Bank of Montreal (BMO) Earnings Call Transcript & Summary

Well, good morning, ladies and gentlemen. Welcome to the second day of the Barclays Global Financial Services Conference. Very pleased to kick off today's sessions with Bank of Montreal, Tom Flynn, Chief Financial Officer. Tom, thank you very much for joining us.

Thank you.

Before Tom does some opening commentary, I just wanted to go through a quick administrative issue. If you have any questions for Tom during the presentation, please e-mail them to me, john.aiken@barclays.com, and we'll do our best to fit everything in the end. Tom, please, if you want to do an introductory commentary. Please, go ahead.

Okay. Thank you, John, and good morning, everyone. It's great to be here. I hope we are all together again next year in New York City. It's a great conference, and one that everyone looks forward to after Labor Day. I'll make a few comments, and then I look forward to the discussion that will follow. And I just want to highlight a couple of things off the top. The first is that the bank has had very good operating performance over the year-to-date and the last 12 months compared to our peers, and we think in absolute terms. So looking at our adjusted pre-provision pretax profit growth, we're up 8.4%, #2 of the Canadian bank group. Our operating leverage over the last 12 months is 3.1% compared to the group average of 0.5%, and we're #1 in that. And we have had a significant focus on expense management. That was a focus at the beginning of the year. And for the last 12 months, our expenses are up just 0.2% against an average for the Canadian group of 3.8%, and so we're #1 on that measure. So good operating performance. We feel good about that. We expect that to continue as we go into next year. Second point is we think the balance sheet is very strong. Our capital ratio has actually gone up, not down, through COVID. We're sitting at 11.6%. We were up in the third quarter that we just reported. And in addition, we built loan loss reserves and our liquidity is very strong. So we're feeling good about the balance sheet. Thirdly, we like our business mix. We're about 1/3 in the U.S. Our Canadian banking business is our biggest at about 45% of the total. And then the other 3 businesses that we've got are each around 20%. And we think that mix gives us a good diverse revenue stream, which makes our income more resilient through time. And last point I would make is that we are focused on operational resilience. We've done a great job to date. We feel good about our ability to continue to operate in this very strange environment that we're operating in. And as we start to look forward to next year, we feel good about our ability to continue to produce value for our shareholders. So with that, John, I'll hand it over to you.

Great. Thanks, Tom. Just wanted to hone in on the commentary on your third point, the resilience. As you pointed out, the bank has performed very well, much better than I think most would have anticipated as we were heading into the pandemic. But what -- can you give us some sense in terms of what the bank's response has been to COVID 19 and how this has changed your strategy? And what you may expect moving forward, if we assume that there's not going to be a significant second wave?

Yes, sure. So I guess a few things on that. And in terms of our response to COVID-19, I'll go back to the beginning. And there's no question that our response varied through time, basically, as we and others got a little more accustomed to dealing with the environment. So initial days, we had a very acute focus on operations. And like other companies, we went from having the vast majority of our employees working in the office or their regular place of work or employ to working at home. And through the first 2 or 3 weeks, we had a lot of work done to ensure that the operational resilience was where it needed to be. And I'll say, I've been hugely impressed, really, at the ability of our bank and, really, the economy generally to adjust to a new way of working. And I think we're all fortunate that we're dealing with this pandemic, if we had to deal with one, at a point where we've got the technology that allows us to keep the economy moving, working remotely in a way that wouldn't have existed 10 or 15 years ago. Secondly, we had a sharp initial focus, and that continues today on our customers and our community. We're here to help as a large, strong organization, and we've had a premium on workplace safety for our employees, helping people in a variety of ways adjust to the new environment and in our communities and helping our customers, we're giving back in a variety of ways. I'm happy to talk about that more later. And then as well, early days, we had a pretty significant bout of market volatility. Through that, we were focused on managing through the volatility, keeping our balance sheet strong, talking to government officials and regulators about what we were seeing and what the response might be. And happily, we've come in that -- through that period of the pandemic and really entered into a completely different world, where we are awash in liquidity, markets are strong and people worry about the disconnect that might exist between markets and the real world. But that was a significant issue for a point -- at a point in time. And then just lastly and maybe briefly, given the time. I wouldn't say that COVID has had a change or has resulted in a change in our fundamental strategy. We like our strategy. It served us well through time. We're going to continue to deliver on it. And that said, I would say that it's having a significant impact in terms of how we're going about doing that. And so one of the common expressions, I think, that exists around COVID is that it is an accelerant for change. And we all have a bigger appreciation of what's possible, given that we're working in ways that we really didn't imagine 6 months ago. And so we're focused on accelerating digital change, harnessing the more Agile ways that we've been working, looking to deliver performance improvements more quickly and putting a huge premium around all of that, which goes to pace of execution, while at the same time, keeping the fundamentals of our strategy intact.

