Marcus & Millichap, Inc. (MMI) Q4 2014 Earnings Report, Transcript and Summary

Greetings and welcome to the Marcus & Millichap’s Fourth Quarter 2014 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Mr. Steve Swett. Thank you, you may begin.

Thank you. Good afternoon and welcome to Marcus & Millichap's fourth quarter and full year 2014 earnings conference call. With us today are Marcus & Millichap’s President and Chief Executive Officer, John Kerin; Chief Strategy Officer, Hessam Nadji and Chief Financial Officer, Marty Louie. Before I turn the call over to management, please remember that our prepared remarks and responses to questions may contain forward-looking statements. Words such as may, will, expect, intend, plan, believe, seek, could, estimate, judgment, targeting, should, anticipate, goal and variations of the these words and similar expressions are intended to identify forward-looking statements. Actual results could differ materially from those implied by such forward-looking statements due to a variety of factors including but not limited to general economic conditions and commercial real estate market conditions including the recent conditions in the global markets and in particular the U.S. Fed markets. The Company’s ability to retain and attract transaction professionals, the company’s ability to retain its business philosophy and partnership culture, competitive pressures, the company’s ability to integrate new agents and sustain its growth, and other factors discussed in the company’s public filings, including the risk factors included in the company’s Annual Report on Form 10-K which is expected to be filed with the Securities and Exchange Commission on/or about March 9, 2015. Although the Company believes the expectations reflected in such forward-looking statements are based upon reasonable assumptions, it can give no assurance that its expectations will be attained. The company undertakes no obligation to update any forward-looking statement whether as a result of new information, future events or otherwise. In addition certain of the financial information presented in this call represents non-GAAP financial measures. The company’s earnings release which was issued this afternoon and is available on the company’s website, presents reconciliations to the appropriate GAAP measure and an explanation of why the company believes such non-GAAP financial measures are useful to investors. Finally, this conference call is being webcast. The webcast link is available on the Investor Relations section of our website at www.marcusandmillichap.com along with a slide presentation you may reference during the prepared remarks. With that, it’s now my pleasure to turn to call over to Marcus & Millichap’s President and Chief Executive Officer, John Kerin. John?

