Business context and reporting period
Jefferies Financial Group Inc. filed this unaudited Form 10-Q for the quarter and nine months ended September 30, 2018. The company combines Jefferies Group, a global investment bank, with merchant banking and other financial-services businesses. Jefferies Group results are consolidated using a one-month lag. On October 2, 2018, the company approved changing its fiscal year-end to November 30.
Unless stated otherwise, figures below are in millions of dollars. Year-to-date comparisons are with the nine months ended September 30, 2017.
Financial results and liquidity
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Total revenue | $1,459 | $1,103 | $3,864 | $3,736 |
| Net revenue | $1,151 | $857 | $2,957 | $3,021 |
| Income from continuing operations | $182 | $16 | $296 | $286 |
| Net income attributable to common shareholders | $193 | $99 | $1,043 | $439 |
| Diluted EPS | $0.55 | $0.27 | $2.91 | $1.17 |
- Revenue and earnings: Q3 net revenue rose 34%; nine-month net revenue declined 2%. Q3 continuing-operations pretax income was $273 million versus $26 million. Nine-month pretax income from continuing operations was $348 million versus $413 million.
- Revenue presentation: Adoption of the new revenue standard increased reported investment banking revenue and expenses by $36 million in Q3 and $101 million year to date, with no impact on pretax income. Prior-period figures were not restated, limiting direct comparability.
- Business performance: Jefferies Group net revenue was $775 million in Q3 (down from $803 million) and $2,419 million year to date (up from $2,382 million). Q3 investment banking revenue was $447 million, down 6%; year-to-date investment banking revenue was $1,387 million, up 12%. Q3 equities revenues improved, while fixed-income revenues were broadly unchanged.
- Costs and margins: Compensation was 55.2% of net revenue in Q3 and 54.8% year to date, compared with 57.7% in both prior-year periods. Q3 total expenses increased to $897 million from $862 million; nine-month expenses rose to $2,694 million from $2,523 million.
- Cash flow: For the nine months, operating cash flow was $200 million versus $1,061 million; investing cash flow was negative $119 million versus negative $29 million; financing cash flow was negative $37 million versus positive $218 million. Cash, cash equivalents and restricted cash ended at $5,802 million, up $27 million from January 1. Cash flows were affected by investment and divestiture activity and should not be assumed to recur.
- Balance sheet and debt: At September 30, total assets were $48,949 million, total liabilities $38,156 million and total equity $10,647 million. Long-term debt was $7,777 million versus $7,886 million at year-end 2017; short-term borrowings were $382 million. Cash and cash equivalents were $4,896 million versus $5,275 million at year-end.
- Liquidity: Parent-company readily convertible cash resources were $2,313 million, against a stated minimum liquidity reserve of $595 million. Jefferies Group reported $6,056 million of cash and other liquidity sources and said it had sufficient excess liquidity for its modeled maximum liquidity outflow. Its long-term capital of $11.3 billion exceeded modeled cash capital requirements.
- Capital returns: The quarterly common dividend increased to $0.125 per share from $0.10. The company repurchased 26.1 million shares for approximately $631 million during the nine months.
Material changes, outlook and risks
- National Beef: Jefferies sold 48% to Marfrig for $907.7 million in cash in June, reducing its ownership to 31% and ending consolidation. The transaction generated an $873.5 million pretax gain ($643.9 million after tax) in discontinued operations. The retained stake is accounted for under the equity method.
- Garcadia: The company sold its dealership interests and associated real estate for $417.2 million in cash, recording a $221.7 million pretax gain in Q3.
- Other unusual items: A $47.9 million impairment was recorded on the Golden Queen investment after lower projected mine cash flows. The Spectrum Brands investment generated a $48.5 million Q3 fair-value loss and a $228.4 million loss year to date. The nine-month tax provision included a $43.9 million benefit from reversing a valuation allowance on certain tax-loss carryforwards.
- Investment and strategic activity: Vitesse Energy Finance acquired Bakken assets for $190 million. Jefferies invested $250 million in the Weiss strategy and agreed to invest a further $250 million in the proposed Schonfeld combination. On October 1, certain asset-management interests and Berkadia were transferred to Jefferies Group.
- Outlook: The filing provides no specific earnings or revenue guidance. Management cautions that investment-banking and trading results are unpredictable and depend on market and economic conditions; portfolio changes and the timing of transactions and investment distributions can materially affect results and cash flows.
- Risks and contingencies: Market, credit, liquidity, counterparty and valuation risks remain significant. Level 3 assets rely on less observable inputs. A downgrade below investment grade could trigger collateral demands; Jefferies Group estimated $83 million of additional collateral under relevant arrangements. Legal and regulatory matters were described as ordinary or not significant to consolidated financial position or liquidity, although payments could materially affect results in a period. The company reported $237.8 million of gross unrecognized tax benefits and ongoing tax examinations.
- Controls: Management concluded disclosure controls were effective at September 30, 2018, with no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Separate recurring operating performance from the National Beef disposal gain, Garcadia gain, Spectrum Brands fair-value changes and Golden Queen impairment.
- Assess comparability after the new revenue standard’s gross presentation of investment-banking expenses; reported revenue and expenses rose without changing pretax income.
- Review the cash-flow impact of divestitures, investments, share repurchases and discontinued operations, and distinguish consolidated cash from parent-company liquidity.
- Monitor Spectrum Brands valuation, Golden Queen operating projections, National Beef’s retained-stake performance and commitments to asset-management strategies.
- Check debt maturities, covenant compliance, regulatory capital restrictions and potential collateral needs following a credit downgrade.