JEF - Jefferies Group

[scorpioncapital]

Not sure if a 10-20% position is worth it. Let's say you have:

 

80% berkshire, 20% LUK. What can you hope to gain VS.

 

120% berkshire. That 20% is a loan at (currently for me) 1.5% per year.

 

If that 20% portion of LUK outperforms BRK by 20%, by 50%?, by 100%? then I would still say it is very close to the slightly leveraged berkshire in net return. Since you wouldn't take leverage on LUK, then the max LUK you could ever own is 100%. Since that is also out of the question, I actually do not see this as compelling even if it doubles or triples, just headaches for not much excess relative gain.

 

Having said this I think fair value is closer to the $20 range considering future earning power to be in the range of $500m-$600m/yr averaged out. Currently they are not doing that but you can't look at current results necessarily which may be quite depressed. But the figure of 600m per year normalized earnings is still double today's earnings.

 

I do have a few concerns about the way they are compensated and the new arrangement, they are really getting paid in down times with the hope that in good times shareholders will "average out" the compensation but that is really a case of take the money first and see what happens later.

Also the one business I really don't like is FXCM which is a gambling den for retail investors to bet on currencies. Without this demographic and institutions who are probably there just for the generous leverage afforded (and the implied risks to FXCM once again), it wouldn't be a stellar area to operate in.

 

 

 

[ATLValue]

"they are not restricted in the leverage they take" and "they are much more conservative" - don't these two ideas cancel each other out?

 

last year was the biggest M&A year of all time and they had a terrible year ... they aren't a bulge bracket and they don't have the scale.

 

[MrB]

Hi, I keep reminding you that my knowledge is very limited and you should take my posts with a grain of salts.

 

1) I don't agree that this is a Berkshire for poor people, LUK own some very misunderstood companies.

Berkadia is a great company, 50% joint venture with Berkshire, that lends its own money for middle market mortgages, sell this mortgage while earning a few percentage points and doing the same again. As long as berkadia is honest and able to underwrite mortgages with minimum risk it is a great business. I think it has the same Moats characteristics as any other insurance subsidiary in berkshire (excluding geico). Berkadia has 200B in outstanding servicing principal which gives them a huge tailwind when rates will rise,valuing this company below 12 times EV/EBIT is crazy to me.

 

Conwed is also a great company, world leader in producing plastic nettings, this stuff will be with us for the next 100 years, holding together our oranges at the supermarket, inside the rugs we buy, part of medical bandages and so on. This company keeps growing every year and should get at least 10 time EV/EBIT.

 

National beef is not a great company, but who said you can't make money on medium quality companies ? Buying it in 2011 when its near the bottom of the cuttle cycle and selling it in a few years when it is producing huge amount of money is an "Easy trade" for these guys.

I think national beef is worth 800m and they can sell it for 1B at the top of the cycle.

 

LUK is not a permanent home for companies as berkshire is. they buy them, fix them, sell them (now more invest than outright buy).

I think that when having smaller amounts of money, buying those types of businesses can be more profitable(and buffett agrees).

 

2) Investment banks are in the business of leverage, they employee people that each day they analyze companies and write research papers on them. These companies let their employees use the company money and invest it in their ideas (mostly small traded and not full time investments) and your paycheck will be directly influenced by your performance (compensation ratio).

 

In 2008, all major Investment Banks(IB) started falling apart. Most of them were bought by a bank holding company or they became one themselves. This is a very bad idea for a IB, since being a bank holding company restrict your ability to leverage up.

 

Investment banking is a wonderful business if you can resist the temptation to over leverage, something that all the competitors couldn't do.

During 2007, most of the banks had Leverage ratio of over 20 and GS had been leverd 25 times its equity. This amount is excessive but JEF was much more conservative with only 16 times Debt/Equity, one of the lowest leverage ratios in wall street.

When things turnaround in 5, 10, 20 years JEF will be able to use its leverage to extract much better ROE then GS.

GS grew revenue from 1998 to 2011 at 3.15% while JEF did 12%.

Since 2007 GS had revenue decrease of -11.3% while JEF had "only" -1.2% CAGR decrease.

I don't see why JEF shouldn't have a premium over GS.

JEF is a better business with better employees, they are not restricted in the leverage the take (which is essential to Investment banks) they are much more conservative and the last financial crises showed it.

