Broadridge Financial Solutions, Inc. (BR) Earnings Call Transcript & Summary

All right. We will go ahead and get started. Thank you, everybody, for joining us. I'm Patrick O'Shaughnessy. I cover capital markets here for Raymond James. Up next, we have Broadridge, and on their behalf presenting, we have CEO, Tim Gokey. Tim is going to give a little bit of a presentation, and then we'll move into Q&A from there. So with that, I'll turn it over to Tim.

I am live. Okay. Great. Thanks, everyone, for coming. This is always a great conference, and I'm sure we'll enjoy the next 2 weeks together in this conference room, answering any questions at great length, so. Before we do the question and the Q&A, I'm just going to talk for a few minutes, a brief overview of Broadridge, talk a little bit about first half and our outlook for the second half, and then I just finish on why I remain so optimistic about our growth as we look forward over any multiyear period. So first of all, just a brief overview of Broadridge and for those of you that are familiar with the story, hopefully, you will recognize this. We are a -- depending on the day, we'll call it today a $12 billion market cap global fintech that is really focused on industry solutions for -- in financial services, in capital markets, wealth management and asset management. And we view it as something with a very large multi-decade market opportunity in front of us. If you look at the technology spend -- ops and technology spend in those areas, it's well in excess of $100 billion. If you look at just the things that we do, the market for those things is on the order of $40 billion, relative to our $3 billion of fee revenues. So there's a lot of runway for us. We have 3 primary growth platforms. First is governance; second, capital markets; third, wealth and investment management. And we have strong market positions in each of those 3 areas with -- but with a lot of growth opportunity. In governance, we are really the core infrastructure behind the voting for boards of directors' elections in North America and around the globe. We do about -- we do that for virtually every broker-dealer, and that means we end up processing about 90% of the votes in North America, about 50% globally. That gives us connectivity to every broker-dealer, every fund complex, every public company and 140 million individual and institutional investors. And really, that governance network allows us to provide a lot of other solutions to that client set, and there's a whole set of regulatory communications that we also provide, but a lot of other solutions as well, and a very privileged position because we end up with those organizations' most critical client data. We -- in order to do that activity, we have to know who the client is, what they have and where they live. I'm going to move that down a little further. There you go. So very important. In capital markets, what we do there is primarily provide technology on a software-as-a-service basis. We provide really the core clearance and settlement books and records. So really think of it as almost the ERP system that enables our clients to connect to markets and track their activity, and we have strong market positions there. As an example, in fixed income in North America, 18 of the 23 primary dealers are on our technology platform. We clear and settle $5 trillion a day across 80 countries. So very ubiquitous in the -- on the technology space. And then in wealth management, that's an area where we also have a lot of assets, 20 of the top 20 broker-dealers are our clients for something, but we view that as a big opportunity because there's no real scale player serving the wealth management industry today. Now our growth strategy is pretty simple. We have a natural organic growth in our business, driven really by the number of positions that investors hold. And then on top of that natural organic growth, we have the opportunity to sell solutions that are part of our suite, but we're not yet selling to a client, so cross-selling, and we have the opportunity to bring on new solutions. And we're doing that across each of governance, capital markets and wealth management. And just some examples, so if you think about what we're doing in governance, we're right now building really the next-generation of regulatory communications. How do we make those communications more engaging, more effective, but at lower total cost. And even this year, we're rolling out -- with fairly basic versions, but we're rolling out sort of new versions of what are the templates look like that people get when they get e-delivery and a range of other investments as well. In capital markets, we are, as you've heard us talk about this, taking our technology platforms and globalizing those. There's a lot of opportunity to do what we do outside of the United States and to take what has been typically purchased by asset class, by region and make that into a global multi-asset class platform. We're also investing in fixed income to take the data that flows through a platform, add AI onto it and bring that back to broker-dealers to help them create more liquidity in credit markets for their clients. And in wealth, we're very engaged, as you will have heard, with UBS in terms of building out our front-to-back platform for the wealth management industry. From a financial perspective, how all that plays out is we have a pretty simple growth algorithm, which is, we look to create 5% to 7% organic growth in our recurring revenue. We look to do 1 to 2 points of M&A, and this is really over any multiyear period, to drive recurring revenue at 7% to 9%. With modest operating leverage, that would enable us to drive adjusted operating income at 8% to 10%. With share buybacks, which we do regularly, that would allow us to drive EPS at 9% to 11%. And with, call it, a 2% dividend, that would allow us to drive total shareholder return at, call it, 11% to 13% over any multiyear period. And that is really with low volatility, with a nice dividend, with investment grade and with high competitive differentiation. So we're looking to just sort of drive the 5-iron down the middle of the fairway and just keep doing that on a very repeatable