10-Q 1 jef10q83118.htm 10-Q Document

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
 

FORM 10-Q
 
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended August 31, 2018
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                      to                     
Commission file number 1-14947
 
JEFFERIES GROUP LLC
(Exact name of registrant as specified in its charter)
 
Delaware
95-4719745
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
 
 
520 Madison Avenue, New York, New York
10022
(Address of principal executive offices)
(Zip Code)
Registrant’s telephone number, including area code: (212) 284-2550
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes      No  
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes      No  ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
Accelerated filer
Non-accelerated filer
Smaller reporting company
 
Emerging growth company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ☐    No  
The Registrant is a wholly-owned subsidiary of Jefferies Financial Group Inc. and meets the conditions set forth in General Instructions H(1)(a) and (b) of Form 10-Q and is therefore filing this Form 10-Q with a reduced disclosure format as permitted by Instruction H(2).
 




JEFFERIES GROUP LLC
INDEX TO QUARTERLY REPORT ON FORM 10-Q
August 31, 2018


1


PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
JEFFERIES GROUP LLC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION (UNAUDITED)
(In thousands)
 
August 31, 2018
 
November 30, 2017
ASSETS
 
 
 
Cash and cash equivalents ($1,094 and $7,514 at August 31, 2018 and November 30, 2017, respectively, related to consolidated VIEs)
$
4,812,564

 
$
5,164,492

Cash and securities segregated and on deposit for regulatory purposes or deposited with clearing and depository organizations
913,456

 
578,014

Financial instruments owned, at fair value, (including securities pledged of $12,868,364 and $10,842,051 at August 31, 2018 and November 30, 2017, respectively; and $381 and $38,044 at August 31, 2018 and November 30, 2017, respectively, related to consolidated VIEs)
15,195,619

 
14,193,352

Loans to and investments in related parties
758,807

 
682,790

Securities borrowed
7,369,908

 
7,721,803

Securities purchased under agreements to resell
3,659,059

 
3,689,559

Securities received as collateral

 
103

Receivables:
 
 
 
Brokers, dealers and clearing organizations
2,524,122

 
2,514,838

Customers
1,951,807

 
1,563,758

Fees, interest and other ($0 and $197 at August 31, 2018 and November 30, 2017, respectively, related to consolidated VIEs)
308,855

 
381,231

Premises and equipment
298,982

 
297,750

Goodwill
1,643,058

 
1,647,089

Other assets ($2 at both August 31, 2018 and November 30, 2017, related to consolidated VIEs)
1,136,236

 
1,270,912

Total assets
$
40,572,473

 
$
39,705,691

LIABILITIES AND EQUITY
 
 
 
Short-term borrowings (includes $0 and $23,324 at fair value at August 31, 2018 and November 30, 2017, respectively)
$
382,006

 
$
436,215

Financial instruments sold, not yet purchased, at fair value
8,128,200

 
8,171,929

Collateralized financings:
 
 
 
Securities loaned
2,531,504

 
2,843,911

Securities sold under agreements to repurchase
9,864,483

 
8,660,511

Other secured financings (includes $1,004,822 and $722,108 at August 31, 2018 and November 30, 2017, respectively, related to consolidated VIEs)
1,004,822

 
722,108

Obligation to return securities received as collateral

 
103

Payables:
 
 
 
Brokers, dealers and clearing organizations
1,938,308

 
2,226,768

Customers
3,187,580

 
2,664,023

Accrued expenses and other liabilities ($890 and $1,391 at August 31, 2018 and November 30, 2017, respectively, related to consolidated VIEs)
1,403,568

 
1,803,720

Long-term debt (includes $709,557 and $606,956 at fair value at August 31, 2018 and November 30, 2017, respectively)
6,574,866

 
6,416,844

Total liabilities
35,015,337

 
33,946,132

EQUITY
 
 
 
Member’s paid-in capital
5,745,719

 
5,895,601

Accumulated other comprehensive loss:
 
 
 
Currency translation adjustments
(174,626
)
 
(98,909
)
Changes in instrument specific credit risk
(18,917
)
 
(27,888
)
Cash flow hedges
446

 
(936
)
Additional minimum pension liability
(4,548
)
 
(9,046
)
Total accumulated other comprehensive loss
(197,645
)
 
(136,779
)
Total Jefferies Group LLC member’s equity
5,548,074

 
5,758,822

Noncontrolling interests
9,062

 
737

Total equity
5,557,136

 
5,759,559

Total liabilities and equity
$
40,572,473

 
$
39,705,691

See accompanying notes to consolidated financial statements.

2


JEFFERIES GROUP LLC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS (UNAUDITED)
(In thousands)
 
Three Months Ended 
 August 31,
 
Nine Months Ended 
 August 31,
 
2018
 
2017
 
2018
 
2017
Revenues:
 
 
 
 
 
 
 
Commissions and other fees
$
155,539

 
$
139,082

 
$
461,545

 
$
437,547

Principal transactions
143,308

 
186,408

 
498,583

 
688,568

Investment banking
465,326

 
475,702

 
1,405,614

 
1,235,586

Asset management fees
5,184

 
4,272

 
16,130

 
16,368

Interest
305,347

 
230,496

 
870,490

 
660,323

Other
13,581

 
12,371

 
79,327

 
58,691

Total revenues
1,088,285

 
1,048,331

 
3,331,689

 
3,097,083

Interest expense
310,670

 
247,639

 
910,271

 
721,584

Net revenues
777,615

 
800,692

 
2,421,418

 
2,375,499

Non-interest expenses:
 
 
 
 
 
 
 
Compensation and benefits
428,033

 
462,933

 
1,327,760

 
1,373,627

Non-compensation expenses:
 
 
 
 
 
 
 
Floor brokerage and clearing fees
45,745

 
44,869

 
135,808

 
138,221

Underwriting costs
20,528

 

 
47,832

 

Technology and communications
76,877

 
72,440

 
222,335

 
205,425

Occupancy and equipment rental
25,559

 
27,736

 
75,143

 
77,145

Business development
39,733

 
23,125

 
124,233

 
72,223

Professional services
35,316

 
25,007

 
101,715

 
83,544

Other
18,723

 
22,318

 
54,888

 
62,670

Total non-compensation expenses
262,481

 
215,495

 
761,954

 
639,228

Total non-interest expenses
690,514

 
678,428

 
2,089,714

 
2,012,855

Earnings before income taxes
87,101

 
122,264

 
331,704

 
362,644

Income tax expense
26,923

 
38,439

 
234,337

 
95,009

Net earnings
60,178

 
83,825

 
97,367

 
267,635

Net earnings (loss) attributable to noncontrolling interests
(4
)
 
10

 
(1
)
 
50

Net earnings attributable to Jefferies Group LLC
$
60,182

 
$
83,815

 
$
97,368

 
$
267,585

See accompanying notes to consolidated financial statements.

3


JEFFERIES GROUP LLC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED)
(In thousands)
 
Three Months Ended 
 August 31,
 
Nine Months Ended 
 August 31,
 
2018
 
2017
 
2018
 
2017
Net earnings
$
60,178

 
$
83,825

 
$
97,367

 
$
267,635

Other comprehensive income (loss), net of tax:
 
 
 
 
 
 
 
Currency translation and other adjustments (1)
(26,050
)
 
3,830

 
(71,219
)
 
27,182

Changes in instrument specific credit risk (2)
1,067

 
3,508

 
8,971

 
(8,870
)
Cash flow hedges (3)
85

 
(1,585
)
 
1,382

 
(1,585
)
Total other comprehensive income (loss), net of tax (4)
(24,898
)
 
5,753

 
(60,866
)
 
16,727

Comprehensive income
35,280

 
89,578

 
36,501

 
284,362

Net earnings (loss) attributable to noncontrolling interests
(4
)
 
10

 
(1
)
 
50

Comprehensive income attributable to Jefferies Group LLC
$
35,284

 
$
89,568

 
$
36,502

 
$
284,312


(1)
The amounts during the nine months ended August 31, 2018 include $5.3 million related to the transfer of the German Pension Plan, which was reclassified to Compensation and benefits expenses within the Consolidated Statements of Earnings and ($0.8) million related to the Tax Cuts and Jobs Act (the “Tax Act”), which was reclassified to Member’s paid-in capital and a gain of $20.5 million related to foreign currency gains, which was reclassified to Other income within the Consolidated Statements of Earnings. The amounts during the three and nine months ended August 31, 2018 include $2.8 million related to the impact of certain discrete items related to our non-U.S. subsidiaries planning for the Tax Act.
(2)
The amounts include income tax expense of approximately $0.3 million and $11.0 million for the three and nine months ended August 31, 2018, respectively, and income tax expense of approximately $2.1 million and income tax benefit of approximately $5.3 million for the three and nine months ended August 31, 2017, respectively. The amounts during the three and nine months ended August 31, 2018 also include a gain of $0.1 million and $0.4 million, net of taxes of $0.1 million, respectively, related to changes in instrument specific credit risk, which was reclassified to Principal transaction revenues within the Consolidated Statements of Earnings. The amount during the nine months ended August 31, 2018 includes ($6.5) million related to the Tax Act, which was reclassified to Member’s paid-in capital.
(3)
The amount during the nine months ended August 31, 2018 includes ($0.2) million related to the Tax Act, which was reclassified to Member’s paid-in capital.
(4)
None of the components of other comprehensive income (loss) are attributable to noncontrolling interests.
See accompanying notes to consolidated financial statements.

