Medley Management Inc.
Q4 2015 Earnings Call Transcript

Published: 18 Mar 2016

[Operator:]

Welcome and thank you for joining Medley Management Incorporated Fourth Quarter 2015 Conference Call. I’d like to remind everyone that today’s call is being recorded. Please note that this call is the property of Medley Management Incorporated and that any unauthorized broadcast of this call in any form is strictly prohibited. Audio replay of the call will be available by using the telephone numbers and pin provided in the company’s earnings press release. At this time, all participants are in a listen-only mode, but will be prompted for a question-and-answer session following the prepared remarks. And I now will like to hand the call over to Sam Anderson, Medley’s Head of Capital Markets and Risk Management, who will host this morning’s conference call. Mr. Anderson, you may begin.

[Sam Anderson:]

Thank you, operator. Good morning everyone and thank you for joining us today for Medley Management’s Fourth Quarter 2015 conference call. I’m joined today by Brook Taube and Seth Taube, our Co-CEOs and our Chief Financial Officer, Rick Allorto. Before we begin, I want to call your attention to the customary Safe Harbor disclosure in our press release regarding forward-looking information as today’s conference call may include forward-looking statements and projections, which are subject to risks and uncertainties. Any statement other than the statement of historical fact may constitute a forward-looking statement. Please note that the company’s actual results could differ materially from those expressed by any forward-looking statements for any reason such as those disclosed in our most recent filings with the SEC. We do not undertake to update our forward-looking statements unless required by law, and during this conference call, we will refer to certain non-GAAP financial measures including fee, earnings assets under management, pre-tax, core net income and core net income per share. We use these as a measure of operating performance, not as a measure of liquidity, and these measures should not be considered in isolation from, or as a substitute for measures prepared in accordance with generally accepted accounting principles. In addition, these measures may not be comparable with similarly titled measures used by other companies. Please refer to our earnings press release and our Form 10-K for definitions and reconciliations of these measures to the most directly comparable GAAP measures. We have posted our Fourth Quarter 2015 investor presentation, which is available in the Investor Relations section of the company’s website at www.mdly.com. I would now like to turn the call over to Brook.

[Brook Taube:]

Okay, thanks Sam and welcome everybody to Medley’s Fourth Quarter call. This morning, we announced our results for the quarter and full year ended December 31st. Core net income per share for the quarter was $0.14. Our fee earning assets under management increased 8% year-over-year to $3.3 billion at 12/31, and our total AUMs ended the year up at $4.8 billion, which was up nearly $800 million quarter-over-quarter, and was a 30% increase year-over-year. This increase gives us substantial dry powder, and combined with our announced and intended product expansion, we are well positioned as we look forward in 2016. On February 11, the Board approved a dividend of $0.20 per share that was paid on March 4 to shareholders of record on February 24. As announced on January 25th, assets under management are now over $5 billion in the firm, and that's an increase of $1 billion in the third quarter levels and again that provides us significant capital to invest in the quarters ahead. In general, the fourth quarter marked a challenging end to what was a very volatile year for the market and our business. Credit markets weakened as investors’ divested risk assets, highlighted by the high-yield market sell off in the last half of 2015. The sell off is primarily fueled by volatility in energy and commodity related sectors, but it extended with the broader high-yield markets as the year advanced. As a result of the general market volatility and our overall lower than normal loan volume, our fee earning assets under management increased at a slower rate when compared to the growth in our AUM during the year. In 2015, overall origination volumes were approximately 50% lower when compared to our 2014 levels. However, given the meaningful dry powder we have now across the platform, we are well positioned and are looking to take advantage of attractive opportunities already in 2016. At Medley, we remain proud of the fact that we provide capital to U.S. middle market companies. These companies are critically important to growth in the U.S. economy and the management teams value their partnership with Medley. As one data point at the end of the fourth quarter we had 172 borrowers that employed over 320,000 people primarily in the domestic U.S. economy. 2015 was a strong growth year for Medley. We expanded our AUM, added to the team and have announced new product expansions which Seth will describe in more detail shortly. First, however I'd like to turn the call over to Rick to give you a quick update on the financials.

