Piper Sandler Companies (NYSE:PIPR) Q4 2022 Earnings Call Transcript

Piper Sandler Companies (NYSE:PIPR) Q4 2022 Earnings Call Transcript February 3, 2023

Operator: Good morning, and welcome to the Piper Sandler Companies conference call to discuss the Financial Results for the fourth quarter and full year of 2022. During the question-and-answer session, securities industry professionals may ask questions of management. The company has asked that I remind you that statements on this call that are not historical or current facts, including statements about beliefs and expectations, are forward-looking statements that involve inherent risks and uncertainties. Factors that could cause actual results to differ materially from those anticipated are identified in the company’s earnings release and reports on file with the SEC, which are available on the company’s website at www.pipersandler.com, and on the SEC website at www.sec.gov.

This call will also include statements regarding certain non-GAAP financial measures. The non-GAAP measures should be considered in addition to, and not a substitute for, measures of financial performance prepared in accordance with GAAP. Please refer to the company’s earnings release issued today for a reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measure. The earnings release is available on the Investor Relations page of the company’s website and at the SEC website. As a reminder, this call is being recorded. And now, I’d like to turn the call over to Mr. Chad Abraham. Mr. Abraham, you may begin your call.

Chad Abraham: Good morning and thank you for joining us. I am here with Deb Schoneman, our President, and Tim Carter, our CFO. We will go through our prepared remarks, and then open up the call for questions. Our diversified platform continues to perform well despite the challenging market backdrop. We finished 2022 with the fourth quarter representing our strongest quarter of the year. We generated adjusted net revenues of $391 million, a 19.3% operating margin, and adjusted EPS of $3.33. On a full year basis, adjusted net revenues were $1.4 billion, generating an 18.8% operating margin, and adjusted EPS of $11.26. 2022 was our second strongest year on record behind 2021. There are a number of highlights worth noting from 2022.

We acquired DBO Partners, which doubled our technology banking platform, and positions us well for further growth in this important sector. The acquisition of Cornerstone Macro added a high quality macro, thematic, and quantitative research product, that has proven to be synergistic with our equities business. We acquired Stamford Partners, a specialist M&A boutique focused on European food and beverage companies, which represents a natural expansion of one of our existing industry power allies. We generated advisory revenues of over $770 million, representing 54% of our total net revenues, and our second best advisory year ever. We grew market share in our equities brokerage business, generating record revenues in that business line, and we grew investment banking managing director headcount on a net basis, finishing the year with 159 MDs, the most in our history.

Overall, 2022 marks a successful year as we continue to make significant strides in expanding our market presence, and in increasing the earnings capacity and resiliency of our platform. Now, I’ll provide an update on our corporate investment banking business. We generated total corporate investment banking revenues of $258 million for the fourth quarter of 2022, up 20% sequentially, driven by strong performance in our advisory business. For the full year, investment banking revenues of $902 million, declined 35% from our record 2021 performance. Sector performance was relatively broad, led by financial services, and included record years from both our energy and power and restructuring groups. Our performance within financial services was led by depositories, and included strong contributions from insurance, real estate, specialty finance, asset management, and fintech.

When we combined with Sandler, one of our growth objectives was to expand our non-depository business, and we are experiencing strong momentum on that front. In 2022, non-depository revenues represented nearly 50% of our total financial services investment banking revenues, which compares to 32% for 2019 before the group joined our platform. Since the combination in early 2020, we have been adding headcount to expand our insurance, asset management, and real estate practices, and have nearly doubled our non-depository revenues during that time. By leveraging our broad financial sponsor coverage, we’re winning more and larger mandates on a regular basis in these sub-sectors. At the same time, we have maintained our market-leading position in depositories.

We were the number one advisor in US bank M&A based on number of announced transactions, and we have advised on seven of the 10 largest bank mergers and acquisitions announced during 2022. Another sector with strong performance in 2022 was our energy and power group. We retained our leadership in oil field services, where we were the number one advisor based on number of completed deals. In addition, over the last few years, we have diversified our business and built a solid presence in upstream and renewable energy. With one of the largest and most tenured teams on the Street, we feel great about the outlook for this group. Specific to advisory services, we generated $221 million of revenues during the fourth quarter, up 26% sequentially, a strong finish, but given the market headwinds, this was less than the typical seasonal pickup of our fourth quarters historically.

