Christopher Crain - General Counsel Scott Beiser - CEO Lindsey Alley - CFO

Mike Needham - Bank of America Merrill Lynch Devin Ryan - JMP Securities Doug Doucette - KBW Jeff Harte - Sandler O'Neill Vincent Hung - Autonomous

Welcome to the Houlihan Lokey Fiscal-Year and Fourth Quarter 2016 Earnings Conference Call. [Operator Instructions]. I would now turn the call over to Christopher Crain, Houlihan Lokey's General Counsel. Please go ahead, sir.

Thank you, Operator and hello, everyone. By now everyone should have access to our fiscal-year and fourth quarter 2016 earnings release which can be found on the Houlihan Lokey website at www.hl.com in the investor relations section. The release was published about 20 minutes ago and we apologize that it was not available earlier, but we did have some technical difficulties. Before we begin our formal remarks, we need to remind everyone that the discussion today will include forward-looking statements. These forward-looking statements which are usually identified by use of words such as will, expect, anticipate, should or other similar phrases, are not guarantees of future performance. These statements are subject to numerous risks and uncertainties that could cause actual results to differ materially from what we expect and therefore you should exercise caution in interpreting and relying on them. We refer all of you to our recent SEC filings for a more detailed discussion of the risks that could impact our future operating results and financial condition. We encourage investors to review our regulatory filings, including the form 10-K for the FY '16 ended March 31, 2016, when it is filed with the SEC. During today's call we will discuss non-GAAP financial measures which we believe can be useful in evaluating the Company's operating performance. These measures should not be considered in isolation or as a substitute for our financial results prepared in accordance with GAAP. A reconciliation of these measures to the most directly comparable GAAP measures is available in our earnings release and our investor presentation on the hl.com website. Hosting the call today we have Scott Beiser, Houlihan Lokey's Chief Executive Officer and Lindsey Alley, Chief Financial Officer of the Company. They will provide some opening remarks and we'll then open the call to questions. With that, I'll turn the call over to Scott.

