Attached files
file | filename |
---|---|
EX-31.1 - CERTIFICATION OF CHAIRMAN AND CHIEF EXECUTIVE OFFICER - PIPER JAFFRAY COMPANIES | pjcq22016ex311.htm |
EX-32.1 - SECTION 1350 CERTIFICATION - PIPER JAFFRAY COMPANIES | pjcq22016ex321.htm |
EX-31.2 - CERTIFICATION OF CHIEF FINANCIAL OFFICER - PIPER JAFFRAY COMPANIES | pjcq22016ex312.htm |
EX-10.1 - AMENDED AND RESTATED NON-EMPLOYEE DIRECTORS DEFERRED COMP PLAN - PIPER JAFFRAY COMPANIES | pjcq22016ex101.htm |
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
þ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the Quarterly Period Ended June 30, 2016
OR
¨ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission File No. 001-31720
PIPER JAFFRAY COMPANIES
(Exact Name of Registrant as specified in its Charter)
DELAWARE | 30-0168701 | |
(State or Other Jurisdiction of Incorporation or Organization) | (IRS Employer Identification No.) | |
800 Nicollet Mall, Suite 1000 Minneapolis, Minnesota | 55402 | |
(Address of Principal Executive Offices) | (Zip Code) | |
(612) 303-6000 | ||
(Registrant’s Telephone Number, Including Area Code) |
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer þ Accelerated filer ¨ Non-accelerated filer ¨ Smaller reporting company ¨
(Do not check if a smaller reporting company)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes ¨ No þ
As of July 27, 2016, the registrant had 15,214,792 shares of Common Stock outstanding.
Piper Jaffray Companies
Index to Quarterly Report on Form 10-Q
PART I. FINANCIAL INFORMATION | |||
ITEM 1. | |||
ITEM 2. | |||
ITEM 3. | |||
ITEM 4. | |||
PART II. OTHER INFORMATION | |||
ITEM 1. | |||
ITEM 1A. | |||
ITEM 2. | |||
ITEM 6. | |||
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
Piper Jaffray Companies
Consolidated Statements of Financial Condition
June 30, | December 31, | ||||||
2016 | 2015 | ||||||
(Amounts in thousands, except share data) | (Unaudited) | ||||||
Assets | |||||||
Cash and cash equivalents | $ | 172,244 | $ | 189,910 | |||
Cash and cash equivalents segregated for regulatory purposes | 42,028 | 81,022 | |||||
Receivables: | |||||||
Customers | 52,057 | 41,167 | |||||
Brokers, dealers and clearing organizations | 100,638 | 147,949 | |||||
Securities purchased under agreements to resell | 142,473 | 136,983 | |||||
Financial instruments and other inventory positions owned | 337,852 | 283,579 | |||||
Financial instruments and other inventory positions owned and pledged as collateral | 630,364 | 707,355 | |||||
Total financial instruments and other inventory positions owned | 968,216 | 990,934 | |||||
Fixed assets (net of accumulated depreciation and amortization of $55,887 and $51,874, respectively) | 21,941 | 18,984 | |||||
Goodwill | 290,740 | 217,976 | |||||
Intangible assets (net of accumulated amortization of $56,193 and $48,803, respectively) | 37,751 | 30,530 | |||||
Investments | 163,320 | 163,861 | |||||
Other assets | 129,896 | 119,202 | |||||
Total assets | $ | 2,121,304 | $ | 2,138,518 | |||
Liabilities and Shareholders’ Equity | |||||||
Short-term financing | $ | 501,846 | $ | 446,190 | |||
Senior notes | 175,000 | 175,000 | |||||
Payables: | |||||||
Customers | 47,391 | 37,364 | |||||
Brokers, dealers and clearing organizations | 132,268 | 48,131 | |||||
Securities sold under agreements to repurchase | 33,731 | 45,319 | |||||
Financial instruments and other inventory positions sold, but not yet purchased | 211,012 | 239,155 | |||||
Accrued compensation | 137,708 | 251,638 | |||||
Other liabilities and accrued expenses | 55,089 | 62,901 | |||||
Total liabilities | 1,294,045 | 1,305,698 | |||||
Shareholders’ equity: | |||||||
Common stock, $0.01 par value: | |||||||
Shares authorized: 100,000,000 at June 30, 2016 and December 31, 2015; | |||||||
Shares issued: 19,534,376 at June 30, 2016 and 19,510,858 at December 31, 2015; | |||||||
Shares outstanding: 12,425,069 at June 30, 2016 and 13,311,016 at December 31, 2015 | 195 | 195 | |||||
Additional paid-in capital | 775,632 | 752,066 | |||||
Retained earnings | 283,515 | 279,140 | |||||
Less common stock held in treasury, at cost: 7,109,307 at June 30, 2016 and 6,199,842 shares at December 31, 2015 | (282,886 | ) | (247,553 | ) | |||
Accumulated other comprehensive loss | (1,445 | ) | (189 | ) | |||
Total common shareholders’ equity | 775,011 | 783,659 | |||||
Noncontrolling interests | 52,248 | 49,161 | |||||
Total shareholders’ equity | 827,259 | 832,820 | |||||
Total liabilities and shareholders’ equity | $ | 2,121,304 | $ | 2,138,518 |
See Notes to the Consolidated Financial Statements
3
Three Months Ended | Six Months Ended | ||||||||||||||
June 30, | June 30, | ||||||||||||||
(Amounts in thousands, except per share data) | 2016 | 2015 | 2016 | 2015 | |||||||||||
Revenues: | |||||||||||||||
Investment banking | $ | 97,414 | $ | 106,069 | $ | 201,352 | $ | 193,146 | |||||||
Institutional brokerage | 48,185 | 36,661 | 80,234 | 72,697 | |||||||||||
Asset management | 14,595 | 19,257 | 28,443 | 39,779 | |||||||||||
Interest | 7,922 | 11,422 | 16,751 | 23,627 | |||||||||||
Investment income/(loss) | 8,276 | (3,299 | ) | 9,213 | 9,292 | ||||||||||
Total revenues | 176,392 | 170,110 | 335,993 | 338,541 | |||||||||||
Interest expense | 5,909 | 6,044 | 11,954 | 12,604 | |||||||||||
Net revenues | 170,483 | 164,066 | 324,039 | 325,937 | |||||||||||
Non-interest expenses: | |||||||||||||||
Compensation and benefits | 117,148 | 103,554 | 221,584 | 199,411 | |||||||||||
Outside services | 10,184 | 8,885 | 18,635 | 17,069 | |||||||||||
Occupancy and equipment | 8,850 | 6,983 | 16,568 | 13,766 | |||||||||||
Communications | 7,294 | 5,088 | 14,624 | 11,416 | |||||||||||
Marketing and business development | 9,171 | 7,239 | 16,175 | 14,221 | |||||||||||
Trade execution and clearance | 1,916 | 1,977 | 3,678 | 3,974 | |||||||||||
Restructuring and integration costs | 3,433 | — | 10,206 | — | |||||||||||
Intangible asset amortization expense | 4,094 | 1,773 | 7,390 | 3,546 | |||||||||||
Other operating expenses | 1,884 | 2,708 | 5,228 | 5,383 | |||||||||||
Total non-interest expenses | 163,974 | 138,207 | 314,088 | 268,786 | |||||||||||
Income before income tax expense | 6,509 | 25,859 | 9,951 | 57,151 | |||||||||||
Income tax expense | 1,996 | 9,542 | 2,252 | 19,032 | |||||||||||
Net income | 4,513 | 16,317 | 7,699 | 38,119 | |||||||||||
Net income/(loss) applicable to noncontrolling interests | 2,575 | (682 | ) | 3,324 | 4,148 | ||||||||||
Net income applicable to Piper Jaffray Companies | $ | 1,938 | $ | 16,999 | $ | 4,375 | $ | 33,971 | |||||||
Net income applicable to Piper Jaffray Companies’ common shareholders | $ | 1,577 | $ | 15,699 | $ | 3,685 | $ | 31,513 | |||||||
Earnings per common share | |||||||||||||||
Basic | $ | 0.12 | $ | 1.08 | $ | 0.28 | $ | 2.12 | |||||||
Diluted | $ | 0.12 | $ | 1.08 | $ | 0.28 | $ | 2.11 | |||||||
Weighted average number of common shares outstanding | |||||||||||||||
Basic | 12,927 | 14,487 | 13,043 | 14,888 | |||||||||||
Diluted | 12,942 | 14,513 | 13,056 | 14,920 |
See Notes to the Consolidated Financial Statements
4
Three Months Ended | Six Months Ended | ||||||||||||||
