UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-K
x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.
For the fiscal year ended November 30, 2013
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 Number: 1-14947
JEFFERIES GROUP LLC
(Exact name of registrant as specified in its charter)
Delaware | 95-4719745 | |
(State or other jurisdiction of incorporation or organization) |
(I.R.S. Employer Identification No.) | |
520 Madison Avenue, New York, New York |
10022 | |
(Address of principal executive offices) | (Zip Code ) |
Registrants telephone number, including area code:
(212) 284-2550
Securities registered pursuant to Section 12(b) of the Act:
Title of each class: |
Name of each exchange on which registered: | |||
5.125% Senior Notes Due 2023 | New York Stock Exchange |
Securities registered pursuant to Section 12(g) of the Act: Limited Liability Company Interests
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes x No ¨
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act. Yes ¨ No x
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 x 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 x No ¨
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrants knowledge in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K, or any amendment to this Form 10-K. ¨
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 ¨ |
Accelerated filer ¨ |
Non-accelerated filer x |
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 x
State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold, or the average bid and asked price of such common equity, as of the last business day of the registrants most recently completed second fiscal quarter. $0 as of May 31, 2013.
The Registrant is a wholly-owned subsidiary of Leucadia National Corporation and meets the conditions set forth in General Instructions I(1)(a) and (b) of Form 10-K and is therefore filing this Form 10-K with a reduced disclosure format as permitted by Instruction I (2).
2013 FORM 10-K ANNUAL REPORT
TABLE OF CONTENTS
PART I | ||||||
Item 1. | 2 | |||||
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Item 1A. | 7 | |||||
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Item 1B. | 12 | |||||
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Item 2. | 12 | |||||
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Item 3. | 12 | |||||
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Item 4. | 13 | |||||
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PART II | ||||||
Item 5. Market for Registrants Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities. | 14 | |||||
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Item 6. | 14 | |||||
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Item 7. | Managements Discussion and Analysis of Financial Condition and Results of Operations. |
14 | ||||
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Item 7A. | 63 | |||||
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Item 8. | 64 | |||||
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Item 9. | Changes in and Disagreements with Accountants on Accounting and Financial Disclosure. |
158 | ||||
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Item 9A. | 158 | |||||
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Item 9B. | 158 | |||||
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PART III | ||||||
Item 10. | 159 | |||||
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Item 11. | 159 | |||||
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Item 12. | Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters. |
159 | ||||
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Item 13. | Certain Relationships and Related Transactions, and Director Independence. |
159 | ||||
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Item 14. | 159 | |||||
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PART IV | ||||||
Item 15. | 161 | |||||
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1
JEFFERIES GROUP LLC AND SUBSIDIARIES
Introduction
Jefferies Group LLC and its subsidiaries operate as a global full service, integrated securities and investment banking firm. Our principal operating subsidiary, Jefferies LLC (Jefferies), was founded in the U.S. in 1962 and our first international operating subsidiary, Jefferies International Limited (Jefferies Europe), was established in the U.K. in 1986. On March 1, 2013, Jefferies Group, Inc. converted into a limited liability company (renamed Jefferies Group LLC) and became an indirect wholly owned subsidiary of Leucadia National Corporation (Leucadia) pursuant to a merger agreement with Leucadia (the Merger). Each outstanding share of Jefferies Group LLC was converted into 0.81 of a common share of Leucadia (the Exchange Ratio). Jefferies Group LLC continues to operate as a full-service investment banking firm and as the holding company to its various regulated and unregulated operating subsidiaries. Richard Handler, our Chief Executive Officer and Chairman, was also appointed the Chief Executive Officer of Leucadia, as well as a Director of Leucadia. Brian Friedman, our Chairman of the Executive Committee, was also appointed Leucadias President and a Director of Leucadia. Following the merger, Jefferies Group LLC retains a credit rating separate from Leucadia and remains an SEC reporting company, filing annual, quarterly and periodic financial reports.
Since 2000, we have grown considerably and become increasingly diversified, increasing our market share and the breadth and depth of our business. Our growth has been achieved through the addition of talented personnel in targeted areas, as well as the acquisition of complementary businesses. As of November 30, 2013, we had 3,797 employees in the Americas, Europe, Asia and the Middle East. Our global headquarters and executive offices are located at 520 Madison Avenue, New York, New York 10022. We also have regional headquarters offices in London and Hong Kong. Our primary telephone number is (212) 284-2550 and our Internet address is jefferies.com.
The following documents and reports are available on our public website:
Annual and interim reports on Form 10-K;
Quarterly reports on Form 10-Q;
Current reports on Form 8-K;
Code of Ethics
Reportable waivers, if any, from our Code of Ethics by our executive officers;
Board of Directors Corporate Governance Guidelines;
Charter of the Corporate Governance and Nominating Committee of the Board of Directors;
Charter of the Compensation Committee of the Board of Directors;
Any amendments to the above-mentioned documents and reports.
Interested persons may also obtain a printed copy of any of these documents or reports by sending a request to Investor Relations, Jefferies Group LLC, 520 Madison Avenue, New York, NY 10022, by calling 203-708-5975 or by sending an email to info@jefferies.com.
Business Segments
We currently operate in two business segments, Capital Markets and Asset Management. Our Capital Markets reportable segment, which represents principally our entire business, consists of our securities and commodities trading activities and our investment banking activities. The Capital Markets reportable segment provides the sales, trading and/or origination and execution effort for various equity, fixed income, commodities, futures, foreign exchange and advisory products and services. The Asset Management segment includes asset management activities and related services. Our parent, Leucadia, is establishing an asset management business and we expect to transition our limited asset management business to Leucadia during 2014.
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JEFFERIES GROUP LLC AND SUBSIDIARIES
Financial information regarding our reportable business segments as of November 30, 2013, November 30, 2012 and November 30, 2011 is set forth in Note 24, Segment Reporting, in our consolidated financial statements and is incorporated herein by reference.
Our Businesses
Capital Markets
Our Capital Markets segment focuses on Equities, Fixed Income (including futures, foreign exchange and commodities activities) and Investment Banking. We primarily serve institutional investors, corporations and government entities.
Equities
Equities Research, Sales & Trading
We provide our clients full-service equities research, sales and trading capabilities across global securities markets. We earn commissions or spread revenue by executing transactions for clients across these markets in equity and equity-related products, including common stock, American depository receipts, global depository receipts, exchange-traded funds, exchange-traded equity options, convertible and other equity-linked products and closed-end funds. Our primary competitors are U.S. and non-U.S. bank holding companies. We act as agent or principal (including as a market-maker) when executing client transactions via traditional high-touch and electronic low-touch channels. In order to facilitate client transactions, we may act as principal to provide liquidity which requires the commitment of our capital and maintenance of dealer inventory.
Our equity research, sales and trading efforts are organized across three geographical regions: the Americas; Europe, the Middle East, and Africa (EMEA); and Asia Pacific. Our main product lines within the regions are cash equities, electronic trading, derivatives and convertibles. Our clients are primarily institutional market participants such as mutual funds, hedge funds, investment advisors, pension and profit sharing plans, and insurance companies. Through our global research team and sales force, we maintain relationships with our clients, distribute investment research and strategy, trading ideas, market information and analyses across a range of industries and receive and execute client orders. Our research covers over 1,700 companies around the world and approximately a further 300 companies are covered by five firms in Asia with whom we maintain alliances.
Equity Finance
Our Equity Finance business provides financing, securities lending and other prime brokerage services.
We offer prime brokerage services in the U.S. that provide hedge funds, money managers and registered investment advisors with execution, financing, clearing, reporting and administrative services. We finance our clients securities positions through margin loans that are collateralized by securities, cash or other acceptable liquid collateral. We earn an interest spread equal to the difference between the amount we pay for funds and the amount we receive from our clients. We also operate a matched book in equity and corporate bond securities, whereby we borrow and lend securities versus cash or liquid collateral and earn a net interest spread.
Customer assets (securities and funds) held by us are segregated in accordance with regulatorily mandated customer protection rules. We offer selected prime brokerage clients with the option of custodying their assets at an unaffiliated U.S. broker-dealer that is a subsidiary of a bank holding company. Under this arrangement, we provide our clients directly all customary prime brokerage services other than custody.
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JEFFERIES GROUP LLC AND SUBSIDIARIES
Wealth Management
We provide tailored wealth management services designed to meet the needs of high net worth individuals, their families and their businesses, private equity and venture funds and small institutions. Our advisors provide access to all of our institutional execution capabilities and deliver other financial services. Our open architecture platform affords clients with access to products and services from both our firm and from a variety of other major financial services institutions.
Fixed Income
Fixed Income Sales and Trading
We provide our clients sales and trading of investment grade and high yield corporate bonds, U.S. and European government and agency securities, municipal bonds, mortgage- and asset-backed securities, whole loans, leveraged loans, distressed securities and emerging markets debt. Jefferies is designated as a Primary Dealer by the Federal Reserve Bank of New York and Jefferies Europe is designated in similar capacities for several government bond issuers in Europe, and trades a broad spectrum of other European government bonds. Additionally, through the use of repurchase agreements, we act as an intermediary between borrowers and lenders of short-term funds and obtain funding for various of our inventory positions.
Our strategists and economists provide ongoing commentary and analysis of the global fixed income markets. In addition, our fixed income research professionals, including research and desk analysts, provide investment ideas and analysis across a variety of fixed income products.
Futures, Foreign Exchange and Commodities
Jefferies Bache provides our clients 24-hour global coverage, with direct access to major commodity and financial futures exchanges including the CME, CBOT, NYMEX, ICE, NYSE Euronext, LME and Eurex and provides 24-hour global coverage, execution, clearing and market making in futures, options and derivatives on industrial metals including aluminum, copper, nickel, zinc, tin and lead. Products provided to clients include LME and CME futures and over-the-counter metals swaps and options.
We operate a full-service trading desk in all precious metals, cash, futures and exchange-for-physicals markets, and are a market maker providing execution and clearing services as well as market analysis. Jefferies Bache also provides prime brokerage services and is an authorized coin distributor of the U.S. Mint.
In addition, Jefferies Bache is a market-maker in foreign exchange spot, forward, swap and option contracts across major currencies and emerging markets globally.
Investment Banking
We provide our clients around the world with a full range of equity capital markets, debt capital markets and financial advisory services. Our services are enhanced by our industry sector expertise, our global distribution capabilities and our Companys senior level commitment to our clients.
Over 650 investment banking professionals operate in the Americas, Europe and Asia, and are organized into industry, product and geographic coverage groups. Our sector coverage groups include consumer and retail, energy, financial institutions, financial sponsors, general industrials, healthcare, media and telecommunications, public finance, REGAL (real estate, gaming, lodging) and technology. Our product coverage groups include equity capital markets, debt capital markets and financial advisory, which includes both mergers and acquisitions and restructuring and recapitalization. Our geographic coverage groups include coverage teams based in major cities in the United States, Canada, Brazil, United Kingdom, (including our UK Corporate Broking team), Germany, Russia, India and China.
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JEFFERIES GROUP LLC AND SUBSIDIARIES
Equity Capital Markets
We provide a broad range of equity financing capabilities to companies and financial sponsors. These capabilities include private equity placements, initial public offerings, follow-on offerings, block trades and equity-linked convertible securities.
Debt Capital Markets
We provide a wide range of debt financing capabilities for companies, financial sponsors and governmental entities. We focus on structuring, underwriting and distributing public and private debt, including investment grade and non-investment grade corporate debt, leveraged loans, mortgage and other asset-backed securities, and liability management solutions.
Advisory Services
We provide mergers and acquisition and restructuring and recapitalization services to companies, financial sponsors and governmental entities. In the mergers and acquisition area, we advise sellers and buyers on corporate sales and divestitures, acquisitions, mergers, tender offers, spinoffs, joint ventures, strategic alliances and takeover and proxy fight defense. We also provide a broad range of acquisition financing capabilities to assist our clients. In the restructuring and recapitalization area, we provide to companies, bondholders and lenders with a full range of restructuring advisory capabilities as well as expertise in the structuring, valuation and placement of securities issued in recapitalizations.
Asset Management
We provide investment management services to pension funds, insurance companies and other institutional investors. Our primary asset management programs are strategic investment and convertible bond strategies.
Our strategic investment programs, including our Structured Alpha Program, are provided through the Strategic Investments Division of Jefferies Investment Advisers, LLC, which is registered as an investment adviser with the SEC. These programs are systematic, multi-strategy, multi-asset class programs with the objective of generating a steady stream of absolute returns irrespective of the direction of major market indices or phase of the economic cycle. These strategies are provided through both long-short equity private funds and separately managed accounts.
We offer convertible bond strategies through Jefferies (Switzerland) Limited, which is licensed by the Swiss Financial Market Supervisory Authority. These strategies are long only investment solutions in global convertible bonds offered to pension funds, insurance companies and private banking clients.
Competition
All aspects of our business are intensely competitive. We compete primarily with the large global bank holding companies that engage in capital markets activities, but also with firms listed in the AMEX Securities Broker/Dealer Index, other brokers and dealers, and boutique investment banking firms. The large global bank holding companies have substantially greater capital and resources than we do. We believe that the principal factors affecting our competitive standing include the quality, experience and skills of our professionals, the depth of our relationships, the breadth of our service offerings, our ability to deliver consistently the integrated capabilities of Jefferies and our tenacity and commitment to serve our clients.
Regulation
Regulation in the United States. The financial services industry in which we operate is subject to extensive regulation. In the U.S., the Securities and Exchange Commission (SEC) is the federal agency responsible for the administration of federal securities laws, and the Commodity Futures Trading Commission (CFTC) is the federal agency responsible for the administration of laws relating to commodity interests (including futures and swaps). In addition, self-regulatory organizations, principally Financial Industry Regulatory Authority (FINRA) and the National Futures Association (NFA), are actively involved in the regulation of financial service businesses. The
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JEFFERIES GROUP LLC AND SUBSIDIARIES
SEC, CFTC and self-regulatory organizations conduct periodic examinations of broker-dealers investment advisers, futures commission merchants (FCMs) and swap dealers. Financial service businesses are also subject to regulation by state securities commissions and attorneys general in those states in which they do business.
Broker-dealers are subject to regulations that cover all aspects of the securities business, including sales and trading methods, trade practices among broker-dealers, use and safekeeping of customers funds and securities, capital structure of securities firms, anti-money laundering efforts, recordkeeping and the conduct of directors, officers and employees. Registered advisors are subject to, among other requirements, regulations concerning marketing, transactions with affiliates, disclosure to clients, and recordkeeping; and advisors that are also registered as commodity trading advisors or commodity pool operators are also subject to regulation by the CFTC and the NFA. FCMs, introducing brokers and swap dealers that engage in commodities, futures or swap transactions are subject to regulation by the CFTC and the NFA. Additional legislation, changes in rules promulgated by the SEC, CFTC and self-regulatory organizations, or changes in the interpretation or enforcement of existing laws and rules may directly affect the operations and profitability of broker-dealers, investment advisers, FCMs and swap dealers. The SEC, CFTC and self-regulatory organizations, state securities commissions and state attorneys general may conduct administrative proceedings or initiate civil litigation that can result in censure, fine, suspension, expulsion of a firm, its officers or employees, or revocation of a firms licenses.
On July 21, 2010, the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) was enacted in the United States. The Dodd-Frank Act is being implemented through extensive rulemaking by the SEC, CFTC and other governmental agencies. The Dodd-Frank Act also mandates the preparation of studies on a wide range of issues. These studies could lead to additional regulatory changes. For additional information see Item 1A. Risk Factors Recent legislation and new and pending regulation may significantly affect our business.
Net Capital Requirements. U.S. registered broker-dealers are subject to the SECs Uniform Net Capital Rule (the Net Capital Rule), which specifies minimum net capital requirements. Jefferies Group LLC is not a registered broker-dealer and is therefore not subject to the Net Capital Rule; however, its U.S. broker-dealer subsidiaries, Jefferies and Jefferies Execution Services, Inc. (Jefferies Execution), are registered broker-dealers and are subject to the Net Capital Rule. Jefferies and Jefferies Execution have elected to compute their minimum net capital requirement in accordance with the Alternative Net Capital Requirement as permitted by the Net Capital Rule, which provides that a broker-dealer shall not permit its net capital, as defined, to be less than the greater of 2% of its aggregate debit balances (primarily customer-related receivables) or $250,000 ($1.5 million for prime brokers). Furthermore, Jefferies is a registered Introducing Broker with the CFTC and is subject to the CFTCs minimum financial requirements. Under the CFTCs minimum financial requirements, an Introducing Broker must maintain adjusted net capital equal to or in excess of the greater of (A) $45,000 or (B) since Jefferies is also a registered broker-dealer, the amount of net capital required by the Net Capital Rule. Compliance with the Net Capital Rule could limit operations of our broker-dealers, such as underwriting and trading activities, that require the use of significant amounts of capital, and may also restrict their ability to make loans, advances, dividends and other payments. In addition, Jefferies is subject to the rules and regulations of various exchanges, clearing organizations and other regulatory agencies applicable to Introducing Brokers, which may affect its ability as an Introducing Broker to make capital and certain other distributions.
U.S. registered FCMs are subject to the CFTCs minimum financial requirements for futures commission merchants and introducing brokers. Jefferies Group LLC is not a registered FCM nor a registered Introducing Broker, and is therefore not subject to the CFTCs minimum financial requirements; however, Jefferies Bache, LLC, a U.S. FCM subsidiary, is registered and subject to the minimum financial requirements. Under the minimum financial requirements, an FCM must maintain adjusted net capital equal to or in excess of the greater of (A) $1,000,000 or (B) the FCMs risk-based capital requirements totaling (1) eight percent of the total risk margin requirement for positions carried by the FCM in customer accounts, plus (2) eight percent of the total risk margin requirement for positions carried by the FCM in noncustomer accounts. An FCMs ability to make capital and certain other distributions is subject to the rules and regulations of various exchanges, clearing organizations and other regulatory agencies which may have capital requirements that are greater than the CFTCs.
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JEFFERIES GROUP LLC AND SUBSIDIARIES
Our subsidiaries that are registered swap dealers will become subject to capital requirements under the Dodd-Frank Act once they become final. For additional information see Item 1A. Risk Factors Recent legislation and new and pending regulation may significantly affect our business.
See Net Capital within Item 7. Managements Discussion and Analysis and Note 23, Net Capital Requirements in this Annual Report on Form 10-K for additional discussion of net capital calculations.
Regulation outside the United States. We are an active participant in the international capital markets, engage in commodity futures brokerage and provide investment banking services throughout the world, but primarily in Europe and Asia. As is true in the U.S., our subsidiaries are subject to extensive regulations promulgated and enforced by, among other regulatory bodies, the U.K. Financial Conduct Authority, the Hong Kong Securities and Futures Commission, the Japan Financial Services Agency and the Monetary Authority of Singapore. Every country in which we do business imposes upon us laws, rules and regulations similar to those in the U.S., including with respect to some form of capital adequacy rules, customer protection rules, anti-money laundering and anti-bribery rules, compliance with other applicable trading and investment banking regulations and similar regulatory reform packages in response to the credit and liquidity crisis of 2007 and 2008. For additional information see Item 1A. Risk Factors Extensive international regulation of our business limits our activities, and, if we violate these regulations, we may be subject to significant penalties.
Factors Affecting Our Business
The following factors describe some of the assumptions, risks, uncertainties and other factors that could adversely affect our business or that could otherwise result in changes that differ materially from our expectations. In addition to the specific factors mentioned in this report, we may also be affected by other factors that affect businesses generally such as global or regional changes in economic or business conditions, acts of war, terrorism and natural disasters.
Recent legislation and new and pending regulation may significantly affect our business.
In the last five years, there has been significant legislation and increased regulation affecting the financial services industry. These legislative and regulatory initiatives affect not only us, but also our competitors and certain of our clients. These changes could have an effect on our revenue and profitability, limit our ability to pursue certain business opportunities, impact the value of assets that we hold, require us to change certain business practices, impose additional costs on us and otherwise adversely affect our business. Accordingly, we cannot provide assurance that legislation and regulation will not eventually have an adverse effect on our business, results of operations, cash flows and financial condition.
The Dodd-Frank Act was signed into law on July 21, 2010. Title VII of the Dodd-Frank Act and the rules and regulations adopted and to be adopted by the SEC and CFTC introduce a comprehensive regulatory regime for swaps and security-based swaps (both of which are defined terms) and parties that deal in derivatives. We have registered two of our subsidiaries as swap dealers with the CFTC and the NFA and may register one or more subsidiaries as security-based swap dealers with the SEC. The new laws and regulations will subject certain swaps and security-based swaps to clearing and exchange trading requirements and will subject swap dealers and security-based swap dealers to significant new burdens, including (i) capital and margin requirements, (ii) reporting, recordkeeping and internal business conduct requirements, (iii) external business conduct requirements in dealings with swap counterparties (which are particularly onerous when the counterparty is a special entity such as a federal, state, or municipal entity, an ERISA plan, a government employee benefit plan or an endowment), and (iv) large trader position reporting and certain position limit requirements. The final rules under Title VII, including those rules that have already been adopted, for both cleared and uncleared swap transactions will impose increased capital and margin requirements on our registered entities and require additional operational and compliance costs and resources that will likely affect our business.
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JEFFERIES GROUP LLC AND SUBSIDIARIES
Section 619 of the Dodd-Frank Act (Volcker Rule) and section 716 of the Dodd-Frank Act (swaps push-out rule) limit proprietary trading of certain securities and swaps by banking entities such as banks, bank holding companies and similar institutions. Although we are not a banking entity and are not otherwise subject to these rules, some of our clients and many of our counterparties are banks or entities affiliated with banks and will be subject to these restrictions. These sections of the Dodd-Frank Act and the regulations that are adopted to implement them could negatively affect the swaps and securities markets by reducing their depth and liquidity and thereby affect pricing in these markets. Other negative effects could result from an expansive extraterritorial application of the Dodd-Frank Act in general or the Volcker Rule in particular and/or insufficient international coordination with respect to adoption of rules for derivatives and other financial reforms in other jurisdictions. We will not know the exact impact that these changes in the markets will have on our business until after the final rules are implemented.
The Dodd-Frank Act, in addressing systemic risks to the financial system, charges the Federal Reserve with drafting enhanced regulatory requirements for systemically important bank holding companies and certain other nonbank financial companies designated as systemically important by the Financial Stability Oversight Council. The enhanced requirements proposed by the Federal Reserve include capital requirements, liquidity requirements, limits on credit exposure concentrations and risk management requirements. We do not believe that we will be deemed to be a systemically important nonbank financial company under the new legislation and therefore will not be directly impacted. However, there will be an indirect impact to us to the extent that the new regulations apply to our competitors, counterparties and certain of our clients.
Extensive international regulation of our business limits our activities, and, if we violate these regulations, we may be subject to significant penalties.
The financial services industry is subject to extensive laws, rules and regulations in every country in which we operate. Firms that engage in securities and derivatives trading, commodity futures brokerage, wealth and asset management and investment banking must comply with the laws, rules and regulations imposed by national and state governments and regulatory and self-regulatory bodies with jurisdiction over such activities. Such laws, rules and regulations cover all aspects of the financial services business, including, but not limited to, sales and trading methods, trade practices, use and safekeeping of customers funds and securities, capital structure, anti-money laundering and anti-bribery and corruption efforts, recordkeeping and the conduct of directors, officers and employees.
Each of our regulators supervises our business activities to monitor compliance with such laws, rules and regulations in the relevant jurisdiction. In addition, if there are instances in which our regulators question our compliance with laws, rules, and regulations, they may investigate the facts and circumstances to determine whether we have complied. At any moment in time, we may be subject to one or more such investigation or similar reviews. At this time, all such investigations and similar reviews are insignificant in scope and immaterial to us. However, there can be no assurance that, in the future, the operations of our businesses will not violate such laws, rules, and regulations and that related investigations and similar reviews could result in adverse regulatory requirements, regulatory enforcement actions and/or fines.
Additional legislation, changes in rules, changes in the interpretation or enforcement of existing laws and rules, or the entering into businesses that subject us to new rules and regulations may directly affect our business, results of operations and financial condition.
We continue to monitor the impact that the Basel Accords will have on our UK regulated entities. The update issued by the Basel Committee on Banking Supervision in December 2010, known as Basel III, recommended strengthening capital and liquidity rules. In response, the European Commission is in the process of implementing amendments to its Capital Requirements Directive (CRD) putting into law CRD IV and the Capital Requirements Regulation (CRR). Changes under CRD IV and CRR became effective January 1, 2014. Our UK subsidiaries impacted by these changes are in compliance with the new regulations.
The European Market Infrastructure Regulation (EMIR) was enacted in August 2012 and, in common with the Dodd-Frank Act in the US, is intended, among other things, to reduce counterparty risk by requiring standardized over-the-counter derivatives be cleared through a central counterparty and reported to regulator appointed trade repositories. EMIR is being introduced in phases in the UK and, based on current published dates, will be substantively implemented by the end of 2014.
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JEFFERIES GROUP LLC AND SUBSIDIARIES
We are also reviewing the draft texts of the amendments to the Markets in Financial Instruments Directive and the Markets in Financial Instruments Regulation to assess the impact both pieces of legislation are likely to have on our business when they come into force in 2015 or 2016.
