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Section 1: 10-Q (10-Q)

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Table of Contents

 
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 May 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).
 



Table of Contents

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


1

Table of Contents

PART I. FINANCIAL INFORMATION
Item 1. Financial Statements.
JEFFERIES GROUP LLC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION (UNAUDITED)
(In thousands)
 
May 31, 2018
 
November 30, 2017
ASSETS
 
 
 
Cash and cash equivalents ($5,172 and $7,514 at May 31, 2018 and November 30, 2017, respectively, related to consolidated VIEs)
$
4,579,931

 
$
5,164,492

Cash and securities segregated and on deposit for regulatory purposes or deposited with clearing and depository organizations
709,646

 
578,014

Financial instruments owned, at fair value, (including securities pledged of $11,079,600 and $10,842,051 at May 31, 2018 and November 30, 2017, respectively; and $1,296 and $38,044 at May 31, 2018 and November 30, 2017, respectively, related to consolidated VIEs)
15,705,657

 
14,193,352

Loans to and investments in related parties
740,804

 
682,790

Securities borrowed
7,599,043

 
7,721,803

Securities purchased under agreements to resell
3,822,232

 
3,689,559

Securities received as collateral

 
103

Receivables:
 
 
 
Brokers, dealers and clearing organizations
2,488,632

 
2,514,838

Customers
1,977,251

 
1,563,758

Fees, interest and other ($4 and $197 at May 31, 2018 and November 30, 2017, respectively, related to consolidated VIEs)
365,285

 
381,231

Premises and equipment
304,859

 
297,750

Goodwill
1,645,541

 
1,647,089

Other assets ($2 at both May 31, 2018 and November 30, 2017, related to consolidated VIEs)
1,184,590

 
1,270,912

Total assets
$
41,123,471

 
$
39,705,691

LIABILITIES AND EQUITY
 
 
 
Short-term borrowings (includes $68,818 and $23,324 at fair value at May 31, 2018 and November 30, 2017, respectively)
$
506,218

 
$
436,215

Financial instruments sold, not yet purchased, at fair value
8,914,893

 
8,171,929

Collateralized financings:
 
 
 
Securities loaned
2,555,701

 
2,843,911

Securities sold under agreements to repurchase
8,773,506

 
8,660,511

Other secured financings (includes $968,822 and $722,108 at May 31, 2018 and November 30, 2017, respectively, related to consolidated VIEs)
968,822

 
722,108

Obligation to return securities received as collateral

 
103

Payables:
 
 
 
Brokers, dealers and clearing organizations
2,729,207

 
2,226,768

Customers
3,153,047

 
2,664,023

Accrued expenses and other liabilities ($757 and $1,391 at May 31, 2018 and November 30, 2017, respectively, related to consolidated VIEs)
1,386,546

 
1,803,720

Long-term debt (includes $708,256 and $606,956 at fair value at May 31, 2018 and November 30, 2017, respectively)
6,591,900

 
6,416,844

Total liabilities
35,579,840

 
33,946,132

EQUITY
 
 
 
Member’s paid-in capital
5,715,628

 
5,895,601

Accumulated other comprehensive loss:
 
 
 
Currency translation adjustments
(148,576
)
 
(98,909
)
Changes in instrument specific credit risk
(19,984
)
 
(27,888
)
Cash flow hedges
361

 
(936
)
Additional minimum pension liability
(4,548
)
 
(9,046
)
Total accumulated other comprehensive loss
(172,747
)
 
(136,779
)
Total Jefferies Group LLC member’s equity
5,542,881

 
5,758,822

Noncontrolling interests
750

 
737

Total equity
5,543,631

 
5,759,559

Total liabilities and equity
$
41,123,471

 
$
39,705,691

See accompanying notes to consolidated financial statements.

