RF Capital Group Inc.

Harris Fricker - President and CEO Deb Starkman - CFO

Sumit Malhotra - Scotia Capital

Good morning, and thanks for joining us as we walk through GMP’s fourth quarter and full year 2016 results. With me this morning is Deb Starkman, our CFO.

Before we get started, I would like to remind you this call is being webcast and will be available for subsequent replay. Our remarks and answers to your questions today may contain forward-looking information and actual results could differ materially.

Forward-looking information is subject to numerous risks and uncertainties. Certain factors or assumptions applied in forward-looking information can be found in our 2016 AIF and our 2016 annual MD&A.

These documents are available on our website and also on cedar.com. Let's now walk through GMP's fourth quarter and full year results.

The fourth quarter marked a strong finish to a challenging year. The operating environment improved dramatically this past quarter, characterized by rising equity markets, a solid rebound in commodities and generally positive investor sentiment.

A notable increase in risk appetite amongst clients translated into significant activity for the firm, particularly in commodities. The recently acquired GMP First Energy business was a significant contributor to earnings this quarter.

Our fourth quarter performance evidences the benefits of a leaner GMP, the resilience of our business and the significant operating leverage built into our franchise this past year. It is worth highlighting that while revenues increased 85% year-over-year, expenses decreased 16% over the same period.

We have maintained all along that the earnings power of our franchise will become more evident in better markets, and while fourth quarter was far from record territory for our industry, we are pleased to have generated solid earnings for shareholders. In Q4, revenues increased 85% compared with the same period a year ago.

Most notably investment banking fees and commission revenue rose 230% and 53% respectively compared with Q4 last year. GMP generated adjusted net income of $6.9 million or $0.07 per diluted share, and adjusted ROE was just over 10%.

While our results are encouraging and represent our strongest quarterly adjusted earnings since Q2 2014, as fellow shareholders we know there is always opportunity to improve. Looking back at the full year, there was a sharp contrast between the fourth quarter and the first three quarters of the year.

Our volatile and uncertain market environment from much of the year weighed heavily on client activity levels and in turn in our financial performance. This was particularly acute in commodities where business activity was at a virtual standstill during the first two months of 2016.

The negative sentiment gave way to moderate growth momentum late in the third quarter, led largely by OPEC's decision to cut global oil production. As mentioned previously, client activity picked up in the fourth quarter and GMP was able to capitalize on the opportunities in a resurgent commodity sector.

GMP ended 2016 with total revenue of $196 million. Revenues decreased 12% in 2016, compared with 2015, primarily due to lower advisory revenue, which decreased 24%.

More than offsetting this decline was a 21% decrease in expenses reflecting efficiency gains from restructuring initiatives undertaken and completed in 2016 which significantly reduced the firm's fixed cost. Adjusted net income was $5.5 million this year, representing a substantial improvement from the adjusted net loss of $20.4 million reported last year.

While we are pleased with these results in the context of an uncertain market environment, I am equally encouraged with the considerable progress made towards strategically repositioning the franchise. We completed a major restructuring of our capital markets business, which resulted in approximately $50 million in run rate cost savings.

The byproduct of this heavy lifting on the cost side of the business is a very meaningful boost to the firm's operating leverage. We also completed the acquisition of Calgary based FirstEnergy late in the third quarter.

This acquisition considerably strengthens our energy franchise, the benefits of which were evident in our fourth quarter performance. In GMP FirstEnergy, we acquired a highly-accomplished energy sector specialist and a business that remains an important part of the fabric of the Canadian energy culture.

We expect the GMP FirstEnergy business to be a meaningful contributor to the firm's bottom line going forward. Lastly, in November having evaluated several alternatives thoroughly, we conclude that there was considerable value in staying the course, with regard to our ownership in Richardson GMP.

We continue to see significant opportunity for Canadian wealth manager with scale that is not reflected [ph] in the provision of advice and is product agnostic. Let me now walk you through the quarterly financial highlights for our two business segments.

Capital Markets reported fourth quarter pretax earnings of $12.8 million, compared with a pretax adjusted net loss of $10.4 million in Q4 last year. This substantial increase was primarily a result of a more than tripling of our investment banking fees, and a 53% increase in commission revenue.

