Burford Capital Ltd Q4 FY2020 Earnings Call

Ladies and gentlemen, welcome to the Burford Capital 2020 Earnings Call for Investors and Analysts. My name is Ruby, and I will be your moderator for today's call. I will now hand over to your host, Christopher Bogart, CEO, to begin. Christopher, please go ahead.

Thank you very much, and hello, everybody. It's great to be able to present some earnings and talk to everybody about Burford again. As usual, I'm joined by Jon Molot, Burford's Chief Investment Officer; and Jim Kilman, Burford's Chief Financial Officer. Together, the three of us will turn the pages of the investor slide deck posted on our website, take you through some highlights of the year, give commentary on what we think is going on in the business, and then take your questions.

Thanks, Chris, and thanks to all of you for joining. I'm very pleased with our portfolio, which continues to grow. It's notable that we've generated growth at above a 50% compound annual growth rate over the past five years, positioning the business for future cash flow generation as the portfolio continues to turnover. Turning to Slide 9, you'll see that the portfolio at the end of 2020 was larger and more valuable than at the end of 2019 despite several factors that might have hindered growth. First, as Chris mentioned, COVID slowed deployment in the first half of the year. That picked up in the second half of the year. However, we finished the year having put out less money than we would have liked, yet the portfolio is nonetheless larger today than a year ago. The second factor is that we've had some very large profitable realizations in the core portfolio, which Chris alluded to. Despite those large realizations, the portfolio did not shrink because the carrying cost of the resolved investments was much smaller. The new investments we made more than exceeded the carrying costs of the old ones that resolved. Third, we had realizations in the capital provision indirect portfolio, but we didn't think market conditions warranted replacing them, which means we made up for the decline in the capital provision indirect assets with additional value in the higher-returning core capital provision direct portfolio. By putting out capital, albeit not at the growth rate we would have liked, and observing progress within the portfolio that led to modest fair value adjustments, we're sitting on a more valuable asset base today than a year ago.

Thanks, Jon. I'll start by touching on a few highlights from our brokered-only income statement on Slide 13. Group-wide, we set a record for total income of more than $500 million. However, since a portion of this income comes from our funds, our performance fees will only appear later in the fund's life. Our balance sheet income was essentially flat in 2020 compared to 2019, but there were some positive trends beneath that headline number. First, a higher proportion of total income was cash gains this year. Realized gains made up 51% of our total income in 2020, compared to 36% in 2019. While last year's results were significantly driven by our YPF-related assets, our 2020 performance was driven by the rest of our portfolio. Excluding gains from YPF-related assets, Burford-only total income in 2020 was over double 2019's level. Our general operating expenses were up 11% in 2020 year-over-year. We kept our headcount relatively constant in 2020, but our employee growth in 2019 meant our average headcount during 2020 was 11% higher than the year prior. Additionally, we had $8 million in one-time listing and equity-related expenses as we completed our listing on the New York Stock Exchange. As a result, our operating profit was lower due to flat total income, and our profit after tax took a larger hit because many realized gains during 2020 occurred in higher tax rate jurisdictions. Nonetheless, thanks to our tax planning, our level of cash taxes was only $11 million, less than one-third of our book tax expense. Turning to our fair value or unrealized gains during 2020, on Slide 14, our YPF-related assets accounted for most of the unrealized gains on our balance sheet, roughly 80% at year-end 2020. We did not change our carrying value for these assets during the year, keeping them on our books at the value implied by the last significant sale of the asset. We are actively engaged in a pre-trial process with respect to these assets, so I can't comment further at this point. However, the trial is currently scheduled for January 2022, and while further delays are always possible, this is not a jury trial, and the courts have continued to operate efficiently with non-jury matters. Besides the YPF-related assets, we saw positive case progress in the Burford-only capital provision direct portfolio, leading to $141 million of unrealized gains on 41 different assets. This is not surprising since as the portfolio matures and more cases reach conclusion, they are more likely to meet the case milestones that would lead to fair value adjustments. As shown on Slide 15, our fair value policy relies on objective case milestones to trigger adjustments based on a conservative formula.

