Earnings Call Transcript - CWK Q2 2023

Operator, Operator

Thank you for your patience. Welcome to Cushman & Wakefield’s Second Quarter 2023 Earnings Conference Call. All lines have been muted to minimize background noise. It is now my pleasure to introduce Megan McGrath, Head of Investor Relations for Cushman & Wakefield. Ms. McGrath, you may start the conference.

Megan McGrath, Head of Investor Relations

Thank you, and welcome to Cushman & Wakefield’s second quarter 2023 earnings conference call. Earlier today, we issued a press release announcing our financial results for the period. This release, along with today’s presentation, can be found on our Investor Relations website at ir.cushmanwakefield.com. Please turn to the page on our presentation labeled cautionary note on forward-looking statements. Today’s presentation contains forward-looking statements based on our current forecasts and estimates of future events. These statements should be considered estimates only and actual results may differ materially. During today’s call, we will refer to non-GAAP financial measures as outlined by SEC guidelines. Reconciliations of GAAP to non-GAAP financial measures, definitions of non-GAAP financial measures, and other related information are found within the financial tables of our earnings release and the appendix of today’s presentation. Also, please note that throughout the presentation, comparisons and growth rates are to the comparable periods of 2022, and in local currency unless otherwise stated. For those of you following along with our presentation, we will begin on Page 4. And with that, I’d like to turn the call over to our CEO, Michelle MacKay.

Michelle MacKay, CEO

Thank you, Megan. And thank you everyone for joining us today. Before I begin, I'd like to thank our former CEO, John Forrester for his leadership and dedication to this company and his assistance in making this transition as seamless as possible. Neil will dive more deeply into the numbers shortly. But looking at our second quarter, the key takeaway is this. In challenging market conditions, we were able to quickly pivot and deliver strong financial results with sequential improvement in revenue, EBITDA, and margin. And while I recently took the reins as CEO, I've been with the company for some time, and therefore I've been able to hit the ground running with the leadership team. I want to thank all of them for their focus and hard work since I started. And while we've got plenty of work ahead of us to help the company achieve its full potential, I'm very pleased with the start that we've made and I'm encouraged by what I'm seeing inside the business as we take a deeper dive into each of the business lines. We're already fully underway with a full review of our operations, how we lead the business and identifying our strategic direction, while preserving the integrity and strength of what we've already built. A highly diversified revenue mix, a resilient business model, and a strong financial position. We've got great bones here, and a clear opportunity to excel. My goal simply is to significantly improve and build upon Cushman’s already solid core. As you can imagine, I'm going to leave no stone unturned in making sure that we move expeditiously and decisively to grow this company and build confidence both in ourselves and also with our partners and key stakeholders. My number one priority is ensuring that we are being great stewards of capital, balancing investing for future growth and maintaining a healthy balance sheet with a strong liquidity profile. As a new CEO, I am taking a fresh approach, holistically reviewing our business while introducing a more data-driven methodology to the process. This includes a deeper evaluation of free cash flow, margin profile, growth expectations, capital intensity, and core competencies for each business individually. And here's a bid on how we're going to dig in. We're reinforcing core and expanding our thoughts on growth. Over the past several weeks, I've met with the leaders from each of our businesses to review the business's core strength and better assess how each business line fits into our overall corporate strategy, focusing on identifying new areas of growth and operating efficiencies. I have been extremely impressed with our leadership team's expertise and their cognitive flexibility in reassessing their individual businesses. And as we go through this process, we want to foster a solution-oriented entrepreneurial culture that allows us to compete and deliver the best solutions for our clients at the highest level. Markets move quickly, as do the demands on our clients and we need to be able to sprint with them. Once their strategy is fine-tuned, we will create a framework for decision-making based on that refreshed strategy. In fact, it's already in process, creating a detailed framework to help internal decision-makers make better and faster decisions with a keen focus on our core priorities will be paramount to achieving success. We believe that by bringing more data and more information to our leaders in the field in a way that is easily digestible, we will create a knowledge-based culture that will encourage decisions being made more closely to the business. How we organize and run the company will be next on the list. One of our main objectives in this process is to simplify our business structure with an eye on strategic value to the company overall, as well as long-term return potential, right size, right structure for all markets. Today, we announced $40 million of additional cost-cutting measures for this year, building upon the $90 million program we had previously announced. Our assessment has shown that simplifying our structure and reducing costs is not only necessary in light of the current market conditions, but also strategically advantageous. We see this as an opportunity to create a more streamlined and agile structure for long-term success. We must also break down silos in the organization to facilitate, motivate, and bring the entire enterprise to the table in every client conversation. We don't want to bring one or two notes, we want to bring the entire orchestra. We have truly dominant knowledge and expertise across the company that we need to bring out more definitively to our advantage. Ultimately, leveraging this thought leadership will enable us to be the preferred solution provider to all of our clients and better facilitate cross-selling opportunities across the firm. Our refreshed capital allocation framework is the result of all of this work. We recognize that growth is important in any industry, and we believe that business resiliency is paramount to ensuring the stability of long-term returns. We'll be taking a more intentional and holistic approach to capital allocation as it relates to our updated strategy across all of our businesses with the knowledge that investment capital allocated to our business lines is not free, and we must evaluate returns accordingly. Lastly, the health of our balance sheet and our liquidity profile will remain a top priority. And as we fine-tune our strategy, we will continue to look to improve our capital structure over time. Over the upcoming quarters, you'll hear more from me on the progress of our transformational work at Cushman & Wakefield. But before we move on, I'd like to thank all of our employees for their hard work and dedication during my transition to the CEO role, but also every day. Our people are up for the challenges presented by today's market conditions and are always looking to serve our clients. And now I'd like to hand the call over to Neil for a review of our second quarter financial results.

