Canaccord Financial Inc. (CF) and GMP Capital Inc. (GMP), Canada’s two largest non-bank brokerages, are plunging to three-year lows on the Toronto Stock Exchange as Europe’s debt crisis saps demand for mergers and financings.
The Toronto-based companies, which rely on trading and fees from mergers and stock sales for more than half of their revenue, are suffering as Canadian equity financings drop to the lowest in two years.
“The problem is, there’s no underwriting, and underwriting is the most lucrative side of the business,” Laura Wallace, who helps manage C$12 billion ($11.9 billion) in stocks and bonds for Scotia Private Client Group, said in an interview at Bloomberg’s Toronto office. “If you’re a retail broker, you need clients who trade. It becomes a bit of a spiral.”
Canadian equity financings, including preferred shares and convertible bonds, fell 9.2 percent this year to $20.9 billion from the same period a year ago, according to data compiled by Bloomberg. Initial public offerings are down 46 percent from a year ago to $993 million, the slowest since 2008. Mergers and trading volume are also down.
“A lack of activity means a lack of revenue when it comes to the brokerage space,” Sumit Malhotra, a financial services analyst with Macquarie Capital Markets in Toronto, said in an interview. Malhotra rates Canaccord neutral, and GMP underperform. “For Canaccord and GMP, the downturn has been particularly severe as it has been centered in the commodity sector, which has been the dominant source of their revenue stream for the past decade.”
Canaccord plunged 62 percent in the past 12 months while GMP has fallen 59 percent, according to data compiled by Bloomberg, underperforming Canada’s banks and insurance companies. The S&P/TSX Financials Index (STFINL) fell 3.3 percent during the period. Canaccord fell 2.3 percent to C$4.75 and GMP was unchanged at C$4.81 at 4 p.m. in Toronto. GMP shares sank on July 10 to the lowest since December 2008, while Canaccord reached its lowest since March 2009 on July 12.
“Our share price has fallen, in line with many other investment-banking stocks in recent months,” Paul Reynolds, Canaccord’s chief executive officer, said at the annual meeting in Toronto on July 12. “Overall market sentiment and global economic concerns have played an unfavorable role in our stock performance.”
In comparison, Jefferies Group Inc. (JEF:US), the New York-based firm that opened its first Canadian office in Toronto last month, has fallen 37 percent in the past 12 months. Greenhill & Co., the advisory firm founded by Robert Greenhill, has dropped 19 percent in the same period.
Mergers have also slowed. Canadian companies have been involved in $131.8 billion of takeovers announced or completed this year, down 17 percent from a year ago, according to data compiled by Bloomberg.
The amount of trading on the Toronto Stock Exchange is down 18 percent in the first half of this year compared with the first six months of 2011, according to TMX Group Inc. statistics. Trading on the junior TSX Venture Exchange has fallen 42 percent.
“The effects of the continued global economic uncertainty continue to play a significant role in shaping our operating environment,” Reynolds said at the meeting. “The volatile market conditions could persist for at least another 24 months, and that will not be resolved until there’s absolute clarity as to how the European debt crisis is addressed.”
Canaccord relied on its Canaccord Genuity investment banking unit for 62 percent of revenue in its fiscal year ended March 31. Canaccord plans to report first-quarter results on Aug. 8.
GMP earned 55 percent of its revenue in 2011 from investment banking, about half of which came from mining and almost a quarter was from the oil-and-gas industry, according to financial statements.
GMP, which is scheduled to report second-quarter results Aug. 3, may cut its dividend for the second time this year unless capital markets activity picks up, Atul Shah, an analyst with BMO Capital Markets, said in a July 12 note.
“The company, like the rest of the industry, continues to face a fragile capital markets environment,” Shah said. “We believe the pace of M&A, equity underwriting and trading activity are unlikely to pick up until the markets, especially the small/mid cap resources space upon which the company focuses, stabilize.”
Shah upgraded GMP to market perform, meaning the stock will perform roughly in line with the market, from underperform, on improved valuation and expectations of continued buying by minority owner James Richardson & Sons Ltd. to support the stock.
The Winnipeg, Manitoba-based money manager has been buying GMP stock, raising its ownership to 24 percent after including warrants, according to a July 10 statement. Richardson & Sons can hold a maximum 27.4 percent of GMP under a November 2009 agreement, when the firm and GMP agreed to combine wealth management businesses.
Rocco Colella, spokesman for GMP, declined to comment. Scott Davidson, a Canaccord spokesman, declined further comment.
GMP and Canaccord have bounced back from crises before. GMP plunged as low as C$3.03 in December 2008 amid the financial crisis, before soaring as high C$16.20 in March 2011. Canaccord rallied as high as C$16.41 in February 2011, from a low of C$2.85 in December 2008.
Canaccord is preparing for a “difficult operating environment” by paring jobs and cutting costs, Reynolds said. The company earlier this month cut 16 positions in Montreal, including eight advisers, following 234 job cuts earlier in the year that were connected with its takeover of British brokerage Collins Stewart Hawkpoint Plc.
Still, Reynolds said he sees improvements in the firm’s second quarter after a “difficult” first period due to the benefits of cost-cutting and fees from large takeovers expected to close by then. Those deals include advising Viterra Inc. on its takeover by Glencore International Plc, and advising Extorre Gold Mines Ltd. on its takeover by Yamana Gold Inc., Reynolds said.
“Our M&A business has been relatively strong and we’re advising on some very large transactions,” Reynolds said in an interview. The firm is gaining market share in equity financings and underwriting in the U.S. and U.K., though the total amount is “down significantly” in those markets.
“We think as you get a resolution in Europe, you’ll see those equity underwriting commissions come back,” he said.
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