Earnings Call Transcript - RILY Q1 2022

Operator, Operator

Good afternoon, and welcome to B. Riley Financial's First Quarter 2022 Earnings Call. Earlier today, B. Riley issued a press release and presentation detailing its financial results for the first three months of 2022. Copies are available in the Investors section of the company's website at ir.brileyfin.com. As a reminder, this call is being recorded and the audio replay will be available on the company's Investor Relations website later today. Joining us today from B. Riley are Bryant Riley, Chairman, Co-Founder and Co-CEO; Tom Kelleher Co-Founder and Co-CEO; and Phillip Ahn, CFO and COO. After management's remarks, we will open the line for questions. And before we conclude today's call, I will provide the necessary cautions regarding forward-looking statements. I will now turn the call over to Mr. Bryant Riley. Please proceed.

Bryant Riley, Co-CEO

Thanks. Welcome everyone. In many ways, our first quarter is personally as gratifying as any quarter we have reported since going public in 2014. To generate over $84 million in operating EBITDA in an environment in which our historically biggest profit drivers Revenue were down almost 75%, I'm speaking of investment banking, which declined from $128 million to $34.2 million year-over-year in revenues, illustrates the steps we have taken over the last 10 years to insulate our overall business from large market volatility. Additionally, generating operating EBITDA of over $10 million in our brokerage business despite this large slowdown, while aggressively continuing our investment in M&A and fixed income personnel illustrates the commitment we have maintained towards expense management. Given the slowdown in capital markets and the overall decline in the equity markets, I thought it would make sense to reiterate our dividend and business strategy and Tom and Phil will speak more specifically to the business units later in the call. As we have said before, we group our businesses under two categories, episodic and recurring. The episodic businesses are represented by B. Riley Securities or brokerage and B. Riley Retail Solutions and can have large quarterly swings in profitability. The remaining businesses consisting of our wealth management, advisory, brands, asset management, and communications businesses are much more predictable and recurring in nature. These recurring businesses along with a net margin from our loan book generate enough cash flow to cover dividend, tax, and interest requirements. Specifically, we estimate that the operating EBITDA required to cover these items is approximately $270 million per year. To the extent that we have strong cash flows from our episodic businesses, we will review those cash flows and look to either invest further in our business or return capital to shareholders incremental to our regular dividend as we did last year in which we paid $10 in special dividends. In addition to these EBITDA generating assets, we have a diversified investment portfolio of approximately $1.3 billion that includes public and private equity in businesses where we have deep conviction and capital appreciation and return over time and almost always have deep Board level involvement. The returns from these investments are subject to being valued quarterly and can be volatile. We urge investors to take a long-term view of this portfolio and the reason we highlight our operating EBITDA as our primary measurement of the business. While we saw a decline in this portfolio during the quarter, which has continued into the second quarter, we have historically generated outsized returns on our investment book and are confident that our proprietary platform will continue to enable us to generate strong results for our shareholders. Importantly, all of our investments are financed with a total cash and low covenant debt in which the vast majority does not mature for four years. This allows us to take a long-term view on these investments and while the mark-to-market changes can be painful, they're mitigated by our strong capital base. We have found that we are able to create meaningful value during market declines, like the one we are currently experiencing, and we'll look to be opportunistic in our investment portfolio. With that, I will now speak to the first quarter. Operating revenues were $274 million while investment losses totaled $68 million, bringing our total revenues for the quarter to $206 million. Operating adjusted EBITDA for the quarter was $84.2 million, while investment EBITDA loss was $43.5 million, bringing our total adjusted EBITDA for the quarter to $40.7 million. Within the Capital Markets segment, underwriting, SPAC issuance and sales and trading saw declines in the quarter, while strength in capital markets came from ATM offerings, restructuring, interest from our loan book, securities lending, and our growing asset management activity. As mentioned, we have taken efforts over the last two years to broaden out our brokerage business and align with that strategy, we've continued to diversify our revenue mix with the integration of the recent acquisition of National Holdings within Wealth Management and FocalPoint Securities within our institutional broker-dealer. Within our principal investments, communication segment will continue to build out the portfolio with our pending acquisitions of Lingo management and Bullseye Telecom. Before synergies, the acquisition of Lingo and Bullseye are expected to contribute over $250 million in revenue and $30 million in EBITDA on an annualized basis. As I previously touched on, another source of strong recurring cash flow comes from our loan and receivables investment book. As of quarter end, we maintained approximately $500 million of corporate loans, receivables generating an average interest rate of approximately 10%. Furthermore, we acquired a portfolio of loans receivable from Babcock Group in late 2021, which had a principal balance of approximately $380 million at quarter end and has so far performed above expectations and is generating a meaningfully higher rate of return compared to the rest of the loan book. Combined, these assets are a large contributor to our operating EBITDA and we are seeing significant opportunities to continue to put capital to work at far higher rates given the lack of capital available in the equity markets. With that, I'll now turn the call over to Phil Ahn, our CFO and COO, who will provide more context around our quarterly metrics and then Tom Kelleher our Co-CEO, will discuss some highlights across our operating units. Over to you, Phil.

