Newmark Group Inc

NASDAQ:NMRK

Earnings Call Transcript 2017-Q4

[Operator]

Good morning. My name is Carol, and I will be your conference operator today. At this time, I would like to welcome everyone to the conference call. [Operator Instructions]

I'll now turn the call over to Jason McGruder, Head of Investor Relations. Sir, you may now begin.

[Jason McGruder, executive]

Good morning, again. Our fourth quarter full year 2017 financial results press release and our presentation summarizing these results were both issued this morning. These can be found at both ir.bgcpartners.com and ir.ngkf.com. Unless otherwise stated, the results provided in today's call compare only for the fourth quarter and the full year 2017 to the year earlier period. We will also be referring to results on -- from only on an adjusted earning basis unless otherwise stated. We may also refer to adjusted EBITDA. Please see today's press release for results under generally accepted accounting principles or GAAP. Please also see the sections of today's press release for complete definition of any non-GAAP terms, reconciliation of these items with the corresponding GAAP results and how, when and why management uses them.

I also remind you that information on this call regarding our business that is not historical facts or forward-looking statements within the meaning of Section 27A of Securities Act as 1933 as amended and Section 21E of Securities Exchange Act 1934 as amended. Such statements involve risks and uncertainties. Except as required by law, Newmark undertakes no obligation to update any forward-looking statement. For a discussion of additional risks and uncertainties, which could cause the actual results to differ from those contained in the forward-looking statements, see Newmark's Securities and Exchange Commission filing, including but not limited to the risk factors set forth in our most recent prospectus and any updates of such risk factors in the subsequent Form 10-K, 10-Q or 8-K filings.

I'm happy to turn the call over to your host, Howard Lutnick, Chairman of Newmark Group, Inc.

[Howard Lutnick, executive]

Thank you, Jason. Good morning, everyone. And thank you for joining us for Newmark's Inaugural Earnings Call. We are excited to discuss our fourth quarter and full year 2017 results and our strong growth expectations for 2018. With me today are Newmark's CEO, Barry Gosin; our Chief Operating Officer, Jim Ficarro; and our Chief Financial Officer, Mike Rispoli.

Newmark had a great quarter and a great 2017, generating over 18% growth in overall revenues for both periods. We also generated strong full year growth in pre-tax adjusted earnings and adjusted EBITDA, with both increasing more than 70%. Given these results and our expectations for strong growth in full year 2018, the company's Board of Directors expects to institute a quarterly dividend to common shareholders based on up to 25% of our annualized adjusted earnings per share starting next quarter.

So with that, I'm going turn the call over to Barry.

[Barry Gosin, executive]

Thanks, Howard, and good morning. I'm excited to be here at our very first earnings call. The last 6 years with Howard have been the most exciting of my career. We've been able to grow Newmark at an annual rate, with 38% over this period. At the same time, we've been able to establish ourselves as the leading innovator in the commercial real estate services business. Our growth levels and our investment in technology has given us a significant advantage over our peer group. I'm excited to be part of what Newmark is creating.

Now turning to our business, a strong performance, includes double-digit top line revenue increases from leasing, servicing fees and global corporate services. In addition, our 90% increase in capital markets revenues for the year was driven by our 24% increase in investment sales volume and an 85% increase in mortgage brokerage value. The strong growth in capital markets revenue actually accelerated in the fourth quarter as our fourth quarter revenues for these businesses were up by 26%.

I credit part of this acceleration of our growth to the integration and cross-selling of our capital markets platform. More than 80% of Newmark's revenue growth for the quarter and the year was organic, driven by a 16% year-on-year increase in average revenue per broker for the quarter and 14% improvement for the year.

Berkeley Point's GSE and FHA multifamily loan originations were up 16% in notional terms year-on-year in 2017. We expect the combination of Berkeley Point's top 5 multifamily agency lender with ARA's top 2 multifamily investment sales business to create significant revenue and earnings growth across our platform. We expect Berkeley Point's loan origination to increase by at least 25% for the full year in 2018. The timing of these loan originations can often vary from quarter-to-quarter, which makes full year comparisons more meaningful.