4


JEFFERIES GROUP LLC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY (UNAUDITED)
(In thousands)
 
Nine Months Ended 
 August 31, 2018
 
Year Ended 
 November 30, 2017
Member’s paid-in capital:
 
 
 
Balance, beginning of period
$
5,895,601

 
$
5,538,103

Cumulative effect of the adoption of the new revenue standard, net of tax
(6,121
)
 

Net earnings attributable to Jefferies Group LLC
97,368

 
357,498

Distribution to Jefferies Financial Group Inc.
(248,684
)
 

Tax Cuts and Jobs Act adjustment
7,555

 

Balance, end of period
$
5,745,719

 
$
5,895,601

Accumulated other comprehensive income (loss), net of tax (1) (2):
 
 
 
Balance, beginning of period
$
(136,779
)
 
$
(168,157
)
Currency adjustments (3)
(75,717
)
 
53,396

Changes in instrument specific credit risk (4)
8,971

 
(21,394
)
Cash flow hedges (5)
1,382

 
(936
)
Pension adjustments (6)
4,498

 
312

Balance, end of period
$
(197,645
)
 
$
(136,779
)
Total Jefferies Group LLC member’s equity
$
5,548,074

 
$
5,758,822

Noncontrolling interests:
 
 
 
Balance, beginning of period
$
737

 
$
651

Net earnings (loss) attributable to noncontrolling interests
(1
)
 
86

Contributions
10

 

Consolidation of asset management entity
8,316

 

Balance, end of period
$
9,062

 
$
737

Total equity
$
5,557,136

 
$
5,759,559


(1)
The components of other comprehensive income (loss) are attributable to Jefferies Group LLC. None of the components of other comprehensive income (loss) are attributable to noncontrolling interests.
(2)
There were no material reclassifications out of Accumulated other comprehensive income (loss) during the year ended November 30, 2017.
(3)
The amount during the nine months ended August 31, 2018 includes a gain of $20.5 million related to foreign currency gains, which was reclassified to earnings, and $2.8 million related to the impact of certain discrete items related to tax planning for our non-U.S. subsidiaries in connection with the Tax Act.
(4)
The amount during the nine months ended August 31, 2018 includes a gain of $0.4 million, net of taxes of $0.1 million, related to changes in instrument specific credit risk, which was reclassified to earnings, and ($6.5) million related to the Tax Act, which was reclassified to Member’s paid-in capital.
(5)
The amount during the nine months ended August 31, 2018 includes ($0.2) million related to the Tax Act, which was reclassified to Member’s paid-in capital.
(6)
The amount during the nine months ended August 31, 2018 includes $5.3 million related to the transfer of the German Pension Plan, which was reclassified to earnings, and ($0.8) million related to the Tax Act, which was reclassified to Member’s paid-in capital.
See accompanying notes to consolidated financial statements.

5


JEFFERIES GROUP LLC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(In thousands)
 
Nine Months Ended 
 August 31,
 
2018
 
2017
Cash flows from operating activities:
 
 
 
Net earnings
$
97,367

 
$
267,635

Adjustments to reconcile net earnings to net cash provided by (used in) operating activities:
 
 
 
Depreciation and amortization
10,208

 
1,820

Income on loans to and investments in related parties
(30,687
)
 
(65,323
)
Distributions received on investments in related parties
2,330

 
8,021

Other adjustments
(96,359
)
 
91,313

Net change in assets and liabilities:
 
 
 
Securities deposited with clearing and depository organizations
64,890

 
119

Receivables:
 
 
 
Brokers, dealers and clearing organizations
(27,967
)
 
(546,424
)
Customers
(388,076
)
 
(448,494
)
Fees, interest and other
64,563

 
(31,877
)
Securities borrowed
309,722

 

Financial instruments owned
(1,115,411
)
 
(160,080
)
Securities purchased under agreements to resell
(53,020
)
 
524,937

Other assets
117,440

 
(50,147
)
Payables:
 
 
 
Brokers, dealers and clearing organizations
(260,193
)
 
(652,668
)
Customers
523,611

 
162,387

Securities loaned
(275,629
)
 
(68,310
)
Financial instruments sold, not yet purchased
52,196

 
50,267

Securities sold under agreements to repurchase
1,250,575

 
1,668,725

Accrued expenses and other liabilities
(392,471
)
 
209,756

Net cash provided by (used in) operating activities
(146,911
)
 
961,657

Cash flows from investing activities:
 
 
 
Contributions to loans to and investments in related parties
(1,918,500
)
 
(2,916,204
)
Distributions from loans to and investments in related parties
1,873,000

 
2,729,276

Net payments on premises and equipment
(52,699
)
 
(53,595
)
Cash received from contingent consideration

 
1,342

Consolidation of asset management entity
130

 

Net cash used in investing activities
(98,069
)
 
(239,181
)
Continued on next page.

6


JEFFERIES GROUP LLC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS – CONTINUED (UNAUDITED)
(In thousands)
 
Nine Months Ended 
 August 31,
 
2018
 
2017
Cash flows from financing activities:
 
 
 
Proceeds from short-term borrowings
616,283

 
144,174

Payments on short-term borrowings
(669,466
)
 
(247,130
)
Proceeds from issuance of long-term debt, net of issuance costs
1,321,714

 
1,030,027

Repayment of long-term debt
(1,025,563
)
 
(121,957
)
Dividend distribution
(218,593
)
 

Net proceeds from (payments on) other secured financings
282,714

 
(203,036
)
Net change in bank overdrafts
2,369

 
(5,764
)
Proceeds from noncontrolling interests
10

 

Net cash provided by financing activities
309,468

 
596,314

Effect of exchange rate changes on cash, cash equivalents and restricted cash
(16,084
)
 
5,391

Net increase in cash, cash equivalents and restricted cash
48,404

 
1,324,181

Cash, cash equivalents and restricted cash at beginning of period
5,642,776

 
4,286,513

Cash, cash equivalents and restricted cash at end of period
$
5,691,180

 
$
5,610,694

 
 
 
 
Supplemental disclosures of cash flow information:
 
 
 
Cash paid during the period for
 
 
 
Interest
$
1,001,307

 
$
777,969

Income taxes, net
152,600

 
3,329

The following presents our cash, cash equivalents and restricted cash by category within the Consolidated Statements of Financial Condition (in thousands):
 
August 31, 2018
 
November 30, 2017
Cash and cash equivalents
$
4,812,564

 
$
5,164,492

Cash and securities segregated and on deposit for regulatory purposes with clearing and depository organizations
878,616

 
478,284

Total cash, cash equivalents and restricted cash
$
5,691,180

 
$
5,642,776

See accompanying notes to consolidated financial statements.