Tom, you mentioned that even just in the last 6 months, there's been a lot of -- and I'm paraphrasing, but a lot of change, like different concerns, different focuses. Is there anything about the pandemic and either the industry's response, the government's response or customers' response that have particularly surprised you or something that you would not necessarily have expected if this was a theoretical constructing to come heading into it?

Yes. It's an interesting question. We do all sorts of stress testing and scenario planning. We had talked about this in, I would say, a light way but hadn't gone deep into it. And so sitting here 6 months or so later, I would say that I've been -- I don't know if surprised is quite the right word or impressed by the resilience of the banking sector, our bank and the economy generally, and this is back to some of the comments I made earlier about the ability of people to adapt, organizations to adapt and people to move on. And this conference is one little case in point. You're sitting where you're sitting. I'm sitting here, we're doing this virtually. My bet is your attendance is higher, not lower than the great attendance you've always had because it's easier for people to participate. And so we're all adapting and moving on. And I think that's something to take confidence from. It shows that we're resilient. Second point would be I was, I would say, pleasantly surprised by the pace and the size of the official sector's support for the economy, for individuals and for markets. And typically, in a significant stress, that form of support does exist. This is a pretty unique circumstance and none of us contributed to it. We're all in different ways kind of bystanders or victims of it, and recognizing that we're going to go through a bit of a valley and then come out on the other side. I think governments were very highly responsive in Canada, the U.S., globally to the stress and looking to put in place a bit of a safety net to help society really get through. And I'm not sure I would have anticipated the size of that or the speed with which it was implemented. And I think that was the right policy response, and it's helped us minimize the downturn, and that's not to trivialize the pain that exists in places, but we're clearly overall in a better place as a result of that. And the form of support will very as we go through time, and it will be calibrated in different ways, and that makes sense. But it was certainly significant, early days. And then one thing I wasn't really surprised by, and this will sound self-serving, and maybe it is a little bit, but it's true at the same time, is the resiliency of our business. And we talk all the time about the benefits of diversification. And we deeply believe in those benefits. And the simple point is that for us, we've got 4 businesses that we report on externally. One is about 40%, and then we've got 3 by 20%. And then those 4 businesses, we further subdivide as we look at our performance internally into about 30 businesses. And the truth is that there's a decent amount of variation underneath the surface across those businesses. So at any point in time, some are doing really well, some aren't doing as well. But the consolidated revenue stream and income stream that results is much more stable because you've got a diversification benefit. And there's a diversification benefit, but there are ties that bind. We've got common infrastructure, common base, common customer bases. And so the collection makes sense, but it produces a far more robust revenue stream than we think maybe we get credit for as an organization. And so our pretax preprovision income is up about 8% over the last 12 months. That's a good number in a pretty crazy world, and it reflects the strength of that diversified business mix, we think.

So Tom, just to give you the data point, and thank you for the plug, our attendance is up year-over-year.

Okay. That's great.

You're quite right on that point. In terms of I, being a sell-side analyst, also have to -- your performance being actually fantastic, but I also do have to view the glass as half full. When you look out to 2021, what do you see as the biggest risk in terms of either not necessarily because I don't think anyone is subscribing to the theory that there's going to be a hole punched in your balance sheet. But in terms of the momentum that you've built, what could slow that down? Or what are the things that you're concentrating on? And on the flip side, are there any opportunities that you see that could actually help you accelerate or maintain your growth?

