MMI - Marcus & Millichap's Q2: Struggling With Economic Challenges

2023-08-07 05:24:21 ET

Summary

• Marcus & Millichap's financial performance has declined compared to the previous year due to challenging economic conditions.
• The company has reduced operational costs and maintained a strong balance sheet, but its share price performance is underwhelming.
• The high P/E ratio, low earnings growth rate, and modest dividend yield warrant a cautious approach for investors.

Thesis

In the face of a challenging economic environment characterized by climbing interest rates and market pressures, Marcus & Millichap, Inc. (NYSE: MMI ) has reported a perceptible decline in its financial performance compared to the previous year. This article argues that despite maintaining a strong balance sheet and shareholder-friendly practices, Marcus & Millichap's underwhelming share price performance, high P/E ratio, and low earnings growth rate warrant a cautious approach for investors at this time.

Company Overview

Marcus & Millichap, Inc. founded in 1971 and based in Calabasas, California, predominantly operates within the U.S. and Canada, serving as a key link between sellers and buyers of commercial real estate. The company excels in providing a vast array of services, from commercial real estate investment sales to research and advisory services, addressing a multitude of property types. Its role extends beyond brokerage, acting also as a financial intermediary offering an array of capital market solutions to various stakeholders in the commercial real estate ecosystem. Furthermore, the firm provides a series of ancillary services, including market strategy development and feasibility studies for redevelopment, catering to a vast spectrum of stakeholders.

Marcus & Millichap's Q2 Earnings Highlights

In the recent financial disclosure from Marcus & Millichap, the numbers put forward convey a situation where the company's performance, compared to a stronger period the previous year, shows a perceptible decline (more on this below in "Risks & Headwinds).

Nonetheless, even under the cloud of the larger economic context characterized by climbing interest rates and credit markets under pressure, the company continues to navigate through these choppy waters by reducing its operational costs, a move that may offer some investors solace in the face of weakening financial performance.

A deep dive into the Q2 report reveals operating expenses that are considerably leaner, with a reduction of almost half (49%) in comparison to the same quarter last year. This contraction in expenses can primarily be attributed to the corresponding drop in revenue. Furthermore, the company has optimized its cost of services, achieving an improvement of 260 basis points over the same period the previous year.

Parallel to this, the company’s Selling, General, & Administrative (SG&A) expenses have also slimmed down, showing a decrease of 14% on a year-on-year basis. Management noted that this reduction in SG&A expenses is chiefly the result of diminished variable compensation, which is tied to the performance of the business, and the successful implementation of other cost-saving measures.

Amidst these changes, Marcus & Millichap has managed to maintain a solid balance sheet. The company holds a strong financial position, with no debt on its books. It has kept its coffers full with cash, cash equivalents, and marketable securities, the cumulative value of which stands at a sturdy $407 million.

Another noteworthy facet of Marcus & Millichap's financial story revolves around its core private client business. Despite the overall downturn, this segment has shown remarkable tenacity. The private client business boosted its contribution to brokerage revenue to 69% in Q2, up from 59% in the same period the previous year, thereby indicating a certain level of resilience in this challenging environment.

The company has maintained shareholder-friendly practices. It declared a semi-annual dividend, further emphasizing its dedication to returning capital back to shareholders. And lastly, its share buyback program continued and nearly 539,000 shares of common stock were repurchased at an average price of $30.81 each.

Performance

Marcus & Millichap has witnessed a modest increase in its share price over the medium-term (see data below) with its share price crawling from USD 33.47 in 2015 to USD 37.15 in 2023 denoting a roughly 11% rise over the period which, in the grand scheme of things, is an underwhelming performance when compared to the broader market, represented by the S&P 500 Index that exhibited an annualized return of 9.53% without dividends and 10.76% compounded with dividends.

And when we look at MMI's total return - combining capital appreciation and dividend income, we see an absolute return of USD 11.622 K (based on an initial $10k investment) that continues to lag behind the broader market (S&P), which provided a total return of USD 24.046 K.

Valuation

Starting off with the price-earnings ratio (P/E) which stands at a rather high 39.98x (see chart below), much higher than the normal P/E ratio of 18.39x, it's clear that the market has priced MMI at a premium, reflecting optimistic future earnings expectations. Now, does the firm's financial performance justify this premium? That's debatable.

The company's adjusted earnings growth rate, a critical factor for future profitability, is relatively low at 2.27%. This seems hardly impressive, especially when juxtaposed with the high P/E. The dividend yield at 1.35% and an earnings yield (EPS yield) of 2.5% are very modest, and not overly enticing for income-focused investors.

Risks & Headwinds

Revenues for the Q2 period took a considerable hit, tumbling to $163 million, a sharp contrast to the $396 million reported for the corresponding quarter the previous year.

These depressed revenue levels serve as a signal of dwindling trading volumes, which can be attributed largely to the constraining external factors at play. However, it's worth keeping in mind that year-over-year comparisons may appear more dramatic due to the Q2 2022 results having been the second most profitable quarter in the company's history.

The company's brokerage revenues experienced a 60% contraction on a YoY basis, painting a clear picture of the effects of the current economic climate. Similarly, revenues from the financing segment also reported a slump, with figures down by roughly half compared to the previous year.

The fall in both total sales volume and transaction numbers during the first half of the year speaks to a broader trend in the industry, pointing towards fewer large-scale transactions and the withdrawal of numerous institutional buyers from the market.

Moreover, the company posted a net loss of $8.7 million for the second quarter, amounting to a loss of $0.23 per share which also stands in stark contrast to the same period in the preceding year, during which the company boasted a net income of $42.2 million or an earnings per share of $1.04.

On the EBITDA front, another key financial metric, Marcus & Millichap's fortunes mirrored the negative trend in net income. The company's adjusted EBITDA plunged into negative terrain, posting a figure of -$1.1 million, a far cry from the positive $62.9 million reported during the same period in the prior year.

As Marcus & Millichap looks towards the future, management paints a picture of cautious optimism, albeit acknowledging that the path to recovery could be longer than desired. This view is underpinned by a trio of formidable macroeconomic factors: persistent inflation at elevated levels, robust labor markets, and the likelihood of further interest rate hikes by the Federal Reserve. These economic variables collectively contribute to a complicated and demanding environment for the firm.

Final Takeaway

Given the significant revenue contraction, the high P/E ratio, and the modest dividend yield, I would rate Marcus & Millichap's stock as a "hold." Despite the challenging economic landscape, the company has impressively managed its operational costs and maintained a strong balance sheet with no debt, indicating its resilience. However, the underwhelming share price performance, coupled with considerable uncertainty around future economic conditions and a low earnings growth rate, makes it hard to justify a "buy" recommendation at this point.

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