Q3 2022 Moelis & Co Earnings Call
Good afternoon, and welcome to the Modus <unk> Company earnings Conference call for the third quarter of 2022.
To begin I'll turn the call over to Mr. Matt sequel.
Good afternoon, and thank you for joining us for Moelis <unk> company's third quarter 2022 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, which are subject to various risks and uncertainties, including those identified.
<unk> had from time to time in the risk factors section of Moelis <unk> 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 financial measures. We believe these measures when presented together with comparable GAAP measures are.
You spoke 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 Dot com.
Now I'll turn the call over to Joe to discuss our results. Thanks.
Thanks, Matt and good afternoon, everyone on today's call I'll go through our financial results and then Ken will comment further on the business.
We achieved $232 million of adjusted revenues in the third quarter, a decrease of 55% from the record prior year third quarter. The decrease during the quarter is primarily attributable to lower levels of transaction completions driven by the volatile markets our.
Our nine month total revenues of $768 million were down 33% from the record prior year period.
Moving to expenses, our year to date compensation expense was accrued at 62%.
Given the dislocation in the transaction environment, our investment in new MD hires and non MD compensation inflation across the industry to 62% comp ratio is our best full year estimate.
Our third quarter non comp expenses were $38 million, resulting in a year to date non comp ratio of 15%.
<unk> is still tracking at 75% of pre pandemic levels consistent with expectations.
Our year to date pretax margin is 24%.
Moving to taxes, our underlying corporate tax rate of 27, 1% for the third quarter is consistent with prior quarters.
We continue to maintain a fortress balance sheet with no funded debt.
Our board declared a regular dividend of <unk> 60 per share and during the quarter, we repurchased approximately 330000 shares which together with the first and second quarters has resulted in a year to date buyback of approximately $3 2 million shares as always we remain committed to returning 100% of our excess capital.
And I will now turn the call over to Ken.
Thanks, Joe.
Following chairman Powell speech of Jackson hole at the Jackson hole meeting all financial markets stocks bonds currencies commodities became significantly more volatile.
Volatility has adversely impacted M&A and capital markets.
I find it surprising in this uncertain environment is how ambitious our clients continue to be however, even though short term deal execution is difficult in today's market client engagement is very strong volatility as I've said before liens business leaders to reevaluate their competitive position in the world and make.
Decisions.
Many of these decisions will lead to transactions.
Planning ahead in the short term, which is certainly turbulent we have the leading restructuring team on wall Street this quarter and the team has seen an increase in mandates as financial stress continues to build it only takes a modest uptick in default rates to fully deploy this very talented team, which remains an enormous opportunity for the firm.
<unk>.
Looking over the horizon. These cycles are typically limited the M&A market will continue to grow.
To support that growth we've added a total of 25 managing directors. This year 16 through internal promotion and nine through external hiring.
The areas of focus are the ones. We have previously highlighted which include technology health care industrials and private funds advisory we built a resilient firm with a fortress balance sheet, no debt and pre tax margins of 25% or better over the course of the cycle, we view our people our culture and our client relationships.
It's extremely valuable long term investments and with that we'll now take questions.
Thank you to ask any question. Please dial star followed by one on your telephone keypad now.
And our first question is from the line of Devin Ryan.
Kevin Your line is now open.
Thank you this is actually Michael Falco standing in for Devon.
Wanted to start on the financing markets.
Are there any signs of improvement in overall conditions there.
Big of a factor is that been in the recent slowdown in the M&A market overall, and what should we be watching going forward to see how that progresses from here.
So look I'd say no there's been no and it depends from what date, you're asking but again since about Jackson hole speech.
Speech I'd say, there's been no improvement.
Maybe even a slight degradation of that market over that time.
It's pretty difficult to get a deal done.
I think what will change that market is some form of stabilization of the interest rate I think people are just wondering how far and how long the fed goes.
You know I don't you can't raise forever. So at some point they will stop raising interest rates will reset around that rate and I do think capital will become available.
