Jefferies Financial Group Inc. (then Leucadia National Corporation) — Q1 2018 Form 10-Q
Reporting period: Three months ended March 31, 2018; balance-sheet comparisons are to December 31, 2017. The filing is for the consolidated parent, not Jefferies on a standalone basis. Jefferies results are included using a one-month reporting lag.
Business context and key financial results
The company was a diversified financial services and merchant banking group, with major operations in Jefferies investment banking and capital markets and National Beef processing, alongside alternative asset management, real estate, vehicle finance, and other investments. Amounts below are U.S. dollars.
- Revenue: Total revenue was $2.946 billion, down 4.3% from $3.080 billion. After Jefferies interest expense, net revenue was $2.681 billion, down 6.5% from $2.868 billion.
- Earnings: Income before tax was $106.7 million versus $398.1 million; 2017 included a $179.9 million gain on the Conwed sale. Excluding that gain, prior-year pretax income was $218.2 million. Net income was $139.1 million versus $293.9 million; income attributable to common shareholders was $124.5 million, or $0.34 diluted per share, versus $281.4 million, or $0.75.
- Taxes: The company recorded a $32.5 million tax benefit, including a $43.9 million benefit from reversing valuation allowances on certain tax-loss carryforwards. The effective tax rate was negative 30.5%.
- Cash flow: Operating activities used $405.3 million and investing activities used $256.8 million; financing activities provided $874.5 million. Cash, cash equivalents and restricted cash totaled $5.990 billion at quarter-end, including $5.145 billion of cash and cash equivalents on the balance sheet.
- Balance sheet and debt: Total assets were $49.001 billion, total liabilities $38.174 billion, and total equity $10.288 billion. Short-term borrowings were $468.0 million and long-term debt was $8.500 billion. Total assets and liabilities include material broker-dealer and secured-financing balances.
- Parent liquidity: Parent-company cash and investments readily convertible to cash were $1.423 billion, against a stated minimum liquidity reserve of $544.6 million. Parent-company debt was approximately $989 million; the reported parent debt-to-stressed-equity ratio was 0.27, or 0.32 after excluding the net deferred tax asset.
Material changes versus the prior comparable period
- Jefferies pretax income was $125.7 million versus $132.3 million. Its net revenue rose to $820.9 million from $797.4 million; investment banking revenue increased, while sales and trading revenue declined. The filing says $32.5 million of Q1 2018 investment-banking revenue and expenses reflected the new revenue standard’s gross presentation, with no effect on pretax income.
- National Beef pretax income increased to $68.9 million from $57.1 million. Revenue rose 14%, supported by higher cattle volumes and selling prices; the quarter included 13 weeks versus 12 weeks in Q1 2017.
- Other financial services reported a $39.5 million pretax loss versus a $119.0 million loss. The prior period included a $130.2 million FXCM impairment; Q1 2018 also included a $77.6 million pretax loss on Leucadia Asset Management investments, attributed mainly to two strategies affected by exceptional volatility.
- Other merchant banking reported a $10.0 million pretax loss versus $357.0 million of income. Excluding the prior-period Conwed gain, the year-over-year decline primarily reflected HRG fair-value changes: a $21.4 million loss in Q1 2018 versus a $175.2 million gain in Q1 2017.
- Cash used in operations increased to $405.3 million from $342.3 million. Investing cash flow shifted to a $256.8 million use from $125.4 million provided, while financing cash provided increased to $874.5 million from $525.7 million.
Outlook, management commentary, risks and unusual items
- Announced after quarter-end: The company agreed to sell 48% of National Beef for approximately $900 million cash, reducing its stake to 31%; it expected approximately $150 million in pre-closing distributions and an estimated $800–$850 million pretax gain. Closing was expected in Q2 2018; the remaining interest was to be accounted for under the equity method.
- It also agreed to sell its Garcadia interests and associated real estate for $435 million cash and $50 million in preferred equity, with approximately $53 million to repay mortgage debt and a $5.75 million payment to the buyer. The estimated pretax gain was approximately $220 million, with closing expected in Q3 2018.
- Management said the National Beef and Garcadia transactions, together with other announced activity, were expected to generate approximately $1.3 billion of net cash proceeds upon closing. The company also disclosed a $190 million Vitesse Energy Finance Bakken asset acquisition, including approximately $145 million funded by Leucadia, and a subsequent commitment of up to $500 million to develop alternative asset management platforms.
- In April, the company agreed to combine Folger Hill’s fundamental equities business with Schonfeld’s under the Schonfeld brand. Leucadia expected to retain a significant revenue-share interest.
- Management described Jefferies earnings as inherently variable and dependent on financial markets, economic conditions, client activity and trading positions. National Beef profitability depends on cattle costs, product prices, volumes and seasonality. Other disclosed risks include market and valuation risk, counterparty and liquidity risk, and the possibility of additional collateral demands after a credit-rating downgrade.
- Jefferies had $1.373 billion of excess regulatory net capital. Management reported sufficient excess liquidity to meet its modeled contingent outflows. Legal and regulatory matters were described as ordinary-course or not significant to consolidated financial position or liquidity, though payments could materially affect results in a period.
- Unusual items and estimates to note include the $43.9 million tax valuation-allowance reversal, $227.0 million of gross unrecognized tax benefits (including interest), and Level 3 fair-value estimates. The filing states the company’s Tax Act accounting was still incomplete.
Important facts for investors to verify
- Whether and when the National Beef and Garcadia transactions closed, and the realized proceeds, gains, tax effects and resulting ownership/accounting treatment.
- Whether the Q1 tax benefit and the Q1 2017 Conwed gain and FXCM impairment distort comparisons of recurring earnings; also monitor Leucadia Asset Management investment performance.
- Jefferies revenue mix, compensation and non-compensation costs, liquidity and capital, and exposure to market volatility, collateral calls and credit downgrades.
- Parent-company liquidity and capital deployment after the announced sales, $500 million asset-management commitment, Bakken acquisition and share repurchases. The company reported buying 12.7 million shares for $308.5 million from April 1 through May 1, 2018.
- National Beef’s sensitivity to cattle and beef prices, volume and seasonality, and the extent to which the reported quarter’s additional week contributed to growth.
- The terms, timing and potential funding needs of material commitments, including the $500 million asset-management commitment and disclosed loan, equity and other unfunded commitments.