Thank you, Steve. And thank you for joining us today as we discuss results for the fourth quarter and full year 2014. I’ll begin today’s call with an overview of the Company’s performance and a review of our operational highlights. Hessam Nadji, our Chief Strategy Officer, will follow with an update on market conditions and Marty Louie, our Chief Financial Officer will conclude by providing additional details on the company’s financial results. We will then open up the call to your questions. Before I get started, let me just say we’re very proud to have completed our first year as a public company with very positive results and we want to thank our clients, our sales professionals, managers and employees for this company’s success. Let me begin with a review of our 2014 results, which reflect strong year-over-year growth across the board. 2014 revenue and real estate brokerage commissions and financing fees totalled $572 million, which is an increase of 31% from 2013. Full year adjusted EBITDA was 92.8 million, which was approximately 52% higher than the previous year. With this growth we achieved significant improvement in our adjusted EBITDA margin to 16.3% from 14.1% a year ago. In 2014, we closed the record 7,667 transactions, up 16% over the prior year with a total volume of $33.1 billion, which represents an increase of 38.2% and also a new record for the company. Turning to the fourth quarter with the strong finished of 2014 as we continue to execute our growth initiatives that drive the performance of our key metrics. These include growth in a number of sales professionals, total number of transactions and sales volume. Fourth quarter revenue of $172.4 million increased by 15.7% compared to the same period in 2013. At the same time net income rose to $16.4 million and adjusted EBITDA was $29.7 million, which was 21.2% higher than the prior year. In the fourth quarter, we closed approximately $9.9 billion in total transactions, which was a 27.2% increase over the prior year and comprised 2,144 transactions. As we’ve discussed in prior calls, we have shifted our recruiting towards experienced professionals, which we believe will result in higher and quicker productive rates, which also better leverages our regional managers. We continue to recruit experienced agents from local, regional and national firms whose experience allows them to utilize our national platform more effectively. The on boarding cost of these professionals as well, we expect the productivity be higher as measured by average transactions per individual. We ended the year with a total of 1,494 investment sales and financing professionals to 1,313 in 2013. This represents an increase of 40%. This also included the hiring of 141 experienced brokers. Throughout the year, we saw impressive year-over-year growth in sales volume in our specialty divisions as a result of our growth strategy. In particular, our hospitality, self-storage, industrial, single tenant net leased specialty divisions registered strong growth in 2014. In 2014, multifamily comprised 41% of our sales and financing transactions powered by retail of 39% and office accounted for 6%. Turning to geography, the western region represented approximately 39% of the total transaction, while the Midwest Mountain Southeast -- excuse me Southwest represented 33%. The Northeast Mid-Atlantic and the Southeast regions each represented approximately 14% of total transactions during 2014. Over the past year, we made considerable progress expanding our platform in Northeast as this high density region of the country represents significant opportunities for future growth. Our number of real-estate brokerage transaction in this region for the full year increased by 37%. Another growth driver for the company is further expansion of our mortgage brokerage division Marcus & Millichap's Capital Corporation or MMCC. During the fourth quarter MMCC had approximately 1.3 billion in financing volume and 370 closings, which reflects year-over-year growth of 64.6% and 16.7% respectively. In 2014 we grew our MMCC headcount to 82 which was up approximately 12% year-over-year. For the full year, MMCC closed 1,332 financing transactions and $3.8 billion in volume which reflect year-over-year growth of 14.3% and 41.2% respectively. I'm happy to announce MMCC's transactions and volume also set company records. Looking ahead to 2015, our strategy remains the same to increase market share in the core private client sector, to grow our presence in our specialty divisions and to further expand our mortgage brokerage business MMCC. We're committed to constantly improving our client service and agent support tools and training in executing our growth plan successfully. We expect another year of favorable market conditions with growing demand for commercial real-estate however the more normalized rate that we've seen in recent years. With that, I'd like to turn the call over to Hessam Nadji to speak further about overall market conditions and the industry trend. Hessam?

