Lazard Inc (LAZ) 2014 Q3 法說會逐字稿

Good morning and welcome to the Lazard third quarter 2014 earnings conference call. This call is being recorded.

(Operator Instructions)

At this time I will turn the call over to Judi Frost Mackey, Lazard's Director of Global Communications. Please go ahead.

Good morning and thank you for joining our conference call to review Lazard's results for the third quarter and first nine months of 2014. Hosting the call today are Kenneth Jacobs, Lazard's Chairman and Chief Executive Officer, and Matthieu Bucaille, Chief Financial Officer.

A replay of this call will be available on our website beginning today by 10.00 am Eastern Time. Today's call may contain forward-looking statements. These statements are based on our current expectations about future events and are subject to known and unknown risks uncertainties and assumptions. There are important factors that could cause our actual results, level of activity, performance or achievement to differ materially from those expressed or implied by the forward-looking statements.

These factors include but are not limited to those discussed in Lazard's filings with the Securities and Exchange Commission including our annual report on Form 10-K, quarterly reports on form 10-Q and current reports on Form 8-K. Lazard assumes no responsibility for the accuracy or completeness of any of these forward-looking statements. Investors should not rely upon forward-looking statements as predictions of future events.

Lazard is under no duty to update any of these forward-looking statements after the date on which they are made. Today's discussion may also include certain non-GAAP financial measures. A description of these non-GAAP financial measures and their reconciliation to the comparable GAAP measures are contained in our earnings release which has been issued this morning.

For today's call we will focus on highlights of our performance. The details of our earnings can be found in our press release issued this morning and in our investor presentation of supplemental information both of which are posted on our website at www.Lazard.com. Following their remarks, Ken and Matthieu will be happy to answer your questions. I will now turn the call over to our Chairman and Chief Executive Officer, Ken Jacobs.

Thank you. Good morning. Lazard achieved strong results in the third quarter and first nine months of 2014 with record operating revenue in both periods. We had solid performance across both our businesses. In financial advisory we are in an excellent position as the M&A cycle develops.

The characteristics of this cycle play to Lazard's strengths, strategic transactions, cross-border activity, complex regulatory or political hurdles. These types of transactions require a firm with depth and breadth of expertise, global scale and senior-level relationships at the local level, traits that define Lazard. Our M&A advisory activity is growing across regions and sectors.

We have gained market share globally and in each major region, notably in Europe. Worldwide, we are advising on nine of the 20 largest M&A transactions announced this year, pending or completed. Six of the nine are cross-border. In the third quarter new transactions included Walgreens acquisition of Alliance Boots, Burger King's combination with Tim Horton's, 21st Century Fox's sale of satellite television holdings to BSkyB and Siemens acquisition of Dresser-Rand.

Our sovereign and capital advisory services remain active globally advising governments and corporations on balance sheet matters, capital raising and privatizations. In asset management institutional investors around the world continue to turn to Lazard for solutions to their complex investment needs. We achieved our fifth consecutive quarter of net inflows with $2.6 billion in the third quarter.

Net inflows were diverse across platforms with particular strengths in emerging market debt, emerging market equity and multi-regional strategies. Our RFP pipeline remains healthy reflecting demand from institutional investors globally. We continue to expand our investment offerings with recent mutual fund launches in fixed income, multi-regional and global strategies.

Asset management continues to have solid fundamentals with leadership in growing asset classes across equities and fixed income, a strong pattern of long-term performance and platforms with significant capacity for organic growth. As we've said before, we don't read too much into any one quarter's results, because advisory fees end markets fluctuate. However, this is our fourth consecutive quarter of record operating revenue which demonstrates the strength of our business.

Our performance reflects clients' growing demand for trusted advice and investment solutions with global expertise, the unique breadth and depth of the Lazard franchise, the investments we've made in our businesses and the work we've done to drive efficiencies and enhance operating leverage. Matthieu will now provide color on our financial results and capital management.

Thank you, Ken. Operating revenue increased 19% for the third quarter and 20% for the first nine months of 2014 compared to the 2013 periods. Adjusted net income increased 44% and 61% respectively reflecting the substantial operating leverage in our business model.

