CBRE Group, Inc. (CBRE) Earnings Call Transcript & Summary

Well, thank you, everyone, for joining Morgan Stanley's CRE and Financials Conference. I'm sure you've had exciting couple of meetings so far, and we're set for the rest of the day and tomorrow. My name is Vikram Malhotra. I'm one of the REIT analysts at Morgan Stanley. And very excited today to have Leah Stearns join us, who is the Chief Financial Officer of CBRE. As many of you know, CBRE is a global brokerage firm. Before I get into introducing Leah and some questions, let me just quickly read some disclosures. So please note that this webcast is for Morgan Stanley's clients and appropriate Morgan Stanley employees only. The webcast is not meant for any members of the press. If you are a member of the press, please disconnect and reach out separately. For important disclosures, please see the Morgan Stanley Research disclosure website. And if you have any questions, please reach out to your Morgan Stanley sales representative. So thank you again for joining. And as I mentioned, we're very excited to have CBRE CFO, Leah Stearns, join. Leah is -- has been the CFO for now, correct me if I'm wrong, over a year and holds various responsibilities across the finance department, including tax, treasury, the balance sheet. She's also a member of CBRE Strategic Programs Office, investment accounting and internal audit. Leah joined CBRE in May of 2019 from American Tower Corporation. Many of you covering the REIT space know the company well. And there, she served as Senior VP and Chief Financial Officer of their U.S. division. Thank you again, Leah, very much for joining. Hope everything is well and looking forward to a good conference.

Thank you, Vikram, for including us in your conference and looking forward to answering your questions about CBRE and the broader environment.

Great. So just to maybe kick it off, some of our investors might be less familiar with CBRE. So maybe you could give us a quick overview of the business.

Sure, absolutely. CBRE is the largest commercial real estate service provider in the world. We have market-leading positions across leasing, property sales, outsourcing, valuation, property management as well as U.S. commercial property development. The size, scale and breadth of our business is pretty unrivaled. We're across 100 countries globally. And the reason why we've amassed the platform today is because of the significant synergy that we are able to generate across the platforms that we currently operate. We believe these synergies are created by our internal teams leveraging our best practices and providing world-class outcomes for our clients. This includes providing services to occupiers of real estate, investors of real estate and ensuring that we're bringing them the best world-class service as possible. We do that through 3 segments of our business. First is our advisory business. That's where our sales and leasing, transactional advisory activity occurs. We also provide property management services, valuations and some project management within that part of our business. We have a Global Workplace Solutions segment. That segment predominantly serves the largest global occupiers of real estate and helps them navigate the facility management, project management and other leasing needs of those occupiers on a more long-term contractual basis. And then finally, we have our Real Estate Investors segment. That segment invests CBRE's capital into core properties, primarily either through co-investments alongside funds within our global investors business through Hana, our unique coworking solution; Trammell Crow Company, which is our U.S. property development, and they recently acquired a multifamily property developer in the U.K. called Telford Homes. So over the last decade, we've been able to drive significant growth across our global platform, really as a result of 3 key secular growth trends. And that's really been a result of the overall rising institutional ownership of commercial real estate. And that has driven -- because institutional investors in these properties are not -- they're not operators of real estate assets, they're pure investors, they're more passive. And therefore, they're looking for world-class service providers to support their portfolio needs. And so we've been able to provide services across all of our segments for those investor clients. In addition, occupiers of real estate are looking to outsource their needs. So the largest Fortune 500 companies, who ultimately recognize that real estate management is not their core business look to bring down costs and optimize their real estate portfolio by leveraging the services that CBRE can provide. And then finally, if you think about the overall integrated approach that our portfolio of businesses today present, there's been tremendous consolidation across commercial real estate services and that has certainly benefited us from a competitive position as we've been able to amass a global portfolio and platform that ultimately allows us to serve our clients more efficiently.

That makes sense. Thanks for the overview. And before I get into some specific questions, if any of the -- and if there are clients listening in and have specific questions they'd like to ask on CBRE or the broader industry, feel free to enter your questions via the webcast. And if for some reason, you can't type your question in, you can also e-mail me your question. It's my first name.last [email protected].

