Evercore Inc. Q2 FY2020 Earnings Call

Thank you, Jennifer. Good morning, and thank you for joining us today for Evercore's Second Quarter 2020 Financial Results Conference Call. I'm Hallie Miller, Evercore's Head of Investor Relations. Joining me today on the call are Ralph Schlosstein, and John Weinberg, our Co-Chairman and Co-CEOs; and Bob Walsh, our CFO. After our prepared remarks, we will open up the call for questions. Earlier today, we issued a press release announcing Evercore's second quarter 2020 financial results. The company's discussion of our results today is complementary to the press release, which is available on the website at evercore.com. This conference call is being webcast live in the For Investors section of our website, and an archive of it will be available for 30 days, beginning approximately one hour after the conclusion of this call. I want to point out that during the course of this conference call, we may make a number of forward-looking statements, including with respect to COVID-19. As discussed in our earnings release this morning, filed on Form 8-K, the worldwide COVID-19 pandemic has negatively affected our business and is expected to continue to negatively and significantly affect our business. At this time, it is uncertain how long our business will be negatively affected by COVID-19 and the associated economic and market downturn. Any forward-looking statements that we make, including those about COVID-19 and its effect on our business, are subject to various risks and uncertainties, and there are important factors that could cause actual outcomes to differ materially from those indicated in these statements. These factors include, but are not limited to, those discussed in Evercore's filings with the SEC, including our annual report on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K. I want to remind you that the company assumes no duty to update any forward-looking statements. In our presentation today, unless otherwise indicated, we will be discussing adjusted financial measures, which are non-GAAP measures that we believe are meaningful when evaluating the company's performance. For detailed disclosures on these measures and the GAAP reconciliations, you should refer to the financial data contained within our press release, which is posted on our website. We continue to believe that it is important to evaluate Evercore's performance on an annual basis. As we've noted previously, our results for any particular quarter are influenced by the timing of transaction closings.

Thank you, Hallie. And good morning to everyone. Let me start by saying that it is a pleasure to be doing my first call with John as Co-Chairman and Co-CEO of Evercore. As we said in our press release last week, we have built a great partnership in the almost four years that John has been here, collaborating on all important decisions pertaining to the management of the firm and the strategic direction of our business. Our new titles formalize what we have been doing for several years already. And along with Roger, whose role has not changed at all, contrary to some reports in the press, we greatly look forward to a very successful future for Evercore. I am sure you will agree that the challenges of the past quarter have been myriad and significant. First, the rapid spread of the COVID-19 pandemic drove lockdowns around the world and has inspired a race to develop diagnostics, treatments, and vaccines. The pandemic and lockdown then gave rise to an unprecedented global economic downturn, record levels of unemployment, and in response fiscal and monetary stimulus that has been applied with unprecedented size and rapidity. Financial markets became predictably volatile, first down and then up, but they currently are reasonably healthy in stark contrast to the health of the real economy. And in the midst of all this, there has been a much-needed call for a higher level of equality and social justice in our society and a significantly greater commitment to diversity and inclusion in the workplace. My partnership with John and Roger and more broadly the culture within our firm has helped us navigate this challenging environment and to stay focused on both our clients and our people. Before I comment on our results, I want to provide an update on how we as a firm have responded to these events in the first half from both an operational and a business standpoint. The vast majority of our team continues to work remotely, and we are beginning to return to working in some of our offices. This transition, back to the office in contrast to our move to working remotely is happening at a measured pace, consistent with local government directives designed to protect the communities in which we work and our own policies to protect our people and their families. We have embraced new technologies that allow us to communicate with our clients and our colleagues, despite our physical distance. And we remain focused on the needs of our clients, helping them by leveraging our broad and diverse capabilities. This focus has resulted in a number of things. First, M&A assignments that made strategic sense before the downturn have continued to be announced, or if announced have been completed. Capital raising assignments, both in the equity and debt markets have been occurring at levels dramatically higher than at any time in our history, and we have seen an unprecedented surge of restructuring and refinancing transactions often on a highly expedited basis; and finally, in our Wealth Management business, there has been greater engagement with investing clients than at any time in our history. John will cover our performance in greater detail in his remarks. Following the tragic events in Minnesota, we also saw a much-needed call for a higher level of social justice and a more extensive commitment to diversity and inclusion in the workplace in the U.S. and elsewhere, a call that we strongly embrace. We have taken the time to reflect on calls for social justice and have thought hard about racism and prejudice that still persist in our society today. We have come away with the awareness and commitment that we need to strengthen our own diversity and inclusion efforts here at Evercore. We are a market leader for our business accomplishments, and we will expend the same energy and focus on our diversity and inclusion initiatives, not just to make ourselves better, but to try and have a more positive impact on our communities and the world in which we live. As we look to the second half of the year, we are following a set of operating principles that are very similar to those that we discussed with you three months ago. First, we remain committed to ensuring the health, wellness, and safety of our team and their families, and to achieving our diversity and inclusion goals. Second, our teams are focused on addressing the immediate needs of our corporate institutional investor and wealth management clients while helping them be better positioned for the eventual economic recovery. Third, we are sustaining our operating infrastructure to support flexible and efficient working arrangements as we plan and implement our return to office on a thoughtful and disciplined basis. And finally, we remain committed to maintaining our strong and liquid balance sheet. Our results for the second quarter and the first half reflect both the momentum that we had in M&A before the onset of the pandemic and our ability to pivot to meet our clients' changing needs in currently challenging economic and financial markets. As a general matter, previously announced M&A transactions continued towards completion, and the broader advisory capabilities that we have built and strengthened over the last several years have allowed us to continue to serve our clients on their most pressing financial and strategic issues.

