BGC Partners, Inc. (NASDAQ:BGCP)
Q2 2016 Earnings Conference Call
July 28, 2016 10:30 AM ET
Jason McGruder - Director of Investor Relations
Howard Lutnick - Chairman and Chief Executive Officer
Sean Windeatt - Chief Operating Officer
Steven McMurray - Chief Financial Officer
Richard Repetto - Sandler O’Neill & Partners, L.P.
Patrick O’Shaughnessy - Raymond James Financial, Inc.
David Cohen - Kerrisdale Capital Management LLC
Welcome to the Second Quarter 2016 BGC Partners Incorporated Earnings Conference Call. My name is Christine and I will be the operator for today’s call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Please note that this conference is being recorded. I will now turn the call over to Mr. Jason McGruder, Head of Investor Relations. You may begin.
Good morning. Our second quarter 2016 financial results press release and a presentation summarizing our results were issued this morning. These can be found at ir.bgcpartners.com. Throughout today’s call, we will be referring to results only on distributable earnings basis unless otherwise stated.
Please note that BGC now presents distributable earnings revenues consistently with revenues recorded under U.S. Generally Accepted Accounting Principles, or GAAP. This mainly relates to the Nasdaq earn-out, which had previously been recorded as other revenues for distributable earnings, but is now recognized as other income under both methodologies. This change had no impact on GAAP results, and no impact on pre-tax or post-tax distributable earnings, although it increased margins and decreased revenues for distributable earnings.
Please see today’s press release for results under GAAP. Please also see the section of today’s press release including Distributable Earnings to find differences between other results for Distributable Earnings in GAAP and Reconciliation of GAAP Income or Loss to Distributable Earnings, for a revised definition of these terms and how, when and why management uses them.
Unless otherwise stated, whenever we refer to income statement items, we are doing so only on a distributable earnings basis. And the results provided on this call compare second quarter of 2016 to the year-earlier period.
For the purposes of today’s call, all the company’s fully electronic businesses are referred to as FENICS. These offerings include Financial Services segment, fully electronic brokerage products as well as offerings across in market data, software and post-trade solutions across BGC and GFI. FENICS results do not include the results of Trayport, which are broken out separately in today’s press release and presentation. This is due to Trayport sale to Intercontinental Exchange, Inc. in December of 2015. Also, Newmark Grubb Knight Frank is synonymous with NGKF or our Real Estate Services segment.
I’ll also remind you that the information on this call regarding our businesses that are not historical facts are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 as amended and Section 21E of the Securities Exchange Act of 1934 as amended. Such statements involve risks and uncertainties. Except as required by law, BGC undertakes no obligation to release any revision to forward-looking statements.
For a discussion of additional risks and uncertainties which could cause the actual results to differ from those contained in forward-looking statements, see our Securities and Exchange Commission filings including, but not limited to, the risk factors set forth in BGC’s public filings, including our most recent Form 10-K and any updates to such risk factors contained in subsequent Form 10-Q or Form 8-K filings.
I’m happy to turn the call over to our host, Howard Lutnick, Chairman and CEO of BGC Partners.
Thank you, Jason. Good morning and thank you all for joining us for our second quarter 2016 conference call. With me today are BGC’s President, Shaun Lynn; our Chief Operating Officer, Sean Windeatt; and our Chief Financial Officer, Steve McMurray.
BGC’s post-tax earnings increased by 13% to $80.1 million, this is our sixth consecutive quarter of year-on-year improvement in post-tax earnings. Our revenues this quarter were $652 million. Two non-operating items impacted the comparison of our revenues to last year. Our revenues would’ve been $21.7 million higher and above the midpoint of the range of our previous guidance, but for the change in how we present our Nasdaq income.
We now present our Nasdaq earn-out other income as opposed to other revenues. While this change had no impact on GAAP or distributable earnings, it does present our revenues as being lower, when in fact nothing at all has changed.
In addition, our top-line was reduced by the December 2015 sale of Trayport, which last year generated $17.8 million of net revenues. The $650 million of Trayport proceeds added dramatically to our significant dry powder.