Changing conditions in financial markets and the economy could result in decreased revenues, losses or other adverse consequences.
As a global securities and investment banking firm, global or regional changes in the financial markets or economic conditions could adversely affect our business in many ways, including the following:
| A market downturn could lead to a decline in the volume of transactions executed for customers and, therefore, to a decline in the revenues we receive from commissions and spreads. |
| Unfavorable financial or economic conditions could reduce the number and size of transactions in which we provide underwriting, financial advisory and other services. Our investment banking revenues, in the form of financial advisory and underwriting or placement fees, are directly related to the number and size of the transactions in which we participate and could therefore be adversely affected by unfavorable financial or economic conditions. |
| Adverse changes in the market could lead to losses from principal transactions on our inventory positions. |
| Adverse changes in the market could also lead to a reduction in revenues from asset management fees and investment income from managed funds and losses on our own capital invested in managed funds. Even in the absence of a market downturn, below-market investment performance by our funds and portfolio managers could reduce asset management revenues and assets under management and result in reputational damage that might make it more difficult to attract new investors. |
| Limitations on the availability of credit, such as occurred during 2008, can affect our ability to borrow on a secured or unsecured basis, which may adversely affect our liquidity and results of operations. |
| New or increased taxes on compensation payments such as bonuses or on balance sheet items may adversely affect our profits. |
| Should one of our competitors fail, our securities prices and our revenue could be negatively impacted based upon negative market sentiment causing customers to cease doing business with us and our lenders to cease loaning us money, which could adversely affect our business, funding and liquidity. |
Unfounded allegations about us could result in extreme price volatility and price declines in our securities and loss of revenue, clients, and employees.
In November 2011, we became the subject of unfounded allegations and false rumors, including among others those relating to our exposure to European sovereign debt. Despite the fact that we were able to dispel such rumors, both our stock and bond prices were significantly impacted. Our common stock suffered a 20% sell-off in minutes and, consequently, its trading was temporarily suspended, and our debt-securities prices suffered not only extreme volatility but also record high yields. In addition, our operations were impacted as some clients either ceased doing business or temporarily slowed down the level of business they do, thereby decreasing our revenue stream. Although we were able to reverse the negative impact of such unfounded allegations and false rumors, there is no assurance that we will be able to do so successfully in the future and our potential failure to do so could have a material adverse effect on our business, financial condition and liquidity.
The downgrade of the U.S. credit rating and Europes debt crisis could have a material adverse effect on our business, financial condition and liquidity.
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JEFFERIES GROUP LLC AND SUBSIDIARIES
Standard & Poors lowered its long term sovereign credit rating on the United States of America from AAA to AA+ on August 5, 2011. A further downgrade or a downgrade by other rating agencies, including a Nationally Recognized Statistical Rating Organization, could have a material adverse impact on financial markets and economic conditions in the United States and worldwide. Any such adverse impact could have a material adverse effect on our business, financial condition and liquidity.
In addition, during 2011 and 2012, the possibility that certain European Union (EU) member states could have defaulted on their debt obligations negatively impacted economic conditions and global markets. The continued uncertainty over the outcome of international and the European Unions financial support programs and the possibility that EU member states may experience similar financial troubles could disrupt global markets. The negative impact on economic conditions and global markets could also have a material adverse effect on our business, financial condition and liquidity.
A credit-rating agency downgrade could significantly impact our business.
Maintaining an investment grade credit rating is important to our business and financial condition. We intend to access the capital markets and issue debt securities from time to time; and a decrease in our credit rating would not only increase our borrowing costs, but could also decrease demand for our debt securities and make a successful financing more difficult. In addition, in connection with certain over-the-counter derivative contract arrangements and certain other trading arrangements, we may be required to provide additional collateral to counterparties, exchanges and clearing organizations in the event of a credit rating downgrade. Such a downgrade could also negatively impact our stock and bond prices. There can be no assurance that our credit ratings will not be further downgraded by Moodys or downgraded by other rating agencies.
Our principal trading and investments expose us to risk of loss.
A considerable portion of our revenues is derived from trading in which we act as principal. We may incur trading losses relating to the purchase, sale or short sale of fixed income, high yield, international, convertible, and equity securities and futures and commodities for our own account. In any period, we may experience losses on our inventory positions as a result of price fluctuations, lack of trading volume, and illiquidity. From time to time, we may engage in a large block trade in a single security or maintain large position concentrations in a single security, securities of a single issuer, securities of issuers engaged in a specific industry, or securities from issuers located in a particular country or region. In general, because our inventory is marked to market on a daily basis, any adverse price movement in these securities could result in a reduction of our revenues and profits. In addition, we may engage in hedging transactions that if not successful, could result in losses.
Increased competition may adversely affect our revenues, profitability and staffing.
All aspects of our business are intensely competitive. We compete directly with a number of bank holding companies and commercial banks, other brokers and dealers, investment banking firms and other financial institutions. In addition to competition from firms currently in the securities business, there has been increasing competition from others offering financial services, including automated trading and other services based on technological innovations. We believe that the principal factors affecting competition involve market focus, reputation, the abilities of professional personnel, the ability to execute the transaction, relative price of the service and products being offered, bundling of products and services and the quality of service. Increased competition or an adverse change in our competitive position could lead to a reduction of business and therefore a reduction of revenues and profits.
Competition also extends to the hiring and retention of highly skilled employees. A competitor may be successful in hiring away an employee or group of employees, which may result in our losing business formerly serviced by such employee or employees. Competition can also raise our costs of hiring and retaining the employees we need to effectively operate our business.
Operational risks may disrupt our business, result in regulatory action against us or limit our growth.
10
JEFFERIES GROUP LLC AND SUBSIDIARIES
Our businesses are highly dependent on our ability to process, on a daily basis, a large number of transactions across numerous and diverse markets in many currencies, and the transactions we process have become increasingly complex. If any of our financial, accounting or other data processing systems do not operate properly or are disabled or if there are other shortcomings or failures in our internal processes, people or systems, we could suffer an impairment to our liquidity, financial loss, a disruption of our businesses, liability to clients, regulatory intervention or reputational damage. These systems may fail to operate properly or become disabled as a result of events that are wholly or partially beyond our control, including a disruption of electrical or communications services or our inability to occupy one or more of our buildings. The inability of our systems to accommodate an increasing volume of transactions could also constrain our ability to expand our businesses.
We also face the risk of operational failure or termination of any of the clearing agents, exchanges, clearing houses or other financial intermediaries we use to facilitate our securities transactions. Any such failure or termination could adversely affect our ability to effect transactions and manage our exposure to risk.
In addition, despite the contingency plans we have in place, our ability to conduct business may be adversely impacted by a disruption in the infrastructure that supports our businesses and the communities in which they are located. This may include a disruption involving electrical, communications, transportation or other services used by us or third parties with which we conduct business.
Our operations rely on the secure processing, storage and transmission of confidential and other information in our computer systems and networks. Although we take protective measures and endeavor to modify them as circumstances warrant, our computer systems, software and networks may be vulnerable to unauthorized access, computer viruses or other malicious code, and other events that could have a security impact. If one or more of such events occur, this potentially could jeopardize our or our clients or counterparties confidential and other information processed and stored in, and transmitted through, our computer systems and networks, or otherwise cause interruptions or malfunctions in our, our clients, our counterparties or third parties operations. We may be required to expend significant additional resources to modify our protective measures or to investigate and remediate vulnerabilities or other exposures, and we may be subject to litigation and financial losses that are either not insured against or not fully covered through any insurance maintained by us.
We face numerous risks and uncertainties as we expand our business.
We expect the growth of our business to come primarily from internal expansion and through acquisitions and strategic partnering. As we expand our business, there can be no assurance that our financial controls, the level and knowledge of our personnel, our operational abilities, our legal and compliance controls and our other corporate support systems will be adequate to manage our business and our growth. The ineffectiveness of any of these controls or systems could adversely affect our business and prospects. In addition, as we acquire new businesses and introduce new products, we face numerous risks and uncertainties integrating their controls and systems into ours, including financial controls, accounting and data processing systems, management controls and other operations. A failure to integrate these systems and controls, and even an inefficient integration of these systems and controls, could adversely affect our business and prospects.
Our international operations subject us to numerous risks which could adversely impact our business in many ways.
Our business and operations are expanding globally. Wherever we operate, we are subject to legal, regulatory, political, economic and other inherent risks. The laws and regulations applicable to the securities and investment banking industries differ in each country. Our inability to remain in compliance with applicable laws and regulations in a particular country could have a significant and negative effect on our business and prospects in that country as well as in other countries. A political, economic or financial disruption in a country or region could adversely impact our business and increase volatility in financial markets generally.
Legal liability may harm our business.
Many aspects of our business involve substantial risks of liability, and in the normal course of business, we have been named as a defendant or codefendant in lawsuits involving primarily claims for damages. The risks associated
11
JEFFERIES GROUP LLC AND SUBSIDIARIES
with potential legal liabilities often may be difficult to assess or quantify and their existence and magnitude often remain unknown for substantial periods of time. The expansion of our business, including increases in the number and size of investment banking transactions and our expansion into new areas impose greater risks of liability. In addition, unauthorized or illegal acts of our employees could result in substantial liability to us. Substantial legal liability could have a material adverse financial effect or cause us significant reputational harm, which in turn could seriously harm our business and our prospects.
Our business is subject to significant credit risk.
In the normal course of our businesses, we are involved in the execution, settlement and financing of various customer and principal securities and derivative transactions. These activities are transacted on a cash, margin or delivery-versus-payment basis and are subject to the risk of counterparty or customer nonperformance. Although transactions are generally collateralized by the underlying security or other securities, we still face the risks associated with changes in the market value of the collateral through settlement date or during the time when margin is extended and the risk of counterparty nonperformance to the extent collateral has not been secured or the counterparty defaults before collateral or margin can be adjusted. We may also incur credit risk in our derivative transactions to the extent such transactions result in uncollateralized credit exposure to our counterparties.
We seek to control the risk associated with these transactions by establishing and monitoring credit limits and by monitoring collateral and transaction levels daily. We may require counterparties to deposit additional collateral or return collateral pledged. In the case of aged securities failed to receive, we may, under industry regulations, purchase the underlying securities in the market and seek reimbursement for any losses from the counterparty. However, there can be no assurances that our risk controls will be successful.
Derivative transactions may expose us to unexpected risk and potential losses.
We are party to a number of derivative transactions that require us to deliver to the counterparty the underlying security, loan or other obligation in order to receive payment. In a number of cases, we do not hold the underlying security, loan or other obligation and may have difficulty obtaining, or be unable to obtain, the underlying security, loan or other obligation through the physical settlement of other transactions. As a result, we are subject to the risk that we may not be able to obtain the security, loan or other obligation within the required contractual time frame for delivery. This could cause us to forfeit the payments due to us under these contracts or result in settlement delays with the attendant credit and operational risk as well as increased costs to the firm.
Item 1B. Unresolved Staff Comments.
None.
Our global executive offices and principal administrative offices are located at 520 Madison Avenue, New York, New York under an operating lease arrangement. We maintain additional offices in over 30 cities throughout the world including, in the United States, Charlotte, Chicago, Boston, Houston, Los Angeles, San Francisco, Stamford, and Jersey City, and internationally, London, Frankfurt, Zurich, Hong Kong, Singapore, Tokyo and Mumbai. In addition, we maintain backup data center facilities with redundant technologies for each of our three main data center hubs in Jersey City, London and Hong Kong. We lease all of our office space, or contract via service arrangement, which management believes is adequate for our business. For information concerning leasehold improvements and rental expense, see Note 2, Summary of Significant Accounting Policies and Note 22, Commitments, Contingencies and Guarantees, in our consolidated financial statements.
Many aspects of our business involve substantial risks of legal and regulatory liability. In the normal course of business, we have been named as defendants or codefendants in lawsuits involving primarily claims for damages.
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JEFFERIES GROUP LLC AND SUBSIDIARIES
We are also involved in a number of judicial and regulatory matters, including exams, investigations and similar reviews, arising out of the conduct of our business. Based on currently available information, we do not believe that any matter will have a material adverse effect on our financial condition.
Seven putative class action lawsuits have been filed in New York and Delaware concerning the Merger. The class actions, filed on behalf of our shareholders prior to the Merger, name as defendants Jefferies Group, Inc., the members of our board of directors of Jefferies Group, Inc., Leucadia and, in certain of the actions, certain merger-related subsidiaries. The actions allege that the directors breached their fiduciary duties in connection with the Merger by engaging in a flawed process and agreeing to sell Jefferies Group, Inc. for inadequate consideration pursuant to an agreement that contains improper deal protection terms. The actions allege that Jefferies Group, Inc. and Leucadia aided and abetted the directors breach of fiduciary duties. The actions filed in New York have been stayed, the actions filed in Delaware are proceeding and the claims against certain of the directors have been dismissed. We are unable to predict the outcome of this litigation.
We reached a non-prosecution agreement in principle with the United States Attorney for the District of Connecticut and a settlement agreement in principle with the SEC, which remains subject to review and approval by the SEC Commissioners, relating to an investigation of the purchases and sales of mortgage-backed securities. That investigation arose from a matter that came to light in late 2011, at which time we terminated a mortgage-backed-securities trader who was then indicted by the United States Attorney for the District of Connecticut in January 2013 and separately charged in a civil complaint by the SEC. Those agreements in principle include an aggregate $25.0 million payment, of which approximately $11.0 million are payments to trading counterparties impacted by those activities, approximately $10 million of which is a fine payable to the U.S. Attorneys Office, and approximately $4.0 million of which is a fine payable to the SEC. All such amounts are reflected in our year-end 2013 financial statements, with $23.2 million recognized during the fourth quarter of 2013 and $2.7 million recognized across prior 2012 and 2013 periods.
Item 4. Mine Safety Disclosures.
Not applicable.
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JEFFERIES GROUP LLC AND SUBSIDIARIES
Item 5. Market for Registrants Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities.
Prior to the Merger, our common stock was traded on the NYSE under the symbol JEF. On March 1, 2013, all of our outstanding common shares were exchanged for shares of Leucadia, our common stock was delisted and there is no longer a public trading market for our common stock. Our ability to pay distributions to Leucadia is subject to the restrictions set forth in certain financial covenants associated with our $950.0 million Credit Facility described in Note 15, Long-Term Debt and the governing provisions of the Delaware Limited Liability Company Act. We do not anticipate making distributions in the future.
Dividends per Common Share (declared) for the first quarter of 2013 and the two most recent fiscal years:
1st Quarter |
2nd Quarter |
3rd Quarter |
4th Quarter | |||||||
2013 |
$0.075 | N/a | N/a | N/a | ||||||
2012 |
$0.075 | $0.075 | $0.075 | $0.075 | ||||||
2011 |
$0.075 | $0.075 | $0.075 | $0.075 |
Item 6. Selected Financial Data.
Omitted pursuant to general instruction I(2)(a) to Form 10-K.
Item 7. Managements Discussion and Analysis of Financial Condition and Results of Operations.
This report contains or incorporates by reference forward looking statements within the meaning of the safe harbor provisions of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward looking statements include statements about our future and statements that are not historical facts. These forward looking statements are usually preceded by the words believe, intend, may, will, or similar expressions. Forward looking statements may contain expectations regarding revenues, earnings, operations and other results, and may include statements of future performance, plans and objectives. Forward looking statements also include statements pertaining to our strategies for future development of our business and products. Forward looking statements represent only our belief regarding future events, many of which by their nature are inherently uncertain. It is possible that the actual results may differ, possibly materially, from the anticipated results indicated in these forward-looking statements. Information regarding important factors that could cause actual results to differ, perhaps materially, from those in our forward looking statements is contained in this report and other documents we file. You should read and interpret any forward looking statement together with these documents, including the following:
| the description of our business contained in this report under the caption Business; |
| the risk factors contained in this report under the caption Risk Factors; |
| the discussion of our analysis of financial condition and results of operations contained in this report under the caption Managements Discussion and Analysis of Financial Condition and Results of Operations; |
| the discussion of our risk management policies, procedures and methodologies contained in this report under the caption Risk Management included within Managements Discussion and Analysis of Financial Condition and Results of Operations; |
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JEFFERIES GROUP LLC AND SUBSIDIARIES
| the notes to the consolidated financial statements contained in this report; and |
| cautionary statements we make in our public documents, reports and announcements. |
Any forward looking statement speaks only as of the date on which that statement is made. We will not update any forward looking statement to reflect events or circumstances that occur after the date on which the statement is made, except as required by applicable law.
Consolidated Results of Operations
On March 1, 2013, Jefferies Group, Inc. converted into a limited liability company (renamed Jefferies Group LLC) and became an indirect wholly owned subsidiary of Leucadia National Corporation (Leucadia) pursuant to a merger agreement with Leucadia (the Merger). Each outstanding share of Jefferies Group LLC was converted into 0.81 of a common share of Leucadia (the Exchange Ratio). Jefferies Group LLC continues to operate as a full-service investment banking firm and as the holding company to its various regulated and unregulated operating subsidiaries. Richard Handler, our Chief Executive Officer and Chairman, was also appointed the Chief Executive Officer of Leucadia, as well as a Director of Leucadia. Brian Friedman, our Chairman of the Executive Committee, was also appointed Leucadias President and a Director of Leucadia. Following the Merger, Jefferies Group LLC retains a credit rating separate from Leucadia and remains an SEC reporting company, filing annual, quarterly and periodic financial reports. For further information, see Note 1, Organization and Basis of Presentation in our consolidated financial statements.
In Managements Discussion and Analysis of Financial Condition and Results of Operations, we have presented the historical financial results in the tables that follow for the periods before and after the Merger. Periods prior to March 1, 2013 are referred to as Predecessor periods, while periods after March 1, 2013 are referred to as Successor periods to reflect the fact that under U.S. generally accepted accounting principles (U.S. GAAP) Leucadias cost of acquiring Jefferies Group LLC has been pushed down to create a new accounting basis for Jefferies Group LLC. The Predecessor and Successor periods have been separated by a vertical line to highlight the fact that the financial information for such periods has been prepared under two different cost bases of accounting. Our financial results of operations are discussed separately for the periods (i) nine months ended November 30, 2013 (the Successor fiscal 2013 period) and (ii) the three months ended February 28, 2013 and the years ended November 30, 2012 and 2011 (the Predecessor fiscal periods). The following table provides an overview of our consolidated results of operations (in thousands):
Successor | Predecessor | |||||||||||||||||
Nine Months Ended |
Three Months Ended February 28, 2013 |
Year Ended November 30, 2012 |
Year Ended November 30, 2011 |
|||||||||||||||
Net revenues, less mandatorily redeemable preferred interests |
$ | 2,137,313 | $ | 807,583 | $ | 3,018,769 | $ | 2,573,323 | ||||||||||
Non-interest expenses |
1,873,018 | 668,096 | 2,526,974 | 2,153,989 | ||||||||||||||
Earnings before income taxes |
264,295 | 139,487 | 491,795 | 419,334 | ||||||||||||||
Income tax expense |
94,686 | 48,645 | 168,646 | 132,966 | ||||||||||||||
Net earnings |
169,609 | 90,842 | 323,149 | 286,368 | ||||||||||||||
Net earnings to noncontrolling interests |
8,418 | 10,704 | 40,740 | 1,750 | ||||||||||||||
Net earnings attributable to Jefferies Group LLC |
161,191 | 80,138 | 282,409 | 284,618 | ||||||||||||||
Effective tax rate |
35.8% | 34.9% | 34.3% | 31.7% |
As discussed further below, we are making certain adjustments to our historical financial statements for the quarters of 2013 and 2012 and for the year ended November 30, 2011. We do not believe these discrete adjustments are material individually or in the aggregate to our financial condition or to our financial results for any reported period.
The first adjustment relates to a revised estimate of our litigation reserve resulting in an additional $17.0 million on a pre-tax basis recognized in Other expenses in the fourth quarter of 2013. We have adjusted our estimate of the reserve relating to an investigation of the purchases and sales of mortgage-backed securities based on an agreement
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JEFFERIES GROUP LLC AND SUBSIDIARIES
reached in principle subsequent to our report on Form 8-K, dated December 17, 2013 in which we announced our financial results for our fiscal fourth quarter of 2013. Additionally, we have reduced our estimate for bad debt provision on certain investment banking receivables on a pre-tax basis by $1.3 million in the fourth quarter of 2013 resulting in a reduction in Other expenses by such amount in this Annual Report on Form 10-K for the year ended November 30, 2013. The impact of these adjustments is a reduction in Income tax expense of $1.2 million and a reduction in Net earnings of $14.5 million during the fourth quarter of 2013.
In addition to and unrelated to the adjustments described above, we have reduced Income tax expense by $4.4 million to correct for income tax expense recognized during the fourth quarter of 2013. It was determined that such income tax expense properly related to each of the years from fiscal 2009 to fiscal 2012. This had the effect of understating goodwill in the purchase price allocation by $4.4 million as the additional income tax liability in existence at the merger date reduces the fair value of the net assets acquired. We have evaluated the effects of this correction and concluded that it is not material to the previously issued Annual Reports on Form 10-K for the previously reported periods or to the previously issued Quarterly Reports on Form 10-Q for the three months ended May 31, 2013 and August 31, 2013. Nevertheless, we have revised our consolidated net earnings for the nine months ended November 30, 2013 as reflected in this Form 10-K for the year ended November 30, 2013 to correct for the effect of this item and appropriately reflected the increase of $4.4 million in goodwill within our Consolidated Statement of Financial Condition.
Finally, we are adjusting Commissions revenues and Floor brokerage and clearing fees in the respective financial statement line items to reflect certain exchange fees charged to customers in our futures business on a gross rather than net basis by $60.6 million, $62.9 million and $28.1 million in 2013, 2012 and 2011, respectively. Although floor brokerage and clearing fees previously had been recorded on a net basis to Commissions revenue, thereby resulting in an understatement in Commissions revenues, Total revenues, Net revenues, Floor brokerage and clearing fees and Total non-interest expenses for various periods, there was no impact on Net earnings. We do not believe these adjustments are material to our financial statements for any reported period.
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JEFFERIES GROUP LLC AND SUBSIDIARIES
The following tables set forth the effects of the adjustments on Net earnings, on an after tax basis, for the years ended November 30, 2013 and 2012 and 2011 and for the quarterly periods in 2013. Although the year ended November 30, 2013 and the quarterly periods in 2013 are not adjusted, this information was previously provided in our current report on Form 8-K filed on December 17, 2013, and therefore is included as part of this information.
Successor | Predecessor | |||||||||||||||
Decrease in Net earnings to Jefferies Group LLC | Nine Months Ended November 30, |
Three Months Ended February 28, |
Year Ended November 30, | |||||||||||||
(in thousands) | 2013 | 2013 | 2012 | 2011 | ||||||||||||
Previously reported Net earnings to Jefferies Group LLC |
$ | 171,302 | $ | 80,138 | $ | 282,409 | $ | 284,618 | ||||||||
Netting of Floor brokerage clearing fees to Commissions revenue |
| | | | ||||||||||||
Net litigation and bad debt provisions |
(14,505) | | | | ||||||||||||
Income taxes |
4,394 | | | | ||||||||||||
|
|
|
|
|
|
|
|
|||||||||
Total adjustments |
(10,111) | | | | ||||||||||||
|
|
|
|
|
|
|
|
|||||||||
Adjusted Net earnings to Jefferies Group LLC |
$ | 161,191 | $ | 80,138 | $ | 282,409 | $ | 284,618 |
Decrease in earnings to Jefferies Group LLC | Successor | Predecessor | ||||||||||||||
(in thousands) | Three Months Ended | |||||||||||||||
November 30, 2013 |
August 31, 2013 |
May 31, 2013 |
February 28, 2013 |
|||||||||||||
Previously reported Net earnings to Jefferies Group LLC |
$ | 120,054 | $ | 11,740 | $ | 39,508 | $ | 80,138 | ||||||||
Netting of Floor brokerage clearing fees to Commissions revenue |
| | | | ||||||||||||
Net litigation and bad debt provisions |
(14,505) | | | | ||||||||||||
Income taxes |
4,394 | | | | ||||||||||||
|
|
|
|
|
|
|
|
|||||||||
Total adjustments |
(10,111) | | | | ||||||||||||
|
|
|
|
|
|
|
|
|||||||||
Adjusted Net earnings to Jefferies Group LLC |
$ | 109,943 | $ | 11,740 | $ | 39,508 | $ | 80,138 |
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JEFFERIES GROUP LLC AND SUBSIDIARIES
The following tables set forth the effects of the adjustments on affected line items within our previously reported Consolidated Statements of Earnings for years ended November 30, 2013, 2012 and 2011. Although our year ended November 30, 2013 is not adjusted, this information was previously provided in our current report on Form 8-K filed on December 17, 2013, and therefore is included as part of this information.