Thank you, Ralph. The volatile market environment has created opportunities across products, geographic regions, and industry sectors. As the quarter began, merger activity was muted as clients managed through the dislocation of the sudden impact of the COVID-19 pandemic. We are fortunate to have had the opportunity to assist our clients with broad-based debt advisory assignments, equity issuance, as well as advising them on restructuring challenges. Our restructuring group has been especially busy. We believe opportunities to assist our clients will continue as accommodative credit markets are giving companies time to address their liquidity needs and recover. We believe there is significant opportunity in several sectors, including energy, consumer, retail, and industrials. In the capital markets, there has been extensive opportunity to assist clients in raising capital in both the debt and equity markets in both the private and public arenas. We had our strongest period ever in equity underwriting. And while we do not participate materially in public debt capital raises, we had the opportunity to assist clients on a number of innovative liability management assignments. The momentum in our debt advisory and equity capital markets businesses has continued into the third quarter. Private capital transactions for sponsors slowed considerably in the beginning of the quarter, but have picked up more recently, as issuers have become comfortable conducting diligence virtually. Activism assignments similarly slowed early in the quarter, but the pace of business has started to recover more recently. Investor clients remained focused on financial markets throughout the quarter, both Institutional and Wealth Management, and trading activity remained high. Significantly, during the quarter, the level of announced M&A activity slowed dramatically as clients appropriately turned inward, driving many of the activities I just summarized. Announced M&A volumes were down 41% in the first six months of 2020, and the number of announced transactions is down 15%. The second quarter was particularly weak. Announced global M&A volumes were down more than 50% compared to last year's second quarter, and the number of announced transactions declined 29%. Several of the key conditions necessary for a healthy M&A market were absent in most sectors of the economy during the quarter and remain generally absent today. However, the basis of a recovery may be forming. The equity markets are currently strong for many sectors. Access to financing and readily available capital and credit began to improve throughout the quarter, and CEO confidence began to slightly improve as the quarter closed, but granted from a low base. Dialogues and discussions with clients around strategic opportunities have begun to slowly pick up during the last few weeks, and processes involving financial sponsors are beginning anew. I am for the moment guardedly optimistic about the merger market overall. When the markets begin to show sustained stability, CEO confidence will grow, which will drive an increase in strategic activity. Until then, we will continue to actively communicate and engage with our clients to help them navigate the current challenges and to be there with them during the eventual recovery. Let me now turn to our performance in Investment Banking. Our revenues during the second quarter and first six months of 2020 held up well despite increasingly challenging conditions. We sustained our Number 1 ranking for the volume of announced M&A transactions over the last 12 months, both globally and in the U.S. among independent firms. Among all firms we are once again Number 4 in the U.S. in announced volume over the last 12 months. And we ranked Number 3 among all firms in the U.S. based on the number of transactions for the first six months of 2020. We continue to work hard to increase our share of the market. We were pleased to continue to advise on some of the most important M&A assignments of the first half, including three of the 10 largest global M&A transactions and four of the five largest M&A transactions in the United States. Our restructuring and debt advisory teams are extremely busy. Our U.S. restructuring team has worked on the same number of assignments in the first half as it did for the entire year of 2019. We are pleased that we ranked Number 1 among all firms in number of announced restructuring deals and number of completed restructuring deals in the U.S. in the league tables for the first half of the year, and we've been involved in seven of the 10 largest bankruptcies by total actual liabilities year-to-date. These accomplishments stem from our model of integrating our restructuring and debt experts and our industry-focused bankers. Our deep expertise in restructuring and debt matters was central to our ability to work with a number of large new clients. Two recent examples include, we were an adviser to Boeing on a $25 billion offering of senior notes, and an adviser to Ford on its $8 billion debt financing. Deep expertise was also a catalyst for our work in specialized markets, for example, pipes, where we advised on four of five announced pipe deals before the financing markets reopened. Our underwriting business has performed extremely well in the market. We served as an active book runner or co-manager on six of the 10 largest IPOs in the first half of 2020. We completed our largest ever active book run transaction when we advised PNC on the secondary offering of its 22% stake in BlackRock. At the time of the announcement, this deal was the largest deal year-to-date. We advised Danaher on its upsized $3.1 billion offering, which was split between common stock and convertible preferred stock. And we were an active book runner on SelectQuote, the first non-health care IPO in the COVID environment. While these large assignments contributed meaningfully to our quarterly results, we also participated in many more transactions across a broad range of sectors, demonstrating our ability to work in diverse areas and markets. And while issuance is up across the board, we also more than doubled our overall share in the first six months compared to the same period last year. Our shareholder advisory and activism defense, and our private capital advisory businesses and assignments are already in progress, and we move towards completion in many. We are proud to have advised on the first ever proxy contest to be decided in a virtual annual meeting. It was a successful outcome for our client. In our private funds, we've completed the first fully virtual fundraise, which was oversubscribed and attracted both current and new investors. In our Equities business, our connectivity with investor and advisory assignments remains elevated as they have come to rely on us for valuable insights during a period of significant market dislocation, and our traders continue to help our clients execute in volatile markets. Before I wrap up my remarks, I would like to take a moment to acknowledge our exceptional team. Our people have responded to the challenges of the current environment and have served our clients with distinction. The results I just summarized are a testament to their teamwork and their commitment to our clients and to one another. I would be remiss if I did not welcome John Scuorzo to the firm as an Advisory Senior Managing Director, enhancing our Capital Markets Advisory practice and strengthening our coverage of the Technology sector. We will remain open to opportunistically adding other high-quality individuals who can bring value to our clients. Finally, as we look towards the second half of the year, we are aware of the many headwinds and uncertainties ahead. Despite the challenges of working apart, our results so far in 2020 demonstrate the power of a team working extremely well together with a consistent focus on clients. It is this kind of collaboration that defines us and is a key ingredient to our ongoing success. I very much am looking forward to continuing to lead Evercore through this downturn and eventual recovery in partnership with Ralph and of course, Roger. I truly believe that our best opportunities are ahead of us and I'm excited by the prospects and direction of our firm. Let me now turn it over to Bob to discuss our GAAP results and other financial matters.

