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October
1, 2012
VIA EDGAR
Ms. Suzanne Hayes
Assistant Director
Division of Corporation Finance
United States
Securities and Exchange Commission
100 F Street, N.E.
Washington, D.C. 20549
RE:
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Stifel Financial Corp.
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Form 10-K for the Fiscal Year Ended December 31, 2011
Filed February 28, 2012
Form 10-Q for the Quarterly Period Ended June 30, 2012
Filed August 9, 2012
File No. 001-09305
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Dear Ms. Hayes:
This letter sets forth the responses of Stifel Financial Corp. (the
"Company") to the comments by the staff (the "Staff") of the Securities and
Exchange Commission (the "Commission") contained in the Staff's letter dated
September 18, 2012. For your convenience, the text of the Staff's comments
is set forth in italics below, followed in each case by our response.
Form 10-K for the Fiscal Year Ended December 31, 2011
Management's Discussion and Analysis of Financial Condition and Results of
Operations, page 28
Liquidity and Capital Resources, page 60
1.
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Comment:
We note that assets, consisting mainly of cash or assets readily
convertible into cash, are your principal source of liquidity.
It is not clear from your disclosure however, which specific
assets are considered liquid and your basis for considering
these assets liquid. Please provide us with and disclose the
following in future filings:
● a
schedule detailing the assets you consider to be highly liquid
for each balance sheet presented;
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the estimated amount of time it would take to convert those
assets into cash; and
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the amount of each asset class that has been pledged as
collateral either voluntarily or contractually.
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Response:
In response to the Staff's comment, in future filings, beginning with our
Quarterly Report on Form 10-Q for the quarterly period ended September 30,
2012, we will include disclosure along the lines of the following as it
relates to the liquidity of our assets:
Our assets, consisting mainly of cash or assets readily convertible into
cash, are our principal source of liquidity. The liquid nature of these
assets provides for flexibility in managing and financing the projected
operating needs of the business. As of December 31, 2011 we had $4.9 billion
in assets, $2.5 billion of which consisted of cash or assets readily
convertible into cash as follows
(in millions, except
average days to conversion):
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December 31, 2011
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December 31, 2010
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Avg. Conversion
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Cash and cash equivalents
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$ |
167.7 |
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$ |
253.5 |
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Receivables from brokers, dealers, and clearing
organizations
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252.6 |
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247.7 |
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3 days
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Securities purchased under agreements to resell
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75.5 |
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123.6 |
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1 day
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Trading securities owned at fair value
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471.2 |
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385.1 |
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5 days
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Available-for-sale securities at fair value
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1,202.1 |
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1,012.7 |
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3 days
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Held-to-maturity securities at amortized cost
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190.5 |
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52.6 |
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10 days
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Investments
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172.8 |
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146.5 |
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5 days
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Total cash and assets readily convertible to cash
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$ |
2,532.4 |
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$ |
2,221.7 |
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In addition, Stifel Bank's financing arrangement
with the Federal Home Loan Bank ("FHLB") adds additional flexibility in managing
its liquidity position. As of December 31, 2011, Stifel Bank's borrowing
capacity with the Federal Home Loan Bank was $613.5 million based on available
collateral. FHLB borrowing capacity is contingent on the amount of collateral
pledged to the FHLB.
As of December 31, 2011 and 2010, the amount of collateral pledged by asset class is
as follows (in millions):
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December 31, 2011
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December 31, 2010
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Contractual
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Contingent
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Contractual
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Contingent
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Cash and cash equivalents
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$ |
47.6 |
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$ |
- |
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$ |
31.7 |
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$ |
- |
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Trading securities owned at fair value
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80.2 |
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312.2 |
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109.6 |
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162.6 |
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Available-for-sale securities at fair value
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- |
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634.8 |
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- |
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111.6 |
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$ |
127.8 |
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$ |
947.0 |
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$ |
141.3 |
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$ |
274.2 |
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Management of Our Liquidity, page 60
2.