Consolidated Statement of Earnings
|
|
|||||||||||||||||||||||||||||||
Nine Months Ended November 30, | Three Months Ended February 28, | Year Ended November 30, | ||||||||||||||||||||||||||||||
2013 | 2012 | 2011 | ||||||||||||||||||||||||||||||
(in thousands) | As Previously Reported |
Adjusted | As Previously Reported |
Adjusted | As Previously Reported |
Adjusted | As Previously Reported |
Adjusted | ||||||||||||||||||||||||
Commissions revenues |
$ | 427,178 | $ | 472,596 | $ | 131,083 | $ | 146,240 | $ | 485,569 | $ | 548,437 | $ | 534,726 | $ | 562,858 | ||||||||||||||||
Total revenues |
2,674,322 | 2,719,740 | 1,006,803 | 1,021,960 | 3,871,205 | 3,934,073 | 3,529,638 | 3,557,770 | ||||||||||||||||||||||||
Net revenues |
2,095,263 | 2,140,681 | 803,387 | 818,544 | 2,998,784 | 3,061,652 | 2,548,813 | 2,576,945 | ||||||||||||||||||||||||
Net revenues, less mandatorily redeemable preferred interest |
2,091,895 | 2,137,313 | 792,426 | 807,583 | 2,955,901 | 3,018,769 | 2,545,191 | 2,573,323 | ||||||||||||||||||||||||
Floor brokerage and clearing fees |
105,357 | 150,774 | 30,998 | 46,155 | 120,145 | 183,013 | 126,313 | 154,445 | ||||||||||||||||||||||||
Other expenses |
76,325 | 92,035 | 14,475 | 14,475 | 62,498 | 62,498 | 56,099 | 56,099 | ||||||||||||||||||||||||
Total non-compensation expenses |
597,982 | 659,110 | 178,722 | 193,879 | 693,308 | 756,176 | 643,253 | 671,385 | ||||||||||||||||||||||||
Total non-interest expenses |
1,811,890 | 1,873,018 | 652,939 | 668,096 | 2,464,106 | 2,526,974 | 2,125,857 | 2,153,989 | ||||||||||||||||||||||||
Earnings before income taxes |
280,005 | 264,295 | 139,487 | 139,487 | 491,795 | 491,795 | 419,334 | 419,334 | ||||||||||||||||||||||||
Income tax expense |
100,285 | 94,686 | 48,645 | 48,645 | 168,646 | 168,646 | 132,966 | 132,966 | ||||||||||||||||||||||||
Net earnings |
179,720 | 169,609 | 90,842 | 90,842 | 323,149 | 323,149 | 286,368 | 286,368 | ||||||||||||||||||||||||
Net earnings attributable to Jefferies Group LLC |
171,302 | 161,191 | 80,138 | 80,138 | 282,409 | 282,409 | 284,618 | 284,618 |
The impact of the adjustments were as follows:
| To increase Commissions revenue by $45.4 million, $15.2 million, $62.9 million and $28.1 million for the nine months ended November 30, 2013, the three months ended February 28, 2013 and the years ended November 30, 2012 and 2011, respectively. |
| To increase Floor brokerage and clearing fees by $45.4 million, $15.2 million, $62.9 million and $28.1 million for the nine months ended November 30, 2013, the three months ended February 28, 2013 and the years ended November 30, 2012 and 2011, respectively |
| To increase Other expenses by $15.7 million for the nine months ended November 30, 2013 for the change in estimates associated with litigation reserves and bad debt provisions. To reduce Income tax expense for the associated tax effect of these items by $1.2 million for the nine months ended November 30, 2013. |
| To reduce Income tax expense by $4.4 million for the nine months ended November 30, 2013 to correct for the effect of income tax provisions determined to be related to periods prior to December 1, 2012. |
There is no effect on our Consolidated Statements of Financial Condition as of November 30, 2012, Consolidated Statements of Changes in Stockholders Equity for the years 2012 and 2011 and Consolidated Statements of Cash Flows for the years 2012 and 2011.
Executive Summary
Nine Months Ended November 30, 2013
Net revenues, less mandatorily redeemable preferred interests, for the nine months ended November 30, 2013 were $2,137.3 million reflecting a challenging environment for our fixed income businesses during portions of the period partially offset by strong results in equities and investment banking, which both achieved record net revenues for the fourth quarter of fiscal 2013. The results for the nine month period reflect within Net revenues positive income of $73.8 million, representing the amortization of premiums arising from recognizing our long-term debt at fair value as part of the pushdown accounting for the Merger, and gains of $89.3 million in aggregate from our investments in KCG Holdings, Inc. (Knight Capital) and Harbinger Group Inc.
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JEFFERIES GROUP LLC AND SUBSIDIARIES
Non-interest expenses were $1,873.0 million for the nine months ended November 30, 2013 and include Compensation and benefits expense of $1,213.9 million recognized commensurate with the level of net revenues for the nine month period. Compensation and benefits expenses as a percentage of Net revenues was 56.7% for the nine months ended November 30, 2013. Non-interest expense also includes approximately $50.0 million in merger related costs associated with the closing of the Merger. These costs are comprised of $11.6 million in merger-related investment banking, legal and filing fees, $6.3 million in additional lease expense related to recognizing existing leases at their current market value, incremental amortization expense of $21.1 million associated with intangible assets and internally developed software recognized at the merger date, and $11.0 million of additional amortization expense related to the write-up of the cost of outstanding share-based awards which had future service requirements at the merger date. In addition, occupancy and equipment includes a $8.7 million charge associated with our relocating certain staff and abandoning certain London office space recognized during the nine month period.
At November 30, 2013, we had 3,797 employees globally, slightly below our headcount at November 30, 2012.
Three Months Ended February 28, 2013
Net revenues, less mandatorily redeemable preferred interests, for the three months ended February 28, 2013 were $807.6 million, which include strong investment banking revenues, particularly in debt and equity capital markets, and a gain of $26.5 million on our share ownership in Knight Capital. Non-interest expenses of $668.1 million for the three months ended February 28, 2013, reflect compensation expense consistent with the level of net revenues and professional service costs associated with the Merger. Compensation costs as a percentage of Net revenues for the three months ended February 28, 2013 were 57.9%.
Year Ended November 30, 2012
Net revenues, less mandatorily redeemable preferred interests, for the year ended November 30, 2012 were a record $3,018.8 million. During 2012 we structured and invested in a convertible preferred stock offering of Knight Capital. Net revenues for the year ended November 30, 2012 include a mark-to-market gain of $151.9 million on our share ownership in Knight Capital and an advisory fee of $20.0 million for services in respect of the transaction. Net revenues for the year ended November 30, 2012 also include within Other revenues a bargain purchase gain of $3.4 million on the acquisition of the corporate broking business of Hoare Govett from The Royal Bank of Scotland plc, a gain on debt extinguishment of $9.9 million and a gain of $23.8 million on the sale of certain mortgage servicing right assets by our Fixed Income business. Fixed income revenues for the year ended November 30, 2012 include a full twelve months of the Global Commodities Group business (also referred to as Jefferies Bache).
Non-interest expenses totaled $2,527.0 million for the year ended November 30, 2012 and included compensation expense of $1,770.8 million, consistent with higher net revenues. Compensation expense as a percentage of Net revenues was 57.8%. Within non-interest expenses, Technology and communications costs increased as the expansion of our personnel and business platforms has increased the demand for market data, technology connections and applications. Occupancy costs increased as we strengthened our presence in Europe and Asia and Business development expenses increased commensurate with furthering the expansion of our market share. Increased professional service costs are primarily associated with our announced merger with Leucadia and efforts associated with Dodd-Frank compliance. Floor brokerage and clearing fees for the 2012 year are reflective of lower equity trading volumes. Non-interest expenses include within Other expenses donations to Hurricane Sandy relief of $4.1 million. Non-interest expenses also include a full twelve months of costs from our Jefferies Bache operations. Our effective tax rate was 34.3% for the year ended November 30, 2012.
At November 30, 2012, we had 3,804 employees globally. We added an additional 51 employees with the acquisition of Hoare Govett in February 2012 and expanded our headcount during 2012 in our metal and energy futures business. These increases were offset by headcount reductions since the start of 2012 aimed at better resource allocation and improved productivity.
Year Ended November 30, 2011
Net revenues, less mandatorily redeemable preferred interests, for the year ended November 30, 2011 were $2,573.3 million. Net revenues include results of Jefferies Bache for five months, as a result of the acquisition of the Global
19
JEFFERIES GROUP LLC AND SUBSIDIARIES
Commodities Group from Prudential Financial, Inc. on July 1, 2011. The results for 2011 include within Other revenues a bargain purchase gain of $52.5 million arising on the acquisition of Jefferies Bache and a gain on debt extinguishment of $21.1 million. Non-interest expenses of $2,154.0 million for the year ended November 30, 2011 include compensation expenses of $1,482.6 million, equivalent to 57.5% of Net revenues. Non-interest expenses include within Other expenses a $4.6 million charitable contribution for Japanese earthquake relief. Our effective tax rate was 31.7%, primarily attributable to the fact that the 2011 results include a bargain purchase gain of $52.5 million arising on the acquisition of the Global Commodities Group, which was non-taxable.
At November 30, 2011, we had 3,898 employees globally. On July 1, 2011, we added approximately 400 employees from the Jefferies Bache acquisition.
Our business, by its nature, does not produce predictable or necessarily recurring earnings. Our results in any given period can be materially affected by conditions in global financial markets, economic conditions generally and our own activities and positions. For a further discussion of the factors that may affect our future operating results, see Risk Factors in Part I, Item IA of this Annual Report on Form 10-K for the year ended November 30, 2013.
Revenues by Source
The Capital Markets reportable segment includes our securities and commodities trading activities, and our investment banking activities. The Capital Markets reportable segment provides the sales, trading and origination and advisory effort for various equity, fixed income, commodities, futures, foreign exchange and advisory products and services. The Capital Markets segment comprises many business units, with many interactions and much integration among them. In addition, we separately discuss our Asset Management business.
For presentation purposes, the remainder of Results of Operations is presented on a detailed product and expense basis, rather than on a business segment basis. Net revenues presented for our equity and fixed income businesses include allocations of interest income and interest expense as we assess the profitability of these businesses inclusive of the net interest revenue or expense associated with the respective sales and trading activities, which is a function of the mix of each businesss associated assets and liabilities and the related funding costs.
20
JEFFERIES GROUP LLC AND SUBSIDIARIES
The composition of our net revenues has varied over time as financial markets and the scope of our operations have changed. The composition of net revenues can also vary from period to period due to fluctuations in economic and market conditions, and our own performance. The following provides a summary of Revenues by Source for the Successor period nine months ended November 30, 2013 and the Predecessor periods three months ended February 28, 2013 and the years ended November 30, 2012 and 2011 (amounts in thousands):
Successor | Predecessor | |||||||||||||||||||||||||||||||||
Nine Months Ended | Three Months Ended | Year Ended | Year Ended | |||||||||||||||||||||||||||||||
November 30, 2013 | February 28, 2013 | November 30, 2012 | November 30, 2011 | |||||||||||||||||||||||||||||||
Amount | % of Net Revenue |
Amount | % of Net Revenue |
Amount | % of Net Revenue |
Amount | % of Net Revenue |
|||||||||||||||||||||||||||
Equities |
$ |
582,355 |
|
|
27 |
% |
$ | 167,354 |
|
21 |
% |
$ |
642,360 |
|
|
21 |
% |
$ |
593,589 |
|
|
23 |
% | |||||||||||
Fixed income |
504,092 | 24 | 352,029 | 43 | 1,253,268 | 41 | 743,088 | 29 | ||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||
Total sales and trading |
1,086,447 | 51 | 519,383 | 64 | 1,895,628 | 62 | 1,336,677 | 52 | ||||||||||||||||||||||||||
Other |
4,624 | - | | - | 13,175 | - | 73,615 | 3 | ||||||||||||||||||||||||||
Equity |
228,394 | 11 | 61,380 | 7 | 193,797 | 6 | 187,288 | 7 | ||||||||||||||||||||||||||
Debt |
415,932 | 19 | 140,672 | 17 | 455,790 | 15 | 384,921 | 15 | ||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||
Capital markets |
644,326 | 30 | 202,052 | 24 | 649,587 | 21 | 572,209 | 22 | ||||||||||||||||||||||||||
Advisory |
369,191 | 17 | 86,226 | 11 | 476,296 | 16 | 550,319 | 21 | ||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||
Total investment banking |
1,013,517 | 47 | 288,278 | 35 | 1,125,883 | 37 | 1,122,528 | 43 | ||||||||||||||||||||||||||
Asset management fees and investment income (loss) from managed funds: |
||||||||||||||||||||||||||||||||||
Asset management fees |
26,473 | 2 | 11,083 | 1 | 38,130 | 1 | 33,425 | 1 | ||||||||||||||||||||||||||
Investment income (loss) from managed funds |
9,620 | - | (200) | - | (11,164) | - | 10,700 | 1 | ||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||
Total |
36,093 | 2 | 10,883 | 1 | 26,966 | 1 | 44,125 | 2 | ||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||||||||
Net revenues |
2,140,681 | 100 | % | 818,544 | 100 | % | 3,061,652 | 100 | % | 2,576,945 | 100 | % | ||||||||||||||||||||||
Interest on mandatorily redeemable preferred interests of consolidated subsidiaries |
3,368 | 10,961 | 42,883 | 3,622 | ||||||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
|||||||||||||||||||||||||||
Net revenues, less mandatorily redeemable preferred interests |
$ | 2,137,313 | $ | 807,583 | $ | 3,018,769 | $ | 2,573,323 | ||||||||||||||||||||||||||
|
|
|
|
|
|
|
|
Net Revenues
Net revenues for the nine months ended November 30, 2013 of $2,140.7 million reflect a solid performance in our equity sales and trading business and continued strength in our investment banking platform. Our fixed income businesses experienced difficult trading conditions for a portion of the period as a result of a change in expectations for interest rates surrounding the Federal Reserves plans for tapering its asset purchase program; though fixed income performance significantly improved during the fourth quarter of 2013. The nine months results include gains of $89.3 million in aggregate within Equities Principal transaction revenues from our investments in Knight Capital and Harbinger Group Inc. (Harbinger).
Net revenues for the three months ended February 28, 2013 of $818.5 million were the second highest quarter on record (after the fourth quarter of fiscal 2013) as a result of improved overall market activity, with all of our business lines demonstrating strong results. Within Equity revenues, Net revenues include Principal transaction revenues of $26.5 million from gains related to our investment in Knight Capital during the quarter.
Net revenues for the year ended November 30, 2012 were a record $3,061.7 million. Our 2012 results include Principal transaction revenues of $151.9 million from our investment in Knight Capital. Fixed income revenues were supported by investor demand for higher-yielding assets translating into reasonably robust trading volumes while muted secondary trading volume affected equities revenues (excluding revenues from our ownership of Knight Capital). Investment banking revenue of $1,125.9 million reflects the building strength of our franchise. Asset management fee results were offset by write-downs on certain of our investments in unconsolidated funds. In addition, Net revenues for the year included within Other revenues a bargain purchase gain of $3.4 million recognized in connection with our acquisition of Hoare Govett in February 2012 and a gain on extinguishment of debt of $9.9 million related to transactions in our own debt by our broker-dealers market-making desk in December 2011.
Net revenues before mandatorily redeemable preferred interests for the year ended November 30, 2011 were $2,576.9 million, including robust revenues of $1,122.5 million from our investment banking division. Equity sales and trading results for the 2011 year were impacted by overall lower stock market volumes. Fixed income net revenues included five months of operating results of Jefferies Bache, having acquired the business in July 2011. Net revenues for the year ended November 30, 2011 also included within Other revenues a bargain purchase gain of $52.5 million recognized in connection with our Jefferies Bache acquisition and a gain on debt extinguishment of $21.1 million.
21
JEFFERIES GROUP LLC AND SUBSIDIARIES
Interest on mandatorily redeemable preferred interests of consolidated subsidiaries represents primarily the allocation of earnings and losses from our high yield business to third party noncontrolling interest holders that were invested in that business through mandatorily redeemable preferred securities. Net revenues for the nine months ended November 30, 2013 reflect the allocation of earnings and losses only for the month of March 2013, as we redeemed the mandatorily redeemable preferred interests on April 1, 2013 and now own 100% of this business. As of April 1, 2013, all results in our high yield business are wholly allocated to us.
Equities Revenue
Equities revenue is comprised of equity commissions, principal transactions and net interest revenue relating to cash equities, electronic trading, equity derivatives, convertible securities, prime brokerage, securities finance and alternative investment strategies. Equities revenue also includes our share of the net earnings from our joint venture investments in Jefferies Finance, LLC (Jefferies Finance) and Jefferies LoanCore, LLC (LoanCore), which are accounted for under the equity method, as well changes in the value of our investments in Knight Capital and Harbinger. Equities revenue is heavily dependent on the overall level of trading activity of our clients.
Nine Months Ended November 30, 2013
Total equities revenue was $582.4 million for the nine months ended November 30, 2013. Equities revenue includes within Principal transaction revenues a gain of $19.5 million on our investment in Knight Capital, a gain of $69.8 million from our investment in Harbinger and an unrealized gain of $6.9 million from marking to market the option on Leucadia shares embedded in our 3.875% Senior Convertible Debentures. In addition, included within Interest expense is positive income of $33.7 million from the allocation to our equities business of a portion of the amortization of premiums arising from the adjustment of our long-term debt to fair value as part of accounting for the Merger.
U.S. equity market conditions during the period were characterized by continually increasing stock prices as the U.S. government maintained its monetary stimulus program. In the equity markets, the NASDAQ Composite Index, the S&P 500 Index and the Dow Jones Industrial Average increased by 28%, 19% and 14%, respectively, over the nine month period ended November 30, 2013, with the S&P Index registering a series of record closing highs. However, during the nine months ended November 30, 2013, economic data in the U.S. continued to indicate a slow recovery and geopolitical concerns regarding the Middle East and a U.S. federal government shutdown added volatility in the U.S. and international markets. Despite the rally in the equity markets in 2013, overall market volumes were subdued moderating customer flow in our U.S. cash equity business, although we benefited from certain block trading opportunities during the period.
In Europe, liquidity returned to the market as the European Central Bank convinced investors that it would not allow the Eurozone to breakup aiding results to both our cash and option desks, although the results are still impacted by relatively low trading volumes given the regions fragile economy. Additionally, Asian equity commissions are stronger, particularly in Japan with new monetary policies increasing trading volumes on the Nikkei Exchange.
Our Securities Finance desk also contributed solidly to Equities revenue for the period and the performance of certain strategic investment strategies were strong. Revenue from our sales and trading of convertible securities for the nine months are reflective of increased market share as we have expanded our team in this business. Net earnings from our Jefferies Finance and LoanCore joint ventures reflect a solid level of securitization deals and loan closings during the 2013 nine month period.
Three Months Ended February 28, 2013
Total equities revenue was $167.4 million for the three months ended February 28, 2013 and includes within Principal transaction revenues an unrealized gain of $26.5 million recognized on our investment in Knight Capital. While U.S. equity markets posted gains during our first quarter, with the S&P index up 7%, investors remained cautious as evidenced by declining volumes. Although market volumes declined, our equity trading desks experienced ample client trading volumes. For the three months ended February 28, 2013, performance from certain strategic investments benefited from the increase in the overall stock markets and other positioning.
22
JEFFERIES GROUP LLC AND SUBSIDIARIES
Year Ended November 30, 2012
For the year ended November 30, 2012, total equities revenue was $642.4 million, including a gain of $151.9 million earned on our investment in Knight Capital and recognized within Principal transaction revenues. While U.S. equity markets posted gains during the year with the S&P index up over 13%, investor caution, due to less favourable economic data in the U.S. and concerns of a slowdown in the global economy, was evidenced through declining volumes which contributed to reduced commissions. Similarly, European equity revenues were affected by lower overall volumes across the broader markets, compounded by fears over Eurozone uncertainty. Partially offsetting these lower revenues was an increase in our Asian equity commissions as our client base increased. Trading revenue from our equity derivatives business improved on a change in our strategy regarding client activity. LoanCore closed it first securitization in May 2012, which contributed to alternative equity investment revenues as did reflecting a full year of LoanCores results in fiscal 2012 having entered into the joint venture in February 2011.
Year Ended November 30, 2011
Total equities revenue was $593.6 million for the year ended November 30, 2011. Equity market conditions during the first half of 2011 were mainly characterized by lower stock market volumes and a reduction in equity market volatility. Volumes picked up significantly in August 2011 with increased volatility, as investors concern over the U.S. economy, the Standard & Poors downgrade of the U.S. long-term credit rating and the continued sovereign debt crisis within the European region caused investors to be reluctant to take risk and transact in the remaining months of 2011. Further, client transaction flows were reduced notably in November 2011 due to the attention focused on our firm following the bankruptcy of MF Global Holdings, Ltd.
Declines in client stock volumes negatively impacted our U.S. cash equities trading revenue, while revenue from U.S. derivatives grew slightly. Prime brokerage and securities finance revenues benefited from new clients and higher balances, as well as transaction volumes with existing clients. International equities revenue benefited from the development of our Asia cash equities business, expansion of our Europe sales force and improved international electronic product capabilities. A gain was also recognized related to our ownership of LME shares consistent with recent sales of shares of the exchange. Equities revenue from these businesses was partially offset by reduced net revenues from our equity joint ventures as increased interest expense was incurred in supporting these ventures. In November 2010, the Company entered into an agreement to sell certain correspondent broker accounts and assign the related clearing arrangements. The purchase price was dependent on the number and amount of client accounts that convert to the purchasers platform. During fiscal 2011, proceeds amounted to $11.0 million were received, of which revenues of $9.1 million was recognized and included within Other revenues for the year ended November 30, 2011.
Fixed Income Revenue
Fixed income revenue includes commissions, principal transactions and net interest revenue from investment grade corporate bonds, mortgage- and asset-backed securities, government and agency securities, municipal bonds, emerging markets debt, high yield and distressed securities, bank loans, foreign exchange and commodities trading activities.
Nine Months Ended November 30, 2013
Fixed income revenue was $504.1 million for the nine months ended November 30, 2013. Included within Interest expense for the period is positive income of $40.1 million from the allocation to our fixed income business of a portion of the amortization of premiums arising from adjusting our long-term debt to fair value as part of acquisition accounting.
The second quarter of fiscal 2013 was characterized by improving U.S. macroeconomic conditions, and, through the first half of May 2013, the U.S. Federal Reserves policies resulted in historically low yields for fixed income securities motivating investors to take on more risk in search for yield. In May 2013, however, the Treasury market experienced a steep sell-off and credit spreads widened across the U.S. fixed income markets in reaction to an anticipated decrease in Federal Reserve treasury issuances and mortgage debt security purchases in
23
JEFFERIES GROUP LLC AND SUBSIDIARIES
future periods. These market conditions negatively impacted our U.S. rates, corporates and U.S. mortgages revenues through August as the volatility made it difficult to realize net revenue from our customer flow. In the latter part of the 2013 year, the fixed income markets stabilized with lower volatility and tightening spreads increasing overall customer flows across the various fixed income product classes.
While revenues rebounded towards the end of the fiscal year for our mortgage-backed securities business, the mid-year sell-off in U.S. Treasuries and the widening of credit spreads for mortgage products negatively impacted the overall results for the nine months ended November 30, 2013 by reducing trading volumes and increasing market volatility. Corporate bond revenues were also negatively impacted by the widening of credit spreads in the third quarter though there was significant improvement during the fourth quarter of 2013 with more robust trading volumes and narrowing credit spreads. Municipal securities underperformed as an asset class for a large part of the period as investors discounted greater risk than they had previously although investors began to return to the municipal market at the end of the period increasing our trading volumes. Components of our futures business experienced varying degrees of fluctuations in customer trading volume but trading volume was relatively constant when considered overall and across the full nine month period ended November 30, 2013.
While our U.S. rates, corporates and U.S. mortgages desks underpeformed, our leveraged credit business produced solid results as investors sought investment yields in this fixed income class and issuers of bank debt were active with the supply level creating a positive effect on liquidity in the secondary market. Further, the low interest rate environment in the U.S. caused investors to seek higher yields in emerging market debt. In addition, suppressed long-term interest rates in the U.S. encouraged investment in international mortgage-backed securities resulting in increased trading volumes, improved market liquidity and ultimately increased revenues on our international mortgage desk, despite experiencing reduced market liquidity and consequently lower levels of secondary market activity during the summer months of 2013.
During the second quarter of 2013, we redeemed the third party interests in our high yield joint venture, Jefferies High Yield Holdings, LLC. As a result of this redemption, effective April 1, 2013, results of this business are allocated to us in full.
Three Months Ended February 28, 2013
For the three months ended February 28, 2013, fixed income revenue was $352.0 million. Credit spreads narrowed through the first quarter of 2013. In January 2013, global macroeconomic conditions appeared to be improving, with the U.S. economy expanding and the U.S. Federal reserve continuing quantitative easing. U.S. rates revenues were robust, with strong treasury issuance and strong demand and yields at historic lows. Revenues from our leveraged finance and emerging markets sales and trading businesses were sound as investor confidence returned in 2013 and investors were attracted to the relatively higher yield on these products. Revenue in our emerging markets business is reflective of our efforts to strengthen our position in this business and revenues for the period include significant gains generated by certain high yield positions. Revenues from our international mortgage desk were positively impacted by the demand for European mortgage bonds and foreign exchange revenues demonstrated a successful navigation of volatile currency markets. Revenues also benefited from new client activity associated with our expansion of our global metals desk and the establishment of our London Mercantile Exchange floor desk in the latter part of 2012. However, international rates sales and trading revenues were negatively impacted by investor concerns over the European markets resulting in restrained trading volumes and a high level of market volatility.