 

LUK is definitely much more risky investment than BRK is. no one is making any comparison. But I do think that LUK is undervalued and its assets are hugely misunderstood. Let's put it this way, at 0.8 BV I will put BRK as a 100% position in my portfolio while at no price I will put LUK a 100% position but a 10-20% one ? I will.

 

Not so limited and light on salt.

[thepupil]

Not sure if a 10-20% position is worth it. Let's say you have:

 

80% berkshire, 20% LUK. What can you hope to gain VS.

 

120% berkshire. That 20% is a loan at (currently for me) 1.5% per year.

 

If that 20% portion of LUK outperforms BRK by 20%, by 50%?, by 100%? then I would still say it is very close to the slightly leveraged berkshire in net return. Since you wouldn't take leverage on LUK, then the max LUK you could ever own is 100%. Since that is also out of the question, I actually do not see this as compelling even if it doubles or triples, just headaches for not much excess relative gain.

 

Having said this I think fair value is closer to the $20 range considering future earning power to be in the range of $500m-$600m/yr averaged out. Currently they are not doing that but you can't look at current results necessarily which may be quite depressed. But the figure of 600m per year normalized earnings is still double today's earnings.

 

I do have a few concerns about the way they are compensated and the new arrangement, they are really getting paid in down times with the hope that in good times shareholders will "average out" the compensation but that is really a case of take the money first and see what happens later.

Also the one business I really don't like is FXCM which is a gambling den for retail investors to bet on currencies. Without this demographic and institutions who are probably there just for the generous leverage afforded (and the implied risks to FXCM once again), it wouldn't be a stellar area to operate in.

 

-while i think there are many negatives to LUK, your first point regarding levered berkshire vs. LUK can be applied to basically any company that isn't high quality / "leverageable"; it doesn't really seem to say anything about LUK in particular. Not being interested in something that may double or triple because you can't size it big is a fine position to take, but once again is nothing unique to LUK. it says more about the investment approach that works for you than the company.

 

-they lent $300MM to FXCM and have already made a great deal back and will have a residual call option. it was a great distressed financing. who cares if it is just a service provided to retail punters? tough to argue that wasn't a good risk/reward.

 

-of course it isn't berkshire, but it's not priced as such either. it's below 0.7X book and $1MM of the bonds just traded @ 9% earlier today. it's a pretty different situation.

 

[benhacker]

-while i think there are many negatives to LUK, your first point regarding levered berkshire vs. LUK can be applied to basically any company that isn't high quality / "leverageable"; it doesn't really seem to say anything about LUK in particular. Not being interested in something that may double or triple because you can't size it big is a fine position to take, but once again is nothing unique to LUK. it says more about the investment approach that works for you than the company.

 

Agree.

 

But also, I'm feeling like I'm in some sort of twilight zone episode as Scorpion on this very forum 10 years ago was advocating leveraging up LUK.

 

If you invest in businesses you need to be able to value assets and gauge management.

 

Things change, but I don't think they change this slowly.  The valuation adjustment of LUK in the market in the last 2-3 years shows more about Mr Market, mechanics, and psychology than it does about Rich / Brian or Joe / Ian, *or* the businesses that LUK owns.

 

... Or maybe I am in the twilight zone. :)

[scorpioncapital]

I might put 80% in a conservative investment, even cash, and 20% in something that might be a 5 or 10 bagger, however, that 20% position must have a big potential.

 

With LUK I feel you have a company that is crazy enough to be capped at 20% of a portfolio AND have a limited potential too. So it suffers from the odd position of being hard to place in any portfolio.

 

Benhacker: needless to say I was proven wrong. I have gone from full position to close to zero at LUK as of this writing over the years and can't really seem to get enthusiastic about adding more as the price drops.

[mcliu]

I just updated my model and I'm getting something like a $4 billion gap between market price and SOTP.. Are you guys getting something similar?

 

If you mark assets to FMV, market value basically implies NB at $0 and JEF at 0.3x TBV.  :o :o

[Picasso]

Here's my simple thesis so you can avoid reading through 100 pages on this thread: A guy who goes through life named "Dick Handler" isn't going to blow up his company and give all the name jabbers a reason to gloat. So the bonds are solid, go get paid over 8.5% and call it a day. The equity probably does well too but it's no sure thing. Normalized rates/inflation is good for the credit quality of LUK bonds so it offsets the duration/rate risk as well.