7


JEFFERIES GROUP LLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Index

8

JEFFERIES GROUP LLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(Unaudited)

Note 1. Organization and Basis of Presentation
Organization
Jefferies Group LLC is the largest independent U.S-headquartered global full service, integrated securities and investment banking firm. The accompanying Consolidated Financial Statements represent the accounts of Jefferies Group LLC and all our subsidiaries (together “we” or “us”). The subsidiaries of Jefferies Group LLC include Jefferies LLC, Jefferies International Limited, Jefferies Hong Kong Limited, Jefferies Financial Services, Inc., Jefferies Funding LLC, Jefferies Leveraged Credit Products, LLC and all other entities in which we have a controlling financial interest or are the primary beneficiary.
Jefferies Group LLC is a direct wholly owned subsidiary of publicly traded Jefferies Financial Group Inc. (“Jefferies”), formerly known as Leucadia National Corporation. Jefferies does not guarantee any of our outstanding debt securities. Our 3.875% Convertible Senior Debentures due 2029 (principal amount of $345.0 million) (the “debentures”) were convertible into Jefferies common shares. At November 22, 2017, all of the remaining convertible debentures were called for optional redemption and were redeemed on January 5, 2018 (see Note 12, Long-Term Debt, for further details). Jefferies Group LLC is a Securities and Exchange Commission (“SEC”) reporting company, filing annual, quarterly and periodic financial reports. Richard Handler, our Chief Executive Officer and Chairman, is the Chief Executive Officer of Jefferies, as well as a Director of Jefferies. Brian P. Friedman, our Chairman of the Executive Committee, is Jefferies’ President and a Director of Jefferies.
In connection with the acquisition of Jefferies Bache from Prudential on July 1, 2011, we acquired a defined benefits pension plan located in Germany (the “German Pension Plan”) for the benefit of eligible employees of Jefferies Bache in that territory. On December 28, 2017, a Liquidation Insurance Contract was entered into with Generali Lebensversicherung AG (“Generali”) to transfer the defined benefit pension obligations and insurance contracts to Generali, for approximately €6.5 million, which was paid in January 2018 and released us from any and all obligations under the German Pension Plan. In addition, on December 28, 2017, we entered into an agreement with Prudential under which we received $3.25 million as consideration for the release of Prudential by us from their indemnity relating to the German Pension Plan defined benefit pension obligations.
We operate in two reportable business segments, Capital Markets and Asset Management. For further information on our reportable business segments, refer to Note 18, Segment Reporting.
Basis of Presentation
The accompanying consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”) and should be read in conjunction with our consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended November 30, 2017. Certain footnote disclosures included in our Annual Report on Form 10-K for the year ended November 30, 2017 have been condensed or omitted from the consolidated financial statements as they are not required for interim reporting under U.S. GAAP. The Consolidated Financial Statements reflect all adjustments of a normal, recurring nature that are, in the opinion of management, necessary for the fair presentation of the results for the interim period. The results presented in the Consolidated Financial Statements for interim periods are not necessarily indicative of the results for the entire year.
We have made a number of estimates and assumptions relating to the reporting of assets and liabilities, the disclosure of contingent assets and liabilities and the reported amounts of revenues and expenses during the reporting period to prepare these consolidated financial statements in conformity with U.S. GAAP. The most important of these estimates and assumptions relate to fair value measurements, compensation and benefits, goodwill and intangible assets, the ability to realize certain deferred tax assets and the recognition and measurement of uncertain tax positions. Although these and other estimates and assumptions are based on the best available information, actual results could be materially different from these estimates.
Consolidation
Our policy is to consolidate all entities that we control by ownership of a majority of the outstanding voting stock. In addition, we consolidate entities that meet the definition of a variable interest entity (“VIE”) for which we are the primary beneficiary. The primary beneficiary is the party who has the power to direct the activities of a VIE that most significantly impact the entity’s economic performance and who has an obligation to absorb losses of the entity or a right to receive benefits from the entity that could potentially be significant to the entity. For consolidated entities that are less than wholly owned, the third-party’s holding of equity interest is presented as Noncontrolling interests in our Consolidated Statements of Financial Condition and Consolidated Statements of Changes in Equity. The portion of net earnings attributable to the noncontrolling interests is presented as Net earnings (loss) to noncontrolling interests in our Consolidated Statements of Earnings.

9

JEFFERIES GROUP LLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(Unaudited)

In situations in which we have significant influence, but not control, of an entity that does not qualify as a VIE, we apply either the equity method of accounting or fair value accounting pursuant to the fair value option election under U.S. GAAP, with our portion of net earnings or gains and losses recorded in Other revenues or Principal transaction revenues, respectively. We also have formed nonconsolidated investment vehicles with third-party investors that are typically organized as partnerships or limited liability companies and are carried at fair value. We act as general partner or managing member for these investment vehicles and have generally provided the third-party investors with termination or “kick-out” rights.
Intercompany accounts and transactions are eliminated in consolidation.
Changes to the Consolidated Statements of Operations
We have reorganized the presentation of our gains and losses generated from our capital invested in asset management funds managed by us and related parties in the first quarter of 2018. This was previously presented as Asset management: Investment income (loss) from investments in managed funds and is now presented within Principal transactions revenues.
Changes to the Consolidated Statements of Cash Flows
In the first quarter of 2018, we made certain changes to the presentation of our Consolidated Statements of Cash Flows in order to net certain Short-term borrowings, primarily related to revolving intraday credit advances. Refer to Note 11, Short-Term Borrowings, for further information. The changes had the impact of reducing Proceeds from short-term borrowings by $25,640.4 million and increasing Payments on short-term borrowings by $25,640.4 million for the nine month period ended August 31, 2017. There was no change to the total Net cash provided by financing activities. We do not believe these changes are material to our Consolidated Statements of Cash Flows.

Note 2. Summary of Significant Accounting Policies
For a detailed discussion about the Company’s significant accounting policies, see Note 2, Summary of Significant Accounting Policies, in our consolidated financial statements included in Part II, Item 8 of our Annual Report on Form 10-K for the year ended November 30, 2017.
During the nine months ended August 31, 2018, other than the following, there were no significant changes made to the Company’s significant accounting policies. The accounting policy changes are attributable to the adoption of the Financial Accounting Standards Board (“FASB”) Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers (the “new revenue standard” or Accounting Standards Codification 606, (“ASC 606”)) on December 1, 2017. These revenue recognition policy updates are applied prospectively in our financial statements from December 1, 2017 forward. Reported financial information for the historical comparable period was not revised and continues to be reported under the accounting standards in effect during the historical periods.
Investment Banking Revenues:
Advisory fees from mergers and acquisitions engagements are recognized at a point in time when the related transaction is completed.
Expenses associated with investment banking advisory engagements are deferred only to the extent they are explicitly reimbursable by the client and the related revenue is recognized at a point in time. All other investment banking advisory related expenses, including expenses incurred related to restructuring advisory engagements, are expensed as incurred.
All investment banking expenses are recognized within their respective expense category on the Consolidated Statements of Earnings and any expenses reimbursed by clients are recognized as Investment banking revenues.
Asset Management Fees:
Performance fee revenue is generally recognized only at the end of the performance period to the extent that the benchmark return has been met.
Refer to Note 3, Accounting Developments, and Note 13, Revenues From Contracts With Customers, for further information.


10

JEFFERIES GROUP LLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(Unaudited)

