Earnings Call Transcript - SAMG Q1 2024

Operator, Operator

Good morning, and welcome to the Silvercrest Asset Management Group Inc. First Quarter 2024 Earnings Conference Call. 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 our filings with the SEC under the caption Risk Factors. For all such forward-looking statements, we claim the protections 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.

Richard Hough, Chairman and CEO

Thank you very much, and good morning. Welcome to our first quarter 2024 earnings conference call. Usually, I read my business update for the quarter, but I thought it would be helpful this morning, since it's been a while, to really talk about what Silvercrest does and highlight the nature of our firm strategically. Silvercrest is an independent wealth management firm, and we combine top quality investment expertise with high levels of customer service. Our customer-facing investment professionals, who provide customized advice and service to our well over 600 ultra-high net worth individuals and institutions, have consistently enjoyed annual customer retention rates of over 98%, and most of our revenues come from recurring management fees. We also have great employee retention with very little turnover, and people have dedicated their careers to building this firm. Because of the excellent investment returns we've generated for our clients over time, coupled with our superb client service, our assets under management have grown from $4 billion to $30 billion over the last 20 years. Unlike many of our wealth management competitors who are 100% open architecture, which means they have none of their own internal investment management, we have a strong investment culture at Silvercrest focused on building, supporting, retaining, and training really strong intellectual capital on behalf of our clients. We deploy over 30 institutional grade investment professionals to manage equity and fixed income portfolios. These in-house investment teams all employ fundamental company and security analysis, and most of our proprietary strategies have excellent long-term investment track records. Our in-house investment teams also provide valuable input and feedback to our asset allocation, third-party manager selection, and OCIO teams. Our clients tell us that our asset allocation advice and investment returns have consistently been better than many of our peer organizations. One of our key value propositions is delivering institutional quality investment capabilities to our high net worth clients. We have built the firm not only to deliver institutional quality, but our proof of thesis is that we have institutional clients, and about 30% of our assets under management are now managed on behalf of organizations, consultants, and others who are professional investors. This is proof that our clients are receiving substantial value. I'd also like to highlight that my colleagues and I at Silvercrest have one job, which is to invest our clients' assets well. We're not part of a large global investment bank with a highly leveraged balance sheet, and the executives and employees here own over 30% of our outstanding shares. Many of us, including myself, have most of our family assets managed at Silvercrest. So we are well-aligned both on the upside and downside with our clients and our shareholders. We think Silvercrest is one of the best wealth management firms in the world. So please don't hesitate to reach out to me, Scott Gerard, or any of my colleagues if you'd like to discuss becoming a client or working with us in the future. I'd now like to update you on our company's progress for the first quarter of 2024. Supportive equity markets in the first quarter set the stage for a much better environment for our business, continuing the progress that began in the fourth quarter of 2023 as the market broadened its gains. While we continue to expect an uncertain economic and market environment, Silvercrest has never had more business opportunities or initiatives underway. I believe that 2024 and 2025 will prove to be some of the most formative years for Silvercrest. We're focused on those new opportunities as well as investments to drive future growth in the business, including value-added hires. As part of those initiatives, Silvercrest is accruing a higher interim percentage of revenue for compensation, and we will adjust compensation accruals to reflect those important investments in the business. Silvercrest just announced, as of yesterday, hiring a new team to expand its international and global equity investment capabilities as well as our global outreach. The team will complement Silvercrest's existing international team and capabilities for a more diversified and robust offering. The team brings significant investment expertise, a proven track record, and experience managing significant equity mandates on behalf of large institutions around the world. Primarily due to the supportive market, Silvercrest's discretionary assets under management increased by $0.8 billion during the quarter, or 3.7%, to $22.7 billion. The firm's total AUM increased by $1.2 billion to end the first quarter at $34.5 billion. Year-over-year, in the first quarter of 2023, our discretionary AUM and total AUM increased by 6.6% and 15.4%, respectively. While top line revenue increased by 2.9% from the end of the first quarter last year, most metrics of the business are down due to higher expenses, primarily related to compensation expense. Silvercrest's pipeline of new institutional business opportunities has more than doubled since the fourth quarter of 2023. The firm's total new business pipeline now stands at $2 billion, which is up substantially from $700 million in the fourth quarter. We expect near-term positive flows to result from those opportunities for both our institutional equity and OCIO capabilities. As a high-end wealth and asset management firm, Silvercrest serves families and institutions from across the globe despite headline news of international tensions. We continue to see substantial new opportunities globally for a firm with our high-quality capabilities, coupled with superior client service that I mentioned in the opening of my remarks. That concludes my prepared remarks, and I'll turn this over to Scott Gerard for some comments on our financials, and then we'll proceed to questions. Thank you.

