Jefferies Financial Group Inc. — Q2 2021 Form 10-Q
Business context and period. The unaudited quarter and six months ended May 31, 2021 cover investment banking and capital markets, asset management, and merchant banking. Jefferies said its strategy is to grow investment banking and asset management while transforming its merchant-banking portfolio. Interim results are not necessarily indicative of full-year results.
Key financial results
| Metric | Three months ended May 31 | Six months ended May 31 |
|---|---|---|
| Net revenues | $1.951 billion, versus $1.148 billion in 2020 | $4.437 billion, versus $2.534 billion in 2020 |
| Income before income taxes | $474.1 million, versus $75.5 million | $1.275 billion, versus $233.3 million |
| Net income | $353.3 million, versus $43.5 million | $935.9 million, versus $155.6 million |
| Diluted EPS attributable to common shareholders | $1.30, versus $0.16 | $3.43, versus $0.53 |
Q2 pretax margin was approximately 24.3% of net revenues, compared with 6.6% a year earlier; first-half pretax margin was approximately 28.7%, versus 9.2%. These calculated ratios are not company-reported measures. Q2 expenses were $1.453 billion, including $831.2 million of compensation and benefits; first-half expenses were $3.128 billion, including $2.004 billion of compensation and benefits.
- Revenue drivers: Q2 investment banking net revenues reached a record $1.034 billion, including $390.5 million advisory and $610.2 million underwriting. Capital markets net revenues were $500.1 million. Fixed income fell to $257.2 million from $493.1 million, while equities were $242.9 million. First-half investment banking and capital markets net revenues were $2.067 billion and $1.395 billion, respectively.
- Other segments: Q2 asset management net revenues were $54.6 million versus $7.4 million; first-half revenues were $281.3 million versus $27.7 million, largely reflecting investment returns and strategic-affiliate revenues. Merchant Banking reported pretax income of $59.0 million for Q2 and $166.6 million for the first half, compared with losses in both 2020 periods.
- Margins and expense context: Management reported non-compensation expenses at 23.6% of net revenues for Q2 versus 25.5% a year earlier, and 19.3% for the first half versus 24.8%. Compensation rose with revenues and included $48.6 million of first-half expense for senior executive stock options and stock appreciation rights.
Balance sheet, cash flow and liquidity
- At May 31, 2021, total assets were $57.979 billion, up from $53.118 billion at November 30, 2020; total liabilities were $47.724 billion and total equity was $10.095 billion.
- Cash and cash equivalents were $8.443 billion; cash, cash equivalents and restricted cash totaled $9.335 billion, down $329.7 million from the beginning of the six-month period. Operating cash flow was negative $981.6 million, investing cash flow negative $128.8 million, and financing cash flow positive $776.0 million. The filing attributes cash-flow movements to operating balance-sheet changes and funding activity; these flows may vary substantially between periods.
- Long-term debt was $8.823 billion, versus $8.352 billion at November 30, 2020; short-term borrowings were $475.8 million, versus $764.7 million. Jefferies Group entered a new revolving credit facility and borrowed $248.8 million, and borrowed $375.0 million under a new secured credit facility. The company reported covenant compliance.
- Parent-company liquidity was $2.206 billion, compared with a stated minimum liquidity target of $712.4 million. Jefferies Group reported $8.259 billion of cash and other liquidity sources and $13.4 billion of long-term capital exceeding its cash-capital requirements. Jefferies LLC regulatory net capital was $1.518 billion, including $1.395 billion excess net capital.
- During the first half, the company repurchased 5.0 million shares for $127.5 million and paid $99.5 million in dividends. The board raised the quarterly common dividend from $0.20 to $0.25 per share in June 2021; $250 million remained available under the repurchase authorization at May 31.
Material changes, outlook and risks
- Results improved sharply from the 2020 comparison, when COVID-19 market disruption contributed to weaker investment banking and significant merchant-banking impairments. Q2 2021 benefited from record investment banking activity and stronger asset management returns. Fixed income revenues nevertheless declined substantially from the unusually strong Q2 2020 market environment.
- Management reported a record investment-banking backlog at May 31, but cautioned that timing and conversion are uncertain and transactions may be changed or cancelled. The filing provides no formal earnings or revenue guidance.
- Management warned that lumber prices had fallen substantially after reaching all-time highs, potentially reducing future Idaho Timber revenue and pretax income. Oil-and-gas results were affected by hedge losses; approximately 40% of expected remaining-2021 oil production was hedged at a weighted average price of about $52 per barrel.
- Credit-loss accounting adopted December 1, 2020 increased the allowance by $26.5 million and reduced retained earnings by $19.9 million, net of tax. Q2 and first-half 2021 doubtful-account provisions included $39.0 million of bad-debt expense related to prime brokerage.
- The company said it had exhausted federal net operating loss carryforwards and was paying federal taxes in 2021. The six-month effective tax rate was 26.6%, versus 33.3% in 2020. Tax examinations could affect results in the period resolved, although the company did not expect a significant balance-sheet effect.
- Legal and regulatory matters were described as routine or not significant to consolidated financial position; the company said payments could still be significant to results in a period. Other risks include market volatility, credit and liquidity stress, valuation uncertainty, operational and cyber risk, and potential collateral demands after a credit downgrade. Management reported effective disclosure controls and no material change in internal control during the quarter.
Important facts for investors to verify
- Whether record investment-banking backlog converts to completed transactions and revenue, given management’s stated cancellation and timing caveats.
- How sustainable earnings are as fixed-income activity, market conditions, asset-management returns and investment marks change; distinguish recurring performance from mark-to-market and other variable items.
- The effect of falling lumber prices, oil production and hedge positions, and the $39.0 million prime-brokerage bad-debt provision on future results.
- Debt maturities, borrowing-facility terms and covenant compliance, and the sensitivity of liquidity to market stress or a credit downgrade.
- Shareholder returns and potential dilution: the June dividend increase, remaining buyback authorization, and up to 30.5 million potential shares from awards and convertible preferred shares.