Please see our investor webpage for a slide presentation which outlines Sotheby s first quarter financial results.

Transcription

1 Sotheby s First Quarter 2015 Earnings Call Outline 11 May 2015 Safe harbor: GAAP refers to Generally Accepted Accounting Principles in the United States of America. In this earnings call, financial measures are presented in accordance with GAAP and also on an adjusted non-gaap basis. An explanation of the non-gaap financial measures used in this earnings call, as well as reconciliation to the comparable GAAP amounts is provided as an appendix to the earnings release, which can be found on the Investor Relations section of the Company s website. Also, during the course of this call, the Company may make projections or other forwardlooking statements regarding future events or the future financial performance of the Company. We wish to caution you that such projections and statements are only predictions and involve risks and uncertainties, resulting in the possibility that the actual events or performance will differ materially from such predictions. We refer you to the documents the Company files periodically with the Securities and Exchange Commission, specifically the Company s most recently filed Form 10-Q and 10-K. These documents identify important factors that could cause the actual results to differ materially from those contained in the projections or forward-looking statements. Please see our investor webpage for a slide presentation which outlines Sotheby s first quarter financial results. SPEAKER: Tad Smith, President and CEO Good morning. Thank you for joining us this morning, and for your interest in Sotheby s. I am honored to lead our iconic global institution and very pleased to commence my first earnings call. Before I begin, I would like to share my appreciation for my predecessor Bill Ruprecht and his exceptional service to our company. The breadth, depth, and quality of the relationships and organization Bill has built over the years are extremely impressive and provide us with a strong foundation for future growth. His leadership and efforts have certainly made my task easier and I am grateful to him. I also want to take a moment to acknowledge and thank my new colleagues at Sotheby s for welcoming me so warmly into the organization. I have been incredibly impressed with the level of talent within the company and I am energized by the opportunity to work with such a dedicated and passionate group of people On a related topic, I am very pleased to congratulate Jonathan Olsoff, whom we just announced this morning will be taking on the role of Worldwide General Counsel and Corporate Secretary, following a stellar 20-year career at Sotheby s as General Counsel in the Americas, Assistant Corporate Secretary and leading the Company s global litigation team. My plan for this call is to give an update on what is underway right now in the second quarter and then give some of my first impressions on the company, its strategy, and our future before turning the call to Patrick to review our first quarter financial results. So with that, we are currently in the midst of an exciting Spring sales season. 1

2 Last week, we held our May series of Impressionist and Modern Art here in New York which yielded $420.4 million in total sales. Highlighting the sales was a beautiful Vincent van Gogh that sold for $66.3 million. The sales also featured works from important American collections: the estate of Chicago businessman and philanthropist Jerome H. Stone and the collection of Hollywood legends Samuel Goldwyn, Sr. and Sam Goldwyn, Jr., including Pablo Picasso s portrait of his love Françoise Gilot, that sold for $29.9 million. Other highlights from the Evening sale included five works by Monet, totaling $115.4 million. His 1905 Nymphéas, achieved a price of $54 million, the second highest of the evening. Sotheby s four day sales series in Hong Kong last month brought a combined total of $346 million, well above the pre-sale low estimate of $303 million with over 2,100 lots sold. Also last month, we had our Magnificent Jewels sale in New York which totaled $65 million, a record for a jewelry sale at Sotheby s New York. Ten jewels sold for $1 million or more, including four sold to online bidders. Highlighting the sale was the extraordinary carat Perfect Diamond in a classic Emerald cut, which sold for $22.1 million or over $220,000 per carat. Including this result, only six perfect diamonds weighing over 100 carats have sold at auction in the last 25 years. Sotheby s sold five of these spectacular diamonds, including sales in Geneva, Hong Kong, and now New York. Following our market-leading sales of Old Master Paintings in January, Sotheby s New York sale of the Weldon Collection, a remarkable assemblage of Dutch and Flemish paintings amassed by the late Henry and June Jimmy Weldon over a period of several decades, achieved a total of $22.2 million last month. Tomorrow night in New York, we begin our Contemporary Art sales series, which carries a total pre-sale low estimate of $380 million. Highlighting the sales is Roy Lichtenstein s 1962 comic book masterpiece The Ring (Engagement) which comes from the collection of Chicago businessman and philanthropist Stefan T. Edlis who purchased the work from Sotheby s in The painting has a pre-sale estimate in the region of $50 million and is one of the most significant works by the artist to appear at auction. Also included is Mark Rothko s Untitled (Yellow and Blue) which stands at over eight feet tall and was once in the Collection of Mr. and Mrs. Paul Mellon and carries a presale estimate of $40-60 million. Also on offer tomorrow, but in Geneva, is Sotheby s Magnificent Jewels and Noble Jewels sale which has a pre-sale estimate in excess of $88 million. Leading the sale is The Historic Pink Diamond, an extremely rare and highly important Fancy Vivid Pink diamond of 8.72 carats, 2