Thank you, Christopher. Hello, everyone and welcome to our fiscal-year and fourth quarter 2016 earnings call. When we spoke in February at our last earnings call, the equity and debt markets had a decidedly negative tone. Today the markets are more stable and the dislocation that occurred in January and early February appears to have been temporary. Through it all, we remain diligent in our efforts to continue to build an independent global investment bank that performs well in all market conditions. I will begin my remarks with an overview of our results and accomplishments for the year, then provide commentary on our fiscal fourth quarter results and with some observations on several of the market factors influencing our business and some positive trends impacting our outlook. In FY '16 Houlihan Lokey reported a record $694 million in revenues. Our corporate finance and financial advisory services businesses both achieved record years in revenues and our financial restructuring business did well, better than our expectations. We reported adjusted earnings per share of $1.46 for the year, up 8% from last year. We achieved many highlights in FY '16. We went public in August. We paid two quarterly dividends of $0.15 per share since being public and today we're pleased to announce that our Board of Directors authorized a 13% increase in our quarterly dividend to $0.17 per share. The increase will be effective as of the next dividend payment on June 15, 2016. During our FY '16, we made three strategic acquisitions, a digital-media-focused banking firm in the U.S., a consumer-focused banking firm in the UK and a Continental Europe-based investment banking firm. Our two European acquisitions increased our total financial headcount in Europe to around 140, nearly doubling our headcount from a year earlier. We also opened an office in Houston and strengthened our existing oil and gas capabilities. In addition to the 23 MDs added through acquisitions, we promoted 8 MDs, we hired 7 MDs and there were 10 MD departures during the FY '16. As a reminder, the vast majority of the MDs that joined us through acquisitions have been with the firm for only a partial year. Consequently, we believe their full potential is not captured in our FY '16 results. I would characterize last year as a period where we made several key strategic moves. As we move into FY '17, we're focused on continuing to integrate both our new acquisitions and new employees into the overall fabric of the firm. While FY '16 employee growth was dominated by acquisitions, we anticipate FY '17 employee growth will be driven by strategic hires. In the last two months, we have already hired five managing directors who have started or are anticipated to start later this year. Overall, our MD bench is the strongest it has ever been. Over one-third of our MDs have been at that title or at our firm for less than two years, so we expect increased productivity from this group in the years to come. Despite the significant growth we've seen in our investment banking staff, we're still very comfortable at a targeted awarded compensation ratio of between 65% and 66% and have delivered within that range for the last two quarters since our IPO. Turning to the fourth quarter, we reported $184 million in revenues, our second highest fourth quarter revenues ever. However, it was disappointing as this was our first quarterly year-over-year decline in revenues in 11 quarters. As I mentioned in our last earnings call, market conditions lengthen the timeline to close M&A and financing transactions and that had an impact on our revenues this quarter in corporate finance. However, we have not experienced any meaningful trend in the percentage of transactions that are dying and the overall mid-cap marketplace for mergers and acquisitions and financings remains healthy. Our dialogue with executives, financial sponsors and lenders continues to point to a healthier M&A environment in the coming quarters. New business is growing and the number of engaged mandates and corporate finance is at a record level. Furthermore, our presence in Europe is substantially enhanced and should produce greater results in the years ahead. Our financial advisory services business was not materially impacted by the recent market volatility and produced the highest fourth quarter revenues in its history. All the major sub-product areas we track in FAS had very solid results. Our financial restructuring business continues to impress, maintaining a market-leading position in what remains a low default environment. We continue to believe that our restructuring business is the largest in terms of revenue and senior talent. In fact, our financial restructuring business reported $72 million in fourth quarter revenues, its best fourth quarter revenues since the recent recession. While the business environment for restructuring is improving, our fiscal fourth quarter results are generally stronger than our first three quarters. Now let me comment on several of the key market factors driving our business. Impacted by currency movements, oil prices and interest rate uncertainty, stock market volatility over the last few quarters has been high. Currently, the U.S. markets are more stable than they were in January and February, when significant market volatility was weighing on the minds of company executives, investors and lenders. Financing has become slightly more challenging in the recent months, but the availability capital for the mid-cap space where we focus remains strong and deals are successfully getting financed. The negative environment for mega deals involving antitrust concerns and tax-motivated inversions have made significant headlines, but really don't impact the mid-cap market much which is where our corporate finance activity is concentrated. Notwithstanding this backdrop, we're hearing a positive tone from both our strategic and financial clients. New business activity in corporate finance is up substantially year over year, with a strong mix of both M&A and financing business in our pipeline. We enter FY '17 optimistic about the M&A markets and with a record number of mandates in corporate finance. However, we do note that the average time to close transactions continues to be longer than in previous years On the restructuring front, the marketplace over the last two quarters has turned more favorable both in the U.S. and globally. The oil and gas sector continues to drive the distressed environment and at today's oil prices we're likely to continue to see plenty of opportunities in this sector. Prices are not too low, where complete liquidation of the business may be the only option and prices are not too high, where the need for restructuring has dissipated. In the first four calendar quarters of 2016 versus the same period last year, the number of new restructuring mandates is up about 25%. Oil and gas related mandates continue to drive our growth, but we have seen growth and metals and mining and other commodities sectors. In addition, we're seeing a slow but steady increase in overall default rates towards the market norm across many industry sectors and financial restructure in both the number of active projects and size of distressed indebtedness continues to grow. In summary, we're experiencing a market environment which provides for the possibility that both the bullish and bearish elements of our cyclically balanced business model could both grow in FY '17. We have a deeper and stronger banker bench than we have ever had and we're finally in a position to meaningfully expand our brand in Europe. While we cannot control worldwide economic, political and business trends, we can and will continue to build the best business for all of our shareholders, clients and employees across a variety of market conditions. With that overview, I would now turn the call over to Lindsay, our CFO.

