Stifel Financial Corp. — Q3 2013 Form 10-Q
Reporting period: Three and nine months ended September 30, 2013; comparisons are with the same 2012 periods unless noted. Stifel provides brokerage, investment banking, advisory, trading and banking services. Results include acquisitions made during 2013, notably KBW, acquired February 15, and Knight Capital’s fixed-income business, acquired July 1.
Financial performance
| Metric | Q3 2013 | Q3 2012 | Nine months 2013 | Nine months 2012 |
|---|---|---|---|---|
| Net revenues | $478.6m (+15.6%) | $414.2m | $1,410.9m (+19.3%) | $1,182.8m |
| Income before tax, continuing operations | $31.0m | $61.2m | $107.2m | $169.4m |
| Income from continuing operations | $74.9m | $37.4m | $120.8m | $102.0m |
| Net income, including discontinued operations | $69.7m | $37.7m | $113.7m | $98.6m |
| Diluted EPS, continuing operations | $1.00 | $0.60 | $1.66 | $1.62 |
| Total diluted EPS | $0.93 | $0.60 | $1.56 | $1.57 |
- Revenue mix: Q3 investment banking rose 29.4% to $92.9m, commissions 16.2% to $145.8m, principal transactions 19.6% to $122.6m, and asset-management fees 22.0% to $76.7m. Other income declined 58.0% to $13.1m, mainly reflecting gains on a Knight Capital investment in Q3 2012.
- Costs and margins: Non-interest expenses increased 26.8% to $447.6m in Q3 and 28.6% to $1,303.7m for nine months, exceeding revenue growth. Non-interest expenses were 93.5% of net revenues in Q3 (85.2% prior year) and 92.4% for nine months (85.7%). Pre-tax margins were 6.5% and 7.6%, respectively, versus 14.8% and 14.3%.
- Cash flow: Nine-month operating cash flow was $433.1m, investing cash flow was negative $1,132.8m, and financing cash flow was $943.6m. Cash and cash equivalents rose $245.3m to $649.2m.
- Balance sheet and funding at September 30: Assets were $8.71bn and shareholders’ equity $1.99bn. Bank deposits were $4.23bn; short-term bank borrowings were $133.1m; corporate debt was $357.1m, including $325.0m of senior notes and $32.1m of non-recourse debt. Separately, trust debentures were $82.5m. Bank loans, net, were $1.06bn.
- Liquidity and capital: Management reported $5.29bn in cash and assets readily convertible to cash. Stifel Bank was considered well capitalized; the parent’s total risk-based capital ratio was 24.0%, and Stifel Bank’s was 13.4%.
Material changes and unusual items
- Management attributed revenue growth to stronger investment banking and advisory activity, increased commissions and trading, higher fee-based assets, bank asset growth, and acquired businesses. Institutional Group nine-month net revenues increased 33.8%; Global Wealth Management increased 11.7%.
- Reported continuing income benefited from a $58.2m tax benefit associated with exiting the Canadian market. Without that benefit, management said the effective tax rate would have been 52.3% for Q3 and 43.5% for the nine-month period.
- Retention awards and merger-related expenses reduced net income by an aggregate $19.5m after tax ($0.26 per diluted share) in Q3 and $58.8m ($0.81 per diluted share) for nine months. These included acquisition-related stock awards expensed at grant.
- Canadian subsidiary SN Canada ceased operations September 30 and was classified as discontinued operations. Its net loss was $5.2m in Q3 and $7.0m for nine months; Q3 included $5.5m of restructuring expense.
- Available-for-sale securities fell to $1.23bn from $1.63bn at year-end, while held-to-maturity securities rose to $1.72bn from $708.0m. The company transferred $1.1bn of mortgage-backed securities to held-to-maturity during Q3. Nine-month other comprehensive income included a $48.2m unrealized loss on available-for-sale securities.
- Bank loans grew to $1.06bn from $815.9m; non-accrual loans increased to $14.8m from $1.8m at year-end. The allowance for loan losses rose to $13.2m from $8.1m.
- After quarter-end, Stifel Bank completed its acquisition of Acacia Federal Savings Bank on October 31, 2013; Acacia had approximately $585m in assets.
Outlook, risks and contingencies
- No numerical earnings or revenue guidance is provided. Management described a strategy of growing through advisor and revenue-producer recruitment, client relationships, product diversification and selective acquisitions.
- Management cautioned that results are sensitive to market activity, trading volumes, investment banking demand, interest rates, client assets and funding conditions. It also cited challenging municipal underwriting conditions and uncertainty in economic and regulatory environments.
- Legal proceedings include the SEC matter relating to Wisconsin school-district CDOs, bond-related litigation involving the Lake of the Torches EDC and tribal parties, and a tribal lawsuit involving a separate bond transaction. Stifel said it intends to defend the claims; outcomes and possible financial effects are uncertain. A Canadian court had awarded approximately $16m plus interest and costs in the Stetson matter; Stifel Nicolaus Canada was appealing and said it had adequate reserves.
- Liquidity risks include reliance on deposits, secured and unsecured borrowing, and subsidiary distributions; the $100m committed revolving credit facility was due to expire in December 2013. Derivative agreements include default and capital-related provisions; the reported termination value of relevant net-liability derivatives was $11.8m.
- Management reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Investor verification priorities
- Separate recurring operating performance from the $58.2m tax benefit and acquisition-related charges; assess the pace of expense growth against revenue growth.
- Review acquired-business integration, retention costs, share dilution and whether acquired revenue translates into sustained segment profitability.
- Track bank deposit concentration and funding, liquidity available after collateral pledges, and the maturity or renewal of short-term facilities.
- Monitor loan quality, especially the increase in non-accrual loans and the allowance relative to portfolio growth.
- Follow material litigation and the Acacia acquisition’s integration and financial contribution; the filing does not quantify a clear range of potential losses for the principal legal matters.