Perella Weinberg Partners (PWP) Q3 2022 Earnings Report, Transcript and Summary

Good morning, and welcome to the Perella Weinberg Partners Third Quarter 2022 Earnings Conference Call [Operator Instructions]. Please be advised that today's call is being recorded. I will now turn the call over to Taylor Reinhardt, Head of Investor Relations. You may begin.

Thank you, operator and welcome to our third quarter 2022 earnings call. Joining me today are Peter Weinberg, Chief Executive Officer; Andrew Bednar, Co-President; and Gary Barancik, Chief Financial Officer. Replay of this call will be available through the Investors page of the company's website approximately 2 hours following the conclusion of this live broadcast through November 10, 2022. For those who listen to the rebroadcast of this presentation, we remind you that the remarks made herein are as of today, November 3, 2022 and have not been updated subsequent to the initial earnings call. Before we begin, I'd like to note that this call may contain forward-looking statements including PWP's expectations of future financial and business performance and conditions and industry outlook. Forward-looking statements are inherently subject to risk, uncertainties and assumptions that could cause actual results to differ materially from those discussed in the forward-looking statements and are not guarantees of future events or performance. Please refer to PWP's most recent SEC filing for a discussion of certain of these risks and uncertainties. The forward-looking statements are based on our current beliefs and expectations and the firm undertakes no obligation to update any forward-looking statements. During the call, there will also be discussion of some metrics, which are non-GAAP financial measures, which management believes are relevant in assessing the financial performance of the business. PWP has reconciled these items to the most comparable GAAP measures in the press release filed with today's Form 8-K, which can be found on the company's Web site. I will now turn the call over to Peter Weinberg to discuss our results.

Good morning, and thank you all for joining us on our third quarter 2022 earnings call. This morning, we reported third quarter revenues of $145 million, adjusted pre-tax income of $31 million and adjusted EPS of $0.26 per share. Particularly given the current environment, we are very pleased with the firm's performance, not only in terms of year-to-date quarterly revenue stability, but also in terms of the significant client activity across our global platform. Today, I would like to discuss the current market conditions, the performance of the firm and how we are positioned for the future. As it relates to today's macro environment, we are certainly not out of the woods yet. Structural inflation is causing a significant increase in interest rates around the world, both prices and new issues in the debt markets have declined significantly, particularly amongst more leverage credits. Equity markets have followed suit, new issues have slowed to a trickle, all of these factors plus macroeconomic and geopolitical sensitivities around the world have inflicted a blow to confidence amongst corporate leadership and investors. M&A is a symptom of that being down more than 30% this year. Capital solutions advisory is a bright spot in our industry as it typically is when economies and markets are stressed more on that in a moment. Within the context of this environment, there are two overarching themes for our firm. The first being that complexity and stress create an enormous need for the type of advice that we provide. Unlike prior downcycles and I count eight since I got to Wall Street years ago, we find ourselves extremely busy and are actively engaged with clients across the business. Our gross deal pipeline has been broadly stable year-to-date and can be characterized as extremely full, but given elevated completion risk and a longer timeline to announcement and close, our announced backlog is experiencing a step down as key events get pushed out. As it relates to the areas of activity, we're seeing broad and healthy dialog across our coverage and product areas. We are especially encouraged by conversations in areas of recent investment, which are being driven by partners who are not fully ramped on our platform. Today, more than a third of our partners have been in their current position for less than three years. The second theme is something that you've heard us say before. We are undaunted in our long-term plan to grow and enhance our revenues and profitability, our brand, our product suite and our global footprint. We continue to hire and promote partners and managing directors and our investing in talent in a disciplined manner. We do not feel market share constrained either in our client businesses or in recruiting senior people from other firms, quite the opposite. We continue to see great opportunity in both of these growth engines in spite of the current environment. In addition to building out our traditional M&A franchise in areas of strategic significance, our capital solutions advisory business, which includes restructuring and liability management, capital markets advisory and private capital placement has been an investment area for the firm. In this environment, we are having strategic conversations with nearly all of our clients on capital matters and we are seeing an increase in pitches and engagement letters and restructuring and liability management, which depending on the timing of the recovery is likely to show results in 2023. While I don't want to be in the business of predicting the future, I do want to convey how we're thinking about and planning for it. While most would agree that the market will bottom at some point, the timing of a recovery in the financial markets in new issue financing and an M&A activity is unknown and the precise catalyst is, of course, not clear. We are in a slowing economic environment and we expect that rate rises will continue at least in the near term, not only at the direction of the Fed, but from central banks around the world. That said, CEOs and the public equity and credit markets for that matter will quickly change their sentiment as conditions improve. We anticipate the return of confidence long before economic statistics see meaningful improvement and we believe that the resulting increase in visibility and predictability will translate into more favorable conditions. We are focused on being ready for that across our businesses whenever it occurs, with no debt and a strong cash position, we're poised to continue investing in our business and serving our clients in this extreme time of need. And again on continuing to deliver on our plan put forward when we became a public company, we are focused on returning capital to shareholders and simplifying the firm's capital structure. Since the end of March, we have utilized approximately 60% of our $100 million repurchase authorization and continue to see value in our stock. The successful completion of our warrant exchange eliminated the future potential dilutive impact of the 7.9 million warrants, which were previously outstanding. Lastly, I want to say a few things about the leadership transition that we announced in late September regarding Andrew Bednar succeeding me as CEO, come January 1st. I have known Andrew for 25 years, having met at Goldman Sachs in the early days. In addition to Andrew's exceptional skills as an investment banker, he has proven to be an excellent manager and leader as Co-President of the firm for the last 2.5 years. The news of Andrew's ascension has been very well received by our team and clients alike and justly so. As a shareholder, a founder, a continuing partners' Chairman, I believe the firm has never been better positioned than it is today. On that note, I will turn it over to Gary to discuss our results in more detail.

