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OPY > SEC Filings for OPY > Form 10-Q on 10-Nov-2011All Recent SEC Filings




Quarterly Report

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

The Company's condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America. Reference is also made to the Company's consolidated financial statements and notes thereto found in its Annual Report on Form 10-K for the year ended December 31, 2010.
The Company engages in a broad range of activities in the securities industry, including retail securities brokerage, institutional sales and trading, investment banking (both corporate and public finance), research, market-making, trust services and investment advisory and asset management services. Its principal subsidiaries are Oppenheimer & Co. Inc. ("Oppenheimer") and Oppenheimer Asset Management ("OAM"). As at September 30, 2011, the Company provided its services from 94 offices in 26 states located throughout the United States, offices in Tel Aviv, Israel, Hong Kong, China, and London, England and in two offices in Latin America through local broker-dealers. Client assets entrusted to the Company as at September 30, 2011 totaled approximately $77.3 billion. The Company provides investment advisory services through OAM and Oppenheimer Investment Management ("OIM") and Oppenheimer's Fahnestock Asset Management, ALPHA and OMEGA Group divisions. At September 30, 2011, client assets under management by the asset management groups totaled $17.7 billion. The Company provides trust services and products through Oppenheimer Trust Company. The Company provides discount brokerage services through Freedom and through BUYandHOLD, a division of Freedom Investments, Inc. Through OPY Credit Corp., the Company offers syndication as well as trading of issued corporate loans. Oppenheimer Multifamily Housing and Healthcare Finance, Inc. (formerly Evanston Financial Corporation) ("OMHHF") is engaged in mortgage brokerage and servicing. At September 30, 2011, the Company employed 3,610 employees (3,536 full time and 74 part time), of whom approximately 1,408 were financial advisors.
Critical Accounting Policies
The Company's accounting policies are essential to understanding and interpreting the financial results reported in the condensed consolidated financial statements. The significant accounting policies used in the preparation of the Company's condensed consolidated financial statements are summarized in notes 1 and 2 to the Company's consolidated financial statements and notes thereto found in its Annual Report on Form 10-K for the year ended December 31, 2010. Certain of those policies are considered to be particularly important to the presentation of the Company's financial results because they require management to make difficult, complex or subjective judgments, often as a result of matters that are inherently uncertain.
During the three months ended September 30, 2011, there were no material changes to matters discussed under the heading "Critical Accounting Policies" in

Part II, Item 7 of the Company's Annual Report on Form 10-K for the year ended
December 31, 2010.
Business Environment
The securities industry is directly affected by general economic and market conditions, including fluctuations in volume and price levels of securities and changes in interest rates, inflation, political events, investor participation levels, legal and regulatory, accounting, tax and compliance requirements and competition, all of which have an impact on commissions, firm trading, fees from accounts under investment management as well as fees for investment banking services, and investment income as well as on liquidity. Substantial fluctuations can occur in revenues and net income due to these and other factors.