Good morning. Starting with our GAAP results. For the second quarter of 2020, net revenues, net income, and earnings per share on a GAAP basis were $507.1 million, $56.4 million, and $1.35 respectively. For the first half of 2020, net revenues, net income, and earnings per share on a GAAP basis were $934 million, $87.6 million, and $2.08 respectively. Consistent with prior periods, our adjusted results exclude certain items that principally relate to our acquisitions and dispositions and also include the full share count associated with those acquisitions. Specifically, we adjusted for costs associated with the vesting of Class J LP units granted in conjunction with the ISI acquisition. For the first half, we expensed $1.1 million related to the Class J LP units. The Class J LP units have been fully expensed. Our adjusted results for the quarter also exclude certain items related to the realignment strategy that began in the fourth quarter of 2019. As we noted last quarter, we expect to incur separation and transition benefits and related costs of approximately $38 million, $8.2 million of which was recorded as special charges in the second quarter of 2020. These charges are excluded from our adjusted results. Year-to-date, we have recorded $30.3 million as special charges related to the realignment initiative. As we mentioned on our last call, we have entered into an agreement with the leaders of our business in Mexico to purchase our broker-dealer there, which principally provides investment management services. Completion of this sale is subject to regulatory approval. We've requested that approval in June and closing is expected to occur shortly after approval is granted. We continue to review additional opportunities in smaller markets. These opportunities could result in further charges in 2020, if pursued to completion. And separately, we completed the sale of a trust business which was part of ECB during the second quarter. Our adjusted results for the quarter and first six months also excluded special charges of $0.4 million and $1.9 million, respectively, related to accelerated depreciation expenses. Turning to other revenues. Second quarter other revenue increased compared to the prior year period primarily as a result of gains of $15.5 million in the investment funding portfolio, which is used as an economic hedge against a portion of our deferred cash compensation program. Other revenues for the first six months of 2020 decreased versus the prior year, primarily reflecting a net loss of $6.8 million on this investment funds portfolio. This amount will, of course, fluctuate and a significant market rebound during the quarter drove the quarterly gains. While the quarter gains were not enough to more than offset the first quarter market decline. With regard to non-compensation costs. Firm-wide non-compensation costs per employee were approximately $43,000 for the second quarter, down 13% on a year-over-year basis. The decrease in non-compensation cost per employee versus last year primarily reflects lower travel and related expenses and professional fees. As we mentioned on our last call, we began a thorough review of our non-compensation costs before the COVID-19 pandemic. We continue to adapt our operations in response to the current downturn and remain focused on reducing our non-compensation costs, including cutting non-essential costs related to travel, research and subscriptions and deferring certain capital projects. So we are well positioned throughout the downturn, as well as into the inevitable recovery. Our GAAP tax rate for the second quarter was 24.5% compared to 24.8% in the prior year period. On a GAAP basis, the share count was 41.9 million for the second quarter. Our share count for our adjusted earnings per share was 47 million shares, down versus the prior year period, driven by share repurchases and a lower average share price. Finally, with regard to our financial position, we hold $1 billion of cash and cash equivalents and approximately $100 million in investment securities as of the end of the quarter, as we have transitioned nearly all liquid assets to cash and cash equivalents in the first half. Our current assets exceed current liabilities by approximately $950 million. As Ralph noted, we continue to monitor our cash levels, liquidity, regulatory capital requirements, debt covenants, and all of our other contractual obligations regularly and carefully. We'd now be pleased to answer any questions.

