Earnings Call Transcript - PIPR Q1 2024

Operator, Operator

Good morning, and welcome to the Piper Sandler Companies conference call to discuss the financial results for the first quarter of 2024. During the question-and-answer session, securities industry professionals may ask questions of management. The company will make forward-looking statements on this call that are not historical or current facts, including statements about beliefs and expectations and involve inherent risks and uncertainties. Factors that could cause actual results to differ materially from those anticipated are identified in the company's earnings release and reports on file with the SEC, which are available on the company's website at www.pipersandler.com and on the SEC website at www.sec.gov. This call will also include statements regarding certain non-GAAP financial measures. The non-GAAP measures should be considered in addition to and not a substitute for measures of financial performance prepared in accordance with GAAP. Please refer to the company's earnings release issued today for a reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measure. The earnings release is available on the Investor Relations page of the company's website and at the SEC website. As a reminder, this call is being recorded. And now I'd like to turn the call over to Mr. Chad Abraham.

Chad Abraham, CEO

Good morning, everyone. Thanks for joining us. It's great to be with you to talk about our first quarter 2024 results. I am here with Deb Schoneman, our President; and Kate Clune, our CFO. During the first quarter, we generated adjusted net revenues of $334 million, a 16.8% operating margin and adjusted EPS of $2.79. While market headwinds persist, we're encouraged by the improvement in certain businesses, most notably Equity Capital Markets. Our diversified platform continues to perform well through varied cycles. Corporate Investment Banking generated revenues of $210 million during the first quarter, a 25% increase over the same period last year, driven by higher revenues from both advisory and corporate financing. We benefited from the sector and product diversification of our business, along with increased revenues from private equity clients. Advisory services revenues were $157 million during the quarter and increased year-over-year driven by higher average fees. The trend of advising on larger transactions and generating larger fees continues to be a key driver of our results. We completed 57 advisory transactions during the first quarter. Performance was led by the best quarter on record from our energy & power team with solid contributions from our financial services, consumer and health care groups. In addition, following a record 2023, both our restructuring and debt advisory groups started this year with strong results. The outlook for M&A has improved as CEO confidence strengthens. We expect our second quarter advisory revenues to be consistent with the first quarter before improving in the second half of 2024, resulting in revenue seasonality similar to last year. Turning to corporate financing. The market for equity underwriting improved considerably during the quarter, driven by a more accommodative backdrop and increased demand from companies looking to raise capital. For context, the economic fee pool was approximately $2 billion during the quarter, almost double the average of the last 8 quarters and more in line with normalized levels. The sub $5 billion market cap fee pool also increased meaningfully and included an outsized contribution from health care. Corporate financing revenues were $53 million during the first quarter, nearly double the prior year quarter driven by higher average fees and more completed transactions. We completed 35 equity, debt and preferred financings, raising over $10 billion for corporate clients. Performance was led by our market-leading health care franchise, which served as bookrunner on 19 of the 20 equity deals priced during the quarter. Looking ahead, if this level of market activity is sustained, we expect participation will broaden across sectors. Turning to investment banking managing director headcount. Our approach has not changed, and we continue to target the addition of 5 to 7 MDs annually. We added a net 2 managing directors during the quarter, finishing with 171 MDs. We remain focused on strengthening sector coverage and expanding our product offerings, and we are well positioned to drive revenue growth as markets continue to normalize. During the last several years, we have grown our market leadership meaningfully, and Piper Sandler is increasingly seen as a destination of choice for talented professionals and teams looking to leverage our full suite of products to better serve their clients and grow their book of business. Our recruiting pipeline is robust with a number of investment banking managing directors slated to start during the second and third quarters of this year. Over the long term, we remain focused on growing our Corporate Investment Banking revenues by continuing to advance corporate development, scaling industry teams, gaining market share with a focus in technology, increasing our product delivery to private equity clients and continuing to build out our Equity Capital Markets business with a disciplined focus in each of our industry sectors.