3 alongside The Sunrise Ruby, a superb and extremely rare Burmese ruby weighing carats and with outstanding depth of color. I Like It Like This, presented by our private sales gallery S 2, in collaboration with Grammy winning hip hop icon Drake is a celebration of 70 years of influential Contemporary black American artists. S 2 London is delighted to present Henry Hudson s most recent and ambitious body of work in his largest solo exhibition to date. The series is a modern day interpretation of William Hogarth s 18 th century narrative A Rake s Progress, and includes large scale plasticine paintings, original drawings and smaller studies, each depicting the various stages of the protagonist s life and decline. As you can see, we have a great deal underway at Sotheby s in the second quarter. Let me turn now to my first impressions of the business I have only been here for 41 days and they have been spent listening to our talented Sotheby's staff, our clients, our investors, and key business partners in Hong Kong, London, Paris, San Francisco, Los Angeles, and New York. I am encouraged that my priorities have not materially changed from the four that I announced on March 16 th, when I was appointed. As a reminder, the four are as follows: First, Sotheby's needs a vibrant and compelling growth strategy. Second, Sotheby's needs to embrace technology more effectively both internally and through client-facing products. Third, Sotheby's must attract, develop, and retain the talent within the organization as well as the processes to succeed. Fourth, Sotheby's needs to build on the productive path that Patrick and prior CEO Bill Ruprecht began over a year ago to allocate capital more effectively and maximize shareholder value sustainably over time. The first priority implementing a compelling growth strategy for Sotheby's has numerous elements. First, I very much like the markets in which Sotheby s does business. According to one recent report I read, there were over 170,000 people around the world with a net worth of more than $30MM in 2014, with a total wealth estimated of nearly $21 trillion. The same report predicted that the global population of ultra-high net worth individuals would grow 34% through Serving these discerning customers around the world begins with our brand, so our strategy must first define an architecture for our company s brand as well as set and maintain standards of elegance and superb quality across all we do. The growth strategy will also address market share gaps within various specialist categories in ways that are appropriate for creating shareholder value. 3

4 The strategy will broaden and deepen client relationships through fact-based research, better internal client retention, better matching of buyers to consignments globally, improving our consignment hedging strategies, and ensuring that all of our marketing and events are consistent with our improved brand standards. Our strategy must unleash the talent within the organization to enhance our sales force effectiveness and productivity, align our incentives internally, clarify accountabilities and responsibilities, make our sales approaches more transparent, and streamline and bring innovation to our deal making processes. Our growth strategy should further find ways to build on our historical successes in private treaty sales through internal improvements and external alliances. Last year, we did $625 million in private sales, which seems a small amount in a $35 billion estimated market. The middle market of auctioned fine art continues to be a large area from which we generate substantial revenue and profits, but where we believe the opportunity to grow remains very significant for us. Sotheby s financial services is another area where we can expand and grow profitably through improved focus and attention. Our global growth strategy must seek opportunities to improve our position in attractive geographic markets and determine the right mixture of talent, capital and partnerships for success. Our S2 gallery business has shown early successes as a lead generation vehicle, and we must follow that up with a clear picture of how to expand the business with an eye on value creation and strategic positioning. With respect to strategic adjacencies, our growth strategy must address how to achieve minimum efficient scale and sustainable competitive position in the right part of the value chain for areas such as jewelry, wine, cars, coins, memorabilia, collectibles, and appraisals. We will be reviewing these areas beginning over the summer. The second priority will be to embrace technology more effectively both internally and through client-facing products. Over the past year we have been cultivating relationships with many prospective partners in the technology space. One of these -- ebay -- has already yielded an important partnership for us. Others will undoubtedly follow and fill out the range of our technology solutions for clients, as well as strategic positions on which our shareholders can bank. Part of this effort involves auditing our internal systems and filling in gaps to enhance our market knowledge, client understanding, and product information. New talent with depth of experience in technology will help us drive our digital future. 4