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Table of Contents

JEFFERIES GROUP LLC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS (UNAUDITED)
(In thousands)
 
Three Months Ended 
 May 31,
 
Six Months Ended 
 May 31,
 
2018
 
2017
 
2018
 
2017
Revenues:
 
 
 
 
 
 
 
Commissions and other fees
$
158,104

 
$
152,643

 
$
306,006

 
$
298,465

Principal transactions
137,802

 
280,258

 
355,275

 
502,160

Investment banking
500,297

 
351,863

 
940,288

 
759,884

Asset management fees
6,016

 
4,115

 
10,946

 
12,096

Interest
307,327

 
227,804

 
565,143

 
429,827

Other
47,263

 
22,272

 
65,746

 
46,320

Total revenues
1,156,809

 
1,038,955

 
2,243,404

 
2,048,752

Interest expense
334,252

 
259,661

 
599,601

 
473,945

Net revenues
822,557

 
779,294

 
1,643,803

 
1,574,807

Non-interest expenses:
 
 
 
 
 
 
 
Compensation and benefits
444,094

 
450,522

 
899,727

 
910,694

Non-compensation expenses:
 
 
 
 
 
 
 
Floor brokerage and clearing fees
46,244

 
47,494

 
90,063

 
93,352

Underwriting costs
13,029

 

 
27,304

 

Technology and communications
76,381

 
67,478

 
145,458

 
132,985

Occupancy and equipment rental
24,993

 
23,594

 
49,584

 
49,409

Business development
42,393

 
26,466

 
84,500

 
49,098

Professional services
35,991

 
26,413

 
66,399

 
58,537

Other
17,567

 
21,146

 
36,165

 
40,352

Total non-compensation expenses
256,598

 
212,591

 
499,473

 
423,733

Total non-interest expenses
700,692

 
663,113

 
1,399,200

 
1,334,427

Earnings before income taxes
121,865

 
116,181

 
244,603

 
240,380

Income tax expense
23,857

 
46,391

 
207,414

 
56,570

Net earnings
98,008

 
69,790

 
37,189

 
183,810

Net earnings attributable to noncontrolling interests
4

 
39

 
3

 
40

Net earnings attributable to Jefferies Group LLC
$
98,004

 
$
69,751

 
$
37,186

 
$
183,770

See accompanying notes to consolidated financial statements.

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Table of Contents

JEFFERIES GROUP LLC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED)
(In thousands)
 
Three Months Ended 
 May 31,
 
Six Months Ended 
 May 31,
 
2018
 
2017
 
2018
 
2017
Net earnings
$
98,008

 
$
69,790

 
$
37,189

 
$
183,810

Other comprehensive income (loss), net of tax:
 
 
 
 
 
 
 
Currency translation and other adjustments (1)
(61,188
)
 
25,882

 
(45,169
)
 
23,352

Changes in instrument specific credit risk (2)
26,017

 
(2,683
)
 
7,904

 
(12,378
)
Cash flow hedges (3)
251

 

 
1,297

 

Total other comprehensive income (loss), net of tax (4)
(34,920
)
 
23,199

 
(35,968
)
 
10,974

Comprehensive income
63,088

 
92,989

 
1,221

 
194,784

Net earnings attributable to noncontrolling interests
4

 
39

 
3

 
40

Comprehensive income attributable to Jefferies Group LLC
$
63,084

 
$
92,950

 
$
1,218

 
$
194,744


(1)
The amount during the six months ended May 31, 2018 includes $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. Refer to Note 3, Accounting Developments for further information. The amounts during the three and six months ended May 31, 2018 include a gain of $20.5 million related to foreign currency gains, which was reclassified to Other income within the Consolidated Statements of Earnings.
(2)
The amount includes income tax expense of approximately $8.8 million and $10.7 million for the three and six months ended May 31, 2018 and income tax benefit of approximately $1.1 million and $7.4 million for the three and six months ended May 31, 2017. The amounts during the three and six months ended May 31, 2018 also include a gain of $0.3 million 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 six months ended May 31, 2018 includes ($6.5) million related to the Tax Act, which was reclassified to Member’s paid-in capital. Refer to Note 3, Accounting Developments for further information.
(3)
The amount during the six months ended May 31, 2018 includes ($0.2) million related to the Tax Act, which was reclassified to Member’s paid-in capital. Refer to Note 3, Accounting Developments for further information.
(4)
None of the components of other comprehensive income (loss) are attributable to noncontrolling interests.
See accompanying notes to consolidated financial statements.

