Lazard Ltd. Form 10-Q — quarter ended June 30, 2015
Business context and reporting period. Lazard Ltd is a global financial advisory and asset management firm. Its principal segments are Financial Advisory and Asset Management; Corporate includes cash, investments, debt, deferred taxes and certain banking activities. This unaudited filing covers the second quarter and first half of 2015, compared with the same periods in 2014. Amounts below are in U.S. dollars unless otherwise indicated.
Financial performance
| Metric | Q2 2015 | Q2 2014 | Six months 2015 | Six months 2014 |
|---|---|---|---|---|
| Net revenue | $609.1m | $566.9m | $1,186.8m | $1,100.3m |
| Operating income (loss), reported | ($801.4m) | $99.0m | ($726.7m) | $206.2m |
| Net income attributable to Lazard Ltd | $374.1m | $85.2m | $430.1m | $166.0m |
| Diluted earnings per share | $2.82 | $0.64 | $3.23 | $1.25 |
| Operating cash flow | Not presented quarterly | Not presented quarterly | $211.3m | $129.6m |
Reported operating losses reflect a substantial tax receivable agreement (TRA) provision, not a comparable deterioration in core operations. Excluding the TRA provision and, for the first half, the debt-extinguishment charge, management’s non-GAAP earnings from operations were $159.6m in Q2 2015 versus $123.6m in Q2 2014, and $311.0m for the first half versus $243.1m. These measures are not U.S. GAAP results.
- Revenue and business mix: Q2 net revenue rose 7%; first-half net revenue rose 8%. Advisory fees increased 12% in Q2 and 11% in the first half, primarily on higher M&A and other advisory fees. Asset management fees fell 3% in Q2, mainly due to lower traditional-product incentive fees, and were broadly unchanged for the half.
- Margins and costs: Adjusted compensation expense was 55.6% of operating revenue in both Q2 and the first half, down from 58.8% in the comparable 2014 periods. Adjusted non-compensation expense was 18.1% in Q2 and 18.2% for the half, versus 19.5% and 19.3%. Management’s adjusted operating margin was 26.3% in Q2 and 26.2% for the half, compared with 21.7% and 21.9%.
- Segments: Financial Advisory operating income was $63.2m in Q2 and $121.7m in the first half, up from $27.0m and $57.0m. Asset Management operating income was $112.0m and $210.1m, versus $102.9m and $195.7m.
- Assets under management: AUM was $203.1bn at June 30, up 3% from year-end 2014, mainly from market appreciation and net inflows, partly offset by foreign-exchange depreciation. Average AUM increased 2% in Q2 and 5% for the first half year over year. First-half net flows were positive $2.6bn; foreign-exchange effects reduced AUM by $5.7bn.
Cash, liquidity and debt
- Cash and cash equivalents were $701.2m at June 30, down from $1,066.6m at December 31, 2014. The company also reported $287.7m in bank deposits and short-term investments and $33.7m of segregated cash.
- First-half operating cash flow was $211.3m; investing cash outflow was $13.1m; financing cash outflow was $540.8m. Financing outflows included $202.6m of dividends, $117.7m of share repurchases, $102.6m for settlement of vested share-based compensation and debt repayments.
- Senior debt totaled $998.4m, down from $1,048.4m at year-end. Lazard issued $400m of 3.75% notes due 2025 and redeemed or retired $450m of 6.85% notes due 2017, recording a $60.2m debt-extinguishment loss. The $500m of 4.25% notes due 2020 remained outstanding.
- No borrowings were outstanding under the $150m revolving credit facility at June 30. The facility was due to expire in September 2015, and management said it was discussing a possible renewal. The company reported approximately $247m of unused company credit lines, plus lines available to LFB and Edgewater. It stated that liquidity and credit lines should be sufficient for obligations over the next 12 months.
- The company was in compliance with debt covenants. For the trailing 12 months, its reported leverage ratio was 1.12 versus a 4.00 maximum; interest coverage was 18.33 versus a 3.00 minimum.
Material changes, outlook and risks
- Tax and TRA items: After concluding certain entities had sufficient sustained profitability to realize deferred tax assets, Lazard released substantially all related valuation allowances. It recorded a $1,199m deferred tax benefit, including approximately $821m from the valuation-allowance release and $378m related to TRA-payment tax deductions. It also accrued a $961.9m TRA provision in Q2; the cumulative TRA obligation was $988.1m at June 30. These large, judgment-dependent items drove the unusual reported operating loss and tax benefit. The filing says the release may result in a significantly higher effective tax rate beginning in 2016, all else equal.
- Subsequent tax event: In July 2015, Lazard paid $42.2m to acquire approximately 46.9% of the Trust’s beneficial interests, extinguishing associated TRA obligations. Management expected this to increase third-quarter 2015 net income by approximately $290m.
- Other unusual items: The company disposed of its Australian private equity business in Q2, recognizing $24.4m of revenue, primarily carried interest realized at fair value; an associated $12.2m obligation was reflected in the company’s adjusted operating-revenue reconciliation. The first half also included the $60.2m debt-refinancing loss.
- Capital returns: The company repurchased 2.31m shares for $117.7m in the first half. It declared $1.65 per share in dividends for the six-month period, including the special dividend referenced by management; the Board also declared a quarterly $0.35 per-share dividend in July. Management said surplus cash may be returned through dividends, share repurchases or debt repurchases.
- Management outlook: Lazard described the strategic M&A environment as favorable and said investor demand had increased across regions and platforms. It intends to leverage its global platform and invest in growth, while aiming for awarded compensation expense to grow more slowly than operating revenue. It cited a mid-to-high-50s over-the-cycle target range for awarded compensation as a percentage of operating revenue. No specific earnings or revenue guidance was provided.
- Risks and contingencies: Results are cyclical and can vary materially with transaction completion and timing, M&A and restructuring activity, AUM, investment performance, client flows, foreign exchange and market conditions. Management also cited competition and employee retention, liquidity, third-party losses and unforeseen risks. Legal proceedings, including former-employee claims, arise in the ordinary course; management did not expect pending matters in aggregate to materially affect the business or financial condition. The filing reported no material change to previously disclosed risk factors.
Key facts for investors to verify
- How the deferred tax asset valuation-allowance release and the $988.1m TRA obligation are estimated, and the expected timing and amount of actual TRA payments.
- Whether the July 2015 Trust-interest purchase produces the expected approximately $290m third-quarter net-income increase, and how the related tax assets and TRA obligation are recorded.
- Whether the revolving credit facility was renewed after its September 2015 expiration, and the terms and availability of replacement liquidity.
- Whether advisory revenue growth and AUM/net flows persist, given transaction timing, market, currency and client-retention sensitivities.
- How much of reported earnings growth reflects recurring business performance versus the Australian business disposal, tax accounting benefits and debt-refinancing costs; compare GAAP results with management’s adjusted measures.