Revenue growth reflected strengths across our businesses. Financial advisory operating revenue increased 24% for the third quarter and 27% for the first nine months of 2014 compared to the 2013 period. The increases were primarily driven by M&A and other advisory which was up 37% and 38% respectively and achieved a record level for the first nine months of 2014.

Asset management operating revenue increased 16% for the third quarter and 14% for the first nine months of 2014 compared to the 2013 periods. Management fees reached an all-time high in the third quarter up, 15% compared to the 2013 period. On a sequential basis management fees grew 2%. At quarter end our AUM was $198 billion, 12% percent higher than one year ago.

Sequentially from June 30, 2014 AUM decreased 3% or approximately $6.9 billion primarily due to the impact of foreign exchange adjustments of $8.3 billion and market depreciation of $1.2 billion. This was offset by $2.6 billion of net inflows. As of October 21 AUM was $195 billion, down $2.6 billion from September 30. The decline was driven by market depreciation of $4.4 billion partially offset by positive foreign exchange adjustments of $1.4 billion and by net inflows of $0.4 billion.

Turning to expenses, in the third quarter we continued to accrue compensation at a 58.8 % adjusted compensation ratio, down from a 60% accrual ratio in the third quarter of 2013. The full-year 2014 ratio could be lower depending on actual full year performance and the compensation environment at the end of the year among other factors. Our adjusted non-compensation ratio for the third quarter was 18.8%, compared to 19.7% for the third quarter of 2013.

For the first nine months the adjusted non-compensation ratio was 19.1% compared to 21.3% for the same period in 2013. The increase in our nine-month non-compensation expenses primarily reflect higher level of business activity and investments in our businesses. Our tax rate for the third quarter of 2014 was 21%, in line with the first two quarters of this year. Finally, regarding capital management, year-to-date as of September 30, we have returned $387 million to shareholders primarily through dividends and share repurchases.

As we reported last quarter, we have more than offset the potential dilution from our 2013 year end equity grants. We continue to seek opportunities to return capital to shareholders and to manage our debt. We remain focused on our 2014 financial targets as we continue to invest in our businesses and maintain discipline on expenses. Ken will now conclude our remarks.

Thank you, Matthieu. A word on outlook. The US economy continues to be resilient. Boards and CEOs are generally more confident than they have been since the crisis. Europe's recovery continues to be uneven.

Some volatility has returned to the capital markets, but the underpinnings of a gradual US-led global economic recovery remains in place. We are cautiously optimistic about the environment for both of our businesses, and we believe Lazard is in an excellent competitive position worldwide.

To summarize this quarter's highlights, strong quarterly first nine-month and LTM growth across our businesses; strong M&A activity in the US, Europe and cross-border; strong gross and net inflows and asset management; solid earnings growth reflecting increased productivity and operating leverage; high quality earnings and significant cash generation.

Both our businesses have substantial capacity for increased activity and organic growth, and we remain focused on serving clients well as we build long-term value for shareholders. Let's open up the call to questions.

Thank you.

(Operator Instructions)

Devin Ryan, JMP Securities

Good morning, everyone. Thanks for taking the questions.

Sure. Hi, Devin.

Maybe just coming back, Ken, to your remarks around the geographic outlook and trying to get a little bit more perspective or color around the trends that you are seeing in the US and if there's any diversions relative to Europe. And I guess just more broadly how are you guys feeling about the potential for Europe right now, has anything really changed recently in conversations just given some of the recent growth concerns?

Sure. Just in relation to our own performance we've had a very good first nine months in both Europe and the US, and I'd say in Europe in particular, I think we've outperformed the market both in terms of announcements and I believe completions. And our market share position in both geographies is quite strong right now. As I've said before, the M&A cycle is a function of confidence or sentiment, valuation and financing.

Financing remains at all-time low levels, and availability remains high. Valuations probably a little less stretched today than they perhaps were a few weeks back but still relative to growth prospects okay. Importantly, sentiment, there we've seen a general recovery since the crisis both in Europe and the US, but needless to say periods of volatility have impacts on sentiment. And the real question is this weekend volatility over the past couple of weeks or so whether or not that persists and for how long.

