Silvercrest Asset Management Group Inc. Q3 FY2023 Earnings Call

Good morning and welcome to the Silvercrest Asset Management Group Inc. Q3 2023 Earnings Conference Call. All participants will be in listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. Before we begin, let me remind you that during today's call, certain statements made regarding our future performance are forward-looking statements. They are based on current expectations and projections, which are subject to a number of risks and uncertainties, and many factors could cause actual results to differ materially from the statements that are made. Those factors are disclosed in the filings with the SEC under the caption Risk Factors. For all such forward-looking statements, we claim the protection provided by the Litigation Reform Act of 1995. All forward-looking statements made on this call are made as of the date hereof and Silvercrest assumes no obligation to update them. I would now like to turn the conference over to Rick Hough, Chairman and CEO of Silvercrest. Please go ahead.

Good morning and thanks for joining us for this third quarter 2023 results of Silvercrest. The uncertain and more volatile markets during this past quarter had an outsized effect on our assets under management, with Silvercrest concluding the quarter with a total AUM of $31.2 billion and discretionary AUM of $20.5 billion. The discretionary AUM, which primarily drives our revenue, decreased by $1 billion from the second quarter, and discretionary AUM has increased by $1.1 billion or 5.7% year-over-year since the third quarter of 2022. The firm's total AUM has increased by $3.8 billion or 13.9% year-over-year from $27.4 billion to $31.2 billion. Revenue increased 2.3% year-over-year for the third quarter of 2023 compared to the same period in 2022 and our revenue decreased 6.2% for the nine months ended September 30, 2023. Most business metrics remain down on a year-over-year and year-to-date basis. Higher expenses during the third quarter this year negatively impacted our adjusted EBITDA and the adjusted EBITDA margin, and the year-to-date decline in revenue affected adjusted EBITDA, the adjusted EBITDA margin and our adjusted diluted earnings per share. But Silvercrest adjusted EBITDA margin of 26.9% and 27.3% for the three and nine months ended September 30 remains healthy for the company. Silvercrest pipeline of new business opportunities remains solid, but we have weakened since the second quarter. This is the result of slower decision-making, not lost opportunities for the firm. We attribute this to a changing and uncertain business environment, higher interest rates and geopolitical concerns. We're focused on these new opportunities as well as investments to drive future growth in the business, including value-added hires. On October 31st, the company's Board of Directors declared a quarterly dividend of $0.19 per share of Class A common stock and that dividend will be paid on or about December 15th, 2023. With that I'll hand it over to Scott Gerard to go through our financials and then we will take questions. Thanks.