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Comment:
We note that you perform market stress tests for counterparty
risk. It is not clear if you perform similar stress tests on
your liquidity based on a scenario that considers both
market-wide stresses and company-specific stresses. Please tell
us and disclose in your future filings the liquidity related
stress tests you perform, if any. If applicable, address the
following in your disclosure:
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Discuss the inputs and assumptions used in your testing;
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Provide qualitative disclosure of the outputs of your testing
and discuss the objective of such testing; and
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Discuss any internal policies regarding limits of the outputs.
In this regard, discuss any known breaches of internal limits
for the modeled outputs and address your procedures for
addressing such breaches.
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Response:
Our significant operating subsidiary, Stifel
Nicolaus, is subject to the Uniform Net Capital Rule (Rule 15c3-1) promulgated
by the SEC. The Uniform Net Capital Rule is designed to measure the general
financial integrity and liquidity of a broker-dealer and the minimum net capital
deemed necessary to meet the broker-dealer's continuing commitments to its
customers and other broker-dealers. The calculation is based upon allowable liquid
assets subject to certain haircuts for marketability. At December 31, 2011,
Stifel Nicolaus had net capital of $182.1 million, which was $168.8 million in
excess of its minimum required net capital. Stifel Nicolaus has consistently
operated with capital in excess of its regulatory capital requirements. While
the calculation of Stifel Nicolaus' net capital is performed on a monthly basis,
management performs daily liquidity reviews at the broker-dealer.
Stifel Bank performs two primary stress tests on its liquidity position.
These stress tests are based on the following company-specific stresses: (1)
the amount of deposit run-off that Stifel Bank could withstand over a one
month period of time based on its on-balance sheet liquidity and available
credit; and (2) Stifel Bank's ability to fund operations if all available
credit were to be drawn immediately, with no additional available credit.
The goal of these stress tests is to determine Stifel Bank's ability to fund
continuing operations under significant pressures on both assets and
liabilities.
Under both stress tests, Stifel Bank considers cash and highly liquid
investments as available to meet liquidity needs. In its analysis, Stifel
Bank considers Agency MBS, Corporate Bonds, and CMBS as highly liquid. In
addition to being readily financed at modest haircut levels,
Stifel Bank estimates that each of the individual securities within each of
the asset classes described above could be sold into the market and
converted into cash within three business days under normal market
conditions, assuming that the entire portfolio of a given asset class was
not simultaneously liquidated. At December 31, 2011, available cash and
highly liquid investments comprised approximately 50% of Stifel Bank's
assets, which was well in excess of its internal target.
In addition to these stress tests, Stifel Bank management performs a daily
liquidity review. The daily analysis provides Stifel Bank management with
all major fluctuations in liquidity. The analysis also tracks the proportion
of deposits that Stifel Bank is sweeping from its affiliated broker-dealer,
Stifel Nicolaus. In order to minimize volatility in its affiliated deposits,
Stifel Bank will not sweep more than 80% of the total insured sweep deposits
from Stifel Nicolaus. On a monthly basis, liquidity key performance
indicators and compliance with liquidity policy limits are reported to the
Company's Board of Directors (the "Board"). Stifel Bank has not violated any internal liquidity
policy limits.
We will include disclosure along the lines of the foregoing language in
future filings, beginning with our Quarterly Report on Form 10-Q for the
quarterly period ended September 30, 2012.
Use of Capital Resources, page 63
3.
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Comment:
We note that the Stone & Youngberg acquisition agreement
included a contingent earn-out provision which may result in an
additional payment based upon revenue goals. Additionally, we
note your disclosure in note 3 to the financial statements that
you recognized a $23.5 million liability for the estimated
earn-out payments. Please expand your disclosure to disclose
whether the earn-out payment is subject to a cap. If it is
subject to a cap, please disclose the maximum potential earn-out
payment. If it is not subject to a cap, please disclose how the
amount of the payment will be calculated. Additionally, tell us
the basis for your belief that you were not required to file the
agreement as an exhibit.
