高盛 (GS) 2007 Q3 法說會逐字稿

Good morning.

This is Samuel Robinson from Goldman Sachs Welcome to our third quarter earnings conference call.

Today's call may include forward-looking statements.

This statements represents the firm's belief regarding future events that by their nature our uncertain and outside of the firm's control.

The firm's actual results and financial condition may differ possibly materially from what is indicated in those forward-looking statements.

For a discussion of some of the risks and factors that could affect the firm's future results please see the description of risk factors in our current annual report on Form 10-K for our fiscal year ended November, 2006.

I would also direct to you read the forward-looking disclaimer in our quarterly earnings release, particularly as it relates to our Investment Banking transaction backlog, and you should also read the information on the calculation of non-GAAP financial measures that is posted on the Investor Relations portion of our website www.gs.com.

This audio cast is copy righted material of the Goldman Sachs Group Inc.

and may not be duplicated, reproduced, or rebroadcast without our consent.

Let me now ask David Viniar our Chief Financial Officer, to review the firm's third quarter results.

David.

Thanks, Samuel.

Good morning and I would like to thank all of you for listening.

I will give a brief review of our results, and then we'll be happy to take your questions.

I am please to do report a very strong quarter for Goldman Sachs.

Third quarter net revenues were $12.3 billion, our second-highest result ever.

Net earnings were $2.9 billion, and earning per diluted share were $6.13.

For the quarter return on tangible equity was 36.6% and return on common equity was 31.6%.

Before I address each business in detail I'd like to make a few comments about our over all performance in the third quarter.

For, all though there rightly been a great deal of focus on the challenges all markets participants face during August it is important that for many of our business the environment was very favorable.

Second, for some of our clients and businesses the heightened volatility in volumes later in the quarter resulted in a higher level of activity.

Third, as you heard me say many times before, we benefit from our client franchise and our broad business and geographic diversity.

There were many examples of this in the third quarter, but I would make particular mention of our international businesses.

Finally, we're able to remain focused and nimble in constantly changing conditions.

This combination of factors allowed us to produce very strong results.

Let me now review each of our major businesses.

Investment Banking produced record net revenues of $2.1 billion in the quarter.

Third quarter advisory revenues were a record $1.4 billion, nearly double last quarter's performance.

These results which were 64% better than our previous record reflect contributions from our significant number of deals that closed during the quarter.

These included the Bank of New York's $16 billion merger with Melon Financial, Kinder Morgan's $27 billion management-led buyout and Metamunes $15 million acquisition by Astra Zeneca.

We're also advisor on a number of important announced transactions, including BlackStone's $27 billion acquisition of Hilton Hotels, Siemens automotive's $11 billion Euro acquisition by Continental and AG Edwards $7 billion acquisition by Wachovia.

Goldman Sachs again retained its leadership in mergers ranking first in global announced M&A for the calender year-to-date.

Underwriting revenues were $733 million, 28% below the record second quarter.

Equity underwriting revenues were $355 million, down 1% on a sequential basis while debt in writing revenues fell 42% from the record second to $378 million.

Equity financing activity remained active throughout most of the third quarter.

The significant decline in debt underwriting is mainly attributable to the dislocation in the leverage finance markets.

During the quarter we participated in a number of significant transactions including the $4.6 billion equity issuance by ICICI one of India's largest bank, Schering Plough's combination financing of $2.5 billion of convertible preferred and $1.6 million of common equity and Apollo's $900 million 144 A offering, the second offering on our GS true platform.

Our Investment Banking backlog declined from the record second quarter but remains higher than year-end 2006 levels.

Recent market uncertainty has led some to speculate on whether Investment Banking will enter a cyclical period of slowing.

While you know me well enough to know that I won't try to predict the future, I would observe that global economic growth continues to look solid, globalization is continuing, strategic buyers and sellers continue to be active, and financial sponsors while unlikely in the near- term to pursue the mega deals we have seen in the recent past still have a lot of equity to invest.

Assuming that global economic growth does not dramatically slow, we remain optimistic about the outlook for Investment Banking.