Thank you, Scott. To begin, I would like to highlight some of the key metrics from the fourth quarter. We have presented our fiscal-year and fourth quarter 2016 results on both a GAAP and an adjusted basis in order to provide an easier interpretation of our performance when compared to the same periods last year. The adjustments we included in our financial results fall into three primary categories, pre-IPO grants issued to employees in connection with our IPO, adjustments related to previous ownership agreements and adjustments related to transaction expenses on acquisitions that we closed in FY '16. Lastly, we adjust our income taxes to reflect the changes just mentioned. Also, it is important to note that the financial results presented today reflect only the second quarter of the Company operating under on our new post-IPO business model, whereby we're no longer using a fixed-revenue sharing model that delivered an 18% return to shareholders but instead targeting long term awarded compensation and non-compensation ratios. Now on to the quarter, fee revenue was $184 million for the for three months ended March 31, 2016, compared with $186 million for the three months ended March 31, 2015. In corporate finance, revenues were $79 million for the quarter compared with $89 million during the same period last year. Activity during the quarter was softer than expected in corporate finance as we closed 40 transactions compared to 49 in the same period last year. This decline was driven by a challenging M&A market environment in the first half of the quarter which served to delay several closings until future quarters. As a reminder, the number of global M&A transaction closings declined 16% during the quarter and for the U.S. this decline was 21%. Unfortunately, the softness in the M&A market incurred during one of our historically strongest quarters as our bankers work hard to close transactions prior to the end of our fiscal year. For FY '16, we closed 162 transactions in corporate finance compared with 164 transactions during 2015, basically flat year over year. Financial restructuring revenues were $72 million for the quarter, an increase of 10% from the prior year. The growth in revenues was primarily driven by an increase in the number of transactions that close for the quarter versus last year. Having said that, some of the transactions that close this quarter were expected to close in previous quarters but were delayed for various reasons. Although we don't consider our financial restructuring business to be seasonal, our fourth quarter is often one of our strongest for the same year-end reason as previously stated. One comment about our energy and power group which covers the oil and gas sector, our year-over-year revenues for that group grew more than 45%, primarily driven by increased financial restructuring activity in the sector. In financial advisory services, revenues were $32 million for the quarter, a 3% increase from the prior year. Revenues in FAS you grew primarily as a result of continued strong performance for transaction-based product despite weakness in the overall M&A market and continued strength in non-transaction-based products. The number of fee events and FAS increased modestly for the quarter, but for the year the number of fee events increased 13% from 1,046 of FY '15 to 1,179 in FY '16. Turning to expenses, our adjusted compensation expense was $115 million for the fourth quarter versus $129 million for the same period last year. The reduction in adjusted employee compensation and benefits expenses was primarily the result of our change on October 1, 2015, from a revenue sharing model to a target-adjusted awarded compensation ratio. This resulted in an adjusted awarded compensation ratio of 66% for the fourth quarter 2015 versus 72% for the fourth quarter last year and an adjusted compensation ratio of 62% for the fourth quarter 2016 versus 69% for the fourth quarter last year. As a reminder, we target an adjusted awarded compensation ratio of between 55% and 66% and we have delivered within that range since we change our compensation structure on October 1. Our non-compensation expense in the fourth quarter was $21 million versus $17 million in the fourth quarter last year. The increase in non-compensation expenses was primarily the result of planned increases in cost as a result of being a public company and increases in general operating expenses associated with the growth of our financial staff. If you look across the FY '16, our adjusted non-compensation expense as a percentage of revenues was 13% which is consistent with what we expect over the long run. Our GAAP effective tax rate for the fourth quarters of FY '16 and FY '15 was 44% and 40%, respectively. This is above our assume tax rate of 41% as a result of the fact that a significant portion of the professional service fees associated with the IPO were not tax-deductible. Under GAAP, these nondeductible expenses were spread over the FY '16 and impacted our effective tax rates in quarters two, three and four. Adjusting out these nondeductible IPO costs, our effective tax rate was 40.7% for the fourth quarter and 40.8% for FY '16. Moving to the balance sheet, as of March 31, 2016, we had $194 million of cash and equivalents, including $27 million in receivables from affiliates. We had debt of $77 million, resulting in a net cash position of $117 million as of that day. As a reminder, we pay bonuses based on last year's results to our financial staff in the first quarter of FY '17. As a component of total compensation for FY '16, we issued $1.7 million in net new shares to employees that will vest ratably over a four-year period beginning in the spring of 2017. Looking back on our fiscal year, our business model remains highly diversified across product, industries, transactions and bankers. In FY '16, no single transaction fee represented more than 2% of our revenues. No individual banker was responsible for more than 3% of our revenues. And with approximately 400 employee shareholders, we had no single employee shareholder owning more than 3% of the shares outstanding. While we do not provide earnings guidance, we remind everyone that the key drivers of our financial performance are our revenues and our compensation ratio. We continue to target long term revenue growth of between 7% and 10% which we anticipate will occur through a combination of organic growth and growth through acquisitions. We target an awarded compensation ratio of between 65% and 66%, a non-compensation expense ratio of between 12% and 13% and we expect a tax rate of between 40% and 41%. With that, operator, we can open the line for questions.