Phillip Ahn, CFO and COO

Thanks, Bryant. As Bryant noted, our fourth quarter results were impacted by a slowdown in the capital markets and losses incurred in the investment book due to current market conditions. For the first quarter on a consolidated basis, B. Riley reported first quarter total revenues of $205.6 million, down 66% from the prior year period. Operating revenues were $274 million for the quarter, a year-over-year decrease of 18%, primarily related to lower investment banking activity. Total adjusted EBITDA in the first quarter was $40.7 million and operating adjusted EBITDA was $84.2 million. Net loss available to common shareholders was $12.1 million or $0.43 loss per diluted share. Now turning to our reportable segments in the first quarter, starting with our Capital Markets segment, which includes operating results from investment banking, institutional brokerage and fund management, as well as our results from our investment portfolio. Excluding investment losses, our Capital Markets segment operating revenues for the quarter totaled $130.5 million, which represents a decrease of 37% year-over-year. Segment operating income was $57.9 million, which was down 45% year-over-year primarily due to lower investment banking revenues and was partially offset by strong activity on our ATM offerings, sales and trading, and securities lending businesses. Wealth Management segment revenues increased 14% to $77.5 million, up from $67.9 million in the prior year period. Segment loss in the first quarter was $10.1 million driven primarily by reduced market activity combined with the impact of a settlement charge related to litigation prior to B. Riley's acquisition of National Holdings in 2021. Auction and Liquidation segment revenues were $3.4 million and segment loss was $0.8 million. Results from the segment were impacted by a slow retail liquidation environment in the first quarter compared to the prior year period. As stated on prior calls, results from this segment tend to be variable due to the episodic nature of large retail liquidation engagements. Financial Consulting segment revenues increased to $25.9 million, up from $21.4 million in the prior year period. Segment income increased to $4.9 million, up from $3.3 million in the prior year. Increases in this segment were driven primarily by strong results in both our financial restructuring advisory business, as well as our appraisal valuation business. Our principal investments in communication companies magicJack, United Online and Credo Marconi contribute revenues of $32.7 million and segment income of $8.8 million. These companies continue to provide a steady stream of cash flows for our B. Riley platform. Lastly, our Brand segment continues to make contributions to the overall B. Riley platform, having generated segment revenues of $4.6 million and segment income of $3.2 million. Note that this segment excludes the dividend and contributions from our investments in Hurley, Justice, and bebe, which are picked up in our capital market segment, as well as other income. As a reminder, adjusted EBITDA in our metrics for operating investment results are non-GAAP financial measures. Please refer to our earnings release for a definition of these terms and for reconciliation to the nearest GAAP measures. Investors can also find additional details relating to these metrics and related reconciliations in the financial supplement on our Investor Relations website. Now turning to some highlights from our balance sheet. At March 31, B. Riley Financial had approximately $214 million in unrestricted cash and cash equivalents, $1.3 billion in net securities and other investments owned and $882 million of loans receivable. At quarter end, we had a total cash and investments balance of approximately $2.5 billion, which includes approximately $49 million in other investments reported in prepaid and other assets. Net of debt, B. Riley Financial's cash and investments totaled approximately $406 million at March 31. Finally, our Board of Directors has approved a regular quarterly dividend of $1 per common share, which will be paid on or about May 20 to common stockholders as of record on May 11. That completes my financial summary. Now I'll turn the call over to our Co-CEO Tom Kelleher. Tom?