Neil Johnston, CFO

Thanks, Michelle. And good afternoon, everyone. Second quarter results were in line with our expectations with solid sequential increases in adjusted EBITDA and adjusted EBITDA margin. During the quarter, we maintained our strong focus on free cash flow, and we'll continue to prioritize our balance sheet as we move forward. Moving on to the details of the quarter. On the top line, revenue trends in the second quarter were similar to what we saw during the first quarter. Second quarter fee revenue of $1.6 billion declined 14% versus the prior year, with capital markets revenue down 48% and leasing revenue down 20%. PM/FM revenue was up 3% with particular strength in our property management and facilities services businesses, while valuation and other declined 13% in the second quarter, as the slowdown in transactions continued to result in lower valuation activity. Adjusted EBITDA for the second quarter of $146 million was down 44% versus the prior year, and our second quarter adjusted EBITDA margin was 8.9%, a meaningful improvement from our first quarter margin of 4%. During the quarter, we successfully executed on our cost-cutting programs and were able to more than fully offset inflation and prior investments, realizing $49 million of savings in the first half of the year. In addition to our previously announced $90 million program, our teams have worked diligently to identify an additional $40 million in gross savings, bringing our expected 2023 in-year cost savings total to $130 million. To put these cost savings in perspective, this savings target represents roughly 10% of our annual G&A expenses. While our cost-reduction programs are in part a response to today's operating environment, more importantly, they are positioning us to be more efficient and to achieve better long-term margins when transactional volumes recover. Adjusted earnings per share for the quarter was $0.22, a decrease of $0.41 versus prior year. Turning to our segment results for the quarter. In the Americas, a year-over-year decline in brokerage of 32% was partially offset by continued resiliency in PM/FM which grew 4%, most notably in property management and project management. The declines in brokerage were across most asset types due to the higher interest rate environment and macroeconomic headwinds. EMEA experienced a similar decline in brokerage to the Americas, while APAC reported flat brokerage trends and improvement over the past several quarters, as leasing trends in APAC improved most notably in Australia. Our PM/FM business in EMEA and APAC experienced slower performance in the quarter, primarily due to lower project management activity. The adjusted EBITDA declines in each of our regions were principally driven by lower brokerage activity, with the Americas also experiencing a lower contribution from Greystones. Free cash flow for the second quarter was an outflow of $27 million. This compares favorably to the prior year, which saw an outflow of $100 million during the same period. Our teams remain highly focused on driving cash flow improvements through disciplined working capital management. And I'm pleased to report that we've generated positive free cash flow on a trailing 12-month basis, even during this period of lower earnings. Overall, our financial position remains strong, with $1.6 billion of liquidity consisting of cash on hand of $502 million and availability on our revolving credit facility of $1.1 billion. We have no outstanding borrowings on our revolver and net leverage is 4.3x at the end of the second quarter. Our debt profile is now more than 96% fixed on a net basis, and we are focused on our near-term maturities and optimizing our debt profile within current market conditions. Finally, moving to our outlook, the guidance we provided on our previous earnings call is essentially unchanged. We continue to expect fully adjusted EBITDA margins to be in the range of 9% to 10%. Our EBITDA margin guidance is based on the following full-year assumptions: low to mid-single-digit revenue growth in PM/FM, and approximately 20% revenue declines in brokerage. That concludes the financial review. With that I'll turn the call back over to Michelle.