[Operator Instructions]. Our first question will come from Michael [indiscernible], Bank of America Merrill Lynch.

This is Mike Needham in for Mike [indiscernible]. I guess first is a couple of things on the corporate finance business. For calendar 1Q what were you hearing from clients that drove the deal delays and does it feel now like things are back to normal? And on the delays, will most of it hit calendar 2Q and then can you maybe quantify the impacts on those delays on 1Q?

Sure. So a couple things, I think as we described before, the increased market volatility which clearly was there in January and part way through February. It just caused pausing whether that was some slight repricing, whether you had to go visit and find new or different financing sources, deals just got pushed out. One of the things we have continued to look at it is is there any new trend in number of deals just completely dying and there's really nothing there, our deal still able to get finance, the answer for deal flow is yes and so effectively what we saw is just the lengthening out of deals. And it wasn't necessarily I think just a onetime blip, but things that maybe should have closed in February closed in March and March closed in April and April will close in May etcetera, so everything just feels like it pushed out. Today they are starting to close once again at a more normal pace than what we saw three, four months ago, but they are still taking longer. On the second part of your question, yes, I think most of the deals that we had expected to close in our fiscal fourth quarter we now believe will close in our fiscal first quarter of '17, but the same thing can happen but some of the deals originally scheduled for first quarter fiscal '17 could get pushed to second quarter. So everything just got pushed out of that.

And on the restructuring business, are you starting to see assignments spread beyond the energy and commodity related sectors? And then for the quarter, it looked like in the release that the deal closings the transaction fees drove the improvement in revenues for that business. Is there also more recurring retainer component that we should see in restructuring line that will aid revenues for the rest of the year?

So two things, I think as we have said, we're still seeing the business being driven by the oil and gas sector than probably the mining and minerals and metals and other forms of commodities, but above and beyond that, we're seeing in a variety of different industries, like I said kind of a slow increased of policy relatively low default rates we've had across all industries are just slowly starting to climb back to what eventually we feel will be a market norm. It's not a significant increase, but it is a slight increase that is impacting on a variety of different industries. And what we're seeing is not only the number of new business that is coming in, it's is accelerator from what we saw a year ago but also the size of the indebtedness is increasing and thus the size of the transaction fees and that's driving some of the revenues and you are correct, this business for ourselves in our peers is partially you get a monthly retainer fee or quarterly fee and then there's a transaction fee. Obviously, the transaction fees can take many, many months or a couple years before they occur, but the monthly fees or something you will generally start to generating at the time that you get hired.

And then just last one on non-comp expense. That came in just a little bit low what we had thought I think the ratio was kind of in-line with your Europe -- maybe a little bit below long term guidance there, any unusual items in there or is that the right place to go off of? Thanks.

