Moelis & Co

NYSE:MC

Earnings Call Transcript 2019-Q3

[Operator]

Good day and welcome to the Moelis & Company Third Quarter 2019 Earnings Conference Call and Webcast. All participants will be in listen-only mode. [Operator Instructions] Please note that this event is being recorded.

I would now like to turn the conference over to Ms. Michele Miyakawa, Head of Investor Relations. Please go ahead, ma’am.

[Michele Miyakawa, Head-Investor Relations]

Good afternoon, and thank you everyone for joining us for Moelis & Company’s third quarter 2019 financial results conference call. On the phone today are Ken Moelis, Chairman and CEO; and Joe Simon, Chief Financial Officer.

Before we begin, I would like to note that the remarks made on this call may contain certain forward-looking statements, including regarding future performance, which are subject to various risks and uncertainties, including those identified from time-to-time in the Risk Factors section of Moelis & Company’s filings with the SEC. Actual results could differ materially from those currently anticipated. The firm undertakes no obligation to update any forward-looking statements.

Our comments today include references to certain adjusted or non-GAAP financial measures. We believe these measures were presented together with comparable GAAP measures are useful to investors to compare our results across several periods and to better understand our operating results. The reconciliation of these adjusted financial measures with the relevant GAAP financial information and other information required by Reg G is provided in the firm’s earnings release, which can be found on our Investor Relations website at investors.moelis.com.

I’ll now turn the call over to Joe.

[Joe Simon, Chief Financial Officer]

Thanks, Michele, and good afternoon everyone. On today’s call, I’ll go through our financial results and then Ken will discuss our business further. We achieved a record third quarter, in which we earned $232 million of revenues, which was our second highest revenue quarter ever, and represented a 12% increase over the prior-year period.

Our performance compares favorably to the overall M&A market, in which the number of global M&A completions greater than $100 million was down 11% from the prior year quarter. We witnessed positive momentum across all products with our total average fee; specifically, our M&A average fee increasing uncompleted transactions as compared to the prior year. Restructuring had its largest quarter of activity since inception and Moelis was ranked number one in both global and U.S. restructuring completions by value and number of transactions in the third quarter.

Moving to expenses. Adjusted compensation expense was accrued at 58% in both the third quarter and year-to-date. Our non-comp ratio was 15% in the third quarter, down from 16% in the prior-year period. For the third quarter, we reported $35.7 million of non-comp expenses as a result of continued expense discipline.

As mentioned on last quarter’s call, we anticipate our non-compensation expenses to increase in the fourth quarter due to the build out and expansion of our New York City headquarters. The increased space is vital to support our future growth. We expect quarter four non-comp to be $38 million to $39 million.

Our underlying corporate tax rate remained at approximately 25%. As a reminder, our adjusted net income presentation reflects all of the firms’ income tax that are calculated effective corporate tax rate. We recognized an adjusted net gain of $5.4 million related to our sale of 12.5 million shares or 25% of our ownership in Moelis Australia. As previously announced, there was an additional 8 million share sale expected to occur in the fourth quarter. Assuming that this transaction is consummated, the adjusted net gain is expected to be a little more than $3 million pretax. Ultimately, there is expected to be no change to the strategic partnership and the collaboration between Moelis & Company and Moelis Australia as a result of this transaction.

Lastly, regarding capital allocation. The board authorized a dividend of $0.50 per share consistent with last quarter. In addition to our regular dividend distributions, we have repurchased over 1 million shares year-to-date and continue to be opportunistic in utilizing our share buyback program. We ended the quarter with a strong financial position with no debt and $162 million of cash and liquid investments.

And I’ll now turn the call over to Ken.

[Ken Moelis, Chairman and Chief Executive Officer]

Thanks, Joe. Good afternoon, everyone. As we stated on our last call, we expected our second half performance to be much stronger than the first half of the year and I’m pleased to report double-digit growth over a record Q3 last year. Our activity levels are strong and I’m confident about our business outlook going forward.

