Jefferies bolstered as analysts come to its defense

Wed Nov 23, 2011 9:24pm GMT

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* Egan Jones revises flawed revenue figure in JEF report

* Gimme Credit upgrades Jefferies' long-term debt to "buy"

* Shares climb as much as 8.6 percent

* Bank is still at risk of junk rating from Egan Jones

By Lauren Tara LaCapra

Nov 23 (Reuters) - Jefferies Group Inc JEF.N won a small victory in its battle to improve market perceptions after Egan Jones corrected a flaw in a controversial report that raised the possibility the investment bank's bonds could be downgraded to "junk."

Jefferies shares rose as much as 8.6 percent on Wednesday and ended 4.5 percent higher at $10.51, on a day that the S&P 500 and other major indexes fell more than 2 percent.

On Tuesday, Egan Jones cited weak revenue and high leverage as two main factors in its analysis, but the agency incorrectly said Jefferies' 2010 revenue was $524 million, when it was actually $2.4 billion on an annualized basis.

As a result, the report showed Jefferies' revenue declined by 75 percent from the prior year when it had instead increased by 15 percent.

In response to questions about the figures on Wednesday, Egan Jones co-founder Sean Egan directed Reuters to a new report that corrected the revenue figure and cited "skewed financials" related to Jefferies changing its fiscal reporting year in 2010.

While the agency stood by its main contention that Jefferies must raise $1 billion in equity capital and deleverage its balance sheet by $5 billion to avoid a downgrade of its current "BBB-" rating, other analysts jumped to the company's defense after catching the Egan Jones error.

"All analysts make an occasional numerical mistake, but these numbers are so grotesquely wrong they should immediately jump off the page to anyone remotely familiar with the numbers," Oppenheimer bank analyst Chris Kotowski said in a note on Wednesday morning that ridiculed Egan Jones' report as incorrect and unsophisticated.

Another ratings agency, Gimme Credit, upgraded its rating for Jefferies' long-term debt to "buy" from "underperform," saying its bonds had become cheap on overblown concerns.

Kathleen Shanley, a Gimme Credit analyst, noted that the investment bank has reduced its holdings of European debt and said it is not highly leveraged or overly reliant on short-term funding, three reasons Egan Jones has said investors should be worried.

DOWNGRADE THREAT REMAINS

At the crux of Egan Jones' thesis is the argument that, as a mid-sized investment bank, Jefferies is a risky bet for bond investors because it will not receive the same level of support from the government as large Wall Street rivals like Goldman Sachs Group Inc (GS.N) and Morgan Stanley (MS.N).

It initially downgraded Jefferies to just a hair above "junk" after mid-size brokerage firm MF Global Holdings Ltd filed for bankruptcy protection on Oct. 31.

But within the Egan Jones analysis of Jefferies' financial position, Jefferies defenders say it has made some other mistakes along the way, and Jefferies officials have castigated Egan Jones for causing what they say are unwarranted fears about its financial health.

In a sharply worded public letter on Monday, top Jefferies executives criticized an unnamed analyst for having "misled the public" with inaccurate statements about Jefferies' financials. The letter strongly implied that the analyst was Sean Egan. [ID:nN1E7AK0NG]

For example, the analyst "omitted the material fact" that Jefferies had offsetting positions against its sovereign debt holdings that would profit if the value of those securities declined, Jefferies said.

In a report on Nov. 2, Egan Jones said Jefferies' sovereign debt exposure represented 77 percent of shareholder equity, a calculation that did not factor in hedges.

To combat a crisis of confidence that was bolstered by the Egan Jones reports, Jefferies moved quickly to sell large chunks of its European sovereign debt and hedge remaining positions.

By Monday, Jefferies said, it had reduced gross exposure by 75 percent and had a net short position of $134 million to Greek, Irish, Italian, Portuguese and Spanish sovereign bonds.

Jefferies shares had declined an average of 1.6 percent on each trading day since MF Global's bankruptcy and were down 24 percent since then as of Tuesday's close.

(Reporting by Lauren Tara LaCapra in New York; Editing by Steve Orlofsky))

((Email: lauren.lacapra@thomsonreuters.com; +1 646 223 6116)) Keywords: JEFFERIES/ANALYST

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