I think what I would do is use the not the quarter as a proxy for next year, but I would use an annual number. So we generated about $89 million of non-comp expenses for the year, that ended up being a little bit under 13%. I think that 12% to 13% range that I gave you at the end of the call is what I would look forward to for 2017.

And next we will take a question from Devin Ryan from JMP Securities.

Maybe just quickly start off with a follow up on the restructuring, it sounds like you guys were still pretty optimistic on the energy complex from here. I'm just curious with higher oil prices, is that slowing new mandates may be pushing out capitulation from companies of hiring restructuring bank? I'm just trying to get a sense, do we see maybe just a pause for a bit here with higher oil or companies is just too far past the tipping point?

At the moment, I would say we're a little bit in the Goldilocks arena. Like I said, prices are not too low or too high. Like obviously shift where it will be a week, month or quarter for now could be different, but at this point we still think there are a number of companies that even if oil prices stay where they are at, they are going to run in the financial difficulties they have too much debt, they've got certain covenants [indiscernible] and what we're seeing for ourselves in the industry in general is more new business activity is coming in this sector. So at least based upon today's current prices, we don't see anything that slowing down the activity and like I said, it's kind of any right price at least in today's market price.

Okay. And one on capital allocation, acquisitional growth clearly always been important for you guys, not sure how much you can share here, but maybe just qualitatively, any sense of are there things that you are currently moving forward on or looking at closely and if possible, any perspective you can give on geographies or size or anything else just as were thinking about capital being created and what you may be looking to do with it?

Just so I will touch a little on I think if your question was perspective acquisitions, we do continue to look at a number of areas I think in FY '16 our focus was a lot on Europe, a few industry groups. We're still looking at a variety of items in different industry sectors a few things in some geographies, a few things that would be added into our various product area. But as mentioned before, I think FY '16 it was just the timing we ended up doing a lot of acquisitions and more likely than not I think we're expecting fiscal 2017, you will see a more normal amount of hiring coming from opportunistic hires instead of acquisition hires. But what occurs in the marketplace and what's available and where compensations go, you can't dictate timing all the time. So we continue to look, but there's nothing that we think is eminent at least in the next couple of months.

And then maybe last for me, it sounds like financing hasn't been a big issue maybe it's been a little bit softer, but still had availability when needed. Curious in the financial sponsor community that you work with, they are more interested in selling assets right now. Obviously the markets have generally recovered or are they looking opportunistically to buy I'm just curious where the appetite is more on the buying or selling side right now.

We see it both sides. They are still selling assets that are in the various portfolio. They are looking to buy and the financing at least for the midmarket sized transactions which are there maybe they will continue to look at different sources of capital that may not have existed several years ago, but there is capital available in today's business environment to close transactions. So we're seeing it pretty balance both on the buy side and sell side in terms of financial sponsor activity.

And next we will go to Doug Doucette with KBW.

Just couple of questions, first I guess starting with FAS. Is there any way you guys can give us a sense of what in there is sort of transactional I guess versus what's more valuation recurring?

So we probably break our business down into four core quarters. There is a piece that is definitely transaction oriented, generally fairness and solvency opinions and other people's transactions, that goes up and down with the market place. There's a component of our business which is effectively portfolio valuations. Where we're doing very much quarterly or annual annuity-based work for hedge funds and large financial institutions that need certain securities valued and doesn't have that much to do with where the markets are going. Another part of our business that is kind of tax and financial due diligence related. So it's doing work both in connections with transactions as well as just companies that are internally reorganizing and need certain business valuations and certain companies do this all the time so there is a component of ongoing annuity to it. And then there is a piece that litigation or dispute resolution oriented which is very much one off type of matters. So I might say that somewhere at any given time a third plus of our business is definitely a client year after year, but when we really look at the hundreds and hundreds of clients we have, we tend to find that over the next couple years we've always do work for them. So it is a repeat business in terms of clients even if you don't think of it as a particular task that occurs quarter by quarter and year by year.

And then just one last one for me, is there any way you guys can provide any estimation on what the average close rate on the corporate finance transactions that you do are? I am just trying to get a sense of what a delay timing might mean for that.