June 30, | June 30, | ||||||||||||||
(Amounts in thousands) | 2016 | 2015 | 2016 | 2015 | |||||||||||
Net income | $ | 4,513 | $ | 16,317 | $ | 7,699 | $ | 38,119 | |||||||
Other comprehensive income/(loss), net of tax: | |||||||||||||||
Foreign currency translation adjustment | (853 | ) | 501 | (1,256 | ) | 26 | |||||||||
Comprehensive income | 3,660 | 16,818 | 6,443 | 38,145 | |||||||||||
Comprehensive income/(loss) applicable to noncontrolling interests | 2,575 | (682 | ) | 3,324 | 4,148 | ||||||||||
Comprehensive income applicable to Piper Jaffray Companies | $ | 1,085 | $ | 17,500 | $ | 3,119 | $ | 33,997 |
See Notes to the Consolidated Financial Statements
5
Six Months Ended | |||||||
June 30, | |||||||
(Dollars in thousands) | 2016 | 2015 | |||||
Operating Activities: | |||||||
Net income | $ | 7,699 | $ | 38,119 | |||
Adjustments to reconcile net income to net cash provided by/(used in) operating activities: | |||||||
Depreciation and amortization of fixed assets | 3,088 | 2,440 | |||||
Deferred income taxes | 8,184 | 5,041 | |||||
Stock-based and deferred compensation | 25,884 | 22,733 | |||||
Amortization of intangible assets | 7,390 | 3,546 | |||||
Amortization of forgivable loans | 4,567 | 2,663 | |||||
Decrease/(increase) in operating assets: | |||||||
Cash and cash equivalents segregated for regulatory purposes | 38,994 | (7,016 | ) | ||||
Receivables: | |||||||
Customers | (9,071 | ) | (29,997 | ) | |||
Brokers, dealers and clearing organizations | 47,311 | (5,602 | ) | ||||
Securities purchased under agreements to resell | (5,490 | ) | 125,023 | ||||
Net financial instruments and other inventory positions owned | (5,425 | ) | (97,495 | ) | |||
Investments | (7,685 | ) | (39,200 | ) | |||
Other assets | (20,771 | ) | (23,546 | ) | |||
Increase/(decrease) in operating liabilities: | |||||||
Payables: | |||||||
Customers | 10,027 | 18,060 | |||||
Brokers, dealers and clearing organizations | 84,137 | 70,020 | |||||
Securities sold under agreements to repurchase | (6,086 | ) | — | ||||
Accrued compensation | (105,857 | ) | (82,669 | ) | |||
Other liabilities and accrued expenses | (15,547 | ) | (2,315 | ) | |||
Net cash provided by/(used in) operating activities | 61,349 | (195 | ) | ||||
Investing Activities: | |||||||
Business acquisitions, net of cash acquired | (71,019 | ) | — | ||||
Repayment of note receivable | — | 1,500 | |||||
Purchases of fixed assets, net | (4,245 | ) | (3,544 | ) | |||
Net cash used in investing activities | (75,264 | ) | (2,044 | ) | |||
Continued on next page |
6
Piper Jaffray Companies
Consolidated Statements of Cash Flows – Continued
(Unaudited)
Six Months Ended | |||||||
June 30, | |||||||
(Dollars in thousands) | 2016 | 2015 | |||||
Financing Activities: | |||||||
Increase in short-term financing | $ | 55,656 | $ | 122,646 | |||
Decrease in securities sold under agreements to repurchase | (5,502 | ) | (34,510 | ) | |||
Increase in noncontrolling interests | 9,178 | 10,329 | |||||
Repurchase of common stock | (62,142 | ) | (105,335 | ) | |||
Excess/(reduced) tax benefit from stock-based compensation | (113 | ) | 5,723 | ||||
Proceeds from stock option exercises | 82 | 1,722 | |||||
Net cash provided by/(used in) financing activities | (2,841 | ) | 575 | ||||
Currency adjustment: | |||||||
Effect of exchange rate changes on cash | (910 | ) | (106 | ) | |||
Net decrease in cash and cash equivalents | (17,666 | ) | (1,770 | ) | |||
Cash and cash equivalents at beginning of period | 189,910 | 15,867 | |||||
Cash and cash equivalents at end of period | $ | 172,244 | $ | 14,097 | |||
Supplemental disclosure of cash flow information – | |||||||
Cash paid during the period for: | |||||||
Interest | $ | 12,361 | $ | 13,907 | |||
Income taxes | $ | 21,559 | $ | 21,907 | |||
Non-cash investing activities – | |||||||
Issuance of common stock related to the acquisition of Simmons & Company International: | |||||||
25,525 shares for the six months ended June 30, 2016 | $ | 1,074 | $ | — | |||
Non-cash financing activities – | |||||||
Issuance of restricted common stock for annual equity award: | |||||||
843,889 shares and 550,650 shares for the six months ended June 30, 2016 and 2015, respectively | $ | 35,089 | $ | 30,429 |
See Notes to the Consolidated Financial Statements
7
Index
Note 1 | |||
Note 2 | |||
Note 3 | |||
Note 4 | |||
Note 5 | |||
Note 6 | |||
Note 7 | |||
Note 8 | |||
Note 9 | |||
Note 10 | |||
Note 11 | |||
Note 12 | |||
Note 13 | |||
Note 14 | |||
Note 15 | |||
Note 16 | |||
Note 17 | |||
Note 18 | |||
Note 19 | |||
Note 20 | |||
Note 21 |
8
Note 1 Organization and Basis of Presentation
Organization
Piper Jaffray Companies is the parent company of Piper Jaffray & Co. ("Piper Jaffray"), a securities broker dealer and investment banking firm; Piper Jaffray Ltd., a firm providing securities brokerage and mergers and acquisitions services in Europe headquartered in London, England; Simmons & Company International Limited ("SCIL"), a firm providing mergers and acquisitions services to the energy industry headquartered in Aberdeen, Scotland; Advisory Research, Inc. ("ARI"), which provides asset management services to separately managed accounts, closed-end and open-end funds and partnerships; Piper Jaffray Investment Group Inc., which consists of entities providing alternative asset management services; Piper Jaffray Financial Products Inc., Piper Jaffray Financial Products II Inc. and Piper Jaffray Financial Products III Inc., entities that facilitate derivative transactions; and other immaterial subsidiaries. Piper Jaffray Companies and its subsidiaries (collectively, the "Company") operate in two reporting segments: Capital Markets and Asset Management. A summary of the activities of each of the Company’s business segments is as follows:
Capital Markets
The Capital Markets segment provides institutional sales, trading and research services and investment banking services. Institutional sales, trading and research services focus on the trading of equity and fixed income products with institutions, government and non-profit entities. Revenues are generated through commissions and sales credits earned on equity and fixed income institutional sales activities, net interest revenues on trading securities held in inventory, and profits and losses from trading these securities. Investment banking services include management of and participation in underwritings, financial advisory services and public finance activities. Revenues are generated through the receipt of advisory and financing fees. Also, the Company generates revenue through strategic trading and investing activities, which focus on investments in municipal bonds, mortgage-backed securities, U.S. government agency securities, and merchant banking activities involving equity or debt investments in late stage private companies. The Company has created alternative asset management funds in energy, merchant banking and senior living in order to invest firm capital and to manage capital from outside investors. The Company receives management and performance fees for managing these funds.
