Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)

HFF, Inc. (NYSE:HF)

Q4 2013 Earnings Conference Call

March 04, 2014 6:00 PM ET

Executives

Myra F. Moren – Director-Investor Relations

John H. Pelusi, Jr. – Executive Managing Director

Gregory R. Conley – Chief Financial Officer

Nancy O. Goodson – Chief Operating Officer

Analysts

Mitch B. Germain – JMP Securities LLC

Brandon B. Dobell – William Blair & Co. LLC

Operator

Good afternoon and welcome to HFF, Incorporated Fourth Quarter and Full Year 2013 Conference Call to discuss our operating and financial results over this time period.

At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session with instructions being given at that time. As a reminder this conference call is being recorded.

I would like to turn the call over to your host, Myra Moren, our Director of Investor Relations. Please go ahead.

Myra F. Moren

Thank you, and welcome to HFF, Inc.’s earnings conference call to review the Company’s production results and operating performance for the fourth quarter and the full year of 2013.

Earlier this afternoon we issued a press release announcing our production and financial results for the fourth quarter and for the full year 2013. This release is available on our Investor Relations website at hfflp.com. This conference call is being webcast live and is being recorded.

Also available on our website is a related PDF presentation. The presentation contains background information on the Company’s historical production and financial results as seen on slides 1 through 30, including our results for the fourth quarter and for the full year 2013, which are noted on slides 31 through 41, along with select transactions we closed during the fourth quarter found on slides 40 through 50.

Due to investor and analyst requests, after our call today we will make available on our website an additional PDF presentation, which includes our full capital markets update. However, this material will not be covered on today’s call.

Before we start, let me offer the cautionary note that this call contains forward-looking statements within the meaning of the federal securities laws. Statements about our beliefs and expectations and statements containing the words may, could, would, should, believe, expect, anticipate, plan, estimate, target, project, intend, and similar expressions constitute forward-looking statements.

Forward-looking statements involve known and unknown risks, uncertainties and other factors which could cause actual results to differ materially from those contained in any forward-looking statements. For a more detailed discussion of these risks and other factors that could cause results to differ, please refer to the fourth quarter 2013 earnings release dated March 4, 2014 and filed on Form 8-K, and our most recent Annual Report on Form 10-K, all of which are filed with the SEC and available on their website at sec.gov.

Investors, potential investors and other readers are urged to consider these factors carefully in evaluating the forward-looking statements, and are cautioned not to place undue reliance on such forward-looking statements. Except as required by applicable law, including the securities laws of the United States and the rules and regulations of SEC, we are under no obligation to publicly update or revise any forward-looking statements after the date of this conference call. We may make certain statements during today’s call, which will refer to a non-GAAP financial measure, and we have provided a reconciliation of this measure to GAAP figures in our earnings release.

With that in mind, I’ll introduce our senior management team. Conducting the call today will be John Pelusi, our Chief Executive Officer; Greg Conley, our Chief Financial Officer, and Nancy Goodson, our Chief Operating Officer.

I’ll now turn the call over to our CEO, John Pelusi.

John H. Pelusi, Jr.

Thank you, Myra. As noted on slides 31 through 41, we are very pleased to report that the Company had a record fourth quarter and full year 2013 in nearly every metric we used to measure our production, operating and financial performance. This is especially significant when viewed in the context of our increased fixed operating expenses directly attributable to our ongoing expansion and hiring related to our significant strategic growth initiatives that we initiated in 2010, coupled with the fact that we believe approximately 5% to 10% of our fourth quarter 2012 production revenues were pulled forward from 2013 due to tax related selling as we reported earlier March 2013.

Before getting into specifics of our record breaking achievements in the fourth quarter and for the full year 2013, I wanted to briefly touch on the steps we have taken to strengthen and enhance the senior level management of the Company in both our leadership team and in our Executive Committee. These two groups formulate the strategic direction of the operating partnerships and are ultimate responsible along with each of our associates for our record breaking results.

As we continue to aggressively pursue our strategic growth initiatives in 2014 and beyond through both internal promotions and recruitment in order to better serve our clients and continue to take market share, we and our Board have been committed to making the critical investments of time, energy and capital to provide the necessary resources to strengthen our leadership team and our executive committee.

We believe these investment tapped in and will continue to be important in training, mentoring, educating, leading and assisting each of our existing and future office heads, business line and product specialty team leaders and our transaction professionals to insure we continue to put the best team on the field for each and every assignment for our clients, which we believe has been key to our past successes and will be essential for our success in the future.

We believe this commitment to our management style which has at its center a player coach model of leadership for our transaction professionals along with our client centric focus with its emphasis of not competing with our clients, which we believe in turn creates an alignment of interest with our clients, coupled with our ownership based pay for performance compensation model, which we believe in turn creates an alignment of interest with our shareholders and our clients. Our key driving forces beyond our demonstrated market share gains and record breaking production volumes, revenues, earnings and cash generation, which has occurred every year, year-over-year since 2009.

As we have been reporting over the past 12 quarters in an effort to better manage our future expected strategic growth and as part of our succession planning process, we have continued to strategically invest in our business with an emphasis on strengthening the management of the business through the creation of our senior leadership team in 2011.

In addition to the investment and the creation and continued expansion of the leadership team, we have also recently expanded our Executive Committee. As reported in November 2013, beginning in the fourth quarter of 2013, we expanded the size of our Executive Committee by adding four executive managing directors, Manny de Zarraga, Scott Galloway, Matthew Lawton and Gerard Sansosti, from our lead and experienced leadership team on an ad-hoc basis to our then four-person Executive Committee.