Of the net earnings recognized in Jefferies High Yield Holdings, LLC (our high yield and distressed securities and bank loan trading and investment business) for the three months ended February 28, 2013, approximately 65% is allocated to minority investors and are presented within interest on mandatorily redeemable preferred interests and net earnings to noncontrolling interests in our Consolidated Statements of Earnings.
Year Ended November 30, 2012
Fixed income revenue was $1,253.3 million for the year ended November 30, 2012, and included a full twelve months of revenue from Jefferies Bache following the acquisition from Prudential in July 2011. In 2012, despite occasional investor concerns surrounding the European sovereign debt crisis and global economic growth, a Greek
24
JEFFERIES GROUP LLC AND SUBSIDIARIES
default was avoided, and coordinated austerity measures taken by European governments and the European Central Bank proved successful in allaying fears of a Eurozone breakup and disbanding of the Euro currency. In the U.S., Treasuries benefited from their perception of safety and a third round of quantitative easing by the U.S. Federal Reserve. Investors continued to seek higher yields in a low interest rate environment. Narrowing credit spreads and improved credit and emerging market conditions contributed to strong performances and customer flow across a broad number of fixed income products.
Revenues from our leveraged finance sales and trading business for the year ended November 30, 2012 reflected investor confidence and tightened credit spreads. Additionally, certain of our high yield positions generated significant gains. Similarly, mortgage revenues benefited from a market rally on tighter interest and mortgage index spreads. Municipal trading activities also benefited from spreads tightening over the period as well as investors seeking higher yields in a low interest rate environment. Additionally, revenues from our investment grade corporates business profited on improved credit market conditions, tightening spreads and stronger trading volumes.
In 2012, Jefferies Bache recognized gains on its investment in shares of the London Metal Exchange and benefited from new client activity with the global metals desk introduced in the latter part of 2012. Fixed income revenues for the year ended November 30, 2012 also include a gain of $23.8 million on the sale of mortgage servicing rights for military housing assets.
Year Ended November 30, 2011
The first half of the 2011 fiscal year was characterized by reasonable customer flow, tighter bid-offer spreads, ample liquidity and rising commodity prices. Beginning in the third quarter of 2011, concerns about European sovereign debt risk, the deteriorating global economy, the uncertainty created by the U.S. deficit negotiations and continuing high unemployment in the U.S. led to challenging trading conditions. Market volatility in certain fixed income sectors suppressed customer activity. Trading conditions were particularly difficult in August 2011. While the fixed income markets improved slightly in the fourth quarter of 2011, our customer volumes were negatively impacted during November 2011 due to external stresses concentrated on our business following the bankruptcy of MF Global Holdings Ltd. Customer volumes returned to more normal levels subsequent to 2011.
Fixed income revenue was $743.1 million for the twelve months ended November 30, 2011. The drop in prices in the second half of 2011 led to significant mark downs in high yield and corporate bonds and mortgage-backed securities. In addition, a flight to quality beginning in the third quarter of 2011 led to U.S. Treasury yields trading at the lowest levels on record, resulting in losses on short treasury positions used as inventory hedges in our corporates and mortgage-backed securities businesses. The results for 2011 also include losses on certain U.S. dollar denominated interest rate swap futures contracts (which fully closed out in August 2011) cleared through International Derivatives Clearing Group. The decrease in fixed income revenue from these businesses was partially offset by revenue increases from our government and agency sales and trading revenues in Europe and Asia. Fixed income revenue reflects a strong performance from our Euro rates platform and as well as contributions from our U.S. government and agency business due to increased customer flow from ample liquidity during the year. Stronger performance from our municipal trading activities benefited overall fixed income revenue as a result of recent strengthening of our trading effort and new products offered, partially offset by trading losses and widening credit spreads that impacted the municipal trading business in the latter part of 2011. Fixed income revenue for fiscal 2011 also includes revenue contributions from Jefferies Bache for a five month period as a result of the acquisition from Prudential on July 1, 2011.
Other Revenue
Other revenue for the nine months ended November 30, 2013 includes a gain of $4.6 million related to the below-discussed restructuring of our ownership interest in our commodity asset management business. For the year ended November 30, 2012, Other revenue of $13.2 million is comprised of gains on debt extinguishment of $9.9 million in connection with the accounting treatment for certain purchases of our long-term debt by our secondary market making corporates desk and a bargain purchase gain of $3.4 million arising in the accounting for the acquisition of Hoare Govett on February 1, 2012. Other revenue of $73.6 million for the year ended November 30, 2011 represents the bargain purchase gain of $52.5 million arising on the acquisition of
25
JEFFERIES GROUP LLC AND SUBSIDIARIES
the Global Commodities Group and total gains on debt extinguishment of $21.1 million in connection with the accounting treatment for certain purchases of our debt by our secondary market making corporates desk and the repurchase of $50.0 million of our senior notes due 2012 in November 2011. For additional information see Note 5, Acquisitions and Note 15, Long-term Debt, respectively, in our consolidated financial statements.
Investment Banking Revenue
We provide a full range of capital markets and financial advisory services to our clients across most industry sectors primarily in the U.S. and Europe and to a lesser extent in Asia, Latin America and Canada. Capital markets revenue includes underwriting and placement revenue related to corporate debt, municipal bonds, mortgage- and asset-backed securities and equity and equity-linked securities. Advisory revenue consists primarily of advisory and transaction fees generated in connection with merger, acquisition and restructuring transactions. The following table sets forth our investment banking revenue (in thousands):
Successor | Predecessor | |||||||||||||||||
Nine Months Ended | Three Months Ended |
Year Ended November 30, | ||||||||||||||||
November 30, 2013 |
February 28, 2013 | 2012 | 2011 | |||||||||||||||
Equity |
$ | 228,394 | $ | 61,380 | $ | 193,797 | $ | 187,288 | ||||||||||
Debt |
415,932 | 140,672 | 455,790 | 384,921 | ||||||||||||||
|
|
|
|
|
|
|
|
|||||||||||
Capital markets |
644,326 | 202,052 | 649,587 | 572,209 | ||||||||||||||
Advisory |
369,191 | 86,226 | 476,296 | 550,319 | ||||||||||||||
|
|
|
|
|
|
|
|
|||||||||||
Total |
$ | 1,013,517 | $ | 288,278 | $ | 1,125,883 | $ | 1,122,528 | ||||||||||
|
|
|
|
|
|
|
|
Nine Months Ended November 30, 2013
During the nine month period, despite uneven U.S. economic growth and uncertainty surrounding the U.S. Federal Reserves decision on quantitative easing, capital market conditions continued to improve due to the availability of low-priced credit and a general rise in the stock market. Mergers and acquisition activity gained momentum through the later part of the 2013 nine month period.
Investment banking revenue was $1,013.5 million for the nine months ended November 30, 2013, including record quarterly investment banking revenues in the fourth quarter. From equity and debt capital raising activities, we generated $228.4 million and $415.9 million in revenues, respectively. During the nine months ended November 30, 2013, we completed 412 public and private debt financings that raised $162.3 billion in aggregate, as companies took advantage of low borrowing costs and we completed 130 public equity financings that raised $32.9 billion (111 of which we acted as sole or joint bookrunner). During the nine month period, our financial advisory revenues totaled $369.2 million, including revenues from 108 merger and acquisition transactions where we served as financial advisor.
Three Months Ended February 28, 2013
For the three months ended February 28, 2013, investment banking revenue was $288.3 million, including advisory revenues of $86.2 million and $202.1 million in revenues from capital market activities, the third highest on record. Debt capital markets revenue were $140.7 million, driven by a high number of debt capital market transactions as companies took advantage of lower borrowing costs and more favorable economic and market conditions. During the three months ended February 28, 2013, we completed 121 public and private debt financings that raised a total of $42 billion. Equity capital markets revenue totaled $61.4 million, completing 30 public equity financings that raised $10.0 billion (25 of which we acted as sole or joint bookrunner). Reflective of a subdued mergers and acquisition deal environment, despite improving fundamentals, for the three months ended February 28, 2013, advisory revenue totaled $86.2 million. During the first quarter of 2013, we served as financial advisor on 31 merger and acquisition transactions and two restructuring transactions with an aggregate transaction value of approximately $21 billion.
26
JEFFERIES GROUP LLC AND SUBSIDIARIES
Year Ended November 30, 2012
Investment banking revenue was $1,125.9 million for the year ended November 30, 2012, with higher debt capital market revenues offset by lower advisory revenues. Revenue was driven by a higher number of debt capital market transactions as companies took advantage of lower borrowing costs and more favorable economic and market conditions. During 2012, we completed 482 public and private debt financings raising a total of $175 billion. Equity capital markets revenue totaled $193.8 million for the year ended November 30, 2012 and we completed 111 public equity financings raising $21 billion in capital (96 of which we acted as sole or joint bookrunner). For 2012, advisory revenue totaled $476 million, as we served as financial advisor on 111 merger and acquisition and 10 restructuring transactions having an aggregate transaction value of approximately $104 billion.
Year Ended November 30, 2011
Investment banking revenue was $1,122.5 million, principally driven by both sizeable advisory revenues and our increasing success in winning book runner roles in debt and equity financing. The first half of fiscal 2011 benefited from a particularly strong environment for capital markets issuance. The second half of the year exhibited significant periods of volatility due to economic uncertainty, unemployment and leverage concerns in Europe and the U.S., contributing to a dramatic reduction in capital-raising by corporate issuers. Restructuring activity also declined due to the slower pace in the number of corporate defaults. Capital markets revenue totaled $572.2 million for the year ended November 30, 2011, reflecting our market share and book runner roles in capital markets underwritings, the favorable market environment for debt and equity underwritings in the first half of fiscal 2011, and the contribution of our mortgage securities origination and municipal bond underwriting platforms. Revenue from our advisory business was $550.3 million for 2011 and is reflective of our increasing prominence in mergers and acquisition advisory work and a greater number of completed advisory engagements, including several larger-sized transactions. Investment banking revenue, overall, also benefited in the 2011 period from the expansion of our capabilities across sectors, products and geography.
Asset Management Fees and Investment Income (Loss) from Managed Funds
Asset management revenue includes management and performance fees from funds and accounts managed by us, management and performance fees from related party managed funds and accounts and investment income (loss) from our investments in these funds, accounts and related party managed funds. The key components of asset management revenue are the level of assets under management and the performance return, whether on an absolute basis or relative to a benchmark or hurdle. These components can be affected by financial markets, profits and losses in the applicable investment portfolios and client capital activity. Further, asset management fees vary with the nature of investment management services. The terms under which clients may terminate our investment management authority, and the requisite notice period for such termination, varies depending on the nature of the investment vehicle and the liquidity of the portfolio assets.
On September 11, 2013, we restructured our ownership interest in CoreCommodity Management, LLC (CoreCommodity), our commodity asset management business. Pursuant to the terms of that restructuring, we own Class B Units in what is now called CoreCommodity Capital, LLC. While we have no voting or management rights through our ownership of the Class B Units the Class B Units give us substantially similar economic interests to those we held prior to the restructuring. As a consequence of the restructuring, asset management revenues, assets under management and managed accounts attributed to the commodities asset class will no longer be reported in future periods, but rather changes in the fair value of the Class B units, through which we, obtain our share of the net earnings of CoreCommodity Capital, LLC, will be recognized in Principal transaction revenues.
27
JEFFERIES GROUP LLC AND SUBSIDIARIES
The following summarizes the results of our Asset Management businesses for the Successor period nine months ended November 30, 2013, and the Predecessor periods three months ended February 28, 2013 and the years ended November 30, 2012 and 2011 (in thousands):
Successor | Predecessor | |||||||||||||||||
Nine Months Ended | Three Months Ended |
Year Ended | Year Ended | |||||||||||||||
November 30, 2013 | February 28, 2013 | November 30, 2012 | November 30, 2011 | |||||||||||||||
Asset management fees: |
||||||||||||||||||
Fixed income |
$ | 3,932 | $ | 1,154 | $ | 4,094 | $ | 3,725 | ||||||||||
Equities |
7,626 | 2,295 | 4,573 | 5,335 | ||||||||||||||
Convertibles |
2,890 | 1,376 | 10,387 | 13,703 | ||||||||||||||
Commodities |
12,025 | 6,258 | 19,076 | 10,662 | ||||||||||||||
|
|
|
|
|
|
|
|
|||||||||||
26,473 | 11,083 | 38,130 | 33,425 | |||||||||||||||
Investment income (loss) from managed funds |
9,620 | (200) | (11,164) | 10,700 | ||||||||||||||
|
|
|
|
|
|
|
|
|||||||||||
Total |
$ | 36,093 | $ | 10,883 | $ | 26,966 | $ | 44,125 | ||||||||||
|
|
|
|
|
|
|
|
Fixed income asset management fees represent ongoing consideration we receive from the sale of contracts to manage certain collateralized loan obligations (CLOs) to Babson Capital Management, LLC in January 2010. As sale consideration, we are entitled to a portion of the asset management fees earned under the contracts for their remaining lives. Net unrealized markups (markdowns) in private equity funds managed by a related party are the primary component of our investment income (loss) from managed funds.
Assets under Management
Period end assets under management by predominant asset strategy were as follows (in millions):
Successor | Predecessor | |||||||||
November 30, 2013 | November 30, 2012 | |||||||||
Assets under management (1): |
||||||||||
Equities |
$ | 14 | $ | 75 | ||||||
Convertibles |
492 | 1,092 | ||||||||
Commodities |
- | 1,002 | ||||||||
|
|
|
|
|||||||
Total |
$ | 506 | $ | 2,169 | ||||||
|
|
|
|
(1) | Assets under management include assets actively managed by us, including hedge funds and certain managed accounts. Assets under management do not include the assets of funds that are consolidated due to the level or nature of our investment in such funds. |
28
JEFFERIES GROUP LLC AND SUBSIDIARIES
Invested Capital in Managed Funds
The following table presents our invested capital in managed funds at November 30, 2013 and 2012 (in thousands):
Successor | Predecessor | |||||||||
November 30, 2013 | November 30, 2012 | |||||||||
Unconsolidated funds (1) |
$ | 57,285 | $ | 57,763 | ||||||
Consolidated funds (2) |
37,802 | 30,561 | ||||||||
|
|
|
|
|||||||
Total |
$ | 95,087 | $ | 88,324 | ||||||
|
|
|
|
(1) | Our invested capital in unconsolidated funds is reported within Investments in managed funds on the Consolidated Statements of Financial Condition. |
(2) | Our invested capital in consolidated funds represents our investment in the Structured Alpha program, which are funds actively managed by us. Due to the level or nature of our investment in such funds, the funds are consolidated and the assets and liabilities of these funds are reflected in our consolidated financial statements primarily within Financial instruments owned. We do not recognize asset management fees for funds and accounts that we have consolidated. |
Non-interest Expenses
Non-interest expenses for the nine months ended November 30, 2013, three months ended February 28, 2013, and the years ended November 30, 2012 and 2011, were as follows (in thousands):
Successor | Predecessor | |||||||||||||||||
Nine Months Ended | Three Months Ended | Year Ended November 30, | ||||||||||||||||
November 30, 2013 | February 28, 2013 | 2012 | 2011 | |||||||||||||||
Compensation and benefits |
$ | 1,213,908 | $ | 474,217 | $ | 1,770,798 | $ | 1,482,604 | ||||||||||
Non-compensation expenses: |
||||||||||||||||||
Floor brokerage and clearing fees |
150,774 | 46,155 | 183,013 | 154,445 | ||||||||||||||
Technology and communications |
193,683 | 59,878 | 244,511 | 215,940 | ||||||||||||||
Occupancy and equipment rental |
86,701 | 24,309 | 97,397 | 84,951 | ||||||||||||||
Business development |
63,115 | 24,927 | 95,330 | 93,645 | ||||||||||||||
Professional services |
72,802 | 24,135 | 73,427 | 66,305 | ||||||||||||||
Other |
92,035 | 14,475 | 62,498 | 56,099 | ||||||||||||||
|
|
|
|
|
|
|
|
|||||||||||
Total non-compensation expenses |
$ | 659,110 | $ | 193,879 | $ | 756,176 | $ | 671,385 | ||||||||||
|
|
|
|
|
|
|
|
|||||||||||
Total non-interest expenses |
$ | 1,873,018 | $ | 668,096 | $ | 2,526,974 | $ | 2,153,989 | ||||||||||
|
|
|
|
|
|
|
|
Compensation and Benefits
Compensation and benefits expense consists of salaries, benefits, cash bonuses, commissions, annual cash compensation awards, historical annual share-based compensation awards and the amortization of certain nonannual share-based and cash compensation awards to employees. Cash- and historical share-based awards granted to employees as part of year end compensation generally contain provisions such that employees who terminate their employment or are terminated without cause may continue to vest in their awards, so long as those awards are not forfeited as a result of other forfeiture provisions (primarily non-compete clauses) of those awards. Accordingly, the compensation expense for a substantial portion of awards granted at year end as part of annual compensation is fully recorded in the year of the award.
Included within Compensation and benefits expense are share-based amortization expense for senior executive awards granted in January 2010 and September 2012, non-annual share-based and cash-based awards to other employees and certain year end awards that contain future service requirements for vesting. Such awards are being amortized over their respective future service periods and amounted to compensation expense of $197.1 million for the Successor period nine months ended November 30, 2013, and $67.1 million for the Predecessor periods three months ended February 28, 2013. In addition, compensation and benefits expense for the nine months ended November 30, 2013 includes $11.0 million of additional amortization expense related to the write-up of the cost of outstanding share-based awards which had future service requirements at the merger date.
29
JEFFERIES GROUP LLC AND SUBSIDIARIES
Compensation and benefits as a percentage of Net revenues was 56.7% for the Successor period nine months ended November 30, 2013, and 57.9% for the Predecessor period three months ended February 28, 2013. Employee headcount was 3,797 at November 30, 2013.
Year Ended November 30, 2012
Compensation and benefits expense for the year ended November 30, 2012 was of $1,770.8 million, equivalent to 57.8% of Net revenues, and includes a full year of compensation costs related to Jefferies Bache. In addition, compensation expense includes $22.9 million relating to the acquisition of Jefferies Bache on July 1, 2011 and Hoare Govett on February 1, 2012, comprised of the amortization of retention and stock replacement awards granted to Jefferies Bache employees as replacement awards for previous Prudential stock awards that were forfeited at acquisition and amortization of retention awards granted to Hoare Govett employees and bonus costs for employees as a result of the completion of the acquisition of Hoare Govett. When excluding these costs, together with the gain on debt extinguishment of $9.9 million relating to trading activities in our own debt, amortization of discounts recognized on our long-term debt purchased and re-issued in December 2011 and January 2012 and recognized in Interest expense of $4.8 million and the bargain purchase gain of $3.4 million on our Hoare Govett acquisition, our ratio of Compensation and benefits expense to Net revenues for the year ended November 30, 2012 was 57.2%. Compensation and benefits expense for the year ended November 30, 2012 also includes severance costs of approximately $30.6 million. Employee headcount was 3,804 at November 30, 2012.
Year Ended November 30, 2011.
For the year ended November 30, 2011, Compensation and benefits expense totaled $1,482.6 million, a ratio of compensation and benefits to Net revenues of 57.5%. Compensation and benefits expense for 2011 includes costs relating to the acquisition of Jefferies Bache on July 1, 2011, comprising severance costs for certain employees of the acquired group that were terminated subsequent to the acquisition, the amortization of stock awards granted to Jefferies Bache employees as replacement awards for previous Prudential stock awards that were forfeited as a result of the acquisition, bonus costs for employees as a result of the completion of the acquisition and the amortization of retention awards totaling $11.8 million. When excluding these expenses, together with the bargain purchase gain of $52.5 million and the gain on debt extinguishment of $21.1 million recognized in Other revenues, our ratio of compensation and benefits expense to Net revenues for the year ended November 30, 2011 was 58.8%. Increased Compensation and benefits expense was partially offset by reduced cash awards offered to employees in lieu of stock compensation. Employee headcount was 3,898 at November 30, 2011, including 400 employees added to our firm on July 1, 2011 in connection with the acquisition of Jefferies Bache.
Non-Compensation Expenses
Nine Months Ended November 30, 2013
Non-compensation expenses were $659.1 million for the nine months ended November 30, 2013, equating to 30.8% of Net revenues. Non-compensation expenses include approximately $21.1 million in incremental amortization expense associated with fair value adjustments to identifiable tangible and intangible assets recognized as part of acquisition accounting reported within Technology and communications expense and Other expense, $6.3 million in additional lease expense related to recognizing existing leases at their current market value in Occupancy and equipment rental expense and $11.6 million in merger-related investment banking filing fees recognized in Professional services expense. Additionally, during the nine month period a $8.7 million charge was recognized in Occupancy and equipment rental expense due to vacating certain office space in London. Other expenses for the nine months ended November 30, 2013 include $38.4 million in litigation expenses, which includes litigation costs related to the final judgment on our last outstanding auction rate securities legal matter and to agreements reached in principle with the relevant authorities pertaining to an investigation of purchases and sales of mortgage-backed securities. Excluding these expenses, our Non-compensation expenses as a percentage of Net revenues, after excluding from revenues $76.9 million of net interest income due to the amortization of premiums arising from the one-time fair value adjustment of our long term debt to fair value as of the date of the Merger and the concurrent assumption of our mandatorily redeemable convertible preferred stock by Leucadia, was 27.8%.
Floor brokerage and clearing expenses for the period are reflective of the trading volumes in our fixed income and equities trading businesses, including a meaningful volume of trading by our foreign exchange business. Technology and communications expense includes costs associated with development of the various trading systems and various projects associated with corporate support infrastructure, including technology initiatives to support Dodd-Frank reporting requirements. We continue to incur legal and consulting fees as part of implementing various regulatory requirements, which is recognized in Professional services expense.
30
JEFFERIES GROUP LLC AND SUBSIDIARIES
Three Months Ended February 28, 2013
Non-compensation expenses were $193.9 million for the three months ended February 28, 2013, or 23.7% of Net revenues. Floor brokerage and clearing expense for the 2013 first quarter is commensurate with equity, fixed income and futures trading volumes for the period. Occupancy and equipment expense for the period includes costs associated with taking on additional space at our global head office in New York offset by a reduction in integration costs for technology and communications as significant migrations for Jefferies Bache have been completed. Professional services expense includes legal and consulting fees of $2.1 million related to the merger with Leucadia and business and development expense contains costs incurred in connection with our efforts to build out our market share.
Year Ended November 30, 2012
Non-compensation expenses were $756.2 million for the year ended November 30, 2012, equating to 24.7% of Net revenues, and includes a full year of operating costs of Jefferies Bache. Floor brokerage and clearing expense of $183.0 million was commensurate with lower equity trading volumes, though includes a full twelve months of Jefferies Bache futures activity in 2012. Technology and communications expense was $244.5 million with increased costs associated with the continued build out of our Asian businesses offset by lower corporate support infrastructure project costs. Occupancy and equipment expense was $97.4 million for 2012, reflecting the cost for our office growth in Asia and Europe and additional space at our global head office in New York. Legal and consulting fees related to the announced merger with Leucadia and efforts associated with Dodd-Frank compliance contributed to Professional services expense of $73.4 million for the year ended November 30, 2012. Business development expense of $95.3 million is primarily driven by our continued efforts to build market share, specifically our futures business. Other expenses of $62.5 million for the 2012 year include a $2.9 million impairment charge recognized in the second quarter of 2012 on certain indefinite-lived intangible assets, donations to Hurricane Sandy relief of $4.1 million and fees associated with the announced merger with Leucadia.
Year Ended November 30, 2011
Non-compensation expenses were $671.4 million for the year ended November 30, 2011, and includes five months of operating costs Jefferies Bache and corresponding integration costs of $4.9 million. Continued expansion of our business platforms and support infrastructure, particularly in Europe and Asia, contributed to Technology and communications expense of $215.9 million for the year. Business development costs of $93.6 million reflect increased global travel in connection our continued efforts to build market share and further enhance the Jefferies brand. Occupancy and equipment expense increased to $85.0 million for 2011 primarily due to office growth in Asia. Professional services expense of $66.3 million for the year ended November 30, 2011 includes legal and consulting fees related to the acquisition of Jefferies Bache. Other expense includes a $4.6 million charitable contribution for Japanese earthquake relief. Non-compensation expenses as a percentage of Net revenues was 26.1% for the year ended November 30, 2011.
Income Taxes
For the nine month Successor period ending November 30, 2013, income tax expense was $94.7 million and the effective tax rate was 35.8%. For the Predecessor periods, income tax expense was $48.6 million, $168.6 million, and $133.0 million and the effective tax rate was 34.9%, 34.3%, and 31.7% for the three months ended February 28, 2013 and for the years ended November 30, 2012 and 2011, respectively. The effective tax rates differed from the U.S. federal statutory rate of 35% primarily because of the impact of state income taxes, the effect of which is partially offset by international earnings taxed at rates that are generally lower than the U.S. federal statutory rate.
