BGC Partners, Inc.
Q3 2016 Earnings Call Transcript

Published: 27 Oct 2016

[Operator:]

Welcome to the BGC Partners, Inc. Q3 2016 Earnings Call. My name is Christine and I will be your operator for today’s call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Please note that this conference is being recorded. I will now turn the call over to Jason McGruder, Head of Investor Relations. Jason, you may begin.

[Jason McGruder:]

Good morning. Our third quarter 2016 financial results press release and a presentation summarizing our results were issued this morning. These can be found at ir.bgcpartners.com. Throughout today’s call, we will be referring to results only on a distributable earnings basis unless otherwise stated. Please see today’s press release for results under Generally Accepted Accounting Principles or GAAP. Please also see the section of today’s press release including Distributable Earnings to find differences between consolidated results for Distributable Earnings in GAAP, Reconciliation of GAAP Income or Loss, Distributable Earnings, for a complete and revised definition of these non-GAAP terms and how, when and why management uses them, as well as for the differences between results under GAAP and distributable earnings for the periods discussed on this call and in that document. Unless otherwise stated, results presented on this call compare to third quarter of 2016 with the year-earlier period. We may also refer to the non-GAAP items adjusted EBITDA, see the sections of today’s press release titled adjusted EBITDA define and Reconciliation of GAAP Income or Loss to adjusted EBITDA for more on this topic. For the purposes of today’s call, all the Company’s fully electronic businesses are referred to as FENICS. These offerings include Financial Services segment, fully electronic brokerage products as well as the offering of market data software solutions and post-trade services across both BGC and GFI. FENICS results do not include the results of Trayport, which are broken out separately in today’s press release and presentation. They also do not include t he results ECONOMIC. This is due to Trayport sale to Intercontinental Exchange or ICE on December 2015 and eSpeed to NASDAQ on June of 2013. Also Newmark Grubb Knight Frank is synonymous with NGKF or our Real Estate Services segment. I also remind you that on the call -- information on this call regarding our business that are not historical facts are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 as amended and Section 21E of the Securities Exchange Act of 1934 as amended. Such statements involve risks and uncertainties except as required by law, BGC undertakes no obligation to release any revision to forward-looking statements. For a discussion of additional risks and uncertainties that could cause the actual results to differ from those contained in forward-looking statements, see BGC’s Securities and Exchange Commission filings including, but not limited to, the risk factors set forth in our public filings, including our most recent Form 10-K and any updates to such risk factors contained in subsequent Form 10-Q or Form 8-K filings. I’m happy to turn the call over to our host, Howard Lutnick, Chairman and CEO of BGC Partners.

[Howard Lutnick:]

Thank you, Jason. Good morning and thank you all for joining us for our third quarter 2016 conference call. With me today are BGC’s President, Shaun Lynn; our Chief Operating Officer, Sean Windeatt; and our Chief Financial Officer, Steve McMurray. BGC’s post-tax earnings increased by 13% to $90 million and this is our seventh consecutive quarter of year-on-year improvement in post-tax earnings. This continued profitability growth is driven by our real estate services business Newmark Grubb Knight Frank, our ongoing integration synergies and the 8% year-on-year pre-tax profit growth of our high-margin fully electronic FENICS business. We expect our overall top and bottom line to grow as we continue to invest our $841 million of liquidity and as our recent acquisitions and front-office hires ramp up to their full productivity levels. I’m happy to report that our Board declared $0.16 qualified dividend for the quarter, which is unchanged sequentially but represented an increase of 14.3% year-on-year. At yesterday’s closing stock price, this translates into a 7.1% annualized yield. We continue to believe that BGC’s assets and businesses are worth considerably more than what is represented by our current share price, which not reflects the expected receipt of more than $705 million of additional NASDAQ shares nor the full value of NGKF or FENICS. Accordingly, we are actively working on ways to unlock the substantial shareholder value. With that, I’m going to turn the call over to Shaun.

[Shaun Lynn:]