Our third quarter M&A activity was solid and we experienced a meaningful increase in the average transaction size and average fee earned per completed transaction. We earned greater revenue and achieves higher M&A average fees on both middle market transactions and deal values greater than $5 billion demonstrating the breadth and diversity of our platform.

Restructuring continues to be a growing and significant part of our business. It not only provides a countercyclical component into our platform, but more importantly allows us to increase our mind share and coverage with corporates and financial sponsors. Since our last earnings call, we announced the hiring of four Managing Directors to expand and enhance our client coverage in important sectors in regions. Two Managing Directors are based in the U.S. and will provide financial and strategic advice to fintech and specialty finance clients respectively.

The two other Managing Directors are based in Europe. One will expand our coverage of Continental Europe and the Benelux and Nordic regions, and the other will enhance our expertise in the technology, media and telecom sectors. All four of these individuals will join the firm during the fourth quarter. We remain focused on profitable organic growth and have a solid pipeline of both internal and external senior level talent to augment the 11 managing-director additions made year-to-date.

Overall, what excites me the most though was the opportunities we are seeing in helping companies around the globe. I continue to be amazed that despite market volatility, the C-suite and board rooms are focused on creating and maximizing value for their shareholders through strategic transactions. And that’s what we’re in the business of doing; delivering exceptional advice and helping our clients succeed in all sorts of markets.

With that, I’ll open it up for questions.

[Operator]

[Operator Instructions] And our first question will come from Ken Worthington of JPMorgan. Please go ahead.

[Ken Worthington, JPMorgan]

Hi, good afternoon. Maybe, first, MD hiring, you’ve hired a bunch of MDs in 3Q and 4Q so far, which feels a bit unusual giving the timing of annual bonuses. So maybe, it’s most benefiting from some of the dislocations seen at the other banks. And is the nature of available talent maybe, increasing a little bit. And then the MD level has only grown, I’d say modestly over the last 18 months and I know quality is far more important than quantity, but do you feel that there’s the talent and you have the capacity to boost MD growth that may be a faster pace looking forward than we’ve seen more recently.

[Ken Moelis, Chairman and Chief Executive Officer]

So, the answer to the last question was yes, I think this year, we’ve hired, but we look, we manage our headcount actively. We have somewhere starting the year – 130 MDs to start the year and we do actively manage it. I mean, we – that’s our job is to keep track of where we think we can – we are doing well and where we could do better. So that probably happened more this year. We continue to hire. I think going forward; we think we can continue to bring in a net eight to 10 new Managing Directors. The pipeline is good both from outside the firm and most important to me inside the firm. So, that – I’ve started with the second one.

The first question, I think you’re right. We are; it is a little later in the year. It’s interesting. I think some of the availability of talent is coming more out of the European mid-market banking system. And one of the benefits of that is they went a few years ago to a very high cash salary level. They pay a lot during the course of the year in salary. It actually gives you the ability to not feel so bad about hiring later in the year, because they’ve already received a lot of their compensation. It’s not all back-end. You’re not picking up 100% of the bonus. So again, we try to hire earlier in the year than this, but when you’re – when you’re hiring in the European banking sector, you can often hire later in the year and not be penalized as much.

[Ken Worthington, JPMorgan]

All right, awesome. And then just maybe secondly, as we think about 2020 what kind of feedback are you starting to get from your clients about the macro influences impacting M&A decision-making? So clearly, some things haven’t changed. You’ve got the technological disruption, but are you getting the sense that given some of the more extreme political views by some of the leading candidates that there might be either more elevated activity in the U.S. to get things done before elections close or maybe at the other end of the spectrum there’s more uncertainty and more of a preference to wait and see. And then going across upon to Brexit seems like we may be coming to a resolution at some point in the foreseeable future. To what extent, do you think there has been pent-up demand in either the UK or Continental Europe and that might come to market if we get some sort of resolution finally?