31
JEFFERIES GROUP LLC AND SUBSIDIARIES
Earnings per Common Share
Diluted net earnings per common share was $0.35 for the three months ended February 28, 2013 on 217,844,000 shares. Earnings per share data is not provided for the nine months ended November 30, 2013 as we are now a limited liability company and wholly-owned subsidiary of Leucadia. Diluted net earnings per common share was $1.22 for the year ended November 30, 2012 on 220,101,000 shares, compared to diluted net earnings per common share of $1.28 for the year ended November 30, 2011 on 215,171,000 shares. See Note 20, Earnings per Share, in our consolidated financial statements for further information regarding the calculation of earnings per common share.
Accounting Developments
For a discussion of recently issued accounting developments and their impact on our consolidated financial statements, see Note 3, Accounting Developments, in our consolidated financial statements.
Critical Accounting Policies
The consolidated financial statements are prepared in conformity with U.S. GAAP, which require management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and related notes. Actual results can and may differ from estimates. These differences could be material to the financial statements.
We believe our application of U.S. GAAP and the associated estimates are reasonable. Our accounting policies and estimates are constantly reevaluated, and adjustments are made when facts and circumstances dictate a change. Historically, we have found our application of accounting policies to be appropriate, and actual results have not differed materially from those determined using necessary estimates.
We believe our critical accounting policies (policies that are both material to the financial condition and results of operations and require our most subjective or complex judgments) are our valuation of financial instruments, assessment of goodwill and our use of estimates related to compensation and benefits during the year.
Valuation of Financial Instruments
Financial instruments owned and Financial instruments sold, not yet purchased are recorded at fair value. The fair value of a financial instrument is the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (the exit price). Unrealized gains or losses are generally recognized in Principal transactions in our Consolidated Statements of Earnings.
32
JEFFERIES GROUP LLC AND SUBSIDIARIES
The following is a summary of the fair value of major categories of financial instruments owned and financial instruments sold, not yet purchased, as of November 30, 2013 and 2012 (in thousands):
Successor | Predecessor | |||||||||||||||||
November 30, 2013 | November 30, 2012 | |||||||||||||||||
Financial Instruments Owned |
Financial Instruments Sold, Not Yet Purchased |
Financial Instruments Owned |
Financial Instruments Sold, Not Yet Purchased |
|||||||||||||||
Corporate equity securities |
$ | 2,098,597 | 1,823,299 | $ | 1,762,775 | $ | 1,539,332 | |||||||||||
Corporate debt securities |
2,982,768 | 1,346,078 | 3,038,146 | 1,389,312 | ||||||||||||||
Government, federal agency and other sovereign obligations |
5,346,152 | 3,155,683 | 5,153,750 | 3,666,112 | ||||||||||||||
Mortgage- and asset-backed securities |
4,473,135 | 34,691 | 5,398,078 | 228,251 | ||||||||||||||
Loans and other receivables |
1,349,128 | 695,300 | 678,311 | 207,227 | ||||||||||||||
Derivatives |
261,093 | 180,079 | 368,292 | 242,047 | ||||||||||||||
Investments |
101,282 | | 127,023 | | ||||||||||||||
Physical commodities |
37,888 | 36,483 | 144,016 | 183,142 | ||||||||||||||
|
|
|
|
|
|
|
|
|||||||||||
$ |
16,650,043 |
|
$ | 7,271,613 | $ | 16,670,391 | $ | 7,455,423 | ||||||||||
|
|
|
|
|
|
|
|
Fair Value Hierarchy - In determining fair value, we maximize the use of observable inputs and minimize the use of unobservable inputs by requiring that observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability based on market data obtained from independent sources. Unobservable inputs reflect our assumptions that market participants would use in pricing the asset or liability developed based on the best information available in the circumstances. We apply a hierarchy to categorize our fair value measurements broken down into three levels based on the transparency of inputs, where Level 1 uses observable prices in active markets and Level 3 uses valuation techniques that incorporate significant unobservable inputs and broker quotes that are considered less observable. Greater use of management judgment is required in determining fair value when inputs are less observable or unobservable in the marketplace, such as when the volume or level of trading activity for a financial instrument has decreased and when certain factors suggest that observed transactions may not be reflective of orderly market transactions. Judgment must be applied in determining the appropriateness of available prices, particularly in assessing whether available data reflects current prices and/or reflects the results of recent market transactions. Prices or quotes are weighed when estimating fair value with greater reliability placed on information from transactions that are considered to be representative of orderly market transactions.
Fair value is a market based measure; therefore, when market observable inputs are not available, our judgment is applied to reflect those judgments that a market participant would use in valuing the same asset or liability. The availability of observable inputs can vary for different products. We use prices and inputs that are current as of the measurement date even in periods of market disruption or illiquidity. The valuation of financial instruments classified in Level 3 of the fair value hierarchy involves the greatest amount of management judgment. For further information on the fair value definition, Level 1, Level 2, Level 3 and related valuation techniques, see Note 2, Summary of Significant Accounting Policies and Note 7, Fair Value Disclosures, in our consolidated financial statements.
33
JEFFERIES GROUP LLC AND SUBSIDIARIES
Level 3 Assets and Liabilities The following table reflects the composition of our Level 3 assets and Level 3 liabilities by asset class at November 30, 2013 and 2012 (in thousands):
Financial Instruments Owned | Financial Instruments Sold, Not Yet Purchased |
|||||||||||||||
November 30, 2013 |
November 30, 2012 |
November 30, 2013 |
November 30, 2012 |
|||||||||||||
Loans and other receivables |
$ | 145,890 | $ | 180,393 | $ | 22,462 | $ | 1,711 | ||||||||
Residential mortgage-backed securities |
105,492 | 156,069 | - | - | ||||||||||||
Investments at fair value |
101,242 | 83,897 | - | - | ||||||||||||
Collateralized debt obligations |
37,216 | 31,255 | - | - | ||||||||||||
Commercial mortgage-backed securities |
17,568 | 30,202 | - | - | ||||||||||||
Corporate equity securities |
9,884 | 16,815 | 38 | 38 | ||||||||||||
Corporate debt securities |
25,666 | 3,631 | - | - | ||||||||||||
Derivatives |
1,493 | 328 | 8,398 | 9,516 | ||||||||||||
Other asset-backed securities |
12,611 | 1,114 | - | - | ||||||||||||
|
|
|
|
|
|
|
|
|||||||||
Total Level 3 financial instruments |
457,062 | 503,704 | $ | 30,898 | $ | 11,265 | ||||||||||
|
|
|
|
|||||||||||||
Investments in managed funds |
57,285 | 57,763 | ||||||||||||||
|
|
|
|
|||||||||||||
Total Level 3 assets |
$ | 514,347 | $ | 561,467 | ||||||||||||
|
|
|
|
|||||||||||||
Total Level 3 financial instruments as a percentage of total financial instruments |
3% | 3% | 0.4% | 0.2% |
While our Financial instruments sold, not yet purchased, which are included within liabilities on our Consolidated Statements of Financial Condition, are accounted for at fair value, we do not account for any of our other liabilities at fair value, except for certain secured financings that arise in connection with our securitization activities included with Other secured financings of approximately $39.7 million and $2.3 million at November 30, 2013 and 2012, respectively and the conversion option to Leucadia shares embedded in our 3.875% Convertible Senior debenture of approximately $9.6 million reported within Long-term debt.
The following table reflects activity with respect to our Level 3 assets and liabilities (in millions):
Successor | Predecessor | |||||||||||||||||
Nine Months Ended |
Three Months Ended |
Year Ended | Year Ended | |||||||||||||||
November 30, 2013 | February 28, 2013 | November 30, 2012 | November 30, 2011 | |||||||||||||||
Assets: |
||||||||||||||||||
Transfers from Level 3 to Level 2 |
$ | 55.9 | $ | 112.7 | $ | 81.8 | $ | 105.5 | ||||||||||
Transfers from Level 2 to Level 3 |
82.4 | 100.5 | 180.6 | 63.6 | ||||||||||||||
Net gains (losses) |
9.4 | 14.5 | 28.8 | (14.3) | ||||||||||||||
Liabilities: |
||||||||||||||||||
Transfers from Level 3 to Level 2 |
$ | 0.1 | $ | 0.7 | $ | 2.2 | $ | 0.04 | ||||||||||
Transfers from Level 2 to Level 3 |
- | - | - | - | ||||||||||||||
Net gains (losses) |
(5.8) | (2.7) | (2.5) | (6.6) |
See Note 7, Fair Value Disclosures, in our consolidated financial statements for additional discussion on transfers of assets and liabilities among the fair value hierarchy levels.
Controls Over the Valuation Process for Financial Instruments - Our Independent Price Verification Group, independent of the trading function, plays an important role in determining that our financial instruments are appropriately valued and that fair value measurements are reliable. This is particularly important where prices or valuations that require inputs are less observable. In the event that observable inputs are not available, the control processes are designed to assure that the valuation approach utilized is appropriate and consistently applied and that the assumptions are reasonable. Where a pricing model is used to determine fair value, these control processes include reviews of the pricing models theoretical soundness and appropriateness by risk management personnel
34
JEFFERIES GROUP LLC AND SUBSIDIARIES
with relevant expertise who are independent from the trading desks. In addition, recently executed comparable transactions and other observable market data are considered for purposes of validating assumptions underlying the model.
Goodwill
As of November 30, 2013, goodwill recorded on our Consolidated Statement of Financial Condition is $1.7 billion (4.3% of total assets). The nature and accounting for goodwill is discussed in Note 2, Summary of Significant Accounting Policies and Note 13, Goodwill and Other Intangible Assets, included within Part II, Item 8 to this Annual Report on Form 10-K. Goodwill must be allocated to reporting units and tested for impairment at least annually. Our annual goodwill impairment testing date is August 1. No goodwill impairment was indicated as a result of our annual testing.
Allocated equity plus goodwill and allocated intangible assets are used as a proxy for the carrying amount of each reporting unit. The amount of equity allocated to a reporting unit is based on our cash capital model deployed in managing our businesses, which seeks to approximate the capital a business would require if it were operating independently. Refer to the discussion of our Cash Capital Policy of the Liquidity, Financial Condition and Capital Resources section within Part II, Item 7 Managements Discussion and Analysis of Financial Condition and Results of Operations to this Annual Report on Form 10-K for further information. Intangible assets are allocated to a reporting unit based on either specifically identifying a particular intangible asset as pertaining to a reporting unit or, if shared among reporting units, based on an assessment of the reporting units benefit from the intangible asset in order to generate results.
Estimating the fair value of a reporting unit requires management judgment and often involves the use of estimates and assumptions that could have a significant effect on whether or not an impairment charge is recorded and the magnitude of such a charge. Estimated fair values for our reporting units were determined using a market valuation method that incorporate price-to-earnings and price-to-book multiples of comparable public companies and, for certain reporting units, a net asset value method. Under the market approach, the key assumptions are the selected multiples and our internally developed forecasts of future profitability, growth and returns on equity for each reporting unit. The weight assigned to the multiples requires judgment in qualitatively and quantitatively evaluating the size, profitability and the nature of the business activities of the reporting unit as compared to the comparable publicly-traded companies. In addition, as the fair values determined under the market approach represent a noncontrolling interest, we applied a control premium to arrive at the estimated fair value of each reporting unit on a controlling basis. We engaged an independent valuation specialist to assist us in our valuation process as of August 1, 2013.
Our annual goodwill impairment testing as of August 1, 2013 did not indicate any goodwill impairment in any of our reporting units. Substantially all of our goodwill is allocated to our Investment Banking, Equities and Fixed Income reporting units for which the results of our assessment indicated that these reporting units had a fair value substantially in excess of their carrying amounts based on current projections. Goodwill allocated to these reporting units is $1,665.3 million of total goodwill of $1,722.3 million at November 30, 2013. For the remaining less significant reporting units, which contain approximately 3.3% of our total goodwill, we have used a net asset approach for valuation and the fair value of each of the reporting units is equal to its book value. Refer to Note 13, Goodwill and Other Intangible Assets, in our consolidated financial statements for further detail on our assessment of goodwill.
Compensation and Benefits
A portion of our compensation and benefits represents discretionary bonuses, which are finalized at year end. In addition to the level of net revenues, our overall compensation expense in any given year is influenced by prevailing labor markets, revenue mix, profitability, individual and business performance metrics, and our use of share-based compensation programs. We believe the most appropriate way to allocate estimated annual total compensation among interim periods is in proportion to projected net revenues earned. Consequently, during the year we accrue compensation and benefits based on annual targeted compensation ratios, taking into account the mix of our revenues and the timing of expense recognition.
35
JEFFERIES GROUP LLC AND SUBSIDIARIES
For further discussion of these and other significant accounting policies, see Note 2, Summary of Significant Accounting Policies, in our consolidated financial statements.
36
JEFFERIES GROUP LLC AND SUBSIDIARIES
Liquidity, Financial Condition and Capital Resources
Our Chief Financial Officer and Global Treasurer are responsible for developing and implementing our liquidity, funding and capital management strategies. These policies are determined by the nature and needs of our day to day business operations, business opportunities, regulatory obligations, and liquidity requirements.
Our actual levels of capital, total assets and financial leverage are a function of a number of factors, including asset composition, business initiatives and opportunities, regulatory requirements and cost and availability of both long term and short term funding. We have historically maintained a balance sheet consisting of a large portion of our total assets in cash and liquid marketable securities, arising principally from traditional securities brokerage and trading activity. The liquid nature of these assets provides us with flexibility in financing and managing our business.
Analysis of Financial Condition
A business unit level balance sheet and cash capital analysis is prepared and reviewed with senior management on a weekly basis. As a part of this balance sheet review process, capital is allocated to all assets and gross and adjusted balance sheet limits are established. This process ensures that the allocation of capital and costs of capital are incorporated into business decisions. The goals of this process are to protect the firms platform, enable our businesses to remain competitive, maintain the ability to manage capital proactively and hold businesses accountable for both balance sheet and capital usage.
We actively monitor and evaluate our financial condition and the composition of our assets and liabilities. Substantially all of our Financial instruments owned and Financial instruments sold, not yet purchased are valued on a daily basis and we monitor and employ balance sheet limits for our various businesses. In connection with our government and agency fixed income business and our role as a primary dealer in these markets, a sizable portion of our securities inventory is comprised of U.S. government and agency securities and other G-7 government securities.
The following table provides detail on key balance sheet asset and liability line items (in millions):
Successor | Predecessor | |||||||||||
November 30, 2013 |
November 30, 2012 |
% Change | ||||||||||
Total assets |
$ | 40,177.0 | $ | 36,293.5 | 11% | |||||||
Cash and cash equivalents |
3,561.1 | 2,692.6 | 32% | |||||||||
Cash and securities segregated and on deposit for regulatory purposes or deposited with clearing and depository organizations |
3,616.6 | 4,082.6 | -11% | |||||||||
Financial instruments owned |
16,650.0 | 16,670.4 | 0% | |||||||||
Financial instruments sold, not yet purchased |
7,271.6 | 7,455.5 | -2% | |||||||||
Total Level 3 assets |
514.3 | 561.5 | -8% | |||||||||
Securities borrowed |
$ | 5,359.8 | $ | 5,094.7 | 5% | |||||||
Securities purchased under agreements to resell |
3,746.9 | 3,357.6 | 12% | |||||||||
|
|
|
|
|||||||||
Total securities borrowed and securities purchased under agreements to resell |
$ | 9,106.7 | $ | 8,452.3 | 8% | |||||||
|
|
|
|
|||||||||
Securities loaned |
$ | 2,506.1 | $ | 1,934.4 | 30% | |||||||
Securities sold under agreements to repurchase |
10,779.8 | 8,181.3 | 32% | |||||||||
|
|
|
|
|||||||||
Total securities loaned and securities sold under agreements to repurchase |
$ | 13,285.9 | $ | 10,115.7 | 31% | |||||||
|
|
|
|
37
JEFFERIES GROUP LLC AND SUBSIDIARIES
Total assets at November 30, 2013 were $40.2 billion and $36.3 billion at November 30, 2012. Total assets at November 2013 include the impact of acquisition accounting that was pushed down to Jefferies Group LLC as a result of recognizing all of our assets, including intangible assets, and liabilities at fair value at the merger date. Accordingly, included in our November 30, 2013 Statement of Financial Condition are goodwill of $1.7 billion and intangible assets of $264.1 million at November 30, 2013. Cash and cash equivalents increased to $3.6 billion at November 30, 2013 from $2.7 billion at November 30, 2012 primarily due to proceeds from the issuance of $1.0 billion senior unsecured long-term debt in January 2013. During the year ended November 30, 2013, average total assets were approximately 27% higher than total assets at November 30, 2012.
Jefferies Bache, LLC (our U.S. futures commission merchant) and Jefferies Bache Limited (our U.K. commodities and financial futures broker-dealer), receive cash or securities as margin to secure customer futures trades. Jefferies LLC (a U.S. broker-dealer), under SEC Rule 15c3-3, and Jefferies Bache, LLC, under CFTC Regulation 1.25, are required to maintain customer cash or qualified securities in a segregated reserve account for the exclusive benefit of our clients. We are required to conduct customer segregation calculations to ensure the appropriate amounts of funds are segregated and that no customer funds are used to finance firm activity. Similar requirements exist with respect to our U.K.-based activities conducted through Jefferies Bache Limited and Jefferies International Limited (a U.K. broker-dealer). Customer funds received are separately segregated and locked-up apart from our funds. If we rehypothecate customer securities, that activity is conducted only to finance customer activity. Additionally, we do not lend customer cash to counterparties to conduct securities financing activity (i.e., we do not lend customer cash to reverse in securities). Further, we have no customer loan activity in Jefferies International Limited and we do not have any European prime brokerage operations. In Jefferies Bache Limited, any funds received from a customer are placed on deposit and not used as part of our operations. We do not transfer U.S. customer assets to our U.K. entities.
Our total Financial instruments owned inventory at November 30, 2013 was $16.7 billion, consistent with inventory at November 30, 2012. Long inventory positions of mortgage- and asset-backed securities, U.S. government and agency securities, sovereign obligations, corporate debt securities and physical commodities are reflective of managements view of appropriate inventory levels at November 30, 2013. Financial instruments sold, not yet purchased inventory was $7.3 billion and $7.5 billion at November 30, 2013 and 2012, respectively.
Our overall net inventory positions was $9.4 billion and $9.2 billion at November 30, 2013 and 2012, respectively. The change in our net inventory balance is primarily attributed to an increase in our inventory of U.S. government and agency securities and loans and other receivables, partially offset by a decline in mortgage- and asset-backed securities and sovereign obligations. We continually monitor our overall securities inventory, including the inventory turnover rate, which confirms the liquidity of our overall assets. As a Primary Dealer in the U.S. and with our similar role in several European jurisdictions, we carry inventory and make an active market for our clients in securities issued by the various governments. These inventory positions are substantially comprised of the most liquid securities in the asset class, with a significant portion in holdings of securities of G-7 countries. For further detail on our outstanding sovereign exposure to Greece, Ireland, Italy, Portugal and Spain as of November 30, 2013, refer to the Risk Management section within Item 7. Managements Discussion and Analysis of Financial Condition and Results of Operations, within this Annual Report on Form 10-K.
Of our total Financial instruments owned, approximately 73% are readily and consistently financeable at haircuts of 10% or less. In addition, as a matter of our policy, a portion of these assets have internal capital assessed, which is in addition to the funding haircuts provided in the securities finance markets. Additionally, our Financial instruments owned primarily consisting of bank loans, investments and non-agency mortgage-backed securities are predominantly funded by long term capital. Under our cash capital policy, we model capital allocation levels that are more stringent than the haircuts used in the market for secured funding; and we maintain surplus capital at these maximum levels.
At November 30, 2013 and 2012, our Level 3 financial instruments owned was 3% of our financial instruments owned.
Securities financing assets and liabilities include both financing for our financial instruments trading activity and matched book transactions. Matched book transactions accommodate customers, as well as obtain securities for the
38
JEFFERIES GROUP LLC AND SUBSIDIARIES
settlement and financing of inventory positions. The aggregate outstanding balance of our securities borrowed and securities purchased under agreements to resell increased by 8% from November 30, 2012 to November 30, 2013. The outstanding balance of our securities loaned and securities sold under agreement to repurchase increased by 31% from November 30, 2012 to November 30, 2013 due to an increase in firm financing of our inventory, less netting for our collateralized financing transactions and an increase in our match book activity. By executing repurchase agreements with central clearing corporations, we reduce the credit risk associated with these arrangements and decrease net outstanding balances. Our average month end balances of total reverse repos and stock borrows and total repos and stock loans during the nine months ended November 30, 2013, were 24% and 20% higher, respectively, than the November 30, 2013 balances. Compared to the prior year twelve months ended November 30, 2012, where our average month end balances of total reverse repos and stock borrows and total repos and stock loans were 25% and 33% higher, respectively, than the November 30, 2012 balances.
The following table presents our period end balance, average balance and maximum balance at any month end within the periods presented for Securities purchased under agreements to resell and Securities sold under agreements to repurchase (in millions):
Successor | Predecessor | |||||||||||||
Nine Months Ended | Three Months Ended |
Year Ended | ||||||||||||
November 30, 2013 | February 28, 2013 | November 30, 2012 | ||||||||||||
Securities Purchased Under Agreements to Resell |
||||||||||||||
Period end |
$ | 3,747 | $ | 3,578 | $ | 3,358 | ||||||||
Month end average |
4,936 | 5,132 | 4,890 | |||||||||||
Maximum month end |
6,007 | 6,288 | 6,638 | |||||||||||
Securities Sold Under Agreements to Repurchase |
||||||||||||||
Period end |
$ | 10,780 | $ | 7,976 | $ | 8,181 | ||||||||
Month end average |
13,308 | 11,895 | 11,380 | |||||||||||
Maximum month end |
16,502 | 15,168 | 15,035 |
Fluctuations in the balance of our repurchase agreements from period to period and intraperiod are dependent on business activity in those periods. Additionally, the fluctuations in the balances of our securities purchased under agreements to resell over the periods presented are influenced in any given period by our clients balances and our clients desires to execute collateralized financing arrangements via the repurchase market or via other financing products. Average balances and period end balances will fluctuate based on market and liquidity conditions and we consider the fluctuations intraperiod to be typical for the repurchase market.
39
JEFFERIES GROUP LLC AND SUBSIDIARIES
Leverage Ratios
The following table presents total assets, adjusted assets, total equity, total members equity/common stockholders equity, tangible equity and tangible members/common stockholders equity with the resulting leverage ratios as of November 30, 2013 and 2012 (in thousands):
Successor | Predecessor | |||||||||||
November 30, 2013 |
November 30, 2012 |
|||||||||||
Total assets |
$ | 40,176,996 | $ | 36,293,541 | ||||||||
Deduct: |
Securities borrowed |
(5,359,846) | (5,094,679) | |||||||||
Securities purchased under agreements to resell |
(3,746,920) | (3,357,602) | ||||||||||
Add: |
Financial instruments sold, not yet purchased |
7,271,613 | 7,455,463 | |||||||||
Less derivative liabilities |
(180,079) | (242,087) | ||||||||||
|
|
|
|
|||||||||
Subtotal |
7,091,534 | 7,213,376 | ||||||||||
Deduct: |
Cash and securities segregated and on deposit for regulatory purposes or deposited with clearing and depository organizations |
(3,616,602) | (4,082,595) | |||||||||
Goodwill and intangible assets |
(1,986,436) | (380,929) | ||||||||||
|
|
|
|
|||||||||
Adjusted assets |
$ | 32,558,726 | $ | 30,591,112 | ||||||||
|
|
|
|
|||||||||
Total equity |
$ | 5,421,674 | $ | 3,782,753 | ||||||||
Deduct: |
Goodwill and intangible assets |
(1,986,436) | (380,929) | |||||||||
|
|
|
|
|||||||||
Tangible equity |
$ | 3,435,238 | $ | 3,401,824 | ||||||||
|
|
|
|
|||||||||
Total members/ common stockholders equity |
$ | 5,304,520 | $ | 3,436,015 | ||||||||
Deduct: |
Goodwill and intangible assets |
(1,986,436) | (380,929) | |||||||||
|
|
|
|
|||||||||
Tangible members/ common stockholders equity |
$ | 3,318,084 | $ | 3,055,086 | ||||||||
|
|
|
|
|||||||||
Leverage ratio (1) |
7.4 | 9.6 | ||||||||||
|
|
|
|
|||||||||
Tangible leverage ratio (2) |
11.5 | 11.8 | ||||||||||
|
|
|
|
|||||||||
Leverage ratio - excluding merger impacts (3) |
9.3 | N/A | ||||||||||
|
|
|
|
|||||||||
Adjusted leverage ratio (4) |
9.5 | 9.0 | ||||||||||
|
|
|
|
1) | Leverage ratio equals total assets divided by total equity. |
2) | Tangible gross leverage ratio (a non-GAAP financial measure) equals total assets less goodwill and identifiable intangible assets divided by tangible members/common stockholders equity. The tangible gross leverage ratio is used by Rating Agencies in assessing our leverage ratio. |
3) | Leverage ratio - excluding merger impacts (a non-GAAP financial measure) equals total assets less the increase in goodwill and asset fair values in acquisition accounting of $1,957 million less amortization of $27 million during the period since the merger with Leucadia on assets recognized at fair value in acquisition accounting divided by the sum of total equity less $1,301 million, being the increase in equity arising from merger consideration of $1,426 million excluding the $125 million attributable to the assumption of our preferred stock by Leucadia, and less the impact on equity due to amortization of $25 million on assets and liabilities recognized at fair value in acquisition accounting. |
4) | Adjusted leverage ratio (a non-GAAP financial measure) equals adjusted assets divided by tangible total equity. |
Adjusted assets is a non-GAAP financial measure and excludes certain assets that are considered of lower risk as they are generally self-financed by customer liabilities through our securities lending activities. We view the resulting measure of adjusted leverage, also a non-GAAP financial measure, as a more relevant measure of financial risk when comparing financial services companies.