Asset Management
The Asset Management segment provides traditional asset management services with product offerings in equity securities and master limited partnerships to institutions and individuals. Revenues are generated in the form of management and performance fees. Revenues are also generated through investments in the partnerships and funds that the Company manages.
Basis of Presentation
The accompanying consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles ("U.S. GAAP") for interim financial information and the rules and regulations of the Securities and Exchange Commission ("SEC"). Pursuant to this guidance, certain information and disclosures have been omitted that are included within complete annual financial statements. Except as disclosed herein, there have been no material changes in the information reported in the financial statements and related disclosures in the Company's Annual Report on Form 10-K for the year ended December 31, 2015.
The consolidated financial statements include the accounts of Piper Jaffray Companies, its wholly owned subsidiaries, and all other entities in which the Company has a controlling financial interest. Noncontrolling interests represent equity interests in consolidated entities that are not attributable, either directly or indirectly, to Piper Jaffray Companies. Noncontrolling interests include the minority equity holders’ proportionate share of the equity in the Company's alternative asset management funds. All material intercompany balances have been eliminated.
Management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Although these estimates and assumptions are based on the best information available, actual results could differ from those estimates.
9
Note 2 Accounting Policies and Pronouncements
Summary of Significant Accounting Policies
Refer to the Company's Annual Report on Form 10-K for the year ended December 31, 2015 for a full description of the Company's significant accounting policies. Changes to the Company's significant accounting policies are described below.
Principles of Consolidation
The Company consolidates entities in which it has a controlling financial interest. The Company determines whether it has a controlling financial interest in an entity by first evaluating whether the entity is a variable interest entity ("VIE") or a voting interest entity.
VIEs are entities in which (i) the total equity investment at risk is not sufficient to enable the entity to finance its activities independently or (ii) the at-risk equity holders do not have the normal characteristics of a controlling financial interest. A controlling financial interest in a VIE is present when an enterprise has one or more variable interests that have both (i) the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance and (ii) the obligation to absorb losses of the VIE or the right to receive benefits from the VIE that could potentially be significant to the VIE. The enterprise with a controlling financial interest is the primary beneficiary and consolidates the VIE.
Voting interest entities lack one or more of the characteristics of a VIE. The usual condition for a controlling financial interest is ownership of a majority voting interest for a corporation or a majority of kick-out rights for a limited partnership.
When the Company does not have a controlling financial interest in an entity but exerts significant influence over the entity’s operating and financial policies (generally defined as owning a voting or economic interest of between 20 percent to 50 percent), the Company's investment is accounted for under the equity method of accounting. If the Company does not have a controlling financial interest in, or exert significant influence over, an entity, the Company accounts for its investment at fair value, if the fair value option was elected, or at cost.
Adoption of New Accounting Standards
Consolidation
In February 2015, the Financial Accounting Standards Board ("FASB") issued Accounting Standard Update ("ASU") No. 2015-02, "Consolidation (Topic 810): Amendments to the Consolidation Analysis" ("ASU 2015-02"). ASU 2015-02 makes several modifications to the consolidation guidance for VIEs and general partners' investments in limited partnerships, as well as modifications to the evaluation of whether limited partnerships are VIEs or voting interest entities. It was effective for the Company as of January 1, 2016. The adoption of ASU 2015-02 resulted in the deconsolidation of certain investment partnerships with assets (and the related noncontrolling interests) of approximately $9.4 million. There was no impact to the Company’s retained earnings upon adoption. In addition, certain entities previously consolidated as voting interest entities became consolidated VIEs under the amended guidance.
10
Future Adoption of New Applicable Accounting Standards
Revenue Recognition
In May 2014, the FASB issued ASU No. 2014-09, "Revenue from Contracts with Customers (Topic 606)," ("ASU 2014-09") which supersedes current revenue recognition guidance, including most industry-specific guidance. ASU 2014-09 requires a company to recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods and services, and also requires additional disclosures regarding the nature, amount, timing and uncertainty of revenue that is recognized. The guidance, as stated in ASU 2014-09, is effective for annual and interim periods beginning after December 15, 2016. In August 2015, the FASB issued ASU No. 2015-14, "Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date," which defers the effective date by one year, with early adoption on the original effective date permitted. The FASB has subsequently issued various ASUs which amend specific areas of guidance in ASU 2014-09. The Company is evaluating the impact of the new guidance on its consolidated financial statements.
Recognition and Measurement of Financial Assets and Financial Liabilities
In January 2016, the FASB issued ASU No. 2016-01, "Financial Instruments – Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities" ("ASU 2016-01"). The amendments in ASU 2016-01 address certain aspects of the recognition, measurement, presentation and disclosure of financial instruments. ASU 2016-01 is effective for annual and interim periods beginning after December 15, 2017. Except for the early application guidance outlined in ASU 2016-01, early adoption is not permitted. The Company is evaluating the impact of the new guidance on its consolidated financial statements.
Leases
In February 2016, the FASB issued ASU No. 2016-02, "Leases (Topic 842)" ("ASU 2016-02"). ASU 2016-02 requires lessees to recognize a right-of-use asset and lease liability on the consolidated statements of financial position and disclose key information about leasing arrangements. The recognition, measurement and presentation of expenses and cash flows arising from a lease by a lessee have not significantly changed from current U.S. GAAP. ASU 2016-02 is effective for annual and interim periods beginning after December 15, 2018. The Company is evaluating the impact of the new guidance on its consolidated financial statements.
Stock-Based Compensation
In March 2016, the FASB issued ASU No. 2016-09, "Compensation – Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting" ("ASU 2016-09"). ASU 2016-09 makes targeted amendments to the accounting for share-based payments to employees. Under ASU 2016-09, entities will be required to recognize the income tax effects of awards in the income statement when the awards vest or are settled, rather than as additional paid-in capital. ASU 2016-09 also amends the guidance regarding the employer’s statutory income tax withholding requirements and allows an entity to make an accounting policy election for forfeitures. The guidance is effective on a prospective basis for annual and interim periods beginning after December 15, 2016. As of June 30, 2016, the Company had $6.9 million of excess tax benefits recorded as additional paid-in capital, which will remain in additional paid-in capital upon adoption. The adoption of ASU 2016-09 will impact the Company's 2017 results of operations as all income tax effects of awards that vest or are settled will be recognized in the income statement as opposed to additional paid-in capital.