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Table of Contents

JEFFERIES GROUP LLC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY (UNAUDITED)
(In thousands)
 
Six Months Ended 
 May 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
37,186

 
357,498

Distribution to Jefferies Financial Group Inc.
(218,593
)
 

Tax Cuts and Jobs Act adjustment
7,555

 

Balance, end of period
$
5,715,628

 
$
5,895,601

Accumulated other comprehensive income (loss), net of tax (1) (2):
 
 
 
Balance, beginning of period
$
(136,779
)
 
$
(168,157
)
Currency adjustments (3)
(49,667
)
 
53,396

Changes in instrument specific credit risk (4)
7,904

 
(21,394
)
Cash flow hedges (5)
1,297

 
(936
)
Pension adjustments (6)
4,498

 
312

Balance, end of period
$
(172,747
)
 
$
(136,779
)
Total Jefferies Group LLC member’s equity
$
5,542,881

 
$
5,758,822

Noncontrolling interests:
 
 
 
Balance, beginning of period
$
737

 
$
651

Net earnings attributable to noncontrolling interests
3

 
86

Contributions
10

 

Balance, end of period
$
750

 
$
737

Total equity
$
5,543,631

 
$
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 six months ended May 31, 2018 includes a gain of $20.5 million related to foreign currency gains, which was reclassified to earnings.
(4)
The amount during the six months ended May 31, 2018 includes a gain of $0.3 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. Refer to Note 3, Accounting Developments for further information.
(5)
The amount during the six months ended May 31, 2018 includes ($0.2) million related to the Tax Act, which was reclassified to Member’s paid-in capital. Refer to Note 3, Accounting Developments for further information.
(6)
The amount during the six months ended May 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. Refer to Note 3, Accounting Developments for further information.
See accompanying notes to consolidated financial statements.

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Table of Contents

JEFFERIES GROUP LLC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(In thousands)
 
Six Months Ended 
 May 31,
 
2018
 
2017
Cash flows from operating activities:
 
 
 
Net earnings
$
37,189

 
$
183,810

Adjustments to reconcile net earnings to net cash provided by (used in) operating activities:
 
 
 
Depreciation and amortization
5,743

 
752

Income on loans to and investments in related parties
(24,834
)
 
(54,495
)
Distributions received on investments in related parties
1,910

 
6,189

Other adjustments
(94,524
)
 
40,160

Net change in assets and liabilities:
 
 
 
Securities deposited with clearing and depository organizations
64,880

 
108

Receivables:
 
 
 
Brokers, dealers and clearing organizations
10,499

 
(832,729
)
Customers
(413,508
)
 
(372,368
)
Fees, interest and other
9,390

 
(87,192
)
Securities borrowed
97,924

 
(143,554
)
Financial instruments owned
(1,594,717
)
 
(8,909
)
Securities purchased under agreements to resell
(176,922
)
 
(452,154
)
Other assets
76,192

 
(109,591
)
Payables:
 
 
 
Brokers, dealers and clearing organizations
520,766

 
(969,230
)
Customers
489,060

 
300,774

Securities loaned
(266,028
)
 
616,701

Financial instruments sold, not yet purchased
812,496

 
598,801

Securities sold under agreements to repurchase
139,287

 
1,818,042

Accrued expenses and other liabilities
(422,224
)
 
116,605

Net cash provided by (used in) operating activities
(727,421
)
 
651,720

Cash flows from investing activities:
 
 
 
Contributions to loans to and investments in related parties
(1,906,071
)
 
(2,642,607
)
Distributions from loans to and investments in related parties
1,873,000

 
2,579,746

Net payments on premises and equipment
(36,061
)
 
(39,918
)
Cash received from contingent consideration

 
1,250

Net cash used in investing activities
(69,132
)
 
(101,529
)
Continued on next page.