Sorry, you alluded to sort of some of the broader 3 themes or the 3 drivers that have been factors driving and causing -- and causing CBRE to gain market share. Maybe kind of outline in a bit more detail sort of the major drivers that have been supporting financial growth? And are these still intact given what we've experienced with the pandemic?

Sure. I would say, yes, they're still intact. I'll start first with institutional ownership of real estate has been increasing, and that has driven a broader need for world-class operational execution across those portfolios of real estate. Certainly, passive real estate investors are not looking to build up their own operational platforms. And so the use of commercial real estate service providers to help facilitate the highest and best use of those assets over the course of their investment thesis in life is something that we believe will continue to be a role that we can play a meaningful part of. In fact, we look at the overall change around commercial real estate services and just the use of commercial real estate and how certain events have catalyzed the change of use of certain asset classes and in real estate. CBRE has been a key player in helping to advise our clients as to how that will impact their portfolios, and they are coming to us more and more today in the current uncertain environment to help them think about that. So I think certainly, that institutional asset allocation is something that will continue to persist even in a COVID world. With respect to outsourcing, that is really ultimately a play that we've seen come as a result of companies wanting to optimize their spend around their core real estate portfolio. That's certainly something in a challenging macro environment, we believe, companies will continue to look to us to help further extend their efficiencies around the real estate platforms. In fact, that's a business market that we estimate is about $130 billion opportunity, and we believe it's growing at a high single-digit rate. So that portion of our business, our Global Workplace Solutions segment, we believe, is uniquely positioned to be countercyclical in this environment somewhat defensive and actually grow stronger in an environment where our customers may be constrained and looking for cost savings. We believe continuing to grow that business double-digit long term through cycles is something that is appropriate. And then finally, the consolidation of industry leaders. That's something that -- again, because of the 2 other tailwinds that I just outlined because that's happening, it's driving consolidation. We've really led a lot of those transactions in the market and that really has helped us secure market share leadership across key areas of our business, particularly in sales and leasing in core markets, and we'll continue to look to make investments to ensure that we continue to have top market share positions to further extend our leadership position in the future.

That's great. Yes. I agree with many of the drivers. It's some of the things we've been thinking about as well in our coverage of not only brokers but the broader real estate space. Obviously, we're going through a recession currently driven by COVID. And I guess some would question or want to understand better the cyclicality of the business. So maybe describe for us how CBRE has changed since the last recession? And how do you expect the different segments of the business to hold up this cycle relative to last cycle?

Absolutely. We are a very different business today than we were in 2007, heading into the financial crisis. So if you look at our business from a diversification perspective, at that point in time, we had a significant amount of transactional business that was led through sales, leasing and commercial property development. Over the last decade, we have really expanded our business to include more long-term and recurring revenue streams, primarily within our Global Workplace Solutions segment, where we provide those outsourcing services to large global occupiers. That has really positioned us to be more predictable and have more predictability to our cash flow stream through cycles. In addition, we have really focused our development business within TCC and having scale across core markets. We're focused on core products. And we're heavily indexed to industrial, which we think is an area of strength in real estate that we'll continue to see opportunities in as well as for properties in our development pipeline that are, for example, in-office assets. Those are primarily pre-leased at very high levels. So we feel really good about the pipeline that we have within our development business. And then finally, if we think about how, overall, our business responded during the GFC, the transactional components, we did have a significant decline as it relates to our leasing and capital markets businesses. And so we do believe those will see some material impact from COVID. But because we have such a stronger foundation and diversification across our business, we believe it will be more muted at this point. Another key aspect is really our balance sheet and how that's very different from a relative perspective to where we were heading into the GFC. Today, we have 0.6 turns of leverage. We have over $3 billion of liquidity and no material maturities until 2023. And so for us, we believe we have a very solid foundation to continue to operate through a very uncertain environment as it relates to our balance sheet. That's something that we believe investors are placing a premium on liquidity, and we're doing the same. And then ultimately, I think just overall, the commercial real estate industry is better positioned. There's certainly supply that is being added at a measured pace. We believe underwriting will continue to be disciplined. We believe heading into this, the market was extremely strong and the fundamentals, whether it's around how investors were underwriting assets or how capital is being allocated to real estate, there was a solid foundation to how that was happening. And so we don't believe that there were structural issues to commercial real estate heading into this crisis. And so that provides further support, I think, for the industry as we come out of this.