Michelle MacKay, CEO

Thanks, Neil. In summary, our second quarter results were solid, demonstrating the focus of our team and the stability and resilience of our business. Cushman has a strong and stable foundation and a growing platform to build upon for the next leg of our growth strategy. As someone who has spent decades in the commercial real estate industry, I'm confident in our ability to drive sustainable improvements in our business model and truly believe in this company's long-term opportunities. I am energized by the challenge of taking the helm, and I look forward to working with all of our stakeholders to accelerate our results and capitalize on this opportunity. And with that, operator, let's open up the line for Q&A.

Operator, Operator

The first question comes from Anthony Paolone from JPMorgan.

Anthony Paolone, Analyst

Great, thank you. It looks like a lot of your guidance brackets are pretty comparable to last quarter. But Michelle, you've mentioned free cash flow conversion as being one of your focal points. Can you maybe just talk about where you see that shaping up for the year at this point, whether there was any change on that front?

Michelle MacKay, CEO

Yes, I think that we are in a place where we can still move a couple of levers to better our free cash flow conversion, including days outstanding, tax, and a couple of other levers that we have at our disposal. Our goal has always been to reach a range around 30% free cash flow conversion.

Anthony Paolone, Analyst

Okay, and then just in PM/FM, I think the APAC looked like it sequentially kind of dropped in the quarter was 2%. You kept your guidance for the full year for PM/FM, just wondering like how visible that is. And if there's anything just to note in that business, just as we look to the second half.

Neil Johnston, CFO

Yes, sure, Tony. The growth rate varies from quarter to quarter in our services business mainly due to the timing of contracts and certain ad hoc work that we perform. In the first quarter in Asia Pacific specifically, we did have significant project management work that was short-term in nature. So, it boosted that growth in the first quarter a little bit. Second quarter was right in line with our fully assumptions in that low to mid-single-digit growth rate. So we still feel very confident in our guide for the full year on services and like the business and its resiliency.

Anthony Paolone, Analyst

Okay, and if I need to sneak one more in just as we start to think about the fourth quarter, which is tends to be the biggest quarter, anything you're seeing in terms of either green shoots, or on the flip side, particular risks to kind of get to the numbers to get you into your guidance brackets?

Michelle MacKay, CEO

We're feeling really good. We're encouraged by the building pipeline. I mean, it's still too early to call an inflection point. There's been a lot of focus on capital markets and recovery in capital markets in particular. We believe it's a question of when not if, and we all know the capital markets performance is highly correlated to interest rates and markets in general, right, and there's probably one more rate move followed by a period of no change and then cuts. So we're directionally feeling particularly good at this moment.

Operator, Operator

The next question comes from Alex Kramm of UBS.

Alex Kramm, Analyst

Yes. Hey, good evening, everyone. Maybe just starting on the incremental cost cuts. Can you dig a little bit deeper in terms of what you're really attacking here? And then how much of the $40 million incremental is permanent versus temporary? Or maybe remind us in general, the way you see permanent versus temporary in the whole $130 million now?

Neil Johnston, CFO

Sure, Alex, I can take that question. So as we look at the $130 million in total, about 20% of that is temporary. But obviously, as we go into next year, if we don't see conditions improve, we can always hold off and not let those temporary costs come back into the business. We'll see $130 million of in-year savings; that's actually $160 million on a run rate basis. But then all of that 20% is temporary. In terms of where the savings are, they are primarily infrastructure and overhead costs. As we said, it's roughly 10% of general administrative costs. Our G&A costs include severance, lease terminations, and external consulting costs, software costs; it's really a full-year business, right-sizing it for the environment we're seeing right now.

Alex Kramm, Analyst

Great, and then maybe just coming back to the updated guidance, the 20% down in brokerage? I don't think you gave a number there in the first quarter. So just maybe talk a little bit more broadly, how that view has changed. I know someone just asked about the fourth quarter. And I know there's a lot of uncertainty there. But like, how your overall expectations for the year changed here on brokerage?