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Table of Contents

JEFFERIES GROUP LLC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS – CONTINUED (UNAUDITED)
(In thousands)
 
Six Months Ended 
 May 31,
 
2018
 
2017
Cash flows from financing activities:
 
 
 
Proceeds from short-term borrowings
372,481

 
133,928

Payments on short-term borrowings
(297,708
)
 
(219,086
)
Proceeds from issuance of long-term debt, net of issuance costs
1,321,714

 
866,600

Repayment of long-term debt
(1,022,615
)
 
(75,730
)
Dividend distribution
(200,000
)
 

Net proceeds from (payments on) other secured financings
246,714

 
(369,626
)
Net change in bank overdrafts
(2,722
)
 
(1,544
)
Proceeds from noncontrolling interests
10

 

Net cash provided by financing activities
417,874

 
334,542

Effect of exchange rate changes on cash, cash equivalents and restricted cash
(9,370
)
 
4,773

Net increase (decrease) in cash, cash equivalents and restricted cash
(388,049
)
 
889,506

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
$
5,254,727

 
$
5,176,019

 
 
 
 
Supplemental disclosures of cash flow information:
 
 
 
Cash paid during the period for
 
 
 
Interest
$
608,178

 
$
488,705

Income taxes, net
115,748

 
3,576

The following presents our cash, cash equivalents and restricted cash by category within the Consolidated Statements of Financial Condition (in thousands):
 
May 31, 2018
 
November 30, 2017
Cash and cash equivalents
$
4,579,931

 
$
5,164,492

Cash and securities segregated and on deposit for regulatory purposes with clearing and depository organizations
674,796

 
478,284

Total cash, cash equivalents and restricted cash
$
5,254,727

 
$
5,642,776

See accompanying notes to consolidated financial statements.

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

8

Table of Contents
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.

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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 $16,753.5 million and increasing Payments on short-term borrowings by $16,753.5 million for the six month periods ended May 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 six months ended May 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.


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

Note 3. Accounting Developments
Accounting Standards to be Adopted in Future Periods
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 2019. 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 and early adoption is permitted. 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. 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. This guidance change for leases where we are the lessee will require modifications to our current lease accounting systems and the determination of 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 plan on adopting the guidance as of our first quarter of fiscal 2019 and are currently evaluating the impact of the new guidance on our consolidated financial statements.
Adopted Accounting Standards
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 $61.2 million in Net cash used for operating activities for the six months ended May 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.

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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.
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.

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There was no significant impact as a result of applying the new revenue standard to our consolidated financial statements for the three and six months ended May 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 May 31, 2018
 
Six Months Ended May 31, 2018
 
As Reported
 
ASC 606 Impact
 
Adjusted (1)
 
As Reported
 
ASC 606 Impact
 
Adjusted (1)
Revenues:
 
 
 
 
 
 
 
 
 
 
 
Investment banking
$
500,297

 
$
32,342

 
$
467,955

 
$
940,288

 
$
64,827

 
$
875,461

Total revenues
1,156,809

 
32,342

 
1,124,467

 
2,243,404

 
64,827

 
2,178,577

Net revenues
822,557

 
32,342

 
790,215

 
1,643,803

 
64,827

 
1,578,976

Non-interest expenses:
 
 
 
 
 
 
 
 
 
 
 
Underwriting costs
13,029

 
13,029

 

 
27,304

 
27,304

 

Technology and communications
76,381

 
111

 
76,270

 
145,458

 
214

 
145,244

Business development
42,393

 
17,998

 
24,395

 
84,500

 
35,241

 
49,259

Professional services
35,991

 
856

 
35,135

 
66,399

 
1,567

 
64,832

Other expenses
17,567

 
348

 
17,219

 
36,165

 
501

 
35,664

Total non-compensation expenses
256,598

 
32,342

 
224,256

 
499,473

 
64,827

 
434,646

Total non-interest expenses
700,692

 
32,342

 
668,350

 
1,399,200

 
64,827

 
1,334,373

(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.

