Cohen & Company Inc. — 2018 Form 10-K
Period: Fiscal year ended December 31, 2018; the filing was signed March 7, 2019. This is an annual report, not a standalone fourth-quarter filing. Unless noted, dollar amounts below are in millions; the filing presents most financial statement amounts in thousands.
Business context
Cohen & Company is a fixed-income financial services company with Capital Markets, Asset Management and Principal Investing segments. Capital Markets includes fixed-income trading and matched-book repo financing; Asset Management earns fees from managed investment vehicles; Principal Investing holds investments for return. At year-end, AUM was $2.85 billion, of which 83.7% was in legacy CDOs. The company has not completed a new securitization since 2008.
Financial results and liquidity
| Metric | 2018 | 2017 |
|---|---|---|
| Total revenue | $49.39 | $47.54 |
| Operating income | $3.66 | $7.40 |
| Operating margin | 7.4% | 15.6% |
| Net income (loss) | $(3.99) | $2.44 |
| Net income (loss) attributable to Cohen & Company Inc. | $(2.46) | $2.06 |
| Interest expense, net | $8.49 | $6.18 |
| Operating cash flow | $(7.00) | $(11.92) |
| Cash and cash equivalents at year-end | $14.11 | $22.93 |
Revenue rose 4%, but operating expenses increased 14% to $45.73 million, reducing operating income by 51%. Higher interest expense contributed to the shift from profit to loss. Reported basic loss per share was $2.14, versus basic earnings per share of $1.71 in 2017. Cash decreased $8.83 million during 2018; investing activities provided $2.16 million and financing activities used $3.72 million.
Balance-sheet assets were $5.65 billion, up from $2.04 billion, primarily alongside the expansion of matched-book repo financing: resale receivables were $5.17 billion and repurchase liabilities $5.21 billion at year-end. These gross secured-financing balances should not be confused with ordinary corporate debt. Debt was $43.54 million on the balance sheet; the filing separately describes approximately $69.9 million of recourse indebtedness at par. Redeemable financial instruments totaled $17.45 million. The company had a $25 million MB Financial credit line, with no year-end draw. A separate $12.5 million ViaNova facility was also undrawn.
Quarterly data show fourth-quarter 2018 revenue of $15.62 million, operating income of $2.29 million and a net loss attributable to the company of $0.42 million. These quarterly figures are unaudited.
Changes versus prior period and significant items
- Net trading revenue increased 9% to $29.30 million. High-yield corporate trading rose $4.40 million and investment-grade corporate trading rose $1.03 million; mortgage trading fell $2.44 million.
- Asset management revenue increased 59% to $12.54 million, including higher managed-account performance fees and a $2.997 million release/payment of deferred subordinated fees following the Alesco II CDO auction and liquidation. The company will no longer earn fees from that CDO.
- New issue and advisory revenue fell 53% to $2.98 million. Principal transactions and other income fell 29% to $4.57 million, partly because prior-year revenue shares from Alesco and Star Asia were not repeated; the Star Asia arrangement ended in 2018.
- AUM declined 18% from $3.49 billion to $2.85 billion. Two CDOs liquidated following successful auctions; the company lost their future management fees.
- The company launched a U.S. Insurance joint venture and a SPAC investment fund, and formed ViaNova to develop a residential transition loan business. ViaNova had acquired no loan assets by year-end.
- In 2018, the company repaid $1.46 million of 2013 convertible notes and extended the remaining $6.79 million to September 2019, reducing the conversion price to $12 per share. Related-party financing and other related-party arrangements are disclosed in the filing.
Outlook, risks and contingencies
The filing provides no quantified earnings or revenue guidance. Management says results are unpredictable and depend on market activity, volatility, interest rates, mortgage volumes, competition, and investment performance. It expects continued pressure on fixed-income brokerage margins and notes that legacy CDO runoff, repayments, defaults and auction calls can reduce AUM and fees. Management states that cash, trading investments and related borrowing capacity should meet near-term operating needs, while acknowledging uncertainty over replacement or additional financing.
- Liquidity and funding are significant risks: repo financing depends heavily on FICC access and funding; the company also relies on Pershing for clearing and margin financing and Bank of New York for GCF repo settlement.
- Market, credit, counterparty, settlement and valuation risks include illiquid or Level 3 investments and potential losses on principal positions. A 100-basis-point rise in the yield curve was estimated to reduce fair value by $5.98 million; a 100-basis-point change in three-month LIBOR would change annual interest cash payments by $0.48 million.
- Debt covenants and variable-rate obligations constrain flexibility. The filing notes a pre-existing covenant restriction limiting additional subordinated or pari passu debt under the Alesco Capital Trust notes. LIBOR transition, limits on interest deductibility and potential Section 382 restrictions on tax attributes are also risks.
- Brexit created uncertainty for the U.K.-based regulated subsidiary’s ability to serve EU clients; the company was pursuing an EU-regulated subsidiary, with no assurance of timely approval.
- A Pennsylvania tax assessment of $4.683 million plus interest remained disputed; the company recorded no liability, believing claims were limited to a former subsidiary with no assets or operations. A FINRA matter resulted in a $50,000 fine paid in 2018. Management says routine other legal and regulatory matters are not expected to have a material adverse effect, but related future legal costs cannot be estimated.
- Management assessed disclosure controls and internal control over financial reporting as effective at year-end. The auditor issued an unqualified opinion on the financial statements; no auditor attestation on internal controls was included.
Important facts for investors to verify
- How much of 2018 earnings and cash generation is repeatable after the Alesco II deferred-fee release and the expiration or termination of revenue-share arrangements.
- The economics, collateral, maturity and covenants of repo and other financing, including the extent of reliance on FICC, Pershing and BONY; distinguish matched-book balances from recourse corporate debt.
- Whether the new insurance, SPAC and ViaNova businesses can generate sustainable fees and returns, and whether ViaNova’s credit facility has been drawn since year-end.
- Current status and conversion, repayment or refinancing of the 2013 and 2017 convertible notes, related-party instruments and the post-year-end MB Financial facilities.
- CDO auction outcomes, fee reductions and AUM runoff, along with valuation assumptions for illiquid investments and the company’s ability to maintain liquidity and dividends.