Cohen & Co. / Institutional Financial Markets, Inc. — FY 2015 Form 10-K
Reporting period: Year ended December 31, 2015; filed March 9, 2016. The filing registrant is Institutional Financial Markets, Inc. (IFMI), formerly Cohen & Company Inc. Unless stated otherwise, amounts below are in U.S. dollars.
Business context
IFMI is a fixed-income financial services company operating in Capital Markets, Principal Investing and Asset Management. At year-end, it reported $3.91 billion in assets under management (AUM), of which 95.8% was in legacy collateralized debt obligations (CDOs). The company had not completed a new securitization since 2008 and said it did not expect to complete one in the future.
Financial performance and liquidity
| Metric | FY 2015 | FY 2014 |
|---|---|---|
| Total revenue | $46.2 million | $55.8 million |
| Operating income (loss) | $(1.7) million | $0.3 million |
| Net income (loss) | $(5.7) million | $(3.7) million |
| Net income (loss) attributable to IFMI | $(4.1) million | $(2.6) million |
| Basic loss per share | $(0.28) | $(0.17) |
| Net interest expense | $3.9 million | $4.4 million |
| Cash and cash equivalents at year-end | $14.1 million | $12.3 million |
| Total assets | $308.8 million | $342.5 million |
| Debt, carrying value | $28.9 million | $27.9 million |
| Total equity | $46.2 million | $56.5 million |
Revenue fell 17%. Net trading revenue rose 11% to $31.0 million, while asset management revenue fell 33% to $9.7 million. New issue and advisory revenue was nearly flat at $5.4 million. Principal transactions and other income dropped to $0.1 million from $8.0 million, reflecting investment valuation losses and lower other income. Operating expenses declined 14% to $47.8 million; no goodwill impairment was recorded in 2015, compared with a $3.1 million charge in 2014.
Operating cash flow was negative $4.2 million, compared with positive $4.1 million in 2014. Investing activities provided $11.9 million, principally from sales and returns of principal on investments; financing activities used $5.6 million, including $4.0 million for a share repurchase and $1.2 million of dividends. Net cash increased $1.9 million. Management said available cash, trading investments and related borrowing capacity were expected to cover near-term operating needs.
The reported $28.9 million debt carrying value differs from approximately $56.4 million of recourse debt at par, mainly because of accounting discounts on junior subordinated notes. The $8.25 million 8% convertible notes mature in September 2018 and are convertible at $3 per share; junior subordinated notes have variable rates and maturities in 2035 and 2037. The filing lists $108.6 million of contractual obligations, including estimated interest and operating leases.
Material changes versus the prior year
- AUM declined 9%, from $4.30 billion to $3.91 billion. CDO AUM decreased from $4.28 billion to $3.75 billion.
- Capital Markets trading revenue improved, but asset management fees continued to erode as collateral balances declined, deals terminated or reached auction calls, and some subordinated fees were diverted under CDO terms.
- Principal investments, primarily CLO securities, fell in fair value: the seven CLO positions were valued at $11.6 million at year-end, down from $21.5 million in 2014. The company recorded $1.5 million of CLO investment losses in 2015 and made no new CLO investments.
- Headcount fell from 111 to 87. Operating cost reductions did not prevent an operating loss as revenue contracted.
- IFMI repurchased and retired 2.0 million shares in 2015 for $4.0 million under a termination and release agreement. The filing also reports quarterly dividends of $0.02 per share throughout 2015.
Outlook, risks and unusual items
- Outlook: No quantified earnings or revenue guidance is provided. Management described the business environment as challenging, anticipated continued asset management revenue declines as legacy CDOs shrink, and warned that trading results and new issue revenue are volatile.
- Proposed European sale: IFMI agreed to sell its European operations to an entity controlled by vice chairman Daniel G. Cohen for approximately $8.7 million, subject to conditions and FCA approval. Closing deadlines were extended through December 31, 2015. As of February 18, 2016, the buyer said it was still evaluating the transaction; neither party had terminated it. The European business, excluding Munda CLO-related revenues and expenses, reported $5.3 million of 2015 revenue and a $3.9 million operating loss. The related-party nature and continued uncertainty are material considerations.
- Investment and valuation risk: CLO equity investments are subordinated, concentrated and illiquid; level 3 CLO valuations rely on management models and significant unobservable inputs. A 100-basis-point increase in the yield curve was estimated to reduce the value of net interest-rate-sensitive assets by $4.9 million.
- Funding and market risk: The company depends on repo and clearing arrangements, faces margin-call and counterparty risks, and has variable-rate debt. Broker-dealer capital is subject to regulatory restrictions; year-end regulatory capital was $30.3 million against $1.6 million of minimum requirements.
- Contingencies: A Pennsylvania tax assessment of $4,683 plus interest relating to a 2009 tax credit remained under appeal; the company recorded no reserve. A separate lawsuit involving former subsidiaries settled with full releases in December 2015. Management said routine legal and regulatory matters were not expected to have a material adverse effect.
- Other items: The company wrote off a $2.1 million note receivable as uncollectable. A related-party transaction transferred shares to the company and involved a $4.0 million cash payment. The company also disclosed substantial deferred tax assets subject to a valuation allowance and potential Section 382 limitations.
Most important facts for investors to verify
- Whether the European sale closes, its final proceeds and terms, and the treatment of intercompany balances and retained Munda CLO economics.
- The sustainability and cash conversion of Capital Markets trading revenue, and the pace of CDO AUM and management-fee attrition.
- Whether reported CLO fair values and future distributions support the remaining $11.6 million carrying value, given the portfolio’s prior markdowns and illiquidity.
- Near-term liquidity and financing capacity, including repo and clearing access, margin requirements, and the difference between debt carrying value and debt at par.
- The outcome of the Pennsylvania tax appeal, the realizability of tax-loss carryforwards, and any ownership-change restrictions.
- The effects of related-party arrangements, convertible-note conversion or dilution, and the company’s ability to sustain dividends while reporting losses and negative operating cash flow.