We've seen some improvement in the last week or so which is a good sign, but markets are not made in days. They are made in periods of time, and so we're keeping an eye on it.

Okay. Thanks. That's helpful color. And then with respect to production, SM -- your managing director average revenues are around $8 million, and so we're still a little ways away from the 2007 peak of around $9.5 million or a little above that. But you're operating at what I would still say is a pretty good level. I'm assuming some of that can be attributed to the targeted headcount reductions that have occurred, but I'm trying to get some perspective around the potential upside that you think in production and capacity of your bankers, and then if you can tie that into how you see incremental margins. Is there a lot of incremental margin room for improvement just based on better production?

Sure. Number one, you're right. We've seen an increase in productivity over the course of the last year or so which is a function of I think just overall improved performance. Second, I don't think I would look at the 2007 productivity levels as a cap for the business in part because 2007 was kind of a nine-month year. If you remember things got pretty rocky in the fall of 2007, so I think we still have room above that number.

And then the other factor is I just think we have probably the deepest and best group of partners that we've had ever at Lazard right now. And so, therefore, I think there's still room for some significant productivity growth in our business. And then with regard to margins and such, obviously increased productivity leads to better margins over time.

We remain highly focused on our 25% margin for this year. And it helps that we're getting productivity gains.

Okay. Great. I'll leave it there and hop back in the queue. Thanks.

Thank you.

Ashley Serrao, Goldman Sachs -- Credit squeeze

Hi, guys. It looks like inflows in asset management actually picked up as the quarter progressed. So, one, is that a fair characterization, and, 2, you noted that the RFP pipeline is healthy. But I was hoping for any color on how institutional investors today are balancing under allocation to EM as an asset class was just a recent volatility that you've seen over the past few weeks?

Well look for the quarter we had about $2.6 billion of inflows, net inflows across asset management. It was pretty balanced across products for us. And generally our experience is on the institutional side of the business there's less volatility associated with big market moves or this recent exchange rate move.

And we continue to see strong RFP interest as Matthieu noted in his remarks. Clearly, as I said earlier, if there's a very high period of volatility, you always have to be a little cautious in terms of your comfort. But again things have calmed a bit in the last week or so, and we watch that pretty carefully. All in all the institutional -- our institutional clients and -- remain relatively under allocated in some of our core strategies, EM and international, which helps us offset any of the flow -- general flow issues in the market.

Okay. Thanks for the color there. Just sticking with asset management, this year you've invested heavily into franchise. You opened a bunch of offices and launched a few strategies which is nice to see. As you stand here today what opportunities are you contemplating as we look ahead?

Look, on the asset management side, you're right. We probably upped the investment in asset management this year, because we've seen some opportunity for broadening some of our distribution capabilities but in particular also some investment strategies particularly with regard to the Middle East. So that's been -- and that complements our overall emerging market franchise, and so that's been something that we have focused on.

But we've also remained strong on investing in the advisory side of the business. In this recent quarter we announced three hires in our Lazard's middle-market franchise and a couple others in the overall franchise. And also we've probably invested a little bit more than we have in the past in some of the junior resources as activities picked up to make sure we have the capacity to supported at those range.

So overall this has been a pretty good year for investment. At the same time we're trying to drive margins to our targets. And we're pretty confident about that.

All right. Thanks for taking my questions.

Thank you, Ashley.

Alex Blostein, Goldman Sachs

Hi, guys. Good morning. So, first question around capital management, clearly the franchise is growing nicely. Margins are hopefully improving this year, and you guys generate a significant amount of cash as a result of that. Can you maybe help us understand a little bit better the philosophy around things like special dividends, dividend increases, pickup on the buybacks, because it does feel like you guys will have a fair amount of excess cash towards the end of the year?

Sure. Just to remind everyone, we are -- we have a real focus on cash generation or cash conversion, that is earnings into cash flow. Roughly it runs at about 110% of our GAAP in awarded net income which at this point are about the same -- in fact, for this quarter were almost identical. And in recent years we've delivered at least that back to shareholders over the course of the year, and my guesses were going to remain focused on that.