I am very proud of all that our partners and employees have achieved in 2017. We believe we are well-positioned to continue to increase profitability, acquire accretively, increase cross-selling and fully integrate our capital markets, mortgage banking and mortgage brokerage service lines.

We are confident in our ability to grow faster than our peers.

With that, I'm happy to turn it over to Mike.

[Michael Rispoli, executive]

Thanks, Barry, and good morning, everybody. Newmark's generated consolidated revenues for the fourth quarter of $460.6 million, an increase of 18.8%. Full year revenues increased by 18.3% to $1,596,500,000.

Moving on to our expenses. A majority of our compensation expenses are variable in nature and directly tied to revenue. Our quarterly compensation expenses increased 23.4% to $282.2 million, while noncompensation expenses increased 1.4% to $92 million. For the full year, compensation expenses increased 18.3%. Our compensation ratio for the full year was unchanged at 61.6%. Noncompensation expenses were $370.5 million compared to $336.8 million. For the year, our noncompensation ratio improved by 174 basis points to 23.2%.

Turning now to our earnings. Our pretax earnings for the quarter were up by 23.2% to $85.2 million, while our pretax margin increased approximately 70 basis points to 18.5%.

Post-tax quarterly earnings also increased 23.2% to $69.2 million. Our post-tax earnings margin increased approximately 50 basis points to 15%. Our fourth quarter post-tax earnings per share increased 15.4% to $0.30.

For the full year, our pre-tax earnings were up by 74.3% to $322.8 million, and our pre-tax margin expanded by 650 basis points to 20.2%.

Excluding the $76 million of income related to the NASDAQ payment, our full year pre-tax earnings would have increased by approximately 33% and our margin had expanded by over 180 basis points to 15.5%.

Newmark's full year post-tax earnings were up by 74.3% to $264.1 million, while our post-tax earnings per share grew by 66.7% to $1.15.

Newmark's non-GAAP fully diluted weighted average share count for the quarter and year was 233.4 million and 229.8 million shares, respectively. The GAAP share count for the quarter in a year was lower than that for adjusted earnings because GAAP excludes certain share equivalents in order to avoid antidilution and due to the timing of the separation in the IPO.

Moving on to the balance sheet. As of quarter end, our cash and cash equivalents were $121 million, while our long-term debt was $1,083,200,000. It is important to note that the company's balance sheet does not reflect the expected receipt of approximately $746 million worth of additional NASDAQ stock over the next 10 years as these shares are contingent upon NASDAQ generating $25 million in gross revenues annually. To put the $25 million contingency in context, NASDAQ generated gross revenues of approximately $4 billion in 2017.

Now I want to take a moment to comment on the new tax and accounting rules that impact our GAAP results. As we detailed in Newmark's press release today, our GAAP provision for income taxes included a onetime charge of $64.7 million to reflect the remeasurement of the company's deferred tax assets related to the recently enacted U.S. tax law.

I also want to discuss the expected impact of the new revenue recognition rules, known as ASC 606. Because we adopted the modified retrospective approach to ASC 606, Newmark will not record certain revenues or earnings related to leasing and other commissions that we otherwise would have. These changes relate to cash received for contingent revenue as of December 31, 2017, in relation to contracts signed prior to January 1, 2018, and for which services have already been completed. Instead, we will record this contingent revenue in related commission payments on the balance sheet in the first quarter of 2018 with a corresponding increase of approximately $24 million to retained earnings.

We also expect the adoption of this new standard to increase revenue and expenses related to our outsourcing business each by approximately $100 million in 2018.

With that, I'm happy to turn the call back over to Barry.

