Jul 24, 2013
Executives
Andrew Palmer - Head of IR Joe Jolson - Chairman and CEO Ray Jackson - CFO
Analysts
Joel Jeffrey - Keefe, Bruyette & Woods
Operator
Welcome to the JMP Group Second Quarter 2013 Earnings Conference Call. Today’s call is being recorded.
All lines have been placed on mute. (Operator Instructions).
At this time, I’d like to turn the call over to Andrew Palmer, the company's Head of Investor Relations. Please go ahead.
Andrew Palmer
Good morning. Welcome.
Here with me today are Joe Jolson, JMP’s Chairman and Chief Executive Officer and Ray Jackson, our Chief Financial Officer. You’re joined by Carter Mack, President of the Company and Craig Johnson, Vice Chairman.
Before we move on I’d like to point out 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 the company’s future performance please see the description of risk factors included in JMP’s most recent 10-K. With that said, I’ll turn the call over to our Chairman and CEO, Joe Jolson.
Joe Jolson
Thanks Andrew and thanks to those of you listening today for your interest in JMP Group. JMP had a great second quarter, excluding an after-tax expense of $0.03 a share relating to the successful IPO of Harvest Capital operated in May.
operating EPS increased by 38% from a year ago to $0.18 driven by a similar year-over-year increase of 37% in adjusted net revenues. JMP Securities produced record revenues for the quarter as our market share gain since 2009 positioned us to benefit from an improving capital market's environment and more than offset the decline in net investment income and incentive fees during the period.
We were particularly pleased to see that positive client reaction to management changes we recently made in our institutional equities business led to improved results more quickly than we had anticipated. I’ll have Ray take you through some of the quarter’s financial results before saying more.
Ray Jackson
Thanks Joe. Operating net income as reported was 3.3 million or $0.15 per share versus 3.1 million or $0.13 per share for the second quarter of 2012.
Adjusted net revenues, which exclude non-cash items and non-controlling interest was 38 million compared to 27.7 million a year ago. For the six months ended June 30, adjusted net revenues were 70.1 million compared to 62.9 million for the first six months of 2012.
Our adjusted operating margin was 14% for the second quarter, and was 15.9% for the six months ended June 30. In the second quarter, JMP Securities contributed $0.13 per share to operating EPS, up from $0.05 per share in the prior quarter and just $0.01 a year earlier.
Harvest Capital Strategies lost $0.01 per share on operating EPS basis but on $0.02 when excluding the $0.03 after-tax expense tied to Harvest Capital Credit IPO. JMP Credit produced $0.13 per share versus $0.14 per share for the second quarter of 2012.
From an expense standpoint, pro forma compensation and benefits expense, which excludes non-cash expense tied to stock-based awards but includes any deferred compensation as a percentage of adjusted net revenues was 65.6% for the second quarter and 64.1% for the first half. The non-compensation expense ratio excluding the one-time $2.5 million expense related to the IPO of Harvest Capital Credit was 17% for the second quarter and 18.1% for the first half.
With regard to our balance sheet at June 30, JMP’s recourse debt to total capital ratio was 35% and our net cash and liquid securities per share was $1.78. Stockholder’s equity, all of which was tangible was $121.1 million and tangible book value per share was $5.47.
Adjusted tangible book value per share was $5.21 versus $4.78 a year ago. Because the accelerated amortization of the net liquid discount on JMP Credit’s assets was completed in May, the only remaining difference between tangible and adjusted book value is due to our accelerated recognition of compensation expense, which must be deferred under GAAP.
From a capital management standpoint, JMP repurchased approximately 0.5 million shares and paid a cash dividend of $0.035 during the second quarter. Year-to-date, we have returned $0.22 per share to stockholders, roughly 70% of our operating EPS is $0.31 per share with the remainder increasing at tangible book value and anticipation of attractive future investment opportunities.
We continue to make effective capital management priority, balancing dividends and share buybacks with other principle investment activities. With that, I’ll turn things back over to Joe.