Our continuing improvement in profitability is a result of the ongoing synergies with GFI, the growth of our real estate services company, Newmark Grubb Knight Frank, and the continuing strength of our high-margin fully electronic FENICS business. We expect our revenues and earnings to grow over time as we continue to invest our $899 million of liquidity and to reap the benefits from our recent acquisitions and front-office hires.
I am happy to report that our board declared a $0.16 qualified dividend for the second quarter, which is unchanged sequentially, but represents an increase of 14.3% percent year-on-year. At yesterday’s closing stock price, this translates into 7% annualized yield. In addition to our strong liquidity position, we expect to receive over $840 million in additional Nasdaq stock over time, which is not yet reflected on our balance sheet.
With that, I will turn the call over to Sean.
Thanks, Howard, and good morning everyone. Our Financial Services revenues were down by 7.3% to $390.9 million. This decline was predominantly due to the sale of Trayport, which we sold in December to the Intercontinental Exchange. We generated 26.1% year-on-year organic growth from our data, software, and post-trade businesses, excluding Trayport; as well as solid organic growth from our desks in energy, commodities, and credit.
Our profitability in the segment continues to improve and largely because the ongoing strength of our high-margin FENICS platform, which increased its quarterly top-line by 5.5% compared with a year earlier.
Our FENICS increases pre-tax earnings by 19% to $32.4 million, while its pre-tax margin expanded by 545 basis points to 48.2%. Our overall financial services segment increased its pre-tax earnings by 5.6% to $83 million, while its pre-tax margin expanded by approximately 260 basis points to 21.2%.
Overall segment profitability improved despite the sale of Trayport, which had pre-tax margins of nearly 45%. This is largely due to the growing percentage of revenues coming from FENICS and synergies generated from GFI. FENICS produced strong organic growth from its fully electronic credit and rates businesses during the quarter.
As we’ve continued to migrate hybrid and voice desks onto our FENICS platform, we now generate 25% of overall quarterly credit revenue from fully electronic brokerage, which is more than triple the percentage which is three years ago. We have also further expanded the FENICS customer base beyond our traditional clients in both fully electronic and rates products.
We believe that speed, straight through processing, diverse product offering and executing methodologies affect perfect anonymity, and deep liquidity can join businesses into a high-margin FENICs platform. We also continue to invest profitably in voice and hybrid brokerage.
We recently announced an agreement to acquire Sunrise Brokers. Sunrise has been voted overall, Number One Equity Products Broker of the Year, by Risk Magazine for the past nine years, and the top broker in, Equity Exotic Derivatives, for 13 years running.
Sunrise has approximately 135 brokers, generated approximately $90 million in revenues in 2015, and has grown its revenues and pre-tax profit for each of the last three years. We expect the transaction to be immediately accretive to BGC’s earnings per share, and to close by the end of the year, subject to the regulatory approvals, this acquisition will be perfectly into our plug-and-play model.
We expect Sunrise and the overall company to benefit as we combine their technology, and soon take the growth of their customer base, as they gain access to our platform, and make their infrastructure and back-office more efficient.
Turning now to our results for Real Estate Services, in UK; NGKF’s brokerage revenues increased by 8.3% to $207.3 million, while overall revenues grew by 6.3% to $254 million. This improvement was led by an almost entirely organic 35.2% increase in revenues from high-margin real estate capital market brokerage.
We believe that we gained significant market share in capital market as we easily outpaced relevant industry metrics. During the quarter, NGKF acquired the CRE Group, a real estate services provider focused on project management, construction management, as well as energy and environmental design consulting. We expect this addition to bolster our existing national program management platform as part of the Global Corporate Services business.
Historically, newly hired commercial real estate brokers tend to achieve dramatically higher productivity in their second year with the company, although we incur related expenses immediately. Therefore, our net new 113 real estate brokers increased their near-term expenses, but significantly improve our forward outlook. Investment in this revenue growth is primarily while our pre-tax was down by 14.6% to $25.5 million.
As our recently hired brokers get up to full speed, we expect NGKF’s revenues and earnings to show strong improvement in the second-half of 2016. Although, we believe industry-wide brokerage was challenging in the U.S. for the first-half of the year. We continue to expect our Real Estate Services business to dramatically outperform that the overall industry the full year of 2016.
With that, I’m now happy to turn the call over to Steve.
Thank you, Shaun, and good morning, everyone. This was the first quarter in which our results include those of GFI to the entire year earlier period.