Neil Johnston, CFO

Yes, they haven't really changed. We mentioned during our first call that we observed a delay in brokerage from the first quarter to similar results in the second quarter, which aligned with our expectations for the quarter. I want to clarify our guidance; it's primarily focused on the margin being within the 9% to 10% range. We're indicating that this range corresponds with brokerage at the 20% level, which is what we're currently experiencing; this will obviously evolve over time. As I previously stated, our focus is very much on March rather than providing any full-year revenue guidance.

Alex Kramm, Analyst

All right, great. And may I'll sneak one more in there as well, a quick one here on the PM/FM margin. I know you don't give specific margins on that business. But we know it's obviously the lowest across the company. Can you, with some of the cost savings that you've announced here and also the scale you're still gaining in that business, are you actually expanding margins there? Any color on how that margins have trended in that business line in particular?

Michelle MacKay, CEO

Our CWS services business in particular has expanded margins over the last five years. But part of the margins in some of the other businesses are connected to transaction volume. So they have a base level of margin that always delivers for us, but some of the upside in that margin is related to transactions.

Operator, Operator

The next question comes from Doug Harter of Credit Suisse.

Doug Harter, Analyst

Thanks. You talked, you mentioned that you're starting to see some of the pipeline building for transaction revenue. Can you just give a little more detail as to kind of what you're seeing and what it will take to actually get those transactions across the line?

Michelle MacKay, CEO

Sure. It's really compelling. And I think that the buildup is from the fact that investors and lenders are trying to figure out the market. But as I said a little earlier when I was answering Tony, because we probably have one more rate move in the pipeline here, we think that there's going to be a thawing of capital markets late this year into early next year. And at that point, then it's just a discussion around how the dam breaks, if you will, if it breaks in small pieces or breaks all at once.

Doug Harter, Analyst

Great. And I guess, just with the cost cuts that you've undertaken, how do you think about your ability to benefit from that dam breaking?

Michelle MacKay, CEO

Yes, look, it's always discretion in what you cost cut and what you keep in. We were very focused on ensuring that we would be able to take advantage of the recovery in the markets when we went through this process.

Operator, Operator

The next question comes from Michael Griffin of Citi.

Michael Griffin, Analyst

Great. Thanks, Michelle. You talked in your opening remarks about looking at your returns accordingly, across business lines. Are there any business lines in particular that screen is more attractive to invest in now? Any color you can give around that would be helpful.

Michelle MacKay, CEO

Okay, look, we've just started the process in earnest, and we're going to take our time to complete it well, so in order to really answer your question in depth, we need some time here, because we're going to do a deep dive and a heavy scrub down. But what I can tell you is there are some trends in general that stick out to me. And they play across many of the business lines in the organization, healthcare-related trends, data center-related trends, things along those lines.

Michael Griffin, Analyst

Thanks. And then you note in the release that the decline in leasing has been primarily attributed to lower office activity, is that office overall as the commodity office? How are you seeing trends and more of that Class A trophy product? Any insight on that would be helpful.

Michelle MacKay, CEO

Sure. And we had a research piece that came out on Bloomberg last week speaking to the year-over-year net absorption rates in that Class A space, which in many markets have been positive. What's interesting for us is that most of the conversation in commercial real estate today is around the office sector. And we have deep history in this space, as you probably know, so clients are engaging with us as advisors and not just deal doers. That's the evolutionary path that we want to be on. But as a reminder, we don't traditionally work in the bottom 30% of any asset class. So you will find us mainly in Class A and Class B products.

Operator, Operator

The next question comes from Stephen Sheldon of William Blair.

Matt Filek, Analyst

Hey, Michelle and Neil. You have Matt Filek on for Stephen Sheldon, thank you for taking my questions. I wanted to circle back on the PM/FM segment. Can you walk us through what would drive you to hit either the high or low end of the guidance range? And then how are you thinking about potential growth looking out to 2024?

Neil Johnston, CFO

Sure. When we look at services, the great thing about services is the fact that it has long contracts; it's resilient. And there is a base level of activity, which is there year in and year out. What we do see in the services business is a certain amount of ad hoc work that comes along with those service contracts. For example, during COVID, we had code trainings. In the northeast, we'll do snow removal, things like that. So to hit the high end of the services range, we'd expect to see a significant amount of ad hoc work. We don't plan for that, but certainly that is something that would drive us to the high end, right.

Michelle MacKay, CEO

Yes. And then on the growth front, we've continued to make investments in our services businesses, so we would assume that we are going to have solid growth going into 2024. But as you can imagine, this will be part of the evaluation process that we're going through with the strategy refresh.