Joe Jolson
Thanks Ray. I want to make a few comments about the record quarterly results at JMP Securities before providing a mid-year report on our progress in meeting our near-term and longer term objectives.
At the time of our May 2007 IPO, JMP Securities was the primary contributor of revenue and earnings to JMP Group. Since that time, sever industry wide secular headwinds combined with the cyclical global capital markets meltdown to undermine our growth objectives and in many cases bankrupt some of our competitors.
Looking back the carnage industry wide since our IPO delivering essentially flat revenues managing our cost in order to stay profitable and at the same time gaining substantial market share of JMP Securities seems like a pretty successful outcome. JMP Securities produced record results in the second quarter because of our efforts to gain market share during the downturn were rewarded by surging revenues as overall capital markets environment began to improvement.
Our commissions business benefited from rotation equities during the quarter as some of our larger clients traditional money managers experienced net outflows for the first time in many years… I’m sorry, net inflows for the first time I many years. That business also benefited from the recent leadership changes we made in that area which I’ll discuss in a few minutes.
Our investment banking group generated record revenues, which were fairly well diversified across our industry groups and products, and were derived from any unusually large transactions in the period. The record revenues translated into record operating earnings of $0.13 a share as our operating margin surge to little under 17% from the quarter despite the fact that we maintained our comp ratio at 65% for the first half of 2013.
We’re increasingly optimistic about our future earnings prospects at JMP Securities but continue to be worry as always of overall industry conditions. Now an update on mid-year how we’re doing.
In early 2013, we developed the financial plan for the year that we communicated to people on our year-end call that included a material increase in spending upwards of $0.20 a share this year and potentially next, to invest in organic growth in all areas of our business. Our objective was to accelerate our top line growth to 15% to 20% a year versus a compounded rate of roughly 6% since our IPO.
Our former growth strategies did result in improved market share as well as record operating earnings but did not enable us to meet our goal of a 10% organic growth rates since we went public. Specifically, this year we anticipated the cost of strategic hires in our institutional equities business primarily in our New York office.
The addition of senior M&A oriented investment bankers, underwriting fees resulting from the IPO Harvest Capital credit. A give up of potential returns in order for JMP credit to re-access the CLO new issuance market, the launch of one to two new fund strategies of Harvest Capital strategies and finally, the potential negative carried on a long term debt financing to fund some of these objectives.
I am happy to report that at mid-year we've met and in some cases exceeded most of these objectives. In the first quarter, we were successful in attracting Tom Wright the leader, institutional equities effort out of our New York office.
Tom previously managed trading platforms at Sanford Bernstein and Merrill Lynch has already implemented important changes in our research sales and trading operations, the 29% year over year increase and net brokerage revenues in the second quarter demonstrates that JMP is already gaining some momentum in this regard. In the first half, we also attracted two senior M&A oriented investment bankers to our platform and continued to search activity for one or two more top producers whom we believe would be a good cultural fit for our company.
In early May, we closed the initial public offering for Harvest Capital credit, our small business lending strategy and that company is now very well positioned to grow rapidly over the next three to five years. As we communicated, we had to contribute $2.5 million to cover most of the underwriting expense in order to deliver a price the new investors of roughly net asset value.
This cost the JMP after-tax was roughly $0.03 in the quarter. However, since we started that company in the third quarter of 2011, we did get a 49% IRR through the IPO on our investment and we would anticipate going forward that HCAP advisors, the company’s external manager could become a material contributor to Harvest Capital strategies results in JMP Group’s earnings growth over the next three to five years.
In late May, we closed JMP credit advisor CLO II, a $344 million deal upsize from our target of $300 million. To re-access the market, we made a concession of roughly 300 basis points when compared to returns for our currently well-established issuers.
The terms were in line with what we had budgeted and we would expect that the 17.3 million of capital we invested in the deal will produce a low double digit IRR once the funds are fully deployed. We are hopeful that CLO III will be successfully executed by the end of this year or early next year and will materially narrow the aforementioned return GAAP.