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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 $333.2 million and $215.4 million at May 31, 2018 and November 30, 2017, respectively, by level within the fair value hierarchy (in thousands):
 
May 31, 2018
 
Level 1
 
Level 2
 
Level 3
 
Counterparty and
Cash Collateral
Netting (1)
 
Total
Assets:
 
 
 
 
 
 
 
 
 
Financial instruments owned:
 
 
 
 
 
 
 
 
 
Corporate equity securities
$
1,567,962

 
$
70,011

 
$
42,901

 
$

 
$
1,680,874

Corporate debt securities
821

 
2,710,178

 
28,066

 

 
2,739,065

Collateralized debt obligations and collateralized loan obligations

 
82,399

 
30,603

 

 
113,002

U.S. government and federal agency securities
1,971,180

 
40,450

 

 

 
2,011,630

Municipal securities

 
827,478

 

 

 
827,478

Sovereign obligations
1,332,770

 
1,129,682

 

 

 
2,462,452

Residential mortgage-backed securities

 
2,037,431

 
3,655

 

 
2,041,086

Commercial mortgage-backed securities

 
941,432

 
27,239

 

 
968,671

Other asset-backed securities

 
281,821

 
55,535

 

 
337,356

Loans and other receivables

 
1,771,853

 
64,036

 

 
1,835,889

Derivatives (2)
10,298

 
3,354,899

 
5,743

 
(3,095,476
)
 
275,464

Investments at fair value

 

 
79,488

 

 
79,488

Total financial instruments owned, excluding Investments at fair value based on NAV
$
4,883,031

 
$
13,247,634

 
$
337,266

 
$
(3,095,476
)
 
$
15,372,455

 
 
 
 
 
 
 
 
 
 
Liabilities:
 
 
 
 
 
 
 
 
 
Financial instruments sold, not yet purchased:
 
 
 
 
 
 
 
 
 
Corporate equity securities
$
1,412,707

 
$
4,313

 
$
87

 
$

 
$
1,417,107

Corporate debt securities

 
1,627,990

 
522

 

 
1,628,512

U.S. government and federal agency securities
1,704,473

 

 

 

 
1,704,473

Sovereign obligations
1,518,030

 
1,079,417

 

 

 
2,597,447

Loans

 
1,106,907

 
12,881

 

 
1,119,788

Derivatives
10,818

 
3,657,065

 
11,617

 
(3,231,934
)
 
447,566

Total financial instruments sold, not yet purchased
$
4,646,028

 
$
7,475,692

 
$
25,107

 
$
(3,231,934
)
 
$
8,914,893

Short-term borrowings
$

 
$
68,818

 
$

 
$

 
$
68,818

Long-term debt
$

 
$
547,630

 
$
160,626

 
$

 
$
708,256

(1)
Represents counterparty and cash collateral netting across the levels of the fair value hierarchy for positions with the same counterparty.
(2)
During the six months ended May 31, 2018, we transferred from Level 1 to Level 2 $20.8 million of listed options included in Financial instruments owned—Derivatives, which are measured based on broker quotes or mid-market valuations. There were no other material transfers of our financial assets and liabilities between Level 1 and Level 2 for the three and six months ended May 31, 2018 and 2017.

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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.

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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 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 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.