Thank you, John. Good afternoon everybody. My comments today are intended to provide an overview of the commercial real-estate market and therefore are not necessarily specific to Marcus & Millichap. Overall 2014 was a strong year for the economy and for the commercial real-estate sector. Economically, we saw an acceleration of employment growth, low inflation and lower interest rates. In fact the 10 year treasury yield closed the year at 2.2% and certainly 2.9% at the end of 2013 as a result of capital [flight to] safety, geopolitical issues, falling energy prices and expectations that the federal remained accommodative for some time. We added a total of 3.1 million jobs the best year since 1999 and announced to bring total employment in the U.S. 2.5 million above the prior peak. Commercial real-estate saw further gains in demand for space across all property sites with industrial office and retail showing the most improvement in overall occupancy. At the macro level, new supply remained in check industry wide including the apartment sector which is the only property sites that is seeing an above average level of the new development. Apartments ended the year at a healthy 95.3%, occupancy retail was at 93.4, industrial at 92.8 and office ended the year at nearly 85% occupancy. Specialty segments including hotels, self-storage, seniors housing all ended the year at their best occupancy levels since recovery began in 2010. In the property sales market, we saw an increase of 12% in the number of transaction and 14% gain in sales volume which points to a period of more normalized and sustainable expansion ahead. Higher was strong across the board particularly for the sub $10 million apartments and single tenant net leased retail properties. These two private investor dominated sectors comprised 39% of total sales in the marketplace which bodes well for Marcus & Millichap's market position as the clear leader in both of these segments. Sales in secondary and tertiary markets as defined by size rose by 14% and 17% respectively in 2014, reflecting the continuation of capital expanding outside of primary net growth in chase of higher yields. This is another advantage of our platform, footprint and marketing system as 41% of our transaction were sold to out of state buyers. In terms of sales composition last year the private client market segment which typically represents $1 million to $10 million sales once again accounted for 85% of transaction and an estimated 64% of the commission pool in the marketplace. For Marcus & Millichap, the segment comprised approximately 90% of sales and 78% of revenue which once again illustrates our alignment with the largest and most active segment of the market. Looking ahead at 2015 all these indicators that I just reviewed for 2014 positioned the market for another year of economic expansion, moderately higher job growth, improvements in commercial property fundamentals and most importantly continued growth in property sales. Lower oil prices are generally expected to be a net positive for the economy this year. We're already seeing a boost on the consumer side which should help momentum by midyear particularly for recap; oil prices at the top were also deflationary as of the stronger dollar which in turn lower prices inputs. With inflation and checked domestically at central banks in Europe and Asia lowering rates and taking additional simulative measures that are likely to remain in more of a wait and watch better than a been eager to raise interest rates. As it relates to our business the biggest benefit in the current environment is the extended period of low interest rate at a time of rising occupancies in rents. Commercial property deals are still very attractive compared to alternative investments and the key driver of capital flows into the sector. In fact our investor sentiment index based on fourth quarter surveys of investors hit an all-time high with 68% of investors planning to allocate more capital with acquiring commercial real estate in 2015 as a result of the all factors that I reviewed. In our view the biggest risk to this favorable forecast this year is still limited to an unexpected event or economic shock. With that lets turn the call over to Marty for an in depth look at our financial. Marty?