Thank you, Peter. As Peter has already discussed our revenue performance, I'll begin with a discussion of our expenses. As a reminder, my comments will focus on non-GAAP metrics, which we believe are relevant in assessing the financial performance of our business. Our GAAP measures and a reconciliation of GAAP to adjusted results can be found in our earnings press release, which is on our website. On the expense side, in the third quarter, we accrued adjusted compensation expense at 64% of revenues, consistent with the first two quarters of 2022. As the last quarter of the year plays out, we'll reassess this accrual rate for the full year based on the overall business environment, our investment in new talent and the compensation level needed to retain key current talent. While it's too early to make a call, we could see the possibility of increasing our full-year compensation ratio by up to a few percentage points at year-end depending on market conditions. Our adjusted non-compensation expense was $28 million for the third quarter, down 16% year-over-year and 10% quarter-over-quarter and represented 19% of our revenues. Relative to the prior year quarter, our third quarter non-compensation expense benefited from reduced legal, consulting and D&O insurance costs, which were incurred last year as a newly public company. In addition, in the third quarter, as in prior quarters this year, D&A charges relating to our New York and London headquarters were unusually low as those offices are near the end of their lease periods. On the other hand, T&E was up $1.3 million quarter over the prior year quarter with September T&E reaching $1.4 million versus the 2019 average of $1.6 million per month. We foresee an increase in fourth quarter non-compensation expense over the current quarter and expect that including travel, meals and entertainment, fourth quarter non-comp spend will be in the range of $35 million to $38 million. This quarter-over-quarter increase is due mainly to increased professional fees related to discretionary year-end payments for certain senior advisors, as well as the onset of certain legal projects, technology expense, higher T&E versus the summer period and a full quarter of overlapping GAAP rent for our current space and new space in New York and London. Even with this anticipated sequential quarterly increase in non-comp expense in Q4, our full-year 2022 non-compensation expenses is coming in well below our prior expectations. Looking ahead, we expect an increase in 2023 non-comp spending over the current year due to an anticipated three quarters of overlapping GAAP rent in New York, higher D&A as our two headquarter build-outs are completed, some increase in technology-related investments and some assumed continued increase in T&E. At the same time, we're aggressively looking for opportunities to realize cost savings without impacting the strength and growth of our business. We reported adjusted operating income of $25 million in the third quarter and an adjusted operating margin of 16.9%. Our adjusted non-operating income of $7 million for the third quarter and $14 million for the first nine months included approximately $6 million and $11 million respectively of net gains related to FX revaluation and realizations. As in the prior quarter, the majority of this income resulted from how we must account for currency revaluation of our foreign subsidiaries, which hold dollar-denominated cash or net intercompany receivables. The strengthening dollar created significant unrealized FX gains, the majority of which we believe does not have economic substance to our consolidated business given that we report in dollars. Adjusted net income totaled $26 million for the third quarter. Our adjusted if-converted net income for the third quarter was $23 million and presents our results as if all partnership units had converted to shares of common stock. Adjusted diluted if-converted net income per Class A share was $0.26 for the 3 months ended September 30, 2022. For the year-to-date period, our adjusted as-if-converted tax rate was approximately 29%, relatively in line with our expectation at June 30. On capital management, year-to-date, we've returned nearly $87 million through the repurchase of approximately 8.5 million shares in the open market, the net settlements of nearly 1 million shares to satisfy tax obligations and related share issuances and the payment of $19.1 million in pro-rata distributions to limited partners, which allowed PWP to pay its dividends about $9.9 million. The Board has declared a quarterly dividend of $0.07 per share payable on December 9, 2022 to holders of record as of November 25th, 2022. As of September 30, 2022, we held $282 million of cash, cash equivalents, and short-term investments in US Treasury securities. We had no debt and had an undrawn revolving credit facility. With that, let me turn the call back to Peter.