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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. To the extent external price quotations are not available or recent transactions have not been observed, valuation techniques incorporating interest rate yield curves and country spreads for bonds of similar issuers, seniority and maturity are used to determine fair value of sovereign bonds or obligations. Sovereign government obligations are classified in Level 1 or Level 2 of the fair value hierarchy, primarily based on the country of issuance.
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 securities and are generally measured using market price quotations from external pricing services and categorized within Level 2 of the fair value hierarchy.
Agency Residential Interest-Only and Inverse Interest-Only Securities: The fair value is estimated using expected future cash flow techniques that incorporate prepayment models and other prepayment assumptions to amortize the underlying mortgage loan collateral. 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 weighted average coupon, loan-to-value, credit scores, geographic location, maximum and average loan size, originator, servicer and weighted average loan age. Agency Residential Interest-Only and Inverse Interest-Only Securities are categorized within Level 2 of the fair value hierarchy. We also use vendor data in developing our assumptions, as appropriate.
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 and prices observed from recently executed market transactions and are categorized within Level 2 and Level 3 of the fair value hierarchy.
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 and Level 3 of the fair value hierarchy. Valuations are primarily determined using pricing data obtained from external pricing services and broker quotes and prices observed from recently executed market transactions.
Loans and Other Receivables
Corporate Loans: Corporate loans categorized within Level 2 of the fair value hierarchy are measured based on market price quotations where market price quotations from external pricing services 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 flow incorporating assumptions regarding creditor default and recovery rates and consideration of the issuer’s capital structure.

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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 trade activity 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. 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.
OTC options include OTC equity, foreign exchange, interest rate and commodity options measured using various valuation models, such as the 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.

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(Unaudited)

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):
 
May 31, 2018
 
Fair Value (1)
 
Unfunded
Commitments
 
Redemption Frequency
(if currently eligible)
Equity Long/Short Hedge Funds (2)
$
35,559

 
$

 
Monthly, Quarterly
Fixed Income and High Yield Hedge Funds (3)
342

 

 
Fund of Funds (4)
176

 

 
Equity Funds (5)
35,991

 
20,696

 
Multi-asset Funds (6)
261,134

 

 
Total
$
333,202

 
$
20,696

 
 
 
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 (6)
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 both May 31, 2018 and November 30, 2017, approximately 1% of the fair value of investments in this category are classified as being in liquidation.
(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 May 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 multi-asset securities in domestic and international markets in both the public and private sectors. At May 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.

19

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

Other Secured Financings
Other secured financings that are accounted for at fair value include notes issued by consolidated VIEs, which are classified as Level 2 or Level 3 within 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 as Level 2 within 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 as Level 3.
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 May 31, 2018 (in thousands):
 
Three Months Ended May 31, 2018
 
Balance at
February 28, 2018
 
Total gains/losses (realized and unrealized) (1)
 
Purchases
 
Sales
 
Settlements
 
Issuances
 
Net transfers into/
 (out of) Level 3
 
Balance at
May 31, 2018
 
Change in
unrealized gains/
(losses) relating
to instruments
still held at
May 31, 2018 (1)
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Financial instruments owned:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Corporate equity securities
$
35,412

 
$
1,322

 
$
1,485

 
$
(75
)
 
$
(110
)
 
$

 
$
4,867

 
$
42,901

 
$
1,612

Corporate debt securities
26,103

 
923

 
17,058

 
(13,481
)
 

 

 
(2,537
)
 
28,066

 
543

CDOs and CLOs
26,433

 
(2,350
)
 
251

 
(1,905
)
 
(431
)
 

 
8,605

 
30,603

 
(2,422
)
RMBS
21,762

 
(5,416
)
 
112

 
(13,113
)
 
(35
)
 

 
345

 
3,655

 
423

CMBS
15,103

 
(2,213
)
 

 

 
(1,924
)
 

 
16,273

 
27,239

 
(2,706
)
Other ABS
51,288

 
(4,001
)
 
59,057

 
(62,905
)
 
(3,846
)
 

 
15,942

 
55,535

 
(2,670
)
Loans and other receivables
62,043

 
(6,051
)
 
19,029

 
(16,237
)
 
(1,940
)
 