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For a number of years, the Company has offered auction rate securities ("ARS") to its clients. A significant portion of the market in ARS has 'failed' because, in the tight credit market, the dealers are no longer willing or able to purchase the imbalance between supply and demand for ARS. These securities have auctions scheduled on either a 7, 28 or 35 day cycle. Clients of the Company own a significant amount of ARS in their individual accounts. The absence of a liquid market for these securities presents a significant problem to clients and, as a result, to the Company. It should be noted that this is a failure of liquidity and not a default. These securities in almost all cases have not failed to pay interest or principal when due. These securities are fully collateralized for the most part and, for the most part, remain good credits. The Company has not acted as an auction agent for ARS.
Interest rates on ARS typically reset through periodic auctions. Due to the auction mechanism and generally liquid markets, ARS have historically been categorized as Level 1 in the fair value hierarchy. Beginning in February 2008, uncertainties in the credit markets resulted in substantially all of the ARS market experiencing failed auctions. Once the auctions failed, the ARS could no longer be valued using observable prices set in the auctions. The Company has used less observable determinants of the fair value of ARS, including the strength in the underlying credits, announced issuer redemptions, completed issuer redemptions, and announcements from issuers regarding their intentions with respect to their outstanding ARS. The Company has also developed an internal methodology to discount for the lack of liquidity and non-performance risk of the failed auctions. Key inputs include spreads on comparable Treasury yields to derive a discount rate, an estimate of the ARS duration, and yields based on current auctions in comparable securities that have not failed. Due to the less observable nature of these inputs, the Company categorizes ARS in Level 3 of the fair value hierarchy. As of September 30, 2011, the Company had a valuation adjustment (unrealized loss) of $4.0 million for ARS.
The Company has sought, with limited success, financing from a number of sources to try to find a means for all its clients to find liquidity from their ARS holdings and will continue to do so. There can be no assurance that the Company will be successful in finding a liquidity solution for all its clients' ARS holdings. See "Risk Factors - The Company may continue to be adversely affected by the failure of the Auction Rate Securities Market" in the Company's Annual Report on Form 10-K for the year ended December 31, 2010 and "Factors Affecting 'Forward-Looking Statements".
Recent events have caused increased review and scrutiny on the methods utilized by financial service companies to finance their short term requirements for liquidity. The Company utilizes commercial bank loans, securities lending, and repurchase agreements (through overnight, term, and repo-to-maturity transactions) to finance its short term liquidity needs (See "Liquidity"). All repurchase agreements and reverse repurchase agreements are collateralized by short term U.S. Government obligations and U.S. Government Agency obligations. The Company is focused on growing its private client and asset management businesses through strategic additions of experienced financial advisors in its existing branch system and employment of experienced money management personnel in its asset management business. In addition, the Company is committed to the improvement of its technology capability to support client service and the expansion of its capital markets capabilities while addressing the issue of managing its expenses to better align them with the current investment environment. The Company will continue to nurture the growth of OMMHF as well as its business in non-U.S. markets.

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Regulatory and Legal Environment
The brokerage business is subject to regulation by, among others, the Securities and Exchange Commission ("SEC") and FINRA (formerly the NYSE and NASD) in the United States, the Financial Services Authority ("FSA") in the United Kingdom, the Securities and Futures Commission in Hong Kong ("SFC"), the Israeli Securities Authority ("ISA") in Israel and various state securities regulators in the United States. Events in recent years surrounding corporate accounting and other activities leading to investor losses resulted in the enactment of the Sarbanes-Oxley Act and have caused increased regulation of public companies. New regulations and new interpretations and enforcement of existing regulations are creating increased costs of compliance and increased investment in systems and procedures to comply with these more complex and onerous requirements. Increasingly, the various states are imposing their own regulations that make the uniformity of regulation a thing of the past, and make compliance more difficult and more expensive to monitor.
In July 2010, Congress enacted extensive legislation entitled the Dodd-Frank Wall Street Reform and Consumer Protection Act ("Dodd Frank") in which it mandated that the SEC and other regulators conduct comprehensive studies and issue new regulations based on their findings to control the activities of financial institutions in order to protect the financial system, the investing public and consumers from issues and failures that occurred in the recent financial crisis. All relevant studies have not yet been completed, but they are widely expected to extensively impact the regulation and practices of financial institutions including the Company. The changes are likely to significantly reduce leverage available to financial institutions and to increase transparency to regulators and investors of risks taken by such institutions. It is impossible to presently predict the nature of such rulemaking, and rules adopted in the U.S. and the United Kingdom would create a new regulator for certain activities, regulate and/or prohibit proprietary trading for certain deposit taking institutions, control the amount and timing of compensation to "highly paid" employees, create new regulations around financial transactions with consumers requiring the adoption of a uniform fiduciary standard of care of broker-dealers and investment advisers providing personalized investment advice about securities to retail customers, and increase the disclosures provided to clients, and possibly create a tax on securities transactions. If and when enacted, such regulations will likely increase compliance costs and reduce returns earned by financial service providers and intensify compliance overall. It is difficult to predict the nature of the final regulations and their impact on the business of the Company.
Prohibitions and Restrictions on Proprietary Trading and Certain Interests in, and Relationships with, Hedge Funds and Private Equity Funds (the "Volcker Rule") was recently published by the U.S. Federal Reserve Board as required by Dodd-Frank. The Volcker Rule is intended to restrict U.S. banks and other financial institutions that accept deposits from conducting proprietary trading activities, as well as investing in hedge funds and private equity funds for their own account. The intent of the Volcker Rule is to reduce risk to the capital of such institutions through reducing speculation and risk-taking with bank capital. The draft form of the proposed rule is being exposed for comment until January 13, 2012 and is scheduled to become effective on July 21, 2012. While it is widely expected that the impact of the Volcker Rule may significantly impact the liquidity in various capital markets, the effect cannot be predicted. The Company believes that the Volcker Rule will not directly affect its operations, but indirect effects cannot be predicted with any certainty.

