紐約梅隆銀行 (BK) 2006 Q1 法說會逐字稿

Welcome to the The Bank of New York's first quarter 2006 earnings conference call.

Today's call is being recorded.

The information and materials contained in this conference call and webcast and any related materials are owned or licensed by The Bank of New York Company, Inc., and may not be copied, displayed, retransmitted, published, broadcast, modified or otherwise used for public or commercial purposes without the express written consent of The Bank of New York Company, Inc. and the relevant information providers.

[OPERATOR INSTRUCTIONS]

Now, Joe Murphy, Head of Investor Relations for The Bank of New York Company, Inc.

Good morning, everyone, and thanks for joining The Bank of New York's first quarter earnings call.

Before we begin, let me remind you that our remarks may include statements about future expectations, plans and prospects which are forward-looking statements.

The actual results may differ materially from those indicated or implied by the forward-looking statements as a result of various important factors, including those identified in our 2005 10-K.

Forward-looking statements in this call speak only as of today, April 20th, 2006, and we will not update forward-looking statements to reflect facts, assumptions, circumstances or events which have changed after they were made.

Now I would like to turn the call over to Tom Renyi, Chairman and CEO of The Bank of New York Company.

Thank you, Joe.

And with me this morning is Bruce Van Saun, our Chief Financial Officer.

So good morning, again to all of you.

The first quarter was one in which we continued to demonstrate the earnings power of our franchise by delivering strong revenue and EPS growth, and we took decisive and creative action to help strengthen that earnings power.

Along with delivering that strong revenue and EPS growth, we generated improved operating leverage by managing our costs carefully and made significant progress in advancing our strategic transformation to a model that is focused on higher growth businesses of security servicing, asset management, and private banking.

These are businesses we know quite well.

They've got excellent growth prospects, and we're sharpening our focus on them.

But before I get into a little bit of the details here on the quarter, let me comment on the business environment which, I think as we all know, was favorable overall.

Equity volumes and pricing levels were up during the quarter, cross border activity levels were strong and as a result our equity-linked businesses performed quite well.

Our execution and clearing and depository-receipt businesses showed good year over year growth.

Private banking and asset management were also up nicely helped by some acquisitions.

The fixed income markets also held up reasonably well and it's reflected in our securities lending, our broker-dealer services and institutional trust which all again improved on a year over year basis.

Other areas that demonstrated a strong growth include foreign exchange and alternative investment servicing.

Performance across these businesses, though, were offset by weaker performance in our traditional banking areas, namely retail and middle-market banking, corporate lending, and global payments.

The result overall was a solid 13% increase in non-interest income.

In short, strong growth in our core businesses were exhibited and we achieved it while managing to keep a lid on costs, thanks in part to the progress of our re-engineering and relocation initiatives.

Our results demonstrate our success in expanding our product offering, winning new business, and growing the relationships that we have through the quality of our products and our services.

This is what we mean by creating our own growth, and that is apparent in our growth in assets under custody which increased by 14% year over year.

Equally importantly, though, is the fact that we see room for further expansion of our opportunities to improve our performance.

That is why our swap transaction we announced this month is such a positive development for us.

If you'll recall a few months ago, I told you we were looking very closely at a wide variety of actions that we could take.

We have three specific goals in mind in reviewing all of them.

And that is to enhance our ability to generate revenue growth, to enhance the inherent operating leverage of our business model, and to narrow our focus to businesses that can create higher-growth opportunities.

With this transaction, we're delivering on all of those goals, and at the same time strengthening our position in institutional trust.

This is a core business for us; and it has higher margins, stronger growth characteristics than the businesses that it will replace.

It also has scale characteristics to generate positive operating leverage.

In other words, it further advances our business mix shift.

So let me put now though this institutional trust business in today's context.

If you look at our performance in issuer services this quarter, we had double digit growth year over year, and a key driver was our performance in structured and global trust products.

And these are the markets in which JP Morgan's business, that we have acquired, will greatly expand our presence.

So I think you can see why we're so pleased about being able to close and conclude this transaction and so very excited about its impact on the business model.

We believe this change in our business mix will allow us to more confidently deliver the strong returns and growth rates that our shareholders expect from us.

So bottom line, the model we have today is performing quite well, and the model we're evolving to, through this swap transaction, is expected to perform even better in the future.

And with that, let me turn it over to Bruce to share some more detail regarding this quarter.

Bruce.

Thanks, Tom.

It was a solid quarter with strong top line growth and continued progress on the expense management front.

The result was operating leverage of 210 basis points on a year over year basis, up from the fourth quarter's year over year leverage of 130 basis points as well as positive results sequentially.

