2023-04-24 05:33:05 ET
Summary
- Evercore Inc. is an independent advisory firm.
- Revenue has grown at an impressive 16% in the last decade, driven by beneficial market conditions, MD growth, and improving expertise.
- The weak M&A market will be a drag on near-term performance but long term we are bullish.
- Margins are impressive and exceed other investment banks.
- Evercore is trading in line with peers despite outperforming on margins and growth.
Investment thesis
Our current investment thesis is:
- Evercore ( EVR ) is a highly regarded bank with deep industry expertise and consistent MD recruits/promotions. The perception it has created is reflected in the deal sizes it advises.
- The M&A market is persistently declining due to macro conditions, making the near-term difficult for Evercore. We are bullish long-term due to dry powder and the quality of the underlying business.
- Evercore has shown consistent share buybacks and dividend payments, although dilution is an issue.
- Evercore is far more profitable than its peers while achieving above-average growth. Despite this, it is valued in line with the market.
Company description
Evercore Inc. is an independent investment banking advisory firm that operates globally. The company is divided into two segments
- Investment Banking & Equities which offers strategic advisory services such as mergers and acquisitions, restructuring, transaction structuring, and shareholder advisory. It also provides private capital advisory and fundraising, debt advisory, and equity capital markets execution and advisory services
- Investment Management which offers wealth management services.
Share price
Evercore's share price has performed well in the last decade, returning over 200% to shareholders. The majority of this occurred post-pandemic when we experienced a boom in transaction volume.
Financial analysis
Evercore Financials (TIkr Terminal)
Presented above is Evercore's financial performance for the last 10 years. The business has achieved strong, growing returns, with only two periods of negative revenue growth.
Revenue
Evercore has achieved fantastic growth over the last decade, growing at a rate of 16%, driven by its core advisory practice. This business can be split into several segments as highlighted above, with M&A being the largest offering.
Evercore has been able to grow as it has due to how highly regarded the Bank is relative to its peers. Evercore has spent many years developing its expertise, by providing a quality service and recruiting highly regarded Bankers from comparable firms. The key to winning work is showing a history of delivering quality results through credentials. As the table below shows, Evercore has developed deep expertise in several sectors over the years, increasing the number of projects they can pitch for.
Evercore segments (Evercore)
This is a reflection of internally developed individuals and recruitment in key segments. The key for Evercore is maintaining its high standards, to generate accretive returns as new personnel are upscaled. If we look at a range of elite boutique banks, Evercore and PJT are equal with the number of deals >$1BN, reflecting the trust Evercore has instilled in markets.
As the following table shows, Evercore was ranked 8th for M&A value in FY22, slightly higher than its FY21 score. This suggests Evercore can compete with the bulge bracket banks for work.
M&A ranking (Dealogic)
Further, one of the nature tailwinds an investment bank benefits from is the "Maturing" of MDs. Managing Directors are almost like a small subdivision of a company, with their own P&L and ability to drive business. An MD, externally or internally recruited, usually needs a few years (Evercore estimate 3Y) to get up to speed before they can consistently generate returns in line with the other MDs. Evercore estimate that a mature MD will generate $18-28M , with an MD growth rate of 7% in the last 5 years. Based on this, the company is looking at over $100M in growth just from this factor, which in theory should be a growing amount as long as MD growth does.
Evercore currently estimates that its non-M&A advisory work accounts for around 1/3 of its IB revenue. With this in mind, an analysis of the current M&A market is key to assessing the quality of revenue in the coming year. As the following graph illustrates, we have seen a noticeable decline in activity during FY22, the primary reason for Evercore seeing revenue dive in the year.
This is due to a change in market conditions, with fears of a recession and interest rates being lifted. Fears of economic conditions declining are a natural deal deterrent as it encourages potential buyers to remain patient for valuations to fall. Further, interest rates are a major factor in deal activity as when rates rise, the cost of financing increases while reducing the valuation of future cash flows, contributing to a decline in buy-side valuations. This is one of the reasons Evercore saw a 16% growth rate during a decline of record-low interest rates. As the following survey data illustrates, the biggest deal inhibitor currently is the cost of financing by far.
M&A inhibitor (KPMG)
The impact of this has been a reduction in activity, with our expectation being that things remain soft compared to FY21 until rates come down. As the following graph illustrates, the quarterly total deal value has consistently declined since Q3-21, with no tangible evidence of a reversal in this trend. This to us suggests a further year of decline for Evercore is ahead.
Global M&A by quarter (Dealogic)
Looking more long term, we are more bullish, however. The reason for this is the amount of dry powder private equity firms currently have. S&P estimates the amount to be $2.5T , a record level. A significant portion of this will need to be invested in the coming years, driving an increase in deal volume.
Although 1/3 of IB revenue is non-M&A work, this still leaves the Bank highly dependent on deals. With investment banks, we really value diversification in revenue, especially with counter-cyclical operations, such as Restructuring. Evercore does provide these services, which is why revenue has not declined even further, but the revenue mix means the offsetting impact can only be so much.