Thanks Howard. And good day to everyone. Our Financial Services segment increased pre-tax earnings by 2.3% to $84.9 million while pre-tax margin expanded by approximately 350 basis points to 24.1%. Financial Services profitability continued to improve, largely because of the realization of integration synergies and the ongoing strength of our high margin FENICS platform. FENICS increased its quarterly pre-tax earnings by 7.8% to $28.3 million while pre-tax margins expanded by approximately 390 basis points to 47.1%. FENICS generated 15.9% year-on-year revenue growth from a high margin market data, software, and post-trade businesses. This was driven by the combination of BGC and GFI’s market data, as well as by the continued strength of our Capitalab post-trade business. We also generated double-digit percentage top-line growth from our fully electronic credit business. Total FENICS revenues decreased by 1.1% to $60 [ph] million in the quarter. As we continue to convert hybrid and voice desks onto our highly profitable FENICS platform, we generated over 13% of overall Financial Services revenue from fully electronic products, which is more than four times, the 3% figure for full year of 2010. But this is a new business. We are also making progress expanding our FENICS customer base beyond our traditional large bank clients. As the number of new customers grows, we expect to further increase the profits of FENICS. Our overall Financial Services revenues were down by 12.7% to $352.1 million. Excluding Trayport, the segment was down by 8.4%. Aside from lower global volumes across foreign exchange and equity-related products, there are two additional factors. The first an anomaly, which is the implementation of initial uncleared derivative margin requirements in United States, which caused a $14 million year-on-year decline in revenues during the last eight business days of August. Secondly, the Company reduced the number of less productive brokers and sales people in the Financial Services by over 140 compared to last year, reducing revenues but increasing profitability. Turning now to our results for real estate services, NGKF’s overall revenues grew by 3.7% to $284 million. This improvement led by an almost total organic 16.6% increase in revenues from real estate capital market brokerage. According to NGKF research, quarterly industry-wide U.S. leasing activity was down by over 5% year-on-year and U.S. investment sales declined by 2%. We therefore continued to grow faster than the overall market. As we make accretive acquisitions and profitable hires, we expect to sustain our outperformance. Historically, newly hired commercial real estate brokers tend to achieve dramatically higher productivity in their second and third years with the Company, although we incur related expenses almost immediately. Therefore, a year-on-year gross increase of over 200 real estate brokers raise our near-term expenses, but significantly improves our forward outlook. This investment in revenue growth is primarily why our pre-tax earnings for NGKF were down by 10.7% to $38.3 million. As our recently hired brokers get up to full speed, we expect NGKF’s results to show strong improvement in the fourth quarter of 2016 and the full year 2017, all else equal. With that, I hand the call over to Steve.

[Steve McMurray:]

Thank you, Shaun and hello everyone. BGC generated consolidated revenues of $643.5 million, down 6.1%. Our revenues from the Americas were down by approximately 2%; our revenues from Europe, Middle-East and Africa were down by 13%, but would have been down 4% excluding Trayport. Asia-Pacific revenues decreased by 12%. Non-U.S. revenues declined in part due to the strengthening of the dollar relative to other major currencies. With respect to expenses, compensation declined by 7.6% and the ratio ticked down to 61.9% versus 62.9% a year earlier with the improvement led by the Financial Services segment. Our overall non-compensation expenses decreased by 7.4%, while the non-compensation expense ratio declined by approximately 40 basis points to 24.4%. As Shaun pointed out, comp and non-comp ratios can temporarily rise as we increase hiring as we have for NGKF. Our overall expenses decreased by 7.6% to $555.1 million. Our pre-tax earnings before non-controlling interest in subsidiaries and taxes were up 7.9% to $106.8 million. Our pre-tax margin expanded by over 215 basis points to 16.6%. BGC’s post-tax earnings were up 13.3% to $89.8 million. Our post-tax earnings margin was 14%, an expansion of approximately 240 basis points. Our post-tax earnings per share were unchanged at $0.21. We expect our overall margin to continue to improve, as our recently hired real estate brokers increase their production and we generate a great percentage of Financial Services revenues from the higher-margin FENICS platform. BGC had a fully diluted weighted average share count of $429.8 million for both distributable earnings and GAAP versus $394 million a year earlier. The share count increased primarily due to 23.5 million shares issued related to the GFI back-end merger, as well as the shares issued with respect to various other acquisitions, front-office hires, and employee equity-based compensation. This was partially offset by the repayment of BGC’s 4.5% convertible senior notes for approximately $160 million, which reduced fully diluted share count by $16.3 million as of July, 15, 2016. Additionally, BGC redeemed and/or repurchased 10 million shares or units net at a cost to BGC of $87.8 million or $8.76 per share or unit during the third nine months of 2016. As of September 30, 2016, our fully diluted share count was 429.3 million. Moving onto the balance sheet, as of quarter end, the Company’s liquidity, which we define as cash and cash equivalents, marketable securities, securities owned, held for liquidity purposes, less securities loaned, was $840.5 million. Notes payable and collateralized borrowings were $969.1 million, book value per common share was $3.20 and total capital, which we define as redeemable partnership interest, non-controlling interest in subsidiaries and total stockholders’ equity was $1,243 million. In comparison, as of December 31, 2015, the Company’s liquidity was $1,026.1 million, notes payable and collateralized borrowings and notes payable to related parties were $840.9 million, book value per common share was $2.56, and total capital was $1,299.7 million. The use of BGC’s liquidity since year-end primarily relates to the $160 million used to retire BGC’s 4.5% convertible senior notes, a $111.2 million paid with respect to the GFI back-end merger and related transactions; cash used for the previously mentioned redemption and/or repurchase of shares or units; and significant amounts invested with regard to new front-office hires in real estate services. These items were partially offset by net proceeds from our $300 million senior notes offering. It is important to note that our balance sheet does not yet reflect the anticipated receipt of over $705 million worth of additional NASDAQ stock over the next 11 years as these shares are contingent upon NASDAQ generating at least $25 million in gross revenues annually. If NASDAQ undergoes change control, we’ll get paid all at once. To put this $25 million contingency in context, NASDAQ has recorded more than $1.5 billion in gross revenues for each of the last 10 years, and generated gross revenues of approximately $3.5 billion in 2016. With that, I am happy to turn the call back over to Howard.