Revenue growth was led by security servicing fees which were up 11% versus the year ago quarter.

Here are a few highlights.

Execution and clearing showed strong increases versus both the prior and the year ago quarters.

Year over year growth reflects stronger transition management and cross border activity, and the addition of LJR on the execution side.

At Pershing, we achieved solid growth in value added services, such as providing access to research, market data, and mutual fund investments.

This was partially offset by the loss of a significant customer.

The strong sequential growth in execution and clearing was driven by greater transaction activity in the execution business given higher market volumes and higher value added fees at Pershing.

Investor services is showing sequential improvement.

Performance in securities lending and alternative asset servicing was very strong, offset by revenue losses due to clients that deconverted during late '05 due to industry consolidation.

Issuer services was strong year over year due to the high growth corporate trust areas that Tom outlined as well as higher transactional activity in ADRs.

The sequential decrease is largely a function of seasonality in DR revenue, particularly in dividend related income.

Broker-dealer service revenue was also quite strong, led by continuing growth in cross border collateral management activities.

Now beyond security servicing, private banking and asset management had solid, sequential and year over year growth, fueled by our asset management acquisitions and year over year growth in private banking.

Alcentra and Urdang both closed on time, they're tracking to expectations, and they're being integrated seamlessly.

Foreign exchange and other trading achieved very solid growth sequentially and year over year.

Year over year performance was driven by the addition of new clients and increased activity by existing clients.

The sequential increase reflects continued growth in cross border activity as investors are taking a more global view in seeking attractive returns on capital.

Net interest income was up 7% on a year over year basis reflecting continued growth in liquidity arising from our servicing businesses.

On a sequential quarter basis, NII was off slightly due to a decline in interest earning assets, the loss of a major Pershing customer and funding of the Alcentra and Urdang acquisitions.

The yield remained essentially flat at 2.35%.

As occurred in the fourth quarter, we had an additional impact in the first quarter from the cumulative adjustment in our reserve position with the Federal Reserve Bank.

The good news is, that this adjustment is now behind us, creating a positive development for our second quarter outlook.

Securities gains continue to exceed expectations, delivering $17 million in the first quarter driven by a 33% annualized return on our sponsor equity portfolio.

Growth in other income includes a pretax gain of $31 million related to the conversion of our New York Stock Exchange seats into shares of the NYSE.

We had anticipated a gain on this transaction during 2006, but this also exceeded expectations.

This gain, though, was partially offset by several items during the quarter.

First we absorbed $6 million in severance costs tied to our staff relocation efforts.

Second is the federal reserve adjustment I referenced which was also $6 million.

And third, we had a $6 million pretax impact related to the exit of a Pershing customer in the first quarter.

The loss is not fully factored into our run rate yet, and it will be somewhat larger next quarter.

We anticipate that there will be compensation to the bank during 2006 related to the break in this contract which will offset the 2006 impact.

As to expenses, let me offer a perspective on salaries and benefits, our largest expense category.

These expenses rose 8% relative to the year ago quarter and 3% sequentially.

The year over year increase resulted from higher severance and pension costs, as well as increased legal and compliance staffing.

These were partially offset by tight headcount control and the benefits of our reengineering and relocation projects.

Growth on a sequential basis reflected higher seasonal social security expense tied to bonus payouts, higher pension expenses, and increased expenses associated with our asset management acquisitions.

So overall, as we had expected coming into 2006, we have pretty good revenue momentum, and many of the corporate cost issues of '04 and '05 have been absorbed into our run rate, resulting in improved operating leverage and strong results.

On the capital front, we repurchased 2.4 million shares during the quarter.

The JP Morgan transaction will cause us to take on some modest leverage to our capital ratios later this year.

However, we will return to our targets by mid-'07 through curtailment of share repurchases from closing until then.

That wraps up our comments on the first quarter.

With respect to the second quarter, we feel good about our positioning.

Although other income will decrease, we should see growth in net interest income, as well as good performance in our core activities, led by seasonal strength and ADRs.

And our focus on operating leverage will, of course, continue.

With that, I'll turn it back to Tom.

Well, having put the first quarter to bed, a major priority for us at this point is moving the swap transaction to completion, ensuring a smooth and swift integration of the combined institutional trust organizations and the platforms they work on.

Joint integration teams have already been established; they're continuing to refine plans that we need to meet our time, budget and client retention targets, and while this critical work is moving forward, though, we will take continued action to strengthen our business model in order to further enhance our growth prospects and realize two key overarching objectives.

First, creating our own growth through product extension, relationship expansion, and by winning more than our share of business.