Liquidity Management
The key objectives of the liquidity management framework are to support the successful execution of our business strategies while ensuring sufficient liquidity through the business cycle and during periods of financial distress. Our liquidity management policies are designed to mitigate the potential risk that we may be unable to access adequate financing to service our financial obligations without material franchise or business impact.
40
JEFFERIES GROUP LLC AND SUBSIDIARIES
The principal elements of our liquidity management framework are our Contingency Funding Plan, our Cash Capital Policy and our assessment of Maximum Liquidity Outflow.
Contingency Funding Plan. Our Contingency Funding Plan is based on a model of a potential liquidity contraction over a one year time period. This incorporates potential cash outflows during a liquidity stress event, including, but not limited to, the following: (a) repayment of all unsecured debt maturing within one year and no incremental unsecured debt issuance; (b) maturity rolloff of outstanding letters of credit with no further issuance and replacement with cash collateral; (c) higher margin requirements than currently exist on assets on securities financing activity, including repurchase agreements; (d) liquidity outflows related to possible credit downgrade; (e) lower availability of secured funding; (f) client cash withdrawals; (g) the anticipated funding of outstanding investment and loan commitments; and (h) certain accrued expenses and other liabilities and fixed costs.
Cash Capital Policy. We maintain a cash capital model that measures long-term funding sources against requirements. Sources of cash capital include our equity, preferred stock and the noncurrent portion of long-term borrowings. Uses of cash capital include the following: (a) illiquid assets such as equipment, goodwill, net intangible assets, exchange memberships, deferred tax assets and certain investments; (b) a portion of securities inventory that is not expected to be financed on a secured basis in a credit stressed environment (i.e., margin requirements) and (c) drawdowns of unfunded commitments. To ensure that we do not need to liquidate inventory in the event of a funding crisis, we seek to maintain surplus cash capital, which is reflected in the leverage ratios we maintain. Our total capital of $11.2 billion as of November 30, 2013 exceeded our cash capital requirements.
Maximum Liquidity Outflow. Our businesses are diverse, and our liquidity needs are determined by many factors, including market movements, collateral requirements and client commitments, all of which can change dramatically in a difficult funding environment. During a liquidity crisis, credit-sensitive funding, including unsecured debt and some types of secured financing agreements, may be unavailable, and the terms (e.g., interest rates, collateral provisions and tenor) or availability of other types of secured financing may change. As a result of our policy to ensure we have sufficient funds to cover what we estimate may be needed in a liquidity crisis, we hold more cash and unencumbered securities and have greater long-term debt balances than our businesses would otherwise require. As part of this estimation process, we calculate a Maximum Liquidity Outflow that could be experienced in a liquidity crisis. Maximum Liquidity Outflow is based on a scenario that includes both a market-wide stress and firm-specific stress, characterized by some or all of the following elements:
| Global recession, default by a medium-sized sovereign, low consumer and corporate confidence, and general financial instability. |
| Severely challenged market environment with material declines in equity markets and widening of credit spreads. |
| Damaging follow-on impacts to financial institutions leading to the failure of a large bank. |
| A firm-specific crisis potentially triggered by material losses, reputational damage, litigation, executive departure, and/or a ratings downgrade. |
The following are the critical modeling parameters of the Maximum Liquidity Outflow:
| Liquidity needs over a 30-day scenario. |
| A two-notch downgrade of our long-term senior unsecured credit ratings. |
| No support from government funding facilities. |
| A combination of contractual outflows, such as upcoming maturities of unsecured debt, and contingent outflows (e.g., actions though not contractually required, we may deem necessary in a crisis). We assume that most contingent outflows will occur within the initial days and weeks of a crisis. |
| No diversification benefit across liquidity risks. We assume that liquidity risks are additive. |
The calculation of our Maximum Liquidity Outflow under the above stresses and modeling parameters considers the following potential contractual and contingent cash and collateral outflows:
| All upcoming maturities of unsecured long-term debt, commercial paper, promissory notes and other unsecured funding products assuming we will be unable to issue new unsecured debt or rollover any maturing debt. |
41
JEFFERIES GROUP LLC AND SUBSIDIARIES
| Repurchases of our outstanding long-term debt in the ordinary course of business as a market maker. |
| A portion of upcoming contractual maturities of secured funding trades due to either the inability to refinance or the ability to refinance only at wider haircuts (i.e., on terms which require us to post additional collateral). Our assumptions reflect, among other factors, the quality of the underlying collateral and counterparty concentration. |
| Collateral postings to counterparties due to adverse changes in the value of our OTC derivatives and other outflows due to trade terminations, collateral substitutions, collateral disputes, collateral calls or termination payments required by a two-notch downgrade in our credit ratings. |
| Variation margin postings required due to adverse changes in the value of our outstanding exchange-traded derivatives and any increase in initial margin and guarantee fund requirements by derivative clearing houses. |
| Liquidity outflows associated with our prime brokerage business, including withdrawals of customer credit balances, and a reduction in customer short positions. |
| Liquidity outflows to clearing banks to ensure timely settlements of cash and securities transactions. |
| Draws on our unfunded commitments considering, among other things, the type of commitment and counterparty. |
| Other upcoming large cash outflows, such as tax payments. |
Based on the sources and uses of liquidity calculated under the Maximum Liquidity Outflow scenarios we determine, based on a calculated surplus or deficit, additional long-term funding that may be needed versus funding through the repurchase financing market and consider any adjustments that may be necessary to our inventory balances and cash holdings. At November 30, 2013, we have sufficient excess liquidity to meet all contingent cash outflows detailed in the Maximum Liquidity Outflow. We regularly refine our model to reflect changes in market or economic conditions and the firms business mix.
Sources of Liquidity
The following are financial instruments that are cash and cash equivalents or are deemed by management to be generally readily convertible into cash, marginable or accessible for liquidity purposes within a relatively short period of time (in thousands):
Successor | Predecessor | |||||||||||||
November 30, 2013 |
Average balance Quarter ended November 30, 2013 |
November 30, 2012 |
||||||||||||
Cash and cash equivalents: |
||||||||||||||
Cash in banks |
$ | 880,443 | $ | 713,627 | $ | 1,038,664 | ||||||||
Money market investments |
2,680,676 | 2,062,773 | 1,653,931 | |||||||||||
|
|
|
|
|
|
|||||||||
Total cash and cash equivalents |
3,561,119 | 2,776,400 | 2,692,595 | |||||||||||
|
|
|
|
|
|
|||||||||
Other sources of liquidity: |
||||||||||||||
Debt securities owned and securities purchased under agreements to resell (2) |
1,316,867 | 1,044,222 | 1,307,378 | |||||||||||
Other (3) |
403,738 | 647,078 | 423,735 | |||||||||||
|
|
|
|
|
|
|||||||||
Total other sources |
1,720,605 | 1,691,300 | 1,731,113 | |||||||||||
|
|
|
|
|
|
|||||||||
Total cash and cash equivalents and other liquidity sources |
$ | 5,281,724 | $ | 4,467,700 | $ | 4,423,708 | ||||||||
|
|
|
|
|
|
|||||||||
Total cash and cash equivalents and other liquidity sources as % of Total Assets |
13.1% | 12.2% | ||||||||||||
Total cash and cash equivalents and other liquidity sources as % of Total Assets less Goodwill and Intangibles |
13.8% | 12.3% |
(1) | Average balances are calculated based on weekly balances. |
(2) | Consists of high quality sovereign government securities and reverse repurchase agreements collateralized by U.S. government securities and other high quality sovereign government securities; deposits with a central bank within the European Economic Area, Canada, Australia, Japan, Switzerland or the USA; and securities issued by a designated multilateral development bank and reverse repurchase agreements with underlying collateral comprised of these securities. |
42
JEFFERIES GROUP LLC AND SUBSIDIARIES
(3) | Other includes unencumbered inventory representing an estimate of the amount of additional secured financing that could be reasonably expected to be obtained from our financial instruments owned that are currently not pledged after considering reasonable financing haircuts and additional funds available under the committed senior secured revolving credit facility available for working capital needs of Jefferies Bache. |
In addition to the cash balances and liquidity pool presented above, the majority of financial instruments (both long and short) in our trading accounts are actively traded and readily marketable. As of November 30, 2013, we have the ability to readily obtain repurchase financing for 73% of our inventory at haircuts of 10% or less, which reflects the liquidity of our inventory. We continually assess the liquidity of our inventory based on the level at which we could obtain financing in the market place for a given asset. Assets are considered to be liquid if financing can be obtained in the repurchase market or the securities lending market at collateral haircut levels of 10% or less. The following summarizes our financial instruments by asset class that we consider to be of a liquid nature and the amount of such assets that have not been pledged as collateral at November 30, 2013 and 2012 (in thousands):
Successor | Predecessor | |||||||||||||||||
November 30, 2013 | November 30, 2012 | |||||||||||||||||
Liquid Financial Instruments |
Unencumbered Liquid Financial Instruments (2) |
Liquid Financial Instruments |
Unencumbered Liquid Financial Instruments (2) |
|||||||||||||||
Corporate equity securities |
$ | 1,982,877 | $ | 137,721 | $ | 1,745,960 | $ | 426,401 | ||||||||||
Corporate debt securities |
2,250,512 | 26,983 | 2,292,823 | 61,303 | ||||||||||||||
U.S. Government, agency and municipal securities |
2,513,388 | 400,821 | 2,114,768 | 57,681 | ||||||||||||||
Other sovereign obligations |
2,346,485 | 991,774 | 2,681,457 | 269,475 | ||||||||||||||
Agency mortgage-backed securities (1) |
2,976,133 | - | 4,052,289 | - | ||||||||||||||
Physical commodities |
37,888 | - | 144,016 | - | ||||||||||||||
|
|
|
|
|
|
|
|
|||||||||||
$ | 12,107,283 | $ | 1,557,299 | $ | 13,031,313 | $ | 814,860 | |||||||||||
|
|
|
|
|
|
|
|
(1) | Consists solely of agency mortgage-backed securities issued by Freddie Mac, Fannie Mae and Ginnie Mae. These securities include pass-through securities, securities backed by adjustable rate mortgages (ARMs), collateralized mortgage obligations, commercial mortgage-backed securities and interest- and principal-only securities. |
(2) | Unencumbered liquid balances represent assets that can be sold or used as collateral for a loan, but have not been. |
Average liquid financial instruments for the three and twelve months ended November 30, 2013 were $15.7 billion and $16.1 billion and for the three and twelve months ended 2012 were approximately $16.9 billion and $17.4 billion, respectively.
In addition to being able to be readily financed at modest haircut levels, we estimate that each of the individual securities within each asset class above could be sold into the market and converted into cash within three business days under normal market conditions, assuming that the entire portfolio of a given asset class was not simultaneously liquidated. There are no restrictions on the unencumbered liquid securities, nor have they been pledged as collateral.
Sources of Funding and Capital Resources
Our assets are funded by equity capital, senior debt, convertible debt, mandatorily redeemable convertible preferred stock, mandatorily redeemable preferred interests, securities loaned, securities sold under agreements to repurchase, customer free credit balances, bank loans and other payables.
Secured Financing
We rely principally on readily available secured funding to finance our inventory of financial instruments. Our ability to support increases in total assets is largely a function of our ability to obtain short and intermediate-term
43
JEFFERIES GROUP LLC AND SUBSIDIARIES
secured funding, primarily through securities financing transactions. We finance a portion of our long inventory and cover some of our short inventory by pledging and borrowing securities in the form of repurchase or reverse repurchase agreements (collectively repos), respectively. Approximately 84% of our repurchase financing activities use collateral that is considered eligible collateral by central clearing corporations. Central clearing corporations are situated between participating members who borrow cash and lend securities (or vice versa); accordingly repo participants contract with the central clearing corporation and not one another individually. Therefore, counterparty credit risk is borne by the central clearing corporation which mitigates the risk through initial margin demands and variation margin calls from repo participants. The comparatively large proportion of our total repo activity that is eligible for central clearing reflects the high quality and liquid composition of the inventory we carry in our trading books. The tenor of our repurchase and reverse repurchase agreements generally exceeds the expected holding period of the assets we are financing.
A significant portion of our financing of European Sovereign inventory is executed using central clearinghouse financing arrangements rather than via bi-lateral arrangements repo agreements. For those asset classes not eligible for central clearinghouse financing, we seek to execute our bi-lateral financings on an extended term basis.
In addition to the above financing arrangements, in November 2012, we initiated a program whereby we issue notes backed by eligible collateral under a master repurchase agreement, which provides an additional financing source for our inventory (our repurchase agreement financing program). At November 30, 2013, the outstanding amount of the notes issued under the program was $195.0 million in aggregate, which is presented within Other secured financings on the Consolidated Statement of Financial Condition. Of the $195.0 million aggregate notes, $75.0 million matures in December 2013, $60.0 million matures in November 2014 and $60.0 million matures in February 2015, bearing interest at a spread over one month LIBOR. For additional discussion on the program, refer to Note 11, Variable Interest Entities, in our consolidated financial statements.
Weighted average maturity of repurchase agreements for non-clearing corporation eligible funded inventory is approximately four months at November 30, 2013. Our ability to finance our inventory via central clearinghouses and bi-lateral arrangements is augmented by our ability to draw bank loans on an uncommitted basis under our various banking arrangements. As of November 30, 2013, short-term borrowings as bank loans totaled $12.0 million. Interest under the bank lines is generally at a spread over the federal funds rate. Letters of credit are used in the normal course of business mostly to satisfy various collateral requirements in favor of exchanges in lieu of depositing cash or securities. Average daily bank loans for the nine months ended November 30, 2013 and year ended November 30, 2012 were $43.3 million and $66.4 million, respectively.
Total Capital
We had total long-term capital of $11.2 billion and $8.7 billion resulting in a long-term debt to equity capital ratio of 1.07:1 and 1.30:1 at November 30, 2013 and 2012, respectively. Our total capital base as of November 30, 2013 and 2012 was as follows (in thousands):
Successor | Predecessor | |||||||
November 30, 2013 |
November 30, 2012 |
|||||||
Long-Term Debt (1) |
$ | 5,777,130 | $ | 4,454,600 | ||||
Mandatorily Redeemable Convertible Preferred Stock |
- | 125,000 | ||||||
Mandatorily Redeemable Preferred Interest of Consolidated Subsidiaries |
- | 348,051 | ||||||
Total Equity |
5,421,674 | 3,782,753 | ||||||
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|
|
|
|||||
Total Capital |
$ | 11,198,804 | $ | 8,710,404 | ||||
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|
(1) | Long-term debt for purposes of evaluating long-term capital at November 30, 2013 and 2012 excludes $200.0 million and $350.0 million, respectively, of our outstanding borrowings under our long-term revolving Credit Facility and excludes $255.7 million of our 5.875% Senior Notes as of November 30, 2013 as the notes mature in less than one year from November 30, 2013. |
44
JEFFERIES GROUP LLC AND SUBSIDIARIES
As part of the Merger, our outstanding mandatorily redeemable convertible preferred stock was exchanged for a newly created comparable series of convertible preferred stock that is now issued by Leucadia. This exchange and assumption of convertible preferred stock is considered a part of Leucadias purchase consideration and therefore results in additional members equity of Jefferies Group LLC subsequent to the merger. In addition, at November 30, 2012, total equity includes noncontrolling interests in our high yield joint venture of $338.4 million which, on March 1, 2013, was redeemed for $347.6 million, the value at February 28, 2013. Cash redemption payments were made in April and November 2013 and did not have a significant impact on our liquidity. Also, as of April 1, 2013, the mandatorily redeemable preferred interests of consolidated subsidiaries of $362.3 million were redeemed and subsequently contributed to us by Leucadia as members equity of Jefferies Group LLC.
Long-Term Debt
On January 15, 2013, we issued $1.0 billion in new senior unsecured long-term debt, comprising $600.0 million principal amount 5.125% Senior Notes, due 2023 and $400.0 million principal amount 6.5% Senior Notes, due 2043, for which we received proceeds of $987.3 million, in aggregate. On July 13, 2012, under our Euro Medium Term Note Program we issued senior unsecured notes with a principal amount of 4.0 million which bear interest at 2.25% per annum and mature on July 13, 2022. Proceeds net of original issue discount amounted to 2.8 million. In addition, on April 19, 2012, we issued an additional $200.0 million aggregate principal amount of our 6.875% Senior Notes due April 15, 2021. Proceeds before underwriting discount and expenses amounted to $197.7 million. The total aggregate principal amount issued under this series of notes including the add-on is $750.0 million.
On August 26, 2011, we entered into a committed senior secured revolving credit facility (Credit Facility) with a group of commercial banks in Dollars, Euros and Sterling, for an aggregate committed amount of $950.0 million with availability subject to one or more borrowing bases and of which $250.0 million can be borrowed by Jefferies Bache Limited without a borrowing base requirement. The borrowers under the Credit Facility are Jefferies Bache Financial Services, Inc., Jefferies Bache, LLC and Jefferies Bache Limited. At November 30, 2013 and 2012, we had borrowings outstanding under the Credit Facility amounting to $200.0 million and $350.0 million, respectively.
The Credit Facility terminates on August 26, 2014. Interest is based on the Federal funds rate or, in the case of Euro and Sterling borrowings, the Euro Interbank Offered Rate and the London Interbank Offered Rate, respectively. The Credit Facility is guaranteed by Jefferies Group LLC and contains financial covenants that, among other things, imposes restrictions on future indebtedness of our subsidiaries, requires Jefferies Group LLC to maintain specified level of tangible net worth and liquidity amounts, and requires certain of our subsidiaries to maintain specified levels of regulated capital. On a monthly basis we provide a certificate to the Administrative Agent of the Credit Facility as to the maintenance of various financial covenant ratios at all times during the preceding month. At November 30, 2013 and 2012, the minimum tangible net worth requirement was $2,564.0 million and $2,200.0 million, respectively and the minimum liquidity requirement was $532.8 million and $400.8 million, respectively for which we were in compliance. Throughout the period, no instances of noncompliance with the Credit Facility occurred and we expect to remain in compliance given our current liquidity, anticipated additional funding requirements given our business plan and profitability expectations. While our subsidiaries are restricted under the Credit Facility from incurring additional indebtedness beyond trade payable and derivative liabilities in the normal course of business, we do not believe that these restrictions will have a negative impact on our liquidity.
Our U.S. broker-dealer, from time to time, makes a market in our long-term debt securities (i.e., purchases and sells our long-term debt securities). During November and December 2011, there was extreme volatility in the price of our debt and a significant amount of secondary trading volume through our market-making desk. Given the volume of activity and significant price volatility, purchases and sales of our debt were treated as debt extinguishment and debt reissuance, respectively. We recognized a gain of $9.9 million and $20.2 million on debt extinguishment which is reported in Other revenues for the years ended November 30, 2012 and 2011, respectively. The balance of Long-term debt was reduced by $37.1 million as a result of the repurchase and subsequent reissuance of our debt below par during November and December 2011, which was being amortized over the remaining life of the debt using the effective yield method. The unamortized balance at November 30, 2012 amounted to $32.2 million and the residual unamortized balance of $30.9 million at February 28, 2013, was reduced to $-0- on March 1, 2013 by application of the acquisition method of accounting.
45
JEFFERIES GROUP LLC AND SUBSIDIARIES
As of November 30, 2013, our long-term debt, excluding the Credit Facility, has an average maturity exceeding 8 years. Our next scheduled maturity is the $250.0 million 5.875% Senior Notes that mature in June 2014.
Our long-term debt ratings as of November 30, 2013 are as follows:
Rating | Outlook | |||
Moodys Investors Service |
Baa3 | Stable | ||
Standard and Poors |
BBB | Stable | ||
Fitch Ratings |
BBB- | Stable |
We rely upon our cash holdings and external sources to finance a significant portion of our day to day operations. Access to these external sources, as well as the cost of that financing, is dependent upon various factors, including our debt ratings. Our current debt ratings are dependent upon many factors, including industry dynamics, operating and economic environment, operating results, operating margins, earnings trend and volatility, balance sheet composition, liquidity and liquidity management, our capital structure, our overall risk management, business diversification and our market share and competitive position in the markets in which we operate. Deteriorations in any of these factors could impact our credit ratings. While certain aspects of a credit rating downgrade are quantifiable pursuant to contractual provisions, the impact on our business and trading results in future periods is inherently uncertain and depends on a number of factors, including the magnitude of the downgrade, the behavior of individual clients and future mitigating action taken by us.
In connection with certain over-the-counter derivative contract arrangements and certain other trading arrangements, we may be required to provide additional collateral to counterparties, exchanges and clearing organizations in the event of a credit rating downgrade. At November 30, 2013, the amount of additional collateral that could be called by counterparties, exchanges and clearing organizations under the terms of such agreements in the event of a downgrade of our long-term credit rating below investment grade was $89.2 million. For certain foreign clearing organizations credit rating is only one of several factors employed in determining collateral that could be called. The above represents managements best estimate for additional collateral to be called in the event of credit rating downgrade. The impact of additional collateral requirements are considered in our Contingency Funding Plan and calculation of Maximum Liquidity Outflow, as described above.
Mandatorily Redeemable Preferred Interests of Consolidated Subsidiaries
Mandatorily redeemable preferred interests of $348.1 million at November 30, 2012, represent interests held in JHYH, which are entitled to a pro rata share of the profits and losses of JHYH. On March 31, 2013, Leucadia contributed its mandatorily redeemable preferred interests in JHYH to Jefferies Group LLC as members equity. We subsequently redeemed the remaining mandatorily redeemable preferred interests in JHYH on April 1, 2013. Further, the business activities of our high yield joint venture was merged with those of Jefferies (our U.S. broker-dealer) and are no longer conducted as a joint venture.
46
JEFFERIES GROUP LLC AND SUBSIDIARIES
Contractual Obligations and Commitments
The tables below provide information about our commitments related to debt obligations, investments and derivative contracts as of November 30, 2013. The table presents principal cash flows with expected maturity dates (in millions):
Expected Maturity Date | ||||||||||||||||||||||||
2014 | 2015 | 2016 and 2017 |
2018 and 2019 |
2020 and Later |
Total | |||||||||||||||||||
Debt obligations: |
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Unsecured long-term debt (contractual principal payments net of unamortized discounts and premiums) |
$ | 255.7 | $ | 516.2 | $ | 373.2 | $ | 1,712.4 | $ | 3,175.3 | $ | 6,032.8 | ||||||||||||
Senior secured revolving credit facility |
200.0 | - | - | - | - | 200.0 | ||||||||||||||||||
Interest payment obligations on senior notes |
322.4 | 313.6 | 556.8 | 436.4 | 1,443.1 | 3,072.3 | ||||||||||||||||||
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778.1 | 829.8 | 930.0 | 2,148.8 | 4,618.4 | 9,305.1 | |||||||||||||||||||
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Commitments and guarantees: |
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Equity commitments |
1.8 | 7.4 | 0.8 | - | 418.2 | 428.2 | ||||||||||||||||||
Loan commitments |
33.2 | 19.0 | 322.6 | 92.8 | - | 467.6 | ||||||||||||||||||
Mortgage-related commitments |
819.9 | 492.9 | 202.8 | - | - | 1,515.6 | ||||||||||||||||||
Forward starting reverse repos and repos |
702.3 | - | - | - | - | 702.3 | ||||||||||||||||||
Derivative contracts (1): |
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Derivative contracts - non credit related |
841,439.9 | 4,695.2 | 14.7 | 1.2 | 532.4 | 846,683.4 | ||||||||||||||||||
Derivative contracts - credit related |
- | - | - | 2,708.1 | - | 2,708.1 | ||||||||||||||||||
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842,997.1 | 5,214.5 | 540.9 | 2,802.1 | 950.6 | 852,505.2 | |||||||||||||||||||
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$ | 843,775.2 | $ | 6,044.3 | $ | 1,470.9 | $ | 4,950.9 | $ | 5,569.0 | $ | 861,810.3 | |||||||||||||
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(1) | Certain of our derivative contracts meet the definition of a guarantee and are therefore included in the above table. For additional information on commitments, see Note 22, Commitments, Contingencies and Guarantees, in our consolidated financial statements. |
As lessee, we lease certain premises and equipment under noncancelable agreements expiring at various dates through 2029 which are operating leases. At November 30, 2013, future minimum aggregate lease payments for all noncancelable operating leases for fiscal years ended November 30, 2014 through 2018 and the aggregate amount thereafter, are as follows (in thousands):
Gross | Subleases | Net | ||||||||||||
2014 |
$ | 69,823 | $ | 5,283 | $ | 64,540 | ||||||||
2015 |
53,774 | 2,639 | 51,135 | |||||||||||
2016 |
58,273 | 2,493 | 55,780 | |||||||||||
2017 |
56,505 | 577 | 55,928 | |||||||||||
2018 |
54,004 | 23 | 53,981 | |||||||||||
Thereafter |
446,106 | - | 446,106 | |||||||||||
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$ | 738,485 | $ | 11,015 | $ | 727,470 | |||||||||
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47
JEFFERIES GROUP LLC AND SUBSIDIARIES
During 2012, we entered into a master sale and leaseback agreement under which we sold and have leased back existing and additional new equipment supplied by the lessor. The lease may be terminated on September 30, 2017 for a termination cost of the present value of the remaining lease payments plus a residual value. If not terminated early, the lease term is approximately five years from the start of the supply of new and additional equipment, which commenced on various dates in 2013 and continues into 2014. Minimum future lease payments are as follows (in thousands):
Fiscal Year |
||||||
2014 |
$ |
3,887 | ||||
2015 |
3,887 | |||||
2016 |
3,887 | |||||
2017 |
3,887 | |||||
2018 |
1,583 | |||||
Thereafter |
167 | |||||
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|
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Net minimum lease payments |
17,298 | |||||
Less amount representing interest |
|
1,508
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| |||
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Present value of net minimum lease payments |
$ |
15,790 | ||||
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Certain of our derivative contracts meet the definition of a guarantee and are therefore included in the above table. For additional information on commitments, see Note 22, Commitments, Contingencies and Guarantees, in our consolidated financial statements.