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Response:
In response to the Staff's comment, in future filings, beginning with our
Annual Report on Form 10-K for the year ended December 31, 2012, we will
include disclosure along the lines of the following as it relates to
earn-out payments related to our acquisition of Stone & Youngberg:
On July 25, 2011, we entered into a definitive agreement to acquire Stone &
Youngberg, a leading financial services firm specializing in municipal
finance and fixed income securities. The purchase consideration consisted of
cash, a portion paid at closing and $24.0 million to be paid in installments
over the next three years, and stock based on the value of net assets at
closing. In addition, we may be required to pay a contingent earn-out over a
five year period after the closing, which is capped at $25.0 million, based
upon revenue goals, as established in the purchase agreement.
Lastly, as to the question regarding the filing of the Purchase Agreement
(the "Agreement") for the acquisition of Stone & Youngberg, we considered
the requirements in Item 1.01 of Form 8-K, along with the relevant language
from Item 601 (No. 10) of Regulation S-K. We considered a number of factors,
including the total amount of consideration paid and likely to become
payable, the form of the consideration, the revenue and earnings of the
target relative to our earnings, and the nature of Stone & Youngberg's
business compared to our historical business. Based on these and similar
factors, we concluded the Agreement did not meet the materiality tests
therein. Moreover, at the time of the relevant acquisition, we performed
tests in Item 2.01 of Form 8-K and determined that such acquisition did not
involve a significant amount of assets, and that accordingly the filing of
the Agreement was not required under Item 601 (No. 2) of Regulation S-K.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk, page 68
Risk Management
4.
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Comment: Please
include a detailed discussion of the risk management processes
and policies. The discussion should identify the offices and
committees responsible for risk management and explain how
information is communicated to the Board of Directors, senior
managers and the Chief Risk Officer.
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Response:
Management believes effective risk management is vital to the success of the
Company's business activities. Accordingly, the Company employs an
enterprise risk management ("ERM") framework to facilitate the incorporation
of risk evaluation into decision-making processes across the Company. The
Company has policies and procedures in place to identify, assess, monitor
and manage the significant risks involved in the activities of its Global
Wealth Management Group, Stifel Bank and Institutional Group business
segments as well as at the holding company level. Principal risks involved
in the Company's business activities include market, credit, operational,
and regulatory/legal risk.
Risk management requires independent company-level oversight, accountability
of the Company's business segments, and effective communication of risk
matters to senior management and across the Company. The Company's risk
governance structure is comprised of the Board; the Risk
Management/Corporate Governance Committee of the Board and the Audit
Committee of the Board; senior management oversight (including the Chief
Executive Officer, Chief Financial Officer, General Counsel and Chief
Compliance Officer); the Internal Audit Department, committees, and groups
within and across the Company's business segments. A risk governance
structure composed of independent but complementary entities facilitates
efficient and comprehensive supervision of the Company's risk exposures and
processes.
The Company maintains a risk management culture that is incisive and subject
to ongoing review and enhancement. To help ensure the efficacy of risk
management, which is an essential component of the Company's reputation, our
executive management team requires thorough and frequent communication and
the appropriate escalation of risk matters. The following is a summary of
our risk management policies and procedures, including how information is
disseminated throughout the Company.
Market Risk
Fixed
Income Trading (Stifel Nicolaus). The Fixed Income senior management
team and trading desk heads are responsible for ensuring that market risk
exposures are well-managed and prudent. The trading desk heads are
responsible for ensuring transparency of material market risks, monitoring
compliance with established limits, and escalating risk concentrations to
appropriate senior management. To execute these responsibilities, the
trading desk heads monitor the Company's risk against limits on aggregate
risk exposures, perform a variety of risk analyses, routinely report risk
summaries, and maintain the Company's VaR and scenario analysis systems.
These limits are designed to control price and market liquidity risk. Market
risk is also monitored through various measures: statistically (using VaR
and related analytical measures); by measures of position sensitivity; and
through routine stress testing, which measures the impact on the value of
existing portfolios of specified changes in market factors, and scenario
analyses. The material risks identified by these processes are summarized in
reports that are circulated to and discussed with senior management.