Thank you, Gary. Before we open the line for questions, Andrew, if you could say a few words.

Great, thank you, Peter. I just wanted to say that I'm excited and honored to serve and lead the firm through our next phase of growth and development and I'm especially looking forward to working closely with our exceptional talent across the firm who embody PWP's values of trust, integrity and teamwork and who deliver for our clients every day. I also look forward to engaging more with our shareholders and the analyst community as I transition into my new role. Lastly, I strongly echo Peter's sentiment that the firm has never been better positioned and we will continue working hard to maintain PWP's position as a top choice for exceptional finance talent to deliver superior results for our clients and to create long-term value for our shareholders. Operator, we can now open it up for questions. Thank you very much.

[Operator Instructions] Our first question will come from Devin Ryan with JMP Securities.

First question, I would just want to kind of go to some of Peter's comments touching on the focus in growing non-M&A advisory businesses, you mentioned capital advisory. How should we think about how much bigger those businesses could be or you look maybe like to see them be relative to the overall franchise today, maybe, the best way to think about it is on a headcount basis? And then just the outlook for capital advisory, I appreciate you pricing in some improvement there as you mentioned. How should we think about the order of magnitude, the type of acceleration you're seeing today, which sounds like it will be much more of a 2023 revenue story?

Yes, so just to level set, I mean this is really a very significant opportunity for the firm. Clients who are considering raising capital through an underwriting benefit from having an advisor who's not also an underwriter and this is really our kind of raison d'etre. Current market conditions amplify or accentuate that need because the alignment between underwriter and advisor is stressed during times of stress. So there is really -- this is a growth area for us, we're building our business, we're building our team in that area and it's a very exciting area. Another reason why this is exciting for us is that the -- is privatization of the credit markets in the sense that also creates opportunities for independent advisors because no underwriter is necessary. We can, of course, act as placement agent in this large and growing segment of the credit market, which has taken on even more importance as the public markets have seized up. So, we don't disclose specifics on percentage of revenues, but it's one of our top initiatives right now in the firm.

One probably for Gary here. So, $282 million in cash, I believe end of the quarter, appreciate the comments desired return kind of the excess. So, how should we think about how much is excess here even if at a high level, I appreciate you had to pay bonuses, office expansion and recruiting et cetera. So like how much is excess? And then, just a slower pace of repurchases in the third quarter, was that market dynamic just is there obviously buyback restrictions or was that just given how much you've done in the first half or how should we think about kind of maybe slower pace of third quarter and then what that translates to for the outlook as well?

So on your first point, look, I think on the excess cash question, you're really kind of right in terms of how we think of it, it's kind of thinking about our base needs for retaining cash, which are obviously working capital needs. We do have the build-outs that we have, which we're still reserving some cash for the any build-outs. And importantly, we want to keep some liquidity for investment purposes and that can be some general investment, talent that can be broadly we see opportunities. And so, those are all things that we keep in mind. I think -- that, that is going to be a moving target of what we see as excess at any one point in time, accrued comp is obviously the other component which you mentioned correctly. So, I think all we can really say is over the long-term, we're again -- we're not retaining cash, we're going to continue our approach here and as it relates to repurchases to kind of dovetail on to your second question here, that is something that we look at not only by seeing where our liquidity is at anytime, but it is a little bit opportunistic in terms of where the market is, that's part of it. I don't really want to give specific pacing guidance on that, because we want to have the flexibility to do what's right for the business, the right time. But I will tell you, just to kind of give another metric that for the quarter to date so far this year, we spent about $5 million in the month of October, just to give you some sense.

