new senior debt that has been in the high 90s to par, most recently.
So that’s why there is no ability to recreate those kind of capital gains now. From a spread point of view, the credit spread, even though they have tightened up a lot are still very attractive compared to historical standards.
We are getting roughly 3.50 to 4 on LIBOR type of thing and (inaudible) getting a lot of floors on the new capsule. From a spread point, it’s an attractive market to redeploy the capital even though it’s still a par type of thing but just those outsized capital gains over any period of time on sustainable investing in low risk senior debt.
I think that the way that deal was structured, the subscription-piece of the securitization that we own was structured for $45 million. So that's kind of the way you should think about it.
Ultimately it might be worth $45 million at par, right, and so you can look at the loan sale gains from last year and what we have got in the first quarter. And that's not a bad guide in terms of what might be available going forward but just remember, if those occur or as those occur, they are not going to continue at that level, it’s a melting ice cube of gains type of thing.
Devin Ryan - Sandler O'Neill
Right, we understand that. I was just trying to get a sense of maybe how much book value –
Joe Jolson
If you take $45 million as your starting point and we did roughly $20 million last year and $3 million this quarter, right?
Devin Ryan - Sandler O'Neill
Yes.
Joe Jolson
That gets you $22 million left to go roughly speaking, right?
Devin Ryan - Sandler O'Neill
Right, okay.
Joe Jolson
And let’s see what happens over the rest of this year, there is the number of the credit markets pretty active right now and a number of companies that had tight covenants and got their debt repriced in the down cycle or looking at maybe refinancing of that.
Devin Ryan - Sandler O'Neill
Got it. And there could also an addition of maybe be some reserve of leases, correct?
Joe Jolson
Yes, I mean the credits performed better than expected but that will get reflected in the residual value, they are effective in that 45 million piece that we bought for not a lot of money. So I mean it’s – I don't want you to double count.
Operator
(Operator Instructions) We will take our next question from Lauren Smith of KBW. Please go ahead.
Lauren Smith – KBW
Couple of questions. Clearly you are continuing to build out your franchise, you have identified research and banking.
And I am just curious your thoughts and – or have you rethought maybe fixed income and if there were opportunities there and if not why, either that's not a business that you have really been focused on building?
Joe Jolson
Well, I don't know if we talked about this in the past but about a year and a half, two years ago we looked at it really hard back in the downturn and interviewed a lot of people and had one of our senior people in asset management take that assignment to see if we could put together our own kind of boutique fixed income shop type of thing within JMP and we had some very well regarded senior people that were interested in joining us. And so we did look at it pretty hard in the downturn.
I guess what we concluded was that the outsized spreads that were available on particularly on the high grade side were just going to get competed away pretty quickly. And the competition for people in that business was pretty heated, for the people we were trying to recruit even in the downturn.
So these people were asking for pretty high guarantees and we are not a guarantee shop. And if you weren't going to guarantee them cash comp, they wanted really high kind of guarantee payout ratios, which over any period of time would lock you into pretty subpar profit level, Lauren.
So we decided that that wasn't a good – there were other things that we could do like get into the JMP Credit, at the same time was much better opportunity obviously. So I think that – we will look that in the future as opportunities come up.
There is some synergy from an investment banking point of view on the high yield side we think with the middle market companies that we now – as you may know, we did start a convert area before senior value. So we got into that business, which is kind of equity related if you will.
And we have started a debt advisory business through our credit operation on kind of the buy side of the Street originated but now – it was successful. So we have kind of put it into JMP Securities now.
Lauren Smith – KBW
Again, we have talked about it in the past, but you never know if – just wanted to get your thoughts if something you are revisiting or thinking about – there is opportunities with – a lot of small shops out there and (inaudible) we got to see some consolidation. We saw just earlier this week but –
Joe Jolson
We will continue to – I mean we look at a lot of things, Lauren, as you know. And I like to think that we are reasonably disciplined at financial returns and in the like.
So I mean we do look at a lot of things including the kind of things you are alluding to. So you never know but there is nothing that we would be imminent there, I don’t think.
Lauren Smith – KBW
Okay, that’s helpful, thank you. And I guess, Ray, a question for you.
On the non-comp side, is this – (inaudible) to seasonality in the first quarter and its activity is accelerating, your travel and business development expense will increase, but is this non-comp run rate, is this is pretty good going forward?
Ray Jackson
Yes, I would say it’s going to (inaudible) this increase from quarter to quarter.
Joe Jolson
Lauren, part of that is we didn't have the JMP Credit a year ago.
Lauren Smith – KBW
Right, okay. So the year-over-year on comparison –
Joe Jolson
That’s part of it and anyway just – and by the way we locked the year-over-year numbers with them in the second quarter.
Lauren Smith – KBW
Right, okay. And I should know this, but can you refresh my memory, I know it’s a small number, but the other income line, is that – what is that, is that pretty much like private equity?
Joe Jolson
No, we don’t really – actually we just launched our first private equity, it’s a secondary kind of venture fund. We are – they are not looking at LP interest but the actual kind of age positions in buying secondary shares from founders and venture funds.
So that launched April 1st with – and we are hoping to build a interesting business around that group of people. But for us, other income is our fees that we get for sponsoring other funds.
So there is a few funds that we’ve sponsored over time that aren’t for GAAP consolidated into that. So the main one there is a fund Expo Capital, it’s a healthcare focused fund run by Paul Sinclair, he has done a great job, and he is roughly closing in on $300 billion in asset under management now.
So we would help start that business with Paul and we have a financial interest and that's the primary thing going through other income.
Lauren Smith – KBW
Okay, great, thank you.
Joe Jolson
And AUM is – in our AUM we don’t include that in the numbers we give you guys for AUM, but we market his fund.
Lauren Smith – KBW
Got it, okay. And I guess just lastly, what – did you buy any stock back in the quarter and what do you have left rating on your authorization?
Joe Jolson
We have been buying stock back as – in conjunction with the RSU vestings. We give people the option of keeping the stock or will buy back or tax bill on the stock.
And so, I think we bought back about 100,000 shares that way.
Ray Jackson
Yes, that's right.
Joe Jolson
And we have another lock up release coming up in May where there will be a similar kind of buyback for a much bigger number. So that's how – Ray, do you know what's left on the authorization?
I think it’s (half) million shares at this point.
Ray Jackson
Yes, it's about 500,000, 600,000.
Lauren Smith – KBW
Okay, and how much is coming off lockup in May? Do you have a –
Joe Jolson
35% of the IPO awards. So I think Ray maybe can get you the exact number but there was around $1.9 million shares issued when we went public and there has been a few for – not a lot of them, but a few far fetchers over time.
So that would be 35%, that’s roughly maybe 650,000, 670,000 shares, about half of which, a little less than half we will buy back.
Lauren Smith – KBW
Got it, thank so for taking my question.
Joe Jolson
Sure.
Operator
(Operator Instructions) And it appears we have no further questions at this time.
Joe Jolson
Operator, thank you and thanks everyone for listening. Ray, Andrew and myself will be available today.
If you have any other follow-up questions, and we are excited about the start to the year and looking forward to caching up with you guys next quarter. Thank you.
Operator
This concludes today’s teleconference. You may disconnect at any time.
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