Also, as stated in November, effective January 1, 2014, each of them became permanent voting members of the Executive Committee, increasing the number of voting members from three to seven. We’re also pleased to report that effective January 2014, as part of our ongoing succession and planning efforts to continue to provide critical training, mentoring and education for the future leaders of our business, we added seven additional non-voting ad-hoc members to our Executive Committee. Joining the current non-voting ad-hoc members of our Executive Committee, which currently consists of executive managing director, John Fowler, our CFO, Greg Conley, and our COO, Nancy Goodson are senior managing directors, Riaz Cassum, Michael Leggett, Kevin Mackenzie, Trey Morsbach, Wally Reid, Mike Tepedino and Eric Tupler.

Finally, as we previously reported in November 2013, as part of the Company’s ongoing succession planning efforts effective April 1, I will be voluntarily stepping out of my roles as the CEO and Vice Chairman of the Board of the Company, the Managing Member of the Operating Partnerships, and as a voting member of the Operating Partnerships. However, I will remain a member of the Executive Committee as a non-voting ad-hoc member.

Mark Gibson, who is also currently a Vice Chairman of the Board of the Company, will succeed me as the CEO of the Company and will remain a Vice Chairman of the Board of the Company, an executive managing director of the Operating Partnerships as well as a voting member of the Executive Committee. And Joe B. Thornton, who is also currently a Vice Chairman of the Board of the Company, will become President of the Company and will succeed me as the Managing Member of the Operating Partnerships, and he likewise will remain a Vice Chairman of the Board, an executive managing director of the Operating Partnerships as well as a voting member of the Executive Committee.

To provide some background and context to our significant investments in growth, especially to those who are new to the story and why we believe it is essential that we continue to invest in our people and our leadership team. It is important to remember that since January 2010, we have grown our headcount by nearly 70%, including a nearly 60% increase in our transaction professional ranks. We believe these investments have allowed us to continue to enhance our strong discipline of managing the business and coupled with our strong balance sheet, which we have used to support our strategic growth initiatives, we believe we will continue to be ideally positioned to successfully build upon our past achievements and our outstanding financial results in 2014 and beyond.

As a direct result of these past efforts, we are pleased to report we have achieved significant market share gains relative to the industry in which we compete, as well as record results in nearly all of our key production, operating and financial metrics during the fourth quarter and full year 2013. In the past 12 months alone, we have grown our headcount by 11% to 637 associates and we have also grown our transaction professional range by nearly 10% to a total of 251 through both organic promotion and recruitment in 15 of our 21 offices.

Both our total headcount and our total number of transaction professionals are once again new high watermarks for the Company. Notwithstanding the pull forward effects of the tax related sales transactions from 2013 into 2012, we believe we continue to grow our market share relative to the industry in which we compete as evidenced by the comparison of our strong and record breaking production results to the various third party debt and investment sales industry trade organizations as noted on slides 14, 18, 41, 56, 61 and 69 as well as Slide 73.

Our transaction volumes for the fourth quarter and full year of 2013 were all high-water marks for the Company and were up 44.7% and 33.1%, respectively, compared to the comparable periods in 2012. Additionally, our commercial loan servicing portfolio increased 5.5% to $33.1 billion, which is also a new high-water mark.

When comparing our 2013 transaction volumes to the industry, our transaction volumes were up 76.6% and 28.3%, respectively, compared to our transaction volumes in 2005 and 2007 respectively. While the total U.S. debt and investment sales volumes for 2013, as measured by the Mortgage Bankers Association and Real Capital Analytics, respectively, are only roughly on par with their respective levels reported back in 2004 and 2005 and are also down approximately 45% and 38%, respectively, from their respective peak levels in 2007, all as noted on Slide 69 and 73.

Our record breaking production efforts likewise resulted in record-breaking revenues, operating income, net income and adjusted EBITDA, which were up 34.6%, 67.1%, 15.4% and 48.4%, respectively, for the fourth quarter of 2013 versus the comparable period in 2012. For the full year of 2013, our total revenues, operating income, net income, adjusted EBITDA were also up a strong 24.8%, 39.6%, 17.2% and 38.5%, respectively, and each were new high-water marks for the Company.

Our adjusted EBITDA margins of 31.5% and 27.3% for the fourth quarter and full year 2013, respectively, were both new high-water marks for the Company as well. These record financial results and earnings are part of the foundation behind the return of approximately $124.5 million of capital to our shareholders in the form of special excess cash dividends since 2012, with the most recent special excess cash dividend of $1.83 per share or approximately $68.2 million being paid to our shareholders in early February 2014.

We believe our significant, prudent and continuing investments in our talented associates, as well as the expansion of our Executive Committee and leadership team, this ongoing mentoring and leadership by example, will continue to pay long-term dividends for the Company and its shareholders in the future, just as I believe we have since 2010 as evidenced by our significant and record breaking growth in revenues, earnings and cash generated over this period. We believe the market has likewise recognized our achievements as the Company hit the $1 billion market capitalization in December 2013, and for the second consecutive year the Company was ranked by Fortune Magazine as one of the Top 100 Fastest Growing Companies.

We also believe our strong balance sheet and cash position, even after the payment of the special excess cash dividend of approximately $68.2 million in February 2014, combined with our continued investment of time, experience and capital will continue to enable us to better serve our clients, best position the Company to take advantage of future strategic opportunities as they arise and capture market share, regardless of market conditions, and fully take advantage of the forecasted transaction volumes that are likely to arise from the nearly $1.4 trillion of commercial real estate loans that are set to mature between 2014 and 2017, just as we have consistently demonstrated since 2010.

I will now briefly touch on current conditions across the commercial real estate and global capital markets, which you can reference on slides 51 to 64.

Due primarily to the ongoing, unprecedented quantitative easing by the U.S. Federal Reserve, whose balance sheet has now grown to approximately $4.1 trillion, as well as continued additional quantitative easing by most other global central banks, there was continued improvement in the public and private sectors of the U.S. commercial real estate and capital markets in the fourth quarter of 2013.

These improved conditions coupled with a slowly improving economy continue to benefit certain sectors of the U.S. commercial real estate market, especially core, core plus, value-add and certain opportunistic properties in nearly all the major markets as well as in some select secondary markets with proven economies.