At that rate and and and that is the missing right now that's the most difficult part of the deal market is the pretty much lack of financing in the leveraged and the leverage part of the market investment grade is still operational although more expensive.
Thanks, That's helpful and then maybe for my follow up.
Pointed out in your prepared remarks, you've been very active on recruiting year to date do you expect to continue to lean in on recruiting and head count expansion or do you think there's any reason to be maybe a bit more cautious given the more uncertain environment.
Well the main reason that would probably when you say lean A&H.
I guess November now.
I think youre pretty much done for the year on the bonus cycle. So.
But the answer is we're going to continue to invest we think we've maintained this balance sheet, we have a fabulous financial condition in terms of liquidity balance sheet all of the internal fixed obligations, you might have including employee leases all of those things.
We're in I think the best position in the industry and it's a great time to use it I mean, the reason you sit here and maintain your operational flexibilities to use it there.
The reason we were very aggressive.
Just fabulous talent became available.
And I think it might have to do with.
The volatility by the way I think some of it was the volatility of last year. There were some excellent bankers in the world, who I think realized working inside of a large institution might not have the upside they thought and I also think now in the downturn, having our balance sheet and solid feeling of long term visibility.
And investment in our talent base.
They understand that as well so I do think going into next year, we will be aggressive and we're going to expand. These this is a long term business.
Your clients expect you to.
To cover them and do good work for them through good times and bad and then when you come out of it you have an irreplaceable asset you have.
Bankers, great clients and relationships that are hard to hard to recreate from scratch ever.
I appreciate all the color I'll hop back in the queue. Thanks.
Okay.
Thank you. Our next question comes from the line of Manhattan, Gastonia Morgan Stanley .
And then your line is now open.
Hi, good afternoon.
Maybe a follow up to that question on hiring you mentioned that there is there.
There's good talent out there in the market and you're leaning in.
And clearly in this environment are you still doing.
$230 million to $140 million or so of revenue.
With what I think but are you on pace for your second strongest TR.
How should we think about the revenue level that you need to get back to that in the high <unk> comp ratio is.
Is it 62% comp ratio more temporary in this environment and as soon as revenue started to tick back up over 1 billion can you get back to that 59% or should we think about the investments youre, making in hiring as pushing out that high <unk> comp ratio to maybe a couple of years down.
Hi.
Let's see.
Look I think 62% is a confluence of events, including a down revenue year, but one of them is also the inflation on non M D.
Compensation, which remember 85% of our head count is not managing director, that's proven pretty sticky like a lot of industries.
There's a bid out for talent.
And.
You know that.
It's proven sticky so that's that's there.
And then the revenue pressure you take that.
Into account and by the way we looked around at our peers after the second quarter.
And many of them are running GAAP ratios and again I look at gap, because we don't adjust much.
There are 456 points over us on GAAP comp ratio, we like any business.
You can't you know I think we have a better model I do think we can run two three points better or you know, but over time, you have to be competitive and you can't so yeah.
You have to respond to that and lastly, we did invest in talent, but I do think looking at the investment in talent is actually not a negative the talent, we got well I think cover the comp ratio and will allow us more room.
I think that if we've done our job right that that should not be pressure on the comp ratio that should actually relieve comp ratio as they produce.
I don't know the exact answer to that.
Sorry, just a point of what exact revenue you have to be at but 62 is not our target.
That's a unique confluence of events for this year.
And.
The issues that I pointed out from competitive nature, not empty inflation and in a lousy our nine months of revenue to tell you the truth.
Got it Okay. That's helpful and then a follow.
Called out your comments on that.
The financing market is there a distinction between the financing available for larger deals because clearly that the larger that'd be a market is.
As Ben.
Fairly muted over the course of the last few months, but is there still private financing available for smaller deals and how our sponsor's currently financing the deals that they are doing.
And maybe if you can just talk about how they are preparing for.
Further rate hikes from here and what they need to see to Lena.
I think there is a slightly better.
Maybe an open market for smaller deals because you can get creative you have more flexibility you have more lending sources.
So I think the bigger deal maybe to put it in a negative way the bigger deal you have to go through some of <unk>.