Four ways to do that for us, repurchase, debt management, dividend and special dividend. To date we've more than offset the dilution associated with the share grants through repurchase. Obviously we raised dividends at the end of last year. We remain very focused on debt management as we were last year.

And needless to say, if we find ourself with a large cash balance at the end of the year because of improved results, we are going to give real consideration to special dividends or additional share repurchase we have done in the past.

Got it. That's helpful. And then second question just as we approach year-end and certainly not asking you guys to provide any specific guidance, but when we think about compensation and more importantly the composition of it as we approach year-end, in the last couple years I think deferrals were somewhere in the 15% to 16% range of total revenues. Is that how we should approach this year as well, and I was just kind of hoping to get broader thoughts. Should we think of that as a percentage of revenue figure, a percentage of total bonus pool figure? How does that get determined?

I think the simplest way to look at deferrals at least the way we track it is to think of it as a proportion of the overall compensation pool. And there we've been running at around about 25% or so for the last several years, slightly less than that, but that's generally the range. And one of the things we said when I took over was that we were going to stay very focused on keeping that at a consistent level.

Got it. Thanks so much for that.

Thank you.

Brennan Hawken, UBS

Good morning. How are you doing? Thanks for the questions.

Sure.

Following up on Alex's question there on capital return, can you help us understand why we didn't see any buyback here this quarter? Any reason?

Well, first of all we've been actively repurchasing shares certainly in the earlier part of the year to offset the dilution, and there were some additional repurchases beyond that. I think your question probably is geared towards this recent volatility and share price associated with that. That happened to occur during a blackout period for us.

Okay. But even considering the volatility the buyback seems kind of low. It was pretty much nothing. Was there any reason for that?

Look, we have always said that our first goal on the repurchase is to offset any of the dilution, and we set out to do that early in the year this year, And we did some additional repurchases beyond that, but we have multiple ways of getting capital back to shareholders, and again obviously some of it is -- can be in the form of debt management, dividends and special dividends. And if you look at what we've done in the recent past I don't think the trend is that different.

Okay. Cool. On investments I think that might have had a bit of an impact on your non-comp. So how much of the investments that you guys are making are going to become part of that run rate? And if we're thinking about you guys investing on the non-comp side as we prep up for the fourth quarter and the comp true up, should we think about some of those investments flowing through on the comp side next quarter?

Look, I guess the question is really geared towards our focus on the 25% margin. All I'd say there is we remain highly focused on that. Obviously it's going to come from some improvement in comp and some improvement in non-comp over the course of the year. We've already seen at least on the nine month basis a pretty substantial drop in non-comp expense from I think it was around 21.3% to about 19.1%. And in this latest quarter I think we just went below 19%. So the trends have been pretty good on non-comp in spite of some pretty aggressive investing between on the asset management side over the course of the year.

Okay. And then thinking about the asset management business, FX was clearly a big headwind for probably the performance and the move in AUM. How do your clients look at that? Do they look at performance on a constant dollar basis or do they look at it including the FX swing? Just trying to think about it appreciate the clients perspective on your performance in the asset management business?

Okay so first generally asset management -- institutional asset management invests on an unhedged basis, so they don't really pay you for taking out any of the foreign exchange volatility through hedging strategies and such. They will probably do that themselves, or they look at it over a cycle. So that's one observation. And the second observation is we have clients around the world, so not everybody is a dollar investor.

We have significant client base in Europe and Australia and Asia, and so consequently you really probably have to look at where the institution is to see what the impact is. So while our AUM has obviously been impacted by the move of the dollar, it's not necessarily the case that that is going to be the impact to the institutional investor that is based in Europe or in Asia.

Sure. That's fair. And last one tax rates have been kind of low or certainly lower than I had expected. And you guys I think have guided to picking up next year. Is there something specific coming connected to that guidance, or is it just your expectation for how revenue -- geographic breakdown of revenue? Why should we think about tax rate picking up so meaningfully next year?