Note 3. Accounting Developments
Accounting Standards to be Adopted in Future Periods
Internal-Use Software. In August 2018, the FASB issued ASU No. 2018-15, Intangibles—Goodwill and Other—Internal-Use Software: Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That Is a Service Contract. The guidance amends the definition of a hosting arrangement and requires that the customer in a hosting arrangement that is a service contract capitalize certain implementation costs as if the arrangement was an internal-use software project. The guidance is effective in the first quarter of fiscal 2021. We are currently evaluating the impact of the new guidance on our consolidated financial statements.
Defined Benefit Plans. In August 2018, the FASB issued ASU No. 2018-14, Compensation—Retirement Benefits—Defined Benefit Plans—General: Disclosure Framework—Changes to the Disclosure Requirements for Defined Benefit Plans. The objective of the guidance is to improve the effectiveness of disclosure requirements on defined benefit pension plans and other postretirement plans. The guidance is effective in the first quarter of fiscal 2021. We do not believe the new guidance will have a material impact on our consolidated financial statements.
Derivatives and Hedging. In August 2017, the FASB issued ASU No. 2017-12, Derivatives and Hedging: Targeted Improvements to Accounting for Hedging Activities. The objective of the guidance is to improve the financial reporting of hedging relationships to better portray the economic results of an entity’s risk management activities in its financial statements. The guidance is effective in the first quarter of fiscal 2020. We do not believe the new guidance will have a material impact on our consolidated financial statements.
Stock Compensation. In May 2017, the FASB issued ASU No. 2017-09, Compensation—Stock Compensation: Scope of Modification Accounting. The guidance provides clarity and reduces diversity in practice and cost and complexity when accounting for a change to the terms or conditions of a share-based payment award. The guidance is effective in the first quarter of fiscal 2019. We do not believe the new guidance will have a material impact on our consolidated financial statements.
Goodwill. In January 2017, the FASB issued ASU No. 2017-04, Simplifying the Test for Goodwill Impairment, which simplifies goodwill impairment testing. The guidance is effective in the first quarter of fiscal 2021. We do not believe the new guidance will have a material impact on our consolidated financial statements.
Financial Instruments—Credit Losses. In June 2016, the FASB issued ASU No. 2016-13, Measurement of Credit Losses on Financial Instruments. The guidance provides for estimating credit losses on certain types of financial instruments by introducing an approach based on expected losses. The guidance is effective in the first quarter of fiscal 2021. We are currently evaluating the impact of the new guidance on our consolidated financial statements.
Leases. In February 2016, the FASB issued ASU No. 2016-02, Leases (“ASU 2016-02”). The guidance affects the accounting for leases and provides for a lessee model that brings substantially all leases that are longer than one year onto the balance sheet, which will result in the recognition of a right of use asset and a corresponding lease liability. The right of use asset and lease liability will be measured initially using the present value of the remaining rental payments. A significant portion of the population of contracts that will be subject to recognition on our Consolidated Statements of Financial Condition have been identified; however, their initial measurement still remains under evaluation. We are currently modifying our lease accounting systems to enable us to comply with the accounting requirements of this guidance. In July 2018, the FASB issued ASU No. 2018-11, Leases: Targeted Improvements. The guidance allows an entity to recognize a cumulative-effect adjustment to the opening balance of retained earnings upon adoption of ASU 2016-02. We plan on adopting both lease ASUs in the first quarter of fiscal 2020 with a cumulative-effect adjustment to opening member’s equity in the period of adoption. We are currently evaluating the impact of the new guidance on our consolidated financial statements.
Adopted Accounting Standards
Fair Value Measurement. In August 2018, the FASB issued ASU No. 2018-13, Disclosure Framework—Changes to the Disclosure Requirements for Fair Value Measurement. The objective of this guidance is to improve the effectiveness of disclosure requirements on fair value measurement by eliminating certain disclosure requirements for fair value measurements for all entities, requiring public entities to disclose certain new information and modifying some disclosure requirements. We early adopted this guidance in the third quarter of fiscal 2018 and the adoption did not have a material impact on our consolidated financial statements.

11

JEFFERIES GROUP LLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(Unaudited)

Comprehensive Income. In February 2018, the FASB issued ASU No. 2018-02, Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income. The guidance allows companies the option to reclassify stranded taxes from Accumulated other comprehensive income to retained earnings due to the decrease in the Federal Statutory tax rate from 35% to 21% resulting from the Tax Act. The amount of the reclassification is the difference between the historical corporate income tax rate and the newly enacted corporate income tax rate. We early adopted this guidance as of February 28, 2018, resulting in a reclassification adjustment of $7.6 million related to unamortized pension liabilities, cash flow hedges and instrument specific credit risk in our consolidated financial statements.
Retirement Benefits. In March 2017, the FASB issued ASU No. 2017-07, Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost. The guidance impacts the presentation of net periodic pension costs in the statement of income. We early adopted this guidance in the first quarter of fiscal 2018 and the adoption did not have a material impact on our Consolidated Statements of Earnings.
Statement of Cash Flows. In August 2016, the FASB issued ASU No. 2016-15, Classification of Certain Cash Receipts and Cash Payments (“ASU 2016-15”). The guidance adds or clarifies guidance on the classification of certain cash receipts and payments in the statement of cash flows. In November 2016, the FASB issued ASU No. 2016-18, Restricted Cash (“ASU 2016-18”), which requires that a statement of cash flows explain the change during the period in the total of cash, cash equivalents and amounts generally described as restricted cash or restricted cash equivalents. We adopted both ASUs in the first quarter of fiscal 2018. Prior periods were retrospectively adjusted to conform to the current period’s presentation. The adoption of ASU 2016-15 did not have a material impact on our Consolidated Statements of Cash Flows. Upon adoption of ASU 2016-18, we recorded an increase of $45.9 million in Net cash used for operating activities for the nine months ended August 31, 2017 related to reclassifying the changes in our restricted cash balance from operating activities to the cash and cash equivalent balances within the Consolidated Statements of Cash Flows.
Financial Instruments. In January 2016, the FASB issued ASU No. 2016-01, Financial InstrumentsOverall: Recognition and Measurement of Financial Assets and Financial Liabilities. The guidance affects the accounting for equity investments, financial liabilities under the fair value option and the presentation and disclosure requirements of financial instruments. We adopted the guidance on financial liabilities under the fair value option in the first quarter of fiscal 2016 and we adopted the remaining guidance in the first quarter of fiscal 2018. The adoption of this accounting guidance did not have a material effect on our consolidated financial statements.
Revenue Recognition. We adopted the new revenue standard on December 1, 2017 and recognized a reduction of $6.1 million after-tax to beginning Member’s paid-in capital as the cumulative effect of adoption of this accounting change. The impact of adoption is primarily related to investment banking expenses that were deferred as of November 30, 2017 under the previously existing accounting guidance, which would have been expensed in prior periods under the new revenue standard, and investment banking revenues that were previously recognized in prior periods, which would have been deferred as of November 30, 2017 under the new revenue standard. We elected to adopt the new guidance using a modified retrospective approach applied to contracts that were not completed as of December 1, 2017. Accordingly, the new revenue standard is applied prospectively in our financial statements from December 1, 2017 forward and reported financial information for historical comparable periods is not revised and continues to be reported under the accounting standards in effect during those historical periods.
The new revenue guidance does not apply to revenue associated with financial instruments, including loans and securities that are accounted for under other U.S. GAAP, and as a result, did not have an impact on the elements of our Consolidated Statements of Earnings most closely associated with financial instruments, including Principal transaction revenues, Interest income and Interest expense. The new revenue standard primarily impacts the following of our revenue recognition and presentation accounting policies:
Investment Banking Revenues. Advisory fees from mergers and acquisitions engagements are recognized at a point in time when the related transaction is completed, as the performance obligation is to successfully broker a specific transaction.
Certain Capital Markets Revenues. Revenues associated with price stabilization activities as part of a securities underwriting were historically recognized as part of Investment banking revenues. Under the new revenue standard, revenue from these activities is recognized within Principal transaction revenues, as these revenues are not considered to be within the scope of the new standard.
Investment Banking Advisory Expenses. Historically, expenses associated with investment banking advisory assignments were deferred until reimbursed by the client, the related fee revenue is recognized or the engagement is otherwise concluded. Under the new revenue standard, expenses are deferred only to the extent they are explicitly reimbursable by the client and the related revenue is recognized at a point in time. All other investment banking advisory related expenses, including expenses incurred related to restructuring assignments, are expensed as incurred.

12

JEFFERIES GROUP LLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(Unaudited)

Investment Banking Underwriting and Advisory Expenses. Expenses have historically been recorded net of client reimbursements and/or netted against revenues. Under the new revenue standard, all investment banking expenses will be recognized within their respective expense category on the Consolidated Statements of Earnings and any expense reimbursements will be recognized as Investment banking revenues (i.e., expenses are no longer recorded net of client reimbursements and are not netted against revenues).
Asset Management Fees. In certain asset management fee arrangements, we receive performance-based fees, which vary with performance or, in certain cases, are earned when the return on assets under management exceed certain benchmark returns or other performance targets. Historically, performance fees have been accrued (or reversed) quarterly based on measuring performance to date versus any relevant benchmark return hurdles stated in the investment management agreement. Under the new revenue standard, performance fees are considered variable as they are subject to fluctuation (e.g., based on market performance) and/or are contingent on a future event during the measurement period (e.g., exceeding a specified benchmark index) and are recognized only to the extent it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty is resolved. Accordingly, performance fee revenue will generally be recognized only at the end of the performance period to the extent that the benchmark return has been met.
There was no significant impact as a result of applying the new revenue standard to our consolidated financial statements for the three and nine months ended August 31, 2018, except as it relates to the presentation of investment banking expenses. The table below presents the impact to revenues and expenses as a result of the change in presentation of investment banking expenses (in thousands):
 
Three Months Ended August 31, 2018
 
Nine Months Ended August 31, 2018
 
As Reported
 
ASC 606 Impact
 
Adjusted (1)
 
As Reported
 
ASC 606 Impact
 
Adjusted (1)
Revenues:
 
 
 
 
 
 
 
 
 
 
 
Investment banking
$
465,326

 
$
36,319

 
$
429,007

 
$
1,405,614

 
$
101,146

 
$
1,304,468

Total revenues
1,088,285

 
36,319

 
1,051,966

 
3,331,689

 
101,146

 
3,230,543

Net revenues
777,615

 
36,319

 
741,296

 
2,421,418

 
101,146

 
2,320,272

Non-interest expenses:
 
 
 
 
 
 
 
 
 
 
 
Underwriting costs
20,528

 
20,528

 

 
47,832

 
47,832

 

Technology and communications
76,877

 
97

 
76,780

 
222,335

 
311

 
222,024

Business development
39,733

 
14,946

 
24,787

 
124,233

 
50,187

 
74,046

Professional services
35,316

 
401

 
34,915

 
101,715

 
1,968

 
99,747

Other expenses
18,723

 
347

 
18,376

 
54,888

 
848

 
54,040

Total non-compensation expenses
262,481

 
36,319

 
226,162

 
761,954

 
101,146

 
660,808

Total non-interest expenses
690,514

 
36,319

 
654,195

 
2,089,714

 
101,146

 
1,988,568

(1)
The amounts reflect each affected financial statement line item as they would have been reported under U.S. GAAP, prior to the adoption of the new revenue standard.

