Cohen & Steers, Inc. (NYSE:CNS) Q4 2021 Earnings Conference Call January 27, 2022 10:00 AM ET
Brian Heller – Senior Vice President and Corporate Counsel
Bob Steers – Chief Executive Officer
Joe Harvey – President
Matt Stadler – Chief Financial Officer
Conference Call Participants
John Dunn – Evercore ISI
Marla Backer – Sidoti
Ladies and gentlemen, thank you for standing by. Welcome to the Cohen & Steers Fourth Quarter and Full Year 2021 Earnings Conference Call. [Operator Instructions] As a reminder, this conference is being recorded Thursday, January 27, 2022.
I would now like to turn the conference over to Brian Heller, Senior Vice President and Corporate Counsel of Cohen & Steers. Please go ahead.
Thank you, and welcome to the Cohen & Steers Fourth Quarter and Full Year 2021 Earnings Conference Call. Joining me are our Chief Executive Officer, Bob Steers; our President, Joe Harvey; and our Chief Financial Officer, Matt Stadler.
I want to remind you that some of our comments and answers to your questions may include forward-looking statements. We believe these statements are reasonable based on information currently available to us, but actual outcomes could differ materially due to a number of factors, including those described in our accompanying fourth quarter and full year earnings release and presentation, our most recent annual report on Form 10-K and our other SEC filings. We assume no duty to update any forward-looking statement.
Further, none of our statements constitute an offer to sell or the solicitation of an offer to buy the securities of any fund. Our presentation also contains non-GAAP financial measures referred to as adjusted financial measures that we believe are meaningful in evaluating our performance. These non-GAAP financial measures should be read in conjunction with our GAAP results. A reconciliation of these non-GAAP financial measures is included in the earnings release and presentation to the extent reasonably available. The earnings release and presentation as well as links to our SEC filings are available in the Investor Relations section of our website at www.cohenandsteers.com.
With that, I’ll turn the call over to Matt.
Thank you, Brian, and good morning, everyone. Thanks for joining today. My remarks will focus on our as adjusted results. A reconciliation of GAAP to as adjusted results can be found on Pages 18 and 19 of the earnings release and on Slides 16 through 19 of the earnings presentation.
Yesterday, we reported record earnings of $1.24 per share compared with $0.76 in the prior year’s quarter and $1.06 sequentially. The fourth quarter of 2021 included cumulative adjustments to compensation and benefits and income taxes that lowered our compensation to revenue ratio and effective tax rate, respectively. Revenue was a record $159.7 million for the quarter compared with $116.6 million in the prior year’s quarter and $154.3 million sequentially. The increase in revenue from the third quarter was primarily attributable to higher average assets under management and open-end funds and higher performance fees from certain institutional accounts when compared with the third quarter.
Our implied effective fee rate was 58.1 basis points in the fourth quarter compared with 57.5 basis points in the third quarter. Excluding performance fees, our fourth quarter implied effective fee rate would have been 57 basis points, and our third quarter implied effective fee rate would have been 57.3 basis points. Operating income was a record $82.6 million in the quarter compared with $49.4 million in the prior year’s quarter and $70.4 million sequentially. Our operating margin increased to a record 51.7% from 45.6% last quarter, primarily due to the cumulative adjustment mentioned a moment ago, which reduced compensation and benefits to reflect actual amounts to be paid.
Expenses decreased 8.1% when compared with the third quarter as lower compensation and benefits was partially offset by higher G&A. The compensation to revenue ratio, which included the cumulative adjustment was 26.16% for the quarter. For the year, the compensation to revenue ratio was 32.22%. The increase in G&A was primarily due to higher travel and entertainment, increased hosted and sponsored conferences and higher recruitment fees. And the increase in distribution and service fee expense was primarily due to higher average assets under management in U.S. open-end funds. Our effective tax rate, which was 25.36% for the quarter, included a cumulative adjustment to bring the rate to 26.15% for the year. The reduction in the effective tax rate was primarily due to a decrease in a nondeductible portion of executive compensation on a higher than previously forecasted pretax base.