Great. Thanks, Rick. As disclosed in our earnings release for the third quarter, discretionary AUM as of September 30th of this year was $20.5 billion and total AUM as of the same date was $31.2 billion. Revenue for the quarter was $29.7 million and reported consolidated net income for the quarter was $5.4 million. Looking further at the quarter, again, revenue of $29.7 million represented approximately a 2% increase from revenue of approximately $29 million for the same period last year. This increase was driven by an increase in the average annual management fee based on the mix of discretionary and nondiscretionary assets. Expenses for the third quarter were $23.2 million, representing approximately a 6% increase from expenses of $21.9 million for the same period last year. This increase was primarily attributable to an increase in G&A expenses of $0.8 million and an increase in compensation and benefits expense of $0.4 million. Looking further, compensation and benefits expense increased approximately 3% to $16.7 million for the third quarter from $16.3 million for the same period last year. The increase was primarily attributable to an increase in salaries and benefits of $0.3 million, primarily as a result of merit-based increases and newly hired staff, and an increase in equity-based compensation of $0.1 million due to the granting of additional RSUs. General and administrative expenses increased by $0.8 million to $6.5 million for the third quarter from $5.7 million for the same period last year. This was primarily attributable to an adjustment to the fair value of contingent consideration related to the Cortina Acquisition of negative $0.3 million recorded during the third quarter of 2022, in addition to increases in portfolio and systems expense, travel and entertainment expense, and occupancy marketing expenses as well. And these were partially offset by lower professional fees. Reported consolidated net income was $5.4 million for the quarter as compared to $5.6 million in the same period last year. Reported net income attributable to Silvercrest or to Class A shareholders for the third quarter of this year was approximately $3.2 million or $0.34 per basic and diluted Class A share. Adjusted EBITDA, which we define as EBITDA without giving effect to equity-based compensation expense and noncore and nonrecurring items, was approximately $8 million or 26.9% of revenue for the quarter compared to $8.2 million or 28.1% of revenue for the same period in the prior year. Adjusted net income, which we define as net income without giving effect to noncore and nonrecurring items and income tax expense assuming a blended corporate rate of 26%, was approximately $5.1 million for the quarter or $0.37 and $0.36 per adjusted basic and diluted EPS, respectively. Adjusted EPS is equal to adjusted net income divided by the actual Class A and Class B shares outstanding as of the end of the reporting period. For adjusted basic EPS and to the extent dilutive, we add unvested restricted stock units and nonqualified stock options to the total shares outstanding to compute diluted adjusted EPS. Looking at the nine months of this year, revenue was approximately $88.9 million, and this was approximately a 6% decrease from revenue of approximately $94.7 million for the same period last year. This decrease was driven by a decrease in the average annual management fee based on the mix of discretionary and nondiscretionary assets, also market impacts as well. Expenses for the nine months ended September 30th of this year were $69.1 million, representing approximately a 15% increase from expenses of $60.3 million for the same period last year. This increase was attributable to an increase in G&A expenses of $11.7 million, partially offset by a decrease in compensation and benefits expense of $2.9 million. Looking further, compensation and benefits expense represented approximately a 6% decrease to $50 million for the nine months ended September 30th of this year, from $52.9 million for the same period last year. The decrease was primarily attributable to a decrease in the accrual for bonuses of $4.3 million partially offset by an increase in salary and benefits expense of $1.1 million and an increase in equity-based compensation expense of $0.3 million. General and administrative expenses increased by $11.7 million to $19.1 million for year-to-date September 30th this year from $7.4 million for the same period last year. This was primarily attributable to an adjustment to the fair value of contingent consideration related to Cortina of $10.9 million, and that was a negative $10.9 million, so a reduction to expense. Increases in portfolio and systems expense, professional fees, occupancy, marketing and depreciation and amortization expense, were partially offset by a decrease in sub advisory and referral fees. Reported consolidated net income was $15.8 million for year-to-date September 30th of this year compared to $27.5 million in the same period last year. Reported net income attributable to the Class A shareholders for year-to-date September 30th of this year was approximately $9.5 million or $1.01 and $1 per basic and diluted Class A share respectively. Adjusted EBITDA was approximately $24.3 million or 27.3% of revenue for year-to-date September 30th this year compared to $27.6 million or 29.1% of revenue for the same period last year. Adjusted net income was approximately $15.1 million for year-to-date this year or $1.08 and $1.05 per adjusted basic and diluted EPS, respectively. Looking at the balance sheet. Total assets as of September 30th of this year were $191.3 million compared to $212.7 million as of the end of last year. Cash and cash equivalents were approximately $58.9 million as of September 30th this year compared to $77.4 million at the end of 2022. Total borrowings as of September 30th of this year were $3.6 million. Total Class A stockholders' equity was approximately $83.6 million as of September 30th this year. That concludes my remarks. So I'll turn it over to Rick for Q&A.

Great. Thanks, Scott. I look forward to taking questions at this time.

We will now begin the question and answer session. Our first question will come from Sandy Mehta with Evaluate Research. You may now go ahead.

Yes, good morning. Rick, could you provide more insight into the pipeline? You mentioned that it remains strong, but there has been some hesitance in decision-making. Are you noticing this trend among institutional investors, or is it more prevalent with consultants? With the Fed indicating a potential pause, do you believe this will encourage more decision-making moving forward? Thank you.

Yes, you're welcome. When I mentioned the uncertain business environment and the slow decision-making, it's one of the rare times I've addressed the broader context in the past decade. Our firm has performed well through various conditions, and a key measure for us is the institutional pipeline. Essentially, I’m referring mainly to our institutional business. There’s a lot of uncertainty affecting decision-making among high net worth clients, which is harder to evaluate regarding timelines for those mandates compared to the institutional business. I can say for certain that the institutional business is feeling the impact, partly because some clients have paused or withdrawn their searches and are in wait-and-see mode. Ideally, consultants would prefer to facilitate and push decisions forward, so it seems to be driven more by institutional clients. The pipeline stands at $1.3 billion across different institutional segments, including our US value equity, US growth, and international and OCIO capabilities. At the end of Q2, I reported a pipeline of $1.3 billion, which included opportunities from invite-only RFP processes where we were either a finalist or semifinalist with a six-month actionable window. I had decreased the pipeline at that time because things were taking longer than six months, and for the first time, we removed opportunities from the pipeline since it didn’t align with our measurement approach. This quarter, we are facing similar situations where we are still in the running, but opportunities are exceeding the six-month measure we are comfortable with. It's important to present consistent comparisons to our investors across different time periods. The pipeline, which was $1.3 billion last quarter, is now at $810 million, marking a significant decline. However, this is largely due to prolonged decision-making timelines or cases where decisions have been outright paused until sponsoring institutions feel more at ease with the environment. There have been times when our pipeline has dropped to zero, such as during COVID, but it eventually rebounded. We'll see how this develops. Regarding your last point about the Fed, I concur that if the Fed or interest rates start to decline, that could be beneficial. The lack of market broadening is partly attributed to higher interest rates, which place financing pressures on many companies and significantly influence capital allocation decisions. I appreciate the question, and this provides insight into the current landscape related to our pipeline.