As evidenced by these improvements in the U.S. commercial real estate capital markets in the fourth quarter and full year 2013, both Real Capital Analytics and the MBA reported healthy increases in sales and debt transaction volumes when compared to the same periods in 2012.

As covered earlier, our transaction volumes for both investment sales and debt placements when compared to the same volumes in 2012, were up even more than the national market increases as reported by both Real Capital Analytics and the MBA, which we again believe provide further support that we are gaining market share.

According to Real Capital Analytics, total sales activity for the year 2013 rose 18%, to approximately $335 billion and include $15 billion of the sale to Archstone to EQR and AvalonBay as well as several other larger portfolios and entity-level transactions during 2013. Excluding these portfolio sales and entity-level transactions for both 2013 and 2012, national total sales activity would have increased 31% for 2013 versus 2012.

In comparison, our investment sales transaction volumes exceeded the reported national industry increase and was up over 71% for 2013 and included two unusually large investment sales transactions compared to the same period in 2012. If we were to exclude those two unusually large sales transactions, our increase would still have been 48.5% versus the same period in 2012 and still well above the comparable national industry data.

The MBA reported 2013 commercial and multifamily mortgage origination volumes were 16% higher than 2012 according to their quarterly origination survey, while our debt volume was up 19% in 2013 versus 2012.

We believe the CMBS market was a single largest contributor to the industry debt origination based on data from commercial real estate direct. According to this report, CMBS issuance during 2013 was $80 billion, an increase of approximately 67% when compared to $48 billion over this comparable period in 2012. It should be noted there were significant level of single borrower transactions, which totaled $11.3 billion in the first quarter of 2013 alone. However, there is no denying the improvement in the CMBS market so far in 2013, which is approximately $32 billion more than the $48 billion issued in all of 2012. Assuming this trend condition continues this should continue to facilitate transactions in the secondary market with proven economies, which we believe will benefit our business.

As noted on slides 40 through 50, based on the transaction we have recently consummated in these highly inefficient and constantly changing private capital markets, we see that generally speaking the debt and equity markets continue to remain focused on core, core plus, select value add and opportunistic properties in all the major markets and some select secondary markets with proven economics.

We also continue to see very healthy domestic and foreign fund flows in the U.S. commercial real estate sector, with very healthy cues of capital waiting to be deployed in all parts of the debt and equity capital stock. We also continue to see the migration of debt and equity to some select secondary markets with proven economics, as investors search for yield given how competitive the debt and equity pricing has become in the major markets. That said major markets are preferred over secondary markets and secondary markets are greatly preferred our tertiary ones.

As reported in past calls, we believe there is plenty full debt capital from multiple sources available to borrowers in 2014 and beyond. We just return from the MBA Conference in Orlando where nearly every lender indicated their 2014 programs would be in excess of 2013, which was a record year for many lenders when compared to 2008 to 2012 timeframe. Based on current activity, we believe there are significant competitions for the best loans especially in the targeted loan size range of $10 million to $100 million, where borrowers have multiple debt options, which is good news for our borrower clients.

All-in coupons remain very attractive. And as we have been saying on past calls, from a historical perspective, these all-in-coupons remained as low as we have seen in the past 30 years. Please note this pricing is based on current debt quotes and are estimates only.

Given the significant liquidity that the global central banks have injected into financial markets, we believe that all in interest rates will likely remain within 25 to 50 basis points of current levels absent the global central banks were moving all of the excess liquidity from the financial system or a significant deterioration in the global macro conditions.

We continue to believe that the U.S. commercial real estate risk-adjusted debt spreads and total returns relative to other fixed income instruments provide superior risk-adjusted returns, which we believe, will continue to fuel this increased lending activity for the foreseeable future.

On the equity front, trophy assets, Core, Core-plus assets and properties, certain value-add and opportunistic properties remain in high demand and competition remains very keen with the major markets being key to a deep pull of aggressive qualified bidders.

As investors search for better risk-adjusted equity returns, some secondary markets with proven economies continue to see increased interest and growing activity for Core and Core-plus properties, as well as select value-add and opportunistic properties. And we believe this trend will continue into 2014 and beyond.

Generally speaking, given the projected population growth for the U.S. and the lack of new construction for most asset classes in most major markets, we again expect to see modest improvement in property level fundamentals for most property types in the majority of the markets including secondary markets with proven economies. While we expect to see more stagnant conditions in the weaker secondary markets as well as the tertiary one.

That said, improvements in property level fundamentals remain vulnerable to the many potential macro concerns that we have discussed in the past. We believe continued improvements in the U.S. economy and the commercial real estate and real estate markets are very good tailwinds for our business.

Absent potential macro concerns, which we have outlined in our earnings release and as we have discussed on prior calls we believe we will see continued improvements in our business over the long-term given the increased debt and equity flows into the sector. The desirability of the asset class relative to other asset classes and the expansion of capital market activity into the secondary markets with proven economies coupled with the nearly $1.4 trillion of commercial real estate loans maturing between 2014 and 2017.

The transactions noted on slides 42 through 50 provide some insights into the debt and equity pricing that was occurred during the quarter. We are not going to review these transactions today, but you should review them following the call, as they will be helpful in understanding the depth and breadth of some of the complex transactions, our transaction professionals have consummated for our clients.

We are not going to discuss the implications for commercial real estate and the rising rate environment based on movements in the 10-year treasury, as we covered that topic thoroughly in our second quarter earnings call and the 10-year has been trading in the 2.7 to 2.75 range, which is down from the highs of 2013. If you are interested in reviewing our prior analysis it’s been updated in the capital markets presentation which you can review following this call.

As mentioned during our second quarter call, while a discussion on potential impacts from higher interest rates provide interesting color on how we have prospered in prior periods, when interest rates were nearly doubled where they are today. We are not focused on it, as cannot predict the future of interest rates nor can we control any of the macro events, which is why we remained focused on our long-term strategic business plan in the way we managed our business through our very experienced and talented leadership team in the Executive Committee.