Page 15 of the earnings presentation sets forth our cash and cash equivalents, corporate investments in U.S. treasury securities and liquid seed investments for the current and trailing four quarters. Our firm liquidity totaled $248.2 million at quarter end, compared with $241 million last quarter. Firm liquidity as of December 31 reflected the payment of a special cash dividend in December of $60.3 million or $1.25 per share. Over the past 12 years, we have paid a total of $15.25 per share in special dividends, and we continue to be debt-free. Assets under management totaled a record $106.6 billion at December 31, an increase of $9.4 billion or 10% from September 30. The increase was due to net inflows of $1.8 billion and market appreciation of $9.1 billion, partially offset by distributions of $1.6 billion. This marks the 10th consecutive quarter that we have recorded net inflows. Bob Steers will be providing an update on our flows and institutional pipeline of awarded unfunded mandates.
And now I’d like to briefly discuss a few items as we begin the new year. First, regarding our expected compensation to revenue ratio, we intend to balance anticipated revenue growth from year-end assets under management that exceeded our full year assets under management by about 13%. With a disciplined approach toward adding human capital, in addition to the full year impact from the new hires we made last year, we plan on making controlled investments in order to broaden our product offerings, expand our public and private distribution efforts and most importantly, to maintain our industry-leading investment performance.
As a result, we expect that our compensation to revenue ratio will increase to 33.75% and from the 32.22% recorded in 2021. Continuing with the theme of investing in our business, we expect G&A to increase 10% to 15% from the $47.2 million we recorded in 2021. We intend to make incremental investments this year in technology, including the implementation of new systems that will add efficiencies and expand our capabilities, cloud migration and upgrades to our infrastructure and security. We will also make investments in global marketing, focused on hosting virtual and in-person conferences as well as expanding our digital footprint. And we expect that travel and entertainment costs will increase as global conditions begin to return to normal. We expect that our effective tax rate will remain at 26.15% in 2022.
And finally, you will recall that a year ago, we noted that we were anticipating the redemption of $1 billion global real estate institutional account in 2021. I am pleased to inform you that not only do we continue to manage this account, but the client has also added assets to it, and therefore, we no longer consider this account to be at risk.
And now I’d like to turn it over to Joe Harvey, who will discuss our investment performance.
Thank you, Matt, and good morning, everyone. Today, I will review our investment performance, and discuss the macro environment and its impact on our asset classes. Four weeks into January, the fourth quarter of last year seems far away, but it was very strong for equities, 2021 closed with momentum and expectations for post-pandemic economic recovery, earnings growth, stimulus and appetite for risk taking. Our largest asset class, U.S. REITs, was the best performing sector in the S&P, returning over 16% in the quarter.
For the full year, our asset classes performed well, with U.S. REITs up 41%, global real estate up 26%, listed infrastructure up 15%, resource equities up 24% and preferreds up nearly 3%. With the new year, however, the market has finally focused on rising inflation, which, as we shared our views with you last year, will likely persist. With the last reading at 7%, CPI is currently at the largest gap to the federal funds rate in our professional lifetimes. Reversion of that gap will come by way of both monetary tightening as well as from inflation normalizing at a lower rate. We believe inflation could stabilize in the high 2% ZIP code or 100 basis points higher than the pre-pandemic trend line.
The interest rate and adjustment process will reshuffle the deck of winning and losing asset classes and sectors while exposing vulnerabilities from risk-seeking borrowers. We believe that the U.S. economy will continue to enjoy above-trend growth, supported by a prolonged and oscillating recovery as the pandemic ebbs and flows. Earnings sensitivity to inflation should be a key differentiator in performance to counteract the impending interest rate adjustment. Looking at our performance scorecard. In the fourth quarter, eight of nine core strategies outperformed or equaled their benchmarks. For the last 12 months, nine of nine core strategies outperformed. Measured by AUM, 99% of our portfolios are outperforming benchmarks on a one-year basis compared with 79% last quarter. The improvement was attributable primarily to global real estate, which improved from 25% outperforming in the third quarter to 95% outperforming as of year-end.