Let me turn to trading and principle investments which includes FICC, equities and principle investments.

Net revenues in this segment were $8.2 billion in the third quarter, up 24% from the second quarter.

FICC net revenues were a record $4.9 billion, 45% above the second quarter.

Currencies, rates, and mortgages all had record quarters and although not a record, commodities revenues were also strong and up sequentially.

Currencies, rates and commodities all benefited from higher volatility, strong price trends and increased customer activity.

The credit business produced solid results and benefited from considerable customer flow driven by high volatility and uncertainty.

In addition, credit recorded substantial gains from equity investments including a gain of approximately $900 million related to the disposition of Horizon Wind.

Credit also included a close loss of $1.7 billion net of fees, $1.5 million net of fees and hedges, related to leverage lending activities.

As you all know, recent conditions in the leverage loan market have made it difficult to execute many non-investment grade funding transactions including many that Goldman Sachs is committed to finance.

As an investment bank, we use fair value accounting and therefore losses our lending commitments and funded loans are included in each quarter's results.

I want to be very clear about this point.

Whether a commitment is funded or not is irrelevant to its impact on our P&L.

We mark all commitments and funded loan to say market and our marks reflect current market conditions, not a view of what a credit could be worth in the market dislocation were to end.

Our aggregate loss is not a portfolio level reserve.

Each credit is individually marked based on where we believe we can exit the commitment and current market conditions using as much external information as possible including broker quotes, external pricing services, derivative indices and actual market trades in these and similar positions.

Let me also address mortgages specifically.

The mortgage sector continues to be challenged and there was a broad decline in the value of mortgage inventory during the quarter.

As a result, we took significant markdowns on our long inventory positions during the quarter as we had in the previous two quarters.

However, our risk bias in that market was to be short and that net short position was profitable.

I also want to address the issue of marking mortgage inventory to market.

There has been much speculation and commentary that is impossible to mark many mortgage positions to market.

We do not agree with that.

Not only is it possible, it is absolutely essential for market participants to understand the value of what they hold so they can manage the associated risks.

While it is certainly more challenging to value many of these positions because of the current lack of liquidity, there is in fact a significant amount of evidence available.

Let me explain our process.

Our traders mark their position to market, and then our controller who is are independent of the trading function verify these value valuations using market transactions in the same or similar securities.

Prices of actively traded indices, prices received from independent pricing services, fundamental analysis and information gained from collateral movements with counter parties.

If there is a question on price transparency, we may require our trader to execute trades to substantiate their valuations.

We also back test marks against actual trades to ensure that our marks are accurate.

It is also important to understand that these marks are not determined in a vacuum.

We review our marks and all related evidence with our auditors on a regular basis.

As you would expect, difficult markets receive even greater attention from regulators and throughout the quarter as part of our ongoing dialog we discussed our exposures and our marks with the SEC, our primary regulator.

Turning now to equities, net revenues for the third quarter were a record $3.1 billion, up 25% from the second quarter.

Equities trading net revenues rose 27% to $1.8 billion.

Our derivatives business produced record revenues as equity market volatility increased dramatically during the quarter.

Cash equities and principle strategies were down sequentially.

Equities commissions were a record $1.3 billion, up 23% over last quarter's previous record.

The strength in this business reflects both higher customer activity levels during the third quarter as well as our increased share of those transaction flows.

Turning to risk, average daily value at risk in the third quarter was $139 million compared to $133 million for the second quarter.

The increase in VAR was primarily in the interest rates category reflecting continued higher volatility in the U.S.

mortgage and credit markets.

Let me now review principle investments where third quarter net revenues were $211 million.

Corporate and real estate principle investing produced net revenues of $242 million in the quarter, a $230 million gain on our ICBC investment was more than offset by a $261 million loss in our investment in SMFG.

Asset Management and Securities Services recorded third quarter net revenues of $2 billion, up 8% from the second quarter.

Asset Management produced net revenues of $1.2 billion, up 14% primarily based on record management fees.