 

My issue with the equity is that there's a lot of stocks trading under SOTP with some kind of hair on them.  It was different when markets were more fully valued before and LUK stood out as cheap among the crowd. Now the crowd is cheap and I think it's a tougher sell to get investors to bid up the shares. Not that it can't happen, it's obviously better to own it now than it was 6-9 months ago and I don't think fundamentals are any worse.

[benhacker]

Benhacker: needless to say I was proven wrong. I have gone from full position to close to zero at LUK as of this writing over the years and can't really seem to get enthusiastic about adding more as the price drops.

 

I can tell Scorpion.  My advice based on watching your posting is that LUK probably isn't for you.  I would sell and move on.  I think owning something that can fall 40% on no news without you being enthusiastic about adding more is probably just not a way to invest for someone like you or I (I violate this rule all the time if I have a spec position, but I keep them at 1-2% or less).

 

If I have a position that goes from huge position worthy (at the right price) to only "spec" worthy, I just sell.  Revisit in a few weeks / months and then buy a spec if you want (or decide you were wrong).  Otherwise you just ride something down because you used to like it.

 

Your posting tone on LUK is clear that 50% discount to book or 20% doesn't matter... so why bother?  You think it will change if LUK hits $10?  $6?  Maybe there is some price, and your price bands are just really wide, but it doesn't feel like you feel that way.

 

Not trying to be a dick, I love LUK, but I *totally* get why many don't.... this thing looks like a dumpster fire 80% of the time punctuated by strange gains from no where and odd deals that aren't predictable.  What I don't get, is if it's the kind of business that is just not your deal (or with management that isn't your cup of tea), why bother with the mental resources to post about it talk about it?

 

I don't know, I have to admit, I kind of sound like a dick re-reading, but I don't mean it that way.  I became much more mentally stable in investing once I finally agreed to flush names when I realized I wasn't willing to scale up on them as they dropped (CBI being a recent example for me that saved me $$$ and brain drain).  If folks like me make money from here and you sell, who gives a shit, just focus on your spot(s).

 

I think you and I actually invest in very similar ways, so that's why I'm saying this, and we've been in similar forum circles for over a decade I believe.

 

Just cut and run, or double down... either way, I think within 1 week your head will be clearer on what to do next.

 

Probably worth what you paid for.  Not intending to be a dick, I hope my history of generally respectful posting gives some latitude in being overly blunt or not tactful from time to time! :)

[benhacker]

Here's my simple thesis so you can avoid reading through 100 pages on this thread: A guy who goes through life named "Dick Handler" isn't going to blow up his company and give all the name jabbers a reason to gloat. So the bonds are solid, go get paid over 8.5% and call it a day. The equity probably does well too but it's no sure thing. Normalized rates/inflation is good for the credit quality of LUK bonds so it offsets the duration/rate risk as well.

 

My issue with the equity is that there's a lot of stocks trading under SOTP with some kind of hair on them.  It was different when markets were more fully valued before and LUK stood out as cheap among the crowd. Now the crowd is cheap and I think it's a tougher sell to get investors to bid up the shares. Not that it can't happen, it's obviously better to own it now than it was 6-9 months ago and I don't think fundamentals are any worse.

 

+1

 

I'm off to beach now that Picasso has cleared this up. ;)

 

(True story, I never realized his name was "Dick Handler" until I'd owned the stock for a couple of years and a client ask me about the proxy and was like "you invested me with Dick Handler???  Nice... " :) )

 

Ok, past my posting limit for the month.  adios.

[scorpioncapital]

Luk is like an ex-wife you keep going back to in the hopes it might change - it never does - but I still hope :)

 

Anyway, I like to toy with the idea that there is a price I'd like it at, and lately have come to the conclusion that I wouldn't like it at ANY price because discount to asset price is not a sufficient condition for investment  - if you can't get comfortable with it. I recall Buffett's quote: Do business with people you LIKE and TRUST. I've concluded I neither like them nor trust them.

 

I too will hit the beach - or in my case, the woods  - hope future investors in LUK do well though, I do think there is a reasonable probability of (at least) some one time profits on the table at the current price.

 

 

[Picasso]

What don't you like about Dick Handler? 