[Rick Allorto:]

Thank you, Brook. Our results from operations for the three months ended December 31st were as follows. Management fees increased by 5% or $0.8 million to $19.1 million compared to the same period in 2014. This increase was offset by a reversal in performance fee revenue of $5.1 million due primarily to the reversal of performance fees in our private funds as a result of a decrease in the asset values within their underlying portfolio. Total revenues decreased by 2% or $0.4 million to $16 million compared to $16.4 million for the same period in 2014. Exclusive of the impact of performance fees, total revenues would have increased by 6% or $1.1 million to $21 million compared to $19.9 million for the same period in 2014. As Brook commented earlier, we are in the catch-up period in some of our private funds, therefore our accrual performance fees is more sensitive to positive or negative mark-to-market changes in any given period. Total expenses increased by $4.8 million to $9.8 million, compared to $5 million for the same period in 2014. The increase was due primarily to higher expense support related to Sierra Income Corporation. Pretax core net income decreased by $3.7 million to $7.4 million. Core net income per share was $0.14 compared to $0.21 in 2014. Exclusive of the impact of performance fees, core net income per share would have increased by 14% to $0.16 compared to $0.19 for the same period in 2014. Core EBITDA decreased by $3.8 million to $9.6 million compared to $13.4 million for the same period in 2014. Our results of operations for the full year ended December 31st, 2015, were as follows. Management fees increased by 15% or $9.9 million to $75.7 million compared to $65.8 million in 2014. This increase was offset by a reversal in performance fee revenue of $15.7 million compared to positive performance fee revenue of $7.9 million in 2014. The decrease in performance fee revenue was due primarily to the reversal of performance fees from our private funds as a result of a decrease in the asset values within their underlying portfolio. Total revenues decreased by 18% or $15.1 million to $67.4 million compared to $82.5 million in 2014. Exclusive of performance fees, total revenues would have increased by 11% or $8.5 million to $83.1 million. Total expenses increased by 1% or $0.5 million to $35.6 million, compared to $35.1 million in 2014. The variance was due primarily to an increase in compensation and benefits expenses, partially offset by reversals in performance fee compensation. Pretax core net income decreased by 22% to $9.2 million or $9.2 million to $32.8 million compared to $42 million in 2014. Core net income per share decreased by 23% to $0.61 compared to $0.79 in 2014. Exclusive of the impact of performance fees, core net income per share would have increased by 15% to $0.70 per share compared to $0.61 in 2014. Core EBITDA decreased by $6.2 million to $41.7 million compared to $48 million in 2014. That concludes my financial review. I will now turn the call over to Seth.

[Seth Taube:]

Thank you, Rick. At Medley we provide innovative yield solutions to both institutional and retail investors. In the retail channel, we continue to increase our presence as the top tier manager through our existing Sierra product. In the institutional channel we are also gaining meaningful assets from top tier institutional inventors. Broad market volatility and reduced bank presence continued to create attractive investment opportunities in the credit market. We are pleased by the support from our existing and new institutional investors who have committed over $1 billion in assets under management to Medley since the end of the third quarter of last year. In November 2015, Sierra Income Corporation exceeded $1 billion in total assets and I am pleased to report that we raised equity on every trading day of 2015, averaging $1 million per day and over $20 million per month in the calendar year. We are well positioned to capitalize on the strong fund flows and expect continued growth in both our retail and institutional businesses. Of significant importance, on January 29, our distribution partner for Sierra Strategic Capital formerly separated from RCS Capital Corporation and reestablished itself as an independent alternative investment distribution platform. As a result of the renewed independence, we are seeing increased traction with existing and new broker dealer relationships. Turning to our new product pipeline, we have plans in place to expanding both the retail and institutional distribution channels. On the retail side, we filed with the SEC to establish Sierra Total Return Fund. We expect to launch this fund in the second half of 2016. Sierra Total Return Fund will be a registered investment company under the Investment Company Act at 1940. This offering will broaden our relationship with financial advisors and importantly work well within the proposed Department of Labor, fiduciary exemptions. Preliminary discussions with our broker dealer partners indicate strong interest in the product. On the institutional side, we’re focused on developing a CLO asset management platform. Our intention is to be an issuer as well as a partner for other CLO issuers through a risk retention vehicle. We expect to report progress on both of these related initiatives in the next several quarters. Two powerful secular trends remain in place in our business. First, bank continue to retreat from unrated and non-investment grade credit assets. And second, demand for yield solutions from retail and institutional investors remains high. Given increased regulatory headwinds for banks and continued low interest rate environment, we expect that these trends will continue. At Medley we believe that we are well positioned to benefit from these dynamics as we look to 2016 and beyond. I'd like to now turn the call back over to Brook.