BGC generated consolidated revenues of $652 million, down 2.6% compared to the prior year. Our revenues from the Americas were down by approximately 1%; our revenues from Europe, Middle-East and Africa were down by 3%, and Asia-Pacific revenues decreased by 10%.
With respect to expenses, because the Nasdaq earn-outs and related items are now recorded as part of other income rather than as revenues. But compensation and non-compensation expenses increased as a percentage of revenues. Because, there is no cost associated with the earn-out, this change in presentation have no impact on earnings with increased margins, all else equal.
Our compensation expenses declined by 1.2%, although the ratio ticked up to 63.6% versus 62.7% a year earlier; this was largely due to the significant hiring on Real Estate Service that Shaun just discussed. In general, full service commercial Real Estate Service spend typically of high compensation ratios, but lower non-compensation ratios than financial services firms with fully electronic businesses.
Non-compensation expenses decreased by 6.2%, while the non-compensation ratio declined by approximately 90 basis points to 25.3%. Overall expenses decreased by 2.6% to $579.6 million. Our pretax earnings before non-controlling interest in subsidiaries and taxes were up 6.7% to $93.9 million. Our pretax margin expanded by over to 120 basis points to 14.4%.
BGC’s post-tax earnings were 13.2% to $80.1 million. Our post-tax earnings margin was 12.3%, an expansion of more than a 170 basis points. Our post-tax earnings per share were unchanged at $0.19.
We expect our overall margin to continue to improve, as our recently hired real estate brokers ramp-up production and as we generate a greater percentage of Financial Services revenues from the higher-margin FENICS platform, as well as realized synergies like the GFI. With respect to our target of $100 million in expected annualized cost synergies like GFI, we are happy to report that we have achieved this target two quarters early. We now expect to achieve an additional $25 million in annualized cost savings, bringing the total savings to $125 million by the end of 2016.
BGC had a fully diluted weighted-average share count of $437.3 million for both distributable earnings and GAAP. A year earlier, our weighted-average fully diluted share count was $386.5 million for distributable earnings and $366.8 million on the GAAP. Our GAAP share count in the prior period was lower, because it excluded certain share equivalents in order to avoid anti-dilution.
The share count increased primarily due to 23.5 million shares issued related to the GFI back-end merger, as well as to shares issued with respect to various other acquisitions, front-office hires, employee equity-based compensation, and general corporate purposes. This was partially offset by the redemption and/or repurchase of 8.5 million shares and units at a cost to BGC of $74.5 million, or an average cost of $8.73 per share during the first-half of 2016.
As of June 30, 2016, our fully diluted share count was $440.4 million, assuming conversion of BGC’s 4.5% convertible senior notes into 16.3 million shares. Subsequent to quarter end, these convertible senior notes matured and were retired for $159.9 million in cash and approximately 7,000 shares of BGC’s Class A common stock, these retirements had the effect of reducing the share count by just under $16.3 million.
Moving onto the balance sheet, as of quarter end, the company’s liquidity, which we define as cash and cash equivalents, marketable securities, securities owned, held for liquidity purposes, less securities loaned was $899.1 million. Notes payable and collateralized borrowings were $1,132.2 million, book value per common share was $3.07 and total capital, which we defined as redeemable partnership interest, non-controlling interest in subsidiaries and total stockholders’ equity was $1,208 million.
In comparison, as of December 31, 2015, the company’s liquidity was $1,026.1 million, notes payable and collateralized borrowings and notes payable to related parties were $840.9 million, book value per common share was $2.56, and total capital was $1,299.7 million. The decrease in BGC’s liquidity since year-end was primarily related to the $111.2 million payable with respect to the GFI back-end merger and related transactions.
Cash used to the redemption and/or repurchase of 8.5 million shares and/or units, net, at a cost to BGC of $74.5 million. Cash used to pay previously accrued year-end taxes and employee bonuses. And significant amounts invested with regard to new front-office hires in Real Estate Services.
These items were partially offset by net proceeds from BGC’s recent $300 million senior notes offering. It is important to note that our balance sheet does not reflect the expected receipt of over $840 million worth of additional Nasdaq stock over the next 12 years. But these shares are contingent upon Nasdaq generating at least $25 million in gross revenues annually.