13

JEFFERIES GROUP LLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(Unaudited)

Note 4. Fair Value Disclosures
The following is a summary of our financial assets and liabilities that are accounted for at fair value on a recurring basis, excluding Investments at fair value based on net asset value (“NAV”) of $325.3 million and $215.4 million at August 31, 2018 and November 30, 2017, respectively, by level within the fair value hierarchy (in thousands):
 
August 31, 2018
 
Level 1
 
Level 2
 
Level 3
 
Counterparty and
Cash Collateral
Netting (1)
 
Total
Assets:
 
 
 
 
 
 
 
 
 
Financial instruments owned:
 
 
 
 
 
 
 
 
 
Corporate equity securities
$
1,881,376

 
$
72,569

 
$
48,045

 
$

 
$
2,001,990

Corporate debt securities

 
2,286,852

 
9,651

 

 
2,296,503

Collateralized debt obligations and collateralized loan obligations

 
82,339

 
23,601

 

 
105,940

U.S. government and federal agency securities
2,876,669

 
45,889

 

 

 
2,922,558

Municipal securities

 
749,616

 

 

 
749,616

Sovereign obligations
1,319,415

 
666,745

 

 

 
1,986,160

Residential mortgage-backed securities

 
1,894,533

 
4,954

 

 
1,899,487

Commercial mortgage-backed securities

 
791,449

 
23,916

 

 
815,365

Other asset-backed securities

 
263,967

 
69,305

 

 
333,272

Loans and other receivables

 
1,455,496

 
48,985

 

 
1,504,481

Derivatives
6,644

 
3,496,790

 
3,137

 
(3,331,143
)
 
175,428

Investments at fair value

 

 
79,539

 

 
79,539

Total financial instruments owned, excluding Investments at fair value based on NAV
$
6,084,104

 
$
11,806,245

 
$
311,133

 
$
(3,331,143
)
 
$
14,870,339

 
 
 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
 
Financial instruments sold, not yet purchased:
 
 
 
 
 
 
 
 
 
Corporate equity securities
$
1,312,412

 
$
1,507

 
$
413

 
$

 
$
1,314,332

Corporate debt securities

 
1,375,530

 
1,557

 

 
1,377,087

U.S. government and federal agency securities
1,127,608

 

 

 

 
1,127,608

Sovereign obligations
1,513,237

 
958,998

 
55

 

 
2,472,290

Commercial mortgage-backed securities

 

 
70

 

 
70

Loans

 
1,136,579

 
8,661

 

 
1,145,240

Derivatives
4,976

 
4,125,994

 
12,134

 
(3,451,531
)
 
691,573

Total financial instruments sold, not yet purchased
$
3,958,233

 
$
7,598,608

 
$
22,890

 
$
(3,451,531
)
 
$
8,128,200

Long-term debt
$

 
$
545,927

 
$
163,630

 
$

 
$
709,557

(1)
Represents counterparty and cash collateral netting across the levels of the fair value hierarchy for positions with the same counterparty.

14

JEFFERIES GROUP LLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(Unaudited)

 
November 30, 2017
 
Level 1
 
Level 2
 
Level 3
 
Counterparty and
Cash Collateral
Netting (1)
 
Total
Assets:
 
 
 
 
 
 
 
 
 
Financial instruments owned:
 
 
 
 
 
 
 
 
 
Corporate equity securities
$
1,801,453

 
$
57,091

 
$
22,009

 
$

 
$
1,880,553

Corporate debt securities

 
3,261,300

 
26,036

 

 
3,287,336

Collateralized debt obligations and collateralized loan obligations

 
139,166

 
30,004

 

 
169,170

U.S. government and federal agency securities
1,269,230

 
39,443

 

 

 
1,308,673

Municipal securities

 
710,513

 

 

 
710,513

Sovereign obligations
1,381,552

 
1,035,907

 

 

 
2,417,459

Residential mortgage-backed securities

 
1,453,294

 
26,077

 

 
1,479,371

Commercial mortgage-backed securities

 
508,115

 
12,419

 

 
520,534

Other asset-backed securities

 
217,111

 
61,129

 

 
278,240

Loans and other receivables

 
1,620,581

 
47,304

 

 
1,667,885

Derivatives
160,168

 
3,248,586

 
9,295

 
(3,254,216
)
 
163,833

Investments at fair value

 
946

 
93,454

 

 
94,400

Total financial instruments owned, excluding Investments at fair value based on NAV
$
4,612,403

 
$
12,292,053

 
$
327,727

 
$
(3,254,216
)
 
$
13,977,967

Securities received as collateral
$
103

 
$

 
$

 
$

 
$
103

 
 
 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
 
Financial instruments sold, not yet purchased:
 
 
 
 
 
 
 
 
 
Corporate equity securities
$
1,456,675

 
$
32,122

 
$
48

 
$

 
$
1,488,845

Corporate debt securities

 
1,688,825

 
522

 

 
1,689,347

U.S. government and federal agency securities
1,430,737

 

 

 

 
1,430,737

Sovereign obligations
1,216,643

 
956,992

 

 

 
2,173,635

Commercial mortgage-backed securities

 

 
105

 

 
105

Loans

 
1,148,824

 
3,486

 

 
1,152,310

Derivatives
247,919

 
3,399,239

 
16,041

 
(3,426,249
)
 
236,950

Total financial instruments sold, not yet purchased
$
4,351,974

 
$
7,226,002

 
$
20,202

 
$
(3,426,249
)
 
$
8,171,929

Short-term borrowings
$

 
$
23,324

 
$

 
$

 
$
23,324

Long-term debt
$

 
$
606,956

 
$

 
$

 
$
606,956

Obligation to return securities received as collateral
$
103

 
$

 
$

 
$

 
$
103

(1)
Represents counterparty and cash collateral netting across the levels of the fair value hierarchy for positions with the same counterparty.
The following is a description of the valuation basis, including valuation techniques and inputs, used in measuring our financial assets and liabilities that are accounted for at fair value on a recurring basis:
Corporate Equity Securities
Exchange-Traded Equity Securities: Exchange-traded equity securities are measured based on quoted closing exchange prices, which are generally obtained from external pricing services, and are categorized within Level 1 of the fair value hierarchy, otherwise they are categorized within Level 2 of the fair value hierarchy. To the extent these securities are actively traded, valuation adjustments are not applied.