The financial results of GMP FirstEnergy were included for the first time this quarter. Revenue was just over $62 million for the quarter, up a notable 90% year-over-year.

A sharp increase in investment banking and commission revenue this quarter was partly offset by lower fixed income client trading revenue. Let me briefly expand in each of these areas.

Investment banking revenue of $38.2 million in the quarter was up 230%, and represents the strongest quarterly performance since Q2 2015. M&A advisory fees rose 342% relative to Q4 last year, while underwriting fees rose a 157%.

We continue to believe that the fundamentals for a solid M&A cycle remain intact. While growth in the energy sector was the largest contributor to the increase in investment banking fees, in large part to the inclusion of GMP FirstEnergy, it is worth noting that each of our industry sectors recorded a year-over-year increase in revenues.

This is strong evidence that GMP Securities remains a robust competitor in all aspects of the Canadian [indiscernible] cap market through all aspects of the market cycle. Following the addition of GMP FirstEnergy, GMP is the only national independent with top tier franchises in both mining and oil and gas, Canada's two single largest economic sectors.

Further, our non-resource investment banking franchise again proved its resilience with fees more than doubling compared to Q4 2015. In sales and trading, commission revenue increased 53% to $14 million this quarter, largely reflecting increased market share since the acquisition of GMP FirstEnergy and higher client activity amid favorable equity market conditions and rising energy prices.

Following the acquisition of GMP FirstEnergy, we are now one of the most active traders of energy securities in the industry. Turning now to principle transactions, where net gains of $6 million this quarter compared with net gains of $8.3 million last year.

The decrease is largely driven by a 38% decrease in client fixed income trading to $7.5 million this quarter. Partly offsetting this decrease was improved returns of principle inventories.

We continue to believe there is meaningful upside in terms of activity levels in our fixed income trading business, given its very low capital intensity. With that, let's turn to wealth management, where Richardson GMP reported adjusted EBITDA of $8.4 million.

Assets under administration ended the quarter at $29.4 billion, up 12% from Q4 last year. The number of advisory teams grew to 199, resulting in average AUA per advisory team of nearly $150 million.

By any measure, Richardson GMP is a top Tier wealth management firm, offering the most compelling wealth management solutions for Canada's high net worth families. And I'll now turn it over to Deb for review of expenses.

Thanks Harris. Total expenses of $58.6 million this quarter decreased 16%, compared with Q4 last year.

You will recall that Q4 last year included $21.5 million in restructuring charges. Well, for the first time this quarter, we recorded share based compensation in connection in the unvested common shares issued to former First Energy shareholders.

That amount was $3.5 million this quarter, and is highlighted in the non-GAAP measure section in our 2016 MD&A. The cost of those unvested shares will be recognized over the vesting period for accounting purposes and are being recorded in our corporate segment.

Excluding these items from their respective quarters, total expenses would have increased 15% year-over-year, largely due to higher variable compensation, commensurate with increased revenue generation. This is quite remarkable, considering revenues increased 85% over the same period and speaks to the considerable operating leverage in our business model that Harris mentioned earlier.

Fixed salaries and benefits are down considerably, despite the acquisition of First Energy and reflect 33% rationalization of total headcount since the beginning of 2016, including the exiting of certain underperforming businesses outside of Canada. We are clearly beginning to see the fruits of the heavy lifting completed on the cost side of the business.

The run-rate savings from these initiatives is approximately $50 million, which represents a roughly 22% reduction in our expense line. Now let's review expenses from our capital market segment.

Capital market expenses of $49.8 million in the quarter decreased 23% from Q4 last year. This decrease largely reflects prior year restructuring charges.

The fixed cost in this business have been substantially reduced. An increase in variable compensation relative to Q4 last year was commensurate with the increase in revenue, demonstrating the highly variable nature of our cost structure in the business.

Without doubt our cost structure has better aligned the new normal in our industry, and as always, we will continue to maintain diligent and prudent approach to expenses, capital preservation and risk management. And now I'll turn it back to over to Harris for closing remarks.