Nasdaq undergoes a change of control, we would get paid all at once. To put the $25 million contingent in context, Nasdaq has recorded more than $1.5 billion in gross revenues for each of the last 10 years, and generated gross revenues of approximately $3.4 billion in 2015.
With that, I am happy to turn the call back over to Howard.
Thank you, Steve. Our outlook for the third quarter 2016 compared with the year earlier is as follows.
We expect to generate revenues of between $655 million and $695 million, compared with $685.3 million, which last year included over $19 million related to Trayport. We anticipate generating pretax earnings of between $99 million and $115 million. This compared to $99 million last year, which over $8 million was attributable again last year in Trayport.
We expect our provision for taxes on distributable earnings to be in the range of approximately $15 million to $17.5 million. We also expect NGKF performance to be much stronger in the second-half of 2016 both sequentially and year-on-year, due to the significant and recent ramp up of our real estate broker headcount. We also anticipate updating our outlook towards the end of September.
So operator, we’ll now like to open the call for questions, please.
Thank you. We will now begin the question-and-answer session. [Operator Instructions] Our first question comes from Richard Repetto from Sandler O’Neill. Please go ahead.
Yes. Good morning, guys. I guess the first question is the incremental cost saves the $25 million by the end of the year, how would you see? I guess, where is that just more savings that you have uncovered a GFI or could you get more specific on what areas they might come out of?
Well, I think, it comes from the consolidation of the business across the platform. It’s really the combination of BGC, with GFI, I think, we straightened our desks. Demonstrably, and therefore, I think, we’re getting cost savings in broker competition. We’re getting cost savings in technology and integration of their systems and ours. And the more we got into the business, the more we like the producers, the more they blend well together, and the better we’re able to get synergies out. So you’ll see it in decreased in compensation and you’ll see it decreased in technology costs.
And will it continue help you expand FENICS margins as well?
Yes. Well, the drive to FENICS is just coming. So that is just a part of this 10% [ph] and we expect as the technology cost come down, as we said, you saw it jump in this quarter, but you’ll see that we expect our FENICS margin to get up to 50% at least, as we’ve said before. And we are on the march towards there as our technology cost come down, you will see those margins continue to expand.
Okay. And then, there were a couple of reporting changes, one that Newswire get wrong on the top line revenue with the Nasdaq earn-out moving down. But you also in the guidance, you also guided to an absolute value now I think, $15 million to $17.5 million for taxes. Was there a reason why you went to that method versus the prior method, you’re saying 15% tax rate.
I think, I’m just more precise. And so we decided - we’re doing an annual examination of tax now, and we can give a more precise range. So we felt being just put out the number and make it easier for you to put in your model.
Yes. So no changes in tax rate expected going forward or anything like that.
No. If you put those numbers together, you see pretty much very inconsistent where we’ve been. But that’s the tax we expect to pay and not if you could prepare yourself against the earnings we expect there.
Right. Okay. And then I guess, my last question how is - the progress on this strategic goal of unlocking shareholder value. Can you update on how is that. I would still - I would think, it will still be a priority of yours, I would imagine.
It is definitely a priority. When I attended your conference, I said we only talk about it every day in that, because I was with you in the afternoon. We have talked about that that morning. But unfortunately since, this is a morning call, I haven’t had a chance to talk about it, but it matters to us a - it is fundamental unlocking shareholder value. We are growing FENICS. We are growing our real estate business and those two are highlighted in ways that we can unlock shareholder value. And I would just say stay-tuned.
Okay. And if I could sneak one more in - I know you - as you express very specifically expect to outperform significantly outperform in the overall industry and real estate. But could you give us an updated - an updated outlook of what you expect in the back half industry wide for real estate?
Well, I think the market has been challenged. I think, the expectation, I think, the positive expectation for most of the industry is flat. I think, and that’s a best. I think, it may well be down a bit and we have said we will significantly outperform it. And we expect - so we expect to be up. A good example was you saw our capital markets number this quarter up 35%. We are adding people and we are growing and when we add new people they tend to not get the mandates for us. It just take some time, and I think, you’re going to see the back end of the year be just better for us than everybody else. And then I think, next year is bodes very well as well.
