JLL - Jones Lang LaSalle: Short-Term Headwinds Long-Term Potential (Rating Downgrade)

2023-10-09 11:46:36 ET

Summary

• "Higher for longer" interest rate expectations are likely to hurt JLL's capital markets business.
• But Jones Lang LaSalle has kept the company's existing fiscal 2025 financial targets unchanged.
• My rating for JLL is revised to a Hold, as the company's near-term headwinds seem to be much more severe than expected.

Elevator Pitch

Jones Lang LaSalle Incorporated ( JLL ) stock is rated as a Hold.

In my prior July 31, 2023 write-up , I evaluated Jones Lang LaSalle's current valuation metrics and the company's outlook for the long run.

I chose to downgrade the rating for JLL from a Buy previously to a Hold now, as the short-term issues affecting its capital markets business have turned out to be worse than expected. But a Sell rating for Jones Lang LaSalle is unwarranted, as the company's favorable mid-to-long term outlook stays intact.

Eyes On JLL's Higher Revenue Contribution From Capital Markets Business

Recently, JLL's shares have performed poorly on both absolute and relative terms. In the past month, Jones Lang LaSalle's stock price dropped by -20.5% . As a comparison, the shares of Cushman & Wakefield plc ( CWK ) and CBRE Group, Inc. ( CBRE ) fell by -19.8% and -15.2%, respectively during the same time period. Jones Lang LaSalle's relatively higher exposure to capital markets as compared to its key listed peers might have driven the company's stock price underperformance.

A recent October 4, 2023 Seeking Alpha News article cited research issued by Raymond James which highlighted that the "rise in rates over the last few months has dampened expectations for investment sales activity and likely pushed back the expected recovery" for capital markets. In the second quarter of 2023, the capital markets business contributed 23.6% of JLL's fee revenue. In contrast, CBRE and CWK derived 10.9% and 11.8% of their fee revenue, respectively, from the capital markets service line for Q2 2023.

Taking into account the market's bearish views about capital markets (recent Raymond James report is an example) and Jones Lang LaSalle's higher fee revenue contribution from capital markets versus its peers, it is no surprise that consensus earnings forecasts for JLL have been reduced significantly. For the last three months, six of the eight Wall Street analysts with JLL in their coverage universe have revised their respective FY 2023 bottom line projections for the company. In specific terms, the sell-side's consensus current year normalized EPS estimate for Jones Lang LaSalle was lowered by -25.7% in the same time frame. In other words, JLL's earnings are expected to contract by -41.2% for this year.

On its most recent Q2 2023 results call in early August, JLL noted that it has "confidence that we should see a notable uptick in the capital markets' activity" for "the last couple of months of the year" based on "the amount of assignments we are working on" and "what our clients are telling us", which is factored into "the lower end of our margin guidance." While Jones Lang LaSalle was still pretty optimistic about the capital markets business' outlook in August, it is clear that the prospects for the capital markets business have become much more unfavorable in recent times. CBRE, JLL's key peer, admitted at the Barclays ( BCS ) 2023 Global Financial Services Conference in the middle of September that the "rise in rates" affected "transaction activity in a way that I don't think the market was expecting."

Medium To Long Term Growth And Profitability

I remain confident in Jones Lang LaSalle's growth and profitability outlook for the intermediate to long term, even though I acknowledge that JLL's financial performance for the rest of 2023 is likely to be weak.

With my July 2023 article, I emphasized that "the company has significant potential for revenue growth and profitability in the long run." My point of view is supported by Jones Lang LaSalle's reiteration of its commitment to FY 2025 financial goals and the changes to JLL's consensus financial estimates.

JLL has left its +8% revenue CAGR and +250 basis points EBITDA margin expansion targets for the FY 2022-2025 period unchanged, as per the mid-point of its midterm guidance. Jones Lang LaSalle stressed at its second quarter results briefing that its financial goals are "predominantly based on the organizational changes we have made, which allow us to streamline our platform and reduce our cost base", and "strategic investments that position us to grow our market share." Therefore, it is reasonable to assume that the achievement of JLL's intermediate term top line and profitability guidance won't be affected by a longer-than-expected recovery for the capital markets business.

Separately, there are positive read-throughs from the market's consensus financial projections for Jones Lang LaSalle. In the preceding section, I noted that JLL's consensus fiscal 2023 bottom line forecast was cut by -25.7% in the past three months. In comparison, the company's fiscal 2024 and fiscal 2025 consensus normalized EPS projections were reduced to a lesser extent by -12.8% and -9.7%, respectively. In fact, the market still sees JLL's core earnings growing by +53.6% and +21.3% for FY 2024 and FY 2025, respectively. Analysts also predict that Jones Lang LaSalle's FY 2026 adjusted EPS of $20.55 will set a new historical high.

Concluding Thoughts

A Hold investment rating for Jones Lang LaSalle is appropriate. I am still confident in JLL's long-term financial potential, but the near-term headwinds for the company, especially its capital markets business, will cap the stock's upside.

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