Frankly today, we think it is difficult to predict any business given the numerous factors that come into play as noted in earnings release. In addition to the unpredictability of when a capital market transaction may close, these are among many reasons why we elected not to give guidance when we went public as well as why we constantly communicate on earnings calls that we do not manage or run the business on a quarterly or annual basis, but rather we manage and run the business for the long haul, which to date we believe has proven to be very effective based on historical financial performance.

As noted on slides 1 through 30, we believe that our key relationships with the owners of institutional commercial real estate as well as the debt and equity capital providers, our deep knowledge in understanding of the most effective ways to capitalize any given transaction and our in depth understanding of the trends in U.S. commercial real estate and capital markets provide our clients with the best real estate and capital markets knowledge solutions to help and navigate these highly inefficient and constantly changing conditions. We intend to remain singularly focused on continuing to perform high quality value-add services for our existing and future clients, without competing with them.

Our collective focus remained fixated on have to business that has to happen, which we believe can be transacted in the market with high quality clients and capital sources. Just as we’ve done since 2010, we remained prepared to continue to use our strong balance sheet and cash position to weather any challenges that might materialize in the future as well as to continue to systematically and strategically invest in any opportunities to grow our business platforms and product specialties in existing and new markets, but only when the culture, philosophy and work ethic match up.

As we have repeatedly said since going public, our goal is to be the best one stop commercial real estate intermediary in the U.S. that is focused on and does not compete with its clients. Not to be the biggest at the expense of being the best or to attempt to generate earnings on the margin by competing with clients and biting the hand that feed you. Simply stated we will not grow for growth stake and we do not want to compete against our clients.

Our business model and philosophy of putting the clients interest first, our ownership based pay for performance compensation model and our ownership alignment of interest with our shareholders has likewise allows us to attract some of the very best transaction professionals in the business. And has also allowed us to reward our leaders who drive our business, combined we believe this has what has allowed us to achieve superior results for our clients and shareholders. An example of one of the several ways we believe we generate superior returns for our shareholder is our stated philosophy of returning excess capital to shareholders.

We build up sufficient excess capital to weather the downturn in the business such as we witnessed in 2008 and 2009 and further provide we have sufficient excess capital to invest in our business in both good times and in tough times and further provide when macro strategic conditions weren’t same. We believe we should return to shareholders capital just as we’ve recently demonstrated with the return of approximately $124.5 million in special excess cash dividends since 2012, with the most recent special excess cash dividend of $1.83 per share or approximately $68.2 million, being paid to our shareholders in early February 2014.

So to macro conditions, which we have no control over. We remain optimistic about the business prospects for the foreseeable future. In 2007, we consummated $43.5 billion with just 150 producers. As of December 31, we had 251 producers with an average tenure of 17.7 years in the business. Even without any future strategic growth of offices, platform services or property specialties if we can achieve the productivity per producer we achieved in 2005 through 2007, coupled with our demonstrative disciplined approach to managing the business, both of which were largely be dependent on market conditions and related capital market transaction flows as well as our ability to capture same, we believe we have the potential to materially increase our transaction volumes and financial results well in excess of our 2013 results.

In summary, we have consistently demonstrated through our past performance, we believe we have the people, the culture and experience, which when combined with our disciplined approach to managing the business through our deep and experienced leadership team, to continue to strategically drive the business in 2014 and beyond.

We also believe these attributes when coupled with our ownership based pay for performance compensation system, which aligns our interest with our clients and shareholders and our strong balance sheet, will allow us to continue to attract the highest quality associates in the industry, which we believe will allow us to position the company to continue gain market share and take full advantage of the significant transaction volumes we believe will be forthcoming.

We believe our 251 transaction professionals who collectively own more than 20% of the outstanding shares of our Class A common stock will have an average tenure of 17.7 years in the commercial real estate industry coupled with our enhanced disciplined management oversight from our deep and experienced leadership team, over 90% of whom are likewise shareholders, will enable us to continue to provide value-add winning solutions for our clients, which in turn should create continued value for all of our shareholders as demonstrated by our past performance.

We remain grateful to our clients who continue to show their confidence in our ability to create and execute winning strategies for them as evidenced by our record results. We would also like to thank our associates who continue to demonstrate their ability to quickly adapt, innovate and share their collective knowledge from each transaction to provide superior value-added winning solutions and services to our clients.

Finally, we remain grateful to our Board for its continued support and investment in our most important asset, our people. As evidenced by its most recent award of 750,000 shares of Class A common stock, pursuant to the Company’s 2006 Omnibus Incentive Compensation Plan, at a price of $29.51 per share with a five-year vesting schedule to reward select those individuals of the Operating Partnerships who have played key roles in the Company’s extraordinary production, operating and financial results in recent years.

For those who are following the Company over these many years, they understand our philosophy of rewarding the individuals of the Operating Partnerships who played key roles in the Company’s extraordinary production, operating and financial results, which is deeply rooted in our Mission and Vision Statement, and which we believe has been the key to our success, both as a private and public Company. We also think it is critical to note that the four founding members of the predecessor firms of the Company, John Fowler, Mark Gibson, John Pelusi and Joe B. Thornton, each voluntarily decline to participate in the most recent equity program in order to maximize the Company’s investments in its most important assets, its people.

I would now like to turn the call over to Greg Conley, who will report on our financial and operational results in more detail.

Gregory R. Conley

Thank you, John. I’d like to go through our financial results for the fourth quarter and the full year of 2013. This information is also noted on slide 31 through 41 in the PDF materials referenced earlier. As John, previously mentioned we are very pleased with our record performance in the fourth quarter and for the full year. Revenue for the fourth quarter of 2013 was $131 million, which is up 34.6% or an increase of $33.7 million compared to the fourth quarter of 2012. The fourth quarter revenues of $131 million is the highest reported quarterly revenues in the history of the Company, with the fourth quarter of 2012 being the second highest reported quarterly revenue amount of $97.3 million.