For the year, we generated $776 million of advisory revenues, the second strongest year in our history, behind an exceptional 2021. We benefited from the sector diversification of our business, along with balanced coverage between strategic and private equity clients. Our revenues from strategic clients during the year were resilient and on par with strong 2021. Advisory revenues from strategic clients represented approximately 54% of total advisory revenues, compared to approximately 42% for 2021, which helped offset lower revenues from private equity clients. Rising and volatile interest rates have reduced financing options for financial sponsors, and negatively impacted deal activity with these clients. That said, that said, PE firms and portfolio companies continue to maintain record amounts of capital to deploy.

With one of the largest middle market PE advisory businesses on the Street, we are well positioned to advise this client base when markets improve. During 2022, we closed or announced 230 M&A deals, with over 82 billion in aggregate transaction value. With a core focus on taking longer strides rather than taking more, the trend of advising on larger transactions and generating larger average fees, continues to be a key driver of our advisory results. We were able to hold our average fee size, notwithstanding softer market conditions. We continue to take market share, and for the fourth quarter of 2022, we were the number one advisor on announced US M&A deals under $1 billion. And for the full year, we ranked as the number two advisor. Looking forward, our advisory pipelines remain solid.

However, the current economic conditions make conversion of those pipelines uncertain. We expect our advisory business to have a slow start to 2023, and anticipate our first quarter revenues to decline relative to the first quarter of 2022. Turning to corporate financing, we generated $37 million of financing revenues for the fourth quarter, slightly lower than the fourth quarter, as debt financings declined. For the year, financing revenues of $125 million, declined sharply from 2021 record results. Increased volatility, declining valuations, and reduced demand, have largely kept equity issuers on the sidelines during 2022. For context, the equity market fee pool for 2022 was the lowest in over 20 years, and declined more than 60% from the average of the last 10 years.

Against this backdrop, we completed 55 equity financings during 2022, raising $40 billion of capital for our clients. Healthcare financings represented the bulk of our 2022 activity. Our financial services group completed 30 debt and preferred stock offerings, raising $8 billion of capital for depositories and other financial services companies. We expect financing activity to increase in 2023, as companies raise needed capital to execute on their strategic plans. Turning to investment banking managing director headcount, we finished the year at 159 managing directors, the most in firm history. We remain focused on filling white spaces within investment banking. In addition to the acquisitions of DBO and Stamford, during the year, we added talent to strengthen and broaden our industry and product coverage, notably in healthcare services, automotive aftermarket, transportation and logistics, and restructuring.

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Our success, culture, and momentum, resonate in the marketplace, and we remain a destination of choice for top tier talent. Historically, periods of market downturn have yielded compelling opportunities to add talent. As we have in the past, we remain disciplined and selective with the investments we make. Before I turn it over to Deb and Tim, let me make a couple of concluding remarks. Over the last decade, we have executed our strategic vision and delivered strong growth and shareholder returns. We have built a diverse and resilient platform with significant scale, margin, and cash flow. Within investment banking over the last 10 years, we have expanded our industry verticals to seven, now covering most of the economy, and have grown managing director headcount from 44 to 159.

We are more relevant, provide more deal flow, and offer more product capabilities to a larger, more diverse client base. In addition, we have doubled the size of our equity brokerage and fixed income businesses over the last few years. The enhanced scale and capabilities of our platform have increased margins and profitability, while providing meaningful opportunities for growth. Our integration and execution strategy is a key differentiator in the marketplace, and has enabled our new partners to deepen their client relationships and grow revenues on our platform. As I noted last year, we continue to execute on the path to grow annual corporate investment banking revenues to over $2 billion over the next several years, using the same playbook as the last decade, scaling industry groups, product share gains, increasing transaction and fee size, and corporate development.

With that, I will turn the call over to Deb to discuss our public finance and brokerage businesses.

Deb Schoneman: Thanks, Chad. I’ll begin with an update on our public finance business. In the fourth quarter, we generated $19 million of municipal financing revenues, down 30% from the sequential quarter. This business is experiencing unfavorable market conditions, as higher nominal rates, interest rate volatility, and lack of investor demand, have significantly reduced municipal issuances. For the full year of 2022, we generated $108 million of municipal financing revenues, down 34% from last year. We underwrote 571 municipal negotiated transactions, raising $15 billion of par value for our clients. Based on number of municipal underwritings through the year, we maintained our number two ranking. Overall market issuance for 2022 declined approximately 20% from the prior year.

However, high yield new issuance decreased approximately 40% due to significant fund outflows. This impacted our performance, as a meaningful component of our public finance business is in high yield specialty sectors. Our pipeline is strong, but it remains uncertain when conditions will become more conducive to closing transactions. As we look ahead to 2023, we expect market conditions to remain challenging. Higher rates have sharply curtailed refinancing activity, depressing new issuance volumes. However, we expect that our market leadership and diversification in the business, will provide some resiliency to market headwinds. Turning to equity brokerage. Equity markets continue to experience elevated volatility and volumes, driving record equity brokerage revenues of $56 million for the fourth quarter, up 7% sequentially.