And secondly, managing the bottom line to deliver positive operating leverage.

This focus, together with strategic actions, will put us in a position to more fully realize the earnings power of our franchise.

Now with that, I would like to ask the operator to open up the call to some questions.

Operator.

[OPERATOR INSTRUCTIONS]

Our first question comes from Brian Bedell from Merrill Lynch.

Please go ahead.

Hi, good morning, guys.

Hi, Brian.

Could you talk about issuer services outlook for 2Q in a little bit more detail, particularly ADRs?

The seasonal decline in the first quarter was a little bit more than I had modeled in.

What should we kind of be anticipating for 2Q?

I know we have both good momentum on more of a secular basis, in in terms of the actual seasonality fluctuation.

Could you mention that at all?

Well, I think we had a very strong fourth quarter in DRs and on dividends, and we expect another strong quarter on the dividend action, as well.

That is where the seasonality really lies, Brian, and so we're still anticipating a very good quarter for DRs.

You're quite right, the secular movement, momentum continues in that business.

More corporate actions are taking place, especially in Europe, and we are certainly participating in those.

And with corporate trust, at all, did that you grow in the first quarter versus the fourth quarter?

Or was that essentially flat?

There was a very slight decline, also a little bit of seasonality there.

There's a lot of structured issuance in the fourth quarter.

I think they had a good first quarter, but on a sequential basis, it was slightly off.

Okay.

Great.

And on the -- in the service charges line, that was also a little lighter than I was forecasting.

I think you mentioned some lower seasonal activities there, as well.

Do you expect that to pick up in the second quarter?

Yeah, I think that's also a line item that shows a little bit of a dip in the first quarter in the capital markets arena.

The fourth quarter is usually bigger and the second quarter also picks up a little bit.

Great, and can you talk about the 2Q incremental impact from the Pershing loss?

You said it wasn't fully based in the quarter, and then if there's any idea about the magnitude, and the termination fee and the timing of that?

Yeah, the -- we had a partial quarter effect because the business really deconverted it close to the end of the first quarter, I mean first month, which is January.

The negotiation efforts to arrive at a mutually satisfactory termination fee are ongoing.

I think if it -- it certainly isn't going to get done early this quarter, it may get done later in the quarter, it may spill into third quarter would be my current estimate.

And then finally, does your outlook for the, for your interest rate positioning as we move into the second quarter and through the year.

Yeah, no.

I think we've had a couple things with this reserve matter that we had to get behind us, I think overall we still feel very good about how we're positioned.

I think the -- so you'll see an increase on both kind of the day count and kind of putting this Fed Reserve matter behind us going sequentially from first quarter to second quarter.

I also think as we get a little steepness back in the curve, that could bode well for an improvement in the net interest margin.

In the second quarter or more towards the end of the year?

You know, it depend.

But certainly later in the year, for sure.

And how would you characterize your positioning?

Have you moved to more liability-sensitive at this point or earnings-neutral?

Still pretty close to neutral still.

Okay, thanks.

Thanks Brian.

Next question, please.

Thank you, our next question from David Haas with Fox-Pitt Kelton

Hi, David.

Good morning.

Just a quick question on the investor services business.

Seems like sort of on a year over year basis, you had mid single digit growth there.

We're seeing some pretty significant growth out of some of your competitors gaining share from some of the smaller players out there.

Can you give us an outlook for sort of your positioning in the U.S. as well as overseas?

And can we expect that to pick up going forward?

Sure, David, I do believe it will pick up in the going forward.

You saw that while we did have, I think as you say, mid single digits in terms of year over year, the sequential growth was pretty good, and we did have a weak fourth quarter because of some of the conversions out where we had some of our clients consolidate away from us, so that, I think impacted the year over year growth, but on a sequential basis, we continue to win new business and I expect some -- a resumption of double digit growth as the year progresses.

Okay.

I guess second question, then, just in light of the swap transaction coming on board, you mentioned some leverage there on your capital ratios that will be coming in.

Just sort of philosophically, if you're taking the retail bank business off the books, and you're layering in a somewhat stable corporate trust business, is there any thought of potentially lowering those capital ratios, capital ratio targets, going forward based on the new business mix?

Oh, sure, David, I think that's very much under review.

Right now, we still have, of course, our commercial loan book, the corporate loan book here, and we're going to take a pretty careful look at it, we're still targeting to the 5-5.25 range at the moment.

But once we bed down the transaction, once we realize on the synergies, once we see what we have in terms of the risk profile and that it matches our expectations, we may very well revisit that.

Okay.

And then last, just a quick followup on the loss of the Pershing customer.

Was that -- can you give us any sort of profile on that in other words?