[Ken Moelis, Chairman and Chief Executive Officer]

So, in general, in the U.S., I think there’s a – I don’t think anybody’s holding back for election. And really, not for macro either, I said that at the end of my speech, because I think it is interesting how on the front foot everybody is and that’s not always M&A, but it is creating value, there’s a lot of talk about spin-offs, division sales, M&A, but the board room, the C-suite, everybody is really focused and engaged in creation of value. I think, so there’s – nobody’s holding back for election and I don’t believe anybody’s holding back on macro either. That might, that could change. I mean, we’re going to have a pretty interesting election over the next – what is it, a year, I guess now; I feel it close to inside of a year.

And look, I think as polling changes I could change, but for right now, no, it’s not happening. I mean, meaning that it’s not affecting anything. In Europe, I almost got the feeling, well, I did over in Europe a lot in the last two, three months, it’s almost like, especially in the UK, people are so bored of talking about Brexit. It’s like – I think there’s almost – it’s, I know you think the resolutions coming, I think in people’s mind is like, we’ve got to move forward. We cannot stay paralyzed by this forever. So, I think that if it ended, it would probably be helpful and maybe, there is pent-up demand, but at this point, I really believe people are sick and tired of talking about it and they’re sick and tired of putting off plans to create value even in Europe and people are trying to look past it.

[Ken Worthington, JPMorgan]

Awesome. Thank you so much.

[Operator]

Our next question will come from Richard Ramsden of Goldman Sachs. Please go ahead.

[Sal Saroni, Goldman Sachs]

Hi, this is Sal Saroni on for Richard Ramsden today. You reached a record quarter in restructuring in a largely benign economic environment. Where are you seeing the largest pockets of opportunity in restructuring today? And then also, can you comment on how your backlog is looking heading both into the end of the year and then also into 2020?

[Ken Moelis, Chairman and Chief Executive Officer]

Are you talking backlog just specifically restructuring or?

[Sal Saroni, Goldman Sachs]

Yes, that’s right.

[Ken Moelis, Chairman and Chief Executive Officer]

So, restructuring is fairly still idiosyncratic outside of some of the commodity sectors like oil and gas. I think that’s the one, where we see, that’s probably the sector that’s having still difficulties in a lot of restructuring about and we have a very good position in oil field services and they’re very affected by the downturn in the commodity. And then around, it’s really idiosyncratic after that if you have a lot of companies with significant leverage 1% or 2% of them get in trouble. We have the market leading restructuring group. We have kept our investment in them to – during very – what has been a pretty good economic environment with low defaults. We’ve invested in the group. We believe in the group. So, we’re taking market share, I believe.

In terms of their pipeline, I think we have a pretty good restructuring pipeline going forward. I think it continues to be at about the level that it has on a trailing basis, meaning elevated and doing well. So, those are very hard to predict when they hit though. You have – restructurings are almost harder to predict when they might hit success fees than they’re easier to know that they will get to a success fee, but the actual timing of those is sometimes even more difficult than M&A.

[Sal Saroni, Goldman Sachs]

Okay, great. Thank you. And then additionally, on your non-compensation expenses, they came in well below expectations in the 15% non-comp ratios one of the lowest levels that you’ve achieved so far. To what degree does this quarter indicate your ability to control cost inflation, or was this more a factor of some positive quarterly volatility? And then looking forward, how are you thinking about improving your non-comp ratio from the current levels that we see today?

[Joe Simon, Chief Financial Officer]

Yes. So, I’d say we’re focused on expense management in the ordinary course regardless of economic environment. I think that we think that we’ve ultimately gotten some leverage on costs. We look at our average quarterly cost per head this year on average is about $43,000 per quarter per head and that compares to last year is $47,000. So, I think even with the expansion of space that’s going to move to maybe, $44,000. We think, we’ve – we pay attention to it. We continue to make the right investments and I think, what I’ve described as fourth quarter and what you should expect is probably a pretty reasonable estimate.

[Sal Saroni, Goldman Sachs]

Okay. Thank you.

[Joe Simon, Chief Financial Officer]

Sure.