15

JEFFERIES GROUP LLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(Unaudited)

Non-Exchange-Traded Equity Securities: Non-exchange-traded equity securities are measured primarily using broker quotations, pricing data from external pricing services and prices observed from recently executed market transactions and are categorized within Level 2 of the fair value hierarchy. Where such information is not available, non-exchange-traded equity securities are categorized within Level 3 of the fair value hierarchy and measured using valuation techniques involving quoted prices of or market data for comparable companies, similar company ratios and multiples (e.g., price/Earnings before interest, taxes, depreciation and amortization (“EBITDA”), price/book value), discounted cash flow analyses and transaction prices observed from subsequent financing or capital issuance by the company. When using pricing data of comparable companies, judgment must be applied to adjust the pricing data to account for differences between the measured security and the comparable security (e.g., issuer market capitalization, yield, dividend rate, geographical concentration).
Equity Warrants: Non-exchange-traded equity warrants are measured primarily using pricing data from external pricing services, prices observed from recently executed market transactions and broker quotations and are categorized within Level 2 of the fair value hierarchy. Where such information is not available, non-exchange-traded equity warrants are generally categorized within Level 3 of the fair value hierarchy and are measured using the Black-Scholes model with key inputs impacting the valuation including the underlying security price, implied volatility, dividend yield, interest rate curve, strike price and maturity date.
Corporate Debt Securities
Corporate Bonds: Corporate bonds are measured primarily using pricing data from external pricing services and broker quotations, where available, prices observed from recently executed market transactions and bond spreads or credit default swap spreads of the issuer adjusted for basis differences between the swap curve and the bond curve. Corporate bonds measured using these valuation methods are categorized within Level 2 of the fair value hierarchy. If broker quotes, pricing data or spread data is not available, alternative valuation techniques are used including cash flow models incorporating interest rate curves, single name or index credit default swap curves for comparable issuers and recovery rate assumptions. Corporate bonds measured using alternative valuation techniques are categorized within Level 3 of the fair value hierarchy and are a limited portion of our corporate bonds.
High Yield Corporate and Convertible Bonds: A significant portion of our high yield corporate and convertible bonds are categorized within Level 2 of the fair value hierarchy and are measured primarily using broker quotations and pricing data from external pricing services, where available, and prices observed from recently executed market transactions of institutional size. Where pricing data is less observable, valuations are categorized within Level 3 of the fair value hierarchy and are based on pending transactions involving the issuer or comparable issuers, prices implied from an issuer’s subsequent financing or recapitalization, models incorporating financial ratios and projected cash flows of the issuer and market prices for comparable issuers.
Collateralized Debt Obligations and Collateralized Loan Obligations
Collateralized debt obligations (“CDOs”) and collateralized loan obligations (“CLOs”) are measured based on prices observed from recently executed market transactions of the same or similar security or based on valuations received from third-party brokers or data providers and are categorized within Level 2 or Level 3 of the fair value hierarchy depending on the observability and significance of the pricing inputs. Valuation that is based on recently executed market transactions of similar securities incorporates additional review and analysis of pricing inputs and comparability criteria, including, but not limited to, collateral type, tranche type, rating, origination year, prepayment rates, default rates and loss severity.
U.S. Government and Federal Agency Securities
U.S. Treasury Securities: U.S. Treasury securities are measured based on quoted market prices and categorized within Level 1 of the fair value hierarchy.
U.S. Agency Debt Securities: Callable and non-callable U.S. agency debt securities are measured primarily based on quoted market prices obtained from external pricing services and are generally categorized within Level 1 or Level 2 of the fair value hierarchy.
Municipal Securities
Municipal securities are measured based on quoted prices obtained from external pricing services and are generally categorized within Level 2 of the fair value hierarchy.

16

JEFFERIES GROUP LLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(Unaudited)

Sovereign Obligations
Sovereign government obligations are measured based on quoted market prices obtained from external pricing services, where available, or recently executed independent transactions of comparable size. Sovereign government obligations are categorized within Level 1 or Level 2 of the fair value hierarchy, primarily based on the country of issuance. Sovereign government obligations are categorized within Level 2 or Level 3 of the fair value hierarchy depending on the observability of these input parameters.
Residential Mortgage-Backed Securities
Agency Residential Mortgage-Backed Securities (“RMBS”): Agency RMBS include mortgage pass-through securities (fixed and adjustable rate), collateralized mortgage obligations and principal-only and interest-only (including inverse interest-only) securities. Agency RMBS are generally measured using recent transactions, pricing data from external pricing services or expected future cash flow techniques that incorporate prepayment models and other prepayment assumptions to amortize the underlying mortgage loan collateral and are categorized within Level 2 of the fair value hierarchy. We use prices observed from recently executed transactions to develop market-clearing spread and yield curve assumptions. Valuation inputs with regard to the underlying collateral incorporate factors such as weighted average coupon, loan-to-value, credit scores, geographic location, maximum and average loan size, originator, servicer and weighted average loan age.
Non-Agency RMBS: The fair value of non-agency RMBS is determined primarily using discounted cash flow methodologies and securities are categorized within Level 2 or Level 3 of the fair value hierarchy based on the observability and significance of the pricing inputs used. Performance attributes of the underlying mortgage loans are evaluated to estimate pricing inputs, such as prepayment rates, default rates and the severity of credit losses. Attributes of the underlying mortgage loans that affect the pricing inputs include, but are not limited to, weighted average coupon; average and maximum loan size; loan-to-value; credit scores; documentation type; geographic location; weighted average loan age; originator; servicer; historical prepayment, default and loss severity experience of the mortgage loan pool; and delinquency rate. Yield curves used in the discounted cash flow models are based on observed market prices for comparable securities and published interest rate data to estimate market yields. In addition, broker quotes, where available, are also referenced to compare prices primarily on interest-only securities.
Commercial Mortgage-Backed Securities
Agency Commercial Mortgage-Backed Securities (“CMBS”): Government National Mortgage Association (“GNMA”) project loan bonds are measured based on inputs corroborated from and benchmarked to observed prices of recent securitization transactions of similar securities with adjustments incorporating an evaluation of various factors, including prepayment speeds, default rates and cash flow structures, as well as the likelihood of pricing levels in the current market environment. Federal National Mortgage Association (“FNMA”) Delegated Underwriting and Servicing (“DUS”) mortgage-backed securities are generally measured by using prices observed from recently executed market transactions to estimate market-clearing spread levels for purposes of estimating fair value. GNMA project loan bonds and FNMA DUS mortgage-backed securities are categorized within Level 2 of the fair value hierarchy.
Non-Agency CMBS: Non-agency CMBS are measured using pricing data obtained from external pricing services, prices observed from recently executed market transactions or based on expected cash flow models that incorporate underlying loan collateral characteristics and performance. Non-Agency CMBS are categorized within Level 2 or Level 3 of the fair value hierarchy depending on the observability of the underlying inputs.
Other Asset-Backed Securities
Other asset-backed securities (“ABS”) include, but are not limited to, securities backed by auto loans, credit card receivables, student loans and other consumer loans and are categorized within Level 2 or Level 3 of the fair value hierarchy. Valuations are primarily determined using pricing data obtained from external pricing services, broker quotes and prices observed from recently executed market transactions. In addition, recent transaction data from comparable deals is deployed to develop market clearing yields and cumulative loss assumptions. The cumulative loss assumptions are based on the analysis of the underlying collateral and comparisons to earlier deals from the same issuer to gauge the relative performance of the deal.

17

JEFFERIES GROUP LLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(Unaudited)

Loans and Other Receivables
Corporate Loans: Corporate loans categorized within Level 2 of the fair value hierarchy are measured based on market consensus pricing service quotations. Where available, market price quotations from external pricing services are reviewed to ensure they are supported by transaction data. Corporate loans categorized within Level 3 of the fair value hierarchy are measured based on price quotations that are considered to be less transparent, market prices for debt securities of the same creditor and estimates of future cash flows incorporating assumptions regarding creditor default and recovery rates and consideration of the issuer’s capital structure.
Participation Certificates in Agency Residential Loans: Valuations of participation certificates in agency residential loans are based on observed market prices of recently executed purchases and sales of similar loans and data provider pricing. The loan participation certificates are categorized within Level 2 of the fair value hierarchy given the observability and volume of recently executed transactions and availability of data provider pricing.
Project Loans and Participation Certificates in GNMA Project and Construction Loans: Valuations of participation certificates in GNMA project and construction loans are based on inputs corroborated from and benchmarked to observed prices of recent securitizations with similar underlying loan collateral to derive an implied spread. Securitization prices are adjusted to estimate the fair value of the loans to account for the arbitrage that is realized at the time of securitization. The measurements are categorized within Level 2 of the fair value hierarchy given the observability and volume of recently executed transactions.
Consumer Loans and Funding Facilities: Consumer and small business whole loans and related funding facilities are valued based on observed market transactions and incorporating valuation inputs including, but not limited to, delinquency and default rates, prepayment rates, borrower characteristics, loan risk grades and loan age. These assets are categorized within Level 2 or Level 3 of the fair value hierarchy.
Escrow and Trade Claim Receivables: Escrow and trade claim receivables are categorized within Level 3 of the fair value hierarchy where fair value is estimated based on reference to market prices and implied yields of debt securities of the same or similar issuers. Escrow and trade claim receivables are categorized within Level 2 of the fair value hierarchy where fair value is based on recent observations in the same receivable.
Derivatives
Listed Derivative Contracts: Listed derivative contracts that are actively traded are measured based on quoted exchange prices, broker quotes or vanilla option valuation models, such as Black-Scholes, using observable valuation inputs from the principal market or consensus pricing services. Exchange quotes and/or valuation inputs are generally obtained from external vendors and pricing services. Broker quotes are validated directly through observable and tradeable quotes. Listed derivative contracts that use unadjusted exchange close prices are generally categorized within Level 1 of the fair value hierarchy. All other listed derivative contracts are generally categorized within Level 2 of the fair value hierarchy.
Over-the-Counter (“OTC”) Derivative Contracts: OTC derivative contracts are generally valued using models, whose inputs reflect assumptions that we believe market participants would use in valuing the derivative in a current transaction. Inputs to valuation models are appropriately calibrated to market data. For many OTC derivative contracts, the valuation models do not involve material subjectivity as the methodologies do not entail significant judgment and the inputs to valuation models do not involve a high degree of subjectivity as the valuation model inputs are readily observable or can be derived from actively quoted markets. OTC derivative contracts are primarily categorized within Level 2 of the fair value hierarchy given the observability and significance of the inputs to the valuation models. Where significant inputs to the valuation are unobservable, derivative instruments are categorized within Level 3 of the fair value hierarchy.