Large amount of transactions are just being put on hold.
Great. Thanks again.
Alright.
Alright next question is from the lineup Steven Toback Research Steven you a line is not working.
Good afternoon. This is Brendan O'brien filling in for Steven I guess to start 10 based on your comments. It sounds as if you know financing conditions are the biggest headwind at the moment and your hopeful that once the rate outlook kind of stabilized as you expect some sort of improvement there, but at the same time.
You as well as most of your peers are quite constructive on the restructuring outlook. So I guess my question is do you believe that we could see a recovery and M&A activity and environment with accelerating or elevated restructuring or do though like you typically don't see those move in lockstep. So I just wanted to get a sense as to how you expected.
Two businesses to kind of interact.
I think you could see that and the reason is this is not 2009.
Covid you know those are the last times restructuring spiked and they spiked very quickly like Covid was eight week fire drill and then the fed bailed everybody out and by the way O 910 was a little the same it might've been an eight month fire drill, but the fed failed everybody out I think the opposite is happening here is that this is a <unk>.
So moving.
Car wreck. This is there's not anything immediate that is causing defaults.
In a very short term, it's just gonna be rates keep rising remember, we probably only had most corporations have only made two interest payments under the new fed regime.
And again those payments are looking forward to next quarter, probably you know 200 basis points higher than they were.
Quarter and a half ago. So what I think is gonna happen is you're you're just going to have the the elements of possible gross margin pressure on companies reduced gross margin as as.
As the economy slows and increasing interest rates just result in a long.
Half of companies that are overlevered too exposed to floating rate interest and have their margin squeeze the businesses, where the margins get hit.
I you know I think that could be a long path of a couple of years of restructuring, which is very different than again O nine and COVID-19.
So I think it could be extended and during that time I again.
There's.
A lotta money in private equity hands, and there's a lotta strategics are not sitting still so I do think the transactions could be flowing if we get a market in which there is a supply of financing that allows transactions to to actually be executed.
And it only takes that's a great color. Thank you.
Sorry, that's a great color. Thank you go out of town and then I guess my next question. So in restructuring your your mandate there have been a building as you noted however, given activity was very subdued to start the year I wanted to get a sense as to where your mandate counts sits today versus.
Ah more normalized environments, such as 2019 and also if you could provide any color on some of your non traditional M&A businesses and how how those performed in the quarter and your expectations for private capital advisory in this environment and capital markets that'd be great.
So restructures are up significantly I don't have an exact percentage of the mandates, but the mandates are up pretty significant.
25, 2025% over the last line sequentially quarter to quarter and it is starting to ramp but as I said those that's going to be a long again people are just incurring their first interest rate increases and there's not a macro event that's caused everything to stand still it's just.
People looking at it 24 maturity wall or twenty-five in interest rates, increasing that's going to continue to build.
But it's not a big revenue event.
<unk>.
In terms of capital markets. That's that's.
With financing down the way it is our capital markets has run into the same headwinds.
But the interesting part about that is we're built for that we have as as financings become less plain vanilla more structured.
It tends to be a call from an individual dealmaker to a large institution that could sit down and structure a solution for a client and that's really right up our alley, we're not made to have a long sale big Salesforce distributed plain vanilla items.
I think that's going to be a positive for us but in the short term there aren't many terms to get a deal done.
And there aren't many terms that an issuer actually wants to issue at as we've been advising people. If you don't have to be in this market you do not want to be in this market. This is not a market you go into voluntarily to refinance so you're already eliminating you know when you say all the elective surgeries being eliminated it's only.
It is.
Only if you.
If you really need it that you're going to go into the market. So all that is being affected and I'd say the same for our private funds advisory I think we've made some great hires in there by the way of those external hires we continue to build that group out we think that's a long term strategic place to be.
But not.
Not in the third quarter of 2022, you are not going to monetize that in the third quarter of 2022.
Great. Thanks for taking my questions.
The next question comes from the lineup James genre of Goldman Sachs.
Please go ahead.