Assets under management increase to do a record $796 billion at the end of the third quarter.

Total in-flows during the quarter were $50 billion, including $19 billion across fixed income, equities and alternative investments and $31 billion into money markets as investors sought higher quality assets.

These in-flows were offset by $12 billion in market depreciation in equity and alternative investments.

Securities Services produced net revenues of $762 million, up 1% from the second quarter.

This business benefited from robust customer activity levels and continued growth and balances.

Now let me turn to expenses.

Compensation and benefits expense in the third quarter was $5.9 billion, accrued at 48% of net revenues.

Third quarter non-compensation expenses were $2.1 billion excluding $100 million of expenses related to consolidated investments, a 17% increase from the second quarter.

The sequential increase was largely driven by higher brokerage and clearing and professional fees.

Head count at the end of the third quarter was approximately 29,900, up 13% year-to-date and 7% from the second quarter reflecting in part the normal seasonal pattern of college and business school hires starting in the summer.

Our effective tax rate was 33.2% year-to-date and 33% for the third quarter.

During the quarter the firm repurchased 11 million shares for approximately $2.5 billion.

We currently have about 23 million shares remaining under the firm's existing stock repurchase authorization.

To conclude, I think our results this quarter underscore a point I made before, that Goldman Sachs has a client franchise, a geographic and business diversity, and a group of talented people second to none.

Despite sometimes challenging conditions, we were able to leverage these strength to produce exceptional results.

Looking at performance year-to-date, the firm's 2007 net revenues are up 25%, diluted earnings per share 35% higher, and return on equity is 32% compared to 30% for the same period last year.

We're pleased we've been able to deliver strong growth in returns for our shareholders, and we remain very focused on these goals.

While we never know what the next quarter will bring, over the medium and longer-term, global economic growth will be continue to be the fundamental driver of our business, and given the opportunities in new markets and new products and with new customers, I believe Goldman Sachs competitive positioning and opportunities for future growth continue to be strong.

With that, I would like to thank you again for listening today, and I am now happy to answer your questions.

(OPERATOR INSTRUCTOR) .

Your first question will come form the line of Guy Moszkowski with Merrill

Good morning, David.

Good morning, Guy.

You alluded to $1.7 billion I think of leverage finance write-downs before fee impact, is that right?

That's correct.

That is after the impact.

That's what I meant by after fees.

I was wondering if you could give us the impact the gross impact before the fees.

It would be about $2.4 billion.

Thanks.

That's helpful.

No problem.

There has been mention at several of the other firms that reported this week benefits of the mark on structured liabilities from spread wide, from your own spread widening.

Yes.

Can you talk a little bit about the impact that would have had on Goldman on the fixed income and separately the equities business.

The total impact for us, Guy, is pretty immaterial in the context of our quarter.

It was a little bit under $300 million in total, and it is actually don't have the exact breakdown because it depends on which business unit the structure is measured from, so some portion that far would be in the various business effect and some portion within equities, but the total is less than $300 million.

Okay.

Thanks.

You bet.

You mentioned the backlog being down somewhat versus the prior quarter.

Is that mostly because of deals that completed or was a large part that far because deals were either pulled or probability adjusted downward?

Well, it is both.

Part of it was because of deals being completed.

On the debt underwriting side, which was the biggest part of the decline of substantial portion was because the fees that were expected to be earned on some of the leverage finance commitment are now not expected to be earned.

Got you.

Finally, just a question on your thoughts on the outlook for some of the higher margin structured fixed income products over the next few quarters.

Guy, it is always hard to predict what the next quarter or two will bring.

I am always more comfortable predicting what I think is going to happen over the medium to long-term.

I think it is pretty clear there is going to be lower CDO activity in the next quarter than there was a year ago.

I don't think any of those businesses are gone.

I think that there is going to be some shakeout, and I think and they will be slower over the next couple of quarters, and then we'll see.

Okay.

Thanks very much, David.

Appreciate it.

You're welcome.

No problem.

Your next question will come from the line of Susan Katzke with Credit Suisse.

Thank you.