[Brook Taube:]

Thanks, Seth. And thank you everybody for joining us today. Again we are pleased with the progress that we've made at Medley over the past year. We continue to grow our retail platform and institutional businesses, consisting growth in our core AUM combined with well positioned and attractive new products; gives us confidence as we look out into 2016. Thanks everybody for your continued support. And operator, we can now open the call for questions.

[Operator:]

Thank you. [Operator Instructions] Our first question is from the line of Craig Siegenthaler from Credit Suisse. You may begin.

[Ari Ghosh:]

Hi, good morning guys. This is Ari Ghosh filing in for Craig. So, you touched on the DOL in your prepared remarks, just with the potential for the DOL rule to be released over the next few weeks, can you talk about how Sierra can adapt if the proposal remains unchanged, just wanted to get your thoughts on the private BDC structure, and how you think that can evolve?

[Seth Taube:]

Hi Ari, this is Seth. You know, we monitor the DOL proposal closely. It has an impact on the NAV for share decline -- an impact on the fiduciary exemptions, I was thinking about 1502. In both of those, the DOL as well as 1502 which are kind of in the crosshairs. Our view is what it does is it just clarifies the behavior of the broker dealers and the individual RAA reps. So, if anything, it just provides more clarity for both Sierra as well as the other high quality distribution platforms. So, our sense is that once clarified it allows both us and other issuers to continue to step up in the market. So, I don’t think that other than having a modest impact, we expect it will provide the clarity that we need to continue.

[Ari Ghosh:]

Got it, thanks. And as a quick follow-up, do you think it'll be easier for Medley to be part of like a a larger asset manager with stronger distribution? Just wondering if you thought about pros and cons of being part of a larger distribution effort? Thanks.

[Brook Taube:]

Ari, this is Brook. I am not sure I understand the question, sorry.

[Ari Ghosh:]

Just in terms of distribution of product both like domestic and otherwise, have you thought about is it being helpful for or for the firm to be part of a larger distribution effort, or a larger asset manager that could with distribution?

[Brook Taube:]

Okay, I think I understand the question. Well, right now our Sierra penetration would put us in probably the top five in terms of target on that channel. So, I'm pleased with our presence there. Institutional side, we have direct dialogues and we're growing it substantially. I would not rule our partnering with folks that need product. It's a topic that is out there. We don’t currently have a plan to partner with large distribution. But I wouldn’t rule out people who need product as we expand both our scale as well as our product offerings. It wouldn’t surprise me if we had a way to partner with people who could provide distribution. So, there is nothing on the runway. It's a good question and you can be sure we're looking at how to sensibly grow assets as well as distribution over time.

[Ari Ghosh:]

Got it. Thank you, very much. That's all from me.

[Brook Taube:]

Thanks, Ari.

[Operator:]

Your next question will come from the line of Ann Dai with KBW. You may begin.

[Ann Dai:]

Hi, good morning, everyone. Thanks for taking my question. Just wanted to start with some of the new products, the CLO asset management platform, and also the total return fund. As you think about developing those and getting them to market, how do you think about the expenses related to that?

[Brook Taube:]

That's a good question, I'll take the first one. We have the resources in place; about 20% of our assets relate to tradeable credit. Our core strategy around approaching the CLO market has been to target institutional capital which would be in the form of equity and subordinate pieces that would provide risk retention solutions and majority equity solutions for third party issuers. And that means we raise capital from institutional investors that like the yield profile, we then partner with other folks on a very important and increasingly necessary source of capital. The excess return comes from two facts. One, by partnering with managers we get enhanced return in the form of fee sharing. And two, we believe that with certainty of closing and helping these managers grow that the fees that we in partnership would pay the street would be lower. So, you get two sources of excess return for what is already an attractive yield solution. We can raise that capital, we have the intention to do that without adding to our cost structure. As and when that capital's raised and drives revenue, we would look to expand that team. So, that's a long winded answer to say that I would not expect that CLO risk retention and equity solution to add the cost before it adds to revenue. With respect to the Sierra total return, we already have the resources in place. That's been filed, we look forward to launching that in the back half of 2016, and our expectation is again that would have little to no incremental cost as we launch; of course we will add team and resources as we grow out. So, we've been careful to look at this growth. These initiatives will not provide a cost ramp that will be significant before they would be revenue contributors. Does that answer the question, Ann?