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The impact of the rules and requirements that were created by the passage of the Patriot Act, and the anti-money laundering regulations (AML) in the U.S. and similar laws in other countries that are related thereto have created significant costs of compliance and can be expected to continue to do so. Pursuant to FINRA Rule 3130 (formerly NASD Rule 3013 and NYSE Rule 342), the chief executive officers ("CEOs") of regulated broker-dealers (including the CEO of Oppenheimer) are required to certify that their companies have processes in place to establish and test supervisory policies and procedures reasonably designed to achieve compliance with federal securities laws and regulations, including applicable regulations of self-regulatory organizations. The CEO of the Company is required to make such a certification on an annual basis and did so in March 2011.
Other Regulatory Matters
For several quarters, Oppenheimer has been responding to information requests from the Enforcement Staff of FINRA regarding Oppenheimer's policies and procedures in relation to, and the activities of several financial advisors concerning, the sale of low-priced securities. The Company has responded to numerous document requests and there have been on-the-record testimony given by financial advisors and supervisory personnel who work in several of Oppenheimer's branch offices.
On June 23, 2011, Oppenheimer received notice of an investigation by the SEC pursuant to which the SEC requested information from the Company regarding the sale of a number of low-priced securities effected primarily through one of Oppenheimer's financial advisors. Oppenheimer is continuing to respond to information requests as part of the investigation.
Oppenheimer is continuing to cooperate with the investigating entities and will continue to closely monitor the activities of its financial advisors and their supervisors in relation to the sale of low-priced securities.
In February 2010, Oppenheimer finalized settlements with each of the New York Attorney General's office ("NYAG") and the Massachusetts Securities Division ("MSD" and, together with the NYAG, the "Regulators") concluding investigations and administrative proceedings by the Regulators concerning Oppenheimer's marketing and sale of auction rate securities ("ARS"). Pursuant to those settlements, as of September 30, 2011, the Company purchased and holds approximately $69.3 million in ARS from its clients pursuant to several purchase offers and legal settlements. The Company's purchases of ARS from its clients will continue on a periodic basis thereafter pursuant to the settlements with the Regulators. In addition, the Company is committed to purchase another $40.2 million in ARS from clients through 2016 and pay approximately $2.5 million as a result of legal settlements with clients. The ultimate amount of ARS to be repurchased by the Company cannot be predicted with any certainty and will be impacted by redemptions by issuers and client actions during the period, which cannot be predicted. In addition to the ARS held pursuant to purchases from clients of $69.3 million as of September 30, 2011 referred to above, the Company also held $2.1 million in ARS in its proprietary trading account as of September 30, 2011 as a result of the failed auctions in February 2008. These ARS positions primarily represent Auction Rate Preferred Securities issued by closed-end funds and, to a lesser extent, Municipal Auction Rate Securities which are municipal bonds wrapped by municipal bond insurance and Student Loan Auction Rate Securities which are asset-backed securities backed by student loans (collectively referred to as "ARS").
The Company's clients held at Oppenheimer approximately $402.8 million of ARS at September 30, 2011, exclusive of amounts that 1) were owned by Qualified Institutional Buyers ("QIBs"), 2) were transferred to the Company after February 2008, 3) were purchased by clients after February 2008, or 4) were transferred from the Company to other securities firms after February 2008.