[Howard Lutnick:]

Thank you, Steve. Our outlook for the fourth quarter 2016 compared with last year as is follows. We expect to generate revenues of between $630 million and $675 million, which compares with $673.4 million last year and which also last year included $16 million related to Trayport. We anticipate generating pre-tax earnings of between $107 million and $125 million, as compared to $103.6 million last year and $8 million of that last year come from also from Trayport. We expect our provision for taxes on distributable earnings to be in the range of approximately $15 million to $20 million, and we anticipate updating our outlook towards the end of December. So, operator, we’d now like to open the call for questions.

[Operator:]

Thank you. We will now begin the question-and-answer session. [Operator Instructions] And our first question comes from Richard Repetto with Sandler O’Neill. Your line is open. Please go ahead.

[Richard Repetto:]

Good morning, Howard. In your prepared remarks, I think you touched on the topic that much interest and that’s about unlocking value. And I think you referred, as you said you were working on it. Could you give us more detail, more color, perhaps the timeline or perhaps what you’re thinking about in that area?

[Howard Lutnick:]

Well, the words we said were we were actively working on it. And I unfortunately can’t give you more detail than that on the phone today. But we are focused on it and we are actively working on it or another way to say this, we are -- on the topic, we are honest.

[Operator:]

And our next question comes from Patrick O’Shaughnessy of Raymond James. Your line is open. Please go ahead.

[Patrick O’Shaughnessy:]

So, first, I have a question about your revenue outlook for the fourth quarter. If you can maybe kind of break that down a little bit, maybe not too specifically, but just what sort of expectations you have by Financial Services versus commercial real estate?

[Howard Lutnick:]

Have we done that before? I don’t think we’ve done that in the past. So, I think we’re more comfortable now but I will consider that under advisement and we’ll study whether we want to do that going forward but we haven’t considered doing that right now. But I will take that under advisement and we may well come back and do that in the future.

[Patrick O’Shaughnessy:]

And I don’t think we need too much specificity but just in terms of -- do you still expect kind of seasonal slowness in Financial Services, do you expect seasonal strength in commercial real estate, typical -- given kind of historical patterns that we’ve usually seen?

[Howard Lutnick:]

Yes and yes.

[Patrick O’Shaughnessy:]

Okay, got you. FENICS, so, the brokerage revenue was down pretty essentially quarter-over-quarter, was that also kind of impacted by these capital rules and in late August or is that just kind of pockets of weakness in specific products?

[Shaun Lynn:]

It was affected, as I said in my prepared remarks. So, basically, it was affected roundabout $14 million, over a roughly around eight-day period. And so, it was affected by -- effectively, we continue to review and go over our brokerage staff; and to put a point on it, upgrade over time. And we’ve done that throughout the year and that’s negatively affected the revenue but substantially increased our bottom line profit and our profitability going forward. So, those are two of the main drivers.

[Patrick O’Shaughnessy:]

Did that impact voice brokerage revenue or does that impact FENICS revenue as well?

[Shaun Lynn:]

It impacted both, it impacted FENICS revenue and voice brokerage revenue. So, pretty much the same to the level -- same sort of percentage.

[Howard Lutnick:]

It was sort of an across the board short-term eight-day event. When September came, it went -- literally went away but it infected the market across the board until it was resolved 1st of September.

[Patrick O’Shaughnessy:]

In your release, you talked about I think there was a gain on sale, you sold a small business within FENICS. Am I remembering that correctly, and if so, can you provide a little bit of color on that?

[Howard Lutnick:]

Yes. We had a stake in a business and we had a minority stake but it was an investment that we had and it wasn’t core to us. So, we sold it and made some money. We’re creating these things and investing in them, and we think we’re good at it. So, everyone’s involved, we’ll make some money from it. If we don’t see it as really fitting into our core, we sell it.

[Patrick O’Shaughnessy:]

Another thing I noticed in your releases is there was a $15.1 million charge related to an additional reserve on employee loans, what was that related to?

[Howard Lutnick:]

It’s every quarter, we do a mathematical analysis of the collection process. Our employees agree that the -- that many of the -- much of the equity that they have will repay their forgivable loans, and we do a mathematical calculation every quarter. And that changes with interest rates, and a whole variety of mathematical models that are appropriate for GAAP accounting. And when they change quarterly, we do a review of them all.