basis over long periods. And you'll hear us refer a lot to our 3-year financial objectives. So we tend to have an Investor Day every 3 years. We last had one in December '17, and we put forward some 3-year objectives. We'll be reporting on that in June, our fiscal year-end, and based on the guidance that we've already given, we expect to come in at the high end of the 3 years for earnings. That will be the second 3-year period that we've come in on those objectives. And then we'll have an Investor Day in December and talk about objectives over the next 3 years. But because of very stable nature of the business that we do and as high recurring view because of the complex decisions it takes to onboard a new client, we view those long periods as really the relevant way to look at our business. So with that as a brief overview of who we are, our growth strategy, how we think about things, let me talk just a little bit about the first half of the year and our outlook for the second half. So in that growth algorithm of looking for 5% to 7% organic growth, and who's been following us will keenly have observed that we didn't hit that in the first half. We were closer to 2%. And there were a number of factors about that, I'm sure we'll get into that with Patrick. But what we see happening over and just on top of that, we had -- so there's this recurring piece that is pretty steady. There's also an event piece that's about, call it, 6% to 7% of our revenue that is attractive business, it grows over time, but it fluctuates based on the events that are happening in a given year. In the past few years, one of the big drivers has been large fund complexes going out for boards of directors’ elections. The 5 biggest funds have each gone out in the last -- over the last few years, they've gone out. We knew that wouldn't be taking place this year. So we expected that to be lower this year. It was even lower than we expected and that did lead to a decline in EPS in the first half. That is largely a timing factor. It doesn't really affect our overall forecast. Well, it does affect our overall forecast for the year, but the decline in the first half is -- we've factored that into our guidance for the full year. So looking forward, it has given a lots of questions to us about what we expect to see in the second half. The guidance we gave is that we would be at the low end of our guidance range for earnings. We do see organic growth coming back in the second half, modestly increase in the third quarter. We expect to finish the fourth quarter at the run rate -- sort of a more typical 5% to 7% run rate. And then within that, questions around how is that going to split between the third quarter and the fourth quarter, and we just provided some additional guidance this morning on our investor presentation, which is we expect about, given that break, 25% of earnings first half, 75% second half. Of that 75%, we're expecting more in the fourth quarter than in the third quarter. So we expect to see about 33% of our total earnings for the year in the third quarter, and that is not any new information from what we knew on January 31. That was all part of the forecast that we outlined in our conference call, but we didn't give that level of detail. And we just had some questions on that in the meantime, so we thought it was good to clarify that so that when we get to our next investor call, we're sort of talking about real issues and driving things forward. So that is that update. With that, I just want to spend a minute on the going forward. So the things that make me so optimistic about the future is, first of all, what we do is really embedded in the critical infrastructure of financial services players across capital markets, wealth management and asset management. And the second piece of that is, we are really at the beginning of, again, what I would call, a multi-decade trend towards neutralization of those critical functions that are -- need to be done right, are less differentiating and it's hard for any one firm to invest enough to really do it well. And that is something we believe is a multi-decade trend, and we're just in the early innings of that. And the third piece is that we have a demonstrated track record of doing just that, of extending our solutions, of tuck-in M&A and other things that really allowed us to have a very nicely sustained growth track record. So those are the broad factors. I think dipping into a couple things that are specific drivers on the M&A front. We've been a little heavier on that this year, but we would expect over any multiyear period to have 1 to 2 points of our growth from M&A, and that is something where we think it's a real ongoing part of our business model because in fintech, there are always new things happening, always teams rolling out of an asset manager or a bank, creating something new, getting it to a certain size. And as we look across our ecosystem and see where are the things that would be good for our clients that are not currently part of what we do and bring those in, industrialize them, make them part of our master services agreement with our clients, put them to our sales force, we've continually been able to show growing their revenue at a faster pace, creating more value for our clients. And that's an important part of the innovation that we've done over time. So a very repeatable part of our model. And then what I'd say also is, in the past few years, as we've become more and more of a technology company, you're seeing us do more innovation and self-build across, what we call, the ABCDs of innovation, AI, blockchain, cloud and digital. And we have solutions across each of governance, capital markets and wealth management, where we're building new solutions ourselves, usually in conjunction with the client. And that aspect of things is something that we have a lot of things coming online over the next 18 months that I'm pretty excited about. So I'm going to end it there and come over to the questions, but we really like the strong market positions we have, the strong client relationships we have, the beginning of a megatrend around neutralization and just very optimistic about the future. So I'll leave it with that.