[Barry Gosin, executive]

Thank you, Mike. Our outlook for the full year 2018 compared with last year is as follows. In 2018, we expect to generate revenues between $1.9 billion and $2.05 billion, or an increase of 19% to 28%, compared with approximately $1.6 billion last year.

We anticipate our 2018 tax rate for adjusted earnings to be in the range of 12% to 14% versus 18%. We expect our 2018 earnings per share to be between $1.40 and $1.60 as compared to $1.15 last year, an increase of 22% to 39%.

We expect to update our annual guidance throughout the year. Operator, we would like to open the call for questions, please.

[Operator]

[Operator Instructions] Our first question this morning comes from David Ridley-Lane from Bank of America Merrill Lynch.

[David Ridley-Lane, analyst]

Could you talk about the early results from cross-selling mortgage origination into your capital market clients? I don't know if you have the stats, but for example, what portion of the $1.5 billion in mortgage origination volume came from investments sales clients and how that would compare to the year-ago quarter?

[Barry Gosin, executive]

Well, we -- since we've owned Berkeley Point for 3 months, it's really hard to tell exactly what these synergies are at this moment. But we're very comfortable in -- for the whole year that we'll be up 25%, and we'll have a significant uptick in ARA delivery of mortgage origination.

[David Ridley-Lane, analyst]

Maybe another way of saying that is, what's your implicit assumption for sort of the markets in mortgage origination where you operate?

[Barry Gosin, executive]

Well, so it's been -- it's probably looking like 10% at the moment. And then we expect it to grow significantly during the year.

[Howard Lutnick, executive]

I think the market, overall, is looking for a single-digit growth in these loan originations. So we expect the combination of our 2 businesses to improve our market positions.

[David Ridley-Lane, analyst]

Great. And then what are your targets for broker hiring in 2018? And where did you, in the year, up in terms of broker headcount?

[Howard Lutnick, executive]

I don't think we shoot for a notional numbers of broker headcount. We focus on average revenue per producer. And therefore, we're often substantially hiring and then we often take out numbers at the bottom so our average revenue improves, but our -- and our returns improve. But our headcounts doesn't always improve. When we acquire companies, you'll see a jump in our headcount and then we'll go back to our process of hiring the top quartile and reducing our size in the bottom quartile. So I mean, that's the model of business on how you drive deep profits in a services and brokerage business. And that's so acquisitions increase the scale of headcount. And then hiring keeps -- generally keeps headcount relatively stable but improves average revenue per head and improves profitability.

[David Ridley-Lane, analyst]

Okay. And last one for me. I know that you've been doing fair bit of hiring in the appraisal and valuation side of the business. Are the recently hired professionals ramping in line with your expectations?

[Barry Gosin, executive]

Yes, they are. And we continue to hire. We continue to look at acquisitions, and they're ramping up pretty well.

[Operator]

Our next question comes from Pete Christiansen from Citi.

[Peter Christiansen, analyst]

Barry, I was wondering -- or Howard, I was wondering if -- the recent interest rate volatility, have you seen that impact, I guess, either the productivity or even getting some of the -- getting some deals done, whether it be on the capital markets side or on the origination side? And maybe it might be helpful to talk about some of your experiences through some volatile interest rate cycles of the past and give us a sense of maybe how Newmark could prevail through it. Or what are some puts and takes that we may encounter should volatility increase?

[Barry Gosin, executive]

So we continue to increase our market share, and our investment sales continues to increase. We haven't seen much change on the basis of the uptick in interest rates at this point. There in the multifamily space, the metrics are all working towards multifamily. People are getting married later, they're buying homes less, they're building more, multifamily, so we think there's a really good runway in that. There's still a real strong interest in buying institutional assets. Institutional investors are coming in the market for long-term investments, they're not thinking short term, so they're still investing. There may be not as many of them, but they're still hitting the numbers and the cap rates. And we're still pretty bullish on the direction of that market and the runway.