On Slide 20, I want to briefly return to COVID. We've discussed its impact on new business. Pertaining to our existing business, courts and arbitration institutions adapted to a virtual world and dealt with the pandemic's impact effectively. Despite COVID-19, we experienced numerous case successes and resolutions during 2020. Some adjustments brought about by the pandemic may prove beneficial for judicial efficiency long-term. However, jury trials have been significantly hindered for much of the year, and while many of our cases do not require them, some do. This could translate into delays that might ultimately work to our advantage, as many of our assets yield time-based returns. Moreover, while COVID has caused widespread disruption, it has also led to a surge in disputes. For example, there have already been over 9,500 COVID-related litigation cases filed in the U.S. In contrast, there are only about 800 cases filed yearly in the entirety of the U.K. commercial court. While not all that litigation will be relevant to Burford, the pandemic has created a fertile ground for future opportunities. Now, to sum up on Slide 21, we are extremely pleased with our 2020 performance. It was the best year in our history for portfolio performance. Our track record continues to develop, and our industry-leading, diversified portfolio stands strong. We also have a robust liquidity position and a strong balance sheet with substantial incremental capacity from private funds. We're excited about Burford's position and the opportunities ahead. Regarding our announcement of a $350 million debt offering in the U.S. institutional market, we see this as an opportunistic move to capitalize on favorable conditions. If completed, it will be our first debt issuance in approximately three years. Although we don’t need this capital presently, the opportunity is there, and we must take advantage of it. This move is consistent with our long-term goal of accessing the deep U.S. institutional debt market.

How much of the H2 '20 portfolio value growth was a catch-up of delayed H1 '20? And how much was a higher level of ongoing activity that we should expect to see as the new base level for H1 '22?

I wouldn't characterize it as H1 delayed activity. The litigation process doesn't really work that way. Things go through the process at their own pace, and defendants also decide whether to settle based on their own timing, usually incentivized by an impending trial date. The lack of jury trial pressure contributed to this situation, but overall, cases were running normally.

To add to that, there are two components to consider: the activity of putting money out and the activity of getting money back in. There were jury trials postponed, which affected the timing of verdicts, judgments, and settlements. However, our deployment pace increased dramatically from H1 to H2. We believe our pipeline is robust and that opportunities are arising from economic dislocation. We anticipate continued activity, driven by the growth of both the litigation finance sector and our brand.

On Slide 15, you helpfully break out the carrying values by type. If we ignore market transactions and focus on the remaining portfolio, it appears you've moved from 19% positive movements due to case milestones in 2018 to 52%. Does this mean your portfolio is closer to the valuation update conclusion than in 2018? Can you provide any time quantification?

I'm not sure that the portfolio is static. It's not just that prior cases have advanced. We've added new cases over time as well. However, I agree that our recent business has been flowing through the system, producing recoveries, and if history holds, we should expect to see similar progress leading to realization in the near future, though COVID may impact that. Overall, things are progressing nicely.

As to the timing for resolutions, while we are generally bullish, we're not prepared to make predictions about specific dates for realizations.

Can you provide an update on the potential 200% matter, potentially delivering 100 million of income, which was flagged as early stage in the April trading update last year?

I don't have a specific update on that matter at the moment, Portia.

I've got three questions. The first is about how the business feels now compared to the middle of last year. Has staff turnover increased with remote supervision? Secondly, are there any significant regulatory changes affecting litigation finance in your markets? Lastly, Jim, could you address the notion that you might be too conservative in recognizing performance fees?

The business feels busy, and there's a thirst to get back to interactions that were previously possible. There has been uncertainty over the past year, but we are now eager to return to normalcy. Regarding regulatory changes, there is no current significant activity that threatens litigation finance as it is now accepted in the justice system.

As Trevor mentioned, we do recognize performance fees strictly by following accounting standards. This requires a clear estimation of the fees while being certain that no significant revenue reversal will occur. Accordingly, we're quite conservative in our approach to recognizing these fees.

Are you seeing any trends at the sector or industry level where you think conflict might arise, particularly in areas relevant to Burford?

Conflicts arise continuously, but they often depend on underlying sources. The events of 2020 will certainly contribute to a significant rise in disputes across various sectors. For instance, insurance coverage disputes related to COVID policy claims are just beginning to unfold. There will also be many non-insured pandemic-related disputes. The pressure on companies resulting from shareholder expectations often leads to misconduct, which creates further opportunities for us to assist clients.

We do expect to see a growth in force majeure law over time as a result of these unique circumstances. However, the legal foundations we operate within have deep historical precedents, so while nuances will develop, we don’t expect seismic shifts in our existing legal relationships.

Regarding a question about our audit practice and why this year's financial statements were signed by Ernst & Young Guernsey as opposed to Ernst & Young London, it is due to the integrated audit practice between England and the Channel Islands. Partners rotate regularly, and our current audit partner is located there, but the team is multi-jurisdictional. This location has no significant implications for the quality of our audit. Thank you very much for your time and support of Burford. We're all excited to see what a return to normal looks like in 2021 and the potential for growth in the coming years.

Ladies and gentlemen, this concludes today's call. Thank you for joining. You may now disconnect your lines.