Business context and reporting period
Oppenheimer Holdings Inc. filed this Form 10-K on March 3, 2017, covering the fiscal year ended December 31, 2016. It is a middle-market investment bank and full-service broker-dealer, with private-client brokerage, asset management, capital markets, trading and trust operations. The filing also reports fourth-quarter results; it is an annual filing, not a standalone quarterly filing.
During 2016, the Company sold substantially all assets of its FHA mortgage subsidiary, OMHHF, and discontinued that business. Its results are presented as discontinued operations. At year-end, the Company reported $77.2 billion in client assets under administration and $24.8 billion in assets under management.
Financial performance and position
| Metric | FY 2016 | FY 2015 |
|---|---|---|
| Revenue from continuing operations | $857.8 million | $897.8 million |
| Loss before tax from continuing operations | $21.9 million | $2.4 million |
| Net loss from continuing operations | $9.6 million | $2.8 million |
| Net income from discontinued operations | $10.1 million | $5.7 million |
| Net income (loss) attributable to Oppenheimer Holdings Inc. | $(1.2) million; $(0.09) per share | $2.0 million; $0.14 per share |
| Cash provided by (used in) operating activities | $(67.5) million | $(20.8) million |
| Cash and cash equivalents at year-end | $64.9 million | $63.4 million |
FY 2016 compensation and related expenses were $584.7 million, or 68.2% of revenue, versus 68.0% in 2015. Non-compensation expenses increased 1.9% to $295.0 million, with higher legal, compliance, communications and technology costs. The pretax loss from continuing operations was approximately 2.6% of continuing revenue. The Company recorded a $12.3 million income tax benefit on its continuing-operations loss; the reported effective tax benefit rate was 56.0%.
Revenue composition in 2016: commissions $377.3 million (down 9.6%); advisory fees $269.1 million (down 4.0%); investment banking $81.0 million (down 21.0%); interest $47.6 million (down 2.8%); principal transactions $20.5 million (up 34.9%); and other revenue $62.2 million (up 87.1%). The Company attributed declines mainly to lower transaction activity, adviser headcount, advisory fees and equity underwriting; other revenue rose substantially, partly reflecting FDIC-insured deposit income and company-owned life insurance benefits.
Fourth-quarter 2016 revenue was $218.9 million, with a $7.5 million pretax loss and a $2.4 million continuing-operations net loss. Net loss attributable to the Company was $1.8 million, or $0.23 per share, compared with a $3.1 million loss, or $0.23 per share, in fourth-quarter 2015.
At December 31, 2016, total assets were $2.237 billion, total liabilities $1.724 billion, and stockholders’ equity $513.3 million. Long-term debt was $149.4 million net of issuance costs ($150 million face value): 8.75% senior secured notes due April 2018. Bank call loans were $145.8 million, generally payable on demand, and repurchase-agreement liabilities were $378.1 million. Management stated that funds from operations, capital and available credit facilities were sufficient for foreseeable liquidity needs; operating cash flow was nevertheless negative in 2016. Oppenheimer’s regulatory net capital was $142.5 million, $122.1 million above its required minimum. The Company paid $0.44 per share in dividends and repurchased 260,862 shares for $3.9 million during 2016.
Material changes versus the prior comparable period
- Continuing revenue fell 4.5%, while the pretax loss from continuing operations widened from $2.4 million to $21.9 million. The Company moved from attributable net income of $2.0 million to an attributable net loss of $1.2 million.
- Private Client revenue declined 3.3%, but pretax income increased 12.0% to $66.1 million. Asset Management revenue declined 4.4% and pretax income declined 5.2%. Capital Markets revenue declined 8.8% and shifted from $5.2 million pretax income to a $17.7 million pretax loss.
- Cash used in operations increased to $67.5 million from $20.8 million. Investing activities provided $39.7 million, mainly from asset-sale proceeds, and financing activities provided $29.3 million; cash increased $1.5 million overall.
- Total assets decreased 17.1%, including the removal of most OMHHF assets following its sale. The mortgage business sale generated approximately $45.0 million cash consideration and a reported $14.9 million net gain; discontinued operations also included a subsequent gain from the release of $1.4 million withheld from the purchase price.
Outlook, risks, contingencies and unusual items
No numerical earnings or revenue guidance is provided. Management’s stated priorities include growing private-client and asset-management businesses, recruiting experienced professionals, investing in technology and compliance, expanding capital-markets capabilities, controlling expenses, and considering selective acquisitions or further exits from non-strategic businesses.
- Auction-rate securities (ARS): The Company held approximately $88.1 million principal value of ARS purchased from clients, with $84.9 million fair value, and had $31.0 million principal value of purchase commitments, presented at $31.2 million fair value. This includes $5.0 million of regulatory-settlement commitments and $26.0 million of commitments under legal settlements and awards through 2020. Eligible investors held a further $33.4 million of ARS that could be subject to future offers; the timing and amount are uncertain. Clients held approximately $76.5 million of ARS at the firm at year-end. The filing warns that further purchases or claims could materially affect liquidity and results.
- Legal and regulatory exposure: For proceedings where losses were reasonably estimable and at least reasonably possible, the estimated aggregate loss in excess of amounts accrued ranged from $0 to approximately $47 million; some matters could not be estimated. Oppenheimer settled a FINRA inquiry in 2016 for a $1.6 million fine and approximately $1.8 million of client restitution. A previously disclosed $10 million SEC settlement and $10 million FinCEN assessment were paid in two installments; the final $5 million payment to each agency was made January 26, 2017. Other investigations and lawsuits remained pending.
- Market, funding and regulatory risks: Results are sensitive to transaction volumes, market prices, interest rates, trading spreads, adviser retention and funding availability. Management expected the DOL fiduciary rule, if implemented as then scheduled, to increase compliance costs and potentially pressure retirement-account and commission revenue; the filing notes that the rule was under review and could be delayed, revised or rescinded. Brexit also created uncertainty for the Company’s UK operations.
- Other commitments and risks: Operating lease obligations totaled approximately $263 million. The Company has $150 million face value of secured notes due in 2018, with restrictive covenants; it reported covenant compliance at year-end. Cybersecurity, litigation, regulatory compliance, counterparty credit, and illiquid ARS remain material risks. Management reported no material cyber-incident losses to date.
The Company and Deloitte reported effective internal control over financial reporting as of December 31, 2016, and Deloitte issued unqualified opinions on the financial statements and internal controls.
Important facts for investors to verify
- Whether continuing operations can return to profitability, particularly given lower commissions and investment-banking revenue and the Capital Markets segment’s 2016 loss.
- Cash generation and access to financing, including the sustainability of on-demand bank borrowing, repurchase financing and the ability to meet the 2018 notes maturity.
- The scope, timing and ultimate cost of ARS purchase obligations, future regulatory offers and any additional client claims.
- The outcome of pending legal and regulatory matters and whether actual losses could exceed the disclosed $0–$47 million range.
- Whether OMHHF sale proceeds trigger debt-indenture requirements to reinvest proceeds or offer to repurchase notes, and the effect of the discontinued business on future comparisons.
- The assumptions behind Level 3 ARS valuations, tax benefits and deferred tax assets, as well as the durability of increased other revenue from bank deposits and company-owned life insurance.