For the full year, equity brokerage generated revenues of $210 million, to succeed at the goal we set for ourselves at the beginning of the year to build an equity brokerage business with revenues of $200 million. Performance on the platform was broad-based, with our high-touch program, derivatives and algo trading, all generating strong activity. Heightened volatility through most of the year provided tailwinds. During 2022, 79% of the trading days experienced intraday volatility between 1% to 3%, more than double the last three-year average. The strength of our platform helped clients navigate the volatility, and we traded $11 billion shares for over 1,700 unique clients. Strong collaboration between our fundamental analysts and our macro research analysts, is bringing a valuable and differentiated view to our clients, recognized by increasing client votes.

We maintain one of the largest research platforms in the small and mid-cap space, with approximately 1,000 stocks under coverage. As we look forward to 2023, we see a more challenging market environment, with a lower fee pool and likely less volatility. We have increased market share in each of the last five quarters, and we believe that cross-selling our products will result in further market share gains and mitigate most of these headwinds. Lastly, turning to our fixed income business. For the fourth quarter of 2022, we generated fixed income revenues of $50 million, up 34% on a sequential basis, and flat compared to the fourth quarter of last year. With a perception that interest rate increases may be slowing, clients were more active during the fourth quarter.

Our depository clients were active in repositioning their portfolios ahead of the new year, and our municipal clients were active with tax loss selling, as well as taking advantage of higher yields and the relative value municipals provides. For the full year of 2022, we produced $195 million of revenues, down 17% from last year. Volatility and uncertainty regarding the terminal level of interest rates, combined with an inverted yield curve, negatively impacted client activity. We continue to invest in this business, and we made several targeted sales and analytical hires in 2022 that increased our product depth and client specialization. The current market dislocation should provide opportunity for more targeted hiring in 2023, as we look to continue elevating our platform.

From an outlook perspective, in 2023, we expect clients to be more active relative to the last six months. With higher nominal rates, the fixed income asset class represents an increasingly attractive investment opportunity. Now I will turn the call over to Tim to review our financial results and provide an update on capital use.

Tim Carter: Thanks, Deb. As a reminder, my comments will be focused on our adjusted non-gap financial results. We generated net revenues of $391 million for the fourth quarter of 2022, up 17% from the third quarter, driven by solid performances across our advisory and brokerage businesses. Net revenues decreased 38% from the record fourth quarter of 2021 due to lower corporate investment banking and municipal financing revenues. Net revenues for 2022 totaled $1.4 billion, down 28% from the exceptional prior year, which benefited from record corporate investment banking, municipal financing, and fixed income brokerage activity. Market volatility had an adverse impact on most of our businesses during 2022. However, despite tough conditions, our absolute performance was good, and represents our second strongest year in firm history for revenues and earnings.

Turning to operating expenses and margin, our compensation ratio for the fourth quarter of 2022 was 62.3%. And on a full year basis, our compensation ratio was 62.5%, in line with our guided ratio. Looking ahead, we continued to maintain our philosophy of managing compensation levels to be a balance of employee retention, investment opportunities, and operating margins. In 2023, based on our current outlook, we estimate our compensation ratio will be fairly consistent with 2022 levels. Non-compensation expenses, excluding reimbursed deal expenses for the fourth quarter of 2022, was $62 million, up 3% compared to the third quarter of this year, and consistent with our expectations. Non-compensation costs for 2022, excluding reimburse deal expenses, totaled $237 million, an increase of 19% compared to 2021, driven by increased travel costs, as well as the addition of Cornerstone Macro, Stamford, and DBO to our platform.

We remain disciplined in managing costs, and with the challenging outlook, we are focused on actionable expenses. Looking to 2023, we expect our non-compensation costs to continue around this fourth quarter level. During the fourth quarter, we generated operating income of $76 million, and an operating margin of 19.3%, our strongest quarter this year. For the year, operating income totaled $269 million, with an operating margin of 18.8%, both solid on an absolute basis, highlighting the scale we have built over the last few years. Our adjusted tax rate was 19% for the fourth quarter of 2022. Income tax expense was reduced in the fourth quarter by $5 million, as we reversed a deferred tax asset valuation allowance on our UK legal entity, and recognized a smaller benefit related to restricted stock vestings at prices higher than the grant date price.