Thanks Hessam. Now I would like to discuss our fourth quarter 2014 numbers in more detail. Total revenues in the fourth quarter of 2014 were $172 million compared to $149 million for the same period in the prior year for an increase of nearly 16%. This increase in total revenues was primarily driven by increases in our real estate brokerage commissions which grew to $157 million from $134 million for the same period in 2013 an increase of nearly 17%. This growth was driven by both an increase in the number of investment sales transactions as well as larger average commission size, partially offset by a slight decrease in average commission rates. Average commission rates decreased due to an increase in the proportion of commissions from larger transactions which generally earned lower commission rates. Revenue from financing fees generated principally by MMCC increased to $12 million from $7 million in the fourth quarter of last year for an increase of 59%. Other revenues of $4 million were down compared to $7 million last year driven primarily by a decrease in referral fees from other real estate brokers at a decrease in fees generated consulting and advisory services. Our strategy has produced strong growth over the past year; looking ahead we expect that market conditions will remain favorable with continued demand for commercial real estate. We also believe however that growth moving forward will be at more normalized rate. Now let me provide some color on the revenue drivers within the real estate brokerage, which generated more than 90% of Marcus & Millichap's total revenue in the fourth quarter. For the fourth quarter, the total sales volume was $7 billion up approximately 27% from almost 6 billion for the same period of the prior year. This was driven primarily by favorable market conditions as well as continued execution of our strategy. We executed 1,571 transactions which represents an increase of 10% from 1,423 transactions in the fourth quarter of last year. The increases in sales volume and transactions are primarily driven by key factors underlying our business model which we have discussed in the past including our ability to extract and retain experienced sales professionals. During the full year of 2014 we increased the average number of investment sales professional by 15%. Notably we experienced a significant increase in the average transaction size in the fourth quarter. We realized an increase of approximately 15% in the average transaction size which contributed to a 6% increase in average commissions per transactions compared to the same period last year primarily driven by new unusually large transactions. Moving on to expenses, total operating expenses for the fourth quarter of 2014 were $145 million compared to $157 million for the same period the prior year, a decrease of $12 million or 8%. This decrease can be primarily attributed to the $31.3 million of stock based and other compensation in connection with our IPO that was reported during the fourth quarter of 2013 with no such comparable cost third and fourth quarter 2014. Offsetting this was an increase in cost of services which increased during the fourth quarter by nearly $16 million over the prior year to a $110 million. As a reminder cost of services mostly variable commission paid to company's investments sales professionals and compensation-related costs in connection with our financing activities and should generally track closely with our brokerage commissions and financing fees on a quarterly and annual basis. Cost of services as a percent of total revenues increased to 63.7% compared to 63.2% for the same period in the prior year primarily due to an increase in the proportion of transactions closed by our more senior investment sales professionals who are compensated at higher commission rates. Moving on to selling, general, and administrative expenses, it increased by $4 million or 12% primarily due to four areas. First an increase in non IPO stock based compensation, secondly an increase in sales and marketing expenses incurred to support our increased sales activity. Third an increase in management performance related compensation driven by strong operating results. And finally net increases and other expense categories which are primarily driven by our expansion and business growth. Our effective tax rate was 38.5% for the fourth quarter 2014; this is not comparable to the prior year as we had a net loss in the fourth quarter of 2013. The company’s net income for the fourth quarter in 2014 was $16 million, compared to a loss of nearly $9 million in the fourth quarter of 2013. Net loss for the fourth quarter of 2013 includes $22.3 million, as non-cash stock-based and other compensation charges in connection IPO and related net loss related in context of $9 million. The company’s adjusted EBITDA for the fourth quarter was nearly $30 million or 17% of total revenue, compared to $24 million or 16% of total revenues for fourth quarter last year. This reflects continued leveraging our SG&A cost. Turning to our full year results, the company reported total revenues of $572 million which represent an increase of approximately $136 million or 31% over the prior year. Full year operating expenses primarily $488 million, an increase of 18% over the prior year. Costof services as a percent of total revenues increased to 61.2% compared to 64.7% for the prior year.Net income for the year was nearly $50 million, compared to an $8 million for the prior year, as mentioned earlier net income for 2013 includes $22.3 million of non-cash stock-based and another compensation charges in connection with our IPO and a related income tax benefit for [$5] million. 2014 adjusted EBITDA was $93 million which represents an increase of $32 million or 52% as compared to $61 million for the prior year. Turning to our balance sheet, our cash balance as of the end of the year was $149 million compared to a cash balance of $101 million at December 31, 2013. The company’s use of cash is typically related to limited working capital needed during the year, the payment of income taxes and to a lesser extent, purchases of computer, hardware, software, furniture, fixtures, and equipment. Other than the outstanding principle of notes payable to former shareholders totaling $11.5 million and SARs liability of approximately $21 million both resulting from the spin-off related to the IPO during 2013, the company has virtually no debt outstanding. We continue to see our strong balance sheet, access to capital and cash position as a true advantage for the company and we believe we are able to maintain flexibility for future growth plans. To close, we are pleased with our performance for the full year 2014 and believe that our strong results are a testament to the durability of our business model and the dedication of hard work of our team. As we look ahead, we expect that we will continue to produce meaningful growth, but that our growth will moderate to a more normal pace than in recent years. Additionally in 2015, we believe that the seasonality with regards to transaction timing that we have discussed in the past will continue to impact our quarterly results as we move forward. That concludes our prepared remarks. At this time I’d like to open up the call up to questions. Operator.