[Ann Dai:]

Yeah, it does; I appreciate the color. And just wanted to think about the dividend with respect to kind of working on these new initiative. So, thinking ahead, I understand you are not expecting a ton of new expenses, but just thinking about anything else that might be an attractive opportunity for the firm. Is there any thoughts to maybe wanting to retain some excess capital and reconsidering the level of the dividend to give yourself more flexibility to do that?

[Brook Taube:]

Let me take it at a high level. I think I understand the question, I'll take a crack and then you can let me know if I got it. We added 30% to the total AUM last year and our fee earning AUM only grew by eight; in other words dry powder grew. So, we're in a position to increase, we're doing that carefully. Giving the market environment, we would expect to grow fee earning and revenues. That's something we have our focus on. With the growth in fee earning AUM and earnings, our goal remains and we've talked about this now for years, to grow earnings per share over the long-term. So, at this point, we have cash on balance sheet, we have sensible financing and we have product initiatives that will grow, but today we're looking at how to grow revenues without growing expenses dramatically. And as we look forward in to kind of '17 and beyond, we're comfortable that we're going to be able to drive the platform on the topline with sensible cost control.

[Ann Dai:]

All right, thank you. I'll hop back in queue for the rest.

[Operator:]

[Operator Instructions] Our next question comes from Mickey Schleien from Landenburg. You may begin.

[Mickey Schleien:]

Yeah. Good morning, everyone. Brook, I wanted to follow-up on the CLO initiative. That markets' in turmoil right now with negative equity values and triple C bucket getting large and steep falls, etcetera. So, I'm curious whether you are more interested in a sort of a greenfield solution to entering that market or perhaps going out and buying an existing platform, given that this location and perhaps to your ability to negotiate better terms than you may have been able to do a year ago?

[Brook Taube:]

That's a good question, and thanks Mickey. We were looking at the CLO business for two years now. One of the reasons we did not rush was just a view on the fact that the market was getting competitive, spreads were tied and there was little room for error. So, as we sit here today and by the way these are ongoing dialogues with institutional investors. Probably a little bit lucky to avoid being long as 2015 unfolded, but our view on this sector is very much a long-term one. The broadly syndicated solution for investors is a piece that would round out Medley's capabilities across the leverage finance platform. So, it makes a lot of sense for us to be in there. It's a request from institutional investors that need the risk profile. And I want to answer this specific question about the opportunity in two parts. One, the risk retention and equity solution is capital that now will be provided on a Greenfield basis. It allows new issuance, new asset with new term financing to come at much at higher spread than it would to a historical average. Those returns overtime which is again equity move, values move around for sure, but overtime that is a good business and we have capital that's keying up to allow us to be a meaningful player there. In terms of that business also being able to acquire assets in the secondary market, that's something that's in the strategy although that's hard to do. So, it's not a critical component to the extent that we can acquire selectively assets there are discounted that we understand and like, we would look at doing that. That is not a strategy, that's just a tactic within a very long-term strategy. In terms of the issuer side now, which is will Medley be an issuer in the CLO business overtime; our intention is to do that. That would be a challenging exercise today to issue. It's challenging for even the biggest players but that's today. It's not a challenge overtime in our opinion. So, we would look to build that organically. We've looked at many acquisitions. Hard to buy, it's a people issue; I would not lure it out. We have several times approach and have dialogues with people that we respect. Teams would be great additions to our platform, the people would be great additions, and it would be a strategic fit; but those are hard to come by. Don't be surprised if we announced it but also don't be surprised if we just over time when the markets' there built it organically. And the final part of this long winded answer would be to say our view is with the capital requirements changing the sector under pressure, we have already seen and expect to continue to see attractive opportunities to partner with people who need to do it with a platform that has the breadth, capability, and growth characteristics of Medley. So in that respect, I think we are very optimistic but it may take time to bring the kind of the issuer side sort of formally to the table. Does that answer the question Mickey?

[Mickey Schleien:]

Yes, it does Brook and thanks for all that clarification. Just one follow-up question going back to the dividend policy on a GAAP sort of core EPS basis obviously with count and over a 100% now for a while. I'm trying to get a hand on what the standalone cash flow per share has been that's supporting the dividend pay. I don’t know if Rick has any number available.

[Rick Allorto:]

Hi, Mickey. On a cash basis for the fourth quarter, core EPS was $0.17 a share.