For the full year of 2013 revenue was also a record totaling $355.6 million, which is an increase of 24.8% in the same period in 2012. The increase in the quarter for the full year was driven by the increase in our transaction volumes, primarily in our debt placement and investment sales platforms as well as increased servicing revenues due to the growth in our servicing portfolio.

The Company had record operating income of $36 million in the fourth quarter, which is an increase of $14.5 million or 67.1% from the fourth quarter of 2012. For the full year of 2013, operating income was a record $70 million, an increase of 39.6% or $19.9 million, compared to the same period in 2012. The Company had strong operating margins for both the fourth quarter and full year of 2013. Operating margins for the fourth quarter of 2013 was a record 27.5%, which is an increase from the fourth quarter of 2012 operating margin of 22.2%.

The operating margin for the full year of 2013 was 19.7%, which is up 210 basis points from the operating margin of 17.6% for the full year of 2012. This increase in operating margins for the 12 months period is attributable to the 24.8% increase in revenue and the improved operating leverage achieved by the Company and productivity gains realized from the transaction professionals added over the past few years, which has been consistent with our strategic objectives.

The company’s increase in operating income for the full year of 2013 is primarily attributable to the 24.8% increase in revenues offset by increases in operating expenses primarily related to the investments we are making in our business. Some key points related to the increase in the Company’s operating expenses for the 12 months period include the following.

Operating expenses and margins were impacted by the $4.9 million increased in our non-cash stock compensation expense primarily related to an increase of the mark-to-market adjustments on liability based stock awards, which are required to be revalued at each quarter. We also had an increase in compensation related cost and expenses associated with in part and 11% increase in headcount of 63 net new associates over the past 12 months as well as all of the related cost necessary to support this growth, such as office expansion related occupancy cost and an increase in operating expenses related to the increase in production activity including T&E.

And then third, incentive compensation cost increased year-over-year including firm and office profit participation expenses directly tied to performance based metrics. Cost of services as a percentage of revenue is 54.5% for the fourth quarter of 2013, compared to 55.4% for the fourth quarter of 2012.

For the full year of 2013, cost of services as a percentage of revenue is 57%, compared to 57.5% for the same period in 2012. Cost of services as a percentage of revenue decreased for both the quarter and the full year 2013 as we were able to spread the increased fixed cost component, which is primarily related to an increase in salaries and other payroll related expenses associated with the increase in headcount over a higher revenue base for both the quarter and the 12 months period. This is another illustration of the increased operating leverage achieved by the Company.

Operating, administrative and other expenses increased approximately $1.6 million and $11.1 million in both the fourth quarter and for the full year 2013 respectively as compared to the same periods in 2012. The increase in these expenses was primarily attributable to an increase in personnel expenses related to an increase in certain incentive-based compensation expenses and increased non-cash stock compensation expense primarily related to the mark-to-market adjustments on liability-based stock awards as previously mentioned. We had an increase in depreciation and amortization expense for the quarter and for the full year primarily related to the increase in the amortization of mortgage servicing rights.

Interest and other income net decreased $4.6 million for the fourth quarter 2013 compared to the fourth quarter of 2012 and this is primarily due to a decrease in other income recognized on the initial valuation of mortgage servicing rights. Interest and other income net decreased $2.9 million for the full year 2013 compared to 2012, primarily as a result of the decreased other income recognized on the initial valuation of mortgage servicing rights, which is partially offset by an increase in other income related to our multi housing platform including our Freddie Mac program plus Seller/Servicer business.

Income tax expenses for the fourth quarter and for the full year of 2013 increased by approximately $23 million and $25.9 million as compared to the same periods in 2012, primarily as a result of the increase in pretax book income and as a result of the company’s reversal of the remaining valuation allowance and deferred tax assets of $19.5 million in the fourth quarter of 2012 and $21.9 million for the year ending December 31, 2012.

Again this adjustment in 2012 to increase the Company’s deferred tax asset through this valuation allowance reversal and its impact on the Company’s tax expense was partially offset by a corresponding decrease in other income related to the increase in the liability payable under the tax receivable agreement, which reduced income before income taxes by $16.1 million and $17.4 million in the fourth quarter and for the full year 2012 respectively. The Company’s effective tax rate for the year 2013 is approximately 41%.

Net income attributable to Class A common stockholders increased $0.08 per diluted share for the fourth quarter of 2013 and $0.18 per diluted share for the full year 2013 as compared to the same periods in 2012, which represents increases of 15.4% and 15.3% respectively over the comparable periods in 2012.

For comparative purposes it is important to note that the net effect of the adjustments in 2012 related to the reversal of the deferred tax asset valuation allowance resulted in an overall net increase to net income of approximately $2.8 million or $0.07 per share on a fully diluted basis and $3.3 million or $0.09 per share on a fully diluted basis for the quarter and the year ending December 31, 2012 respectively.

The company’s adjusted EBITDA for the fourth quarter and for the full year of 2013 increased $13.5 million or 48.4% and $26.9 million or 38.5%respectively, compared to the same period in 2012. Our adjusted EBITDA margin came in at a record 31.5% for the fourth quarter of 2013 and a record 27.3% for the full year 2013, which is an increase of 290 basis points and 270 basis points over the adjusted EBITDA margin for the fourth quarter and full year 2012 respectively.

We continue to maintain a strong balance sheet and the company’s cash balance at December 31, 2013 was $201.3 million, compared to a cash balance of $126.3 million at December 31, 2012. Please note that the cash balance at December 31, 2012 of $126.3 million was after the $56.3 million special dividend payment, declared by our Board and made to our stockholders of Class A common stock on December 20, 2012. And the cash balance at December 31, 2013 of $201.3 million is before the $68.2 million special dividend declared by our Board and made to our stock holders of Class A common stock on February 6, 2014.