Scott Gerard, CFO

Thanks, Rick. As disclosed in our earnings release for the first quarter, discretionary AUM as of March 31, 2024, was $22.7 billion and total AUM as of the same period was $34.5 billion. Revenue for the quarter was $30.3 million, and reported consolidated net income for the quarter was $4.9 million. Revenue for the quarter increased year-over-year by $5.8 million or 2.8%, primarily driven by increased discretionary AUM resulting from market appreciation, partially offset by net client outflows. Expenses for the quarter increased year-over-year by $1.7 million or 7.4%, primarily driven by increased compensation and benefits expense and to a lesser extent, increased general and administrative expenses. Compensation and benefits expense for the quarter increased year-over-year by $1.2 million, or 7.1% of revenue, primarily due to an increase in the accrual for bonuses. Based on the increased recurring cash compensation ratio over the past two years, due in part to the investment in the next generation of associates to drive future growth, we increased the amount of the interim variable compensation accrual. Also, compensation and benefits expense for the quarter increased year-over-year as a result of increases in salaries due to merit-based increases. General and administrative expenses increased by $0.5 million or approximately 8.3%, primarily due to increases in travel and entertainment expenses, occupancy and related costs, professional fees, and increased depreciation and amortization expense. Reported net income attributable to Silvercrest or to Class A shareholders for the first quarter was approximately $3 million or $0.32 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 $7.5 million or 24.6% of revenue for the quarter. Adjusted net income, which we define as net income without giving effect to noncore and nonrecurring items and income tax expense, assuming a corporate rate of 26%, was approximately $4.7 million for the quarter, or $0.34 and $0.33 per adjusted basic and diluted EPS, respectively. Adjusted EPS is equal to adjusted net income, defined by the actual Class A and Class B shares outstanding as of the end of the reporting period for basic adjusted EPS. And to the extent dilutive, we had unvested restricted stock units and nonqualified stock options to the total shares outstanding to compute diluted adjusted EPS. Looking at the balance sheet, total assets were approximately $170.2 million as of March 31 this year compared to $199.6 million as of the end of 2023. Cash and cash equivalents were approximately $39.7 million as of March 31 this year compared to $70.3 million at the end of last year. Cash and cash equivalents at the end of the first quarter are net of our annual compensation payouts. Total borrowings as of March 31 this year were $1.8 million and total Class A stockholders' equity was approximately $83.9 million as of the end of the first quarter. That concludes my remarks, and now we can go into Q&A.

Operator, Operator

The first question comes from Sandy Mehta with Evaluate Research.

Sandy Mehta, Analyst

The pipeline jumped quite a bit. What caused the pipeline to jump so suddenly?

Richard Hough, Chairman and CEO

And bear with me as I answer questions; you may have noticed in my interim remarks that I sound a little hoarse. I'm struggling with some spring allergies. The pipeline grew substantially primarily because we are now included in a lot more consultant searches for the OCIO team than we had been. In building that initiative, you may recall in the past that I've talked about our need to really cultivate those search firms that specialize in the OCIO space. It takes time to do that, and we've made really, really nice progress there. The other thing that has happened with the OCIO pipeline is that we're getting more client referrals now that we've done a great job. The OCIO asset allocation and manager selection portfolio, which gets reported in databases, is well ahead of its benchmark in the institutional space as well. So we're just getting more attention, and those mandates are large. So you saw a very significant jump in the pipeline for that reason. Last quarter, the total pipeline for the firm across value growth and OCIO was on the lower side, as we talked about. It was about $650 million, and it now stands in total in excess of $2 billion.