[MrB]

Here's my simple thesis so you can avoid reading through 100 pages on this thread: A guy who goes through life named "Dick Handler" isn't going to blow up his company and give all the name jabbers a reason to gloat. So the bonds are solid, go get paid over 8.5% and call it a day. The equity probably does well too but it's no sure thing. Normalized rates/inflation is good for the credit quality of LUK bonds so it offsets the duration/rate risk as well.

 

My issue with the equity is that there's a lot of stocks trading under SOTP with some kind of hair on them.  It was different when markets were more fully valued before and LUK stood out as cheap among the crowd. Now the crowd is cheap and I think it's a tougher sell to get investors to bid up the shares. Not that it can't happen, it's obviously better to own it now than it was 6-9 months ago and I don't think fundamentals are any worse.

 

One difference between LUK and the other hairy stocks out there is that at this level surely H&F figured out that buying back stock and debt is one of the easiest ways for them to hit their incentive target of $17 and change.

[WneverLOSE]

You guys do realize his name is not Dick Handler, it is Richard B. Handler.

https://en.wikipedia.org/wiki/Richard_B._Handler

http://investor-relations.jefferies.com/od.aspx?iid=102756

 

[Spekulatius]

I don't get that JEF should have a higher multiple than GS. JEF made ~$90M last year on $3.6B in tangible book, so that is. 2.5% return on equity. That's a bad year, but I am not sure that this year is better. Not a business worth a 1x multiple. Other business are impaired too - the energy investment National Beef, and then we have the added cost of running a holding company on top of that.

I think it is probably trading 30% below the SOP, but that is no better than GS  really and with GS, I get a higher return on equity, dividend, stock buyback etc.

[Patmo]

What don't you like about Dick Handler?

 

We could all use a couple Dick Handlers in our lives

[jay21]

On JEF - normalize for ex-Bache and look at the business the mix between GS and JEF. I think you need to include JEFs asset management arm at a minimum which could be a very good return.

 

Agree overall. JEF and Beef have looked challenged since they acquired them and they have been the biggest bets.

[Picasso]

You guys do realize his name is not Dick Handler, it is Richard B. Handler.

https://en.wikipedia.org/wiki/Richard_B._Handler

http://investor-relations.jefferies.com/od.aspx?iid=102756

 

http://www.todayifoundout.com/index.php/2012/04/how-dick-came-to-be-short-for-richard/

[WneverLOSE]

"they are not restricted in the leverage they take" and "they are much more conservative" - don't these two ideas cancel each other out?

 

last year was the biggest M&A year of all time and they had a terrible year ... they aren't a bulge bracket and they don't have the scale.

 

“if you have a bank that owns nothing but short term government bonds it can have 50 to 1 (leverage) and if they got all bunch of money lent out to other guys who are leveraged in various ways in various speculative things 5 to 1 is too much” - Warren Buffett

 

Jefferies is a mix of different business activities within the financial world. saying that because last year was a record M&A year and Jefferies didn't had a good year that JEF is a bad business is not accurate. their Advisory revenue was 369,191 for 2013, 562,055 for 2014 and 632,354 for 2015, their capital markets segment revenue was 644,326 for 2013, 967,219 for 2014 and 806,653 for 2015.

 

What did hurt them was their fixed income segment that was hurt by the expected lift off in rates. they went from 747,596 in revenue in 2014 to 270,772 in 2015, hurting all other segments.

 

Looking at any specific year is meaningless, you should look at normalized earnings. in the last 3 years they did about 250m in operating income including Bache. this gives you ROE in the range of 7% with very modest leverage.

[MrB]

Beef it up!

 

http://beefmagazine.com/blog/cattle-cycle-back

http://www.cattlerange.com/cattle-graphs/all-cattle-numbers.html

 

http://www.nass.usda.gov/Charts_and_Maps/Cattle/inv.php

[MrB]

NB S-1/A

http://www.sec.gov/Archives/edgar/data/1474299/000104746910007645/a2196290zs-1a.htm

 

Old 10Ks

http://www.sec.gov/cgi-bin/browse-edgar?action=getcompany&CIK=0001273784&type=10-k&dateb=&owner=include&count=40

 

[MrB]

Model:

 

This is how I understand it; feel free to correct.

 

National Beef has two plants in Kansas of which profitability is driven by,

1. Assembly costs of cattle (larger plant, bigger area, higher assembly costs)

2. Plant efficiency

3. By product

4. Cost to end markets

 

It used to have 3 plants, but in 2013 it shut down its CA plant. If you read the following and 10k comments at the time then it was because of 1. above.