Great. Thank you very much, Tim. So you talked about how you are on pace to hit your 3-year goal of 5% to 7% organic recurring revenue growth, but then you also mentioned how, for this fiscal year, you're looking more like 3% to 4%. And I think the key question a lot of people are wondering is, is this the exception and you guys should return back to that 5% to 7% growth rate going forward? Or has something structurally changed with the business that might reduce the outlook going forward?

Absolutely. So first of all, it's a great question because it does highlight that growth algorithm that I talked about, and it highlights the 3-year objective that I talked about. And I think both of those are pretty unique parts of what we try to do. And then with the age-old caveat that past performance is no predictor of future performance, we'd love to talk about that. So we don't see -- and so we'll next provide 3-year guidance in December, and so not to prejudge what that is, but just to talk about have we seen any sort of structural changes. And the simple answer to that is no. When we look at the things that were -- that affected us in the first half, there's a category of things that are just market activity that was a little bit quieter. There's a category of things that were year-on-year comparisons to the previous year where we had some strong activity. There's a category of things where there's some revenue that we expected to grow in T&M that didn't really because it got crowded out because of client onboarding. So really -- which is a good problem to have in some sense. So we were disappointed in the first half, but we don't see anything about it that is -- if you roll the clock forward a year, should be different.

Now one thing that's maybe different about Broadridge today as opposed to a few years ago was, you do have a much larger customer communications business by virtue of a pretty major acquisition that you did. And that business has had some headwinds that you've talked about on your calls, and I think it's been kind of well laid out. But as you get past those headwinds, what is your outlook for that business? Can it get up to the sort of growth rate of the rest of Broadridge and really become a real contributor to your growth going forward?

Yes, sure. So look, the vision here is to help clients communicate with their clients more effectively, more engagingly and at lower cost. And that is a real problem for our clients. And I talked about that network of broker-dealers, mutual funds and others that we serve, this is a real need that they have. And as you know, but just for the audience, when we acquired that business 3 years ago, one of its large clients had already been acquired before we undertook our transaction. And so we knew at the time of acquisition that, that client would be leaving. That has taken longer to happen. And so the good news is we made more money and that we didn't pay for it, and we made more money in the meantime, but we still have -- still been talking about it. So the good news is that, that off-boarding is finished. And so now we're in a little bit of a more go-forward space. So the things that we said at the time we did the acquisition in terms of our objectives were near term to grow earnings through synergies, and that has happened very nicely. So if you look at that business from an earnings perspective, it has contributed nicely to Broadridge, has not been below. So it hasn't from a revenue standpoint, but from an earnings perspective, it's been right there with the rest of Broadridge. In the medium term, to be a point of consolidation for major players that have in-house operations and consolidate that and then longer term, convert it to digital. That second piece, we haven't had any major consolidations yet. We have had very good ongoing sales, more than enough to fuel nice growth. Just the onboarding of the sales has been a bit slower. And then the digital strategy has -- we've had nice growth, call it, very high single digits, but not transformative growth on the digital side. And so as we look forward now, that business, I think, what we're looking forward to do is to contribute financially at a better level than it has, not necessarily from an earnings perspective, but from a growth perspective. And to contribute strategically, which is really around those client relations we talked about and specifically around that conversion to digital. And we didn't bring it in, in order to be a large print player. We brought it in to be a large digital player, and we need to see the evidence of that transformation was taking place.

How patient can you be waiting for the evidence to materialize?

Well, if you look at the cash-on-cash returns of that business, I think anyone here that, if they were to own it personally, they'd be very happy. And so that makes you a lot more patient.

Okay. So one area that has been growing very nicely within your investor communications segment is your recurring regulatory communications business, the equity proxies, the fund interims. Revenue in this area grew 12% in fiscal 2019. It's probably going to grow high single digits in fiscal 2020. How sustainable do you see the factors that are driving the growth in this? And then I think probably relevant to what's going on in the markets in the last week or so, what -- how does that business typically hold up in a sustained market downturn?