For both three and five years, 100% of AUM are outperforming, 86% of our open-end fund AUM is rated four or five-star by Morningstar, compared with 88% last quarter. Credit goes to our investment leaders, John Shay, our CIO; and Chris Parliman, Chief Administrative Officer; and guiding our teams to these outstanding results. In light of the inflation situation, I’ll kick off our asset class review by highlighting our multi-strategy real assets portfolio, the benchmark for which returned 21% in 2021. This portfolio is designed to provide equity-like returns, inflation sensitivity and diversification. We outperformed the benchmark by 340 basis points for the year, which included outperformance in all five asset class sleeves as well as asset allocation alpha by our portfolio manager, Vince Childers. This portfolio is designed to perform best in environments of rising or unexpected inflation.
Commodities and resource equities provided the most inflation sensitivity while real estate is driven more by economic growth and infrastructure tends to be an all-weather performer. Valuations of these listed real assets are as cheap as they’ve been to equities in 20 years. Meantime, the beta to equities is just 0.6 times. We recently published a white paper on this strategy and its constituent asset classes and is available on our website. Our three core real estate strategies: U.S., global and international outperformed in both the quarter and year. As mentioned, global real estate returned 26% with significant dispersion by region. The U.S. returned 41%, Europe returned 9% and Asia returned 4%.
To address the inflation and interest rate question on prospective performance, earnings sensitivity and replacement cost dynamics should help listed real estate. Globally, these companies’ cash flows should accelerate to an average of 12% over the next few years compared with their long-term growth rate of 5%. U.S. REIT returns have averaged 10.8% during periods of rising bond yields accompanied by rising growth, while in periods of rising yields with declining growth, returns have been flat. Comparatively, private real estate unleveraged returns have averaged 10.7% in high-inflation environments versus 6.5% in low inflation environments.
Turning to infrastructure. The asset class returned 15% in 2021 compared with 22% for global equities lagging for the second year. We outperformed our benchmark for the quarter and year. Sector dispersion was wide with over 40 percentage points best to worst. While certain pandemic challenged sectors, namely passenger rails, toll roads and airports, restrained performance, the ongoing economic recovery should provide tailwinds for these sectors going forward.
Reflecting the income and stable cash flow growth profile infrastructure, I’d characterize infrastructure generally as steady eddy. That is – it provides solid returns in most market regimes, while not at the top of the charts nor at the bottom. In part due to President Biden’s now passed infrastructure spending legislation, we are seeing broadening allocations in institutional portfolios and increased flows in wealth.
Preferred securities portfolios had modest negative returns in the fourth quarter, but performed well versus fixed income for the full year. For the quarter and the year, we outperformed benchmarks in both our core and low-duration strategies. This year, likely we’ll test fixed income performance generally based on our view for rising bond yields. That said, preferred credit fundamentals are very strong, reflecting the high representation in banks and other financials, while spreads are generally in line with long-term averages.
Our portfolios are positioned defensively against increases in interest rates with duration of 2.4 years in our low-duration strategy and 4.0 years in our core preferred strategy. After high-yield, preferreds offer the second highest yields in fixed income and offer meaningful tax advantages for the taxable investor due to the high percentage of qualified dividend income that they produce.
In terms of our private real estate initiative, we have commenced our investment process and have closed on several property acquisitions for both our income strategy and our opportunistic or capital appreciation strategy. This year, we will look to add a real estate investment strategist as part of our expansion of multi-strategy capabilities to help our teams and clients allocate between listed and private real estate and execute thematic and strategic research. We look forward to sharing our progress on this initiative in the future.
In closing, we are very positive about the allocation trends we are seeing for our asset classes. In the institutional channel, we see a greater need to allocate to real assets. By example, in the private market, dry powder and private equity funds is at $390 billion for real estate and $300 billion for infrastructure. Investors are becoming more comfortable with listed allocations to complement private despite greater measured volatility. Some investors want real assets with liquidity, particularly in the endowment and foundation and Healthcare segments where some plans liquidity has been challenged.
In our early-stage pipeline, we have some sovereign wealth opportunities where the plan sponsors are making initial allocations to listed real estate and infrastructure. We would expect those initial small allocations to grow meaningfully to make it worthwhile for those plan sponsors to research the asset classes and oversee additional managers.
In the wealth channel, we are seeing earlier-stage adoption of private real asset allocations. As we’ve seen in other markets, this will help drive listed allocations over time. We believe the inflation environment will help provide additional support for these trends. Finally, manager consolidation and conversions from passive to active are trends also in our favor as our performance continues to be excellent.