Tom Kelleher, Co-CEO

Thanks, Phil. The first quarter presented challenging conditions for our Capital Markets business and investment book, given lower activity levels as well as increased market volatility. As Bryant mentioned, these are headwinds faced by the entire industry, but ones that we were able to partially mitigate given our efforts to build a diversified platform complete with non-correlated assets that can help drive performance even during difficult times. While remaining active at looking at new opportunities, the firm strengthened our market position by continuing to build our previously announced initiatives as well as working to integrate lease acquisitions. Some highlights include the expansion of our fixed-income division leadership team by adding long time industry veteran Robert Hamel, who will work alongside our Head of Fixed Income, Tim Sullivan. The addition of Ji Pak and Mary Jo Collins also to our fixed-income division, both are highly seasoned and great additions to the team and demonstrates the group's ability to attract top talent. All-in, the group has added over two dozen professionals under Tim Sullivan's leadership. The addition of a compliance risk and the resilience consulting practice to our Advisory Group, the continued integration of National Holdings with our legacy B. Riley Wealth Group, development of additional funds to be offered by 272 capital and the addition of FocalPoint Securities, which significantly increases our M&A private capital markets capabilities. Now turning to some of our divisions, as Bryant noted, activity in investment banking decelerated during the quarter. However, ATM offerings, sales and trading, and securities lending businesses remained stable from the prior quarter. In addition, our direct lending activity and loan book continue to provide a steady stream of interest income and cash flow to the B. Riley platform. In Wealth Management, we continue to integrate our legacy B. Riley Wealth Group and the recently acquired National Holdings with one goal in mind, to create one robust wealth management platform with the ability to scale, while delivering outstanding differentiated services and investment opportunities to B. Riley clients. As with any large integration, there are challenges, but we believe in the growth potential of this business and its ability to meaningfully contribute to both our steady and episodic cash flow profiles. In our auctions and liquidation segment, performance continued to be impacted by historical slowdown in the retail liquidation market here in the United States. However, our strong client relationships continue to drive revenue despite reduced activity. In the first quarter, we completed several store closings and in Europe, we are pursuing an increasing number of opportunities. As we have stated before on our earnings call, the retail liquidation business is episodic in nature and will vary from quarter to quarter. Our advisory services business, which includes our legacy GlassRatner Financial Consulting Group and legacy Great American Consulting continues to perform consistently and generate referral opportunities across the platform. GlassRatner delivered its best quarter ever from a revenue perspective. Overall, our Financial Restructuring business continues to gain market share in a difficult environment. Looking ahead, we're excited about the future contributions and prospects for this business as operating conditions normalize. Our principal investment business including magicJack and United Online continue to deliver strong performance and generate healthy cash flows. Also, we are making progress with the integration of our recent CREDO Mobile acquisition and we are expecting to close our pending acquisitions of Lingo Management and Bullseye Telecom this summer. We expect all of these businesses to contribute meaningful cash flow over the long term. Lastly, activity in our brand investments business is accelerating and volume levels have further recovered. Across the enterprise, brand investments delivered almost $40 million in recurring EBITDA and will remain an important contributor to cash flow over the coming years. Our enthusiasm for this space is only growing and we believe our brands business will continue to deliver meaningful value to our shareholders. In closing, while the first quarter presented a number of industry-wide challenges, the benefits of our diversified platform and non-episodic businesses has never been clearer. Our ability to drive cash flow and provide direct returns to our shareholders remains intact and we are confident our platform will drive accelerated growth as market conditions stabilize. In the meantime, our teams will remain focused on capturing growth opportunities as well as delivering value to our clients. With that, we will now open the line for questions. And then turn the call over to Bryant for closing remarks. Thanks.

Operator, Operator

Thank you. We will now begin the question-and-answer session. Our first question comes from Sean Haydon of Charles Lane Capital. Please go ahead.

Sean Haydon, Analyst

Hey guys. Congrats on a good quarter in a tough environment. First question here, on the Wealth Management section, can you quantify the settlement charge that you took there?

Bryant Riley, Co-CEO

Yeah. So maybe you can get into more detail, but the biggest one was approximately $4.5 million, it was from an issue that happened long before we bought the business and actually before the current management team was there. And so that's the rough number.

Sean Haydon, Analyst

Okay. And are we through most of that or should we expect anything else in the future?