[Peter Christiansen, analyst]

And then, now that we're past tax reform, and I'm sure a lot of people are still figuring out things. But is there any sense that this will help any segments of the market in terms of transaction activity?

[Barry Gosin, executive]

Well, the companies that earn more money, they're going to expand more. That's been the experience, that people seem to be investing -- interested in investing capital, the technology business in terms of hiring talent and looking for locations going through the roof. The financial institutions have done pretty well. They've taken a lot of space throughout the U.S. Companies are always doing things in the leasing business. In good times and bad times, they consolidate. They're looking to save money. We benefit in the trading environment, where people are looking for higher margins and earnings. It creates activity.

[Peter Christiansen, analyst]

And then last one from me. Also back on tax reform and how it affects Newmark's bottom line. Does this change your calculus in terms of what type of deals you're looking to do M&A-wise, perhaps even the time line and how you like to execute some of your M&A strategies?

[Barry Gosin, executive]

We look for great companies and extremely talented professionals. That's what drives our acquisitions and drives our strategy in hiring. That's been a good model for us. That will continue. And that is aligned with increasing our revenue per producer, and we see a pretty big pipeline of opportunity in that area.

[Operator]

[Operator Instructions] Our next question is from Jade Rahmani from KBW.

[Jade Rahmani, analyst]

I just want to follow up on the interest rate outlook. Are you getting any feedback from your sales force or clients that there's increased concerns regarding higher interest rates? And how do you think higher interest rates are likely to impact the alliance since we are still in this very low-cap rate environment?

[Howard Lutnick, executive]

Our experience has been that the capital markets clients' view changes in the tenure of less than 50 basis points as primarily noise. And so therefore, I think they have reexamined the math of the cap rates and the buyers. We examine the math of cap rates every 50 basis points. So you might see that there are 2 more rate hikes by the Fed that would then get people to reexamine where cap rates should be trading. But inside of that...

[Barry Gosin, executive]

You also have a life cycle in terms of ownership. When certain types of buyers buy property years ago, they have -- it's -- they have to sell at some point. They need to monetize their assets. And then other players reallocate investment op. And so they're -- they want to get into a category. The categories change. They go from value-add to core to other, retail, to industrial, to medical. And so people with money look to find and seek opportunities in those, but the general nature of the industry, regardless, it creates activity for -- we see more activity now. Some people may see a couple of rate hikes and want to get sales under their belt.

[Jade Rahmani, analyst]

And for 2018, what do you think has better growth prospects for Newmark, the leasing business or capital markets?

[Michael Rispoli, executive]

We view that we're going to add talent, and we see all of our businesses growing. We also have hired significant talent over the last 12 to 18 months. And we'll continue to ramp up. So for us, we see growth in both of those businesses. We also see, as we said, our mortgage -- debt mortgage business is up 85% in terms of volume. And we think that's a big growth opportunity, 300 -- $40 billion of debt maturities in the next 12 months. So we'll continue to grow there as well.

[Jade Rahmani, analyst]

And just on Berkeley Point to give investors comfort for the growth prospects because, I think, the GSE lending caps were reduced by 4% and there's also curtailment on the green financing side, which accounted for about 30% of GSE volumes. As a result of Newmark's having acquired Berkeley Point, are there any changes to how mortgage brokers are compensated or how investment sales people on ARA are compensated to create a stronger incentive to refer business and cross-sell?

[Barry Gosin, executive]

Yes, literally each and every day, the head of Berkeley Point and the head of ARA are in a call and communicate. We're embedding all of our ARA offices with Berkeley originators, which will establish a certain amount -- level of comfort. We're hiring more originators, and we're hiring more ARA brokers. So as that continues to grow, our market share on the sales side grows and our markets share on the originators side grows. We certainly are incentivizing ARA brokers to bring originating opportunities to Berkeley Point.