Our cash balance increased nearly $75 million from the year-end 2012, primarily as a result of the cash generated from operations. As you know the company’s use of cash is typically related to the limited working capital needs during the year and the payment of taxes as we have virtually no debt to service other than that related to the capital leases and our Freddie Mac business which is offset with the mortgage notes receivable.

During the fourth quarter and for the full year 2013, the company’s net cash provided by operating activities was approximately $42.1 million and $79.8 million respectively. The net use of cash from investing and financing activities for the full year of 2013 was approximately $4.9 million.

In summary, the company had a very strong operating performance in the fourth quarter and full year 2013, when considering that we continue to make strategic investments in our business, consistent with our growth strategy. The company’s strong operating performance was likewise reflected in our strong operating margins in the fourth quarter and full year 2013, despite the increases in personnel expenses of $2.1 million and $11.6 million respectively.

As previously mentioned, these increased expenses were primarily related to the increased incentive based compensation expenses including our performance based profit participation plan and an increase in non-cash stock compensation expense of approximately $1.1 million and $4.4 million for the quarter and full year 2013 respectively, primarily related to the mark-to-market adjustments on the existing restricted stock awards, which are revalued each quarter resulting from the increase in the company’s stock price from $14.90 per share at December 31, 2012 to $26.85 per share at December 31, 2013.

However the cost increases are relatively in line with the increased revenue year-over-year and in support of the increased business activity as well as in keeping with our long-term strategic objectives. And then our adjusted EBITDA margin was a very strong 27.3% for the full year 2013, which provides evidence that we are effectively and efficiently executing our long range plan and the resulting increase in operating costs are in line with the growth in revenue we are achieving in our business.

We believe the investments we have made and we will continue to make in personnel are commensurate with our longer term strategic growth initiatives to both organic promotion and recruitment and will allow us to best position the Company to take advantage of the forecasted transaction volumes resolving from the significant volume of maturing commercial real estate loans between 2014 and 2017, as well as to continue to better serve our clients and capture additional market share.

We continue to believe that we have been very efficient and strategic as it relates to our management of expenses and any incremental increase should have minimal impact to our bottom line results on a full year-over-year comparative basis, provided the market continues to recover and we continue to experience revenue growth consistent with the investments made in our business.

Now, I’ll turn the call over to Nancy Goodson to discuss our production volume and loan servicing business.

Nancy O. Goodson

Thanks, Greg. Before reviewing our production volumes for the fourth quarter and full year, I want to comment briefly on our overall production performance relative to the industry in which we compete. As John previously mentioned, we believe we continue to capture market share in the fourth quarter and full year of 2013. Our investment sales transaction volume was up 141% during the fourth quarter of 2013 versus the fourth quarter of 2012, while our CA reported an increase in sales activity of only 3% during the same period.

Our debt transaction volume was up 19% and our investment sales transaction volume was up 72% during the full year of 2013 versus 2012, while the MBA reported an industry increase for debt volume of approximately 16% and our CA reported an increase in sales activity of just 18% for the comparable period.

Also, as previously reported our total transaction volume for the fourth quarter of 2013 is the highest volume reported in any fourth quarter since the Company went public, and our total transaction volume for the full year of 2013 also represents the highest annual total for total transaction volumes since the Company went public.

I’d now like to review with you our production volume by platform services and our loan servicing business for the fourth quarter and full year of 2013 and compare these results with the same period in 2012, which are also noted on slide 35 through 40 in the PDF presentation. The company’s production volume for the fourth quarter of 2013 totaled approximately $21.1 billion, a record for any fourth quarter by the Company on 521 separate transactions. This represents an increase in production volumes of approximately $6.5 billion or 44.7% and an increase of 46 in the number of separate transactions or approximately 9.7% when compared to the fourth quarter of 2012.

The average transaction size to the fourth quarter of 2013 was $40.4 million, approximately 31.9% higher than the comparable figure of approximately $30.6 million for the fourth quarter of 2012. There was one unusually large investment sales transaction that closed in the fourth quarter of 2013. If this transaction were excluded the company’s production volume for fourth quarter of 2013, which show an increase of 28.3% from fourth quarter of 2012 and will reflect an average transaction size 17% higher than the year ago figure.

Debt Placement production volume was approximately $8.1 billion in the fourth quarter of 2013, a new high watermark for any fourth quarter and represents an increase of 2.8% from fourth quarter of 2012 volume of approximately $7.9 billion. Investment sales production volume was approximately $12.1 billion in the fourth quarter of 2013, a new high-water mark for any quarter and represents an increase of 141% from fourth quarter of 2012 volume of approximately $5 billion. If a one unusually large investment sale transaction, which closed during the fourth quarter of 2013 were excluded, our investment sales transaction volume would still have increased to 93.4%, compared to fourth quarter 2012.

Structured Finance production volume was approximately $611 million in the fourth quarter of 2013, a decrease of 57.6% from the fourth quarter of 2012 volume of approximately $1.4 billion. Loan Sales production volume was approximately $239 million for the fourth quarter of 2013, an increase of 29.9% from the fourth quarter of 2012 volume of $184 million.

At the end of the fourth quarter of 2012, the amount of active private equity discretionary fund transactions on which HFF Securities has been engaged and may result in additional future revenue, was approximately $1.6 billion, compared to approximately $2.0 billion at the end of the fourth quarter of 2012, representing a decrease of approximately 23.9%.

The principal balance of HFF’s Loan Servicing portfolio increased $1.7 billion or approximately 5.5% to more than $33 billion at the end of the fourth quarter and is new high-water mark.

The Company’s production volume for the full year totaled approximately $55.8 billion on 1,526 transactions, and both the volume and the number of transactions represent high-water marks for the Company. This represents a 33.1% increase in production volume and a 12.4% increase in the number of transactions when compared to production volumes of approximately $41.9 billion on 1,358 transactions for the full year of 2012.