I was wondering, David, with some of the larger LBO financings coming to market post Labor Day, are you willing to discuss at all the validation of the marks that you took on those commitments at the end of the August?

Sure.

We haven't sold that much since the end of the quarter, but we have had reasonable size sales of the some of the positions, and everything that we have sold so far has been either at or slightly above our marks.

Okay.

And second on the comp ratio, I guess I was a little surprised that it stuck at the 48% level.

Can you just walk us back once again through your your policy or philosophy on comp accruals vis-a-vis kind of the competitive environment?

Clearly with Goldman's revenue this is year you have the where with all to out pay any of your peers, and how much does that factor in?

The competition for talent remains there.

We are in a competitive environment.

We compete not just with securities firms.

We compete with hedge funds and private equity firms and all other types of financial firms.

When we look and do our calculation as you know, we are accrued at 48% because as we sit here today, that's our best estimate of what we think we might have to pay.

Of course you know the great majority of our compensation is bonuses.

That is call calculated and done at the end of each year, so ultimately our compensation expense will be ultimately what we pay but we have no better information than 48% today.

Okay.

Thank you.

Your next question will come from the line of Glenn Schorr with UBS.

Hello there.

Hello, Glenn.

First of all, Samuel did an awesome job.

Samuel thanks you.

Where is the quant investment show up?

It is in equities.

In equities, so that will get a mark-to-market on the quarterly basis.

Now, did I read right somewhere in the press you're up 16% since you put infused made the investment?

16% from when we invested until the end of the quarter.

Until the end of the quarter.

Great.

Like I said, it will run through equities up and down the east quarter.

Correct.

In Asset Management, the 19 billion in in-flows the long-term money side, qualitatively, driven via the new funds that you've been talking about or old funds and combination?

It depends on which sector.

In alternative investments the in-flows, a lot of that was within new funds we raised.

In equities and fixed income it would largely be in-flows into the current mutual funds or fixed income funds or other funds we have.

Okay.

Then you say there in the press release or in news in the news Cogentrics, we know the cost, but I don't think I saw the sale price anywhere.

Is that disclosed?

I don't believe so.

Okay.

Cool.

Thanks, Dave.

You're welcome.

Your next question will come from the line of Roger Freeman with Lehman Brothers.

Good morning, David.

Good morning.

So I guess with respect to your position on credit, you have -- you have been open in the past about saying your stance was one of bearishness.

Where would you place yourself today?

That was on mortgages.

And I meant mortgage.

Yes.

Look, I think what I would say is we are a lot closer to the bottom than where we were at the end of the second quarter.

There is still I think some things that have to be worked through the market, and we haven't seen the end of that, but we're a lot closer to the bottom.

Okay.

Wanted to ask, I guess, just in terms of the GO and Global Alpha Funds, can you tell us where they ended for I guess the month of August and relative to where they bottomed?

You're up 16% since you made the investment in GO.

Right.

GO ended the quarter, I believe it was down a little bit over 20% for the quarter, and Alpha was down about 30% for the quarter.

Okay.

When you made the investment in GO, obviously that was a vote of confidence in the fund at the time you had I think redemption notice periods coming up.

Can you speak to whether there were any significant redemption requests?

In Alpha the redemption requests are a little bit over $1.6 billion, and in the other funds given where the funds are, probably not very material to the funds.

Okay.

Can you walk through the loan commitments from the end of the second quarter to the end of the third quarter and what fell away and what got funded, what got resized?

I will give you the numbers, but then I also want to make a comment.

The numbers were we had about $51 billion of commitments at the end of the second quarter.

There was approximately $28 billion that went away either because the deals closed, syndicated, deals went away, and then there were $19 billion of new commitments which left us with a total of $42 billion at the end of the third quarter.

Now, the only comment I want to make is there has been some talk about the fact that that's actually relevant because things you might have committed to in the second second and third quarter might have had better terms and better in the second quarter, but remember because we mark everything to market based on where we are today, at the end of the third quarter it is the same.

Whenever we commit to them, it doesn't really matter.