[Jade Rahmani, analyst]

And just on the M&A side, could you comment on whether the pipeline is active? And if there's any potential deals in the works? I think one industry trade publication reported something. But in terms of how you would finance the deals, would you be paying for them with cash? Would you be issuing equity? Now how would you finance the transactions?

[Michael Rispoli, executive]

So as we've always completed our acquisitions in the past, we do with a combination of cash and equity. We don't see that changing. And we feel we have plenty capital to continue to grow the business and capitalize on the opportunities that are around the market.

[Operator]

Our next question comes from Jason Weaver from Wedbush Securities.

[Jason Weaver, analyst]

I want to follow on Jade's question there. I was wondering if you comment a little bit more on the M&A landscape and what specific businesses are most attractive to add in your pipeline.

[Barry Gosin, executive]

We, as a platform, continue to get more visibility and more recognition and more success. As we grow, we are a great platform for brokers who want to come to the fastest-growing, most innovative company in the business. So it gets easier and easier to hire brokers in every category of service line. And we're driven as much by things that we want businesses that we want to be bigger in as talent. This is a talent-driven business. When you hire talent, your business does well. It's the same with companies. Companies have to choose who they want to be partners with when they sell their business. We are a very attractive place for companies who's to sell their business. The many companies that we bought have done very well. And the owners who -- of those companies that have sold to us enjoy the relationship. Those 2 things are extremely important when a company has matured and is deciding who to sell to.

[Jason Weaver, analyst]

That makes sense. Maybe a little bit more on what's specific -- whether you want to add specifically in the capital markets business, whether it be that or adding into the growing mortgage brokerage.

[Barry Gosin, executive]

Yes to all.

[Jason Weaver, analyst]

Fair enough. And I remember that, prior to the IPO, some of the 2018 expectations you had set out at the beginning there were depended on bringing over some key strategic hires and lift-out teams in the Berkeley Point business as well as the valuation business. Can you comment on the status of integrating those folks and if there's any more sort of lift outs you're looking at right now?

[Barry Gosin, executive]

We expect a 25% growth in Berkeley Point. That's what our expectations are. It's a combination of integration and hiring.

[Operator]

Our next question comes from Alexander Goldfarb from Sandler O'Neill.

[Alexander Goldfarb, analyst]

Just a few questions for me. First, can you guys just go through, now that you're public, your timing and thoughts for -- on the balance sheet side, decoupling from BGCP on some of the loans and, possibly, renegotiating the terms of those that are probably more difficult to repay, renegotiated terms with the holders so that it's all 100% Newmark?

[Howard Lutnick, executive]

The board of BGC will make the decision as to when to spin off the company. That's in the board of BGC's hands. And they, at that time, will do all things necessary to separate the companies. But I don't have any more information for you on this call other than to remind you that it's up to the board, and that in the ordinary IPO process, they have agreed to not address that issue for at least 6 months, which is sort of ordinary in an IPO process.

[Alexander Goldfarb, analyst]

Barry (sic) [ Howard ], actually, I was referring -- but that's helpful, but I was actually referring on the balance sheet side, on the loans payable to related parties, et cetera. My understanding was that you guys had a fully -- for the tax-free spend, had to fully separate at some point time from BGC so Newmark had to have its own financing terms not associated with BGCP.

[Howard Lutnick, executive]

Yes, I think that's right. So to do this to spin, Newmark will have its own debt and just separate. So that would be a criteria, would be that Newmark would then go out and arrange its own debts and separate from its parent. That's the point.

[Alexander Goldfarb, analyst]

Okay, but you don't have a time line for that yet.

[Howard Lutnick, executive]

No.

[Alexander Goldfarb, analyst]

Okay. The next question is, on the REIT side, we hear a lot about building owners, whether it's office or apartment, et cetera, holding their assets longer, choosing to refinance instead of sell. But with that sort of backdrop, do you guys see the investment sales market impacted by owners just keeping their assets longer, refinancing, not having as much churn as we used to, or the real estate market is so diverse and that there continues to be a lot of opportunity and that your brokers as they seek investment sales aren't really seeing an impact from owners who decide to retain assets longer by either refinancing or because they end up in long-term [ refinance ]?