[Operator]

Our next question will come from Manan Gosalia of Morgan Stanley. Please go ahead.

[Manan Gosalia, Morgan Stanley]

Hi, good afternoon. So, you had mentioned earlier this year that some buyers were building a recession into their models, whereas sellers were not. Is there still a large bid-ask gap or are those coming closer now?

[Joe Simon, Chief Financial Officer]

I didn’t ask. So, I haven’t, I don’t have good information if and I was talking mostly about sponsors. So, I have to defer to that. I don’t know if we’re still seeing every model have a recession.

[Ken Moelis, Chairman and Chief Executive Officer]

I would guess. Yes. But I think what we’re seeing now recently is and again, I’ll go back to the fourth quarter of last year; we had a really volatile downturn in the market. We felt in the first and second quarters that sponsors weren’t putting their best assets up for sale. It was concerning what happened in the fourth quarter if processes take a long time, the market, if the Fed did the wrong things or China trade war went the wrong way, my guess is people were unsure that the market was sustainable and didn’t want to start what could be a six-month process into a market, in which valuations wouldn’t be good for their best assets.

Interestingly, we’ve come through all that; the fed, the trade war, S&Ps at all-time highs. It feels very resilient. The market feels to people resilient now and I think we’re starting to see sponsors put their best assets or thinking about putting their best assets in the market again. I think they feel comfortable. So, although there may still be recession cases in there, I think there’s a feeling that the valuation parameters are sustainable and solid here and we’re starting to see quality assets – quality private assets be put into the market.

[Sal Saroni, Goldman Sachs]

Got it. That’s helpful. And then secondly can you talk a little bit about I guess how the overall IPO environment impacts M&A. So, basically, the IPO exit strategy is becoming tough, or what do you think happens with sponsor of an M&A, do you think that helps, because then M&A is the other exit strategy left?

[Ken Moelis, Chairman and Chief Executive Officer]

I think people are using sponsors as an exit strategy more and more. I think it’s – you look at a lot of the IPOs and they are significantly companies that are in money-losing positions, not maybe for good reason, they’re building market share, but they need capital. And you see more and more private companies that are at its solid EBITDA thinking of monetizing and using the private market for liquidity. And I think that’s a trend that might go on for years as it’s so much more efficient. you get to trade your company for a control premium rather than for an IPO discount. As a former banker, I went public for paying a 7% commission to all of you on the phone was offensive. And so, I understand now, why they – why people no longer want to incur those kinds of fees and friction costs. And I think you’re going to see a continuing use of the sponsor and private markets as a way to create liquidity for companies they can do it.

[Sal Saroni, Goldman Sachs]

Okay. Good. Got it. Thank you. That’s helpful.

[Operator]

Our next question will come from Michael Brown with KBW. Please go ahead.

[Michael Brown, KBW]

Hi, good afternoon.

[Joe Simon, Chief Financial Officer]

Good afternoon.

[Michael Brown, KBW]

So, I guess first on the comp ratio, so, clearly, the revenues have been a little bit more episodic this year and I guess as a result, the comp ratio is kind of bounced around more than usual quarter-to-quarter. So, kind of based on where we’re at for the year, how should we think about really where the full-year comp ratio could end up?

[Ken Moelis, Chairman and Chief Executive Officer]

Well, look, we’ve got – we’ve been as disciplined as anybody on a full-year comp ratio and that’s our goal. But as you look at things, we also think that we have the best talent. We have an unbelievable opportunity to grow the business and that we will protect that. I mean, number one is we want to protect our talent, but we have been disciplined and we intend to continue to be disciplined in the context of making sure we can take advantage of what I think is going to be a unique opportunity to grow our talent base and I really – I’m excited about the talent we have under roof here and protecting that as the number one priority.

[Michael Brown, KBW]

Great. And then also as we get kind of closer to year-end, any updated thoughts on how you’re thinking about the capital return and kind of the mix between buybacks and the special dividend, and I guess where the special could be relative to where it was in the fourth quarter of last year?