That makes sense. I want to kind of weave in a question I've just got before we move on to some specific segments. You kind of alluded to this, but CBRE has obviously grown in multiple markets, much more international than they were maybe 10, 15 years ago. Can you maybe -- leaving the U.S. aside, can you talk about maybe a few markets that you find really attractive in terms of the setup from here on?

Sure. So we -- if you look at our business from an advisory perspective, about 2/3 comes from the U.S. and the U.K. If we look at the U.K. as a market outside the U.S., we do believe there is, and will continue to be, opportunities for us from a revenue growth perspective in that market long term. In fact, we just invested a significant amount of capital in the U.K. as it relates to our Telford Homes acquisition. And so I think that we still have a very strong conviction behind that investment. It was made on the premise that we could take our industry-leading development business into a market where there were structural tailwinds present and particularly around multifamily in London, in particular. There are a significant amount of properties where there is not professionally managed build-for-rent properties available and the market itself is highly fragmented. And there is a significant amount of demand for professionally managed properties in the multifamily space, particularly given the challenge around affordability for housing in London. And so we think that Telford Homes is uniquely positioned to convert its build-to-sale or build-for-sale portfolio and product to build-to-rent. And we think that's a very unique asset class that we can then -- we then support both from our advisory platform as well as our REI platform to really power and energize that business going forward. So the U.K. is a market as it relates to our REI segment that we are quite keen to continue to invest in. If I look out across other parts of the world, we certainly have a large presence as it relates to our sales and capital markets activity across APAC. I would say, certainly continue to believe that, that will be an important part of our business. But again, we won't see a significant amount of impact because those markets, on a stand-alone basis, each individually don't make up really more than 1% of our overall performance. But we do continue to believe that the largest markets in the world, from a property perspective, will continue to be the ones that provide the highest opportunity or greatest opportunity for CBRE in the future.

That makes sense. Office is a key segment for CBRE. I've just received a couple of questions on the segment. Maybe you can talk us where we are in the cycle from a leasing and fundamental perspective? What have you seen from a transaction standpoint? And if there's even any anecdotal color that you can give us for May and June, that will be really helpful.

Sure. It's a little too early for May and June, but I can tell you, as it relates to April, we certainly did see softening around leasing and sales. We were down about 40% from prior year levels. And that was really coming on the heels of a significant slowdown that we began to see happen within March. And that was beyond office. That was really across our U.S. leasing and sales platform. So as it relates to office, those are certainly sensitive to employment numbers. And as we're seeing employment -- unemployment numbers increase, we'll be watching that very closely. Looking back to the GFC, we had leasing down by about 30%, and I believe, capital market for sales were down about over 70%. So leasing tends to be less sensitive because you have a recurring amount of leases that come up for renewal over the 5- to 10-year period of time. And so you have a baseline of leases that you can expect will be part of your activity level for any given year just because of that renewal tail. But on the sales side, that tends to be more sensitive, given the fact that transactions can pause and you may see capital moving to the sidelines until things are more clear, particularly as it relates to underwriting assumptions. So we may see 5%, 10%, 15% of leases come up in any given year based on the duration that the leases were under. And so that certainly helps cushion that part of our transactional business on the leasing side.

That makes sense. And before I turn to kind of another topic that I've already received a bunch of questions on, just on the office side and see if you could comment on other segments of real estate. What's your sense of the bid-ask in terms of capital values and any thoughts you can provide around cap rates? And I probably focus more on U.S. and maybe the coastal markets like New York and San Francisco.

So I think it's a bit too early. We're not seeing a tremendous amount of activity as it relates to -- on the capital markets side. As I just said, you tend to see a pause. We do have a tail of revenue that does come through because of transactions that were in the pipeline that were already in place. So I think it's still too early for us to comment specifically on the bid-ask spread for cap rates. We are seeing activity. I think it bottomed out in terms of volume in late April, early May. We are seeing investors come back, talk about transactions. We're seeing some transactions happen, but I wouldn't say it's sufficient volume for me to opine on specific -- anything more than -- you may have a specific asset class in a specific geography that the investor knew they were going to move forward with and COVID didn't really change their thesis. On office, there has not been a significant amount of activity. So I wouldn't say it with confidence that I can answer that question with a clear range.