5 Finally, our current digital products will yield themselves to more experimentation in business models, innovation in the customer experience, and enhanced usability, while relentlessly adhering to brand excellence. The third priority is a necessary condition for success and that is to build the organization and processes that can sustain progress on the priorities themselves. Sotheby's as an organization requires very talented people with excellent values, a focus on client service, and clear goals and incentives aligned with the shareholders. Adding to our excellent talent base -- especially in areas where we have gaps -- is a top priority for me. Improving our people processes, performance reviews, and accountabilities will also yield performance results. Our organization can be simplified and flattened to bring top management very close to the needs and experiences of our clients at the same time we broaden the organization's scope and talent to fill in soft patches in areas of opportunity around the world. A compelling corporate growth strategy that embraces innovation and has the talent, organization and procedures to win must have capital allocated well in order to succeed. And so rigor in capital allocation is my fourth priority. Real estate is one example. Our real estate decisions in New York and in London depend crucially on our growth strategy. Our facilities must reflect our enhanced brand standards and the type of client experience we insist upon conveying. They must be elegant and welcoming, and exude superb quality in every aspect of the client experience. Further, our facilities must be designed for our 21 st century workforce. And, naturally, our real estate must be financed in a way that is prudent for our shareholders. Properly conceived, our real estate should be a cornerstone of our strategy just as it was when our esteemed former chairman Alfred Taubman set in motion the real estate position we have to this day. Real estate decisions -- separate and apart from mortgage decisions -- very much remain on the table and will be part of our strategic thinking. Other aspects of our balance sheet such as the $700 million in loan assets from Sotheby's Financial Services require that your management team constantly seek higher net interest margin and fees while managing risks to grow this small but promising business. Our target 15% return on equity for our shareholders depends on innovation in funding these loans, and our management team is committed to this. From time to time, Sotheby s also makes principal investments in art, jewelry and the like. Some of these are very short term such as when we make guarantees to support the 5

6 consignments of our agency business. Others are opportunities when we make investments alone or with partners that we believe, over time, will produce risk adjusted capital appreciation that exceeds our company's weighted average cost of capital. Perhaps there is an opportunity to expand these activities with partners, but your management is committed to pursuing them in such a way as to create enduring shareholder value. Of course, there are also guarantees that we have made on consignments that do not perform in auctions the way we would have hoped, with the result being that our company finds the lots on our balance sheet. We will inevitably make mistakes from time to time. Nevertheless we are committed to making every effort to hedge these risks through partners to ensure that our shareholders money is well deployed to generate a return. We will not roll dice in the auction room with shareholders money. At the same time, guarantees on high profile trophy lots can be important marketing investments and potentially generate positive momentum and product scope within certain art categories. Strategy, opportunity, judgment, and sensible risk management will guide our use of these guarantees. Separately, having cash pile up on the balance sheet is hard to justify unless needed for strategic investments, working capital, emergency liquidity reserves, or capital investments on things such as technology upgrades. The same is true of unused debt capacity which, in light of our high cost of equity, should also be viewed as expensive to leave untapped. In February, our board placed our capital return program on hold pending the arrival of the CEO and, now that I am here, the board is comfortable letting investors know that the company may repurchase shares at any time under the remaining $125 million share repurchase authorization. However and this is crucial management and the board are early in reviewing the company s many growth options and this review will play out over a number of months. Any share repurchases under this existing authorization will be secondary to the requirements of our company s longer term growth needs and take into account market conditions. Those are the four priorities announced on March 16 th leavened with 41 days of listening and asking questions. We will continue to refine our thinking even as we get on about implementing some of the more obvious needed changes. With that, I ll turn the call over to my colleague Patrick. 6

7 SPEAKER: Patrick McClymont, CFO Overall Results Thank you, Tad. Much more often than not, the first quarter is a loss quarter for Sotheby s, but thanks to the buyer s premium increase instituted early this year and some excellent deal execution, along with continued attention to costs, this quarter delivered a nice profit. Turning to the detailed financial information on slide 3 of the presentation deck, and beginning with our overall results, with a healthy global art market, increased sales worldwide, and improved commission margins, we achieved a 127% increase in Adjusted Operating Income* in the first quarter of First quarter 2015 Adjusted Net Income* is $7.4 million and Adjusted Diluted Earnings per Share* is $0.11, compared to Adjusted Net Loss* of ($3.0) million, and Adjusted Loss per Share* of ($0.04), a year ago. The Adjusted Operating and Net Income* figures exclude restructuring and special charges as well as CEO separation and transition costs. Now let s look at each of our main operating segments. Agency Segment Starting with the Agency segment on slide 4, we continue to see growing revenues on strong auction sales. In the first quarter, Agency gross profit increased $3.3 million, or 3%, to $112.8 million. An $8.3 million, or 8%, increase in auction commission revenues resulted from an improvement in auction commission margins and an increase in Net Auction Sales over the quarter. Excluding the impact of foreign currency exchange rate changes, auction commission revenues increased $15.2 million, or 15%, over the prior year quarter. Auction commission margin increased from 14.3% to 15% in the quarter primarily due to the increase in the buyer s premium rate structure effective as of the 1 st of February and a lower level of buyer s premium shared with consignors. This is partially offset by sales mix, as a higher proportion of Net Auction Sales in the first quarter occurred in the higher price bands of Sotheby s buyer s premium rate structure than in the prior period. Offsetting the gains in auction commission revenues, private sale commissions decreased $1.6 million, or 12% in the first quarter of 2015 as compared to the prior year due to a lower volume of high-value transactions completed when compared to the first quarter of The unfavorable variance in Sotheby's auction guarantee and inventory activities when compared to the prior period is primarily due to a higher level of inventory writedowns and a lower level of gains associated with guaranteed property offered at auction. 7