 
7,192

 
64,036

 
(5,185
)
Investments at fair value
79,879

 
(82
)
 
2,001

 
(2,310
)
 

 

 

 
79,488

 
(82
)
Liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Financial instruments sold, not yet purchased:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Corporate equity securities
$
61

 
$
26

 
$

 
$

 
$

 
$

 
$

 
$
87

 
$
(26
)
Corporate debt securities
522

 

 

 

 

 

 

 
522

 

CMBS
35

 
(35
)
 

 

 

 

 

 

 

Loans
10,323

 
(3,416
)
 
(10,543
)
 
8,685

 
(29
)
 

 
7,861

 
12,881

 
3,231

Net derivatives (2)
6,882

 
(1,580
)
 

 

 
569

 

 
3

 
5,874

 
(115
)
Long-term debt

 
(20,838
)
 

 

 

 
23,362

 
158,102

 
160,626

 
20,838

(1)
Realized and unrealized gains/losses are reported in Principal transaction revenues in our Consolidated Statements of Earnings.
(2)
Net derivatives represent Financial instruments owned—Derivatives and Financial instruments sold, not yet purchased—Derivatives.

20

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

Analysis of Level 3 Assets and Liabilities for the Three Months Ended May 31, 2018
During the three months ended May 31, 2018, transfers of assets of $78.7 million from Level 2 to Level 3 of the fair value hierarchy are primarily attributed to:
CDOs and CLOs of $20.3 million, CMBS of $17.1 million, loans and other receivables of $16.4 million and other ABS of $15.9 million due to reduced pricing transparency.
During the three months ended May 31, 2018, transfers of assets of $28.0 million from Level 3 to Level 2 are primarily attributed to:
CDOs and CLOs of $11.7 million and loans and other receivables of $9.2 million due to greater pricing transparency supporting classification into Level 2.
During the three months ended May 31, 2018, there were transfers of long-term debt of $158.1 million from Level 2 to Level 3 due to a decrease in market observability.
Net losses on Level 3 assets were $17.9 million and net gains on Level 3 liabilities were $25.8 million for the three months ended May 31, 2018. Net losses on Level 3 assets were primarily due to decreased market values across certain loans and other receivables, RMBS and other ABS. Net gains on Level 3 liabilities were primarily due to decreased valuations of certain long-term debt.
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 six months ended May 31, 2018 (in thousands):
 
Six Months Ended May 31, 2018
 
Balance at November 30, 2017
 
Total gains/losses (realized and unrealized) (1)
 
Purchases
 
Sales
 
Settlements
 
Issuances
 
Net transfers into/
 (out of) Level 3
 
Balance at May 31, 2018
 
Change in
unrealized gains/
(losses) relating
to instruments
still held at
May 31, 2018 (1)
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Financial instruments owned:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Corporate equity securities
$
22,009

 
$
13,343

 
$
5,383

 
$
(520
)
 
$
(1,779
)
 
$

 
$
4,465

 
$
42,901

 
$
12,710

Corporate debt securities
26,036

 
434

 
19,304

 
(15,704
)
 
(2,049
)
 

 
45

 
28,066

 
(1,048
)
CDOs and CLOs
30,004

 
(2,961
)
 
568

 
(2,374
)
 
(3,765
)
 

 
9,131

 
30,603

 
(5,375
)
RMBS
26,077

 
(4,193
)
 
112

 
(10,959
)
 
(88
)
 

 
(7,294
)
 
3,655

 
419

CMBS
12,419

 
(2,292
)
 
1,208

 
(487
)
 
(3,209
)
 

 
19,600

 
27,239

 
(3,176
)
Other ABS
61,129

 
(5,476
)
 
132,291

 
(124,787
)
 
(7,622
)
 

 

 
55,535

 
(2,498
)
Loans and other receivables
47,304

 
(201
)
 
46,682

 
(25,456
)
 
(11,648
)
 

 
7,355

 
64,036

 
(1,756
)
Investments at fair value
93,454

 
418

 
2,240

 
(17,570
)
 