Harvest Capital strategies continues to evaluate new fund strategies with the goal of launching one to two per year. While we did not execute on any in the first half 2013, we recently committed the launch two new funds post Labor Day.
Blue J [ph] Capital is a newly formed healthcare sector focused along by hedge fund managed by our previous partners at Expo Capital in Los Angeles. We are providing operating capital as well investor marketing for the business which is scheduled to begin fund raising early in the fourth quarter.
River Bank our joint venture with New York Mortgage Trust and Kevin Donlon plans to launch a mezzanine equity strategy in the fall that will complement its existing CMBS debt strategy which currently has over a 150 million of assets under management. We are providing some seed capital for the new fund.
We are excited about the prospects for both of these sponsored funds in 2014 and beyond. Finally, earlier this year we issued 46 million of long term debt in an effective cost of 8.3% to finance some of these investments.
This cost works out to roughly $0.10 a share after tax and it will eventually get intermediated by our CLO business with a lag. We invested roughly 30 million of the proceeds in our three sector hedge funds which could introduce some additional volatility into our quarterly results based on near term investment performance.
Our return of 3.3% in the first quarter was accretive to this cost of funds while a 1% return for the second quarter was not, for the first half of the year a 4.2% gross return essentially covered our cost of money and obviously the alternative was leaving the money market account paying nothing so it’s very accretive to just cash. JMP’s five year goal continues to be two fold, at JMP securities doubling our ECM market share while tripling our institutional commission’s market share both to roughly 1% and at HCS and JMP credit, tripling our sponsored assets under management.
Assuming a relatively stable industry-wide operating environment, we believe that if we are successful, our revenues would be more than double and then we could enjoy material positive operating margin leverage on our non-comp costs as well as on our staff cost. The results could be more than a doubling of operating EPS driven by our operating subsidiaries while at the same time absorbing material decline in net investment income as a percent of our total earnings as JMP credit advisor CLO one low cost liabilities of roughly LIBOR plus 26 basis points get fully repaid in the next few years, now that its reinvestment period has ended.
To close I want to thank JMP's 218 employees as well as our independent Board members for their continued dedication to JMP and to achieving outstanding long term results for shareholders. With that operator we could take any questions.
Thank you
Operator
(Operator Instructions). You have a question from the line of Joel Jeffrey from KBW.
Joel Jeffrey - Keefe, Bruyette & Woods
Appreciating again the color and about sort of larger than expected, the $0.20 sort of earnings tied to the growth initiatives. I mean did the growth initiative this first half of the year really contribute meaningfully to the revenue side of the equation or are you really just seeing this more from (inaudible) and basically the operating leverage is really yet to come?
Joe Jolson
I don't think that they've contributed to the earnings in the first half, in the sense that we just hired some people in the sales and trading operations, Tom joined in February. So I think it's starting to contribute.
So I don't we've seen that yet, but maybe a little bit of it in the second quarter. And in the investment banking side, the two investment bankers we hired, one started early in the year and he's already become reasonably productive to better than expected.
The other one started in the second quarter and we're getting good feedback, but no revenues to report there, year-to-date. We did that deal in January, so obviously that expense is therefore pretty much the whole year, and of course the cost of taking (inaudible) public.
I mean I think that when I gave you that number of upwards of $0.20 that essentially assumed that the comp that we kind of targeted to pay some of these guys, most of which isn't guaranteed or anything, but I think that's assuming for very little revenue. So we're obviously hoping to do better than that by the end of the year.
Joel Jeffrey - Keefe, Bruyette & Woods
And how much of that $0.20 do you think you have already sort of incurred in the first half of the year?
Joe Jolson
It's spread out, the interest expenses spread out right, so if you look at $0.10 potentially from just the debt cost, we have kind of covered most of that cost just r at least part of that cost with the 30 million we put into our funds, right. The CLO investment was the rest of that and that closed in April and it takes a while for loans to close.