The average transaction size for the full year of 2013 was approximately $36.5 million, or 18.5% higher than the average transaction size of approximately $30.8 million for the comparable period in 2012. It should be noted that there were two unusually large investment sales transactions, which closed during 2013. If we would adjust the 2013 production volume to exclude these two unusually large investment sales transactions, the Company’s adjusted full year production volume would have increased by approximately 24.8% as compared to the 2012 production volume of $41.9 billion and the Company’s adjusted average transaction size for 2013 would have increased by 11.1% as compared to the 2012 average transaction size of $30.8 million.

As for our headcount, HFF’s total employment reached a new high-water mark as a public company with 637 associates as of December 31, 2013, which is an 11% net increase from the year end 2012 employment level of 574. The increase in headcount is attributable to the addition of transaction professionals and associates in 15 of our 22 offices. The total number of transaction professionals increased 9.6% to 251 at year-end 2013 compared to 229 at year end 2012. With an average tenure of 17.7 years in the commercial real estate industry, we believe our transaction professionals are uniquely positioned to help our clients navigate these challenging and inefficient capital markets.

I’ll now turn the call back over to John for his concluding remarks.

John Pelusi

Thank you, Nancy. Our successes are directly tied to our clients and therefore we would like to thank each of our clients who continue to show their confidence in our ability to create and execute viable solutions for them as evidenced by the record number of more than 1,500 transactions, resulting in a record of $55.8 billion in transaction volumes consummated during 2013. Just as important, these results are testament to our associates as well, and therefore we would like to also thank each of them for providing superior value-added services to our clients.

Finally, in closing, I would like to thank our Board, our leadership team, our Executive Committee and all of our transaction professionals and each and every one of our associates for providing me the opportunity to serve them over the past 15 year as well as allowing all of us to serve our clients. As this is the final earnings call that I will have the pleasure presiding over given my announcement in November 2013 to voluntarily step down as the CEO, Managing Member of the Operating Partnerships as well as a voting member of the Executive Committee effective April 1, 2014, I’m highly confident in the abilities of my partners, especially Mark Gibson, Joe Thornton, John Fowler and the rest of the Executive Committee and leadership team to continue to build upon our successes as evidenced by the fact that they have been there shoulder to shoulder every step of the way since we all came together in 1998.

Operator, at this time I’d now like to turn the call over for questions from our callers.

Question-and-Answer Session

Operator

(Operator Instructions) And your first question comes from the line of Mitch Germain with JMP Securities. Please proceed.

Mitch B. Germain – JMP Securities LLC

Hi. Good evening, guys. I’m just curious about progress on the Philly office. I know it was announced late in the year, but obviously as we progress into the start of this year, I know you’ve got two people identified to run that office. John, is there any further progress we should know about?

John H. Pelusi, Jr.

We are very actively discussing positions with certain people in the marketplace, but at this point I’m not at liberty to talk about anything further. But as we make progress on that area I’m sure you will see press releases on that.

Mitch B. Germain – JMP Securities LLC

Okay. And with regards to hiring, is there any specific sectors that you’re targeting? Health care, triple net, anything like that? Or is there any common theme or just kind of across the board?

John H. Pelusi, Jr.

Mitch, it’s across the board. As we talked about in the past, I mean literally there is only a couple of offices that really are fully built out in terms of all the lines of business and product specialties. And even there we don’t believe we have enough market share where wouldn’t hire producers or transaction professionals. And frankly we’re very focused on filling in the holes that we have in our system because, as you know, when you have all the lines of business and all the product specialties it’s highly synergistic and it really does generate additional business across all of our business lines and product specialties.

Mitch B. Germain – JMP Securities LLC

Great. And then, can I get the rationale behind the special dividend in terms of the amount you selected? Is it kind of certain amount of cash you wanted to keep on the balance sheet? Any background on that?

John H. Pelusi, Jr.

Again as we stated and when we made the first one in December of 2012, there is really three tenants that we look at, both with the Board in terms of making a recommendation. The first is that we lived through 2008, 2009 and again relative to our public company peer set we were the only ones that didn’t issue dilutive stock, didn’t have to reissue or restructured debt. So we want to make sure we have enough money to withstand any downturn. Second is that we want to have enough dry power regardless of conditions, just like we did in 2009 when I think a lot of people still thought that there wasn’t light at the end of the tunnel, we saw the light.

We wanted to be able to invest in the business, so we are going to leave enough money dry powder to do that. When we get to that level then we are going to look at the strategic position of the Company, we are going to look at macro environments, and if we have excess cash at that point, we believe that money belongs to shareholders. And we are one of those shareholders, we still own more than 20% of the Company, and that’s how we ran the firm when it was a private company and that’s how we intend to run the firm as a public one.

So one could look at I think we’ve talked about this on prior calls, that you kind of want to make sure you have enough cash to support this business for a year 2008, 2009 was a long period of time where from 2007 to 2008 transaction volumes were up 75% nationally, not within our company. But and then they were off another 75%, so I think by and large, if you kind of look at those kind of things, I think you could pretty much figure out how we arrived at that number.

Mitch B. Germain – JMP Securities LLC

Great, thanks John. I’m going to miss you.

John H. Pelusi, Jr.

I’m going to miss you too Mitch, you could still call me though.

Mitch B. Germain – JMP Securities LLC

I will, thanks a lot, best of luck.

John H. Pelusi, Jr.

Thank you.

Operator

Your next question comes from the line of Brandon Dobell with William Blair. Please proceed.

Brandon B. Dobell – William Blair & Co. LLC

Thanks John. I think that statement as well it’s been good working with you, for sure.

John H. Pelusi, Jr.

I agree Brandon, you’ve been a good analyst and asked a lot of tough questions.