So I think, flat down a bit for everybody else over the industry at large. And I think, we should do - it will be up. We will - we expect to be up strong.
Understood. Thanks. Thanks, Howard. Very helpful.
Thank you. Our next question comes from Patrick O’Shaughnessy from Raymond James. Please go ahead.
Hi, good morning, guys.
So, Howard, not to belabor the point, but last quarter you were pretty specific about quantifying your relative outperformance in commercial real estate. I think, you said outcurve the industry by 15% and that’s - you said the quarter before. Do you still feel comfortable of that level of outperformance or you maybe scaling back some of your near term expectations?
We feel really good about our outperformance. It’s just, I’m not sure how the market overall will perform, not us. We are - we feel great about it. So I’m not changing how I felt before. I just, I’m not sure how the market will be, before I used to say 0 to up 5%, now it’s flat maybe it’s down 5%, the industry overall, those kind of challenges - our challenges the industry faces, but we will outperform. And then, we remain as confident this quarter as we were then.
And when you say the industry may be flat to down 5%. Are you specifically referring to just the U.S. region? Because obviously, a lot of the big competitors have large European franchises and some Asian franchises and I think Brexit is kind of thrown some things for a loop, but you guys don’t have the exposure. So are you kind of giving the relative comp of just kind of U.S. performance by your peers?
Okay. And then speaking with commercial real estate, what’s the M&A environment, like, because as you look at the Jones Lang, LaSalle or CBRE, it seems like they announce an acquisition every two weeks. So you guys have obviously bought some properties as well. What’s the valuation environment like right now. And how do you effectively bid against some of these deeper pocketed competitors?
I think, we understand that as you’ve seen BGC grow, we understand what makes our business tick and how the puzzle pieces fit together. I think, we - as you know, we buy accretively, we hire and acquire accretively. And we know how it fits together, so there are lots of opportunities. And we said a year-ago, we were going to - that we were under sizing capital markets in the selling of buildings and we were going to dramatically increase that.
And you’ve seen our percentage growth has been significant, serious and - just curiously better growth rates than our competitors. So I think, that is an area where we will do very, very well. And it’s an area that we can grow but the others can’t. When you sort of have a reasonably good platform sort of everywhere. You can’t really rock the boat. Whereas for us, we can hire the best of breed everywhere. And that’s what we’re doing and we’ve hired spectacular people across the country and they want to be part of our platform and so being relatively smaller means, you can make move than other people can’t. We just can and so I think, we’ve got lots of growth ahead of us in capital markets.
And then, you’re going to see us turn to the service side of the business. And we are - if you compare us to the others, we are again demonstrably undersized, which means well, these guys can really, really grow in places that other people are pretty good. And therefore, they can’t really make a move, where we can make a huge move. And so I think, you’re going to see capital markets continue to grow and that’s a much higher margin business. And I think that will be great.
And then, you’re going to see us turn our attention to the service side of the business, property management, facilities management. And you’ll see big growth there. So we’ve got a long runway ahead of us. And we feel good about it. And it’s just, we have a different set of cards mandating than they do. And there are lot more moves that we could make that win for us, as opposed to others. And I still think even at BGC, all the energy complex is a place commodity complex. These are places that we can grow, where the other guys already have big places and so they can’t really grow it. And up we go and you’ll see our commodities and energy complexes be really nice growth. Not just areas for us to grow that all our opportunity that may not be others, and we are in a good spot.
All right. And you kind of led me to my next question. So it looks like, ICAP is going to have to divest its oil trading desk to sell it’s voice brokerage business to Tullett. Is that a property that you would be interested in.
All right. I want to discuss your bond issuance this past quarter. I think, it might found the category of there’s no such things having too much cash. But you guys already have a fair amount of liquidity. What was the rationale behind raising more in proceeds and you had to use to pay down that convertible?
We are being presented in front of us sort of Sunrise is an example. The strength of the platform across real estate and financial services. And the scale by which we were able to produce value from combining BGC, with GFI has led us to really have a good view on what we can achieve with acquiring other companies and how we can drive value to the bottom line in ways that other people cannot. I mean, GFI is a perfect example to suggest that together with BGC, we could take a $125 million of expense, out of that company combining it with ours. This changes the landscape of what is value for us as opposed to value for others.