Thanks Deb. Before we take your questions, let me close with the following thoughts on the state of our franchise.

Our Q4 performance is encouraging. The operating environment improved relative to the start of 2016, but past experience reminds us that this dynamic can change quickly.

Having gone through a major restructuring of our business, we are able to react and adjust to changing market conditions quicker than ever before. The efforts to strengthen our franchise, which I outlined in my opening remarks have been highly impactful, and I believe will prove meaningful to our longer-term performance.

Simply put, we are aware we need to be operational, and we feel confident in our business model at this stage in the cycle. We are significantly leaner and have the right teams in place to run the business, protect capital and weather the inevitable ebbs and flows in the markets.

Our actions also reaffirm our belief in the independent model and signal the emergence of a stronger, better diversified and battle ready GMP. Throughout the year, we were guided by a simple operating mantra, namely, sustain the business and preserve capital and liquidity in the market troughs in order to exploit the opportunity for earnings torque in more robust markets.

You don't need to look further than our last quarter to see the benefits of GMP's enhanced operating torque. We continue to manage expenses closely, and we entered 2017 with strong capital and liquidity which are the foundation of our strong competitive positioning in the independent brokerage space.

Today GMP is the only Canadian national independent player with profitability and scale in both capital markets and wealth management and we will continue to play a crucial role in connecting Canadian small and midcap companies with the advice and capital necessary to grow their businesses. And with that we're pleased to take your questions.

First, a couple of numbers questions to get started please. On your stake in Richardson GMP, so on the income statement, we see that your contribution was a loss of about $900,000, which seems at odds with the positive trends that we saw in revenue for Rich GMP.

I did notice there was some new disclosure on taxes. Was there something one off in nature that caused you to pick up a loss when the operating environment seemed to be pretty good for that business?

We took a tax expense of $4.2 million for the first time in the business having set up the deferred tax assets at the end of last year.

And is that something that is non-recurring going forward, or I would think that business was -- would have -- if you're positively -- or if you're making revenue and earnings consistently, you're going to have the taxes as a more regular event, right?

Yes, that'll be a recurring event.

Okay. So, that will have some impact on what you pick up?

Correct.

And then secondly, you talked a lot about the expense movements that you've made over the past year so. And I think we've certainly seen the operating leverage as you alluded to.

I wanted to ask, especially post the acquisition of FirstEnergy, I did notice your headcount at the total company level was lower. Harris, are you now in a place where you feel that the restructuring and integration efforts are completed and it's set up to go forward as is from here.

Absolutely.

So short and sweet, this isn’t an expense story anymore. Now the focus per shareholder should be, is revenue being driven.

You've done enough on the expense side. I know that story -- as [indiscernible] will say is never completely done, but restructuring integration is over?

Yes, look, we're going to remain vigilant on not allowing fixed cost to creep back into the business. But in the parlance sailing, the ship is tight, the crew is really good.

We just need a moderate amount of wind, which -- again Q4 was nothing to write home about at 65.2. It was an okay quarter.

But on this operating cost base, it allowed us to put forward reasonable results. So I think the heavy lifting is done operationally, but we will absolutely remain vigilant on not allowing cost to creep back into the system.

And I think -- and having covered this sector for a while, we care a lot less about expenses in a good revenue environment. So, I'm certainly hoping that we get the latter without the former coming back in, and I think that's what you're alluding to.

Yes.

Okay. Let's get to a couple of bigger questions.

I feel like over the last few years, a dominant talking point with your Company has been the future of Richardson GMP. Since we last spoke, you did communicate to the market that the partners have decided to hang on to the asset.

Without -- I know there is -- you're probably limited in what specifics you can tell us. But having gone down the path of exploring strategic alternatives, what was the key decision outside of pricing, I'm sure that lead you to believe you're better off with the status quo.

And is this a situation that still has any time-based parameters attached to it as to when we may hear about a potential sale again?

So I think the two key factors that emerged from the analysis we did with our partners of the business pretty much throughout 2016 was twofold. Number one we realized that our investment advisory teams were extremely interested in remaining independent.