Was it a consolidation that drove the loss or what was the real reason behind that?

It was a consolidation, one of the competitors acquired one of our clients and they effectively took it in-house.

Okay.

I understand.

Thank you very much.

Yep, thank you.

May I have the next question?

Thank you, our next question comes from Ken Usdin with Banc of America Securities.

Thanks.

Good morning.

First of all on the asset management -- can you give us some color on how much the acquisitions added and going forward with only one of them -- the relative magnitude of that one as far as the revenue and expense contribution?

Yeah, Ken, the year over year growth was 15-16%, and you know, ex the acquisitions we're talking mid single digits would have been the organic growth, and so that's the order of magnitude.

The Urdang acquisition closed late in the quarter.

That's relatively modest in terms of impact on the numbers.

The Alcentra acquisition is a much bigger source of those revenues.

Okay.

And some more on the expense side related to it?

You know, again, there was some impact on expenses largely in compensation, a little bit in occupancy, and also in other expense.

Okay.

On the expense side, a couple of things, first of all -- can you -- the subcustody expenses had a rather large jump, can you give us color on that?

Yeah, there's really two things that worked there Ken, one of them -- there's some increase in activity that occurred around the world in both kind of DR subcustody as well as in our custody business, and so that's part of that increase.

And then the other part is a -- we made a kind of one-time adjustment on a catchup accrual that had an equal offset in other income.

So I would expect to see that, that piece of it come out in the second quarter.

And it would also come out other income.

That's about half of the step up.

Okay.

And lastly, on this severance related to moving the people, reengineering costs, that $6 million, and you talked about accelerating that program this year, is this an acceleration of that acceleration, the $6 million in severance, or do we going to see this same magnitude of severance related to the program over the course of the year?

Well, I think, Ken, one of the things we've done is we've been, you know, somewhat opportunistic and when we have these asset-based gains, we can put our foot on the gas pedal a little bit and accelerate some of these moves, and so given we had the gain on the New York Stock Exchange conversion from seats to shares, we did pick that up a little bit to the extent that we continue to have those kinds of gains and continue to try and accelerate the moves.

I think that we're handling the moves very well; there's certainly good productivity in the new locations and we're ready to do more.

Okay, and following on that, do you then expect that there's some other kind of noncore gains to be had, ex-securities gain?

If you look at the 10K, we have an element of our other income is in the asset of these gains.

Okay, thanks.

Okay.

Can I have the next question?

Thank you, our next question comes from Gerard Cassidy with RBC Capital Markets.

Thank you for taking my call.

A couple of questions.

First, Bruce, on the Pershing, you mentioned you expect to receive some fees from them, essentially a break-up fee that would offset the loss and revenue for '06.

How about '07?

How are you hoping to offset the loss in revenues from this particular customer.

Well, certainly within Pershing, Gerard, there is clearly some new business growth momentum there that we fully expect to be able to achieve the replacement of the lost client and still maintain our growth rates.

It is a matter of simply growing the business.

And we do see, we do see opportunities to -- for that to happen.

You know, they'll always have a little bit of these bumps as there are consolidations, but the underlying new business momentum is still quite good at Pershing.

And then second at the average margin loans in the quarter, obviously they were down from a year ago and in the fourth quarter, was that primarily due from the loss of this one particular customer?

Yes, that's correct, Gerard.

Thank you.

May I have another question, please?

Thank you, our next question comes from David Hilder with Bear Stearns.

Good morning, I just wondered if you had any update ton the potential of deferring some of the tax provision from the JP Morgan swap?

Hi, David.

The -- we're working actively on that with our counterparts from JPM.

We really don't have an update at this point.

I think it will still take, you know, I don't know 4-6 weeks to kind of work through that, it's fairly complex.

But we'll certainly advise when we get to the end of that process.

And any estimate of how much of the tax hit could be avoided or deferred?

I think it's a little premature to say that.

I think there's certainly, you know, if you had to put a high limit on it, it would be well less than half, but we're working through that.

Okay.

Thanks very much.

Okay, David, thank you.

Next question, please.

Thank you, our next question comes from Tom McCrohan with Janney Montgomery Scott.

Hi, it's Tom McCrohan from Janney Morgan.

How are you?

Question on the operating environment.

By many measures the environment is pretty good this quarter and a lot of the other custodians who had reported earlier in the week had pretty good results, as well.

I want to get a sense for, is this kind of as good as it's going to get as far as top-line growth -- you had 13% security servicing growth, 11% revenue growth, 9% expense growth, and 200 basis points of operating leverage.