And then just last, just couple of quick clarifications. So Peter, you talked about I think the pipeline holding steady. I just wanted to make sure we understand that. So you're referring to mandates, I'm assuming that the firm is on, but it's just taking longer, it's more complicated just to get to a formal announcement, which is maybe what we see in the public domain, but the mandates are holding steady. Just want to make sure I understand the pipeline comment. And then also to Gary's comment on the comp ratio, is the take away in the fourth quarter could be up a few percent or that in the fourth quarter, the full year could move a few percent to make sure I heard that correctly?

Devin, I'll answer the first question and I'll ask Gary to answer the second. You described the difference between pipeline and backlog accurately. Pipeline is really the gross picture of our engagements going forward, mandates and otherwise, but it's maintained a very strong level and is only slightly down from last year. The net backlog is what's lower and that's for the reasons you cited because of elongation of deal closings and just the difficult financing market.

And our comment on the -- my comment on the comp ratio was that the full year accrual rate actually being up -- 3%.

Our next question will come from James Yaro with Goldman Sachs.

I just want to start with the rates environment here, maybe you could just talk about whether you think there is some sort of absolute level of rates that permanently changes the cadence of advisory activity, whether you think those higher rates are baked in? And then maybe if you could just differentiate between sponsors and strategics and specifically I think the question is when the financing markets reopen, do you think that that sponsors will do structurally less M&A and strategics will comprise a greater percentage of the market?

The way that we look at the financing markets right now, it's just in a very simple sense is, number one, capital is less available to affect M&A. Equity is more expensive, the below-investment grade credit markets are all, but closed and even sponsor LPs are urging caution. So just availability is one issue. Two, capital is of course more expensive. Investment grade rates are 2 times what they were at the beginning of the year, same goes with below investment grade. And of course equity is expensive to issue because it's cheaper. And the third thing is that market volatility is obviously significant due to the macro uncertainty. So that's kind of where we are now. I do not think there is a specific rate level that changes all that, but I will say that the sentiment, as I mentioned in my comments can change quite quickly. We still believe there is an enormous amount of capital out there, there is by definition, but it's paused. Confidence can change quickly and strategic ambitions don't stop. And so, we just think a bit more of a stable market, a bit more confidence will open the M&A market and financing as well. I don't believe that the cost of debt capital is going to come down significantly, but I do believe that the markets will open. With respect to your question on sponsors versus strategics, it's very interesting right now because what we're seeing is strategics are looking at assets, particularly the capital-rich strategics. And for the first time in a long time, they don't have a lot of competition from the sponsor community, which is a real asset for them. That is a dynamic that we've seen in prior crisis where the capital-rich have been transacting with the capital core and the strong have continued to do transactions.

Maybe if I could just ask one more on Europe, which is sort of a two part, I guess, with higher rates and a stronger US dollar, is that catalyzing any activity into Europe? And then just broadly, Europe has been the most -- the strongest part of the M&A market I'd say so far this year. Maybe you could just talk about whether that can continue into next year given all the geopolitical and economic concerns over there?

So on your first question, the dislocation in the foreign exchange markets has really been significant and it has indeed materially affected values. I mean over the years when there have been small changes in currencies, it hasn't really affected M&A that much. I think here it may well with respect to cross-border conversations and we're certainly having discussions in that regard. I think with respect to Europe, the way we look at Europe and versus the US is that there are really a couple of different parts of that. Number one is that there are some stresses, which Europe and the US share; higher cost of capital availability and confidence as I've mentioned before. Europe though has sort of another set of stresses, which is more severe than the US, one is, inflation is higher. Energy insecurity is more profound there and more present. The macro economy is weaker and as a result we're finding our clients to be more inwardly focused. They're focused on in some cases solvency. They're focused on their people and their strategic ambitions are not extinguished, but they are delayed. So, we think Europe will continue to be active over time, but the short-term stresses are significant and more so than the US.