[Mickey Schleien:]

Okay. Thank you, for your time this morning.

[Brook Taube:]

Thanks, Mickey.

[Operator:]

Your next question will come from the line of Christopher Nolan with FBR & Company. You may begin.

[Christopher Nolan:]

Hi, thank you for taking my question. For the Sierra total return fund, what are the management fees for the --.

[Brook Taube:]

I'm sorry we have not disclosed that yet. That's on file, we are in the process that would later be disclosed as we get closer to the launch of the vehicle.

[Christopher Nolan:]

Okay and then for Sierra income fund, if I understand your earlier comment correctly, because of the change of the DOL or proposed change, you don't expect sales of that to be significantly impacted. Is that a correct interpretation?

[Seth Taube:]

Yes. From where we stand today, that's correct. Our view is that the clarification of that rule will allow us to deal with it effectively and if anything increase sale, it has been our expectation is at the current lack of clarity is causing some reticence in that the final clarification will allow us to increase sales where they are today.

[Christopher Nolan:]

For Sierra income, are you changing any of the compensation to the end distributors or anywhere along your distribution platform?

[Seth Taube:]

No, not at this time.

[Christopher Nolan:]

Final question. Given the change in the management fee structure for MCC, how do you anticipate that impacting MDLY in 2016?

[Brook Taube:]

Chris, its Brook. At this point it's too early to tell. I mean, we have the market seems to be rebounding, we have a few of our credits what we've talked about openly that are under pressure. I think it's too early to tell exactly what performance looks like. Obviously we're hard at work on the performance of the portfolio and enhancing shareholder value there, and that includes buying stock back and obviously being proactive in terms of managing the position. So, as the year unfolds we'll have more color. Obviously, we care deeply about it performing and we are doing everything in our resources to do, so that MCC performance remains as attractive as it can be.

[Christopher Nolan:]

Okay. Thank you for taking my question.

[Brook Taube:]

Thanks.

[Operator:]

Your next question is a follow-up from the line of Ann Dai with KBW. You may begin.

[Ann Dai:]

Hi, thanks for taking the follow-up. I just wanted to dig into the separate account pipeline a little bit. You guys have notch in good winds over the last couple of quarters, so I am just kind of curious how that pipeline looks today relative to maybe a past couple of quarters. Is it still robust, do you feel like there is anything that's relatively later innings there?

[Brook Taube:]

Yeah. We have a number of dialogues going on the insurance and the fund, a pension, sort of state plan level. That's a very lumpy business. We obviously had an addition of a billion of capital which is meaningful. They are from very significant partners. There are new partners that was extremely encouraging. We do have a pipeline. I think it's just very tricky to prognosticate how likely any of it would be. The one high level comment is, with rates low and liabilities not moving lower, most of these folks have any increasing yield problem. So, we see more people interested across the board and I think we're going to meet those needs not just through managed accounts for our core business but the product expansion is a reflection of that. So, never really know exactly where the capital will go. We do think it will come in to the unique opportunity as we said on the risk retention. We do expect that we'll gain investors in the core credit assets and Sierra continues to take it. But specifically, the SMA just it likely to remain lumpy.

[Ann Dai:]

All right. And when we think about the cash from the time you quote, is that kind of an 18 to 24 month deployment, is that a good way to think about it?

[Brook Taube:]

Yeah, that's a good way. Again it relates to the appetite and the demand, we never encourage folks to take a view on what's happening today. So, we would not suggest any capital would go out in short-term, but I think 18 to 24 would be a good proxi.

[Ann Dai:]

Right. And just one last one from me. Just given that we are pretty close to the end of the quarter at this point, are there any updates that you can provide on how the portfolios are performing quarter to date?

[Brook Taube:]

We are just in the process where I don’t really have color at this point on Q1 performance.

[Ann Dai:]

Thanks. I appreciate taking my question.

[Brook Taube:]

Thanks, Ann.

[Operator:]

At this time we have no other questions in the queue. I'd like to turn the call back over to Brook for your final remark.

[Brook Taube:]

Thank you, very much. Thanks everybody for joining today. 2015 again was a strong growth year; hard at work and new initiatives. The market is obviously volatile but that's presenting opportunities. We look forward to continue growth on both the existing footprint as well as the new products. And we appreciate the continued support. So, thank you very much and have a great day.

[Operator:]

And ladies and gentlemen, this concludes your presentation. You may now disconnect. Enjoy your day.