Thank you for listening. I’ll turn the call over to Bob Steers.
Thanks, Joe, and Matt, and good morning, everyone. 2021 was a record-breaking year in myriad ways for Cohen & Steers. It marked our 35th anniversary and 17 years as a public company. For the quarter and year, we achieved a record number of records, driven by improving fundamentals, a rebounding economy, accompanied by the return of meaningful inflation. And for the first time in over a decade, the prospect of sustained Fed tightening.
As Matt discussed, assets under management increased to a record $106 billion at year-end, driven by our 10th consecutive quarter of firm-wide net inflows. Both open-end fund and advisory channels ended the quarter with record assets under management. For the full year, we also achieved record gross and net inflows, open-end fund and advisory gross sales increased 11% and 13% to $19.5 billion and $4.9 billion, respectively.
Most notably, open-end fund net inflows rose 62% year-over-year to a record $8.8 billion, while the advisory channel also registered a record $1.9 billion of net inflows. Firm-wide organic growth was 12% for the year.
The seemingly sudden rise of inflation and the expectation from multiple rounds of Fed tightening have put into stark relief the importance and value of portfolio allocations to actively managed real asset strategies across client portfolios to enhance returns and provide diversification. The wealth channel was by far our strongest business segment and achieved multiple milestones in the quarter. Net inflows in that channel were a record $2.5 billion for a 22% organic growth rate, and represented our 12th consecutive quarter of positive net flows.
Importantly, net flows in the quarter were not just strong but also diverse, with meaningful contributions from each of the wire house, regional brokerage and RIA segments. In addition, DCIO open-end fund net inflows were a record $476 million and marked the 14th consecutive quarter of net inflows. DCIO assets in our open-end funds ended the year at a record $6 billion.
Our non-U.S. open-end funds registered net inflows of $45 million in the quarter and a record $202 million for the full year. We will continue to invest to support growth in this important channel, and we expect that flows will continue on an upward trajectory. For the year, the powerful combination of strong absolute and relative performance derived from our unique and diversifying asset classes resulted in 25% organic growth in wealth and industry-leading market share as well.
Our U.S. global real estate and preferred securities funds achieved market share records of 33%, 12% and 46%, respectively, against other comparable actively managed funds.
2021 was a record year for the institutional advisory channel as well with $1.9 billion of net inflows. However, 2021 was also a year in which we reorganized our sales leadership and converted to a regional approach to our institutional sales coverage. We enter 2022 fully staffed and prepared to go higher and deeper into the global institutional marketplace.
In the quarter, the advisory channel had net outflows of $456 million. These outflows were driven by a single and unexpected client termination of $400 million. However, not included in the headline advisory flow results was $564 million of net new mandates from institutional clients, which were invested into our open-end funds.
Other full year achievements for the advisory channel include positive net flows from each of the U.S., EMEA and Asian markets. Additionally, all of our core strategies, U.S. real estate, global real estate, global listed infrastructure and preferred securities registered net inflows.
The pipeline of awarded but unfunded mandates has increased dramatically $900 million in September to $2.1 billion, another new record. New awards in the quarter totaled $1.3 billion and included our first relationship in Africa, a $300 million global listed infrastructure mandate.
Sub-advisory flows in the quarter were subdued. Net outflows in Japan were $242 million and distributions totaled $276 million. Sub-advisory net outflows ex Japan in the quarter were a modest $56 million. At the risk of sounding overly optimistic, we believe our current momentum and growth prospects have never been brighter, driven as always, by our industry-leading investment results. It bears repeating that virtually 100% of our AUMs are outperforming their benchmarks for the one, three, five and 10-year time periods, a truly remarkable accomplishment.
Looking ahead, the combination of industry-leading investment performance, rising demand for real asset strategies and our plans for new product introductions designed to meet this demand has us poised for continued organic growth.
In addition to our open-end fund organic growth, next month, we plan to market the first new listed real estate securities closed-end fund in over nine years, supported by an exceptionally strong and deep syndicate. And as I’ve discussed, the institutional advisory channel entered this year with a record pipeline, fully staffed and the reorganization behind them. Also under new leadership, our EMEA wholesale business is also poised to deliver meaningful organic growth.