[Patrick O’Shaughnessy:]

And then one last one…

[Howard Lutnick:]

It was a non-cash charge, just a reserve from mathematics.

[Patrick O’Shaughnessy:]

Got you. I mean this cash flow when you initially made the loan and now you’re assuming you’re not going to get that $15.1 million back at some point?

[Howard Lutnick:]

It just literally goes through the cash flow and the GAAP accounting, anyway. Its’ like a forgivable loan, they still owe us the money. It’s doing the mathematical calculation of how quickly you get paid back. That’s really the issue.

[Patrick O’Shaughnessy:]

And last question from me. So, NGKF did a deal to expand its presence into Mexico, I think it was in October. I believe your agreement with Knight Frank precludes you from moving into Europe, if I remember correctly. But, can you speak to NGKF’s kind of global expansion plans, is this kind of a first of multiple steps to broaden its geographical presence?

[Howard Lutnick:]

So, we have a partnership with Knight Frank. We are masters of our own destiny alone in Canada, United States and South America and Mexico. And if you go back, you’ve seen us grow throughout South America, and now growing in Mexico. So, we’ve had a number of hires and acquisitions, and we’ll continue to do that, you’ll see those flowing through. And then, we have a relationship with Knight Frank around in rest of the world. And that will either grow, either through stronger business lines with them, through acquisition or partnerships with them or acquisitions or partnerships with other companies around the world. It is simply only a matter of time before our business is international in its ownership.

[Operator:]

And we have a follow-up question from Rich Repetto from Sandler O’Neill. Your line is open. Please go ahead.

[Richard Repetto:]

Howard, I got cut off.

[Howard Lutnick:]

I was shocked, I couldn’t imagine that you didn’t have anything else to say, but I promise it wasn’t us.

[Richard Repetto:]

So, am I supposed to -- can I ask anything more about the unlocking value?

[Howard Lutnick:]

No, no. We are certain, we’re going to be discussing it until we do it.

[Richard Repetto:]

Okay. I guess my -- well, first let me get to the other questions, in case I get cut off again. On the uncleared swaps that rule was supposed to come into effect on September 1st, it didn’t, it got extended. But from what I understand, it did come into effect in early October. So, do I have that correct and the mandatory margin on uncleared swaps and was there any impact or hasn’t been any other impact since that period in August?

[Steve McMurray:]

The preparation work was done for September 1st, hence it affected the last eight days of August, the last eight days of August. We have seen no effect at the end of September or beginning of October. So, I think as Shaun said in his prepared notes, it was just those eight days that we saw the effect.

[Richard Repetto:]

Got it. Okay. And then another on expenses, it seems like you had a nice continued good reduction in expenses. And I think last quarter you talked about, you’ve gotten to Trayport synergy, but you could even potentially get more. Is that we’re seeing going on in the expenses sort of the quarterly decline? I know it was a soft revenue quarter as well. But could you talk a little bit more about expenses and expenses going forward?

[Steve McMurray:]

And the short answer is yes, I mean within the expenses, $15 million reduction on GAAP, 12 for these [ph] purposes; it’s a combination of things all related to GFI integration.

[Howard Lutnick:]

Yes. And I think also, Rich, as we highlighted in the prepared notes in both the compensation and non-compensation line, last quarter, we upped our target for reductions as part of the integration plan and what you’re seeing is continue to execute those reductions across all of the expense lines.

[Richard Repetto:]

Okay. And then my last question, so you can -- I can get cut-off after this and move on. But if you talk about this work to unlock value and I suspect it’s got to do with auditing and financial statements. Could you describe what -- is some of work, I think it’s fair to talk about that versus what your actual alternatives are. And if something didn’t occur by say midyear of this -- next year, would you be disappointed?

[Howard Lutnick:]

I was just looking around and see if anyone had any comment on what I can and can’t talk about. We are actively pursuing it. We don’t speak about things that we don’t expect to do. We just don’t do it, you’ve seen us do it on multiple occasions. We’ve done what we said we would do. So, we do as a management team plan to execute on the locking shareholder value and we’re going to -- well, I guess the best thing to say is we’re actively working on it. And unfortunately, I can’t say more than that.

[Richard Repetto:]

Got it. Thanks, Howard; thanks, Shaun.

[Howard Lutnick:]

Operator, we’re done.

[Operator:]

Thank you. We have no further questions at this time. I will now turn the call over to Howard Lutnick for any closing remarks.

[Howard Lutnick:]

Well, thank you all for joining us today and we look forward to updating you at the end of the quarter and speaking to you about three months from now. Have a great day today everybody.

[Operator:]

Thank you, ladies and gentlemen. This concludes today’s conference. Thank you for participating. And you may now disconnect.