Thank you. At this time, we will be conducting a question-and-answer session. [Operator Instructions] Our first question is from Brandon Dobell from William Blair.

Focus first on headcount, as you guys think about the people that you added during 2014, any sense of experienced guys versus fresh out of college guys and obviously pretty strong finish to the year in terms of adding headcount. Was there any difference in the fourth quarter adds as we think about experience versus not experienced compared to as a full year look?

I think throughout the year it's probably been about the same each quarter, In our prepared remarks we talked about 141 new experienced agents that joined our firm and we still take some inexperienced agents and they have their roles with whatever office they are in. But I don’t think there is really any big difference. In the fourth quarter sometimes we hire more people because after Labor Day things get really moving in a number of different areas, but I think it's been pretty normalized throughout the year.

From I guess headcount relative to different property types, are you getting to the point where you can or want to be specific in certain markets, we’re going to go after these kinds of specific people that are good in retail or are good in secondary office, stuff like that and are different at holes across the platform where certain cities are better and certain property types than others, I guess I am trying to get how specific you're getting in filling those property type holes or opportunities by different market?

Each regional manager, each region has needs to hire people in different product types. So yes they’ll come look specifically in a particular product type, you’ll have our recruiter there actually out looking step aside product type or geographical area. So you’re right along the lines there, that’s what happens typically when we’re looking for experienced agents.

Also Brandon, Hessam here, remember that our specialty divisions are each chart with growing their own segments so office, retail particular hospitality, self-storage, we are very specifically shooting targets by market for each of those specialties.

Thinking about that the market in general maybe sound for you, are you seeing any signs well maybe it’s the LTVs, debt covenants, assumptions that guys are making on their pro forma financials, is there any signs that are worrying you about the health on the debt markets or just peoples perspective on health of the properties that they’re acquiring?

We monitor that very closely as you know based on our previous discussions. The LTVs in particular is something that we track very, very closely we’re averaging 59.7% which is very healthy and well below other periods. We do sense that there is a lot of competition among vendors; they’re trying to put dollars out to the marketplace. But because the recoveries broadened so much you would occupancy improvement really across different kind of metros including secondary and tertiary markets now we’re seeing across the property size. The fundamental looks very good, even though there is a lot of competition among vendors we’re still seeing pretty good underwriting pretty good buyer qualification and really no sign that there is a crack in the integrity of the loan to values or how debt is been placed just yet, but we’re monitoring it very closely.

And then final one from me as we think about 2015 a couple of questions. Should we expect you guys to open any new offices or how many should we expect you guys to open? And then maybe Marty remind us as you think about the first quarter of '14, was there anything in there that was kind of out of usual transaction size, transactions got pulled or pushed into or out of the first quarter that would recognize your comments about seasonality, just want to make sure we don’t have -- we’re not missing anything from last year that would make the first quarter look a little strange?

This is John, I will answer your first question and I’ll let Marty answer after myself. As far as office openings, I think that most of what we’ve talked about over the last year has been really going into the offices that we have opened already and to fortify them in a number of ways specifically Manhattan where our headcount is growing a lot. I think we’ve talked about Boston where we opened up our strong regional office and our headcounts growing there. I mean there may be and we have -- I mean there is always on the horizon about purchase a small little team in that area that we do not have representation. So that’s always a possibility but there isn't any grand scheme because we’re in a sort of location that we don’t really -- it’s something that we’ll look for an opportunity but it’s not something we’re actually out there planning to open a large officer in place. And Marty.

Yes, right and Brandon, in terms of your second question for 2015, I think we’ve mentioned that we were expecting more normalized growth. We had a fantastic growth rate for 2014 obviously that’s not going to be sustainable. In terms of Q1 last year there wasn’t anything materially large what we call unusually large with respect the numbers.

Our next question is from Mitch Germain from JMP Securities.

Just curious you guys have in the past provided a slide that offered up your market share ranking relative to peers, I noticed that slide was included in the quarterly presentation. Just curious has there been any change there, I know that certainly given some of the hiring efforts I was hoping that we might see a change to the upside?

Sure, Mitch its Hessam. There should have been I’ll double check the overall $1 million to $10 million ranking of brokerage companies with our current market share of 7.5% and that has increased gradually over the past 18 months. We’re seeing the biggest movement in our market share in the retail and office segments. Obviously that it is a major focus of ours, especially multitenant retail and our apartment share is also inching up but at a slower pace than retail and office, just given the fact that we have much bigger presence already in the apartment market.

Just back to the hiring, I am just curious maybe John do you expect it to continue hiring at similar levels in 2015 or do you think that maybe you’re just going to be -- look you talked about keeping the office count relatively flat. I am just trying backfill a little more or rather than continued growth in new markets?