Debbra Schoneman, President

Thanks, Chad. I'll begin with an update on our public finance business. While interest rates trended higher during the quarter, the market for higher-yielding municipal debt offerings has thawed. Credit spreads have tightened due to increased investor demand, allowing us to execute on a number of specialty transactions. We generated $21 million of municipal financing revenues during the first quarter of 2024, up 23% year-over-year, driven by our specialty sector business. We underwrote 86 municipal negotiated transactions, raising $4 billion of par value for our clients. Performance during the quarter was driven by our real estate, health care, and affordable housing sectors as well as our state and local government practice in Texas and Washington. As we look ahead, we believe a period of sustained municipal fund inflows and lower nominal interest rates are needed for middle market issuance to increase. Turning to our equity brokerage business. Equity markets saw muted volatility during the first quarter as markets ground higher with indices hitting new highs. We generated revenues of $49 million for the first quarter of 2024, down 8% from the first quarter of last year, which benefited from increased volatility. We traded 2.6 billion shares during the quarter on behalf of over 1,200 unique clients as they sought our market-leading research, corporate access, and trading capabilities. We continue to see client research votes increasing as we demonstrate the value of our capabilities and our ability to assist clients in generating alpha. During the quarter, we hired a senior research analyst in health care with coverage focused on biotech companies, a key addition in the build-out of our biotech franchise. With muted volatility, we see near-term results to be relatively consistent with the first quarter, while expecting increased volumes and activity in the second half of the year. Lastly, turning to fixed income. We generated revenues of $42 million for the first quarter of 2024, consistent with the year-ago quarter. Client activity is slowly improving but remains fairly muted as market participants wait for more certainty on interest rates. The breadth of our client relationships and product capabilities continues to provide a level of resiliency to our results. Public entity clients were active as they found relative value in the short end of the yield curve, while insurance companies were active due to the higher rate environment. Now I will turn the call over to Kate to review our financial results and provide an update on capital use.

Kate Clune, CFO

Thanks, Deb. As a reminder, my comments will address our adjusted non-GAAP financial results, which should be considered in addition to and not a substitute for the corresponding GAAP financial measures. Net revenues of $334 million for the first quarter of 2024 increased 15% compared to the year-ago quarter, driven by higher Corporate Investment Banking revenues, primarily Equity Capital Markets. Turning to operating expenses and margins. Our compensation ratio was 63.1% for the first quarter of 2024, lower compared to the prior year quarter, driven by increased net revenues. Our compensation philosophy remains unchanged. We will continue to exercise solid operating discipline, balancing employee retention, investment opportunities, and near-term margins. Based on our current outlook of improving conditions and recruiting opportunities, we continue to expect our compensation ratio for the full year of 2024 to be near this level. Noncompensation expenses for the first quarter of 2024, excluding reimbursed deal expenses, were $61 million. We continue to focus on managing the actionable noncompensation expenses as they are a key driver of operating leverage. During the first quarter of 2024, we generated operating income of $56 million and an operating margin of 16.8%, highlighting the earnings capacity of our platform. Our income tax rate was 10.7% for the first quarter of 2024. Income tax expense for the first quarter was reduced by $11 million of tax benefit related to restricted stock award vesting. Excluding these benefits, our first quarter tax rate was 29.6%. We continue to expect our full-year tax rate to be within a range of 27% to 29%, excluding the impact from stock vestings. During the first quarter of 2024, we generated net income of $50 million and a diluted EPS of $2.79. Let me finish with an update on capital allocation. Our earnings resilience and capacity, combined with our capital-light approach, enables us to generate meaningful amounts of excess cash to deploy through share repurchases, dividends, and corporate development. We remain committed to returning capital to shareholders through market cycles. During the first quarter of 2024, we returned an aggregate of $88 million to shareholders through buybacks and dividends paid. We repurchased approximately 289,000 shares of our common stock or $52 million related to employee tax withholding on the vesting of restricted stock awards. These repurchases more than offset the share count dilution from this year's annual stock grant. We also paid an aggregate of $36 million or $1.60 per share to our shareholders through our quarterly and special cash dividends. In addition, the Board approved a quarterly cash dividend of $0.60 per share to be paid on June 7 to shareholders of record as of the close of business on May 24. Our first quarter results demonstrate the firm's resiliency during the mixed market conditions, and our profitability metrics reflect strong performance relative to our peer set. We remain focused on providing near-term value to our shareholders while continuing to grow our platform, and we're strongly positioned to accelerate earnings growth as markets continue to normalize.

Operator, Operator

And we'll take our first question from Devin Ryan with Citizens JMP.

Devin Ryan, Analyst

Great. First question, I just want to hit on kind of the advisory outlook. And Chad, I heard you comment that private equity clients were more active or drove a bigger contribution in the quarter. And just love to get a little more color around that client base and how, I guess, recent moves in interest rates are affecting kind of the recovery you're seeing there? And whether the recovery is coming back at a fast pace or if you think this is going to play out over a couple of years? Just trying to think about what the current conditions look like and then how you think about kind of a normalization for sponsors, which have really been out of the market for the past couple of years.