Brandon B. Dobell – William Blair & Co. LLC

That’s right answer, valid once in a while not that often, so that point maybe I’ll try and add some volumes, some value here as you guys look at as a production of volumes through the year and maybe compared to 2012, any upsize growth in the particular property type multi-family has been strong, but it’s still strong for you. And we’ve seen a particular acceleration and maybe certain markets and that’s where you really taking share with the particular market of property type and grew beyond your expectations in 2013?

John H. Pelusi, Jr.

Well, I don’t know that anything grew behind our expectations. I mean frankly we wanted to be number one in everything that we do, but when you look at our size relative to our peer set. We operate with way fewer people than the national public companies that we compete against. We happened to believe that we are the navy seals, the marines, the special forces we are not trying to be the army, we are not trying to be all things to all people, and I think when you get a chance to go through the deck that we put out there. You will see that we were the number two investment sales group on the multi-family front, just right behind CBs there is a big national competitor with a lot more people.

We are also the number two, investment sales group on the retail front and we are number one on that overall. So I think it was really it was cross all those things, almost all of our investment sales by property type were up from 12% and our debt business we’ve been historically the number one debt provider of the business since 1998. And that target continued to grow yet we were able to do that by roughly 19% from 2012 to 2013.

So fortunately for us, I think as we said on the call, I think funds flow into the sector both for debt and equity both domestically and foreigner globally are as keen as we ever seen it. I think asset class related to other asset class, again is something that I think all goes for well for the industry and then our business. I think the third thing is just the sheer amount of liquidity that’s available relative to the Federal Reserve. And even though they have started to taper still putting in $65 billion a month is still a lot of money coming into the system. As well as the global center banks, so I think it was really across all of our product lines and all of our business lines.

Brandon B. Dobell – William Blair & Co. LLC

Okay, you should add the color there, any expectation for the office level kind of profitability structure that you guys have in place kind of profit sharing structure to change going forward in the size of the company?

John H. Pelusi, Jr.

I mean, I think we’ve been pretty consistent, Brandon as you know, going back and look at our numbers I mean our office and firm profit participations are with our commission structures, are with all these stuffs has been fully disclosed and fully added in, if we are changing those things, that will be outlined in our Q’s and K’s and proxy statements, but I think it’s pretty much business as usual.

Brandon B. Dobell – William Blair & Co. LLC

Okay, maybe a quick one for Greg, and in terms of accounting on the 750,000 shares awarded, how do we think about that during 2014, I guess particular throughout the first quarter?

John H. Pelusi, Jr.

Well, I mean they were granted on January 30, so there will be an impact from that in the first quarter. We had unrecognized stock compensation expense 12/31, it’s a little over $1 million and a lot of that relates to the succession awards, the liability based awards, they were granted back in 2010 that will vest on that actually vested on March 1. So, as those drop-off these new awards will come on from an expense standpoint and they will vested over a five year period.

So and I think, you’ve got one slug of expense coming off and then this new award coming on so, there will be some difference we have to work through that as it relates to the differences between the mark-to-market based awards that are coming on versus the new ones coming on. The new ones coming on, will have a five year vest period and they will be not be liability based awards, so you won’t see a mark-to-market adjustment going forward relative to those.

Brandon B. Dobell – William Blair & Co. LLC

Okay, so, unlike the past 12 or 18 months where we saw the current quarterly fluctuates in the stock compliance probably that’s not going to be, so we got to attract your track at this time?

John H. Pelusi, Jr.

Correct, and now you have some of that impact in the first quarter, because as I said, this awards are vested on March 1, so you will see that at least in the first quarter, but going forward that is correct we won’t have that.

Brandon B. Dobell – William Blair & Co. LLC

Okay. And then final one in terms of mix of customers for you guys, I don’t remember exactly, if you guys disclosed, have not founded it yet in different slides, the mix of the types of customer that you guys work with, and so REITs, life insurance companies those kinds of things, would that mix change, and an awful lot you can see in your particular momentum from a customer type other than the debt origination of the investment sales part of the business, John.

John H. Pelusi, Jr.

Brandon again, it really that question it really depends on what you are selling and or financing. Clearly when you look at if you got a core, core plus assets it’s an major market, it’s going to attract the institutional equity in some of the REITs that have capital to spend, they have already raised even some debt or past equity issuance, versus when you get into a secondary market, you are probably more likely to see that be an opportunity fund and/or individuals or private capital.

So and on top of that it really depends on what the asset class is, so it’s difficult to see I know there are slides in there. Myra can maybe touch on it or Nancy. There are slides in there that show that we still maintain a very diverse client base. I don’t have the slide right in front me, but it talks about our top borrowers, our top sellers and then even combining the top 10 in each category and I believe those are relatively within the metrics that we’ve had over the period from 2007 to 2012.

And on top of that I believe that our top 25 clients – we did business with, I think 24 of them. So again we’re not the whole – any one particular client. Even now we did a number of very large transactions like the McCovey [ph] deal which was the GE deal, multi-housing that went to Blackstone and some other large deals that you’ve seen in our press releases.

Brandon B. Dobell – William Blair & Co. LLC

Okay. Appreciate it. Thanks a lot.

John H. Pelusi, Jr.

Great. And we’ll see you out in San Francisco later this month.

Brandon B. Dobell – William Blair & Co. LLC

Looking forward to it.

John H. Pelusi, Jr.

Okay. Operator, are there any more calls?

Operator

So there are no additional questions at this time. I would like to turn it back to over to you, Mr. Pelusi for closing comments.

John H. Pelusi, Jr.

Thank you. We appreciate you joining us today and we hope that you can join us again in a few months for our first quarter 2014 call. Thank you.

Operator

Ladies and gentlemen, that concludes today’s conference. Thank you for your participation. You may now disconnect. Have a great day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: HFF's Management Discusses Q4 2013 Results - Earnings Call Transcript
This Transcript
All Transcripts