Bryant Riley, Co-CEO

The wealth management business on the national side is challenging. There are many brokers, a significant number of whom are independent. The industry has experienced a lot of issues over the years, which we believe have been addressed regarding the quality of brokers from the previous team. However, some challenges will persist. We see a lot of potential benefits and are focused on consolidating these businesses. We are enthusiastic about the remaining team members and are reviewing all deals to ensure they are advantageous for both the brokers and us. That said, I can't guarantee that all issues have been resolved. The enterprise value of the business we acquired was about $19 million, and we anticipated some ongoing challenges. It can be noisy, but looking ahead two years, I believe we will be pleased with the decision to proceed with that acquisition.

Sean Haydon, Analyst

Yeah, I hear you on that. And then good to see, obviously, the dividend is safe, no worries about that, but any thoughts to giving or to repurchasing shares at an accelerated pace given where the stock price is?

Bryant Riley, Co-CEO

Look, I think you're always balancing the long-term benefits of the business with buying your own business versus buying another business and you have to do the math on all of those things, and I think traditionally, we've been pretty aggressive about thinking through those. So, I would just say to you that last quarter you saw meaningful insider buying at higher levels. Clearly, the markets sold off a bit, but I think from an operating side, anybody who bought internally would say we were really excited about the resiliency of some of these non-episodic businesses and probably more excited than they were about the opportunities that we're seeing, including the back half receivable, loans we're putting out. We are putting out loans into public companies that are collateralized by not only the businesses but also the ability to raise capital through ATM at 20% kind of IRRs, not always but sometimes, and helping our client. So, it's a balancing act, but we feel really good about the position we're in because while you’d love to have a super robust capital markets business, if we're able to provide value to our clients at rates that they understand and maybe enable them not to have to sell common at what they think are distressed levels and can hold off on that but in the meantime, we're getting good returns for our shareholders, that's really attractive. So that's a long way of saying we're not going to be shy about actively managing our balance sheet and, obviously, buying back shares is one of the components we will look at.

Sean Haydon, Analyst

Great. And then just another question here on FocalPoint. I understand that it's very recent, but when should we expect to see some contribution from that in the numbers?

Bryant Riley, Co-CEO

You saw a negative contribution this quarter, which is common in M&A, especially for deals that aren't as large as Houlihan Lokey's. Many transactions close at the end of the year, and we understand that. They experienced a slight loss in Q1, but our excitement about their win rate and the opportunities they are encountering is high. You will begin to see the benefits starting in Q2 and more significantly in Q3 and Q4. The acquisition, along with the integration and alignment of the teams, has been exceptionally successful, and we have already noticed many cross-referrals. I believe Q3 and Q4 will bring more revenue than Q2, but you will start to see some positive impact soon.

Sean Haydon, Analyst

Got it. Alright guys, good quarter and thanks for taking my questions.

Bryant Riley, Co-CEO

All right. Thanks, Sean.

Operator, Operator

Our next question comes from Anthony Perrella of Punch & Associates. Please go ahead.

Anthony Perrella, Analyst

Good Afternoon, gentlemen. Thanks for taking the question. First question is just on the fixed income build-out as we continue to add to the team there. If you could add a little bit of color on just kind of how you see earnings potential once the team is fully ramped up in relation to the capital markets business as a whole, that would be great?

Bryant Riley, Co-CEO

I want to focus on how we're developing our capital markets business. We don't usually factor in potential upside when budgeting for it, and even without a broker-dealer, we have typically budgeted for breakeven points and found that our incremental margins hover around 50%. This makes budgeting challenging. We're expanding this business because we found a strong leader with a proven track record in managing fixed income for companies like Imperial and Jefferies, who has consistently held leadership roles and is well-regarded in the industry. Our firm is among the largest in capital equity markets, especially for small-cap firms, yet we had limited engagement in debt business. We do have baby bonds that function similarly to the equity side of capital markets. Our direct lending business is strong, and we maintain excellent client relationships, conducting appraisals on a thousand companies and interacting with many through our Advisory business. We believe there’s significant opportunity for us once everything is operational, and we’ve already started seeing deals coming in that we wouldn't have previously accessed. While this may introduce some volatility—something we anticipated as we launched this initiative—we’ve encountered a fairly stable fixed income environment until recently, which is now shifting, and we’re prepared for that change. Looking ahead, I see this as a year of investment. I expect we’ll be profitable by the fourth quarter, though our current operating EBITDA reflects losses at FocalPoint as we kickstarted this initiative and invested in fixed income. We're not yet turning a profit there, but I’m optimistic that by Q4 or Q1, we will be on track to profitability while managing expenses tightly as we do on the equity side. However, I can't provide a specific budget because of the variability in the market, making it difficult to predict.