Chad Abraham, CEO

Yes, Devin, we need to remember that the first couple of quarters of 2023 were really low points. Our private equity contribution to mergers and acquisitions has improved compared to the first quarter of last year, but we started from a low benchmark. We've seen some enhancements, especially in middle market deals; if a sponsor wants to proceed, they can secure financing. However, the overall environment is still challenging. This recovery is progressing slowly. Historically, our sponsor business tends to be more active in the second half of the year compared to the first half, largely because many processes begin in the spring, with the aim to close by fall to capture the year’s financials.

Devin Ryan, Analyst

Okay. Got it. Really helpful, Chad. And then a follow-up here just on the recurring landscape. You mentioned that a couple of times on the call and 2023 was a little bit of a slower year of recruiting, but you had very active years, maybe more so than some of the peers in the couple of years leading into 2023. So is there any way to kind of frame out what you're hoping to accomplish on recruiting in 2024? And then beyond recruiting, how you're thinking about maybe inorganic lift outs or opportunities to do small M&A?

Chad Abraham, CEO

Yes. I would say that our investment banking recruiting this year was about the same as in 2023. During challenging periods like 2022 and 2023, we tend to be more cautious. There are some managing directors who, if not productive, may leave the platform, which creates some balancing for us, likely more in 2023 than in other years due to the current environment. However, we remain optimistic about our recruiting pipeline. We indicated that we should have some positive announcements in both Q2 and Q3. We have a solid lineup of 5 to 7 managing directors that we typically discuss adding, and we are prepared for that. Regarding our outlook, when we look back over the past decade, unless a significant merger or acquisition occurs, we have been averaging this number, and I anticipate we will maintain this steady pace. Considering our relative performance, we are likely seeing more opportunities than usual, but we are also being careful to ensure we add the right individuals who enhance productivity, improve our averages, and strengthen our franchise and overall quality.

Devin Ryan, Analyst

Okay. Terrific. Maybe I can squeeze in one more question about the relationship between the compensation ratio and performance. I heard Kate's comments regarding the 63% level. As we consider a recovery scenario for capital markets, how should we understand the compensation leverage that will be present in the model? Additionally, what does a more normalized compensation ratio look like for your firm as it continues to evolve?

Chad Abraham, CEO

Yes. I mean, I've sort of given this answer before. I mean, obviously, we've had not a lot, but years where we've gotten it closer to 60% or 61%. We always think about 61.5% or 62% probably is closer to, in a good environment, normalized. I do think we're being careful this year given some of the hiring opportunities. And even though Q1 '24 was up over Q1 '23, I mean, it was all marginal. So I think we're still being careful about that comp ratio, which is why we made the comment that we expected for this year to stay in and around that level. Obviously, if we get some revenue upside, we'll do better than that.

Operator, Operator

And we'll take our next question from Steven Chubak with Wolfe Research.

Brendan O'Brien, Analyst

This is Brendan O'Brien filling in for Steven. To start, I just want to get an update on the opportunity with your bank clients given it's now been a little over a year since the SVB and SBNY collapses. I just want to get a sense as to what you're hearing from your bank clients across your different business lines? And how has the potential rollback of Basel III end game impacted your expectation for the sizing or timing of this opportunity?

Chad Abraham, CEO

Yes. Regarding our depository business, we have diversified across various sectors. To be honest, the first quarter was likely weaker for both our Financial Services Group and our depository group. In fact, I would suggest that the last few quarters have seen a more challenging environment for mergers and acquisitions, as well as for depositories, due to increased scrutiny from different regulatory agencies and the performance of financial results and stocks. As we have mentioned in previous quarters, we anticipate the depository environment will remain challenging. However, there are still opportunities for capital raising, recapitalization on the equity side, and debt financing. We continue to see a steady flow of smaller deals, but larger transactions remain very difficult to pursue.

Brendan O'Brien, Analyst

Got it. And I guess for my follow-up, I want to move over to ECM and underwriting. While the biotech ECM market has been dormant for much of the past 2 years, as you know, in your prepared remarks, there's been a notable pickup in activity year-to-date. However, I just want to get a sense as to whether this result is sustainable in your view? Or did 1Q benefit from what is likely significant pent-up demand for capital in this space?

Chad Abraham, CEO

Yes, I would say it's probably somewhere in between. We made some comments about the overall fee pool in the market. It was a good quarter for ECM, and we saw strong performance in biotech with a solid backlog. Looking at April, we seem to be on a similar run rate for ECM. However, this business lacks visibility six months ahead; it largely depends on equity market conditions and investor sentiment each week. Based on current observations and ongoing deals, we feel optimistic about the environment. Additionally, we've noticed increased IPO activity across other industry teams, particularly in energy and financials. There's some discussion around diversifying into broader industries, but this will largely depend on overall market conditions. A significant negative market correction would impact the sentiment toward new issues.