 

 
946

 
79,488

 
(176
)
Liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Financial instruments sold, not yet purchased:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Corporate equity securities
$
48

 
$
39

 
$

 
$

 
$

 
$

 
$

 
$
87

 
$
(39
)
Corporate debt securities
522

 

 

 

 

 

 

 
522

 

CMBS
105

 
(105
)
 

 

 

 

 

 

 

Loans
3,486

 
1,226

 
(5,100
)
 
12,092

 

 

 
1,177

 
12,881

 
106

Net derivatives (2)
6,746

 
(668
)
 
(6
)
 

 
(494
)
 
296

 

 
5,874

 
535

Long-term debt

 
(28,082
)
 

 

 

 
81,284

 
107,424

 
160,626

 
20,082

(1)
Realized and unrealized gains/losses are reported in Principal transaction revenues in our Consolidated Statements of Earnings.
(2)
Net derivatives represent Financial instruments owned—Derivatives and Financial instruments sold, not yet purchased—Derivatives.

21

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

Analysis of Level 3 Assets and Liabilities for the Six Months Ended May 31, 2018
During the six months ended May 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 $19.7 million and CDOs and CLOs of $12.7 million due to reduced pricing transparency.
During the six months ended May 31, 2018, transfers of assets of $14.9 million from Level 3 to Level 2 are primarily attributed to:
RMBS of $9.0 million due to greater pricing transparency supporting classification into Level 2.
During the six months ended May 31, 2018, there were transfers of long-term debt of $107.4 million from Level 2 to Level 3 due to a decrease in market observability.
Net losses on Level 3 assets were $0.9 million and net gains on Level 3 liabilities were $27.6 million for the six months ended May 31, 2018. Net losses on Level 3 assets were primarily due to decreased market values across other ABS, RMBS, CDOs and CLOs and CMBS, partially offset by increased market values across corporate equity securities. Net gains on Level 3 liabilities were primarily due to decreased valuations of certain long-term debt.
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 May 31, 2017 (in thousands):
 
Three Months Ended May 31, 2017
 
Balance at
February 28, 2017
 
Total gains/losses (realized and unrealized) (1)
 
Purchases
 
Sales
 
Settlements
 
Issuances
 
Net transfers into/
(out of) Level 3
 
Balance at May 31, 2017
 
Change in
unrealized gains/
(losses) relating
to instruments
still held at
May 31, 2017 (1)
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Financial instruments owned:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Corporate equity securities
$
20,580

 
$
(1,198
)
 
$
490

 
$
(1,263
)
 
$
(281
)
 
$

 
$
2,220

 
$
20,548

 
$
(1,428
)
Corporate debt securities
33,467

 
(1,420
)
 
8,789

 
(9,181
)
 
(6,986
)
 

 
58

 
24,727

 
(1,983
)
CDOs and CLOs
45,354

 
(2,721
)
 
16,334

 
(33,546
)
 

 

 
1,834

 
27,255

 
(131
)
Municipal securities
26,554

 
(70
)
 

 
(26,484
)
 

 

 

 

 

RMBS
39,259

 
(2,188
)
 
3,176

 
(6,636
)
 
(4
)
 

 
(575
)
 
33,032

 
(1,024
)
CMBS
20,653

 
98

 
534

 
(4,111
)
 
(1
)
 

 
(910
)
 
16,263

 
(546
)
Other ABS
37,702

 
(3,663
)
 
13,476

 

 
(2,241
)
 

 
(1,925
)
 
43,349

 
(3,642
)
Loans and other receivables
53,172

 
3,226

 
20,054

 
(19,378
)
 
(7,181
)
 

 
(528
)
 
49,365

 
1,687

Investments at fair value
83,785

 
5,194

 
300

 

 
(273
)
 

 

 
89,006

 
5,194

Liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Financial instruments sold, not yet purchased:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Corporate equity securities
$
324