Financial Instruments – Credit Losses
In June 2016, the FASB issued ASU No. 2016-13, "Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments" ("ASU 2016-13"). The new guidance requires an entity to measure all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts as opposed to delaying recognition until the loss was probable of occurring. ASU 2016-13 is effective for annual and interim periods beginning after December 15, 2019. Early adoption is permitted for annual and interim periods beginning after December 15, 2018. The Company is evaluating the impact of the new guidance on its consolidated financial statements.
11
Note 3 Acquisitions
The following acquisitions were accounted for pursuant to FASB Accounting Standards Codification Topic 805, "Business Combinations." Accordingly, the purchase price of each acquisition was allocated to the acquired assets and liabilities assumed based on their estimated fair values as of the respective acquisition dates. The excess of the purchase price over the net assets acquired was allocated between goodwill and intangible assets within the Capital Markets segment.
Simmons & Company International
On February 26, 2016, the Company completed the purchase of Simmons & Company International ("Simmons"), an employee-owned investment bank and broker dealer focused on the energy industry. The economic value of the acquisition was approximately $140.0 million and was completed pursuant to the Securities Purchase Agreement dated November 16, 2015, as amended. The acquisition of Simmons expands the Company's equity investment banking business into the energy sector and grows its advisory business.
The Company acquired net assets with a fair value of $119.3 million as described below. As part of the purchase price, the Company issued 1,149,340 restricted shares valued at $48.2 million as equity consideration on the acquisition date. These restricted shares cliff vest after three years, and the employees must fulfill service requirements in exchange for the rights to the shares. Compensation expense will be amortized on a straight-line basis over the requisite service period of one or three years (a weighted average service period of 2.7 years). The fair value of the restricted stock was determined using the market price of the Company's common stock on the date of the acquisition.
The Company also entered into acquisition-related compensation arrangements with certain employees of $20.6 million which consisted of cash ($9.0 million) and restricted stock ($11.6 million) for retention purposes. Compensation expense related to these arrangements will be amortized on a straight-line basis over the requisite service period of three years. Additional cash compensation may be available to certain investment banking employees subject to exceeding an investment banking revenue threshold during the three year post-acquisition period to the extent they are employed by the Company at the time of payment. Amounts estimated to be payable, if any, related to this performance award plan will be recorded as compensation expense on the consolidated statements of operations over the requisite performance period of three years.
The Company recorded $72.8 million of goodwill on the consolidated statements of financial condition, of which $62.6 million is expected to be deductible for income tax purposes. The final goodwill recorded on the Company's consolidated statements of financial condition may differ from that reflected herein as a result of measurement period adjustments. In management's opinion, the goodwill represents the reputation and operating expertise of Simmons.
Identifiable intangible assets purchased by the Company consisted of customer relationships and the Simmons trade name with acquisition-date fair values currently estimated to be $13.8 million and $0.8 million, respectively. The Company anticipates finalizing the fair value of Simmons intangible assets in the third quarter of 2016. Transaction costs of $0.9 million were incurred for the six months ended June 30, 2016, and are included in restructuring and integration costs on the consolidated statements of operations.
12
The following table summarizes the estimated fair value of assets acquired and liabilities assumed at the date of the acquisition:
(Dollars in thousands) | ||||
Assets: | ||||
Cash and cash equivalents | $ | 47,201 | ||
Receivables: | ||||
Customers | 1,812 | |||
Fixed assets | 1,868 | |||
Goodwill | 72,778 | |||
Intangible assets | 14,597 | |||
Investments | 980 | |||
Other assets | 3,259 | |||
Total assets acquired | 142,495 | |||
Liabilities: | ||||
Accrued compensation | 15,387 | |||
Other liabilities and accrued expenses | 7,814 | |||
Total liabilities assumed | 23,201 | |||
Net assets acquired | $ | 119,294 |
Simmons’ results of operations have been included in the Company's consolidated financial statements prospectively beginning on the date of acquisition. The acquisition has been fully integrated with the Company's existing operations. Accordingly, post-acquisition revenues and net income are not discernible. The following unaudited pro forma financial data assumes the acquisition had occurred at the beginning of the comparable prior period presented. Pro forma results have been prepared by adjusting the Company's historical results to include Simmons' results of operations adjusted for the following changes: amortization expense was adjusted to account for the acquisition-date fair value of intangible assets; compensation and benefits expenses were adjusted to reflect such expenses based on the Company’s compensation arrangements and the restricted stock issued as equity consideration; and the income tax effect of applying the Company's statutory tax rates to Simmons’ results of operations. The consolidated Company's unaudited pro forma information presented does not necessarily reflect the results of operations that would have resulted had the acquisition been completed at the beginning of the applicable periods presented, does not contemplate anticipated operational efficiencies of the combined entities, nor does it indicate the results of operations in future periods.
Three Months Ended | Six Months Ended | ||||||||||
June 30, | June 30, | ||||||||||
(Dollars in thousands) | 2015 | 2016 | 2015 | ||||||||
Net revenues | $ | 189,499 | $ | 331,836 | $ | 377,481 | |||||
Net income applicable to Piper Jaffray Companies | 16,581 | 1,716 | 32,071 |
River Branch Holdings LLC and BMO Capital Markets GKST Inc.
On September 30, 2015, the Company acquired the assets of River Branch Holdings LLC ("River Branch"), an equity investment banking boutique focused on the financial institutions sector. On October 9, 2015, the Company completed the purchase of BMO Capital Markets GKST Inc. ("BMO GKST"), a municipal bond sales, trading and origination business of BMO Financial Corp. The Company recorded $6.1 million of goodwill on the consolidated statements of financial condition related to these acquisitions and $7.5 million of identifiable intangible assets consisting of customer relationships. In management's opinion, the goodwill represents the reputation and operating expertise of River Branch and BMO GKST.
The results of operations of River Branch and BMO GKST have been included in the Company's consolidated financial statements prospectively from the respective dates of acquisition. The terms of these transactions were not disclosed as the acquisitions did not have a material impact on the Company's consolidated financial statements.