To capitalize on all of this momentum, this year, we plan to launch multiple new initiatives which will seek to position Cohen & Steers at the intersection of public and private real estate markets through the introduction of vehicles tailored to the unique requirements of both the institutional and wealth marketplaces. These initiatives are designed to take us higher and deeper into real assets and position us for continued future growth.
With that, I will turn the call back to the operator for questions.
Thank you. [Operator Instructions] Our first question comes from John Dunn, Evercore ISI. Please go ahead.
Hi guys. You’ve done a good job in the past about laying out all the work you’ve done to prepare for an inflationary environment on the investment strategy side. Could you talk a little bit about the stuff you’ve done on the distribution side, particularly in the wealth management channel to prepare for inflation?
Joe, do you want to answer that?
Well, it’s a matter of – I believe, just making sure that we’re educating our client base and wealth management and presenting the strategies that we think are best suited for the environment. And one of – an example would be in our preferred strategies, to educate and focus on our low-duration strategy. And we’ve been seeing increased flows into that strategy.
The other vehicle and strategy that we think makes most sense for the wealth channel is our multi-strategy real assets portfolio that I highlighted in my discussion. And that’s a good all-round portfolio enhancer that doesn’t give clients risk to any one asset class like commodities, which could be volatile or over the long term, not perform as well as a blended approach to real asset investing.
So I believe that the wealth channel generally wasn’t prepared for inflation because it hasn’t been on the radar for a long time. And so we’ve got a great opportunity to educate, and we’ve been doing that. And highlight the strategies that we have such as the low duration preferred and multi-strategy real assets portfolio to put portfolios in a better place.
I will say too that while REIT strategies historically have not been as inflation-sensitive in the short term, this cycle they’ve been very sensitive to the changes in the inflation environment. And we have seen and that’s demonstrated by our flows into our open-end funds, very strong interest in REITs as a way to protect against inflation.
Got it. And then maybe could you give us an update on the private real estate team, the progress they’ve been making over the last several months and then maybe the growth outlook for that team?
Sure. Well, the team is formed. And as I mentioned in my comments, we’ve made our first couple of acquisitions, and we’re focused on two different strategies. One is an income strategy. And that is designed for our income-related vehicles that we have today and we’re in the lab constructing for the future. And those will be primarily designed for the wealth channel. And there are things like closed-end funds and non-traded REITs.
Then on the institutional side, we’ve got a vehicle that is in the early cornerstone capital raising phase. And that’s a capital appreciation strategy. We’ve also made a commitment there. So we’re off and running and we’ll be able to report our progress on capital raising over the next year.
Thank you very much.
But just let me finish on that point, as both Bob mentioned and I mentioned, our vision here is pretty broad in that we see opportunities to work with a wide variety of clients to better allocate their real estate allocation between the listed and the private market. And that’s why we’ll be hiring a real estate investment strategist this year to work as part of our listed and private real estate capability and a broader multi-strategy capability.
But the backdrop is that investors are just – as I think I outlined in my comments, much more comfortable allocating their capital either to a listed market, private market no matter where – and then but driven by where the best opportunities are. And so we want to work with our clients to help them optimize portfolios, and it could be done on an advice basis, which we’re always in the room on with our clients, but it can also be done through vehicles. So we have this broader vision and we see an opportunity to – as Bob mentioned kind of sit at the intersection of listed and private and help investors optimize portfolios.
Thank you. Our next question comes from Robert Lee, KBW. Please go ahead.
This is Alex for Rob. I know you guys gave a little bit of color on expenses, maybe increase in tech next year in G&A. Can you add a little bit more color around comp and what the expectation is or pressure is heading forward?
Matt, do you want to speak to that?
Sure. So as I mentioned in my prepared remarks, we are continuing to build out areas where we have momentum, as highlighted in both Bob and Joe’s remarks, which include broadening our product offerings, Joe just mentioned an investment strategist to help explore continued products in public and private blending. So we’re – and continuing, of course, to invest in the investment department more broadly to maintain our industry-leading performance.