 

http://dryagebeef.meatingplace.com/

http://dryagebeef.meatingplace.com/#slide3

 

Plant efficiency is under management's control, but since average net margins in NB runs at 2% it is really up to the spread between cattle prices (buying), beef prices (selling) and what you get for the by product/non-beef bits (the drop) that dictates the outcome.

 

2015 10k p.36 explains in more detail.

 

National Beef expects its profitability to improve as the ratio of the USDA comprehensive boxed beef cutout (a weekly reported measure of the total value of all USDA inspected primal cuts, grind and trim produced from fed cattle) to the USDA 5- area weekly average slaughter cattle price increases and for profitability to decline as the ratio decreases. While the ratio during 2015 was the highest since 2010, the drop credit value (amount received for all products other than beef that are produced when cattle are processed) as a percentage of cattle price was at a historically low level and had a negative impact on profitability.

 

The easiest way to understand it is by looking at the USDA report (attached and here https://www.ams.usda.gov/mnreports/lswwcbs.pdf)

 

Chart one is BUY, two is SELL and four is DROP. As you can see, not a great start to the year.

 

Anyway, other useful bits of info are,

1. If you compare S-1 mentioned earlier and 10k depreciation and amortization numbers you will note that the number roughly doubled under LUK, so it means 2014 & 2013 was cash flow break even. 2013 also included an impairment charge of $60m related to the property of the CA plant closure.

 

2. You would think meat packers would do better, even in bad times considering the heavy concentration at the top end (top 4 controls 80%)

https://www.hcn.org/issues/43.5/cattlemen-struggle-against-giant-meatpackers-and-economic-squeezes/the-big-four-meatpackers-1

 

3. Who is going to buy this thing? Might be a tougher sell than expected. http://www.choicesmagazine.org/UserFiles/file/PI2.pdf

 

4. NB never had a loss making year, since 2000 (as far as I could go back) until LUK bought it. Net margins troughed at 0.4% and peaked at 4.3%. Averaged 2% until LUK bought it and including the LUK ownership it drops to 1.6% (Tyson & JBS's margins are closer to 1%). I suspect LUK is managing earnings more aggressively and that cash flows are better. Either way normalized earnings on current revenues are in the $115m-$150m range. Historical numbers indicate it is carrying debt of around $400m.

lswwcbs.pdf

[ratiman]

Interesting. It looks like meat packing is indirectly a bet on oil produces:

 

Recently a cattle producer asked about the term “drop credit” as it related to beef value. Drop credit (or drop charge) is the value of nonmeat items such as blood, meat, hides, fat, bones, hair, etc. The term is also applied to pork values.

 

Today’s drop credit for a steer or heifer is approximately $14 per cwt. live weight. Much of this value is influenced by energy prices and those parts of the animal carcass which provide energy by-products such as tallow. The weighted average price of choice white grease is about $25-30 per cwt. Last year it was about $13. This choice white grease is used in rations for both pigs and poultry.

 

Besides the talon, other drop credit items of the animal include hide, tongue, head and cheek meat, tail, heart, lips, liver, lungs, bone and blood.

 

The whole article is worth reading. It takes one half-acre to feed a person for a year.

 

http://www.roundupweb.com/story/2013/03/06/opinion/drop-credit-what-is-it/2230.html

[HJ]

USD strength vs. Canada / Australia is likely a significant headwind that limits US export.

[ratiman]

LUK shuts down bond trading:

 

http://www.reuters.com/article/us-jefferies-restructuring-exclusive-idUSKCN0W804O?

 

Jefferies Group LLC will merge its junk-rated loans and bonds business with the junk debt unit of its joint venture with MassMutual Financial Group, according to people familiar with the matter, in the biggest reorganization by a U.S. investment bank since the leveraged finance markets seized up last year.

 

. . .

 

According to the people familiar with the matter, Jefferies' leveraged finance business will be combined with the junk debt origination team of Jefferies Finance LLC, the joint venture between Jefferies and U.S. life insurer MassMutual.

 

Jefferies' management presented the changes internally as a way to boost efficiency and focus on clients, rather than a response to troubled deals, the sources said. It was not immediately clear if the combination would offer Jefferies more financial resources to increase lending.