And just one follow-up. The OCI business continues to grow.

The OCIO business continues to have really good opportunities. I expect a very near-term win there. We'll see, but I expect that. And it remains at basically $1.5 billion in assets under management. It's about the same, very similar to what I reported at the end of the second quarter. But keep in mind the markets were down during the quarter. So that's a relatively positive report.

Great. Thank you.

You're welcome.

Our next question will come from Christopher Marinac with Janney Montgomery Scott. You may now go ahead.

Hey, good morning, Rick and good morning, Scott. Just wanted to ask first about the discretionary versus nondiscretionary AUM. Are those trends going to continue to shift in the next year? And maybe just a related pricing question, too.

Yes. Okay. Yes, so it has gone up quite substantially over the past recent, I don't know, 12 months to 18 months, as you've noticed, at a higher rate than I think we've ever really experienced with the company. I think year-over-year, to your point, it's up something like 34%. That is a function primarily of our family office services. The assets related to nondiscretionary work is usually a project fee for services rendered. I should note, by the way, that a fair bit of OCIO capabilities, if not the vast majority of it is also in nondiscretionary. That's the nature of those relationships, and those have more of a basis point relationship. So on the family office side I expect the increases due to that to moderate. There is not really a change in the amount of revenue we get. That's just a function of us doing reporting work and other tracking and balance sheet work on behalf of extremely wealthy clients who have often non-liquid holdings, private equity, real estate, operating businesses that we, for supervisory reasons, have to report as nondiscretionary assets under management. So whether that goes up a lot or down a lot, it really doesn't change revenue on that side. With the OCIO business, if you think about most of that $1.5 billion being in there is nondiscretionary then, yes, to the extent that, that business continues to grow, which we're quite optimistic about and continue to make progress on, as you know, that number will increase. And that is additive to revenue, and we'll have a closer tie to kind of the economics of total AUM. Does that help?

Yes, it does. That's great. Thank you for that. And I guess just related question about this kind of the pricing in basis points. I know it's been sort of trending for a while, and it's kind of more secular. I'm just kind of curious if this environment leads that to change at any different pace.

If you could ask your question another way, I'm not sure I quite followed it. I'll just say one thing before you clarify. One thing we have to watch is backing into total basis points by taking our total assets under management as the denominator, with revenue as denominator is misleading because you're putting in a lot of assets that don't really have basis points associated with them. So to the extent that family office assets under management, nondiscretionary increase, which I described before, it looks like the basis points that we're getting for the business is going down when that is not, in fact, the case. But I'm not sure that's what you were asking about.

Actually, Rick, you actually hit it right there because that was kind of where I was going. So that clarifies the point. So really don't be too caught up in that basis point slippage based on that.

Yes, precisely. Primarily look at discretionary assets under management as the driver of revenue. Of course, the OCIO business, which is basis points, it looks more like the institutional business, and pricing, by the way, is in there, and there's some influence. But it's still small compared to the overall enterprise. In fact, the $1.5 billion compared to our discretionary assets of $20.5 billion puts it around 4% or 5%.

Great. Then last question for me just has to do with sort of expenses and hiring. If you have some delayed decision making in general, as you talked about, does that make any impact in the next couple of quarters on hires and just sort of how you spend at the company?