Okay, great. Good morning, everyone. So first question here, I guess a little bit of a crystal ball question, but I appreciate all the commentary on the moving parts of the backdrop. With respect to restructuring and the capital advisory business, I guess specifically, how should we think about those businesses' ability to offset the slower M&A environment? And really, I get the back half of this year will likely be soft as M&A has slowed, and those restructuring revenues take some time to come into the model. But as we start to look into 2021, perhaps M&A is starting to recover at that point. How can we think about the base level of some of these other, call it, non-M&A businesses and what that can mean for the model as we look out a bit?

Let me start with that, and I'm sure John will have something to add. First of all, as we pointed out on our previous call, M&A is our largest revenue business, historically, and so even though these businesses are doing – are extremely active right now, we hadn't anticipated that they – the activity would be sufficient to offset a decline in M&A activity. In the first half of the year, they did. But there's an element of – sort of previously announced or near announced transactions that we're working their way through the system, which affected M&A activity in the first half of the year, which given the pretty sharp decline in announced M&A in the first half of this year and most specifically in the second quarter. We would expect M&A activity revenues in the second half would be affected by what happened in the first half of the year. I think it's pretty clear that we have very strong businesses in all of these areas. And I think one of the biggest questions, Devin, is how quickly does the recovery in M&A occur? And this is going to be a long answer, but if you go back to the financial crisis and prior to that, M&A had been characterized by two to three-year down cycles and five to eight-year up cycles. And I said back in like 2010 and 2011 and 2012, there was a book written about the economy by Carmen Reinhart, and I forgot the other guy's name, but it was called "This Time Is Different," and it basically talked about that in recoveries from financially induced recessions are slower and longer. And I hypothesized back then that it's quite possible that the recovery in M&A would be slower and longer. And we did have literally a 10-year period of improving M&A activity until it came to a screeching halt early this year. The interesting question this time is that we've had the sharpest downturn and seem to be in the middle, certainly in the markets if not the real economy of the sharpest upturn that we've ever experienced, obviously significantly affected by unprecedented monetary stimulus and unprecedented fiscal stimulus that is both huge, already 3 times what was applied after the financial crisis and was applied with incredible rapidity. The first two stimulus legislation – pieces of legislation were passed before we even had our first report of a decline in GDP, whereas in the financial crisis, the stimulus legislation was passed in the third quarter of GDP. I think it's quite possible that because of the fiscal and monetary stimulus and the obvious effects it's already had on the equity market and the effect of the Fed action and stimulus on the debt market that this could be the shortest cyclical downturn in M&A activity, but we really don't know at this point. I think we're certainly starting to see green shoots, maybe even a little bit – green shoots two, three, four weeks ago that are starting to actually pop up even a little bit more out of the ground in the M&A dialog that we're having with our clients, but we're still going to need some greater visibility about the future direction of the economy before we can say that we're confident that we're going to see a recovery and before CEOs have the confidence to make larger strategic decisions. John, do you want to add to that?