18

JEFFERIES GROUP LLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(Unaudited)

OTC options include OTC equity, foreign exchange, interest rate and commodity options measured using various valuation models, such as Black-Scholes, with key inputs including the underlying security price, foreign exchange spot rate, commodity price, implied volatility, dividend yield, interest rate curve, strike price and maturity date. Discounted cash flow models are utilized to measure certain OTC derivative contracts including the valuations of our interest rate swaps, which incorporate observable inputs related to interest rate curves, valuations of our foreign exchange forwards and swaps, which incorporate observable inputs related to foreign currency spot rates and forward curves and valuations of our commodity swaps and forwards, which incorporate observable inputs related to commodity spot prices and forward curves. Discounted cash flow models are also utilized to measure certain variable funding note swaps, which are backed by CLOs and incorporates constant prepayment rate, constant default rate and loss severity assumptions. Credit default swaps include both index and single-name credit default swaps. External prices are available as inputs in measuring index credit default swaps and single-name credit default swaps. For commodity and equity total return swaps, market prices are generally observable for the underlying asset and used as the basis for measuring the fair value of the derivative contracts. Total return swaps executed on other underlyings are measured based on valuations received from external pricing services.
Investments at Fair Value
Investments at fair value based on NAV includes investments in hedge funds, fund of funds and private equity funds, which are measured at the NAV of the funds, provided by the fund managers and are excluded from the fair value hierarchy. Investments at fair value also include direct equity investments in private companies, which are measured at fair value using valuation techniques involving quoted prices of or market data for comparable companies, similar company ratios and multiples (e.g., price/EBITDA, price/book value), discounted cash flow analyses and transaction prices observed for subsequent financing or capital issuance by the company. Direct equity investments in private companies are categorized within Level 2 or Level 3 of the fair value hierarchy. Additionally, investments at fair value include investments in insurance contracts relating to our defined benefit plan in Germany. Fair value for the insurance contracts is determined using a third party and is categorized within Level 3 of the fair value hierarchy.
The following tables present information about our investments in entities that have the characteristics of an investment company (in thousands):
 
August 31, 2018
 
Fair Value (1)
 
Unfunded
Commitments
 
Redemption Frequency
(if currently eligible)
Equity Long/Short Hedge Funds (2)
$
16,606

 
$

 
Monthly, Quarterly
Fixed Income and High Yield Hedge Funds (3)
219

 

 
Fund of Funds (4)
175

 

 
Equity Funds (5)
36,702

 
20,209

 
Commodity Funds (6)
10,228

 

 
Multi-asset Funds (7)
261,350

 

 
Total
$
325,280

 
$
20,209

 
 
 
November 30, 2017
 
Fair Value (1)
 
Unfunded
Commitments
 
Redemption Frequency
(if currently eligible)
Equity Long/Short Hedge Funds (2)
$
33,176

 
$

 
Monthly, Quarterly
Fixed Income and High Yield Hedge Funds (3)
417

 

 
Fund of Funds (4)
189

 

 
Equity Funds (5)
26,798

 
19,084

 
Multi-asset Funds (7)
154,805

 

 
Total
$
215,385

 
$
19,084

 
 
(1)
Where fair value is calculated based on NAV, fair value has been derived from each of the funds’ capital statements.
(2)
This category includes investments in hedge funds that invest, long and short, primarily in equity securities in domestic and international markets in both the public and private sectors. At August 31, 2018 and November 30, 2017, approximately 2% and 1%, respectively, of the fair value of investments in this category are classified as being in liquidation.

19

JEFFERIES GROUP LLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(Unaudited)

(3)
This category includes investments in funds that invest in loans secured by a first trust deed on property, domestic and international public high yield debt, private high yield investments, senior bank loans, public leveraged equities, distressed debt and private equity investments. There are no redemption provisions.
(4)
This category includes investments in fund of funds that invest in various private equity funds. The investments in this category are managed by us and have no redemption provisions. These investments are gradually being liquidated or we have requested redemption, however, we are unable to estimate when these funds will be received.
(5)
At August 31, 2018 and November 30, 2017, the investments in this category include investments in equity funds that invest in the equity of various U.S. and foreign private companies in the energy, technology, internet service and telecommunication service industries. These investments cannot be redeemed; instead, distributions are received through the liquidation of the underlying assets of the funds which are expected to be liquidated in one to ten years.
(6)
This category includes investments in hedge funds that invest, long and short, primarily in commodities. Investments in this category are redeemable with 60 days prior written notice.
(7)
This category includes investments in hedge funds that invest, long and short, primarily in multi-asset securities in domestic and international markets in both the public and private sectors. At August 31, 2018 and November 30, 2017, investments representing approximately 17% and 12%, respectively, of the fair value of investments in this category are redeemable with 30 days prior written notice.
Other Secured Financings
Other secured financings that are accounted for at fair value include notes issued by consolidated VIEs, which are categorized within Level 2 or Level 3 of the fair value hierarchy. Fair value is based on recent transaction prices for similar assets.
Short-term Borrowings / Long-term Debt
Short-term borrowings that are accounted for at fair value include equity-linked notes, which are generally categorized within Level 2 of the fair value hierarchy, as the fair value is based on the price of the underlying equity security. Long-term debt includes variable rate, fixed-to-floating rate, CMS (constant maturity swap), digital and Bermudan structured notes. These are valued using various valuation models that incorporate our own credit spread, market price quotations from external pricing sources referencing the appropriate interest rate curves, volatilities and other inputs as well as prices for transactions in a given note during the period. Long-term debt notes are generally categorized within Level 2 of the fair value hierarchy where market trades have been observed during the quarter, otherwise categorized within Level 3.

20

JEFFERIES GROUP LLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(Unaudited)

Level 3 Rollforwards
The following is a summary of changes in fair value of our financial assets and liabilities that have been categorized within Level 3 of the fair value hierarchy for the three months ended August 31, 2018 (in thousands):
 
Three Months Ended August 31, 2018
 
 
 
Total gains/losses (realized and unrealized) (1)
 
 
 
 
 
 
 
 
 
Net transfers into/
 (out of) Level 3
 
 
 
For instruments still held at August 31, 2018, changes in unrealized gains/(losses) included in:
 
Balance at
May 31, 2018
 
 
Purchases
 
Sales
 
Settlements
 
Issuances
 
 
Balance at
August 31, 2018
 
earnings (1)
 
other comprehensive income (1)
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Financial instruments owned:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Corporate equity securities
$
42,901

 
$
12,128

 
$
17,652

 
$
(23,010
)
 
$
(302
)
 
$

 
$
(1,324
)
 
$
48,045

 
$
9,468

 
$

Corporate debt securities
28,066

 
1,057

 
507

 
(21,403
)
 
(59
)
 

 
1,483

 
9,651

 
(165
)
 

CDOs and CLOs
30,603

 
567

 
238,281

 
(240,002
)
 
(2,127
)
 

 
(3,721
)
 
23,601

 
(2,338
)
 

RMBS
3,655

 
(66
)
 
72

 
(1,597
)
 
(1
)
 

 
2,891

 
4,954

 
90

 

CMBS
27,239

 
(222
)
 