And in addition to that, as the firm grows, there’s some infrastructure in legal and IT and fund admin that is required to meet the needs of the growing business. So I think 2021 comp year was pretty anomalous in that – it showed a huge increase in compensation relative to a huge increase in revenue year-over-year. I think as we get into 2022, it’s not expecting to have a reoccurrence of that, but yet we have to continue to invest in our business and keep growing our business. So I think the 150 basis point increase is reasonable given all of that backdrop.
Great. Thank you.
I would just add in terms of being competitive on compensation, when you look at our business, and I think it’s pretty evident based on the comments today that we’ve got a lot of things going for us, starting with strong investment performance, which is – and strategies that are in demand, which leads to organic growth. And so while a lot of the industry has been helped by appreciation, our business has been driven by a combination of things, both organic growth and appreciation. And so with our business model and strong performance, I think we’re well positioned to be competitive on compensation, no matter what the markets bring us in the foreseeable future.
I would also add again the underlying our expectation for the comp ratio, just highlights how leverageable our business model is because it includes building from scratch, building organically, the entire private real estate team, which we’re not assuming any meaningful revenues this year along with building the team that will sit at the intersection between public and private. We don’t expect meaningful payoffs from those new initiatives until 2023 and beyond.
And that’s all contemplated in the guidance that we’re giving. And so it just – again, it shows that our business model, our structure competes very well economically versus other asset managers.
Great, thank you for taking my question.
Thank you. [Operator Instructions] Our next question is from Marla Backer of Sidoti. Please go ahead.
Thank you. So just continuing on with investments that you’re looking at for 2022, particularly in human capital, as you said, you mentioned the real estate investment strategist. Can you give us some more color around the potential time line as to when some of these investments might take place and what you’re seeing in your pipeline?
Joe, would you take that?
Sure. When you look at our plans for headcount additions, I’d say they’re broad throughout the functionality of the firm, and that’s driven by the fact that we’re having success on a lot of fronts. So I think as you can think about loading that into a model, it’s going to be spread over the first half of this year in terms of thinking about those headcount additions.
Okay. And then switching topics. Given your traditional strength in real estate investing, there’s been a lot of discussion about just a change in the paradigm of how companies do business and whether people will continue working at offices to the same extent as they do pre-COVID. Do you see any potential opportunities for you in terms of investing in any restructuring of existing office property?
Well, first of all, it’s an exciting topic, right? What we live for is change. And the case of the pandemic and how it impacts the commercial real estate industry, there’s some structural and secular change that’s taking place. There was a article in the Wall Street Journal yesterday that said that the way we work, live and play is changing, and that’s something we believe in strongly is going to change which regions of the country or getting stronger and which are getting weaker, and it’s going to change the fortunes of property segments and sub-segments within those property types.
So as active investors, that changes what creates opportunity, and that’s what energizes us. So specifically to the topic of the office sector, it’s one that we’ve targeted as an area of opportunity, particularly on the private side. And so but it’s driven by the change taking place of migration to southern states such as Florida or Texas, which is driven by a lot of things, including the tax regime. And so it’s creating opportunities. And that’s where we – that’s what we’re all about as an active investor.
That was our final question. I’d like to turn the call back over to Joe Harvey, President, for any closing remarks.
Thank you. Since I will have the honor of succeeding Bob Steers as CEO on March 1, this will be his last earnings call. Next quarter, we will continue with the same format with Matt reviewing financials, John Shay providing an investment review and me handling the overall business review.
No doubt, I have large shoes to step into considering that Bob co-founded Cohen & Steers along with Marty Cohen, over 35 years ago. Since our IPO in 2004, our AUM has grown from $15 billion to $106 billion and our annualized return to shareholders has been 17.3% compared with 11.2% for the S&P 500. With that backdrop, our executive committee and senior leadership are as strong as ever and we remain intensely focused on continuing our long record of innovation and excellence.
We will continue to have the counsel of Bob and Marty as largest shareholders and Board members alongside our other active and value-added Board members. For a period of time, Bob will continue as Executive Chair to work on our private real estate initiative. On behalf of Cohen & Steers employees, our Board, shareholders and clients, I would like to thank Bob for creating, along with Marty, a great company and for being a great leader. In addition, I would like to congratulate Bob on preparing us for a smooth transition into the future. We look forward to talking with you in April.
Thank you, operator.
Thank you. This does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines. Thank you, and have a good day.