So in the second quarter they actually had a negative return on the 17.3, because you are paying out on all the bonds, but the loans haven't closed yet. I think most of those loans will be closed by the next couple of months.
So it should be a positive contributor in the third quarter and then maybe be at a normalized run rate in the fourth quarter. We have just budgeted that cost for close strategic hires evenly across the year, so that is already, one-fourth of that would have been this quarter.
Joel Jeffrey - Keefe, Bruyette & Woods
So essentially though what we're seeing is basically half of the drag on the bottom line but no pickup really on the revenue side, so the operating margins really get to come from these.
Joe Jolson
Remember that, I mean it's hard to be precise about these we can track revenues for the people that we hired, but since most of them that we have hired have joined in the last few months, it's a little early to expect major revenue contributions there.
Joel Jeffrey - Keefe, Bruyette & Woods
And then I mean the broker business was particularly strong. Looks like it's getting back to sort of more traditional levels.
I mean again this is really just a function of people coming back to equities. I know you said in the commentary we got some other we have seen flows in the equities.
But are you seeing just that much more of an appetite for institutions that progress on.
Joe Jolson
I think that and that's not the part of business that I am involved, I will just tell you the answers for the questions when I ask that. I think we're seeing a lot higher client engagement with some of these changes we made in personnel, so that's a positive.
I think if you look at industry wide business there on the commission side and you would look at this more than I bet when the dust settles it will be up slightly year-over-year for equities U.S. equities trading, and maybe 5% or something like that.
And so we obviously we're up a lot more than that. So we picked up some market share there.
And like I said I think that's because of some of the people we brought in and the level of their relationships with institutions.
Joel Jeffrey - Keefe, Bruyette & Woods
And then just lastly for me, on the investment banking side, it looks like sort of the debt and convertible securities line was pretty solid again particularly in terms of the revenue side. I mean is this sort of a new run rate we should kind of think about, was there anything specific in the line of quarter.
Joe Jolson
I will make a quick comment but I would like Carter to give you some details; but basically we bolted on a number of products in the last three or four years to leverage their relationships that we have on calling on these three participants. So it isn’t something that we just started to do but we have seen some improvement in terms of getting higher in closing revenues.
So we feel pretty good about that, Carter can give us more details.
Carter Mack
Yes, we had one significant transaction in the second quarter, $300 million debt yield that we are co-book runner on. So that was a significant feed.
Other than that it came from a number of different convert and debt placement. We continue to be pretty engaged in both of those areas.
In the convertible area in particular, we are seeing a lot of activity and expect to have some significant deals in the second half of the year. On the debt side, it continues to be engaged more on the private placement part of that.
Overall it is a more significant contributor to our business and we expect that going forward.
Joel Jeffrey - Keefe, Bruyette & Woods
Did the potential rise in rates have anything to do with people sort of maybe accelerating their plans to raise capital or isn’t that had any impact at all?
Joe Jolson
That happened at the end of second quarter, so it didn’t really have a positive or negative effect, I think, on our quarter.
Carter Mack
No, we didn’t really see any major effect from that and Joe said it happened towards the end of the quarter. There are issues, that we’re looking at the rate environment and we are in historically one of the best high yield debt environments we have seen, very good convert market environment.
So we are encouraging people to take advantage of that.
Joe Jolson
We cover middle market, kind of smaller middle market companies that are using capital to grow and expand in general. So we don’t do anything in the high grade area.
So it will be less sensitive, reasonable changes in market interest rates is going to be a lot more sensitive to the user proceeds and the credit spreads type of side of it.
Operator
At this time there are no further questions.
Joe Jolson
Well, I would like to thank everyone for their interest today. I will be around today.
If you have any follow-up questions, just give me a call and or Ray, or Andrew. And we will catch up within three months.
Thank you.
Operator
Thank you ladies and gentlemen, and that conclude today’s conference call. You may now disconnect.