13
Note 4 Financial Instruments and Other Inventory Positions Owned and Financial Instruments and Other Inventory Positions Sold, but Not Yet Purchased
June 30, | December 31, | ||||||
(Dollars in thousands) | 2016 | 2015 | |||||
Financial instruments and other inventory positions owned: | |||||||
Corporate securities: | |||||||
Equity securities | $ | 5,329 | $ | 9,505 | |||
Convertible securities | 261 | 18,460 | |||||
Fixed income securities | 27,449 | 48,654 | |||||
Municipal securities: | |||||||
Taxable securities | 95,433 | 111,591 | |||||
Tax-exempt securities | 529,245 | 416,966 | |||||
Short-term securities | 55,488 | 33,068 | |||||
Mortgage-backed securities | 58,042 | 121,794 | |||||
U.S. government agency securities | 153,079 | 188,140 | |||||
U.S. government securities | 4,158 | 7,729 | |||||
Derivative contracts | 39,732 | 35,027 | |||||
Total financial instruments and other inventory positions owned | 968,216 | 990,934 | |||||
Less noncontrolling interests (1) | (59,315 | ) | (43,397 | ) | |||
$ | 908,901 | $ | 947,537 | ||||
Financial instruments and other inventory positions sold, but not yet purchased: | |||||||
Corporate securities: | |||||||
Equity securities | $ | 1,562 | $ | 15,740 | |||
Fixed income securities | 26,112 | 39,909 | |||||
U.S. government agency securities | 10,522 | 21,267 | |||||
U.S. government securities | 165,668 | 159,037 | |||||
Derivative contracts | 7,148 | 3,202 | |||||
Total financial instruments and other inventory positions sold, but not yet purchased | 211,012 | 239,155 | |||||
Less noncontrolling interests (2) | (6,348 | ) | (4,586 | ) | |||
$ | 204,664 | $ | 234,569 |
(1) | Noncontrolling interests attributable to third party ownership in a consolidated municipal bond fund consist of $9.4 million and $7.5 million of taxable municipal securities, $48.8 million and $35.1 million of tax-exempt municipal securities, and $1.1 million and $0.8 million of derivative contracts as of June 30, 2016 and December 31, 2015, respectively. |
(2) | Noncontrolling interests attributable to third party ownership in a consolidated municipal bond fund consist of U.S. government securities as of June 30, 2016 and December 31, 2015. |
At June 30, 2016 and December 31, 2015, financial instruments and other inventory positions owned in the amount of $630.4 million and $707.4 million, respectively, had been pledged as collateral for short-term financings and repurchase agreements.
Financial instruments and other inventory positions sold, but not yet purchased represent obligations of the Company to deliver the specified security at the contracted price, thereby creating a liability to purchase the security in the market at prevailing prices. The Company is obligated to acquire the securities sold short at prevailing market prices, which may exceed the amount reflected on the consolidated statements of financial condition. The Company economically hedges changes in the market value of its financial instruments and other inventory positions owned using inventory positions sold, but not yet purchased, interest rate derivatives, credit default swap index contracts, U.S. treasury bond and Eurodollar futures and exchange traded options.
14
Derivative Contract Financial Instruments
The Company uses interest rate swaps, interest rate locks, credit default swap index contracts, U.S. treasury bond and Eurodollar futures and equity option contracts as a means to manage risk in certain inventory positions. The Company also enters into interest rate swaps to facilitate customer transactions. The following describes the Company’s derivatives by the type of transaction or security the instruments are economically hedging.
Customer matched-book derivatives: The Company enters into interest rate derivative contracts in a principal capacity as a dealer to satisfy the financial needs of its customers. The Company simultaneously enters into an interest rate derivative contract with a third party for the same notional amount to hedge the interest rate and credit risk of the initial client interest rate derivative contract. In certain limited instances, the Company has only hedged interest rate risk with a third party, and retains uncollateralized credit risk as described below. The instruments use interest rates based upon either the London Interbank Offer Rate (“LIBOR”) index or the Securities Industry and Financial Markets Association (“SIFMA”) index.
Trading securities derivatives: The Company enters into interest rate derivative contracts and uses U.S. treasury bond and Eurodollar futures to hedge interest rate and market value risks associated with its fixed income securities. These instruments use interest rates based upon either the Municipal Market Data (“MMD”) index, LIBOR or the SIFMA index. The Company also enters into credit default swap index contracts to hedge credit risk associated with its taxable fixed income securities and option contracts to hedge market value risk associated with its convertible securities.
Derivatives are reported on a net basis by counterparty (i.e., the net payable or receivable for derivative assets and liabilities for a given counterparty) when a legal right of offset exists and on a net basis by cross product when applicable provisions are stated in master netting agreements. Cash collateral received or paid is netted on a counterparty basis, provided a legal right of offset exists. The total absolute notional contract amount, representing the absolute value of the sum of gross long and short derivative contracts, provides an indication of the volume of the Company's derivative activity and does not represent gains and losses. The following table presents the gross fair market value and the total absolute notional contract amount of the Company's outstanding derivative instruments, prior to counterparty netting, by asset or liability position:
June 30, 2016 | December 31, 2015 | |||||||||||||||||||||||
(Dollars in thousands) | Derivative | Derivative | Notional | Derivative | Derivative | Notional | ||||||||||||||||||
Derivative Category | Assets (1) | Liabilities (2) | Amount | Assets (1) | Liabilities (2) | Amount | ||||||||||||||||||
Interest rate | ||||||||||||||||||||||||
Customer matched-book | $ | 461,019 | $ | 441,088 | $ | 3,802,430 | $ | 406,888 | $ | 386,284 | $ | 4,392,440 | ||||||||||||
Trading securities | 18 | 16,701 | 318,850 | — | 7,685 | 290,600 | ||||||||||||||||||
Credit default swap index | ||||||||||||||||||||||||
Trading securities | — | 1,024 | 66,000 | 5,411 | 530 | 94,270 | ||||||||||||||||||
Futures and equity options | ||||||||||||||||||||||||
Trading securities | 61 | — | 19,724 | 164 | 149 | 2,345,037 | ||||||||||||||||||
$ | 461,098 | $ | 458,813 | $ | 4,207,004 | $ | 412,463 | $ | 394,648 | $ | 7,122,347 |
(1) | Derivative assets are included within financial instruments and other inventory positions owned on the consolidated statements of financial condition. |
(2) | Derivative liabilities are included within financial instruments and other inventory positions sold, but not yet purchased on the consolidated statements of financial condition. |
15
The Company’s derivative contracts do not qualify for hedge accounting, therefore, unrealized gains and losses are recorded on the consolidated statements of operations. The gains and losses on the related economically hedged inventory positions are not disclosed below as they are not in qualifying hedging relationships. The following table presents the Company’s unrealized gains/(losses) on derivative instruments:
Three Months Ended | Six Months Ended | |||||||||||||||||
(Dollars in thousands) | June 30, | June 30, | ||||||||||||||||
Derivative Category | Operations Category | 2016 | 2015 | 2016 | 2015 | |||||||||||||
Interest rate derivative contract | Investment banking | $ | (880 | ) | $ | (479 | ) | $ | (2,052 | ) | $ | (999 | ) | |||||
Interest rate derivative contract | Institutional brokerage | (9,363 | ) | 11,877 | (7,619 | ) | 12,556 | |||||||||||
Credit default swap index contract | Institutional brokerage | 3,495 | 8,038 | 3,884 | 12,645 | |||||||||||||
Futures and equity option derivative contracts | Institutional brokerage | 119 | 18 | 148 | 53 | |||||||||||||
$ | (6,629 | ) | $ | 19,454 | $ | (5,639 | ) | $ | 24,255 |
Credit risk associated with the Company’s derivatives is the risk that a derivative counterparty will not perform in accordance with the terms of the applicable derivative contract. Credit exposure associated with the Company’s derivatives is driven by uncollateralized market movements in the fair value of the contracts with counterparties and is monitored regularly by the Company’s financial risk committee. The Company considers counterparty credit risk in determining derivative contract fair value. The majority of the Company’s derivative contracts are substantially collateralized by its counterparties, who are major financial institutions. The Company has a limited number of counterparties who are not required to post collateral. Based on market movements, the uncollateralized amounts representing the fair value of the derivative contract can become material, exposing the Company to the credit risk of these counterparties. As of June 30, 2016, the Company had $30.3 million of uncollateralized credit exposure with these counterparties (notional contract amount of $185.2 million), including $22.0 million of uncollateralized credit exposure with one counterparty.