Look, we've given a point of view that we expect tax rate to be in the mid-to high 20%s next year. We are still sticking with that. It's a function of a couple of things, probably most importantly that some of the benefit that we've gotten from some of the historical NOL starts to rolloff as we have had several periods now of pretty significant profitability. And so that will have -- that's what we expect will start impacting the tax rate next year. And then obviously the actual tax rate next year will be a function of the mix and overall activity to revenue levels.

Of course. Thanks a lot for the color.

Joel Jeffrey Keefe, Bruyette & Woods

Good morning guys.

Hi, Joel.

Just thinking about the asset management business, in fourth-quarter you guys have historically had pretty strong incentive fees. Just wondering if the recent volatility potentially could put those in jeopardy and any thoughts around that?

Yes, I think there's risk around the incentive fees in the fourth quarter. The sell off in the market and the movement in currencies has probably taken out -- has taken out some of the upside potential and return in the hedge fund businesses which is where most of the incentive fees are concentrated. And if we're -- if the market stays where it was last week at those levels, then there's probably not much in terms of incentive fees for the fourth quarter, but it's largely a function of the markets.

And needless to say we have a kind of low [ball] hedge funds so they are not going down as much but they are also not going to capture as much of an upside movement in the market, so I think your observation about fourth-quarter incentive fees is probably accurate.

Okay and then just in broad terms thinking about the M&A markets as they stand today. Clearly announced volumes are up and even the number of deals appear to be up, and it seems M&A is improving. Just wondering what you guys hearing from your clients who are still sort of sitting on the sidelines and M&A? What's their major concern at this point?

Opportunity set, perhaps valuation occasionally and sentiment, those are probably the three things that from time to time come up. The thing about strategic transactions are it's a little different than last cycle where things happened with financial investors which can happen very quickly and in short periods.

I think with strategic transactions they take longer to unfold, and in addition to that they are very specific to targets. And so consequently I just think this cycle probably takes -- because of the strategic driven, it probably takes a little longer to unfold. May last a little bit longer as a result of that, but it's going to be probably a little bit more tied to the sentiment and valuation factors that are present at the time the deals are being considered.

Great. Thanks for taking my questions.

Sure.

Steven Chubak, Nomura.

Hi good morning.

Hi, Steven.

The first question I had is on interest rates. There appears to be a growing consensus among a lot of the investors and market participants that we speak with that if and when the Fed begins to hike rates we actually could experience more of a flattening yield curve versus a parallel shift. And just thinking about that potential scenario materializing, while this might not make for favorable backdrop for a lot of other financial companies, some investors I have spoken with have suggested that this actually could be relatively favorable for the independents such as yourself as it suggests core underlying growth but at the same time long-term funding costs that should be held in check. And didn't know if you could shed some light on or provide your own thoughts on this matter.

Yes, I must say for our business I don't really spend a heck of a lot of time thinking about what movements in interest rates are going to do directly to our business, because we don't have much of a balance sheet. And so it probably doesn't have any real direct impact on our financial results, which probably is a good thing if interest rates are going up. That said, I think the larger question is what does it do to deal activity and the economy as a whole.

I think generally speaking at least with regard to the United States, if we see rates going up it's a little bit of a high class problem because it's probably being driven by economic activity, because we just aren't seeing across the economy much in the way of inflation. And so if you get higher economic activity, and that's what's driving rates up, that's probably a good thing overall for our business.

Okay. Thanks for that, and just one question on restructuring. The commentary within the release it remains cautious consistent with recent quarters or least the outlook or backdrop is subdued. But we did see a pickup in revenues in the quarter. I didn't know there was any change in revenue expectations for that line item in particular.

No.

I just wanted to gauge that.

Not really. I think that's really a reflection of things that went on in the marketplace many, many months ago. These are completions. We get paid on completions in the restructuring business. That's what causes the lumpiness in it. And as far as the outlook, look, the restructuring business will pick up when one or two or both factors fall into place which somewhat in many ways for the rest of our business I hope doesn't happen too soon, which is you see the economies start to weaken combined with lack of availability of finance.