Yeah. Thanks for taking my questions I, just wanted to ask one more on the rates.
<unk> and then sort of the corollary how that affects.
How that's changed some of the effects of pairs. So.
Is there an absolute level of rates that really changes the advisory activity levels.
Is that already sort of baked into you know.
The weaker market, you're talking about and maybe you could just talk about how.
How rates are differently impacting sponsors versus strategics and how that could just change. The you know the mix of M&A over the the medium to long term and then we have a obviously much stronger U S. Dollar is that catalyzing any sort of cross border activity into Europe for example.
So you're right about the strategic I think our mix is kind of flipped a little bit of our revenue I think it's more strategic than ever before because strategic tend to have better credit ratings and have more corporate.
<unk> abilities. So that is happening right now in a little more strategic.
In the mix, then then financial sponsors.
I I'm a believer that.
If you have a right.
And let's put this way too I think you also need to have some clarity where people need to have some vision of where the future economy will be but even that I think is out there I mean people have a.
There is a general view that the economy will be difficult next year, that's in it and that will be in the prices. So there are substantial amount of assets that want to sell and there are substantial amount of.
Corporate and financial that want to execute.
Acquiring assets.
And I think the pricing will fix itself rather quickly I think it's in the pricing might might already be there, but if you don't have a supply of financing to actually match, a buyer and a seller and actually executed transactions just not going to happen.
So.
I think when you get to a stabilized rate environment M&A will come back people you can't you can't just sit around wishing you were back in 2021, you execute and you do it at the price that makes sense given the capitalization you can get in the financing you can get.
Problem with that right now, it's it's close to zero in a lot of instances on FX, yes, we have people looking at it.
Again, that's pretty that happen pretty rapidly.
And I think there are a lot of people who want to look at opportunities around that but again, you need the supply of financing to be able to execute on that and the and the confidence in where the fence is going to stop and what the market will look like but I think that could be.
A.
A substantial generator of activity.
Maybe early next year as you can execute.
Okay. That's very clear just a quick one on the restructuring business you know I think people have a little bit this recency bias, where I think people like that restructuring could pick up really quickly. So I was just wondering you know when you think about when the restructuring mandates that are you know.
Starting to pick up or are really going to be completed and manifest in your revenues is that more next year or is that sort of more of a 2024 type event.
We will have a lot more mandates will have a lot more.
By the way revenues will pick up because some of these transactions are to exchange get moved maturities out there. There's a lot of things that happened in the interim but those large.
The large success fees that are based on you know recap.
Bankruptcies recapitalization are always out I think that the interest rate takes awhile again Covid was an immediate event people were like hey, everybody's home and.
We had a model <unk>.
Companies that went to zero revenue I mean, we've modeled zero EBITDA, but until Covid, we never really models zero revenue for many companies as a downside.
Not happening now in fact.
And a lot of businesses the consumer continues to spend an unemployment is low and.
So it all hit through margin and interest rates and I think that will be a long, but could be very profitable long term opportunity again, we got to like 1% default rate.
Tremendous amount of that out there and all as Joe was saying before all we needed to get to his three or 4% and I'm not sure. The street has the personnel to cover it.
Okay. That's really interesting and then just one quick one for Joe Noncomp came in down on a dollar basis quarter on quarter.
Shall we sort of think about the the run rate for Noncom says that you know somebody we should expect to grow from here given all of the inflationary pressures or is this sort of you know a good run right to base you know next quarter on.
I think the run rate as I've described in previous quarters is kind of 40 area.
It'll fluctuate but not.
Not a great deal I don't think.
Okay. Thank you so much.
Sure.
As a reminder, if you would like to ask a question. Please don't stopped by one on your telephone keypad now.
And our next question is from the line of print and Hawkins UBS. Please.
Please go ahead.
Good evening, Thanks for taking my questions [noise].
I'd like to start.
By circling back to the comp ratio so.
62% for the full year, Joe got that loud and clear but [laughter].
This environment has stayed uncertain for.
A lot longer than many folks expected earlier this year so.
And yeah I hear you can that eventually the effects stop raising rates, but.