In the normal course of business we engage in other off balance sheet arrangements, including derivative contracts. Neither derivatives notional amounts nor underlying instrument values are reflected as assets or liabilities in our Consolidated Statements of Financial Condition. Rather, the fair value of derivative contracts are reported in the Consolidated Statements of Financial Condition as Financial instruments owned derivative contracts or Financial instruments sold, not yet purchased derivative contracts as applicable. Derivative contracts are reflected net of cash paid or received pursuant to credit support agreements and are reported on a net by counterparty basis when a legal right of offset exists under an enforceable master netting agreement. For additional information about our accounting policies and our derivative activities see Note 2, Summary of Significant Accounting Policies, Note 7, Fair Value Disclosures, and Note 8, Derivative Financial Instruments, in our consolidated financial statements.
We are routinely involved with variable interest entities (VIEs) in connection with our mortgage-backed securities securitization activities. VIEs are entities in which equity investors lack the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support. VIEs are consolidated by the primary beneficiary. The primary beneficiary is the party who has the power to direct the activities of a variable interest entity that most significantly impact the entitys economic performance and who has an obligation to absorb losses of the entity or a right to receive benefits from the entity that could potentially be significant to the entity. Where we are the primary beneficiary of a VIE, we consolidate the VIE. We do not generally consolidate the various VIEs related to our mortgage-backed securities securitization activities because we are not the primary beneficiary.
At November 30, 2013, we did not have any commitments to purchase assets from our securitization vehicles. At November 30, 2013, we held $387.1 million of mortgage-backed securities issued by VIEs for which we were initially involved as transferor and placement agent, which are accounted for at fair value and recorded within Financial instruments owned on our Consolidated Statement of Financial Condition in the same manner as our other financial instruments. For additional information regarding our involvement with VIEs, see Note 10, Securitization Activities and Note 11, Variable Interest Entities, in our consolidated financial statements.
We expect to make cash payments of $576.3 million on January 31, 2014 related to compensation awards for fiscal 2013.
Due to the uncertainty regarding the timing and amounts that will ultimately be paid, our liability for unrecognized tax benefits has been excluded from the above contractual obligations table. See Note 21, Income Taxes, in our consolidated financial statements for further information.
Equity Capital
On March 1, 2013, all of the outstanding common shares of Jefferies Group LLC were exchanged for shares of Leucadia and Jefferies Group LLC became wholly-owned by Leucadia with Leucadia as the sole equity owner of Jefferies Group LLC. The aggregate purchase price was approximately $4.8 billion and therefore, as a result of the merger, our members equity capital approximated $4.8 billion upon consummation. Further, we do not anticipate making distributions in the future.
48
JEFFERIES GROUP LLC AND SUBSIDIARIES
As compared to March 1, 2013, the increase to total members equity is attributed to net earnings, the contribution by Leucadia of it mandatorily redeemable preferred interests in consolidated subsidiaries as members equity and foreign currency translation adjustments to Accumulated other comprehensive income.
The following table sets for the declaration dates, record dates, payment dates and per common share amounts for the dividends declared during the periods ended three months ended February 28, 2013 and the year ended November 30, 2012:
Declaration Date | Record Date | Payment Date | Dividend per common share | |||
Three months ended February 28, 2013: |
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December 6, 2012 |
December 21, 2012 | December 31, 2012 | $0.075 | |||
Year ended November 30, 2012: |
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December 19, 2011 |
January 17, 2012 | February 15, 2012 | $0.075 | |||
March 19, 2012 |
April 16, 2012 | May 15, 2012 | $0.075 | |||
June 18, 2012 |
July 16, 2012 | August 15, 2012 | $0.075 | |||
September 19, 2012 |
October 15, 2012 | November 15, 2012 | $0.075 |
Net Capital
As broker-dealers registered with the SEC and member firms of the Financial Industry Regulatory Authority (FINRA), Jefferies and Jefferies Execution are subject to the Securities and Exchange Commission Uniform Net Capital Rule (Rule 15c3-1), which requires the maintenance of minimum net capital and which may limit distributions from the broker-dealers. Jefferies and Jefferies Execution have elected to calculate minimum capital requirements using the alternative method permitted by Rule 15c3-1 in calculating net capital. Additionally, Jefferies Bache, LLC is registered as a Futures Commission Merchant and is subject to Rule 1.17 of the Commodities Futures Trading Commission (CFTC). Our designated self-regulatory organization is FINRA for our U.S. broker-dealers and the Chicago Mercantile Exchange for Jefferies Bache, LLC.
As of November 30, 2013, Jefferies, Jefferies Execution and Jefferies Bache, LLCs net capital, adjusted net capital, and excess net capital were as follows (in thousands):
Net Capital | Excess Net Capital | |||||||||||
Jefferies |
$ |
891,487 | $ | 841,539 | ||||||||
Jefferies Execution |
4,487 | 4,237 | ||||||||||
Adjusted Net Capital | Excess Net Capital | |||||||||||
Jefferies Bache, LLC |
$ |
197,957 | $ | 86,293 |
Certain other U.S. and non-U.S. subsidiaries are subject to capital adequacy requirements as prescribed by the regulatory authorities in their respective jurisdictions, including Jefferies International Limited and Jefferies Bache Limited which are subject to the regulatory supervision and requirements of the Financial Conduct Authority in the United Kingdom. The Dodd-Frank Wall Street Reform and Consumer Protection Act (the Dodd-Frank Act) was signed into law on July 21, 2010. The Dodd-Frank Act contains provisions that require the registration of all swap dealers, major swap participants, security-based swap dealers, and/or major security-based swap participants. While entities that register under these provisions will be subject to regulatory capital requirements, these regulatory capital requirements have not yet been finalized. We expect that these provisions will result in modifications to the regulatory capital requirements of some of our entities, and will result in some of our other entities becoming subject to regulatory capital requirements for the first time, including Jefferies Derivative Products, Inc. and Jefferies Bache Financial Services, Inc., which registered as swap dealers with the CFTC during January 2013.
49
JEFFERIES GROUP LLC AND SUBSIDIARIES
The regulatory capital requirements referred to above may restrict our ability to withdraw capital from our subsidiaries.
Risk Management
Risk is an inherent part of our business and activities. The extent to which we properly and effectively identify, assess, monitor and manage each of the various types of risk involved in our activities is critical to our financial soundness, viability and profitability. Accordingly, we have a comprehensive risk management approach, with a formal governance structure and processes to identify, assess, monitor and manage risk. Principal risks involved in our business activities include market, credit, liquidity and capital, operational, legal and compliance, new business, and reputational risk.
Risk management is a multifaceted process that requires communication, judgment and knowledge of financial products and markets. Accordingly, our risk management process encompasses the active involvement of executive and senior management, and also many departments independent of the revenue-producing business units, including the Risk Management, Operations, Compliance, Legal and Finance Departments. Our risk management policies, procedures and methodologies are fluid in nature and are subject to ongoing review and modification.
For discussion of liquidity and capital risk management refer to, Liquidity, Financial Condition and Capital Resources within Item 7. Managements Discussion and Analysis in this Annual Report on Form 10-K.
Governance and Risk Management Structure
Our Board of Directors Our Board of Directors and its Audit Committee play an important role in reviewing our risk management process and risk tolerance. Our Board of Directors and Audit Committee are provided with data relating to risk at each of its regularly scheduled meetings. Our Chief Risk Officer and Global Treasurer meet with the Board of Directors on not less than a quarterly basis to present our risk profile and liquidity profile and to respond to questions.
Risk Committees We make extensive use of internal committees to govern risk taking and ensure that business activities are properly identified, assessed, monitored and managed. Our Risk Management Committee meets weekly to discuss our risk, capital, and liquidity profile in detail. In addition, business or market trends and their potential impact on the risk profile are discussed. Membership is comprised of our Chief Executive Officer and Chairman, Chairman of the Executive Committee, Chief Financial Officer, Chief Risk Officer and Global Treasurer. The Committee approves limits for us as a whole, and across risk categories and business lines. It also reviews all limit breaches. Limits are reviewed on at least an annual basis. Other risk related committees include Market Risk Management, Credit Risk Management, New Business, Underwriting Acceptance, Margin Oversight, Executive Management and Operating Committees. These Committees govern risk taking and ensure that business activities are properly managed for their area of oversight.
Risk Related Policies We make use of various policies in the risk management process:
| Market Risk Policy- This policy sets out roles, responsibilities, processes and escalation procedures regarding market risk management. |
| Independent Price Verification Policy- This policy sets out roles, responsibilities, processes and escalation procedures regarding independent price verification for securities and other financial instruments. |
| Operational Risk Policy- This policy sets out roles, responsibilities, processes and escalation procedures regarding operational risk management. |
| Credit Risk Policy- This policy provides standards and controls for credit risk-taking throughout our global business activities. This policy also governs credit limit methodology and counterparty review. |
50
JEFFERIES GROUP LLC AND SUBSIDIARIES
Risk Management Key Metrics
We apply a comprehensive framework of limits on a variety of key metrics to constrain the risk profile of our business activities. The size of the limit reflects our risk tolerance for a certain activity under normal business conditions. Key metrics included in our framework include inventory position and exposure limits on a gross and net basis, scenario analysis and stress tests, Value-at-Risk, sensitivities (greeks), exposure concentrations, aged inventory, amount of Level 3 assets, counterparty exposure, leverage, cash capital, and performance analysis metrics.
Market Risk
The potential for changes in the value of financial instruments is referred to as market risk. Our market risk generally represents the risk of loss that may result from a change in the value of a financial instrument as a result of fluctuations in interest rates, credit spreads, equity prices, commodity prices and foreign exchange rates, along with the level of volatility. Interest rate risks result primarily from exposure to changes in the yield curve, the volatility of interest rates, and credit spreads. Equity price risks result from exposure to changes in prices and volatilities of individual equities, equity baskets and equity indices. Commodity price risks result from exposure to the changes in prices and volatilities of individual commodities, commodity baskets and commodity indices. Market risk arises from market making, proprietary trading, underwriting, specialist and investing activities. We seek to manage our exposure to market risk by diversifying exposures, controlling position sizes, and establishing economic hedges in related securities or derivatives. Due to imperfections in correlations, gains and losses can occur even for positions that are hedged. Position limits in trading and inventory accounts are established and monitored on an ongoing basis. Each day, consolidated position and exposure reports are prepared and distributed to various levels of management, which enable management to monitor inventory levels and results of the trading groups.
Value-at-Risk
We estimate Value-at-Risk (VaR) using a model that simulates revenue and loss distributions on substantially all financial instruments by applying historical market changes to the current portfolio. Using the results of this simulation, VaR measures the potential loss in value of our financial instruments over a specified time horizon at a given confidence level. We calculate a one-day VaR using a one year look-back period measured at a 95% confidence level. This implies that, on average, we expect to realize a loss of daily trading net revenue at least as large as the VaR amount on one out of every twenty trading days.
As with all measures of VaR, our estimate has inherent limitations due to the assumption that historical changes in market conditions are representative of the future. Furthermore, the VaR model measures the risk of a current static position over a one-day horizon and might not capture the market risk of positions that cannot be liquidated or offset with hedges in a one-day period. Published VaR results reflect past trading positions while future risk depends on future positions.
While we believe the assumptions and inputs in our risk model are reasonable, we could incur losses greater than the reported VaR because the historical market prices and rates changes may not be an accurate measure of future market events and conditions. Consequently, this VaR estimate is only one of a number of tools we use in our daily risk management activities. When comparing our VaR numbers to those of other firms, it is important to remember that different methodologies and assumptions could produce significantly different results.
The VaR numbers below are shown separately for interest rate, equity, currency and commodity products, as well as for our overall trading positions using the past 365 days of historical date. The aggregated VaR presented here is less than the sum of the individual components (i.e., interest rate risk, foreign exchange rate risk, equity risk and commodity price risk) due to the benefit of diversification among the four risk categories. Diversification benefit equals the difference between aggregated VaR and the sum of VaRs for the four risk categories and arises because the market risk categories are not perfectly correlated. The following table illustrates the VaR for each component of market risk (in millions).
51
JEFFERIES GROUP LLC AND SUBSIDIARIES
Daily VaR (1)
Value-at-Risk In Trading Portfolios
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VaR as of November 30, | Daily VaR for the Year Ended November 30, |
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Risk Categories | 2013 | 2012 | 2013 | 2012 | ||||||||||||||||||||||||||||
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Average | High | Low | Average | High | Low | |||||||||||||||||||||||||||
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Interest Rates |
$ | 7.33 | $ | 5.37 | $ | 5.38 | $ | 9.46 | $ | 3.68 | $ | 6.74 | $ | 13.40 | $ | 4.40 | ||||||||||||||||
Equity Prices |
12.22 | 8.02 | 6.57 | 12.37 | 3.85 | 4.99 | 13.81 | 1.15 | ||||||||||||||||||||||||
Currency Rates |
0.56 | 0.37 | 0.83 | 2.07 | 0.11 | 0.66 | 1.94 | 0.18 | ||||||||||||||||||||||||
Commodity Prices |
0.74 | 0.77 | 0.94 | 1.70 | 0.37 | 1.26 | 2.55 | 0.45 | ||||||||||||||||||||||||
Diversification Effect (2) |
(4.60) | (3.12) | (3.29) | N/A | N/A | (2.99 | ) | N/A | N/A | |||||||||||||||||||||||
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Firmwide |
$ | 16.25 | $ | 11.41 | $ | 10.43 | $ | 16.25 | $ | 6.00 | $ | 10.66 | $ | 17.96 | $ | 5.38 | ||||||||||||||||
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(1) | VaR is the potential loss in value of our trading positions due to adverse market movements over a defined time horizon with a specific confidence level. For the VaR numbers reported above, a one-day time horizon, with a one year look-back period, and a 95% confidence level were used. |
(2) | The diversification effect is not applicable for the maximum and minimum VaR values as the firmwide VaR and the VaR values for the four risk categories might have occurred on different days during the period. |
Our average daily VaR decreased to $10.43 million for the year ended November 30, 2013 from $10.66 million for the year ended November 30, 2012. Excluding our investment in Knight Capital, the average VaR for the year ended November 30, 2013 and 2012 was $10.37 million and $8.75 million, respectively. The decrease is due to decreased interest rates risk resulting from reduced exposure to international sovereign debt and U.S. mortgages and lower volatility in interest rate asset classes. We also saw an increase in the diversification benefit across asset classes. This decrease was partially offset by higher equity price risk driven by increased exposures to strategic equity holdings/corporate actions regarding certain of our equity holdings. Currency rates risk did not change significantly from the comparable 2012 period.
On April 1, 2013, we redeemed the third party noncontrolling interests in our high yield business. The presentation of VaR therefore reflects the full economic interests of this business since the redemption date. This modification to include a full allocation of the high yield trading business in our calculation had no material effect on VaR calculated for the year ended and as of November 30, 2013.
Our average VaR for the three months ended November 30, 2013 increased from the third fiscal quarter primarily from increased equity price risk related to the acquisition of our holding in Harbinger on September 27, 2013.
The chart below reflects our daily VaR over the last four quarters:
52
JEFFERIES GROUP LLC AND SUBSIDIARIES
The primary method used to test the efficacy of the VaR model is to compare our actual daily net revenue for those positions included in our VaR calculation with the daily VaR estimate. This evaluation is performed at various levels of the trading portfolio, from the holding company level down to specific business lines. For the VaR model, trading related revenue is defined as principal transaction revenue, trading related commissions, revenue from securitization activities and net interest income. For a 95% confidence one day VaR model (i.e. no intra-day trading), assuming current changes in market value are consistent with the historical changes used in the calculation, net trading losses would not be expected to exceed the VaR estimates more than twelve times on an annual basis (i.e. once in every 20 days). During the three months ended November 30, 2013, results of the evaluation at the aggregate level demonstrated no days when the net trading loss exceeded the 95% one day VaR. For the full fiscal year 2013, there were two days when the net trading loss exceeded the 95% one day VaR. Exclusive of the Knight Capital position, there were no days during the fiscal year when the net trading loss exceeded the 95% one day VaR.
Certain positions within financial instruments are not included in the VaR model because VaR is not the most appropriate measure of risk. Accordingly, Risk Management has additional procedures in place to assure that the level of potential loss that would arise from market movements are within acceptable levels. Such procedures include performing stress tests, monitoring concentration risk and tracking price target/stop loss levels. The table below presents the potential reduction in net income associated with a 10% stress of or the sensitivity to a 10% stress of the fair value of the positions that are not included in the VaR model at November 30, 2013 (in thousands):
10% Sensitivity | ||||
Private investments |
$ | 17,518 | ||
Corporate debt securities in default |
7,231 | |||
Trade claims |
5,034 |
Daily Net Trading Revenue
There were 32 days with trading losses out of a total of 251 trading days in the year ended November 30, 2013, including 7 in the three months ended November 30, 2013. Excluding trading losses associated with the daily marking to market of our position in Knight Capital, in the year ended November 30, 2013, there would have been 19 days with trading losses, of which 6 occurred in the fourth quarter of 2013. Excluding trading losses associated with the daily marking to market of both of our positions in Knight Capital and Harbinger, in the year ended November 30, 2013, there would have been 17 days with trading losses, of which 4 occurred in the fourth quarter of 2013.
The histogram below presents the distribution of our daily net trading revenue for substantially all of our trading activities for the year ended November, 2013 (in millions).
53
JEFFERIES GROUP LLC AND SUBSIDIARIES
Scenario Analysis and Stress Tests
While VaR measures potential losses due to adverse changes in historical market prices and rates, we use stress testing to analyze the potential impact of specific events or moderate or extreme market moves on our current portfolio both firm wide and within business segments. Stress scenarios comprise both historical market price and rate changes and hypothetical market environments, and generally involve simultaneous changes of many risk factors. Indicative market changes in our scenarios include, but are not limited to, a large widening of credit spreads, a substantial decline in equities markets, significant moves in selected emerging markets, large moves in interest rates, changes in the shape of the yield curve and large moves in European markets. In addition, we also perform ad hoc stress tests and add new scenarios as market conditions dictate. Because our stress scenarios are meant to reflect market moves that occur over a period of time, our estimates of potential loss assume some level of position reduction for liquid positions. Unlike our VaR, which measures potential losses within a given confidence interval, stress scenarios do not have an associated implied probability; rather, stress testing is used to estimate the potential loss from market moves that tend to be larger than those embedded in the VaR calculation.
Stress testing is performed and reported regularly as part of the risk management process. Stress testing is used to assess our aggregate risk position as well as for limit setting and risk/reward analysis.
Counterparty Credit Risk and Issuer Country Exposure
Counterparty Credit Risk
Credit risk is the risk of loss due to adverse changes in a counterpartys credit worthiness or its ability or willingness to meet its financial obligations in accordance with the terms and conditions of a financial contract. We are exposed to credit risk as trading counterparty to other broker-dealers and customers, as a direct lender and through extending loan commitments, as a holder of securities and as a member of exchanges and clearing organizations.
It is critical to our financial soundness and profitability that we properly and effectively identify, assess, monitor, and manage the various credit and counterparty risks inherent in our businesses. Credit is extended to counterparties in a controlled manner in order to generate acceptable returns, whether such credit is granted directly or is incidental to a transaction. All extensions of credit are monitored and managed on an enterprise level in order to limit exposure to loss related to credit risk.
Our Credit Risk Framework is responsible for identifying credit risks throughout the operating businesses, establishing counterparty limits and managing and monitoring those credit limits. Our framework includes:
| defining credit limit guidelines and credit limit approval processes; |
| providing a consistent and integrated credit risk framework across the enterprise; |
| approving counterparties and counterparty limits with parameters set by the Risk Management Committee; |
| negotiating, approving and monitoring credit terms in legal and master documentation; |
| delivering credit limits to all relevant sales and trading desks; |
| maintaining credit reviews for all active and new counterparties; |
| operating a control function for exposure analytics and exception management and reporting; |
| determining the analytical standards and risk parameters for on-going management and monitoring of global credit risk books; |
| actively managing daily exposure, exceptions, and breaches; |
| monitoring daily margin call activity and counterparty performance (in concert with the Margin Department); and |
| setting the minimum global requirements for systems, reports, and technology. |
54
JEFFERIES GROUP LLC AND SUBSIDIARIES
Credit Exposures
Credit exposure exists across a wide-range of products including cash and cash equivalents, loans, securities finance transactions and over-the-counter derivative contracts.
| Loans and lending arise in connection with our capital markets activities and represents the notional value of loans that have been drawn by the borrower and lending commitments that were outstanding at November 30, 2013. |
| Securities and margin finance includes credit exposure arising on securities financing transactions (reverse repurchase agreements, repurchase agreements and securities lending agreements) to the extent the fair value of the underlying collateral differs from the contractual agreement amount and from margin provided to customers. |
| Derivatives represent over-the-counter (OTC) derivatives, which are reported net by counterparty when a legal right of setoff exists under an enforceable master netting agreement. Derivatives are accounted for at fair value net of cash collateral received or posted under credit support agreements. In addition, credit exposures on forward settling trades are included within our derivative credit exposures. |
| Cash and cash equivalents include both interest-bearing and non-interest bearing deposits at banks. |
Current counterparty credit exposures at November 30, 2013 and November 30, 2012 are summarized in the tables below and provided by credit quality, region and industry. Credit exposures presented take netting and collateral into consideration by counterparty and master agreement. Collateral taken into consideration includes both collateral received as cash as well as collateral received in the form of securities or other arrangements. Current exposure is the loss that would be incurred on a particular set of positions in the event of default by the counterparty, assuming no recovery. Current exposure equals the fair value of the positions less collateral. Issuer risk is the credit risk arising from inventory positions (for example, corporate debt securities and secondary bank loans). Issuer risk is included in our country risk exposure tables below. Of our counterparty credit exposure at November 30, 2013, excluding cash and cash equivalents, 66% are investment grade counterparties, compared to 58% at November 30, 2012, and are mainly concentrated in North America. When comparing our credit exposure at November 30, 2013 with credit exposure at November 30, 2012, excluding cash and cash equivalents, current exposure has decreased 3% to approximately $1.03 billion from $1.06 billion. The decrease is primarily due to a decrease in loan and repo balances, partially offset by an increase in securities and margin finance balances.