The Company manages its trading positions by employing a variety of risk
mitigation strategies. These strategies include diversification of risk
exposures and hedging. Hedging activities consist of the purchase or sale of
positions in related securities and financial instruments, primarily U.S.
Treasury securities. The Company manages and monitors its market risk
exposures in such a way as to maintain a portfolio that the Company believes
is well-diversified in the aggregate with respect to market risk factors and
that reflects the Company's aggregate risk tolerance as established by the
Company's executive management team.
Aggregate position limits have been approved for the trading group.
Additional market risk limits are assigned to trading desks and, as
appropriate, products. Senior management, trading desk heads
and traders monitor market risk measures against limits in accordance with
policies set by the executive management team, senior
management and trading desk heads. In addition, senior management monitors
inventory levels and results of the trading departments, as well as
inventory aging, pricing, concentration, and securities ratings. We have
established specific approval processes for position trading limits and aged
inventory exceptions.
Stifel
Bank. Stifel Bank's primary market risk is interest rate risk,
including uncertainty with respect to changes in interest rates and to
changes in the shape of the yield curve. Exposure to interest rate risk is
monitored and analyzed on an ongoing basis by Stifel Bank management through
traditional Asset Liability Management risk metrics, primarily including
simulations that stress earnings and equity under various interest rate
shocks Interest rate risk limits are documented in formal policies that are
approved by the Board of Directors of Stifel Bank on an annual basis.
Compliance with policy risk limits are monitored by Stifel Bank's Board of Directors, ALCO and Investment
Committees.
On a daily basis, the Fixed Income Research and Strategy Group of Stifel
Nicolaus assists Stifel Bank with risk management within the investment
portfolio by performing the following functions: (a) identifying investment
opportunities that are consistent with Stifel Bank's policy guidelines and
investment objectives; (b) facilitating Stifel Bank's pre-purchase analysis
by identifying the inherent risks associated with potential investments; and
(c) monitoring rating agency actions and other developments relative to the
securities held in Stifel Bank's portfolio.
Credit Risk
Customer margin accounts (Stifel Nicolaus). Customer margin accounts,
the primary source of retail credit exposure, are collateralized in
accordance with internal and regulatory guidelines. The Company monitors
required margin levels and established credit limits daily and, pursuant to
such guidelines, require customers to deposit additional collateral, or
reduce positions, when necessary. Margin loans are extended on a demand
basis and are not committed facilities. Factors considered in the review of
margin loans are the amount of the loan, the intended purpose, the degree of
leverage being employed in the account, and overall evaluation of the
portfolio to ensure proper diversification and, in the case of concentrated
positions, appropriate liquidity of the underlying collateral. Additionally,
transactions relating to concentrated or restricted positions require a
review of any legal impediments to liquidation of the underlying collateral.
Underlying collateral for margin loans is reviewed with respect to the
liquidity of the proposed collateral positions, valuation of securities,
historic trading range, volatility analysis and an evaluation of industry
concentrations.
Stifel
Bank. Stifel Bank employs a credit risk management process with
defined policies, accountability and regular reporting to manage credit risk
in the loan portfolio. Credit risk management is guided by Board approved
policies that provide for a consistent and prudent approach to underwriting
and approvals of credits. All loans are individually underwritten,
risk-rated, approved and monitored.
Stifel Bank may seek to mitigate credit risk from its lending and investment
activities in multiple ways. At the transaction level, Stifel Bank seeks to
mitigate risk through management of key risk elements such as size, tenor,
financial covenants, seniority and collateral. Additionally, Stifel Bank may
sell funded loans to other financial institutions in the primary and
secondary loan market.