Well, really the experienced agent hiring is really more of a big focus, so if we're looking for experienced agents in the retail and a certain marketplace we're going to be going after those agents. So I mean looking hire 500 people not necessary but looking to strategically four offices with good people and move forward. That’s the ability we have right now because we did do a lot of recruiting from 2010 on. We're still going to recruit, we always recruit because there is always a need in each marketplaces so many transactions in $1 million to $10 million marketplace that we do recruit and it's a everyday business for our managers, our special group directors and our in-house recruiters. But the bottom line really is strategy trying to figure out exactly; who we need where we need it; it's not just put a number of people into an office and see what happens. So it's a little bit more to it than creating large numbers, creating quality numbers is really what we're looking for.

And then with regards to the financing business, I think you guys added about 10 professionals and see some really good growth clearly Hessam's commentary regarding lending markets strong why not try to make a greater effort in placing an emphasis on building that out to an even greater extent.

That’s pretty much our strategy for the point in time. And you're right we've had great success and growth in MMCC and there is probably where we have the ability to bring on a number of more people which we're focusing on at this point in time. You hit that around the head.

Last one from me, I believe its 150 million, sorry I don’t have now open in front of me. But of cash -- any thoughts about potentially instating some sort of recurring or special dividend?

Mitch it's Marty. Right now we don’t like I said we don’t have a dividend policy and quite honestly we think having a good strong balance sheet and amount of cash that we have is really a huge strong strategic advantage for us. So right now we view the cash needs and the cash balances within quarter every quarter and right now we've decided not to issue a dividend just yet.

Our next question is from Philip Stiller from Citigroup.

I guess I just wanted to follow up on the comments around more normalized growth in 2015. Just wondering what that’s in relation to whether you're talking about relative to the full year growth rate of 31% revenue growth or what you posted in the fourth quarter which seemingly was normalized already.

Right exactly, great so you can see that, the transaction volume our growth is moderating during the fourth quarter. So we kind of see more that growth rate being in line for this next coming year. So more normalized there will be high single-digits low-teens growth rates.

For transactions or for revenue?

Revenue.

And then you guys have talked about in the past agent productivity improving that it was up nicely this year and obviously with the higher and experience agent should in benefit from that. But is there much further room for that to go up? I know the part of what we've talked about in the past that kind of a maturation of maybe you've hired in the past just wondering how that mixes in with obviously new people coming in?

Yes I mean it can go up, sure could go up. I mean we have more mature agents that are going to get better and better each year and it will go up. The question is that we bring our experienced agents and keep in mind sometimes they have to close up their book of business from the previous broker. So sometimes the first six months of their tenure of Marcus & Millichap may be a little bit slower because they're still closing out on the transaction. So really it should go up based on be in the higher more seasoned professionals. So I am willing to tell you how much is going go up but I think there is a swing you could look at, it would make sense that there would some rise in productivity.

Can you guys perhaps comment on the competitive environment both from a hiring perspective as well as a competition levels on transactions or commissions rates?

I'll jump in, it's Hessam. On the commission rate front we're not seeing any pressures especially in our core business of the $1 million to $10 million segment as we've discussed before. The commission rates are very stable and remain stable from a competitive perspective, we've made our headway since the becoming a public company and then a lot more people are aware of the company's strength and are hearing the story much more often. We're in dialogue with a number of groups across the country that have interest in joining the firm. And so if anything, acquisition is really been boosted in past 18 months or so and it's a competitive market out without any question. So there is a lot going on the competitive front, but I think we're at the forefront of it and getting all attraction.

Last question perhaps for Marty. The tax rate in the fourth quarter was down a bit, just wondering how we should think about the tax rate going forward?

I think if you look at the annual number, I think that’s a good starting point.

Ladies and gentlemen, we have reached the end of our Q&A period. I'd like to turn the call back over to John Kerin for closing comments.