And number two, as we looked at the market and talked with the various market participants, we came to understand how differentiated our value proposition was than the other value propositions in the market, especially those put forward by the -- bank owned wealth management platforms. And that is -- number one, we are an advice platform with a high fee element, and we do not manufacture product to sell on the back of that advise.

And that product agnosticism is something our people are very proud of. Because we're serving a high net worth household, we think the ability for our IAs to be delivering what they believe to be and can demonstrate is top tier advise, without the conflict of selling house product, is an increasingly differentiating factor, especially in the high net worth portion of the market.

And we think and are seeing, now that questions about the future of our GMP have presided, we think that's going to be a pretty good recruiting pitch to the established IAE teams out there, who maybe don't want to spend the bulk of their time pitching credit card products to their high net worth customer base.

And, to the extent that the liquidity events for some of the advisors was one of the appeals of a sale process, have they been placated in terms of having a vehicle to monetize their ownership in the business?

We've had extensive internal discussion, including Andrew Marsh and his team having done a cross country tour. There's no question that at some point in time for any investor, liquidity makes sense.

Again, with the performance of the business and it's positioning in the market as a differentiated scale play and really the only Canadian play with scale and profitability in the market, as I said, we think that's a pretty valuable recruiting platform. It also means that there's a variety of options available to this business when the three partners think it makes sense to monetize all or part in terms of the options we look at.

That could certainly include -- at some point in time, if all three parties are so inclined, an initial public offering. This is certainly a viable growing highly differentiated asset with scale in one of the less capital intensive parts of the business in Canada.

So, I think what we learned about 2016 from all of the work we did on the asset is the assets got an enormous amount of value and lots of optionality going forward.

That's helpful. I think it's been -- not to say that management can operate on a dual track, but I feel like there's been more conversation regarding the potential market value of that business, than there has been on its own operating performance and how that can be approved, and at least in my way of thinking, if the consistent divestiture chatter is now off the table, it should allow for more focus in making this business run more tightly as you've done on the capital market side?

Yes, and Sumit, that's exactly where we're going, is to continue to grow the business, but run the business with an emphasis on cost control, which the guys have done a good job on in 2016, and enhanced profitability for all shareholders.

All right. And then let's wrap up just with the core business and especially as it relates to revenue.

As you said 65 million maybe doesn't have us dancing on the tables, but a better result than we've seen in sometime. With your business, in particular, when it's really humming, I've always thought that the financing line, the [indiscernible] emails is really what makes it go.

this quarter you had a bigger contribution from advisory fees, which I think we'll agree can be somewhat lumpier in nature. So when we look at underwriting, a bit of a slower start to the year on underwriting activity, at least from what I've seen.

Is there -- from a pipeline perspective enough going on that you are as bullish with underwriting as you sounded on the potential for advisory? And secondly just structurally, the world feels a lot different than it did a year ago at this time when we were coming up to $25 a barrel oil price, but we have been somewhat range bound from a price perspective.

Is that impacting the ability of some of your midcap clients to access the market?

Yes, great questions. When I look at it from a high level, I always kind of say underwriting long term should be 60% and advisory should be 40%.

And obviously there are going to be periods where there is variability in there. Given what happened in the first three quarters, if you look at the revenue performance of the business, it was pretty constrained.

And that was reflective of the lack of risk on appetite for small to mid-caps in Canada, especially in the commodity space, which of course is the dominant area. So I would -- as a practitioner in that space, I would simplify it as -- as we got some normalcy in Q4, it basically laid the groundwork for M&A that had been behind pipe for several quarters, lots of conversations.

It laid the groundwork for that to happen. The real factor right now on the underwriting side is, as we're seeing it and whether you take look at industrials or oil and gas, is what's going to be the effect of the Trump administration in terms of cross-border flows and obviously, product flows.

As we get more clarity on that, I think you will see a rather robust underwriting cycle. And we had, I would say an okay February, a weak January in terms of the overall market activity, an okay February and lots of different sectors testing the market.

But as we get more determinacy on the interrelations between Canada and the U.S. with regards to trade and NAFTA, I do expect to see that pick up.

Thank you, operator and thank you everyone for joining us today. We look forward to updating you at our Q1 call in April.

Thank you.