[Ken Moelis, Chairman and Chief Executive Officer]

We focus on that with the board at the next board meeting? And look, we’ve been more active in – these prices were more active repurchasing shares. So, we’re going to look at it. I mean, it’s a different market today. We have a different valuating our shares trade differently than they did a year ago when we were doing specials and we’re going to make that decision coming up. But we’ve been more active in share repurchase and there are two phases. And the other thing we’re going to do, by the way, as we continue to want to leave the company 100% debt-free. So, even the build out we’re going to do in New York, we’re going to fund out a cash flow, which will be a use of our cash too.

So, we’re not – we thought about borrowing for that, but we like being debt-free. We think it’s a motivating force for talent to be here. And I think it also sends a message to our clients that we don’t need to. We don’t need to do deals. It’s very important to us that our advice be seen as best possible advice, not in context with any financial pressure.

[Michael Brown, KBW]

Great. Thank you for taking my questions.

[Operator]

Our next question will come from Devin Ryan with JMP Securities. Please go ahead.

[Devin Ryan, JMP Securities]

Great. Hey, Ken. Hey, Joe. Most have been asked. But I just want to come back a little bit to some of the commentary on the environment and just trying to kind of parse through on your total economy. It feels like what you’re saying is that the backdrop has actually been improving. and so, I just want to make sure I’m hearing that right whether that’s fair or if it’s more just a function of a little bit of a slower start to the year, where some things didn’t hit. And so we’re just getting back to maybe, where we were prior to the fourth quarter disruption or is there actually something maybe, happening here that’s more meaningful in terms of the acceleration in terms of what you’re seeing on dialogs whether it be with sponsors or strategics?

[Ken Moelis, Chairman and Chief Executive Officer]

Well, it was – you’re right about one thing, it was pretty easy to improve over our first half. So, it was a low bar to improve. it was a good quarter. I think things are improving. Look, the first quarter had some lumpiness to it for everyone. I think that the end of last year was not a wonderful time. It was very volatile and I think people change plans and there was some conservatism I think in companies as to how the first half of the year would play out. So, my feeling is we’re kind of back to where we were. I think the aberration of it, maybe, it’s a good way to say Devin is our – the first six months to me, feel like the aberration, I feel like we’re back in the kind of the place we were on run rate and feeling that we were sort of last year. and plus or minus we’ll see, again, I don’t – we don’t guide. I don’t want – and again, to look at us quarterly, I think is, it’s just not the way to look at one of these companies. I cannot control these quarters. it’s hard for me to even predict with full knowledge of what I’m looking at how these quarters come out. But I know we have great talent. We have a great market share, we have great conversations. And then my gut feeling is the underlying tone is better, is the best, is as good as I’ve seen it since maybe, a year ago.

[Devin Ryan, JMP Securities]

Yes, that’s very helpful. Thanks, Ken. And then just a follow-up on kind of the middle East footprint, you guys obviously have invested quite a bit there in both money and time, and it seems like maybe there’s some activity moving forward, some of the high profile business. And so, I’m just curious how you’re thinking about that region for Moelis whether it be your footprint relative to the opportunity addressed kind of more broadly.

[Ken Moelis, Chairman and Chief Executive Officer]

We’ve worked long and hard, it hasn’t been recently. It’s been really 10 years ago when we started. We started really with the restructuring and helping that Dubai 10 years ago. We’ve kept, we have great talent there. We maintain a very good presence there. It is a part of the world that I think respects commitment and a continuous commitment. They respect discretion and confidentiality. And I think we’ve got the best franchise in the middle East, bar none. And we intend to keep investing in, and I think we’re actually looking at opening an office in Saudi Arabia. So, we’re – we think it’s a growing part of the world and a place, where having all those attributes of loyalty, discretion, confidentiality and good advice pays off. So, we’re pretty happy with it.

[Devin Ryan, JMP Securities]

Yes. Great. Thank you.