Fair enough. Yes, I recognize it's early, but obviously, everyone wants to understand how much your property value is going to adjust, but I recognize it's early. So this is a question I'm sure you've been discussing internally, externally. As I mentioned, I already received a bunch of question on this. But it's -- the prospects or the propensity to work from home and how that may impact office fundamentals, but maybe even the brokerage business. So I recognize it's early. But maybe can you talk about how you see the potential from kind of more permanent remote working? And at the same time, this potential need or desire for employers to maybe have more square footage, less density as they go forward. So give us your sense of how you see this trend evolving and kind of what the puts and takes are as you view it today?

Sure. I think we're working remotely out of the necessity, not out of the desire. And so there are certainly people who want to have the flexibility, and we were seeing the trend to that flexibility happen ahead of COVID, but this has accelerated that trend. I do think that companies look to their offices as a place to really build culture and to build collaboration. And I think that's one thing that's incredibly hard to replicate if you can't have that serendipitous interaction in the coffee room, seeing someone who you've worked closely with on past projects and recognizing that there's an opportunity for you to collaborate in the future. Those are very hard to do in a Zoom-enabled world. Maybe 5, 10, 15 years from now, we'll have an app for that. But as I think about it today, I think companies are really trying to grapple with how do I onboard new employees? How do I maintain a level of culture in a work-from-home environment? I think we're doing it today out of necessity, but I think there is still a very strong desire for global companies and occupiers of real estate to have a physical presence that they can bring their employees back to. A lot of that is based -- and they're thinking about how they're going to do this in the most -- in the safest way possible for their employees. They recognize that safety is key and that employees will come back when they feel safe. And so it's really about the virus and how contained it is and how companies can instill a sense of safety for their employees when they ask them to come back. And so we're spending a tremendous amount of time on this and advising clients around how to do and execute their reoccupation strategy for the workplace. I think that companies will take a variety of solutions, and it will all be part of the toolbox. So you'll see some companies retrofit their spaces where they may have previously looked to densify in terms of square footage per employee to a level that is not safe today in a COVID environment. We would likely see them bring teams back in shifts and have people spaced out more in existing floor plate. There's a handful of work that needs to happen as it relates to whether it's reinstalling touchless entry, putting certain sensors in place and -- filtering in place from an HVAC perspective. There's a whole host of things that companies need to think about as they try to bring their employees back. And again, the key is safety, I think, from an employee perspective. I think you'll also see some companies think about their real estate strategy as it relates to location and proximity, so -- both to urban center but also employees' homes. So that they can reduce the amount of commute time or even reliance on major metropolitan transportation systems that may have led or helped increase the spread of COVID, at least in the short term. And what that makes me believe is that companies will continue to have a core presence as it relates to their real estate in the physical sense. They'll look to have flexibility. And I think coworking will play a role in that, but it will be more enterprise-based fleet style coworking. It won't be your typical share table with a whole host of people in a common area type of coworking. And then I believe that there will be a likely de-densification that happens. Because I think we did probably over extend into a highly -- more highly dense environment, and that will potentially increase the overall square footage that an occupier will need per employee and they will need to think about how to ensure that employees want to come to that location because they still believe that the office can help drive collaboration and really help drive productivity.

That makes sense. So just to make sure I understand, your view is there are probably a variety of strategies that get implemented. Some will involve the leveraging of coworking, some will involve using existing office space, but changing the interiors and maybe de-densifying. And there may be some companies that decide to leverage employees working from home or maybe, call it, satellite offices in other locations. So it's a mix of different things with puts and takes. And I get it, it's tough right now to say, hey, will 5% more employees work from home, 15%, 30%, who knows what the right answer is, but I think it's a reasonable view that there's going to be a mix of different strategies, but a part of the strategy would be utilizing the work -- the home place to work. And so on the margin, there may be a little increase?