Anthony Perrella, Analyst

That makes sense. Is it almost fair to characterize this almost a non-episodic business being added to the episodic earnings stream that should be less volatile on a quarter-to-quarter, year-to-year basis or is that the right way to think about it?

Bryant Riley, Co-CEO

I would categorize it as episodic because we don’t control the revenues or issuance. Our focus is on ensuring we consistently make money with high incremental margins, allowing us to take advantage of market opportunities that generate high revenue. We see it more on the episodic side. Regarding our recent acquisitions, we’ve discussed a couple of telecom businesses, Bullseye and Lingo. These are slower growth companies that we expect will eventually yield 3.5 to 4 times their free cash flow, complementing the infrastructure we’ve developed. I would classify those in the recurring revenue category. We are optimistic about closing these deals by the end of July. Currently, both businesses are projected to contribute about $30 million on an annualized basis. Lingo is still pending approval, but we have provided them with some loans, generating interest income at a run rate of about $8 million. As we move forward and finalize these acquisitions, we anticipate a significant increase in our recurring revenue this year.

Anthony Perrella, Analyst

That great. And then just last one, you mentioned I think about two dozen hires so far, any idea kind of what percentage of the kind of full-scale size, how many more hires are needed to have full scale for you guys?

Bryant Riley, Co-CEO

I think the smallest level we would consider is probably 30 or 40 people, but it will really depend on the opportunities and how people view this platform. If I were in fixed income at a larger firm, I would see this platform as a significant opportunity that I need to join. With 25 years of experience and many established relationships, entering the fixed income business at this stage feels very promising to me. However, we are not going to rush into hiring; the market is quite tight, and candidates are asking for too much. We will take our time and remain patient. What I see is that our unique position in fixed income is resonating well, and our leadership is highly regarded in the market, attracting strong talent. So, I would estimate the lower end at 30 to 40 people, but as we become profitable, we will continue to build up the team.

Anthony Perrella, Analyst

Makes sense. Tom. That's all I have. Thanks for taking my questions.

Tom Kelleher, Co-CEO

I appreciate it. Thank you.

Operator, Operator

Our next question comes from Brett Hendrickson of Nokomis. Please go ahead.

Brett Hendrickson, Analyst

I want to clarify if I understood correctly. The press release mentioned the Hurley and the Justice contributing to the dividend. Does all of the Hurley revenue come through the dividend, or is some of it generated as a royalty within the brand segment?

Bryant Riley, Co-CEO

It all comes as a dividend. So just think of that business, Brett, and it's frustrating to me that we have to allocate it that way, but it's just because we also have a valuation component of those because we own a piece of them. So we have to get that asset evaluated every quarter. So it gets stuck in the capital market side, but just think of the brand business as adding $35 million to $40 million of just incremental EBITDA with no CapEx obviously, that's kind of the run rate.

Brett Hendrickson, Analyst

Sorry, how much?

Bryant Riley, Co-CEO

$35 million, $40 million. So if you add those up here, I think it was $9 million, right? This quarter, that's $36 in and around and there has been growing those guys at Blue Star, the management are doing a great job and they're seeing more and more opportunities like Justice is just getting into Walmart. So, there's a lot more opportunities there.

Brett Hendrickson, Analyst

Yeah. So, what has worked, I see Hurley at more places in the retail and I think of you guys every time.

Tom Kelleher, Co-CEO

I have number side was like hanging out in the background. So I just wanted something else.

Brett Hendrickson, Analyst

We are noticing this in certain areas. I haven't changed my approach, but there is significant expense leverage and activity in capital markets. I did want to address a question that someone else already brought up regarding the wealth management lawsuit. I just want to confirm I heard you correctly; did you mention $4.5 million related to that lawsuit?

Bryant Riley, Co-CEO

What was the exact number Phil?