Note 5 Fair Value of Financial Instruments
Based on the nature of the Company’s business and its role as a “dealer” in the securities industry or as a manager of alternative asset management funds, the fair values of its financial instruments are determined internally. The Company’s processes are designed to ensure that the fair values used for financial reporting are based on observable inputs wherever possible. In the event that observable inputs are not available, unobservable inputs are developed based on an evaluation of all relevant empirical market data, including prices evidenced by market transactions, interest rates, credit spreads, volatilities and correlations and other security-specific information. Valuation adjustments related to illiquidity or counterparty credit risk are also considered. In estimating fair value, the Company may utilize information provided by third party pricing vendors to corroborate internally-developed fair value estimates.
The Company employs specific control processes to determine the reasonableness of the fair value of its financial instruments. The Company’s processes are designed to ensure that the internally-estimated fair values are accurately recorded and that the data inputs and the valuation techniques used are appropriate, consistently applied, and that the assumptions are reasonable and consistent with the objective of determining fair value. Individuals outside of the trading departments perform independent pricing verification reviews as of each reporting date. The Company has established parameters which set forth when the fair value of securities are independently verified. The selection parameters are generally based upon the type of security, the level of estimation risk of a security, the materiality of the security to the Company’s financial statements, changes in fair value from period to period, and other specific facts and circumstances of the Company’s securities portfolio. In evaluating the initial internally-estimated fair values made by the Company’s traders, the nature and complexity of securities involved (e.g., term, coupon, collateral, and other key drivers of value), level of market activity for securities, and availability of market data are considered. The independent price verification procedures include, but are not limited to, analysis of trade data (both internal and external where available), corroboration to the valuation of positions with similar characteristics, risks and components, or comparison to an alternative pricing source, such as a discounted cash flow model. The Company’s valuation committee, comprised of members of senior management and risk management, provides oversight and overall responsibility for the internal control processes and procedures related to fair value measurements.
16
The following is a description of the valuation techniques used to measure fair value.
Cash Equivalents
Cash equivalents include highly liquid investments with original maturities of 90 days or less. Actively traded money market funds are measured at their net asset value and classified as Level I.
Financial Instruments and Other Inventory Positions Owned
The Company records financial instruments and other inventory positions owned and financial instruments and other inventory positions sold, but not yet purchased at fair value on the consolidated statements of financial condition with unrealized gains and losses reflected on the consolidated statements of operations.
Equity securities – Exchange traded equity securities are valued based on quoted prices from the exchange for identical assets or liabilities as of the period-end date. To the extent these securities are actively traded and valuation adjustments are not applied, they are categorized as Level I. Non-exchange traded equity securities (principally hybrid preferred securities) are measured primarily using broker quotations, prices observed for recently executed market transactions and internally-developed fair value estimates based on observable inputs and are categorized within Level II of the fair value hierarchy.
Convertible securities – Convertible securities are valued based on observable trades, when available. Accordingly, these convertible securities are categorized as Level II.
Corporate fixed income securities – Fixed income securities include corporate bonds which are valued based on recently executed market transactions of comparable size, internally-developed fair value estimates based on observable inputs, or broker quotations. Accordingly, these corporate bonds are categorized as Level II.
Taxable municipal securities – Taxable municipal securities are valued using recently executed observable trades or market price quotations and therefore are generally categorized as Level II. Certain illiquid taxable municipal securities are valued using market data for comparable securities (maturity and sector) and management judgment to infer an appropriate current yield or other model-based valuation techniques deemed appropriate by management based on the specific nature of the individual security and are therefore categorized as Level III.
Tax-exempt municipal securities – Tax-exempt municipal securities are valued using recently executed observable trades or market price quotations and therefore are generally categorized as Level II. Certain illiquid tax-exempt municipal securities are valued using market data for comparable securities (maturity and sector) and management judgment to infer an appropriate current yield or other model-based valuation techniques deemed appropriate by management based on the specific nature of the individual security and are therefore categorized as Level III.
Short-term municipal securities – Short-term municipal securities include auction rate securities, variable rate demand notes, and other short-term municipal securities. Variable rate demand notes and other short-term municipal securities are valued using recently executed observable trades or market price quotations and therefore are generally categorized as Level II. Auction rate securities with limited liquidity are categorized as Level III and are valued using discounted cash flow models with unobservable inputs such as the Company’s expected recovery rate on the securities.
Mortgage-backed securities – Mortgage-backed securities are valued using observable trades, when available. Certain mortgage-backed securities are valued using models where inputs to the model are directly observable in the market, or can be derived principally from or corroborated by observable market data. These mortgage-backed securities are categorized as Level II. Other mortgage-backed securities, which are principally collateralized by residential mortgages, have experienced low volumes of executed transactions resulting in less observable transaction data. Certain mortgage-backed securities collateralized by residential mortgages are valued using cash flow models that utilize unobservable inputs including credit default rates, prepayment rates, loss severity and valuation yields. As judgment is used to determine the range of these inputs, these mortgage-backed securities are categorized as Level III.
17
U.S. government agency securities – U.S. government agency securities include agency debt bonds and mortgage bonds. Agency debt bonds are valued by using either direct price quotes or price quotes for comparable bond securities and are categorized as Level II. Mortgage bonds include bonds secured by mortgages, mortgage pass-through securities, agency collateralized mortgage-obligation (“CMO”) securities and agency interest-only securities. Mortgage pass-through securities, CMO securities and interest-only securities are valued using recently executed observable trades or other observable inputs, such as prepayment speeds and therefore are generally categorized as Level II. Mortgage bonds are valued using observable market inputs, such as market yields on spreads over U.S. treasury securities, or models based upon prepayment expectations. These securities are categorized as Level II.
U.S. government securities – U.S. government securities include highly liquid U.S. treasury securities which are generally valued using quoted market prices and therefore categorized as Level I. The Company does not transact in securities of countries other than the U.S. government.
Derivatives – Derivative contracts include interest rate swaps, interest rate locks, credit default swap index contracts, U.S. treasury bond and Eurodollar futures and equity option contracts. These instruments derive their value from underlying assets, reference rates, indices or a combination of these factors. The Company's equity option derivative contracts are valued based on quoted prices from the exchange for identical assets or liabilities as of the period-end date. To the extent these contracts are actively traded and valuation adjustments are not applied, they are categorized as Level I. The Company’s credit default swap index contracts are valued using market price quotations and are classified as Level II. The majority of the Company’s interest rate derivative contracts, including both interest rate swaps and interest rate locks, are valued using market standard pricing models based on the net present value of estimated future cash flows. The valuation models used do not involve material subjectivity as the methodologies do not entail significant judgment and the pricing inputs are market observable, including contractual terms, yield curves and measures of volatility. These instruments are classified as Level II within the fair value hierarchy. Certain interest rate locks transact in less active markets and were valued using valuation models that included the previously mentioned observable inputs and certain unobservable inputs that required significant judgment, such as the premium over the MMD curve. These instruments are classified as Level III.