And I think it's important for investors and coming from a REIT analyst perspective, you certainly are thinking constantly about the valuation of real estate. But for CBRE, our bread and butter and the core of our business is advising our clients on how to best use and purpose real estate. And so this is an opportunity for us to capture a moment of change in terms of the broader real estate industry and how -- and help occupiers and investors alike really align around their view as to how they will use real estate in the future. So we actually think change is quite good for our business. If people were just using real estate on an ongoing basis, the value that we provide in terms of our research and our insight, it would be very difficult to differentiate. And we think that this is actually a very unique time for us to differentiate and show our clients how different CBRE can be in terms of our global platform and our thought leadership. And that's something that our leadership team is very focused on doing right now and making sure that the largest companies can bring their employees back safely when they're ready.

That makes sense. So a question that just came in and something I wanted to talk about. There's always a debate as to kind of how different the 3 or 4 large players are in the industry. So maybe for CBRE, what are the biggest points of differentiation versus your publicly traded peers?

Sure. I think, first, if you look at our overall outsourcing business, we, just from an overall scale perspective, have a size and a scale advantage. And we believe there was a tremendous amount of benefit that we achieved by really thinking through where outsourcing was going from a real estate perspective and helping to lead that. If we look at our broker platforms within our advisory business, whether it's sales or leasing, we certainly -- there are some markets where JLL or Cushman or others may be larger than we are. But where we believe we truly differentiate is when we bring it all together for the clients. When we're able to really bring the best of all parts of CBRE to ensure that they're getting really a global relationship management package. As we're seeing larger institutional owners of real estate and larger occupiers of real estate emerge, it's incredibly important for them to have that coordinated coverage model. And we think that CBRE can do that, and we're highly differentiated in that respect.

That makes sense. Maybe just on capital allocation. And maybe thinking about how that may have shifted in this -- in the current environment. But also, I'll weave in a question that sort of came in on the balance sheet, which is you mentioned the leverage is low, you've unlocked liquidity. But I guess part of the low leverage is also being prepared to take advantage of distressed opportunities once you get through the recession. So maybe talk about capital allocation and coming out of the recession, how that might change?

Sure. We were certainly expecting something to happen as it relates to some correction in the market. We were -- but we were not anticipating, as I don't think anyone was, this type of situation as it relates to the broader economy and the impact that COVID has had. But fortunately, because we were anticipating something, we are extremely well prepared to endure and weather what's happening in the market. Our capital allocation strategy won't change. And it's principally because we don't have to change it. We'll continue to invest in things that we believe will continue to deliver world-class outcomes for our clients. At the same time, we are making very focused reductions within our business to ensure that we're right-sized for the demand that is out there today. But our capital allocation will continue to look at ways to differentiate our platform, and that's our first and foremost priority as it relates to investing our capital. After that, we'll look at, are there additional capabilities, whether it's from a broker recruiting or retention or acquisition perspective to enhance the market share that we have across our largest markets and the key markets within our transactional brokerage business. And then beyond that, from an M&A perspective, are there other businesses like Telford, who we can leverage the synergies within CBRE to make the value of that greater than it can be on its own. So where are there pockets of our business that we want to continue to invest in to build scale, to build on profitability within the target. And ultimately, further integrate the services that CBRE can provide to our clients and continue to provide a differentiated solution. And then finally, certainly taking into consideration the broader environment from a macro perspective and our balance sheet, if we have residual cash available, and we're in a modest leverage position, we would look to return capital to shareholders. We've put that on pause for now because, again, going back to my comment earlier, we view liquidity as being a critical component for our ability to really lean in coming out of this. And so we want to preserve as much as possible, so we can be offensive and potentially take action on distressed assets. It's just not clear yet where those assets will present themselves. So we want to preserve capital at the current moment to ensure that we're positioned to move quickly if we see opportunities present themselves in the market.

That makes sense. A couple of more questions just came in. So I'm just going to weave them into this one, but it's really around coworking. And I know you've been growing your own solution in the coworking space. But talk about that as well as provide maybe some thoughts on coworking in general. And some would say maybe or question whether there's a shrinkage in coworking amid this recession, given maybe financial challenges. So how do you -- can you talk about your solution and maybe give thoughts about coworking in the very near term in terms of footprint and how that may evolve longer term?