Matt Filek, Analyst

Got it. That's helpful color. Thank you for that. And then to clarify on brokerage, does the brokerage guidance assume any pickup into transaction volumes from an improving macro?

Neil Johnston, CFO

We don't see a meaningful recovery in the fourth quarter. We do see sequential improvement as we move through Q3 into Q4. Q4 was naturally a very big quarter because of the annual nature of the business. But our guidance doesn't contemplate any fast recovery in the market.

Matt Filek, Analyst

Got it. Thank you. And then one more for me. What does broker retention look like given the persistently challenging market conditions? And do you feel well-staffed for a faster-than-expected market recovery, if that were to occur?

Michelle MacKay, CEO

Yes, look, I think that we are in a particularly educated seat when it comes to broker retention. And I know there are some headlines out there, mostly negative, that have picked up a bit more traction than the actual fact. If we have an individual or group that's been working for us, we have somewhere between 5 to 10 years of financial history on that individual or team. And we know if they're enterprise positive or negative. So we have perfect information when we make a decision about who to offer retention to and who not to offer retention to. We also have a bit of a mix shift happening in the organization over the last five years, and so people with certain skill sets become more or less valuable over that period of time. We are very much focused on retaining those individuals that will be part of the future growth of the organization.

Operator, Operator

The next question comes from Ronald Kamdem of Morgan Stanley.

Ronald Kamdem, Analyst

Hey, two quick questions from me. Thank you for the guidance updates about the incremental were really helpful. The first one is just on the 9% to 10% EBITDA margin that you reiterated. You talked about the $130 million updated targets for cost-cutting, and $160 million for the annualized. Is there a way to sort of break out how much that cost cut is contributing to the margin guidance? And the reason I ask is, is all else equal as those costs annualized, do they become a tailwind for margins in '24, to where I'm trying to get to?

Neil Johnston, CFO

Yes, Ron, the $130 million is already included in our guidance. As we said on our first quarter earnings call, we had already actioned $90 million, and there were more actions in the pipeline. We really are just getting the numbers on this call, with the addition of $40 million to get to the $130 million. While the cost guidance doesn't drive anything above our range this year, it does make us more efficient. So depending on the timing of the brokerage recovery and the extent of that recovery, as brokerage comes back, we will see a higher margin for this all before the efficiency moves.

Ronald Kamdem, Analyst

Helpful. And then just following up on the cash conversion question on the EBITDA. And I'm looking at the cash flow statement. And still I think $238 million down in the first quarter. Can you talk to so accrued compensation was negative, again, this quarter? Can you talk through what is one-time or what seasonal? I'm just trying to get my arms around for the working capital in the first half of this year, trying to understand how that's going to trend for the rest?

Neil Johnston, CFO

In the first half of the year, working capital was mainly affected by the higher payouts of bonuses and commissions from last year compared to what we are accruing this year, resulting in some timing issues. Regarding your interest in cash conversion for the full year, I recommend looking at a longer timeframe. Over the last 12 months, our free cash flow has been essentially neutral during the downturn, and we anticipate it to improve as brokerage starts to recover at higher margins. The extent of our free cash flow and cash flow conversion will rely on the timing and scale of the brokerage recovery as we progress through the end of this year and into 2024.

Operator, Operator

The next question comes from Patrick O’Shaughnessy of Raymond James.

Patrick O’Shaughnessy, Analyst

Hey, good afternoon. As you conduct your strategic review and you identify incremental growth opportunities, would you expect that capitalizing on those opportunities could require incremental company capital?

Michelle MacKay, CEO

Yes, I would anticipate that there are scenarios where we need incremental capital. But given our cash position, I think we are in a particularly strong position to use our own cash.

Patrick O’Shaughnessy, Analyst

Got it, okay, thank you. And then the earnings release today mentioned an $11 million servicing liability fee in connection with amending and extending the account receivable securitization. Neil, maybe you can just walk through kind of what is the value of that account receivable securitization program in Cushman & Wakefield? And what was the nature of the charge today?

Neil Johnston, CFO

Sure, that AR securitization facility basically renews itself every couple of years. So this was just a normal renewal of the program. It provides us $200 million of basically think of it like a revolving credit, whereby we use that AR securitization facility to manage working capital through the first half of the year, and then we repaid in the back half of the year, and then the following year again, we just use it to manage the seasonal nature of the business.

Operator, Operator

As there are no more questions from the phones, this concludes the question-and-answer session and today's conference call. You may disconnect your lines. Thank you for participating and have a pleasant day.