Investments
The Company’s investments valued at fair value include equity investments in private companies and partnerships, investments in registered mutual funds, warrants of public and private companies and private company debt. Investments in registered mutual funds are valued based on quoted prices on active markets and classified as Level I. Company-owned warrants, which have a cashless exercise option, are valued based upon the Black-Scholes option-pricing model and certain unobservable inputs. The Company applies a liquidity discount to the value of its warrants in public and private companies. For warrants in private companies, valuation adjustments, based upon management’s judgment, are made to account for differences between the measured security and the stock volatility factors of comparable companies. Company-owned warrants are reported as Level III assets. Investments in private companies are valued based on an assessment of each underlying security, considering rounds of financing, third party transactions and market-based information, including comparable company transactions, trading multiples (e.g., multiples of revenue and earnings before interest, taxes, depreciation and amortization ("EBITDA")) and changes in market outlook, among other factors. These securities are generally categorized as Level III.
Fair Value Option – The fair value option permits the irrevocable fair value option election on an instrument-by-instrument basis at initial recognition of an asset or liability or upon an event that gives rise to a new basis of accounting for that instrument. The fair value option was elected for certain merchant banking and other investments at inception to reflect economic events in earnings on a timely basis. Merchant banking and other equity investments of $18.1 million and $19.7 million, included within investments on the consolidated statements of financial condition, are accounted for at fair value and are classified as Level III assets at June 30, 2016 and December 31, 2015, respectively. The realized and unrealized net gains from fair value changes included in earnings as a result of electing to apply the fair value option to certain financial assets were $0.2 million and $0.5 million for the six months ended June 30, 2016 and 2015, respectively.
18
The following table summarizes quantitative information about the significant unobservable inputs used in the fair value measurement of the Company’s Level III financial instruments as of June 30, 2016:
Valuation | Weighted | ||||||
Technique | Unobservable Input | Range | Average | ||||
Assets: | |||||||
Financial instruments and other inventory positions owned: | |||||||
Municipal securities: | |||||||
Tax-exempt securities | Discounted cash flow | Expected recovery rate (% of par) (2) | 5 - 60% | 19.4% | |||
Short-term securities | Discounted cash flow | Expected recovery rate (% of par) (2) | 66 - 94% | 91.0% | |||
Mortgage-backed securities: | |||||||
Collateralized by residential mortgages | Discounted cash flow | Credit default rates (3) | 1 - 7% | 3.7% | |||
Prepayment rates (4) | 2 - 25% | 9.3% | |||||
Loss severity (3) | 0 - 90% | 52.2% | |||||
Valuation yields (3) | 2 - 8% | 5.3% | |||||
Derivative contracts: | |||||||
Interest rate locks | Discounted cash flow | Premium over the MMD curve in basis points ("bps") (1) | 16.8 bps | 16.8 bps | |||
Investments at fair value: | |||||||
Equity securities in private companies | Market approach | Revenue multiple (2) | 2 - 7 times | 4.2 times | |||
EBITDA multiple (2) | 10 - 12 times | 10.4 times | |||||
Liabilities: | |||||||
Financial instruments and other inventory positions sold, but not yet purchased: | |||||||
Derivative contracts: | |||||||
Interest rate locks | Discounted cash flow | Premium over the MMD curve (1) | 3 - 35 bps | 16.4 bps |
Sensitivity of the fair value to changes in unobservable inputs:
(1) | Significant increase/(decrease) in the unobservable input in isolation would result in a significantly lower/(higher) fair value measurement. |
(2) | Significant increase/(decrease) in the unobservable input in isolation would result in a significantly higher/(lower) fair value measurement. |
(3) | Significant changes in any of these inputs in isolation could result in a significantly different fair value. Generally, a change in the assumption used for credit default rates is accompanied by a directionally similar change in the assumption used for the loss severity and a directionally inverse change in the assumption for valuation yields. |
(4) | The potential impact of changes in prepayment rates on fair value is dependent on other security-specific factors, such as the par value and structure. Changes in the prepayment rates may result in directionally similar or directionally inverse changes in fair value depending on whether the security trades at a premium or discount to the par value. |
19
The following table summarizes the valuation of the Company’s financial instruments by pricing observability levels defined in FASB Accounting Standards Codification Topic 820, "Fair Value Measurement" ("ASC 820") as of June 30, 2016:
Counterparty | |||||||||||||||||||
and Cash | |||||||||||||||||||
Collateral | |||||||||||||||||||
(Dollars in thousands) | Level I | Level II | Level III | Netting (1) | Total | ||||||||||||||
Assets: | |||||||||||||||||||
Financial instruments and other inventory positions owned: | |||||||||||||||||||
Corporate securities: | |||||||||||||||||||
Equity securities | $ | 3,553 | $ | 1,776 | $ | — | $ | — | $ | 5,329 | |||||||||
Convertible securities | — | 261 | — | — | 261 | ||||||||||||||
Fixed income securities | — | 27,449 | — | — | 27,449 | ||||||||||||||
Municipal securities: | |||||||||||||||||||
Taxable securities | — | 95,433 | — | — | 95,433 | ||||||||||||||
Tax-exempt securities | — | 528,068 | 1,177 | — | 529,245 | ||||||||||||||
Short-term securities | — | 54,740 | 748 | — | 55,488 | ||||||||||||||
Mortgage-backed securities | — | 1,989 | 56,053 | — | 58,042 | ||||||||||||||
U.S. government agency securities | — | 153,079 | — | — | 153,079 | ||||||||||||||
U.S. government securities | 4,158 | — | — | — | 4,158 | ||||||||||||||
Derivative contracts | 61 | 461,019 | 18 | (421,366 | ) | 39,732 | |||||||||||||
Total financial instruments and other inventory positions owned | 7,772 | 1,323,814 | 57,996 | (421,366 | ) | 968,216 | |||||||||||||
Cash equivalents | 94,136 | — | — | — | 94,136 | ||||||||||||||
Investments at fair value | 33,889 | — | 116,405 | (2) | — | 150,294 | |||||||||||||
Total assets | $ | 135,797 | $ | 1,323,814 | $ | 174,401 | $ | (421,366 | ) | $ | 1,212,646 | ||||||||
Liabilities: | |||||||||||||||||||
Financial instruments and other inventory positions sold, but not yet purchased: | |||||||||||||||||||
Corporate securities: | |||||||||||||||||||
Equity securities | $ | 277 | $ | 1,285 | $ | — | $ | — | $ | 1,562 | |||||||||
Fixed income securities | — | 26,112 | — | — | 26,112 | ||||||||||||||
U.S. government agency securities | — | 10,522 | — | — | 10,522 | ||||||||||||||
U.S. government securities | 165,668 | — | — | — | 165,668 | ||||||||||||||
Derivative contracts | — | 444,028 | 14,785 | (451,665 | ) | 7,148 | |||||||||||||