Okay. So there's a lot in that question. On the risk side for 2021, I think it's kind of all of the obvious ones. So maybe we'll have a really big second wave or spike in what are just generally choppy seas. And that possibility exists. We could have disappointment on a vaccine. None of us know. And so there's inherent uncertainty there. On that, I think we've all learned a lot about how to live with the virus. And so the potential for setbacks is clearly there as we go into the fall and kids are back at school in most places. And so we're likely to see some uptick in the virus. But I think there's lots of evidence that says [ when ] that occurs people course-correct from a behavior's perspective and things settle down. So we're not too concerned about that. With interest rates lower, one of, I would say, more of the realities we're looking at as opposed to the risk is just that revenue growth in parts of our businesses will be lower because of the impact of lower rates. And that's true for banks as a general matter. We have a pretty good noninterest revenue to interest income mix in our revenue stream. And so we're probably a little underexposed to that risk compared to the average bank, but low rates will be a bit of a headwind from a revenue perspective. And so we're expecting low revenue growth next year given the belief that loan growth is likely to be lower than it's been over the last few years, given a weaker economic environment and then as well the impact of lower rates. And to offset that, we'll be focused on having a very low rate and likely a negative rate of expense growth next year. And for the last 12 months, our expense growth is 0.2% for the year-to-date in constant currency, so ignoring the strengthening of the U.S. dollar, our expense growth is a little bit negative. And so we've been delivering low expense growth. We went into this year with the expectation that that would be an important thing to do, and we have delivered. And into next year, we'll be looking to do more of the same, given the uncertain environment and the headwinds that we face. And then on the upside, 2 come to mind. One is the capital markets have been great. Recently, we've seen a lot of financing, recently an uptick in M&A. And so capital market activity can be a bit of a counterbalancing factor to an environment that's got some volatility to it. And we've got positive exposure to that in our business. And if the environment is rockier, capital markets might have a little bit of chop, early days, but then they're likely to do well as businesses. And then last point is there's some possibility we're going to come out of this even more quickly and in better shape than people expect, and time will tell how things play out. But you look at the response to recovery in different parts of the world, and in North America, I would say we're relatively locked down in terms of the percentage of people who are returning to work as opposed to what we're seeing in parts of Europe and parts of Asia. And there are some conversations taking place around whether we need to be as locked down as we are. And that's not to trivialize the need to practice good hygiene as it relates to containing the risk of the virus, but there's reasonable evidence that you can do that in different ways. And so I do think there's a scenario where people act responsibly, we're wearing masks, we're washing hands, we're social distancing. And more people are in circulation and with that, some of the parts of the economy that are still hard hit are able to recover a little more quickly than they currently are expecting to.

Tom, one of the strengths that you've alluded to a couple times with Bank of Montreal has been on the cost and the efficiency that you teased out. Can you talk about how the drop in discretionary spend because the pandemic has helped that? And in the scenario that you're talking about, where we may actually start to see better performance economically than we've been dealing with, how does that impact your decision in terms of expenses and particularly balancing spend on technology?

Yes. So we went into this year with a low expense plan, as I talked about earlier. And our guidance, Q4 of last year was to have expense growth of 2% or better. And internally, we were focused on, in particular, the "or better" part of that. So call it, 1%, give or take. We've delivered constant currency negative about 1%, I think it is, for the year-to-date. And so we were in a good place relative to, I would say, the need for low expense growth given the environment. Dialing back some discretionary expenses like travel as the classic example, has been helpful in offsetting COVID expenses, as you mentioned. And I won't get these numbers exactly right, but I think are COVID-related expenses. So additional cleaning supplies and things like that -- it's more than cleaning, but that's a simple example to bring what I'm talking about to mind -- in the last quarter were something like $40 million, $45 million. And the dial back in discretionary expenses like travel, entertainment, bit of marketing was $70 million or $75 million. So the net number was helpful, but not really the story. And the underlying story is that we're managing the expenses pretty actively. Our big expense category is around people, which are our biggest expense, are down. We are continuing to invest in technology, but we think we can do what we need to do with a lower rate of growth than we've had over the last 5 years. And if you go back over the last -- I think it's 4 years, our tech expense has been growing at a double-digit rate, very significant spend. We and others were doing similar things, so delivering lots of improvements to our foundation and better applications for our customers. And with the benefit of a really active spend program over an extended period of time, we think we're now able to deliver what we need to deliver, but with a lower rate of growth in tech spend. And so that was in our plans for the current year, sort of more of a single-digit rate of growth, and that will be our plan for next year. And just a little tangent maybe on the digital acceleration point, one of the real takeaways from the pandemic is that the digital world is kind of here. And so we've all been doing lots of work on that front. We've seen our digital take-up from our customer base continue to go up. We've seen our virtual businesses like online brokerage have like outstanding performance as people are more active on those platforms. And so we are investing in things digital, and we do see COVID as a big accelerant of that trend. And that's a very positive thing from a cost structure perspective because it is far less expensive for banks to deliver things digitally than in person. And so we're investing in that trend, we think that continues, and it's a big area of focus for us. And then in the scenario, where the world is a better place and revenue growth is higher and expense growth, therefore, has the ability to be higher, we'll ramp up spending with frontline people, we'll ramp it up a bit on the tech side. And our belief is that you're better off going in with an assumption that you want to run expenses at a somewhat lower rate than maybe you'll be able to on the theory that it is so much easier to ramp-up than to ramp down. And when you ramp down expenses, you do 2 things. You take money out of budgets and you stop doing things that you were planning on doing. But you also sap energy from the organization because you had people who were excited about doing certain things, pumped up about their big new project, and that goes from being a go to not being a go. And so we think you're better to start with a low rate of expense growth and then let capacity out through the year as the environment permits and generate momentum off of that. And again, we've done that this year. Our expense growth is #1 of the Canadian group. It's negative for the year-to-date, it's 0.2% for the last 12 months. And with that, our pre-provision pretax income is strong at 8% for the last 12 months.