Brendan O'Brien, Analyst

That's great color.

Operator, Operator

And we'll take the next question from James Yaro with Goldman Sachs.

James Yaro, Analyst

Chad, these were excellent advisory results and I think especially strong versus the publicly available data. Maybe you could just help us understand some of the moving parts here? I know you talked about higher fees. But maybe just on the other businesses within advisory, aside from M&A, such as restructuring and then, I guess, other advisory and perhaps the outlook for these. And then secondly, do you feel more or less comfortable about the cadence of the advisory build versus the beginning of the year when we had 5 or 6 rate cuts in expectations?

Chad Abraham, CEO

Yes. I want to share a few thoughts on our Q1 advisory. We are particularly proud of our energy business, which has evolved since our Simmons deal in 2015 through various cycles. While some competitors have scaled back in the energy sector, we have remained committed and expanded our efforts in this area. We have a long-standing history in oilfield services, but we are also heavily involved in exploration and production, as well as midstream activities. Additionally, we are engaging in energy transition initiatives. Our energy pipeline is strong, and we are experiencing balanced performance across healthcare, financials, and industrials, all of which are contributing to our diversification strategy. In terms of performance, while results are positive compared to peers and last year, they remain at relatively low levels, and improvement is slow. I haven't observed a significant change in recent weeks despite various shifts in rates, which isn't ideal for business. However, it is clear that private equity activity is beginning to pick up, as we are seeing more project pitches and initiating new processes. Although I anticipate gradual improvement, it will take time.

James Yaro, Analyst

Okay. That makes a lot of sense. Maybe just on noncomps. You did demonstrate strong noncomp discipline again this quarter. Maybe just an update on the outlook for noncomp costs for the rest of the year?

Kate Clune, CFO

James, this is Kate. So for noncomps, we kind of reiterate our guidance of that $62 million per quarter, excluding those reimbursed deal expenses. We remain really committed to a lot of discipline in that space and want to ensure we're controlling the expenses that we're able to control. That being said, we've seen a little bit of a pickup in terms of T&E expense as expected. And there's going to be continued pressure as it pertains to things like datacom services and occupancy. So again, maintaining that discipline around the areas we can control, consistent guidance with that $62 million a quarter, excluding those deal expenses and really focused on maintaining that level.

Operator, Operator

We'll take our next question from Michael Grondahl with Northland Securities.

Mike Grondahl, Analyst

Chad, when you talked about recruiting and kind of having 5 to 7 banking MDs ready to go for 2Q and 3Q. Could 5 to 7 end up proving low? Is that something kind of coming out of your messaging there that this could be sort of a higher level than that by the time we get to '24?

Chad Abraham, CEO

Yes. I mean, the reason we sort of said the 5 to 7 is typically, it's sort of 90 to 100 days to onboard. There's garden leave, there's the various sectors. That's sort of the group we have lined up today. Now we happen to be in sort of the heavy recruiting season. Could it be a couple higher than that? Maybe, but the chances of adding people the later we get into the year is less. But I would say compared to a normal year, particularly on the banking side, yes, we've done a little bit more than we normally would by this time in May. So we feel pretty good about where we're going to be with those adds towards the end of the year.

Mike Grondahl, Analyst

Got it. It seems you mentioned having a strong $53 million in the first quarter and that April remained stable or at that level. However, the visibility isn't far into the future, but at least for April, it stayed consistent. Did I understand that correctly?

Chad Abraham, CEO

Yes, nothing has really changed. We are moving at a solid pace and have completed several good deals in April, maintaining the same run rate as March. If conditions remain stable, we feel optimistic about the quarter. However, this is a business where visibility is limited to about five months, and even when you have deals prepared, circumstances can shift quickly. We have a positive outlook on the ECM business and our debt financing business. If the overall market remains stable, we expect a good year in ECM. However, I prefer not to provide outlooks for ECM two or three quarters out because things can change rapidly.

Operator, Operator

And it appears there are no further questions at this time. I will now turn the conference back to Mr. Chad Abraham for any additional or closing remarks.

Chad Abraham, CEO

All right. Thank you, operator, and everyone that joined. We look forward to updating you on our second quarter results. Have a great day and a good weekend.

Operator, Operator

And this concludes today's call. Thank you for your participation. You may now disconnect.