Securities-based lending allows clients to borrow money against the value of
qualifying securities for any suitable purpose other than purchasing,
trading, or carrying margin stock or refinancing margin debt. Stifel Bank
establishes approved lines and advance rates against qualifying securities
and monitors limits daily and, pursuant to such guidelines, requires
customers to deposit additional collateral, or reduce debt positions, when
necessary. Factors considered in the review of securities-based lending are:
the
amount of the loan, the degree of concentrated or restricted positions, and
the overall evaluation of the portfolio to ensure proper diversification,
and, in the case of concentrated positions, appropriate liquidity of the
underlying collateral. Underlying collateral for securities-based loans is
reviewed with respect to the liquidity of the proposed collateral positions,
valuation of securities, historic trading range, volatility analysis and an
evaluation of industry concentrations. Additionally, the risk management
team at Stifel Bank underwrites each loan in consultation with the
operations department of Stifel Nicolaus that manages the margin lending
business.
Credit quality and trends in the loan portfolio are measured and monitored
regularly and detailed reports, by product and in the aggregate, are
reviewed by senior management. Senior management reviews summaries of these
credit reports with the Executive Loan Committee and the Board of Directors
of Stifel Bank. Finally, the Board of Directors at Stifel Bank provides
ongoing independent oversight of the credit portfolios to ensure policies
are followed, credits are properly risk-rated and that key credit control
processes are functioning as intended.
Counterparty Risk (Company-wide). The Company manages and monitors
its exposure to other financial institutions, also known as counterparty
exposure, on an ongoing basis. The objective is to ensure that we
appropriately identify and react to risks associated with counterparties in
a timely manner. This exposure may be direct or indirect exposure that could
create legal, reputational or financial risk to the Company.
Counterparty exposure may result from a variety of transaction types and may
include exposure to commercial banks, broker/dealers, and corporate debt
issuers. Because transactions with a counterparty may be generated in one or
more departments, credit limits are established for use by various areas of
the Company including treasury, capital markets, finance, and Stifel Bank.
To manage counterparty risk, the Company has a centralized approach to
approval, management and monitoring of exposure. Exposures to counterparties
are regularly reviewed by senior management. Additionally, Stifel Nicolaus
minimizes its counterparty credit risk by conducting business through clearing
organizations that guarantee performance.
Operational Risk
Operational
risk refers to the
risk of financial or other loss, or potential damage to a firm's reputation,
resulting from inadequate or failed internal processes, people, systems, or
from external events (e.g., fraud, legal and compliance risks or damage to
physical assets). The Company may incur operational risk across the full
scope of its business activities, including revenue generating activities
(e.g., sales and trading) and support groups (e.g., information technology
and trade processing).
The Company has established an operational risk framework to identify,
measure, monitor and control risk across the Company. Effective operational
risk management is essential to reducing the impact of operational risk
incidents and mitigating legal, regulatory and reputational risks. The
framework is continually evolving to account for changes in the Company and
in response to the changing regulatory and business environment. The Company
has implemented operational risk data and assessment systems to monitor and
analyze internal and external operational risk events, business environment
and internal control factors.
Primary responsibility for the management of operational risk is with the
business segments, the support groups and the business managers therein. The
business managers generally maintain processes and controls designed to
identify, assess, manage, mitigate and report operational risk. Oversight of
operational risk is provided by the executive management team.
The Business Continuity Team is responsible for identifying key risks and
threats to the Company's resiliency and planning to ensure a recovery
strategy and required resources are in place for the resumption of critical
business functions following a disaster or other business interruption.
Disaster recovery plans are in place for critical facilities and resources
on a company-wide basis, and redundancies are built into the systems as
deemed appropriate. The key components of the Company's disaster recovery
plans include: crisis management; business recovery plans; applications/data
recovery; work area recovery; and other elements addressing management,
analysis, training and testing.
The Company maintains an information security program that coordinates the
management of information security risks and satisfies regulatory
requirements. Information security policies are designed to protect the
Company's information assets against unauthorized disclosure, modification
or misuse. These policies cover a broad range of areas, including:
application entitlements, data protection, incident response, Internet and
electronic communications, remote access and portable devices. The Company
has also established policies, procedures and technologies to protect its
computers and other assets from unauthorized access.
The Company utilizes the services of external vendors in connection with the
Company's ongoing operations. These may include, for example, outsourced
processing and support functions and consulting and other professional
services. The Company manages its exposures to the quality of these services
through a variety of means, including service level and other contractual
agreements, and ongoing monitoring of the vendors' performance.