But right now we're seeing financing at all-time low rates and very available. And generally speaking the economic outlook is at least in the United States still pretty good. In Europe as I said before uneven. But I know think that's going to shift the restructuring environment anytime soon.

Understood. I appreciate the color and thanks for taking my questions.

Jim Mitchell Buckingham Research

Hi. Good morning. Just a follow-up on the operating margin target, I'm assuming that's the full-year 2014, correct, the 25%?

Correct.

So when we think that through your operating at a little over 22% right now that implies a pretty big jump in Q4. I know historically you've had a true up, but if we think about Matthieu's commentary around we will see how 4Q goes to see if the comp rate goes down. Is that an implication that you are not so confident of getting that or are just trying to be cautious? It seems like you have to have a pretty significant comp true up in the fourth quarter to get there, and we've seen that in the past. I just want to make sure I'm thinking about it correctly.

I think you were thinking about it correctly.

Okay and you feel reasonably confident barring any kind of major change in the outlook for revenues?

We're really focused on achieving our targets.

Okay. Fair enough. One follow-up maybe just you have been growing your middle markets business it's not been we can necessarily see in the databases, how big a business is that contributing I guess right now and how much upside do you see there?

We've never broken out the numbers specifically to the middle market business in part because there are a lot of factors that go into driving revenue in that business beyond just the people in the business. That is it's the overall global network of Lazard that the business leverages off of and some of the industry group excellence at Lazard that also the middle market business leverages off of. But that said, it's an important business to us.

And we see our market share in that business we believe has increased pretty significantly since the time we bought the business. Importantly it's a sell side driven business, and so, therefore, the kind of likelihood that transactions close once we take them on is pretty high. And also our win ratio in that business has gone way up over the period of time we've owned it.

And importantly it still remains a pretty highly fragmented marketplace. And as a result of that we still see significant opportunity for share gains, but most importantly of all of those is we just have great people in that business. And we just see the opportunity to continue to leverage and build the business going forward. And it complements greatly the rest of our franchise.

Okay, great. That's helpful. Thanks.

Patrick O'Shaughnessy, Raymond James

Good morning

Hello, Patrick.

So I was wondering if you could talk about how big of a role inversions have played in the acceleration in M&A activity that you guys have seen over the last few quarters. And then the follow-up to that would be with the Department of Treasury kind of pushing back on inversion driven deals, what sort of impact would you expect on M&A activity going forward?

Sure. Let me speak first with reference to us. Inversions have represented over the course of the last year less than 5% of our announced volume. And where we have had inversion transactions I think we're pretty comfortable that the driver of those transactions are strategic and have not significantly involved the tax consequences of the transactions. So we feel pretty comfortable that the change in the landscape for inversions is going to have minimal impact on our overall business.

I'm not sure how that affects others. My guess is it's probably a larger proportion for some others than it has been for us. And then as far as activity going forward, with some exceptions most of the inversion transactions we've seen have been focused around the healthcare industry. So that's probably the segment, and it's really been focused around some of the midsize and larger Pharma companies. And I think that's the segment that probably gets impacted the most by it.

Got it. That's helpful. Thank you. And for my follow-up question the big banks still seem to be doing a pretty good job on holding the line in terms of compensation. What are the implications assuming that you would agree with that perception, what are the implications for you guys in terms of your own compensation ratio as well as the battle for top talent?

Look, I think that to the extant that big firms do that, and they are doing that in part because there's still pressure on around return on equity, and it's difficult to be aggressive about paying out compensation when you are challenged around return on equity. That's a good thing for us because in the end while we think of ourselves as an important player for talent, in fact, the overall trends and levels in the market are heavily influenced by what the big firms do.

And I just think as I've said previously that this cycle is going to reflect a more sober approach to compensation than some of the cycles in the past, because it's more difficult to create revenue than it has been in the past because of the constraints around balance sheet and risk at the larger banks. And therefore the ability to create compensation is also more difficult, and that probably overall for our industry is a good thing in terms of margins and such.

Great. Thank you.

At this time we cannot take any further questions. This concludes our conference call.