[Operator Instructions] Our next question will come from Mike Brown with KBW.

So last quarter you guys talked about an expectation for the second half revenues to be relatively in line with first half, looks like the third quarter came in better than we in the Street were expecting. So, I just wanted to check if that's still the right expectation for the full year here as we think about the fourth quarter?

Yes, it is our expectations are broadly the same as they were in the last quarter.

And I think, Gary, I apologize, I just wanted to make sure I got the comp ratio message correct. Can you just clarify that one more time? Is it up a couple of percentage points in 4Q and then what does that imply -- what's the message about what that implies for the full year? And then I guess just a follow-on for that is, any initial thoughts on next year like what's kind of driving that, that potential increase, is it just higher inflationary cost that could therefore have a bit of a run rate impact into next year as well?

So just on the mechanical question, what I said was, that we could see the potential of increasing our full-year comp ratio up to a few percentage points. So that would mean if we did that, it would be a larger fourth quarter had to come up with the average for the year, just on that question. I think on your other question about next year, it's really too early to tell and frankly part of why we decided to keep our comp ratio for Q3 was we wanted to make sure we had very good visibility on what's necessary for the full year. And so, obviously next year is going to be something that we'll look at very closely based on the conditions. I will say though, we are not changing our mid-year, excuse me, our mid-term general comp guidance of the mid 60s, which is what we said before.

Mike, I'll also add to that, keep in mind that 50% of the outstanding shares of our firm are owned by people who work here. And so we're focused on both shareholders and employees because they are in many cases one and the same.

Our next question will come from Steven Chubak with Wolfe Research.

This is Brendan O'Brien filling in for Steven. So to start, one sector that continues to see relatively strong activity is to energy, which is an area of strength for you guys. And with oil prices still hovering at $90, a level which Peter you've previously said that these companies are generating significant amount of cash. Do you expect the momentum in that business to continue in the immediate term or do you expect with recessionary fears kind of weighing on oil prices, maybe they take a more cautious stance here?

Well, with respect to the energy sector, one thing to start with on this question is that the leverage in that sector is dramatically down and the way we look at it, the leverage is kind of one times cash flow. And so, the restructuring opportunity that we saw years ago, we do not think will be active going forward, but we do feel that the M&A opportunity continues to be significant. The M&A market in energy is a big market and there are lots of different pieces to it across the different sectors of energy from upstream, downstream services et cetera. And there has not been a rebound in activity that has tracked the price increase like there have been an increasing price of oil environment. But the message is not too different than it was last time in the sense that with all this excess cash flow, energy companies continue to decide whether they want to distribute it to shareholders through dividends or share repurchase or to start on the acquisition trail and they continue to think that way and there's lots of conversations about that and we're in the middle of many of them.

And then for my follow-up, I wanted drilling about restructuring. It's clear that the environment has improved, we've heard some mixed messaging on activity levels in the US and Europe. I wanted to get a sense as to how you would compare activity in the two regions and if you could remind us on your relative exposure to both of these areas within our business?

Yes, I would say overall, with respect to restructuring, the opportunity is growing. For companies who entered into this economic environment stressed, the stress is multiplied, not only with respect to interest costs -- floating rate interest cost, but also labor costs and supply chain costs and others, not to mention revenue softening. And so, I would say overall, the market is showing a very interesting and growing opportunity. And on top of all that, you have technological obsolescence, which has really touches many, many different industries and create stress. I think with respect to Europe, it's a more complex restructuring market as you know because of the different jurisdictions, but the stress level was higher in Europe and the restructuring opportunity is significant in Europe. And so as a result, both in the US and Europe, we're seeing an increase in conversations, we're seeing an increase in pitches and we're seeing an increase in engagement letters and that's really fueled by our footprint, which is really much broader than it was last time that the macro economy was in a position than it is today.

This concludes the Q&A portion of today's call. I would now like to turn the call back over to Peter Weinberg for any additional or closing remarks.

Thank you, operator. Thanks everybody for joining today and we look forward to reconnecting as a group with our year-end results.

Thank you. This concludes the Perella Weinberg Partners third quarter 2022 earnings call and webcast. You may disconnect your line at any time and have a wonderful day.