Yes. I don't believe it will impact our decision-making. Our company has navigated various business environments over the past 20 years, including the Global Financial Crisis when we were a private entity. It was challenging, but my partners and I managed through it and have learned how to control our expenses. We are not finished with capital allocation, and we will not jeopardize the business by slowing down or delaying our decisions. We want to operate as our true selves at Silvercrest and are particularly cautious about how we utilize our cash. We are monitoring expenses more closely than ever, but we are fortunate to have significant available capital. Unlike others, we do not have to manage many cumbersome acquisitions or worry about operational changes or debt obligations. This capital is meant for investment to yield a good return on invested capital for our investors. As demonstrated in 2019 during our merger with Cortina, opportunities for using this cash can arise unexpectedly. I mentioned several new business prospects in my opening comments, referring to both the pipeline and potential new business developments, as well as ongoing discussions about hires and other investment avenues. Currently, we have a wide range of initiatives in progress, making it busier for us than it has been in a while. Thus, my decision-making will remain unchanged. The delay in decision-making that I observe is influenced by potential clients, institutions, and general business conditions, including insights from other management teams in their earnings reports. We are well-integrated in the market, which is a distinct advantage for our firm, and I anticipate this situation might extend into 2024, though I cannot predict the future as I am not an economist. My focus is solely on running a successful business. Regarding expenses, we have not made any new hires or changes since my last update. The expense side has been challenging, as many vendors and companies have raised prices due to inflation, creating some additional stress and management challenges. However, we are accustomed to these circumstances; they are part of our business. As I noted, we maintain a strong EBITDA margin of around 27%, which is typical for our industry and looks quite good overall. I do not expect that trend to change unless there is a dramatic shift in the market.

Sounds good, Rick. Thanks for all the background this morning. We appreciate it.

Yeah, you're very welcome.

Our next question will come from Chris Sakai with Singular Research. You may now go ahead.

Hi, good morning, Rick. I have a question about the M&A environment. Are you seeing any good acquisition targets out there?

Yes. We always see potential M&A targets. It is kind of just a theme of my job that I'm regularly talking to other executives and companies. What we're looking for is quite select in the marketplace. I've described before that this is a high net worth business. It's not ultra-high net worth. Our average client is for the size company we are as well above most of our peers and continues to be at anywhere between $35 million and $40 million as an average. Our median is lower. I want to have a good firm with good planning, succession if it can be done. I'd like to at least know how to fix that, that can organically grow post acquisition by Silvercrest. That is not as common as you might think. The high net worth business can be quite slow, growing organically ex-markets witnessed the environment we're in. And I want them in key places where I'm interested in having a location if it's not a bolt-on in New York, Milwaukee, Boston or Richmond. And so there are always so many firms that really fit the criteria that I'm looking for that check all the boxes and they have to be ready at the right time. I would say it's quite active in discussions. I alluded in the last question and the fact that we're always looking at these things and busy, that includes hires, by the way, that can advance the company on behalf of our shareholders. And I would just characterize it as a busy period. I have no idea if any of those will land, and I wouldn't want to suggest anything is imminent to anyone on the call. You just don't know. There are so many things that can change between conversations now and what ultimately happens, but I'll conclude by saying we are quite active. We're also seeing, yes, Chris, I'll just add one other thing, sorry. We're also, as I predicted, in the last couple of calls, the increase in interest rates, while it's not welcomed in some ways, certainly, its effect on markets and people's outlook combined with, not to mention the geopolitical concerns that we have that, I think it's just part of the general feeling people have. I've actually welcomed it because I think it will lead to more rational capital allocation decisions ultimately. Finally, people are getting paid for their fixed income. It just creates a lot of disruption in the meantime. But I'm seeing a moderating in the market that's actually healthy on the M&A side from my perspective.

Okay, great. Thanks for that. My other question is about the recent increase in travel and entertainment expenses. Is this what we should expect as we move beyond COVID, and what can we anticipate for those expenses in the future?

Yes, you can expect that to increase as we move beyond COVID. It's quite variable, so I won't provide specific guidance on future expectations. My overall view, which I know Scott shares, is that this is positive. An increase indicates that we're active and engaged with our clients and seeing more prospects. For example, the high net worth side benefits, but on the institutional side, much of the interaction was via Zoom without travel, and it's much more effective to meet potential clients and consultants face-to-face. This is happening more frequently now, so I anticipate a return to a more normalized environment. During COVID, we noted when those numbers were lower, but I can't predict exactly how things will unfold. Additionally, there have been more international opportunities, which typically involve higher travel costs.

Okay. Great. Thanks for the answers.

You're welcome.

This concludes our question-and-answer session. I would like to turn the conference back over to Rick Hough for any closing remarks.

Great. Thank you very much. I really appreciate all of our shareholders for joining us today for the update on the third quarter. As we navigate this interesting environment, and I think we've got tremendous opportunities ahead. This is a company, as I said before, that has been through environments like this for 22 years, running this business through all sorts of ups and downs, and we've successfully navigated any number of issues and growing our business profitably. The kind of uncertainty that we face creates opportunity whenever one of our businesses is affected. And we're feeling very good about that and the team that we have here in our partners in terms of how we work hard to position ourselves for success. So I look forward to talking to you again soon and I really appreciate everyone joining us. Thanks so much.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.