8

 

 
(1,156
)
 

 
(1,953
)
 
23,916

 
(288
)
 

Other ABS
55,535

 
(2,269
)
 
307,358

 
(290,838
)
 
(4,356
)
 

 
3,875

 
69,305

 
(1,124
)
 

Loans and other receivables
64,036

 
(1,353
)
 
14,932

 
(23,700
)
 
(3,453
)
 

 
(1,477
)
 
48,985

 
1,007

 

Investments at fair value
79,488

 

 
51

 

 

 

 

 
79,539

 

 

Liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Financial instruments sold, not yet purchased:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Corporate equity securities
$
87

 
$
326

 
$

 
$

 
$

 
$

 
$

 
$
413

 
$
(326
)
 
$

Corporate debt securities
522

 
39

 

 

 
996

 

 

 
1,557

 
(39
)
 

Sovereign obligations

 
3

 
(598
)
 
629

 

 

 
21

 
55

 
(124
)
 

CMBS

 
70

 

 

 

 

 

 
70

 
(70
)
 

Loans
12,881

 
(148
)
 
(4,871
)
 
1,787

 

 

 
(988
)
 
8,661

 
149

 

Net derivatives (2)
5,874

 
1,107

 

 

 
1,990

 

 
26

 
8,997

 
(2,090
)
 

Long-term debt
160,626

 
3,004

 

 

 

 

 

 
163,630

 
(2,953
)
 
(51
)
(1)
Realized and unrealized gains/losses are primarily reported in Principal transaction revenues in our Consolidated Statements of Earnings. Changes in instrument-specific credit risk related to structured notes are included in our Consolidated Statements of Comprehensive Income, net of tax.
(2)
Net derivatives represent Financial instruments owned—Derivatives and Financial instruments sold, not yet purchased—Derivatives.
Analysis of Level 3 Assets and Liabilities for the Three Months Ended August 31, 2018
During the three months ended August 31, 2018, transfers of assets of $13.6 million from Level 2 to Level 3 of the fair value hierarchy are primarily attributed to:
Other ABS of $3.9 million, RMBS of $2.9 million and CMBS of $2.6 million due to reduced pricing transparency.
During the three months ended August 31, 2018, transfers of assets of $13.8 million from Level 3 to Level 2 are primarily attributed to:
CMBS of $4.6 million, CDOs and CLOs of $3.7 million and corporate equity securities of $2.6 million due to greater pricing transparency supporting classification into Level 2.
Net gains on Level 3 assets were $9.8 million and net losses on Level 3 liabilities were $4.4 million for the three months ended August 31, 2018. Net gains on Level 3 assets were primarily due to increased market values in corporate equity securities. Net losses on Level 3 liabilities were primarily due to increased valuations of certain structured notes.

21

JEFFERIES GROUP LLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(Unaudited)

The following is a summary of changes in fair value of our financial assets and liabilities that have been categorized within Level 3 of the fair value hierarchy for the nine months ended August 31, 2018 (in thousands):
 
Nine Months Ended August 31, 2018
 
 
 
Total gains/losses (realized and unrealized) (1)
 
 
 
 
 
 
 
 
 
Net transfers into/
 (out of) Level 3
 
 
 
For instruments still held at August 31, 2018, changes in unrealized gains/(losses) included in:
 
Balance at November 30, 2017
 
 
Purchases
 
Sales
 
Settlements
 
Issuances
 
 
Balance at August 31, 2018
 
earnings (1)
 
other comprehensive income (1)
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Financial instruments owned:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Corporate equity securities
$
22,009

 
$
30,098

 
$
35,993

 
$
(39,008
)
 
$
(2,082
)
 
$

 
$
1,035

 
$
48,045

 
$
25,475

 
$

Corporate debt securities
26,036

 
1,090

 
22,204

 
(38,553
)
 
(2,066
)
 

 
940

 
9,651

 
(1,738
)
 

CDOs and CLOs
30,004

 
(2,323
)
 
242,864

 
(249,691
)
 
(5,859
)
 

 
8,606

 
23,601

 
(5,533
)
 

RMBS
26,077

 
(7,334
)
 
2,018

 
(12,621
)
 
(6
)
 

 
(3,180
)
 
4,954

 
316

 

CMBS
12,419

 
(1,236
)
 
1,720

 
(548
)
 
(5,415
)
 

 
16,976

 
23,916

 
(2,272
)
 

Other ABS
61,129

 
(7,528
)
 
523,045

 
(495,055
)
 
(12,281
)
 

 
(5
)
 
69,305

 
(3,307
)
 

Loans and other receivables
47,304

 
(2,812
)
 
104,009

 
(98,733
)
 
(14,610
)
 

 
13,827

 
48,985

 
(3,769
)
 

Investments at fair value
93,454

 
417

 
2,291

 
(17,569
)
 

 

 
946

 
79,539

 
(177
)
 

Liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Financial instruments sold, not yet purchased:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Corporate equity securities
$
48

 
$
365

 
$

 
$

 
$

 
$

 
$

 
$
413

 
$
(365
)
 
$

Corporate debt securities
522

 
39

 

 

 
996

 

 

 
1,557

 
(39
)
 

Sovereign obligations

 
3

 
(598
)
 
629

 

 

 
21

 
55

 
(124
)
 

CMBS
105

 
(35
)
 

 

 

 

 

 
70

 
(70
)
 

Loans
3,486

 
(1,059
)
 
(15,702
)
 
19,409

 

 

 
2,527

 
8,661

 
1,059

 

Net derivatives (2)
6,746

 
(1,034
)
 
(6
)
 

 
2,984

 
296

 
11

 
8,997

 
(2,660
)
 

Long-term debt

 
(25,078
)
 

 

 

 
81,284

 
107,424

 
163,630

 
36,921

 
(11,843
)
(1)
Realized and unrealized gains/losses are primarily reported in Principal transaction revenues in our Consolidated Statements of Earnings. Changes in instrument-specific credit risk related to structured notes are included in our Consolidated Statements of Comprehensive Income, net of tax.
(2)
Net derivatives represent Financial instruments owned—Derivatives and Financial instruments sold, not yet purchased—Derivatives.
Analysis of Level 3 Assets and Liabilities for the Nine Months Ended August 31, 2018
During the nine months ended August 31, 2018, transfers of assets of $49.1 million from Level 2 to Level 3 of the fair value hierarchy are primarily attributed to:
CMBS of $17.0 million, loans and other receivables of $15.3 million and CDOs and CLOs of $8.7 million due to reduced pricing transparency.
During the nine months ended August 31, 2018, transfers of assets of $10.0 million from Level 3 to Level 2 are primarily attributed to:
RMBS of $4.6 million and corporate equity securities of $2.5 million due to greater pricing transparency supporting classification into Level 2.
During the nine months ended August 31, 2018, there were transfers of structured notes of $107.4 million from Level 2 to Level 3 due to a decrease in market observability.
Net gains on Level 3 assets were $10.4 million and net gains on Level 3 liabilities were $26.8 million for the nine months ended August 31, 2018. Net gains on Level 3 assets were primarily due to increased market values in corporate equity securities, partially offset by decreased market values across other ABS, RMBS and certain loans and other receivables. Net gains on Level 3 liabilities were primarily due to decreased valuations of certain structured notes.

22

JEFFERIES GROUP LLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(Unaudited)

The following is a summary of changes in fair value of our financial assets and liabilities that have been categorized within Level 3 of the fair value hierarchy for the three months ended August 31, 2017 (in thousands):
 
Three Months Ended August 31, 2017
 
Balance at
May 31, 2017
 
Total gains/losses (realized and unrealized) (1)
 
Purchases
 
Sales
 
Settlements
 
Issuances
 
Net transfers into/
(out of) Level 3
 
Balance at August 31, 2017
 
Change in
unrealized gains/
(losses) relating
to instruments
still held at
August 31, 2017 (1)
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Financial instruments owned:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Corporate equity securities
$
20,548

 
$
4,344

 
$
4

 
$
(645
)
 
$
(55
)
 
$

 
$
(2,022
)
 
$
22,174

 
$
4,319

Corporate debt securities
24,727

 
(2,350
)
 
5,901

 
(5,551
)
 
(31
)
 

 
2,319

 
25,015

 
(2,224
)
CDOs and CLOs
27,255

 
(6,119
)
 
52,918

 
(36,564
)
 
245

 

 
468

 
38,203

 
(3,552
)
RMBS
33,032

 
(263
)
 
494