Sandy Mehta, Analyst

Okay. And on the international strategy side, could you talk a little bit about how much you have in existing assets, the length of existing track record, and how many senior personnel portfolio managers you have? And then with these new hires, what sort of strategies do you anticipate? How many more strategies or plans do you anticipate?

Richard Hough, Chairman and CEO

Right. So the main strategy that I look at is based out of our San Diego office. When that firm joined us in 2019, it had about $300 million. It's fairly small, in the deeper value space, and they have global small-cap international value in emerging markets, but the $300 million is in the international value. Obviously, small cap is important as well. Total assets are higher than that, but I'm just mentioning it from an immediate institutional perspective, and that's small. It's a fantastic team; actually, their performance is great. The performance precedes Silvercrest, but at Silvercrest from 2019, they’ve done extremely well on a relative basis versus their respective benchmarks. The new team that has joined us really focuses primarily on global value equity, which is much more of a relative value capability and has virtually no overlap with the approach that the existing team has. We expect, given the flows internationally into global equity mandates, especially from very large pools of sovereign wealth or other capital, that it will bolster the entire complex at Silvercrest and allow us to compete much more effectively across the whole international book. So we think it's going to have a knock-on effect as the global equity team that just joined us grows their assets.

Sandy Mehta, Analyst

As a former global, sorry, please continue.

Richard Hough, Chairman and CEO

I was just going to mention that the pipeline of $2 billion does not include the pipeline of this new team. That pipeline in and of itself is quite substantial. But since they've just joined us, I'm not going to quantify it yet; we'll give you an update over the next couple of quarters.

Sandy Mehta, Analyst

As a former global fund manager, I wish you all the success.

Operator, Operator

The next question comes from Christopher Marinac with Janney Montgomery Scott.

Christopher Marinac, Analyst

Rick and Scott, can you remind us on the historical pull-through of the pipeline and just in terms of percentage over time? I know it's not necessarily the next quarter, obviously, but just wanted to get a sense of the big picture, how much should be pulled through? And then I had a follow-up about the EBITDA margin and how you see that evolving this year?

Richard Hough, Chairman and CEO

Yes. Those are very typical questions, to be honest, because there's a lot of variability on how much gets pulled through. It's a high percentage, but it varies a lot based on the size of the potential mandates that are in the pipeline, and we've got some really big ones in there. So if I were to tell you something like 70% or 80%, that could give you a false expectation. Because, just for argument's sake, if you've got something in there that's $700 million or $1 billion, sure you could do a percentage on it, but as you know, percentages when it comes down to one thing, it’s a small sample, right, versus the variability in a pool. Whereas if it were equal sized chunks of $50 million, giving you a percentage like 70% or 80%, it would be a lot better for looking into the future. So I hope you understand that I'm not going to give you a number on that just because we are always pretty conservative, number one; and number two, I think, given the mix of potential pipeline there, it could be misleading. I will restate the standards for that pipeline, which is that we are in finals or semi-finals or we have been invited to submit an RFP, and we expect a decision to be made in the next six months, and we're very rigorous about that. I think that really is a good measure of the opportunities for the company. You may recall a couple of times over the past two to three years, our pipeline actually was reduced substantially, primarily because it was going to take more than six months, so we pulled things out of the pipeline for that reason. So I think that well covers how we look at the pipeline and how conservative it is. I would just say that yes, we expect a high percentage, but I think the mix right now makes that uncertain. Did I address both questions?

Christopher Marinac, Analyst

Sure. And I just had a follow-up on the EBITDA margin and kind of how you see that evolving?