Margin
Evercore has achieved impressive margins, with an OPM of over 20% for 5 straight periods. Further, this is translating to a strong NI.
Compensation has grown at quite a high rate, only marginally outstripped by revenue. On a per-employee basis, this translates to an equal growth rate. This is not an ideal result as this can rapidly contribute to growing margins. However, in competitive labor markets, senior banks want to be well rewarded for improving performance.
Further, we are comforted by the fact Evercore's compensation ratio is 61%. Our target for a strong IB performance is <63%. Given the current bear market, this is a historic high for the business, with a sustainable level of around 59%.
Costs of services provided, which are all other cash costs to the business, have grown at an inferior rate, contributing to the margin improvement. We would not expect these costs to be proportionate in nature and so some margin improvement will occur due to it over time.
Margin improvement has come from revenue naturally outpacing growth but the real key driver of Evercore's impressive margins are its commercial factors highlighted above. Evercore can pitch with a greater margin to its competitors due to its market positioning, big-ticket projects, and expertise.
Q4 download
Presented above is an extract from Evercore's most recent quarterly results.
Revenue is noticeably down from Dec21, driven in large part by the company's advisory business. This is a reflection of the bear market currently being experienced. The annual decline is far smaller, reflecting what has been a sustained decline in FY22. This makes it difficult to forecast the forward period, as it is difficult to see where the "bottom" will be.
The big impact has been in underwriting activities, with a 32% decline in Q4 and 50% in FY22. Again, this is a reflection of current market conditions. It is far more difficult to raise capital, resulting in many deferring efforts until market conditions improve. What is good for Evercore is that this is a small part of the Investment banking operations, softening the overall impact.
Balance sheet
Evercore's balance sheet is relatively uneventful, with the business operating asset-light. Its efficiency metrics have improved over time, reflecting the accretive nature of improved margins.
Management has shown an impressive track record of capital distributions, with a 23% growth rate in buybacks and 18% in dividend payments. This has shown resilience, although has not grown consistently but varies with profits.
Capital returns (Evercore)
With buybacks in mind, Evercore's average diluted share count has generally been increasing, although the substantial buybacks in the last two periods have curtailed this. It is possible that if returns normalize, we could see dilutive results continue.
Outlook
Outlook (Tikr Terminal)
Presented above is the consensus view on Evercore's FY23 results. Given the uncertainty around the market, the forecasts are not to be relied on, however, can provide some directional information based on industry discussions.
Evercore is expected to experience a soft decline in revenue, with the business down 20% overall from its FY21 peak. This looks like a reasonable estimate given its reliance on cyclical advisory work. If anything, our view would be that this is a good result. It suggests a level of resilience that is not seen by its peers or the industry as a whole.
The following is the view of UBS analyst Brennan Hawken .
While he expects global M&A completion volumes to drop over 50% in Q1, Hawken sees just a ~20% slump in EVR's advisory revenue for the quarter, in a signal that the company's "relationships are strong enough to generate over $500mn/quarter even though financing banks are in a better competitive position."
Peer comparison
Investment banks (TIkr Terminal)
Presented above is a comparison of Evercore to a peer group of boutique investment banks, as well as the leading bulge brackets.
Evercore performs extremely well and is arguably the undisputed leader of the listed-boutique cohort.
The business has the highest OPM and NI of the group, with only a small slippage based on its 5Y OPM average. This suggests both market-leading project pricing and the ability to sustain this over a period of time.
Impressively, growth has managed to keep up, with the business only marginally outperforming relative to the best performers. This is still a large net gain for investors.
Our view is that Evercore deserves a premium valuation to reflect this superior performance.
Valuation
Valuation (TIkr Terminal)
Presented above is the valuation of these banks.
Evercore is trading in line with the average, despite its superior performance. A portion of this is likely a reflection of the company's reliance on cyclical advisory services, which will mean underperformance in the near term. Contrasting this is Banks with key growth segments, such as loan book activities, as they are benefiting from heightened rates. One such example is RJF .
Our view is that Evercore's premium will be offset somewhat but nevertheless should exceed the current average, especially on a forward basis. Analysts concur with this, suggesting an upside of 17%.
Key risks to thesis
The risks to our current thesis are:
- A financial crisis event or continued weakening of the market. The banking crisis in early 2023 triggered by SVB is evidence the market remains weak.
- A reliance on M&A work leaves the business susceptible if there is a reduction in activity in the medium term. Although we think this is unlikely, a change in industry dynamics has occurred in the past.
Final thoughts
Evercore is a leading investment bank, with its total deals volume suggesting it is operating at a similar level, at least in market perception, to the bulge bracket. There is no single reason for this but a blend of quality recruitment and high-quality work. Despite the market slowdown currently, this factor alongside industry tailwinds should allow growth in the medium-to-long term to continue at a similar level to the last decade.
From a financial perspective, we are even more impressed, with the company far more profitable than its peers. This is a reflection of the advisory work provided and project pricing. Despite this, the company is trading in line with its peers.
For further details see:
Evercore: Our Pick For The Best Advisory IB