Total financial instruments and other inventory positions sold, but not yet purchased | $ | 165,945 | $ | 481,947 | $ | 14,785 | $ | (451,665 | ) | $ | 211,012 |
(1) | Represents cash collateral and the impact of netting on a counterparty basis. The Company had no securities posted as collateral to its counterparties. |
(2) | Noncontrolling interests of $36.7 million are attributable to third party ownership in a consolidated merchant banking fund. |
20
The following table summarizes the valuation of the Company’s financial instruments by pricing observability levels defined in ASC 820 as of December 31, 2015:
Counterparty | |||||||||||||||||||
and Cash | |||||||||||||||||||
Collateral | |||||||||||||||||||
(Dollars in thousands) | Level I | Level II | Level III | Netting (1) | Total | ||||||||||||||
Assets: | |||||||||||||||||||
Financial instruments and other inventory positions owned: | |||||||||||||||||||
Corporate securities: | |||||||||||||||||||
Equity securities | $ | 7,569 | $ | 1,936 | $ | — | $ | — | $ | 9,505 | |||||||||
Convertible securities | — | 18,460 | — | — | 18,460 | ||||||||||||||
Fixed income securities | — | 48,654 | — | — | 48,654 | ||||||||||||||
Municipal securities: | |||||||||||||||||||
Taxable securities | — | 105,775 | 5,816 | — | 111,591 | ||||||||||||||
Tax-exempt securities | — | 415,789 | 1,177 | — | 416,966 | ||||||||||||||
Short-term securities | — | 32,348 | 720 | — | 33,068 | ||||||||||||||
Mortgage-backed securities | — | 670 | 121,124 | — | 121,794 | ||||||||||||||
U.S. government agency securities | — | 188,140 | — | — | 188,140 | ||||||||||||||
U.S. government securities | 7,729 | — | — | — | 7,729 | ||||||||||||||
Derivative contracts | 164 | 412,299 | — | (377,436 | ) | 35,027 | |||||||||||||
Total financial instruments and other inventory positions owned | 15,462 | 1,224,071 | 128,837 | (377,436 | ) | 990,934 | |||||||||||||
Cash equivalents | 130,138 | — | — | — | 130,138 | ||||||||||||||
Investments at fair value | 34,874 | — | 107,907 | (2) | — | 142,781 | |||||||||||||
Total assets | $ | 180,474 | $ | 1,224,071 | $ | 236,744 | $ | (377,436 | ) | $ | 1,263,853 | ||||||||
Liabilities: | |||||||||||||||||||
Financial instruments and other inventory positions sold, but not yet purchased: | |||||||||||||||||||
Corporate securities: | |||||||||||||||||||
Equity securities | $ | 13,489 | $ | 2,251 | $ | — | $ | — | $ | 15,740 | |||||||||
Fixed income securities | — | 39,909 | — | — | 39,909 | ||||||||||||||
U.S. government agency securities | — | 21,267 | — | — | 21,267 | ||||||||||||||
U.S. government securities | 159,037 | — | — | — | 159,037 | ||||||||||||||
Derivative contracts | 149 | 387,351 | 7,148 | (391,446 | ) | 3,202 | |||||||||||||
Total financial instruments and other inventory positions sold, but not yet purchased | $ | 172,675 | $ | 450,778 | $ | 7,148 | $ | (391,446 | ) | $ | 239,155 |
(1) | Represents cash collateral and the impact of netting on a counterparty basis. The Company had no securities posted as collateral to its counterparties. |
(2) | Noncontrolling interests of $40.1 million are attributable to third party ownership in a consolidated merchant banking fund and private investment vehicles. |
The Company’s Level III assets were $174.4 million and $236.7 million, or 14.4 percent and 18.7 percent of financial instruments measured at fair value at June 30, 2016 and December 31, 2015, respectively. The value of transfers between levels are recognized at the beginning of the reporting period. There were $14.3 million of transfers of financial assets out of Level III for the six months ended June 30, 2016, of which $9.1 million primarily related to the deconsolidation of certain investment partnerships as discussed in Note 2, and $5.2 million related to taxable municipal securities for which valuation inputs became observable. There were no other significant transfers between Level I, Level II or Level III for the three and six months ended June 30, 2016.
21
The following tables summarize the changes in fair value associated with Level III financial instruments held at the beginning or end of the periods presented:
Unrealized gains/ | |||||||||||||||||||||||||||||||||||
(losses) for assets/ | |||||||||||||||||||||||||||||||||||
Balance at | Realized | Unrealized | Balance at | liabilities held at | |||||||||||||||||||||||||||||||
March 31, | Transfers | Transfers | gains/ | gains/ | June 30, | June 30, | |||||||||||||||||||||||||||||
(Dollars in thousands) | 2016 | Purchases | Sales | in | out | (losses) (1) | (losses) (1) | 2016 | 2016 (1) | ||||||||||||||||||||||||||
Assets: | |||||||||||||||||||||||||||||||||||
Financial instruments and other inventory positions owned: | |||||||||||||||||||||||||||||||||||
Municipal securities: | |||||||||||||||||||||||||||||||||||
Tax-exempt securities | $ | 1,177 | $ | — | $ | — | $ | — | $ | — | $ | — | $ | — | $ | 1,177 | $ | — | |||||||||||||||||
Short-term securities | 748 | — | — | — | — | — | — | 748 | — | ||||||||||||||||||||||||||
Mortgage-backed securities | 117,891 | — | (62,693 | ) | — | — | 778 | 77 | 56,053 | 253 | |||||||||||||||||||||||||
Derivative contracts | 5 | 246 | — | — | — | (246 | ) | 13 | 18 | 18 | |||||||||||||||||||||||||
Total financial instruments and other inventory positions owned | 119,821 | 246 | (62,693 | ) | — | — | 532 | 90 | 57,996 | 271 | |||||||||||||||||||||||||
Investments at fair value | 109,498 | 2,521 | — | — | — | — | 4,386 | 116,405 | 4,386 | ||||||||||||||||||||||||||
Total assets | $ | 229,319 | $ | 2,767 | $ | (62,693 | ) | $ | — | $ | — | $ | 532 | $ | 4,476 | $ | 174,401 | $ | 4,657 | ||||||||||||||||
Liabilities: | |||||||||||||||||||||||||||||||||||
Financial instruments and other inventory positions sold, but not yet purchased: | |||||||||||||||||||||||||||||||||||
Derivative contracts | $ | 5,408 | $ | (6,457 | ) | $ | — | $ | — | $ | — | $ | 6,457 | $ | 9,377 | $ | 14,785 | $ | 13,173 | ||||||||||||||||
Total financial instruments and other inventory positions sold, but not yet purchased | $ | 5,408 | $ | (6,457 | ) | $ | — | $ | — | $ | — | $ | 6,457 | $ | 9,377 | $ | 14,785 | $ | 13,173 |
(1) | Realized and unrealized gains/(losses) related to financial instruments, with the exception of customer matched-book derivatives, are reported in institutional brokerage on the consolidated statements of operations. Realized and unrealized gains/(losses) related to customer matched-book derivatives are reported in investment banking. Realized and unrealized gains/(losses) related to investments are reported in investment banking revenues or investment income/(loss) on the consolidated statements of operations. |
22
Unrealized gains/ | |||||||||||||||||||||||||||||||||||
(losses) for assets/ | |||||||||||||||||||||||||||||||||||
Balance at | Realized | Unrealized | Balance at | liabilities held at | |||||||||||||||||||||||||||||||
March 31, | Transfers | Transfers | gains/ | gains/ | June 30, | June 30, | |||||||||||||||||||||||||||||
(Dollars in thousands) | 2015 | Purchases | Sales | in | out | (losses) (1) | (losses) (1) | 2015 | 2015 (1) | ||||||||||||||||||||||||||
Assets: | |||||||||||||||||||||||||||||||||||
Financial instruments and other inventory positions owned: | |||||||||||||||||||||||||||||||||||
Municipal securities: |