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See "Risk Factors - The Company may continue to be adversely affected by the failure of the Auction Rate Securities Market," appearing in Item 1A to the Company's Annual Report on Form 10-K for the year ended December 31, 2010 and "Legal Proceedings" herein.
Other Matters
A subsidiary of the Company was the administrative agent for two closed-end funds until December 5, 2005. The Company was advised by the current administrative agent for these two funds that the Internal Revenue Service ("IRS") had asserted a claim for interest and penalties for one of these funds with respect to the 2004 tax year as a result of an alleged failure of such subsidiary to take certain actions. On October 14, 2011, Oppenheimer entered into a settlement agreement with the adviser to one of the aforementioned funds pursuant to which Oppenheimer paid approximately $2.5 million. Oppenheimer also received approximately $1.3 million in contribution from two other parties involved in the matter, making Oppenheimer's net payment equal to approximately $1.2 million. The Company considers this matter now closed.
In April 2008, Oppenheimer commenced an action against Metal Management Inc. ("Metal") in the United States District Court for the Southern District of New York (the "Court") to collect an unpaid fee related to an investment banking transaction. On June 20, 2011, the Court issued an order granting Oppenheimer's motion for summary judgment. On July 25, 2011, Metal appealed such order to the United States Court of Appeals for the Second Circuit. On August 26, 2011, Oppenheimer entered into a settlement agreement pursuant to which Metal paid to Oppenheimer approximately $10 million. See further discussion in Results of Operations, below.
The Company operates in all state jurisdictions in the United States and is thus subject to regulation and enforcement under the laws and regulations of each of these jurisdictions. The Company has been and expects that it will continue to be subject to investigations and some or all of these may result in enforcement proceedings as a result of its business conducted in the various states. As part of its ongoing business, the Company records reserves for legal expenses, judgments, fines and/or awards attributable to litigation and regulatory matters. In connection therewith, the Company has maintained its legal reserves at levels it believes will resolve outstanding matters, but may increase or decrease such reserves as matters warrant. In accordance with applicable accounting guidance, the Company establishes reserves for litigation and regulatory matters when those matters present loss contingencies that are both probable and reasonably estimable. When loss contingencies are not both probable and reasonably estimable, the Company does not establish reserves. In some of the matters described below under "Legal Proceedings", including but not limited to the U.S. Airways matter, loss contingencies are not probable and reasonably estimable in the view of management and, accordingly, reserves have not been established for those matters. See "Legal Proceedings" herein and note 13 to the consolidated financial statements appearing in Item 8 to the Company's Annual Report on Form 10-K for the year ended December 31, 2010.

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Business Continuity
The Company is committed to an on-going investment in its technology and communications infrastructure including extensive business continuity planning and investment. These costs are on-going and the Company believes that current and future costs will remain high due to business and regulatory requirements. This investment increased in 2008 and 2009 as a result of the January 2008 acquisition of certain businesses from CIBC and the Company's need to build out its platform to accommodate these businesses. The Company made infrastructure investments for technology in 2010 when it built a new data center both to accommodate its existing and future business and to restructure its disaster recovery planning. The recent signing of a lease to consolidate and move the Company headquarters in New York will require additional changes and investments in the Company's disaster recovery planning. Outlook
The Company's long-term plan is to continue to expand existing offices by hiring experienced professionals as well as through the purchase of operating branch offices from other broker dealers or the opening of new branch offices in attractive locations, thus maximizing the potential of each office and the development of existing trading, investment banking, investment advisory and other activities. Equally important is the search for viable acquisition candidates. As opportunities are presented, it is the long-term intention of the Company to pursue growth by acquisition where a comfortable match can be found in terms of corporate goals and personnel at a price that would provide the Company's stockholders with incremental value. The Company may review additional potential acquisition opportunities, and will continue to focus its attention on the management of its existing business. In addition, the Company is committed to improving its technology capabilities to support client service and the expansion of its capital markets capabilities. Results of Operations
The Company reported net profit of $2.1 million or $0.15 per share for the third quarter of 2011 compared to $3.7 million or $0.27 per share in the third quarter of 2010. Revenue for the third quarter of 2011 was $231.6 million compared to revenue of $235.1 million in the third quarter of 2010, a decrease of 1.5%. Client assets entrusted to the Company and under management totaled approximately $77.3 billion while client assets under fee-based programs offered by the asset management groups totaled approximately $17.7 billion at September 30, 2011 ($71.5 billion and $17.9 billion, respectively, at September 30, 2010).
The Company's net profit for the nine months ended September 30, 2011 was $6.9 million or $0.51 per share compared to $20.4 million or $1.53 per share in the same period of 2010. Revenue for the nine months ended September 30, 2011 was $729.6 million, a decrease of 1.4% compared to $739.5 million in the same period of 2010.
After topping out in April, stock markets around the world continued to decline throughout the third quarter. While commodity prices declined during the third quarter, this positive influence was significantly overwhelmed by declining consumer and business confidence due to lack of progress in Washington dealing with the federal debt limit as well as the long term effects of a rising federal deficit and continuing elevated levels of domestic unemployment. The slowing growth in the domestic economy was further and negatively impacted by the sovereign debt issues facing the Euro-zone and Europe's failure to move towards resolving the risks facing the European banks. By the end of the third quarter, share prices had declined almost 20% from their April high and credit spreads had widened considerably with U.S Treasury Yields at all time lows and other forms of debt under heightened pressure.