Phillip Ahn, CFO and COO

Yeah, I think we had a reserve, but the charge that we took for the quarter is roughly $4.1 million.

Brett Hendrickson, Analyst

Okay. I know you mentioned that the national business can be a bit messy at times, but does that suggest that wealth management incurred losses this quarter, even when excluding the lawsuit?

Tom Kelleher, Co-CEO

Wealth management has been quite profitable at $502 million a month. The national side is more volatile, and while we did incur a small loss, it shouldn't be overstated. It's mainly due to some unusual events, and we haven't yet merged the two businesses. As a result, we currently operate with two separate infrastructures, which presents opportunities for cost savings and contract efficiencies that we haven't yet explored. I reiterate, we did lose a small amount of money, but I wouldn’t emphasize that too much. It's also important to note that the national division provides benefits that contribute positively to other parts of the business, often leading to referrals in M&A that support our capital markets deals. These advantages may not be reflected in specific financial line items, but they are significant.

Brett Hendrickson, Analyst

I'm aware of that synergy, and that's positive. Regarding how things are categorized in your segments, could you clarify where FocalPoint fits? Does some of that revenue contribute to financial consulting, while other parts go into capital markets, or how does that break down in terms of revenue and EBITDA contribution?

Bryant Riley, Co-CEO

Phil, can you answer that in terms of the breakup?

Phillip Ahn, CFO and COO

Sorry, can you say it again? The FocalPoint.

Bryant Riley, Co-CEO

All of those revenues are going to be in advisory, right? Is that where we're putting?

Phillip Ahn, CFO and COO

I think capital markets. The advisory includes our restructuring, our structuring appraisal, real estate advisory, and operations management advisory.

Brett Hendrickson, Analyst

Okay. That's good. That should make capital markets a little less episodic or maybe episodic in a different way going forward. I mean let's make sure we got everything?

Bryant Riley, Co-CEO

Just one clarification. I'm sorry, what I was referring to is we call it advisory, we look to it as our financial consulting segment is what I was referring to on the restructuring side.

Brett Hendrickson, Analyst

Yeah. I knew that that's the old GlassRatner businesses in the financial consulting side, is that right?

Phillip Ahn, CFO and COO

Right, correct.

Bryant Riley, Co-CEO

Yeah. And then all of FocalPoint will stay in capital markets?

Brett Hendrickson, Analyst

Okay, great. Thanks for your time and insight and keep up the hard work.

Bryant Riley, Co-CEO

All right. Thanks, Brett.

Operator, Operator

This concludes our question-and-answer session. I'd now like to turn the call back over to Mr. Riley for his closing remarks.

Bryant Riley, Co-CEO

And I guess I would conclude by saying I can't imagine being in a better position for a highly volatile market than we are, thanks to members of our team across our business. As the numbers demonstrate, we obviously are going to have big gyrations on our investment book and we made almost $400 million last year in that book and in this first quarter, we lost some money and as the markets continue to come in, we'll lose some money there, but the base business is incredibly strong and I'm really excited about the cash flows that will be generated when we have both the base business and the recurring business and the episodic clicking at the same time, which we will. You don't know when that's going to happen but it will. And feel really good about our balance sheet and the opportunities and look forward to reporting next quarter. Thank you everybody within B. Riley and our shareholders for their support and we'll talk in 90 days. Thank you very much.

Operator, Operator

Thank you. Before we conclude today's call, I will provide B. Riley Financial's Safe Harbor statement, which includes important cautions regarding forward-looking statements made during this call, statements made during this call about B. Riley Financial's future expectations, plans and prospects and any other statements regarding matters that are not historical facts, may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Investors should be aware that any forward-looking statements are subject to various risks and uncertainties that could cause actual results to differ materially from those discussed here today. These risk factors include the unpredictable and ongoing impact of the COVID-19 pandemic as well as other risk factors explained in detail in the company's filings with the Security and Exchange Commission. Please refer to these filings for a more detailed discussion of forward-looking statements and the risks and uncertainties of such statements. All forward-looking statements are made as of today and except as required by law, the company undertakes no obligation to publicly update or revise any forward-looking statements whether because of new information, future events or otherwise. Thank you for joining us for B. Riley Financial's first quarter 2022 earnings conference call. You may now disconnect.