Excluding these items, our fourth quarter tax rate was 25.7%. Our full year effective tax rate was 23.4%, which included tax benefits totaling $10 million related to restricted stock vesting at prices higher than the grant date price, and the UK valuation reserve adjustment. Excluding these items, the adjusted tax rate for 2022 was 27.2%. Going forward, we expect our full year adjusted tax rate will be within a range of 20% to 29%, excluding the impact from stock vestings. During the fourth quarter of 2022, we generated net income of $60 million and diluted EPS of $3.33. For 2022, net income totaled $201 million, and diluted EEPs was $11.26. Let me finish with an update on capital. We remain committed to deploying capital to drive shareholder returns.

Our earnings capacity, combined with our capital-light approach, enables us to generate significant levels of cash to deploy through corporate development, share buybacks, and dividends. 2022 has been an active year on all fronts. We’ve deployed capital during the year to build out our platform capabilities and drive long-term growth through the acquisition of Cornerstone, Stamford, and DBO. During 2022, we repurchased approximately 1.4 million shares of our common stock for $187 million, which more than offset the share count dilution from this year’s annual stock grants and our acquisitions. Combined with our dividends paid during the year, we have returned an aggregate of $295 million to shareholders. Given our level of earnings and strong capital position, today, the board approved a special cash dividend of $1.25 per share related to our 2022 full year results.

Including this special dividend, our total dividend for fiscal year 2022 equals $3.65, or a payout ratio of 32% of adjusted net income. This is at the lower end of our 30% to 50% payout ratio, given the active year of capital deployed towards strategic acquisitions and share repurchases during the year. In addition, the board approved a quarterly cash dividend of $0.60 per share. Both the special and quarterly dividend will be paid on March 17th to shareholders of record as of the close of business on March 3rd. Overall, 2022 marked another successful year for Piper Sandler, as we generated solid results and furthered the strategic expansion of our business. We’ve made great strides over the last few years to increase the long-term earnings capacity of our platform, and we are excited to continue executing on our strategic plans, while balancing profitability metrics with opportunities to drive long-term growth.

With that, I’ll stop and open up the call for questions.

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Q&A Session

Operator: And our first question will come from Devin Ryan with JMP Securities.

Devin Ryan: Good morning, everyone. How are you guys doing?

Chad Abraham: Good, Devin.

Devin Ryan: Good. Chad, maybe I’ll start with you on the advisory outlook and commentary. So, obviously heard the comment that the backlog is strong, but expect a slower start to the year, which makes sense. We’re hearing from a number of your peers, one middle market centric peer was talking about of the pipeline of mandates is kind of at a record level, but just deals aren’t progressing. And it sounds like you’re saying something similar just in terms of the progression of deals. So, just love to maybe frame a little bit more around the pipeline, how you guys look at it, and then whether you’re seeing any kind of incremental move in here, one direction or another. We’re also hearing a little bit of green shoots just with the better start to the year and sentiment is a little bit better.

So, curious kind of how that’s affecting things. Is it – and is it really financing that’s broken, or is it the just confidence in the macro view and just that needs to improve to see some of this stuff move forward?

Chad Abraham: Yes, certainly. Obviously, on advisory on a relative basis, we thought we had a pretty good Q4. You can never me measure advisory just on a quarter. We got a lot of stuff closed probably relative to what we thought at the start of the quarter. So, some – so that certainly impacts the beginning of the year. I think relative to pipeline, I mean, we do have – it’s not like a lot of mandates are dying. What I would say is, people are kind of getting ready. They’ve got the books ready. They’re updating the packages, but it’s just really slow on launching new transactions. So, I think based on pattern recognition, everybody thinks the back half is going to be better, but that’s not incredibly scientific. And what I would say relative to just strategic and private equity, while I think you’re seeing a little bit better financing conditions, it’s still pretty tough.

And obviously, that drives a lot of private equity. We did relatively, we think, pretty well on the strategic M&A side in this quarter and in Q4 and last year. And that’s probably going a little bit better to start the year. But yes, I think in general, we expect advisory to start slow. And if this cycle is like others, we expect it to pick up by the second half, but we’re certainly cautious from the start here.

Devin Ryan: Okay, great. Thanks for that. One for Deb, I guess on your muni finance and some of the commentaries. So, it sounds like some of the headwinds there could persist, but those will be partially offset by just market share improvement within Piper. I guess just bigger picture, trying to think about what normalization in this business looks like. I mean, you had a just tremendous 2021. We’ve come off of that level quite a bit here. And so, I guess the question, is normal in your mind something in between maybe where we are right now, fourth quarter kind of jumping off point, and what the company did in 2021? I think it was $165 million in revenue. Just trying to kind of think about where that could settle in when the markets settle down and maybe we’re in a little bit more constructive environment.