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Oppenheimer's results were affected by the conditions described above as well as by matters more closely tied to the Company. The Company's institutional business, both equity and fixed income, was adversely affected by low volume levels, high volatility and the fallout from Europe as issues of counter-party risks reached heightened levels by quarter-end. Investment banking income improved as merger activity begun in earlier periods closed. However, conditions prevalent during the quarter brought corporate issuance to a standstill. Fee based programs related to clients' asset management accounts continued to show favorable comparisons as total assets under management were near highs at the beginning of the quarter. Earnings continue to be significantly and adversely affected by low interest rates which severely limit the Company's ability to earn positive spreads from this source.
The following table and discussion summarizes the changes in the major revenue and expense categories for the periods presented:
Expressed in thousands of dollars.

                                            Three months ended                Nine months ended
                                              September 30,                     September 30,
                                             2011 versus 2010                  2011 versus 2010
                                        Period to        Period to       Period to
                                         Period           Period           Period         Percentage
                                         Change           Change           Change           Change
Revenue -
Commissions                            $     2,327              1.9 %    $  (17,807 )            -4.5 %
Principal transactions, net                (14,413 )          -63.6 %       (28,266 )           -46.5 %
Interest                                     3,941             35.1 %        11,603              36.3 %
Investment banking                           7,408             34.0 %         8,046               9.7 %
Advisory fees                                7,340             16.9 %        19,066              14.7 %
Other                                      (10,127 )          -66.7 %        (2,601 )            -7.5 %

Total revenue                               (3,524 )           -1.5 %        (9,959 )            -1.4 %

Expenses -
Compensation and related expenses          (10,535 )           -6.6 %        (5,963 )            -1.2 %
Clearing and exchanges fees                    989             17.9 %          (783 )            -3.9 %
Communications and technology                 (700 )           -4.4 %        (1,432 )            -3.0 %
Occupancy and equipment costs                  815              4.5 %         1,163               2.1 %
Interest                                     3,684             56.3 %        10,657              59.2 %
Other                                        5,418             24.5 %         7,347               9.7 %

Total expenses                                (329 )           -0.1 %        10,989               1.6 %

Profit before income taxes                  (3,195 )          -42.8 %       (20,948 )           -57.0 %
Income tax provision                        (1,405 )          -43.8 %        (7,732 )           -52.0 %

Net profit                                  (1,790 )          -42.1 %       (13,216 )           -60.4 %
Net profit attributable to non-
controlling interest, net of tax              (242 )          -40.7 %           270              17.9 %

Net profit (loss) attributable to
Oppenheimer Holdings Inc.              $    (1,548 )          -42.4 %    $  (13,486 )           -66.2 %

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Highlights of the Company's results for the three and nine months ended September 30, 2011 follow:

Revenue and Expenses
Revenue - Third Quarter 2011
Commission revenue was $123.3 million for the third quarter of 2011, an increase of 1.9%compared to $120.9 million in the third quarter of 2010. Volatile markets in the 2011 period contributed to the increase.

Principal transactions revenue was $8.2 million in the third quarter of 2011 compared to $22.6 million in the third quarter of 2010, a decrease of 63.6%. The decrease stems from lower income from firm investments (a net loss of $5.5 million for the third quarter of 2011 compared to a net gain of $483,000 for the third quarter of 2010) and lower fixed income trading . . .

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