It's not something we disclose and there's a difference, all things being equal sell side has higher close rate than by side at the moment. U.S. transactions close at a better rate than European or Asian transactions. I don't think we see a significant difference between financial sponsor driven transactions or strategic driven transactions. We don't tend to get delays due to antitrust matters that in some of the larger mega size deals and I think it's just when the markets get a little more volatile, buyers, sellers, lawyers, lenders everybody just takes a little longer to keep looking at different elements of the transaction eventually they are still getting closed but they are just taking a longer period and so it's not really something we quote on what the close rate is because it really varies by some of the factors I’ve described.

And as a reminder, the vast majority of our transactions sign and close on the same day as opposed to signing and announcing one quarter and closing the next quarter. So when we have market dislocation in January and February it has an immediate impact on our quarterly business versus having an impact on future quarters because transactions again are going to be affected prior to closing and we close our transactions often times in the same quarter.

[Operator Instructions]. Our next question will come from Jeff Harte with Sandler O'Neill.

A couple for me, restructuring, can you help us to get a little better feel of kind of where restructuring revenues could go. I'm kind of thinking past cycles relative to a good -- what seems like a good $72 million number this quarter, but also kind of maybe in the context that commodities centric stress as opposed to kind of more widespread stressed and we think kind of corporate defaults are heading to normal as opposed to spiking to prior cyclical highs.

I think the best way we can still describe it as, our fiscal year restructuring revenues peaked at almost double where they are now during the great recession. Unclear if we will have that same kind of a downturn again, but having said that, the total amount of indebtedness that's in the marketplace not just in the U.S. but now globally is a lot greater today than it was 5 years or 10 years ago. The total potential in some regards is higher. And we also know that we've done about $200 million plus in annual restructuring revenues for the last couple of years when default rates have been very low, 1%, 2%, 3% is where it's been over the last couple of years and we know that's not even the market norm. So we as well as I think what our peers perceive that there is more upside and where the restructuring marketplace can go led by oil and gas and some other areas. I would caution you as we said, our fourth quarter fiscal restructuring revenues are usually better than any other quarter, so I don't think you can necessarily take a particular quarter and then start annualizing or growing from there. But I would note that we continue to see an increased rate of new business and so as the new business comes in, we're expecting obviously that that should produce greater revenues over the next couple of years.

Okay. And as we think of Leonardo acquisition kind of hitting the run rate, how should we think of the revenue contribution of 2017? Would it be reasonable to apply and Houlihan Lokey like revenue per MD to the 12 MDs that came along with that acquisition?

I would look at probably at least two or three factors. One is, it's even in an acquisition we did it does take some time before they will get to a full ramp size in terms of their deal flow weaving into the fabric of the firm, close rates etcetera. So it's not something instantaneous. The second thing is, at least at the moment, I think on average the European marketplace just is not a strong as the U.S., so depending upon where the European economy and the marketplace goes, there's even more upside from a lower base or it could take a little longer before it matches what we see in the U.S. So at the moment, I don't think you can necessarily apply the same revenue per MD out in Europe at least just yet, a lot has to do with just kind of the tone of the marketplace in Europe that is not as strong as the U.S. at this moment.

Our next question will come from Vincent Hung with Autonomous.

Quick one for me, how many restructuring mandates are you working on today?

Sorry Vincent, I didn’t hear the question.

How many restructuring mandates are you working on today?

We don't quote the number of restructuring mandates. What I mentioned on this call as well as a quarter ago is our pace appears to be in terms of the business coming in, it's up about 25% year over year. So it's larger than it was a year ago and larger than two years ago. It's not something that we quote out exactly how many projects at any given time we're working on.

And at this time we have no further questions in the queue. I would like to turn the conference back over to our speakers for any additional or closing remarks.

Thank you everybody for listening to our call and we look forward to speaking with you again at the end of our first fiscal quarter of 2017. Goodbye.

That does conclude our conference for today. Thank you for your participation.