Sure, Ralph. I'd say anecdotally, we clearly are seeing activity in terms of strategic dialogue, but it is really hard to estimate when those will really turn into larger strategic initiatives. Right now, I think that a lot of the dialogues going on are opportunistic and I believe that when we start to see mergers start to come in, it'll start smaller. In terms of our existing businesses like restructuring and financing, those are going very well for us. And those will continue, and as you said very aptly, the restructuring businesses often are back-loaded, so the fees will be coming in, in the back. But really, the merger engine is going to be what powers our 2021. We just don't know exactly when that kicks in. Clearly, right now, we're seeing dialogs but no big activity, and we just don't know. The other thing about the merger business, which you probably know, is once it starts, it takes some time to gather momentum in that when you start talking about a deal, it often takes some time before that deal ends up being a revenue source for the firm. And so we'll see, and it will take time. It's certainly not in the next three or four weeks, but we'll see how it goes. I think it's going to be, as you said, crystal ball. The good news for us is, we feel like we've got very strong dialogs going, and we've stayed very much in touch with our clients. So we feel like we're very much at the fore in terms of talking about the strategy and the go forward.

Devin, there's a lot of puts and takes in this set of numbers. The higher level of commissions and the exceptionally higher level of underwriting obviously drives costs. We're happy for those expenses of course. We're spending a lot of time now thinking about how travel may change given technology, how professional fees may change, and how we continue to use subscriptions and data. It's too soon to annualize them, but we're going to push hard for 90 days and then 90 days after that to make sure we're kind of in the zip code of the second quarter, which is our first quarter, fully working remotely.

You mentioned anecdotally that you're starting to see a strategic dialogue, but it's hard to see when it comes through. But can you talk about deal activity coming through as a result of its stressed environment? So is there more activity coming from companies that might want to shore up their balance sheets by selling any businesses or companies that are more willing to sell as a result of the uncertainty in the environment, especially given that asset managers and PE funds have a lot of dry powder here?

Let me start with that, and I'm sure Ralph will fill in. We see a lot of activity as the financial sponsors right now. Clearly they have a lot of dry powder. Initially, in the beginning of this downturn period, I think sponsors were very much internally focused, looking at their portfolios and making sure that they protected those portfolio companies. Now, I think there's a lot more activity in terms of looking at opportunities, and our observations would be that there are some pretty material dialogs going on and people are thinking about doing those types of things. The stress-related deals are out there, and I think that there are clearly companies who are looking – the ones who are very strong and have come through this period are looking at themselves and saying, this is a time when we have relative strength and therefore we should be looking. And so some of the dialogs that we're having with very strong companies whose balance sheet is intact and who really believes that they have an opportunity, and so there is definitely activity there. As you implied, there are companies that are under stress and they're looking at those kinds of opportunities to sell off assets and stabilize themselves. Those activities are on also. And I say that, we're seeing a mix of both. And I'd say that probably the merger market will begin with smaller deals. Initially, I don't think you'll see some of the very big strategic things in the very beginning and those will be some of the transactions that you implied, which are the smaller deals where companies are trying to create some liquidity for themselves, and also looking at opportunities to strengthen and bigger companies that are looking at those kinds of opportunities and trying to buy them. The other thing that you didn't mention that I think is worth noting is that technology and healthcare continue to be very healthy sectors. They're accessing public markets easily, and clearly they are being valued in the public markets at quite high rates and levels. And so there is definitely opportunity in those different sectors for companies to be looking at activity, and I think there are a lot of companies looking in those sectors for opportunities because those are ones that are being welcomed and are being well received.

I think the only thing I would add is that we certainly saw in the second quarter, the most immediate form of liquidity provision and balance sheet restoration was in the form of record levels of debt issuance and record levels of equity and equity-linked security issuance. And obviously for the most depressed companies that was often in the form of convertible offerings or pipes or whatever. The reason that happened is that if somebody wanted to sell a division in April in order to shore up their balance sheet, there was not a real long line of buyers for anything. So the public markets became the initial means of balance sheet restoration. And now companies are starting to look more seriously at what I would consider to be – they would consider to be less dilutive forms of strengthening their balance sheets.

Thanks for taking my question. I just wanted to try to understand the comments around comp. I know that this is a very unusual year, but just to put a finer point to it. First half, 63.6%. So on the ratio side, are you saying that that is your best guess for the comp ratio for the year, given all of the caveats around an uncertain revenue environment?

I think what we're saying is that it's exactly what I said, and we thought very carefully about what we said it's within the range of possible outcomes.

Got it. Thanks for all the color.

Thank you. We will now start the question-and-answer session. Our first question comes from Devin Ryan with JMP Securities. Please go ahead.