Richard Hough, Chairman and CEO

Oh right, thank you. So the EBITDA margin, when we are in a steady state business that's really growing nicely, is anywhere from 27% to call it 32% at the very highest, which we saw at the end of 2021. To get that high usually requires performance fees. We haven't had performance fees since the end of 2021. Performance fees almost all go to the bottom line and provide a great boost to cash flow and therefore, EBITDA. When we're investing in the business, and growth is slower, you're going to see that EBITDA get hit. We saw that happen in 2023 and 2022. And of course, we're accruing more for compensation this year as a result. We did see an uptick, as you know, from the first quarter of last year to the first quarter of this year. I can't really give you a good projection of what will happen with that EBITDA because we have pointed out that we are going to hit EBITDA; we're going to hit earnings to invest in new personnel. I think I provided a lot of guidance on that last year. Here we are, we're doing it. This is just one example of this team, but the timing of the growth of the assets and revenue that would increase EBITDA is not entirely known. So to tell you what direction that may go for the rest of the year, I can't really forecast for you. In the past, when we've made these investments at, say, a 28% EBITDA margin, 29%, often at 27%, we were growing faster than those investments. So in effect, those investments were hidden. With the narrow market last year and the slower progress, the unsupportive market, as you know, in 2022, what we're doing regarding those investments is more apparent in the EBITDA. I think it has been very important for me to be very straightforward, as it was last year, about what we're doing and that this ultimately, in a normalized environment, will drive higher EBITDA margins. I do seek to push the company back into the mid- to high 20% EBITDA margins, but that's going to take a bit.

Operator, Operator

The next question comes from Chris Sakai with Singular Research.

Chris Sakai, Analyst

How should we be thinking about the growth of nondiscretionary assets under management versus the growth of discretionary assets under management in the coming quarters?

Richard Hough, Chairman and CEO

I would like to emphasize the importance of focusing on discretionary assets under management, as they are directly linked to revenue. There is a lag with revenue recognition that should be considered since we bill quarterly in advance. This means that the increase in discretionary assets under management from the first quarter of last year will not be fully reflected until the second quarter of this year due to our billing practices. Additionally, while nondiscretionary assets under management relate to our discretionary assets, they often involve project flat fees linked to our reporting capabilities and asset tracking, particularly for illiquid assets in client portfolios and OCIO services. As our OCIO capabilities expand, we expect to see growth in nondiscretionary assets, which is positive. We've also seen an influx of new reporting assets from key clients, significantly enhancing our value to them. Our advanced reporting platform and data warehouse are widely utilized by our clients, showcasing the strength of our firm's capabilities. Moreover, we are witnessing an increase in alternative investment activity and illiquid holdings among our clients alongside OCIO services, which indicates a healthy business environment, even though this is not as strongly correlated with revenue as discretionary assets are.

Chris Sakai, Analyst

Okay. How should we be thinking about compensation and benefits expense in the coming quarters?

Richard Hough, Chairman and CEO

We adjusted it to 58% or 57% in the first quarter after the adjustment in the fourth quarter of last year, which includes the new team we just announced and may incorporate a few other initiatives. We believe there is some room for more hires, but it might not be sufficient; we'll see. We'll continue to adjust that as we determine the appropriate level based on our investments. Previously, accruing at 55% was comfortable due to the company's rapid growth during good market years. In 2021, we ended the year at 53%, which was unusual since most years we were close to 55%. As we aim to expand the company, we will need to adjust our accruals. If anything, that figure could increase slightly this year. To be frank, we prefer to avoid making adjustments in the fourth quarter. Ideally, we want to maintain consistency and predictability throughout the year with minimal changes, but that doesn’t always happen. As I mentioned earlier, I believe the firm is at a crucial point in its growth and the investments we are making. Therefore, we are open to more variability moving forward and will communicate clearly to you and other investors about the reasons and methods behind our decisions.

Operator, Operator

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

Richard Hough, Chairman and CEO

Great. Thank you very much for joining us this morning. I appreciate the questions along with my rather prolonged introduction about what makes this firm special strategically and in the marketplace for high net worth and institutional investors alike. I think it's very important as we engage in more initiatives to grow the business that we keep those first principles in mind about how we build the company. As I also mentioned, I think this is going to be incredibly formative years given the number of initiatives that we have and the new professionals that we're bringing on board to build this company. I look forward to giving you more information about that pipeline and the success we expect those teams to enjoy on our behalf and on your behalf. Thank you very much.

Operator, Operator

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