[Operator]

And the next question will come from Jim Mitchell with Buckingham Research. Please go ahead.

[Jim Mitchell, Buckingham Research]

Hey, good afternoon. Just a couple of questions, maybe one on the buyback Ken, and I know you sort of – you’re leaning towards buybacks, but in the quarter, if I read it correctly, you only did about $2.5 million of buybacks out of $100 million or so you had it. The price was obviously – it was down quite a bit. If it wasn’t attractive in the third quarter, why wasn’t it? Is it a liquidity thing? Just trying to get a sense of why you weren’t a little more active in 3Q.

[Ken Moelis, Chairman and Chief Executive Officer]

The first six months weren’t exactly, liquidity providing, they weren’t excessive revenues. And then we had some liquidity in after the reporting period from the Australia sales. So, we got more liquidity. And so we’ve been active. We had a 10b5 program that’s done some. But look, I think we’re going to – we are going to be more active on it. I want you to know, I continue to believe, and I think I was reading a Charlie Munger quote that said, the key for us to succeed is to just not do anything too stupid. So, I’m not trying to do to be brilliant on this stuff. I think the key is to avoid being stupid. And to me, that means maintaining a liquidity, being careful and being in a position to take care of times when other people might do something stupid.

And so that’s a real goal, I’ve seen it. this is a long – the market feels really good to me, but things happen after 10-year expansions and I want to be ready for those possibilities that give us the ability to really step function grow the firm. We did that in 2008, 2009, and 2010. And I think there’ll be a moment and I don’t want it to be the moment I don’t have liquidity. So, that’s a long answer to where we’re just being careful.

[Jim Mitchell, Buckingham Research]

Yes. That’s all fair. And maybe, on the restructuring side, you guys have obviously done very well with M&A down restructuring, seemingly up. Can you kind of update, you’ve kind of talked about somewhere around 20% of revenues. Is it running materially higher than that this year? How do you see that sort of evening out over time?

[Ken Moelis, Chairman and Chief Executive Officer]

It’s definitely north of there? But look, there’s chunky stuff that comes in. We had a couple of – so, I’d say it’s running north of 20, but don’t overdo quarters. Things happen. Deals happen in chunks and I just say it’s running north of 20. And yes, and it might still, I again, I’m not predicting that, but as of now it’s running slightly north of 20%.

[Jim Mitchell, Buckingham Research]

All right, well thanks. And maybe, one for you, Joe, just on the non-comps kind of a step-up this in the fourth quarter, how do – is that because of the investment in the New York office, is it going to stay at that level and move higher from there? Is that the jumping off point for next year, which would push the growth rate higher in non-comps or is that not the way to think about it?

[Joe Simon, Chief Financial Officer]

Well, it’s certainly a starting point. I think it’s always going to be a founded on headcount. That’s the principle basis. But ultimately, yes, the new space and some of the process that we have to go through and the build out, that’s all taken in into account in that new run rate.

[Jim Mitchell, Buckingham Research]

Okay. Thanks for taking my questions.

[Operator]

We have a follow-up question from Richard Ramsden of Goldman Sachs. Please go ahead.

[Richard Ramsden, Goldman Sachs]

Hi. Just a quick accounting question from us, was there really any material pull forward of the revenues book this quarter? I just want to make sure that we’re seeing the data correct relative to the backlogs.

[Joe Simon, Chief Financial Officer]

Yes. I mean, again, the quarters are now comparable since the new accounting came into effect. So, we’re really comparing the same 90 days. But I think if you’re asking what happened in the first couple of days of October, I think it was a few deals and it may have added up to around $15 million.

[Richard Ramsden, Goldman Sachs]

Okay. Thank you, again.

[Operator]

this concludes our question-and-answer session. I would like to turn the conference back over to mr. Kenneth Moelis for any closing remarks. Please go ahead.

[Ken Moelis, Chairman and Chief Executive Officer]

Thank you for your time this afternoon. We appreciate it and we look forward to speaking to you soon. Thank you.

[Operator]

The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.