Counterparty Credit Exposure by Credit Rating
Loans and Lending
|
Securities and Margin Finance |
OTC Derivatives
|
Total
|
Cash and Cash Equivalents
|
Total with Cash and Cash Equivalents |
|||||||||||||||||||||||||||||||||||||||||||
As of November 30, | As of November 30, | As of November 30, | As of November 30, | As of November 30, | As of November 30, | |||||||||||||||||||||||||||||||||||||||||||
(in millions) | 2013 | 2012 | 2013 | 2012 | 2013 | 2012 | 2013 | 2012 | 2013 | 2012 | 2013 | 2012 | ||||||||||||||||||||||||||||||||||||
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AAA Range |
- | - | 0.2 | 0.9 | - | - | 0.2 | 0.9 | 2,680.6 | 1,322.7 | 2,680.8 | 1,323.6 | ||||||||||||||||||||||||||||||||||||
AA Range |
- | - | 104.8 | 183.1 | 14.7 | 19.1 | 119.5 | 202.2 | 144.1 | 149.7 | 263.6 | 351.9 | ||||||||||||||||||||||||||||||||||||
A Range |
- | - | 374.4 | 163.8 | 56.7 | 72.6 | 431.1 | 236.4 | 734.7 | 1,134.0 | 1,165.8 | 1,370.4 | ||||||||||||||||||||||||||||||||||||
BBB Range |
71.0 | 50.0 | 39.9 | 106.7 | 16.2 | 13.4 | 127.1 | 170.1 | 1.7 | 86.2 | 128.8 | 256.3 | ||||||||||||||||||||||||||||||||||||
BB or Lower |
120.3 | 255.0 | 115.4 | 112.3 | 9.5 | 19.3 | 245.2 | 386.6 | - | - | 245.2 | 386.6 | ||||||||||||||||||||||||||||||||||||
Unrated |
86.6 | 57.5 | - | - | 18.6 | 1.6 | 105.2 | 59.1 | - | - | 105.2 | 59.1 | ||||||||||||||||||||||||||||||||||||
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Total |
277.9 | 362.5 | 634.7 | 566.8 | 115.7 | 126.0 | 1,028.3 | 1,055.3 | 3,561.1 | 2,692.6 | 4,589.4 | 3,747.9 | ||||||||||||||||||||||||||||||||||||
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Counterparty Credit Exposure by Region
Loans and Lending
|
Securities and Margin Finance |
OTC Derivatives
|
Total
|
Cash and Cash Equivalents
|
Total with Cash and Cash Equivalents |
|||||||||||||||||||||||||||||||||||||||||||
As of November 30, | As of November 30, | As of November 30, | As of November 30, | As of November 30, | As of November 30, | |||||||||||||||||||||||||||||||||||||||||||
(in millions) | 2013 | 2012 | 2013 | 2012 | 2013 | 2012 | 2013 | 2012 | 2013 | 2012 | 2013 | 2012 | ||||||||||||||||||||||||||||||||||||
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Asia/Latin America/Other |
- | 12.5 | 30.9 | 23.5 | 11.6 | 6.5 | 42.5 | 42.5 | 183.3 | 125.6 | 225.8 | 168.1 | ||||||||||||||||||||||||||||||||||||
Europe |
- | - | 180.3 | 117.4 | 47.6 | 42.9 | 227.9 | 160.3 | 269.3 | 573.9 | 497.2 | 734.2 | ||||||||||||||||||||||||||||||||||||
North America |
277.9 | 350.0 | 423.5 | 425.9 | 56.5 | 76.6 | 757.9 | 852.5 | 3,108.5 | 1,993.1 | 3,866.4 | 2,845.6 | ||||||||||||||||||||||||||||||||||||
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Total |
277.9 | 362.5 | 634.7 | 566.8 | 115.7 | 126.0 | 1,028.3 | 1,055.3 | 3,561.1 | 2,692.6 | 4,589.4 | 3,747.9 | ||||||||||||||||||||||||||||||||||||
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Counterparty Credit Exposure by Industry
Loans and Lending
|
Securities and Margin Finance |
OTC Derivatives
|
Total
|
Cash and Cash Equivalents
|
Total with Cash and Cash Equivalents |
|||||||||||||||||||||||||||||||||||||||||||
As of November 30, | As of November 30, | As of November 30, | As of November 30, | As of November 30, | As of November 30, | |||||||||||||||||||||||||||||||||||||||||||
(in millions) | 2013 | 2012 | 2013 | 2012 | 2013 | 2012 | 2013 | 2012 | 2013 | 2012 | 2013 | 2012 | ||||||||||||||||||||||||||||||||||||
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Asset Managers |
- | - | 7.1 | 3.3 | 0.5 | 0.2 | 7.6 | 3.5 | 2,680.7 | 1,322.7 | 2,688.3 | 1,326.2 | ||||||||||||||||||||||||||||||||||||
Banks, Broker-dealers |
- | - | 354.9 | 312.8 | 73.8 | 66.9 | 428.7 | 379.7 | 880.4 | 1,369.9 | 1,309.1 | 1,749.6 | ||||||||||||||||||||||||||||||||||||
Commodities |
- | - | 35.6 | 23.0 | 9.4 | 33.2 | 45.0 | 56.2 | - | - | 45.0 | 56.2 | ||||||||||||||||||||||||||||||||||||
Other |
277.9 | 362.5 | 237.1 | 227.7 | 32.0 | 25.7 | 547.0 | 615.9 | - | - | 547.0 | 615.9 | ||||||||||||||||||||||||||||||||||||
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Total |
277.9 | 362.5 | 634.7 | 566.8 | 115.7 | 126.0 | 1,028.3 | 1,055.3 | 3,561.1 | 2,692.6 | 4,589.4 | 3,747.9 | ||||||||||||||||||||||||||||||||||||
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55
JEFFERIES GROUP LLC AND SUBSIDIARIES
For additional information regarding credit exposure to OTC derivative contracts, refer to Note 8, Derivative Financial Instruments, in our consolidated financial statements included within this Annual Report on Form 10-K.
Country Risk Exposure
Country risk is the risk that events or developments that occur in the general environment of a country or countries due to economic, political, social, regulatory, legal or other factors, will affect the ability of obligors of the country to honor their obligations. We define country risk as the country of jurisdiction or domicile of the obligor. Prior to the first quarter of 2013, country risk was defined as the country of jurisdiction or domicile of the obligors ultimate group parent. The table presented below at November 30, 2012, has been conformed to this presentation. The following tables reflect our top exposure at November 30, 2013 and November 30, 2012 to the sovereign governments, corporations and financial institutions in those non- U.S. countries in which we have a net long issuer and counterparty exposure (in millions):
As of November 30, 2013 | ||||||||||||||||||||||||||||||||||||
Issuer Risk | Counterparty Risk | Issuer and Counterparty Risk | ||||||||||||||||||||||||||||||||||
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Fair Value of Long Debt Securities |
Fair Value of Short Debt Securities |
Net Derivative Notional Exposure |
Loans and Lending | Securities and Margin Finance |
OTC Derivatives |
Cash and Cash Equivalents |
Excluding Cash and Cash Equivalents |
Including Cash and Cash Equivalents |
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Great Britain |
$ | 418.8 | $ | (181.5) | $ | (27.2) | $ | - | $ | 42.5 | $ | 20.7 | $ | 113.1 | $ | 273.3 | $ | 386.4 | ||||||||||||||||||
Germany |
462.0 | (226.1) | (70.5) | - | 93.2 | 10.9 | 3.3 | 269.5 | 272.8 | |||||||||||||||||||||||||||
Netherlands |
445.7 | (198.8) | (2.3) | - | 5.2 | 1.5 | 0.3 | 251.3 | 251.6 | |||||||||||||||||||||||||||
Italy |
1,181.4 | (1,017.6) | 74.2 | - | 1.8 | 0.1 | - | 239.9 | 239.9 | |||||||||||||||||||||||||||
Canada |
140.6 | (59.0) | 18.8 | - | 99.5 | 0.2 | 2.2 | 200.1 | 202.3 | |||||||||||||||||||||||||||
Spain |
352.3 | (159.8) | 0.3 | - | 3.0 | 0.2 | 0.1 | 196.0 | 196.1 | |||||||||||||||||||||||||||
Puerto Rico |
130.1 | - | - | - | - | - | - | 130.1 | 130.1 | |||||||||||||||||||||||||||
Luxembourg |
75.0 | (15.1) | - | - | 0.1 | - | 68.0 | 60.0 | 128.0 | |||||||||||||||||||||||||||
Hong Kong |
33.9 | (18.3) | (0.9) | - | 0.3 | - | 104.3 | 15.0 | 119.3 | |||||||||||||||||||||||||||
Austria |
130.2 | (32.8) | - | - | 5.0 | - | 0.1 | 102.4 | 102.5 | |||||||||||||||||||||||||||
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Total |
$ | 3,370.0 | $ | (1,909.0) | $ | (7.6) | $ | - | $ | 250.6 | $ | 33.6 | $ | 291.4 | $ | 1,737.6 | $ | 2,029.0 | ||||||||||||||||||
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As of November 30, 2012 | ||||||||||||||||||||||||||||||||||||
Issuer Risk | Counterparty Risk | Issuer and Counterparty Risk | ||||||||||||||||||||||||||||||||||
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Fair Value of Long Debt Securities |
Fair Value of Short Debt Securities |
Net Derivative Notional Exposure |
Loans and Lending | Securities and Margin Finance |
OTC Derivatives |
Cash and Cash Equivalents |
Excluding Cash and Cash Equivalents |
Including Cash and Cash Equivalents |
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Great Britain |
$ | 691.3 | $ | (460.1) | $ | (81.5) | $ | 8.5 | $ | 14.2 | $ | 25.7 | $ | 405.8 | $ | 198.1 | $ | 603.9 | ||||||||||||||||||
Luxembourg |
163.8 | (21.1) | 1.1 | 13.6 | 1.5 | - | 96.2 | 158.9 | 255.1 | |||||||||||||||||||||||||||
Canada |
150.7 | (66.6) | (23.4) | 9.5 | 103.1 | 12.6 | 0.9 | 185.9 | 186.8 | |||||||||||||||||||||||||||
Spain |
276.6 | (85.2) | (26.0) | - | 4.6 | - | 0.6 | 170.0 | 170.6 | |||||||||||||||||||||||||||
Netherlands |
255.6 | (129.5) | (4.5) | 7.5 | 10.3 | 0.2 | 0.3 | 139.6 | 139.9 | |||||||||||||||||||||||||||
Hong Kong |
28.3 | (12.0) | 5.1 | - | 1.8 | - | 91.2 | 23.2 | 114.4 | |||||||||||||||||||||||||||
Germany |
413.2 | (318.1) | (94.7) | 3.0 | 60.3 | 6.7 | 20.1 | 70.4 | 90.5 | |||||||||||||||||||||||||||
Belgium |
177.8 | (142.8) | (3.7) | - | 0.9 | - | 49.4 | 32.2 | 81.6 | |||||||||||||||||||||||||||
Jersey |
0.2 | (0.6) | - | 73.7 | - | - | - | 73.3 | 73.3 | |||||||||||||||||||||||||||
Sweden |
70.7 | (15.7) | (0.6) | - | 0.4 | 0.2 | 0.1 | 55.0 | 55.1 | |||||||||||||||||||||||||||
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Total |
$ | 2,228.2 | $ | (1,251.7) | $ | (228.2) | $ | 115.8 | $ | 197.1 | $ | 45.4 | $ | 664.6 | $ | 1,106.6 | $ | 1,771.2 | ||||||||||||||||||
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Exposure to the Sovereign Debt, Corporate and Financial Securities of Greece, Ireland, Italy, Portugal and Spain
As detailed below, our net exposure to sovereign debt of Greece, Ireland, Italy, Portugal, and Spain (before economic derivative hedges) was net long $194.0 million at November 30, 2013, which is approximately 4% of total equity.
The table below reflects not only our exposure to the sovereign debt of Greece, Ireland, Italy, Portugal, and Spain at November 30, 2013 but also includes our exposure to the securities of corporations, financial institutions and mortgage-backed securities collateralized by assets domiciled in these countries. This table is presented in a manner consistent with how management views and monitors these exposures as part of our risk management framework. Our issuer exposure to these European countries arises primarily in the context of our market making activities and
56
JEFFERIES GROUP LLC AND SUBSIDIARIES
our role as a major dealer in the debt securities of these countries. Accordingly, our issuer risk arises due to holding securities as long and short inventory, which does not carry counterparty credit exposure. While the economic derivative hedges are presented on a notional basis, we believe this best reflects the reduction in the underlying market risk due to interest rates or the issuers credit as a result of the hedges. Long and short financial instruments are offset against each other for determining net exposure although they do not represent identical offsetting positions of the same debt security. Components of risk embedded in the securities will generally offset, however, basis risk due to duration and the specific issuer may still exist. Economic hedges as represented by the notional amounts of the derivative contracts may not be perfect offsets for the risk represented by the net fair value of the debt securities. Additional information relating to the derivative contracts, including the fair value of the derivative positions, is included in the following pages.
As of November 30, 2013 | ||||||||||||||||||||
(in millions) | Sovereigns | Corporations |
Financial |
Structured Products |
Total | |||||||||||||||
Financial instruments owned - Debt securities |
||||||||||||||||||||
Greece |
$ | - | (4) | $ | 9.4 | $ | 0.9 | (4) | $ | 3.0 | $ | 13.3 | ||||||||
Ireland |
2.1 | (4) | 18.4 | 17.9 | (4) | - | 38.4 | |||||||||||||
Italy |
1,088.0 | (4) | 40.0 | 49.4 | (4) | 4.0 | 1,181.4 | |||||||||||||
Portugal |
1.2 | (4) | 0.6 | 11.3 | (4) | 6.0 | 19.1 | |||||||||||||
Spain |
224.0 | (4) | 17.5 | 25.7 | (4) | 85.0 | 352.2 | |||||||||||||
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Total fair value of long debt securities (1) |
1,315.3 | (4) | 85.9 | 105.2 | (4) | 98.0 | 1,604.4 | |||||||||||||
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Financial instruments sold - Debt securities |
||||||||||||||||||||
Greece |
- | (4) | 3.6 | 0.8 | - | 4.4 | ||||||||||||||
Ireland |
4.6 | (4) | 11.6 | 0.2 | - | 16.4 | ||||||||||||||
Italy |
989.7 | (4) | 12.7 | 15.2 | - | 1,017.6 | ||||||||||||||
Portugal |
- | (4) | 0.4 | - | - | 0.4 | ||||||||||||||
Spain |
127.0 | (4) | 15.9 | 16.9 | - | 159.8 | ||||||||||||||
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Total fair value of short debt securities (2) |
1,121.3 | (4) | 44.2 | 33.1 | - | 1,198.6 | ||||||||||||||
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Total net fair value of debt securities |
194.0 | 41.7 | 72.1 | 98.0 | 405.8 | |||||||||||||||
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Derivative contracts - long notional exposure |
||||||||||||||||||||
Greece |
- | 1.0 | 2.8 | - | 3.8 | |||||||||||||||
Ireland |
- | 17.8 | - | - | 17.8 | |||||||||||||||
Italy |
371.0 | (5) | - | - | - | 371.0 | ||||||||||||||
Portugal |
- | - | - | - | - | |||||||||||||||
Spain |
- | - | 0.3 | - | 0.3 | |||||||||||||||
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Total notional amount - long (6) |
371.0 | 18.8 | 3.1 | - | 392.9 | |||||||||||||||
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|
|
|
|
|
|
|
|
|||||||||||
Derivative contracts - short notional exposure |
||||||||||||||||||||
Greece |
- | 2.0 | - | - | 2.0 | |||||||||||||||
Ireland |
- | 9.8 | 6.6 | - | 16.4 | |||||||||||||||
Italy |
276.4 | (5) | - | 20.4 | - | 296.8 | ||||||||||||||
Portugal |
- | - | - | - | - | |||||||||||||||
Spain |
- | - | - | - | - | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Total notional amount - short (6) |
276.4 | 11.8 | 27.0 | - | 315.2 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Total net derivative notional exposure (3) |
94.6 | 7.0 | (23.9) | - | 77.7 | |||||||||||||||
|
|
|
|
|
|
|
|
|
|
|||||||||||
Total net exposure to select European countries |
$ | 288.6 | $ | 48.7 | $ | 48.2 | $ | 98.0 | $ | 483.5 | ||||||||||
|
|
|
|
|
|
|
|
|
|
(1) | Long securities represent the fair value of debt securities and are presented within Financial instruments owned - corporate debt securities and government, federal agency and other sovereign obligations and mortgage- and asset-backed securities on the face of the Consolidated Statement of Financial Condition and are accounted for at fair value with changes in fair value recognized in Principal transactions revenues. |
(2) | Short securities represent the fair value of debt securities sold short and are presented within Financial instruments sold, not yet purchased - corporate debt securities and government, federal agency and other sovereign obligations on the face of the Consolidated Statement of Financial Condition and are accounted for at fair value with changes in fair value recognized in Principal transactions revenues. |
(3) | Net derivative contracts reflect the notional amount of the derivative contracts and include credit default swaps, bond futures and listed equity options. |
57
JEFFERIES GROUP LLC AND SUBSIDIARIES
(4) | Classification of securities by country and by issuer type is presented based on the view of our Risk Management Department. Risk Management takes into account whether a particular security or issuer of a security is guaranteed or otherwise backed by a sovereign government and also takes into account whether a corporate or financial institution that issues a particular security is owned by a sovereign government when determining domicile and whether a particular security should be classified for risk purposes as a sovereign obligation. The classification of debt securities within the table above will differ from the financial statement presentation in the Consolidated Statement of Financial Condition because the classification used for financial statement presentation in the Consolidated Statement of Financial Condition classifies a debt security solely by the direct issuer and the domicile of the direct issuer. |
(5) | These positions are comprised of bond futures executed on exchanges outside Italy. |
(6) | See further information regarding derivatives on the tables following. |
As of November 30, 2013 | ||||||||||||||||||||||||
(in millions) | Greece | Ireland | Italy | Portugal | Spain | Total | ||||||||||||||||||
Financial instruments owned: |
||||||||||||||||||||||||
Long sovereign debt securities (1) |
$ | - | $ | 2.1 | $ | 1,088.0 | $ | 1.2 | $ | 224.0 | $ | 1,315.3 | ||||||||||||
Long non-sovereign debt securities (1) |
13.3 | 36.3 | 93.4 | 17.9 | 128.2 | 289.1 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Total long debt securities |
13.3 | 38.4 | 1,181.4 | 19.1 | 352.2 | 1,604.4 | ||||||||||||||||||
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|
|
|
|
|
|
|
|
|
|
|||||||||||||
Financial instruments sold, not yet purchased: |
||||||||||||||||||||||||
Short sovereign debt securities (1) |
- | 4.6 | 989.7 | - | 127.0 | 1,121.3 | ||||||||||||||||||
Short non-sovereign debt securities (1) |
4.4 | 11.8 | 27.9 | 0.4 | 32.8 | 77.3 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Total short debt securities |
4.4 | 16.4 | 1,017.6 | 0.4 | 159.8 | 1,198.6 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Net fair value - debt securities |
8.9 | 22.0 | 163.8 | 18.7 | 192.4 | 405.8 | ||||||||||||||||||
Net derivatives notional amount |
1.8 | 1.4 | 74.2 | - | 0.3 | 77.7 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Total net exposure to select European countries |
$ | 10.7 | $ | 23.4 | $ | 238.0 | $ | 18.7 | $ | 192.7 | $ | 483.5 | ||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
(1) | Classification of securities by country and by issuer type is presented based on the view of our Risk Management Department. Risk Management takes into account whether a particular security or issuer of a security is guaranteed or otherwise backed by a sovereign government and also takes into account whether a corporate or financial institution that issues a particular security is owned by a sovereign government when determining domicile and whether a particular security should be classified for risk purposes as a sovereign obligation. The classification of debt securities within the table above will differ from the financial statement presentation in the Consolidated Statement of Financial Condition because the classification used for financial statement presentation in the Consolidated Statement of Financial Condition classifies a debt security solely by the direct issuer and the domicile of the direct issuer. |
58
JEFFERIES GROUP LLC AND SUBSIDIARIES
The table below provides further information regarding the type of derivative contracts executed as economic hedges of issuer exposure to the countries of Greece, Ireland, Italy, Portugal, and Spain as of November 30, 2013. The information is presented based on the notional amount of the contracts and the domicile of the issuer. For credit default swaps, we have immaterial issuer risk to counterparties domiciled in Greece, Ireland, Italy, Portugal and Spain.
As of November 30, 2013 | ||||||||||||||||||||||||
(in millions) | Greece | Ireland | Italy | Portugal | Spain | Total | ||||||||||||||||||
Derivative contracts - long notional exposure |
||||||||||||||||||||||||
Credit default swaps |
$ | - | $ | - | $ | - | $ | - | $ | - | $ | - | ||||||||||||
Bond future contracts |
- | - | 371.0 | - | - | 371.0 | ||||||||||||||||||
Listed equity options |
3.8 | 17.8 | - | - | 0.3 | 21.9 | ||||||||||||||||||
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|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Total notional amount - long |
3.8 | 17.8 | 371.0 | - | 0.3 | 392.9 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Derivative contracts - short notional exposure |
||||||||||||||||||||||||
Credit default swaps |
- | - | 20.4 | - | - | 20.4 | ||||||||||||||||||
Bond future contracts |
- | - | 276.4 | - | - | 276.4 | ||||||||||||||||||
Listed equity options |
2.0 | 16.4 | - | - | - | 18.4 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Total notional amount - short |
2.0 | 16.4 | 296.8 | - | - | 315.2 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Net derivatives notional amount |
$ | 1.8 | $ | 1.4 | $ | 74.2 | $ | - | $ | 0.3 | $ | 77.7 | ||||||||||||
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|
|
The following table provides the fair value of the above derivative contracts at November 30, 2013 (in millions):
As of November 30, 2013 | ||||||||||||||||||||||||
Greece | Ireland | Italy | Portugal | Spain | Total | |||||||||||||||||||
Derivative contracts - long fair value |
||||||||||||||||||||||||
Credit default swaps |
$ | - | $ | - | $ | - | $ | - | $ | - | $ | - | ||||||||||||
Bond future contracts |
- | - | - | - | - | - | ||||||||||||||||||
Listed equity options |
2.7 | 1.2 | - | - | - | 3.9 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Total fair value - long |
2.7 | 1.2 | - | - | - | 3.9 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Derivative contracts - short fair value |
||||||||||||||||||||||||
Credit default swaps |
- | - | 0.2 | - | - | 0.2 | ||||||||||||||||||
Bond future contracts |
- | - | - | - | - | - | ||||||||||||||||||
Listed equity options |
0.1 | 1.8 | - | - | - | 1.9 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Total fair value - short |
0.1 | 1.8 | 0.2 | - | - | 2.1 | ||||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|||||||||||||
Net derivatives fair value |
$ | 2.6 | $ | (0.6) | $ | (0.2) | $ | - | $ | - | $ | 1.8 | ||||||||||||
|
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|
|
In addition, our non-U.S. sovereign obligations recorded in financial instruments owned and financial instruments sold, not yet purchased are routinely financed through reverse repurchase agreements and repurchase agreements, of which a significant portion are executed with central clearing organizations. Accordingly, we utilize foreign sovereign obligations as underlying collateral for our repurchase financing arrangements. At November 30, 2013, repurchase financing arrangements that are used to finance the debt securities presented above had underlying collateral of issuers domiciled in Greece, Ireland, Italy, Portugal and Spain as follows (in millions):
As of November 30, 2013 | ||||||||||||||
Reverse Repurchase |
Repurchase Agreements (1) |
Net | ||||||||||||
Greece |
$ | - | $ | - | $ | - | ||||||||
Ireland |
5.5 | 65.7 | (60.2) | |||||||||||
Italy |
899.2 | 1,162.5 | (263.3) | |||||||||||
Portugal |
- | 2.8 | (2.8) | |||||||||||
Spain |
89.3 | 218.5 | (129.2) | |||||||||||
|
|
|
|
|
|
|||||||||
Total |
$ |
994.0 |
|
$ |
1,449.5 |
|
$ |
(455.5) |
|
|||||
|
|
|
|
|
|
(1) | Amounts represent the contract amount of the repurchase financing arrangements. |
59
JEFFERIES GROUP LLC AND SUBSIDIARIES
For the quarter ended November 30, 2013, our exposure to the sovereign debt of Greece, Ireland, Italy, Portugal and Spain calculated on an average daily basis was as follows (in millions):
Remaining Maturity Less Than One Year |
Remaining Maturity Greater Than or Equal to One Year |
Total Average Balance | ||||||||||
Financial instruments owned - Debt securities |
||||||||||||
Greece |
$ | - | $ | - | $ | - | ||||||
Ireland |
1.1 | 5.3 | 6.4 | |||||||||
Italy |
1,123.1 | 1,193.5 | 2,316.6 | |||||||||
Portugal |
0.1 | 1.0 | 1.1 | |||||||||
Spain |
93.2 | 195.0 | 288.2 | |||||||||
|
|
|
|
|
|
|||||||
Total average fair value of long debt securities (1) |
1,217.5 | 1,394.8 | 2,612.3 | |||||||||
|
|
|
|
|
|
|||||||
Financial instruments sold - Debt securities |
||||||||||||
Greece |
- | - | - | |||||||||
Ireland |
- | 5.1 | 5.1 | |||||||||
Italy |
377.3 | 1,383.6 | 1,760.9 | |||||||||
Portugal |
- | 1.3 | 1.3 | |||||||||
Spain |
0.1 | 131.8 | 131.9 | |||||||||
|
|
|
|
|
|
|||||||
Total average fair value of short debt securities |
377.4 | 1,521.8 | 1,899.2 | |||||||||
|
|
|
|
|
|
|||||||
Total average net fair value of debt securities |
840.1 | (127.0) | 713.1 | |||||||||
|
|
|
|
|
|
|||||||
Derivative contracts - long notional exposure |
||||||||||||
Greece |
- | - | - | |||||||||
Ireland |
- | - | - | |||||||||
Italy |
- | 116.2 | (2) | 116.2 | (2) | |||||||
Portugal |
- | - | - | |||||||||
Spain |
- | - | - | |||||||||
|
|
|
|
|
|
|||||||
Total average notional amount - long |
- | 116.2 | 116.2 | |||||||||
|
|
|
|
|
|
|||||||
Derivative contracts - short notional exposure |
||||||||||||
Greece |
- | - | - | |||||||||
Ireland |
- | - | - | |||||||||
Italy |
- | 350.4 | 350.4 | |||||||||
Portugal |
- | - | - | |||||||||
Spain |
- | - | - | |||||||||
|
|
|
|
|
|
|||||||
Total average notional amount - short |
- | 350.4 | 350.4 | |||||||||
|
|
|
|
|
|
|||||||