Regulatory/Legal Risk
Legal risk includes the risk of exposure to fines, penalties, judgments,
damages and/or settlements in connection with regulatory or legal actions as
a result of non-compliance with applicable legal and regulatory requirements
and standards. Legal risk also includes contractual and commercial risk such
as the risk that a counterparty's performance obligations will be
unenforceable. The Company is generally subject to extensive regulation in
the different jurisdictions in which it conducts its business. The Company
has established procedures based on legal and regulatory requirements that
are designed to achieve compliance with applicable statutory and regulatory
requirements. The Company, principally through its Compliance
Departments, also has established procedures that are designed to require
that the Company's policies relating to conduct, ethics and business
practices are followed globally. In connection with its businesses, the
Company has and continuously develops various procedures addressing issues
such as regulatory capital requirements, sales and trading practices, new
products, potential conflicts of interest, structured transactions, use and
safekeeping of customer funds and securities, credit granting, money
laundering, privacy and recordkeeping. In addition, the Company has
established procedures to mitigate the risk that a counterparty's
performance obligations will be unenforceable, including consideration of
counterparty legal authority and capacity, adequacy of legal documentation,
the permissibility of a transaction under applicable law and whether
applicable bankruptcy or insolvency laws limit or alter contractual
remedies.
Form 10-Q for the Quarterly Period Ended June 30, 2012
Notes to Consolidated Financial Statements
Note 4 - Fair Value Measurements, page 10
5.
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Comment: We note that the majority of your securities
classified as Level 3 are auction rate securities and due to the
lack of a robust securities market with active fair value
indicators, fair value was determined using an income approach
utilizing an internally developed discounted cash flow model. We
also note that the discounted cash flow model you utilized two
significant unobservable inputs: discount rate and workout
period. Please revise your future filings, consistent with the
guidance set forth in ASC 820-10-50-2, to disclose quantitative
information about the significant unobservable inputs used in
your fair value measurement.
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Response:
Our disclosures related to significant unobservable inputs are based on
the requirements of ASC 820-10-50-2 which requires us to include the
following:
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ASC 820-10-50-2(bbb) - A description of the fair value
measurement technique(s), any changes in technique(s), and
reasons for making the change. For fair value measurements
categorized within Level 3 of the fair value hierarchy, a
reporting entity shall provide quantitative information
about the significant unobservable inputs used in the fair
value measurement.
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ASC 820-10-50-2(g) - A description of the sensitivity of the
fair value measurement to changes in unobservable inputs if
a change in those inputs to a different amount might result
in a significantly higher or lower fair value measurement.
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We disclose the valuation techniques and significant inputs used to
measure our financial assets, including auction-rate securities,
recorded at fair value in Note 4, Fair Value Measurements, on pages 10 -
11.
We disclose the quantitative information about the significant
unobservable inputs used in the fair value measurement of our
auction-rate securities in Note 4, Fair Value Measurements, on page 15.
This disclosure includes the valuation technique used, significant
unobservable inputs, and the range and weighted-averages of those
significant unobservable inputs. We believe that our disclosures are
consistent with the guidance set forth in ASC 820-10-50-2.
*****
In connection with our response to the Staff's letter dated September 18,
2012, we acknowledge that (i) the Company is responsible for the adequacy
and accuracy of the disclosures in its filings, (ii) Staff comments or
changes to disclosures in response to Staff comments do not foreclose the
Commission from taking any action with respect to the filings, and (iii) the
Company may not assert Staff comments as a defense in any proceeding
initiated by the Commission or any person under federal securities laws of
the United States.
If you have any questions or comments regarding the above information, do
not hesitate to contact the undersigned at (314) 342-2228.
Sincerely,
/s/ James M. Zemlyak
James M. Zemlyak
Senior Vice President and Chief Financial Officer
(Principal Financial Officer)
cc.
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Ronald J. Kruszewski,
Chairman,
President and Chief Executive Officer
David
M. Minnick, Senior Vice President and General Counsel
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