They have also.
That is also basically taught us that they're gonna jack-up unemployment and that's going to lead to credit losses, and lenders aren't exactly lining up when you got credit losses stacking up so.
Into next year, how should we be thinking about a comp ratio at that point is it does it come down to a ratio or is it more just thinking about the fixed expense space and the ratio will fall where it will.
Well, it's probably a little about what you are saying at the end they are which is for so first of all if we really have an environment that you have remember one of the things I talked about is.
The Noncomp stickiness of the non M D.
Inflation on calm.
Comp levels that sort of happened last year, I think there'll be some resilience and that if it if.
If it gets as bad as you are saying.
And that is hitting it.
Again.
But what you said is a little bit right I just wanted to say this is look our best guess is 16 62, because we don't have a crystal ball on the fourth quarter, but we we think we think we have a good outlook on where it is we think we know what our competitors are doing which by the way is an issue I mean, we literally can't run our bill.
You cannot have a supermarket that sells the goods.
Or hire employees cheaper than the one across the street and we responded to that because we saw that people had started to inch up there.
Their comp ratios, which means we're not going to see any reduction.
But what happens at the end of it is I love the team we put together.
We've been in business, we're only been around 15 years, our client base is as good as it's ever been our penetration into boardrooms is better than it's ever been and so yeah. Your last statement was kind of right, which is we look at where the businesses and what we need to do to maintain the asset we built.
The acid is the culture, the people and the relationships I can't call up company X Y Z and tell them look I know we spent six years getting this relationship. We just can't do your work for a couple of months here, while we hold the comp ratio down we'll be back to you when.
You know in a better time and I'm sure you'll love to hear from US. After we fire your team and will hire him back that that's not gonna work.
And so we spent six or seven years developing these clients, we're going to keep them.
And if that's what you were asking at the end is the last thing just fall out the answer sort of yes.
Protect the franchise.
Protecting the franchise and.
Look the best part about what we have is even if you're the strongest bank in the planet your liver 10 to one that's just the method that's the economics of a big Bank we're not.
We have no debt or balance sheets in great shape or liquidity and we're not given away that we're not going to give away clients and franchise.
Two.
We're going to be the strongest player coming out of this not the weakness.
Okay.
Like it.
It's interesting.
You you definitely hit on a lot of the upward pressure to comp at or junior levels.
I'm sitting here, reflecting back on some prior discussions.
Had with yourself and other members of the management team.
In the past.
Part of the Allure and this might have changed over time, but was that you. When you brought in junior members.
It was it was completely fine for junior members of the team to have ultimately.
Moving on to enter into.
Private equity or other industries as part of their career path and actually you would facilitate and and work with the juniors when they did that rather than.
Make them feel as though they had to hide.
The activity and whatnot.
Would this be an opportune time to begin to try to think about trimming ranks of juniors through attrition through those constructive channels that could help manage some of the expense space, particularly given the fact that I mean.
I hear you that this is a weird environment cause financing as tight as a drum, but you know you could argue that since COVID-19. It was a weird environment, because fed was pumping liquidity like like crazy and and this.
This out of inflation means that at Solomon.
Solomon dances over for quite some time. So you could argue that may be the environment is this is more than just temporary and there is just gonna be a different level of engagement than what we got used to there for that very very hot period of time.
Sorry, I know, it's kind of a long winded question again.
Well the 2.22 points so the the junior talent that goes to <unk>.
Private equity or something like that our analysts that's kind of our two three year analysts program.
And we continue to do that I mean, they want to do it we like to try to keep them, but we you know we realize that they might so that's.
Once they get here as associates Mvps, that's a very important part of our firm and by the way. It's a very hard place to higher last year that was our most difficult thing was getting are great B PS and third year Associates second year Associates no. We're not we're not going to do that and in fact.
Just the opposite.
Our engagement is hi, Brandon and.
Again, there's not a lot of firms like ours, and there's a lot of companies in the world.
And you got to provide really good work to them and those people that you're talking about the first second third fourth year at a school permanent employees. It's the heart of the firm, that's where great work gets done clients notice it.