[Barry Gosin, executive]

Every time we talk to someone about a sale, we look at the entire capital stack, a mortgage broker, an investment sales broker, someone who raises equity. That decision is made in at all times. And the fact that we've integrated all those pieces so well, we get a look at every opportunity. So if -- the debt market is an enormous market that -- we grew 85%. That's a real opportunity for us. So we see it as a continuum and will -- if one declines a bit, the other will rise a bit.

[Alexander Goldfarb, analyst]

Okay and then finally, Barry. On the New York capital markets side. Are you guys thinking about increasing your exposure? I don't know if it's bringing in a big team, or is your view that there's already enough competition in the New York market, and you're better served through your investment sales in the rest of the country?

[Barry Gosin, executive]

I think about it every single day and probably every single hour. It is prominent on our mind, and we are working on it. We actually have a lot of sales in the market. And we're excited about our prospects in New York. We've built a team. We -- in multi-space in a variety of different locations, we actually have a significant amount of product in the market today.

[Operator]

Our next question comes from Patrick O'Shaughnessy from Raymond James.

[Patrick O'Shaughnessy, analyst]

First question. I know it's obviously still relatively recent, but has there been any change in the tone of your conversations with potential new talent? Does being a public company show any signs of attracting the talent that you want to Newmark?

[Barry Gosin, executive]

Well it's -- we're way more visible as our own entity. This is -- it was a great moment for us, not only our employees talking about being public, but brokers and professionals in other companies are talking about us being public. I think it's been a great, great boost for our brand.

[Patrick O'Shaughnessy, analyst]

Got it. And then a question about the fourth quarter. Do you think that there was any pull forward in capital markets revenues from the fourth quarter, people kind of making a big push to get deals done by the year-end? We've kind of heard that commentary from some of your competitors.

[Barry Gosin, executive]

I don't -- we're not -- we haven't heard much of the -- for fourth quarter push. So things are getting done in their own time frame based on the objectives of the client. And it wasn't like the complete tax law change of '86, where people were struggling to get things done before the change. There isn't much of that right now.

[Operator]

Our final question today comes from Jade Rahmani from KBW.

[Jade Rahmani, analyst]

I wanted to ask about the tax rate guidance. Are there any changes in the tax code pertaining to limitations on the deductibility of executive compensation above certain thresholds that will negatively impact the tax rate? And also were any grant conversions accelerated in anticipation of tax reform?

[Michael Rispoli, executive]

So just taking it in the order of your questions. In our -- 12% to 14%, we've obviously considered all the different aspects of the new tax law. So we're comfortable with our range, 12% to 14%. And in terms of our fourth quarter, you can see that we had a little bit of an increase in our exchange charges, where we did pull in some expenses into quarter to get the benefit of the higher deductions.

[Jade Rahmani, analyst]

And just turning to the guidance. Is there an adjusted EBITDA guidance that you've provided? Or do you expect a similar year-over-year growth rate in adjusted EBITDA as you would in adjusted EPS?

[Michael Rispoli, executive]

Yes, we have an -- we've provided the $1.40 to $1.60 EPS. The growth rate should be similar.

[Jade Rahmani, analyst]

And lastly, do you have the operating cash flow for the fourth quarter and full year 2017?

[Michael Rispoli, executive]

That'll be in the 10-K when it gets filed.

[Operator]

I'll turn the call back over to the presenters for any closing remarks.

[Howard Lutnick, executive]

Everyone, thank you for joining us today. And we look forward -- we appreciated our inaugural call. And we look forward to getting together with you next quarter. Thanks, everyone. Have a good day today.

[Operator]

This concludes today's conference. And you may now disconnect.