8 Agency direct costs increased $1.4 million, or 13%, in the quarter, primarily due to a higher level of costs incurred to promote and conduct Sotheby s Contemporary Art sales in London, including the single-owner Bear Witness sale. Principal Segment Turning to slide 5, you ll see a decrease in Principal revenues and cost of Principal revenues in the first quarter. In the second quarter of 2014, we had sales of property acquired from a potential consignor in lieu of the Agency segment providing an auction guarantee. There was no comparable event in the current period. Finance Segment Moving to slide 6, we are pleased with the growth of Sotheby s Financial Services and our ongoing process of debt funding this business. The Finance Segment average loan portfolio balance for the first quarter of 2015 was $677.6 million, a 41% increase from the prior period. Finance segment revenues increased $7.0 million, or 78%, in the quarter, reflecting the growth of the portfolio. Finance segment gross profit, which is net of borrowing costs, increased $4.3 million, or 53%, in the quarter. Finance segment results in the current period were also favorably impacted by a $1.3 million collateral withdrawal fee earned in the period. As previously announced, we have established a separate capital structure for the Finance segment that provides for the debt funding of loans through a dedicated revolving credit facility. Debt funding the loan portfolio reduces the Finance segment s cost of capital and enhances returns. Beginning this quarter, we are disclosing the Finance Segment s return-on-equity, which is 10.9% for the twelve months ending March 31, As we define it, the Finance Segment s LTM return-on-equity is its net income over the last twelve months, excluding allocated corporate overhead costs, in relation to the average equity in our loan portfolio during that period. Salaries and Related Costs Next on slide 7, salaries and related costs decreased $2.8 million, or 4%, in the first quarter as compared to the first quarter a year ago. Changes in foreign currency exchange rates reduced salaries and related costs by $3.3 million when compared to the prior period. Excluding this impact, salaries and related costs increased $0.5 million, or 1%, during the current period. 8

9 For the first quarter of 2015, full-time salaries decreased $1.1 million, or 3%, principally due to changes in foreign currency exchange rates ($1.9 million) and savings resulting from the restructuring plan enacted in July of 2014, partially offset by base salary increases and headcount reinvestments. Excluding the impact of foreign currency exchange rate changes, full-time salaries increased $0.8 million (2%) during the current period. Incentive compensation expense decreased $1.2 million, or 40%, due to lower private sale incentive costs resulting from a decline in private sale revenues, as well as incentive compensation costs incurred in the prior year with respect to a higher level of other selling activities. Employee benefit costs increased $2.2 million, or 33%, in the first quarter primarily due to a $0.9 million increase in non-restructuring related severance costs as well as higher pension costs in the U.K and U.S. For the year ending December 31, 2015, the net cost associated with the U.K. defined benefit plan is expected to increase $2.3 million primarily due to a decrease in the assumption for the weighted average expected long-term rate of return on plan assets (from 6.10% to 5.4%) and an increase in the required amortization of prior year actuarial losses. General and Administrative Expenses Turning to slide 8, general and administrative expenses improved $2.6 million, or 7%, in the first quarter of Changes in foreign currency exchange rates reduced G&A costs by $1.5 million when compared to the prior period. Excluding this impact, general and administrative expenses decreased $1.1 million, or 3%, during the current period. Professional fees improved $2.0 million, or 15%, in the quarter, largely attributable to lower legal and compliance expense ($0.8 million decrease) and lower operations expenses ($0.6 million decrease), primarily due to negotiated rate reductions related to certain outsourced functions such as catalogue production and the client contact management center as well as reduced usage of service providers in other areas. Income Tax Expense For the first quarter, Sotheby s effective income tax rate is approximately 50% compared to an effective income tax rate of 6% for the prior period. The income tax rate for the current quarter is higher than the 2015 estimated annual effective income tax rate of 36% due to a discrete tax expense of $1 million related to the expected results of income tax audits. 9

10 In the prior period, income tax expense of $0.3 million was recorded on a pretax loss of ($5.7) million, primarily as a result of a $3.1 million income tax charge recorded in the prior year quarter related to the enactment of new legislation in New York State Expense Estimates As Tad mentioned earlier on this call, we have initiated a broad strategic review of Sotheby s business. As a result, management is reevaluating its expense projections for 2015 and is withdrawing expense guidance at this time. Summer London Contemporary Calendar Shift On a final note, we just want to remind you that our Summer London Contemporary sales are being held on July 1 st and 2 nd instead of at the end of June as they have been typically. Therefore, those will be third quarter events this year, instead of second quarter events. * Non GAAP financial measure. See Appendix to earnings release for details. 10