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Krishna K

LAZ AT A GLANCE

P/E ► -592   EV/EBITDA ► 46.3 HIGH ROA ► 3.5% AVG ROE ► 7.6% AVG Debt to Equity ► 5.78 AVG Interest Coverage Ratio ► 3.50 AVG

 

 

 

 

 

 

Lazard (LAZ) is a leading international financial advisory and asset management firm. On the financial advisory side of their business, Lazard advises clients on financial matters such as mergers and acquisitions, restructurings and other complex transactions. The asset management division manages investments for a wide range of investors including institutions and high-net worth individuals. They invest this money across equities, fixed income, alternative investments, cash and merchant banking funds.

Lazard's business model is less diversified than that of its larger investment banking peers like Goldman Sachs Group (GS) or Merrill Lynch (MER), leading to more cyclicality in their business. This is evident in both of their major operating segments. The advisory practice, which contributes over 60% of firm's revenue, is heavily dependent on the health of the U.S. Economy. Their asset management business has only slightly less exposure to us economic cycles. This is due to the fact that more than $96B of their $110B is concentrated in equities and alternative investments^[1]. Equities typically move with the economy. One potential hedge against a downturn in the U.S. market is company's expanding international presence, which currently has a footprint in 29 cities across 16 countries throughout Europe, North America, Asia, Australia and South America. In 2006, nearly 46% of advisory revenue and 42% of asset management revenue came from outside of North America.

Business Financials

The firm, which was a private partnership for nearly 150 years, went public in 2005. The firm has also had a change in senior management in 2005, when Bruce Wasserstein who took over as CEO ^[2]. Since Wasserstein took over, the firm has been aggressively recruiting top managing directors. The recruiting of managing directors is especially important to a firm like Lazard, since their relationships with clients is what leads to advisory business. Over the past three years, Lazard has benefited greatly from the global boom in mergers and acquisitions activity and healthy stock market returns. In 2006 alone, the announced Global M&A transactions were valued $3,575 million, an increase of 30% over 2005 ^[3]. Between 2004 and 2006, Lazard's net revenue climbed 36%.

LAZ Annual Report^[4]

The advisory business has accounted for over 60% of the firm's net revenue in the past few years. Within the advisory business, the mergers and acquisitions practice has been the most active, followed by the financial restructuring practice. Lazard generates fees from clients when it advises them on mergers and acquisitions, restructurings, and other matters. This revenue is usually based on a transaction, rather than on a long-term contract with a client^[5].

LAZ Annual Report^[6]

The asset management division of the firm has grown substantially over the past 5 years and now accounts for close to 40% of net revenue ^[7]. This division largely generates money by charging its clients a fee on assets under management (AUM). As of December 31, 2006, Lazard had over $110 billion in total AUM, an increase of $22 billion as compared to AUM of $88 billion as of December 31, 2005^[8]. On some of the investment products which it manages (i.e. hedge funds), the firm can also earn performance-based incentive fees^[9].

LAZ Annual Report^[10]

Trends and Forces

• Business Cycles

Lazard is highly impacted by both global and US economic conditions. During periods of rapid economic growth, companies typically pursue more mergers and acquisitions, leading to greater demand for Lazard’s Mergers and Acquisitions advisory services. Also, the stock markets typically move in the same direction as the overall economy. If the market is up, then the demand and performance of Lazard's asset management services will likely increase as well. Conversely, if the economy is depressed, demand for Lazard's Mergers and Acquisitions advisory services can decrease substantially and the value or performance of the assets in the asset management business could also decrease. One thing which offsets this trend is Lazard's Financial Restructuring practice, which has historically been more active during periods of economic weakness and slowdown ^[11]. Another factor, mentioned above, which could be a potential hedge against a downturn in the US market is company's strong presence in Europe and elsewhere. In 2006, nearly 48% of the firm's revenue was generated outside of the United States and North America.

LAZ Annual Report^[12]

• Subprime Lending

Subprime lending refers to the practice of extending credit or loans to borrowers who fail qualify for prime or market rates due to their less than optimal credit scores. For the past decade, the interest rates associated with subprime mortgages have been about 2% higher than those associated with prime loans; the rationale is that borrowers with lower credit scores carry a higher risk of default and must therefore pay a considerable risk premium. Subprime borrowers can be extremely sensitive to interest rates. As rates rise, these borrowers, many of whom have adjustable-rate mortgages, find themselves unable to meet their debt obligations.

While Lazard doesn't have exposure to subprime mortgages like many of its larger investment banking peers which have significant mortgage divisions, Lazard is affected by the impact that worries about subprime lending are having on the overall market. In particular, the subprime fallout has scared banks, who are afraid that it is symptomatic of a broader deterioration in credit quality. As a result, lending standards have been raised in the second half of 2007 than it has been in previous years, causing the funding of M&A transactions to be more challenging - this can have an adverse effect on Lazard's advisory business. On top of this, as many financial services firms have reported losses regarding subprime mortgages, the overall equity markets have been depressed, which has adverse effect on Lazard's asset management business.

Competition

Lazard competes head-to-head with larger investment banks such as

• Goldman Sachs Group (GS) - ranked number one in mergers and acquisitions advisory for the last 8 years running. GS is also a big player in the trading, principal investing, and asset management functions.
• Morgan Stanley (MS) - typically ranked number two in mergers and acquisitions advisory, behind Goldman Sachs.
• Merrill Lynch (MER) - it is a large investment bank with a very large wealth management division. The firm is currently undergoing changes in senior management, after the resignation of CEO Stan O'Neal.
• J P Morgan Chase (JPM) - one of the largest financial institutions, with operations in Investment Banking, Commercial Banking, Treasury, Asset Management, Credit Cards, and Retail financial services.

Lazard also competes with other leading boutique advisory firms such as Blackstone (BX), Evercore Partners (EVR), and Greenhill (GHL) . Lazard, unlike many of its larger peers, does not maintain an extensive retail brokerage sales force, opting instead to focus on higher-margin businesses such as financial advisory. However, as mentioned above, its relatively narrow focus also exposes the firm to swings in the economy.

Market Share

According to Thomson Financial, Lazard ranked as the #10 advisor for worldwide M&A in 2006^[13].

Notes

1. ↑ LAZ 2006 10k, Item I, Pg. 6
2. ↑ Business Week: The Taking Of Lazard, http://www.businessweek.com/magazine/content/06_45/b4008001.htm?chan=search
3. ↑ LAZ 2006 10k, Item VII, Pg. 40
4. ↑ LAZ 2006 10k, Item VI, Pg. 38
5. ↑ LAZ 2006 10k, Item Ia, Pg. 16
6. ↑ LAZ 2006 10k, Item VII, Pg. 51
7. ↑ LAZ 2006 10k, Item VI, Pg. 38
8. ↑ LAZ 2006 10k, Item VII, Pg. 54
9. ↑ LAZ 2006 10k, Item VII, Pg. 41
10. ↑ LAZ 2006 10k, Item VII, Pg. 39
11. ↑ LAZ 2006 10k, Item Ia, Pg. 16
12. ↑ LAZ 2006 10k, Item VIII, Pg. 123
13. ↑ Thomson Financial: Mergers and Acquisitions Review, http://www.thomson.com/pdf/financial/league_table/ma/150587/4Q06_MA_Global_Finl_Advisory