Absolutely. So we developed our coworking solution based on our view that occupiers and investors saw the need for coworking. And it was not a fad. It was something that, again, going back to your toolbox of how you manage your real estate needs, it's something that occupiers were increasingly asking for, therefore, investor clients who own real estate needed to provide that as an option. It wasn't something that we viewed as being temporary from an occupier need perspective. So we went about it in a way that provided us an option on the coworking market and allowed us to position ourselves from a manager of those types of properties to demonstrate that we have the capability to operate a coworking solution for both an occupier and an investor client. We developed Hana, and we rolled out 5 locations last year, and we expect to complete another 5 this year. That's a slower pace than we had expected because we are pacing along with the current market conditions, and we're not extending ourselves or our investment in that space until we see really the demand further developed from the occupier side around the existing locations that we have. But we are seeing signs that our Hana product is something that the market wants, and will continue to want. And there are a couple of reasons for that. One is it was designed specifically for large enterprise clients. It was designed to provide suite-style space for large occupiers who want high quality around technology. So there is, I would say, the level of investment that was placed into the IT infrastructure in them allows for security and clients like banks or technology companies who look to that as a key component of space need, and their basic requirements, something where it allows them to quickly enter and use a suite within our Hana facility. And we also thought about making sure that as we were demonstrating our operational capabilities around Hana, that we would also be able to translate that into a white label solution for investor clients. So you may have a large property investor who wants to operate coworking spaces in their building as an amenity for [indiscernible] space for their tenants, that may be a competitive advantage for their building. They personally don't want to [Audio Gap] And so we're working with large investor clients to identify how we can replicate now what we've built out from a Hana perspective for CBRE into a white label version for them. And that, we would expect would migrate from the original Hana model, which is asset-intensive to more of an asset-light model with a white label for using Hana in more management agreement type format. And that's ultimately the direction we wanted to take this in anyway. We actually think the current environment could accelerate that.

That makes sense. I know we have just a minute or 2 left. So I just want to quickly ask 2 questions that just came. One is on margins. Typically, investment management, transaction leasing, they're higher-margin businesses and kind of in a downturn, you see a lot of pressure on the margins because of declines. Can you talk about the margin profile, what you think is different in this cycle? And initially, kind of how much deterioration you think there is? And then second, just to wrap up, what do you think today is sort of the biggest misperception about CBRE amongst the investor community?

So on the margin side, particularly within our REI segment, that can be fairly lumpy given the investment gains or gains on disposal in our investment management business. But if you peel that back, there is an underlying recurring component of our investment management business that does have fairly stable margins, and we look to continue to try and drive those up over time. From an overall, I would say, total segment margin perspective, we haven't provided guidance for this year. We actually withdrew our broader guidance. So I can't speak to specific margin performance that we would expect to have within investment management. But if you look at that, there is a component of it that is more recurring that we did speak to on our earnings call, and we would expect that to continue to perform quite well. I'd also point to my comments around the strength of the portfolio and the pipeline that we have within our development business. And that, I think, goes to the fact that we've been very disciplined. We've been very focused on core asset classes like industrial and multifamily. And so we think we're well positioned to continue to be able to carry those investments through the cycle. To your last question around what's most kind of misunderstood about CBRE. I think investors view us as a very complicated business. And I personally think that if you take a step back and think about -- we're about 2/3 in the U.S. and the U.K. We're primarily a sales and leasing business with a really strong outsourcing component tied to it that provides a solid foundation, and you can strip away a lot of the noise that's there. And so from an investor perspective, our team is working on really helping to educate investors about how they can more easily understand our business and that we aren't just a sales and leasing business anymore. There is a very solid foundation of diversified businesses that both provide optionality on the real estate cycle, but also provide a solid foundation to help us manage and navigate through uncertain times like the one we're in currently. And so hopefully, this environment will help us prove that out.

Great. That would definitely -- definitely think that the business has changed a lot. And so there will definitely be differences between this cycle and last. But thank you very much. I have many more questions, but we've gone out of time. But thanks again for doing this. And hopefully, everyone is well and safe. And thank you, everyone, for joining us, for listening in. I just want to point out that the next investor webcast will be on a different link. So if you're looking to plan to join that, please look for that link and join. But Leah, thank you very much. This was very insightful. And hopefully, in the near future, we'll get to meet in person.

Thank you, Vikram. Same for me.

Thank you.