So from a revenue perspective, is this kind of in a good environment for you guys and what can we expect to be the higher end of the growth range on revenues going forward and the contents of the good environment or is there other factors at play that you can see even higher growth in that?

This is not as good as it can get, Tom.

And I think we had a very, very good quarter here, and part of the -- part of our, our performance, of course, is impacted by our business mix.

Yeah, I was going to say, you know, the environment for the core businesses is quite good.

But I think we can perform even better with an improved business mix, which is why I think the transaction we announced earlier this month is so important.

Because if you look at the traditional banking areas in the business mix did not perform all that well this quarter, and so taking, you know, capital out of the current business mix from retail and middle market and putting it into a business that is going to perform much better over time, I think is going to lead to even better revenue growth.

Kind of a followup to that, some of the the seasonality that you saw this quarter on the issuer services, and I guess you contributed to ADR, is there anything changing on that the seasonality to that business, it hasn't always exhibited a sequential Q4 to Q1 decline, it did last year, but not the year prior, is there any decreased seasonality from Q4 to Q1 in the last couple years that has caused the sequential decline to happen?

Yeah, Tom, I think certainly as the DR matures as a security more and more issuers are providing dividends.

Providing dividends, and that is then an increasingly larger proportion of the revenue stream coming out of that business.

I think it has, the seasonality has been much more impacted by a, again, the dividend.

Okay, thank you for clarifying that.

And on staff expenses, just a clarification on the sequential increase staff expenses were up like $21 million sequentially, and Bruce, you talked about some of the factors contributing to that.

But if you go back last year Q1, staff expenses only went up $1 million from Q4 to Q1.

So what happened this quarter and I think you mentioned acquisitions being one of them, can you just give us a feel for what contributed to the growth sequentially this quarter in staff?

And if you don't want to interpolate that 3% sequential growth as 12% annualized growth in expenses, and you know, hopefully that's not kind of the growth rate for staff going forward.

If you can share some thoughts on that, that would be helpful.

I think, as you said, the the acquisitions of Alcentra and Urdang impacted that, and we also had the severances included in that number, Tom.

And then, you know, in addition staffing up continues in the legal and compliance area.

The other thing going on in there too is that the pension expense typically steps up from Q4 to Q1 when we go through with our new assumptions and that was about a $5 million impact there, as well.

Those are some of the things, obviously, once the new pension number is baked in, that won't be the same sequentially, the acquisitions are largely baked in because we had Alcentra for the full quarter, so I think, overall it was a good performance on managing staff count, staff count overall, the heads were probably only up 50 or so people during the quarter.

Our relocation and reengineering initiatives continued to reduce the cost of that labor, as well.

Thank you, congrats on a solid quarter, and just as a request, if there's any way you folks can break out the securities lending fees going forward, you know, the other guys, the peers kind of disclose that, that would be great.

Okay, thank you, Tom.

May I have the next question, please?

Thank you, our last question comes from Glenn Schorr with UBS.

Hi, thanks very much.

Just a followup on issuer services.

And maybe you could help break things down between corporate trust and DRs, because I definitely appreciate the seasonality of dividends and your comments on the DR business.

But I looked at the dead underwriting that the average broker was up 33% sequentially and 20 something percent from last year.

And I just thought directionally that should mean pretty positive things for issuer services, but maybe it's the, the devil is in the detail.

Yeah, I think Glenn, the corporate trust business on a year over year basis was up very solidly.

And so that, that I think is really a more telling statistic, I think on a sequential basis the structured business tends to have a lot of activity in the fourth quarter and that fell off a little bit in the first quarter.

And we've seen that pattern occur in the past.

So I think, you know, the trust business, one of the things we like about it, it is more annuity-like than when you're looking at brokers and they're getting fees related to issuance, we have an underlying strong base of results that kind of mutes some of that volatility and leads to a consistent growth business, but not one that has these kind of outsized ups and downs.

I think, though, you're right, Glenn, the devil is in the details here and the asset-backed side, mortgage-backeds, clearly the issuance there was down on a sequential quarter basis and that is a much more lucrative aspect of it than straight debt financing, corporate debt financing.

But overall we're quite pleased with the market share and in terms of new issues that we have become trustee on, and again, the strength of the transaction that we just concluded here, I think is the fact that JPMChase was very much involved in the international side and in the CDO market where the significant growth and continued growth expectations for fixed income issuance abroad.

All right.

Thanks, guys.

OK Glenn, thank you.

If there are no other questions, this concludes our first quarter earnings call.

We certainly appreciate you joining us this morning, and encourage you to contact Joe Murphy in our Investor Relations area if you have any further questions.

Thank you again for your attendance.

Have a good day.