And I think, we are in just an excellent position to examine and consider other deals and having scale and scope to be able to execute those kind of transactions is going to matter. It’s what matter to us to buy GFI, it will matter to us going down the pipeline. We have really good opportunity, because we now scaling real estate and we have scaled at financial services, and we can take cost out of other companies that other people just cannot. So I think, the answer is, with just the great opportunity ahead of us, we see a great run rate and we wanted to make sure that we have the capacity to execute when it’s presented to us. As we did with GFI, and I think, as we will do going forward.
Got it. And then, last one for me. I think in your press release you did not disclose the purchase price for Sunrise. Are you able to disclose that at this point? Or are we going to have to wait for a regulatory filing?
Yes, we’re not - yes, we haven’t chosen to do that now.
All right. Great, thank you.
Thank you. [Operator Instructions] Our next question comes from David Cohen from Kerrisdale Capital. Please go ahead.
Two questions, first on the real estate, the NGKF results. The management services revenue seem to decelerate rather dramatically, particularly comparing the results from the previous quarter. It’s very rare, I guess, in this business to see a downtick unless things are really bad. Can you guys talk a little bit about that?
Sure. Nothing of consequence changed with respect to the overall company, meaning that, I haven’t participated in any conversation where anything happened. I think, we’ve acquired a number of companies and when you examine those companies and you examine the economics of how they do their business, many companies operate differently than we do. Many companies do think that are not economical because they need to present themselves with a certain scale or size. That’s just not the way we do things.
And so, when we buy a company we tend to initially rationalize and understand their costs and make sure their revenues are sensible to us. So the first move when we buy a company often can be a decline in revenues, because we don’t like the math of it all. And then we go and build the business going forward. So nothing is really changed, although we did rationalize some expenses and made some of that we think will improve our margins going forward.
So is it fair to say that the management services’ revenue declined as a function of decline in revenue from properties, from companies that you’ve acquired?
It’s all right, thank you. The next question I wanted to ask was about the share count and earnings growth. This has been something that I’ve talked to you guys about for a little bit. How do you guys think about growing the share count versus growing earnings? We’re still growing earnings this quarter, which were pretty much 100% taken up by the increase in the share count, which I guess goes to comp. And then, we don’t have any problem with compensation being issued as shares. So how do you guys think about the split in earnings growth between comp and shareholders?
We think about earnings per share. That’s what we think about. We think about moves that are accretive. That’s what our management thinks about. The employees are large holders of the company, management a large holder of some of this company, that’s what we think about. So we view the company as a marathon, not a short-term race.
When hiring new brokers, cash would be far cheaper to hiring them and paying them in shares. And we agree with you, we’d rather pay them in cash and we have the cash. But the fact is, by paying them in equity we get retention value when their contracts expire. So in five years from today that will be a great move, but over the next five years you’d say that was expensive. The beauty of that is five years ago we did massive hiring.
Five years ago, we did a significant amount of hiring. And therefore, that retention value and the appreciation of our shares will go lower over compensation ratio over time. Before we had the real estate business that was really clear, I think you will see it present itself in our real estate business again, which is over time by having our employees have equity we can drive down our compensation ratio and drive up our earnings per share.
So when you’re hiring new people they’d rather have cash. We’d rather them have stock for the long run of our company, but obviously the near-term financials - we’d of course rather pay them in cash. So we have a long-term view of the company. And we think it is going to produce enormous value to us. So that’s how we balance it, but always with an eye towards increasing our earnings per share, anything else’s is silly.
Got it, so would you say that most of the share count increase is a function of hiring in the a real the division?
Well, the share count also came from the back-end merger, obviously with GFI, so it goes from…
I mean, the shares excluding the GFI merger.
I would say, yes, they are - the majority of it would be hiring in the real estate space new brokers.
Got it. Thank you.
Thank you. I will now turn the call back over to Mr. Howard Lutnick for closing comments.
Well, thank you very much. I think we feel really good about our place. I hope that is clear on the call. Lots of opportunity out there and we look forward to speaking to your again about our quarter, as we move forward. Thanks everyone for joining us. And we’ll speak to you soon.
Thank you. And thank you, ladies and gentlemen. This concludes today’s conference. Thank you for participating. You may now disconnect.
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