They're all marked to what their current value is and where we can exit them today.

Fair enough.

Last question.

Can you talk to any changes in I guess Level 2, Level 3 assets and particularly any shift between 2 and 3.

Let me make some comments there as best I can because it is very technical.

Our Level 3 assets at the end of the second quarter were roughly 6% of our balance sheet.

We expect them to increase again we're still working through these numbers, but we expect them to increase to around 7% at the end of the third quarter.

Again, well, the great bulk of that increase is going to be from leverage loans.

One of the things I want to clarify is what's in these categories.

Again, there is confusion.

Remember, Level 1 assets are limited to actively traded, generally quoted instruments like listed equities on the New York Stock Exchange you pick up the newspaper and find the vote.

Virtually all derivatives by definition can't be Level 1.

Exchange traded option can be, but interest rate swaps which trade in very, very liquid markets where someone can easily get prices on it by definition are not Level 1 securities or Level 2 securities.

Most of our mortgage inventory, for example, because we have reasonable external pricing is Level 2.

Level 3 although it does include some derivatives, and it includes derivatives where at least one input is unobservable, it also included a lot of assets that people understand quite well, so leverage loans are in Level 3.

Real estate which is valued using discount cash flow and has been for 100 years is in Level 3, and corporate principle investments are in Level 3.

If you took those three categories of assets for us, it would make up the majority of our Level 3 assets, so I just want to clarify that a little bit.

Appreciate the extra color.

Thanks, David.

No problem.

Your next question will come from the line of Meredith Whitney with CIBC.

Good morning.

Three questions, please.

Okay, Meredith.

Hi.

I loved your conviction.

It was a very efficient call.

Thanks.

You're welcome.

The level of conviction you have with your marks, can you talk about that in terms of historical context and regression analysis you've done in different environments where you've taken similar marks and where that has ended up being relative to market value?

Sure.

Again, there has been a lot of confusion about this.

Marking our assets to market is in some ways the life blood of what we do.

We mark all of our assets to market, our traders mark our assets.

We have a controller's department that has around 1,000 people that is responsible for verifying the prices of all of the marks of all of the assets at Goldman Sachs, and we do that not just in market turmoil.

We do it every day, and we can't manage our risk if we don't know the value of our assets, and so our whole risk management process is predicated on being able to value the assets that you have, so we do it, we do it carefully.

It is reviewed by very, very senior people.

It is then reviewed by our auditors, and as I said, we have ongoing discussion with the SEC as our main regulators about the methodology for marking and for verifying our prices and not just this quarter but we have forever.

We continue to.

One of the things that we do in addition to marking and using all of the evidence that we have most of which is actual market trades is we back test, so we look at assets that we sell compared to where they were marked.

Obviously that couldn't change what you did, but informs us of whether or not we've wean doing it accurately over time, and over time what we find is never say all, but substantially all of the sales that we see are at or slightly above where we have assets marked.

Okay.

That's very helpful.

Thanks.

Getting back to one of Glen's question was Cogentrics, can you give us an ish-type of context which is , is it horizon-ish or Linden Power like in gain, or will we even notice

How about if I tell you it is profitable- ISH.

Oh the funny-ish enough.

That's as close as we're going to get.

Okay.

My last question is on distressed opportunities within the mortgage space and outside the mortgage space with larger debt markets, obviously issues are trading at significant discounts to where they're cash flowing.

Can you give a sense of the timing?

This is more of a market question, a timing of when a lot of funds that have been raised to invest in these distressed assets will really start to move so we will see stabilization of these markets?

That's a very good question, Meredith, because clearly there are distressed assets out there.

There are also assets that I would say are not distressed assets that are trading at distressed prices, so there is a lot of people looking on some of these assets like the leverage loans, one of the things that's going on is there are a lot of distressed buyers out there, but the holders don't believe they're distressed assets because they're very good assets.

That's one of the reasons there is a supply/demand imbalance because people have not yet come to an agreement on what price the sellers will sell out, where the buyers will actually buy.