And those assets I look I know in the short term, it's not it's not easy but those are the assets that when the market comes back you can't recreate and we're going to use this opportunity to outperform for our clients to be on top of them and to get work done on schedule and on time.
And show off and then.
I believe whether it be six weeks six months.
Two years there'll be there'll be a really there'll be there always has been look back at wall Street for 40 years.
It's just a growing.
There is a growing group of clients and we're going to be there for them and I hope other people do exactly what you say.
Make sure you ask some of the other banks to do that because that would be a good favor for us.
[laughter] Alright fair enough.
Thank you and our next question is from the line of Mike Brown from K B W.
It's not working.
Great. Thanks for taking my questions.
So.
Most of my questions have been asked and answered but.
The fourth quarter is typically seasonally strong and kind of just said that you don't really have a crystal ball here, but.
As you contemplate that 62% fully or comp ratio does that.
Clued in expectation for that seasonality to to play out as it typically does like we've seen in the past.
You have to force is going on our pipe.
Is about where it was.
In the third quarter last year or pipe is as high that's why to bring to the question I wasn't trying to be mean, we want to serve as the people who have the same level of deal activity there contemplating.
We've scrubbed it.
I would use the word the pipe has to be by definition more fragile than it's ever been because you get to the financing part and if it's not there. So we scrubbed it as good as we can and we think you have.
The yes, you usually have a seasonality in the fourth quarter, but.
You haven't had the fed trying to you know.
Rain on the seasonal.
Seasonal factors I mean, so I think we have a hurricane coming out of that and the seasonal upturn. That's normal I think those things might offset each other and what we've really done is just look through our pipe scrubbed it and tried to come up with what we think.
The revenues that we could expect to come in and again.
To this point of investing through the cycle I just wanted to say through the nine months, we run a 24% pretax margin.
That's not a terrible business and that's not a business that you know to get to a point higher margin is again it was to bring his last point, it's not it's not a horrible business to run a 24% pretax margin and I think we probably still have one of the highest pretax margins of anyone in the business.
Of our peers.
But again I.
I do think you are going to have competing forces in the fourth quarter, we tried to take that into account.
As best we could but.
It takes into account both things you are saying the seasonal.
Positive as of the fourth quarter and also the negatives of what's been happening in the interest rate environment.
Okay great.
And just to change gears to the capital return you guys. You know always return about 100 per cent of capital to shareholders.
Clearly, it's more challenging environment here. So some of the inbound questions had gotten from investors is about.
About the regular dividend here so you've.
Europe's was 37 cents this quarter and your regular dividend is 60 cents and.
You know your cash levels, certainly seem seem adequate and you're you're free cash flow is typically higher than than what you're you're EPS would would indicate.
But you know just given the fact that we are still not quite a turbulent period here as you mentioned.
Any any comment there about the regular dividend here is is it still safe here at 60 cents okay.
Yes, I remember your 37 includes a one time.
Dramatic change in the comp ratio.
To bring it up.
The way, we think about it is we're supposed to bring our accrual up to our best guesses a year is so we did it all in the corner and full year earnings are approximately maybe a little higher than you.
Year to date dividend. So yeah, and then we also have the non.
Non cash charge of equity.
If anything if anything we've had conversations and I will say this but it's up to the board to do it about increasing the regular dividend which is.
Felt like in this market felt kind of strange [laughter] to do that so we do want to return 100 per cent of capital and we think we've got more excess capital that we could return we just.
We just haven't done it because it would seem strange to increase the dividend in the wake of what's going on.
Okay. Okay I appreciate the thoughts on that.
How do we have no further questions to finish it. This time, so I'd like to have back to Mister 10 minutes or any closing remarks.
Thank you everyone free share that will see on the next call.
Thank you to all those who joined this concludes the modus in company earnings Conference call headquarters since two.
<unk>.
You may not disconnect your lines.
Uh-huh.
[noise].
Mmm.
[music].
Okay.
Okay.
Mhm.
[music].
Yeah.