I think it is getting closer, and I think we're getting to the point where at least in my view the buyers are becoming more realistic about price and therefore I think you will see some of the that log jam be broken, but I think it is going to happen over the next couple months.

Okay.

Thanks so much.

You're welcome.

(OPERATOR INSTRUCTIONS)

Your next question will come from the line of Mike Mayo with Deutsche Bank.

Good morning.

Good morning, Mike.

If you can fix my math here, you took $2.4 billion of write downs gross of fees on the leveraged loans, and should we use a denominator of the $42 billion period end which implies a 6% mark down?

Okay.

So let's just do the math first.

The write-downs were on the commitments.

It was also on funded loans which we had about 10 billion at the end of the quarter but also some that we had sold already, so you can't completely do that math, but I will tell you the bulk of the write-downs were on unfunded commitments, not all but the bulk.

The only thing I will tell you, Mike, is that that math, all we'll do is give you a mathematical answer to what the numerator over the denominator tells you.

It won't tell you much else.

We mark every single position individually.

They all have different characteristics.

Some will be marked at 98, some at 16 and some 94 and 88 and 86, and every one is completely different, and so I think doing the mathematical calculation might be interesting, but it won't tell you very much.

Are we in the ballpark we say the average write-down per dollar of leveraged loan is 5 to 6%.

The mathematical calculation is correct.

Yes, you would be correct.

That is a true statement if you said the averages, you just take the numerator over the dominator but it will not inform very much if you think we wrote everything down by 5%.

There is some we did and some we wrote down by less and some we wrote down by more.

Mathematically you're correct.

Separately on international, how did non-U.S.

do this quarter versus the second quarter?

Our international businesses were about 53% of our revenues during the quarter.

I will give you two comments there.

One just a note of caution that that number could easily bounce around within a few percent here or there.

It includes lots of transactions that are cross border transactions where you have a non-U.S.

buyer and a U.S.

seller or vice versa, a non-U.S.

company issuing equities in the U.S., we have global trading books, so as I said, the number could bounce around.

It is certainly does indicate the where the business is going which is that the U.S.

businesses are growing faster than the -- the non-U.S.

businesses are growing faster than the businesses within the U.S., so I think it does inform you by its direction more than by its precision.

In your opening comments you stressed I think you said something like international was strong but the portion is kind of similar.

That's why because it continues to grow.

The percentage of revenues outside the U.S.

continues to grow.

Go ahead, I am sorry.

I will let you finish.

I was going to say, for example, the $ 1.7 billion of losses in leveraged loans were substantially in the United States.

Okay.

And any one region you want to highlight?

China I know is kind of a long-term story, but that market has done well.

Any way to capitalize more aggressively there than you're already doing?

I think we are very, very focused on China.

We think we have a terrific team there.

We think we have a terrific franchise in China we think we were there ahead of most of our competitors, and we continue to be extremely focused and, it is certainly one of if not the biggest focus in the firm and highest growth areas we have.

And then last question, in mortgages you have been under represented and it helped you and also being short on mortgages obviously helped you.

How do you think about mortgage businesses?

Now the right time to expand in that business more aggressively also can you kind of size what kind of gain you might have made by short mortgages?

Mortgages is an important business for Goldman Sachs.

It always has been, but in the context of all of our other businesses, it is certainly smaller than some of our competitors.

We think that there are going to be opportunities in the mortgage business.

There is certainly going to be opportunities to buy distressed assets.

Timing is going to be very important, and it is something we are certainly looking at right now.

We'll continue to look at it and consider it over time, and sorry, the one thing we don't do is disclose individual business units, and so I can't tell you the actual profits of the shorts.

Can you say, was this one desk or a whole unit or does -- a whole asset class neighboring it up to the CEO?

It was across the capital structure of mortgages.

All right.

Thank you.

You're welcome.

At this time, I will turn the call back over to Mr.

Robinson.

Thanks very much for joining our call.

Please call Investor Relations with any further questions.

Ladies and gentlemen, this does conclude the Goldman Sachs third quarter 2007 earnings conference call.

You may now disconnect.