Sure. So first of all, we have had very nice growth the past couple of years in that business, and this is -- talk about core -- when we talk about core regulatory communications, we're referring to proxy activity, that's the election of boards of directors. We're referring to distribution of materials to fundholders, annual reports, semi-annual reports, prospectuses. And those businesses are driven largely by position growth. So the number of positions -- total number of positions that investors have, so if you have one share of IBM, it's still one position. If you have 100 shares, it's one position. So we've seen over long periods, position growth be in the mid-single digits for equities and in the high single digits for funds and ETFs. It's been above that for the past few years. And some of the tailwinds there have really been the growth of managed accounts, which has been a real growth area within broker-dealers and that growth positions because, let's say, you had 6 positions, and I convince you to go into a managed account, and now you'll probably -- that 6 positions [indiscernible] in 20 positions. And so that has been a tailwind for us. I think that is a trend that we should expect to see. We're at the beginning innings of that, not the end innings. So that will go on for quite a while. So we do like that business, and we have good long-term growth. I'm going to come back to sort of that mid-single digits and a little bit higher for that on the fund side. When you look at the downside scenarios of those, it's not impervious to downside. When in the sort of depth of the global financial crisis, I think it went to blended to somewhere between 0 and 1 and blended from funds and equities. That was a pretty deep crisis. And then it bumped along for a few years in low single digits. So hopefully, what we're about to experience won't be at that depth. I do think that it's pretty nice to have a business when your downside is still positive. And so it's one of the things that we view our business as being not unaffected, but much more stable than a lot of businesses out there.

Got you. And then you spoke about the event-driven revenues and a weakness this year and your guidance for fiscal 2020 is for event-driven to be down 20% to 30%. Is that just kind of a cyclical low, the natural low of mutual funds seen in other proxies and we just don't have a lot of event-driven activity in the equity side of things? Or is there something else going on with that?

Yes. So again, within our recurring revenue -- within our fee revenue, excuse me, 93% of it is recurring, goes on every year. There is 6% to 7% that is event-driven, i.e., it's related to things that happen right now. And there are 2 main things that happen. One is on the fund side, elections for boards of directors for fund companies. They don't need to go every year like public companies do. They tend to go really based on needs around how many independent directors they have left that weren't appointed, that tends to happen every 5 to 7 years. And then the other side is the equity side, which is more around contest and controversial things like separation of Chairman and CEO. So the fund side, if you look at that, there are 5 fund complexes that they have an enormous number of positions, they went over the last 3 years. They all went. So we were expecting this year to be a lower year anyway and probably be at a more restrained level for the next few years before that comes back. And then on the equity side, it was a quiet first half, but it's really driven by activism. And last I checked, activism is still a growth asset class. There's still a lot of money pouring into that. And so we don't see any structural change. When you think about this revenue, again, when it happens, it's driven by the number of positions. And so it typically comes back sort of bigger by the compounding of positions than it was sort of in the last cycle. But these cycles are 5- to 10-year cycles.

Got you. So you're probably hoping for a Twitter board battle then?

Something like that.

So switching gears to your GTO segment, obviously, an area where you've seen really strong sales the past couple of years. Maybe it hasn't translated into revenue as fast as some people would have anticipated. What are you seeing right now in the GTO front? And what makes you -- what gives you confidence in this thesis of more and more broker-dealers are going to outsource their noncore functionality to Broadridge?

Yes. So first of all, I'm really pleased with our GTO business, which had 14% growth in the first half. And on the organic side, it is -- it was a little slower just because of, as I said, these complex onboarding. One of the things that we have been doing sort of bigger, meatier, more complex projects for our clients, which is exciting and is a positive. And these projects can range from a few months, but in many cases, can be a couple of years. It's like in a large ERP platform, and that's make it -- the nice thing is, on the back end, that makes it very sticky. And it really provides great longevity to that business. So if we look at what gives us confidence in the continued growth, obviously, we have a huge backlog of things to onboard already. We know what our pipeline of additional conversations is. So really, from a -- if you think about the revenue from sales part of that formula, it's pretty strong. When we look at the internal growth part of the formula, that's where we were a little bit weaker in the first half. And some of that is just comparison to things that were happening last year versus this year. So when we look for the rest of the year, we see that evolving out to better organic growth rates and to really high teens from an overall growth rate.

Got you. And those volume -- or headwinds might turn in tailwinds this quarter?

There's definitely some additional volume happening out there.

Yes. And then another question on GTO. I think one of the risks to the segment is client consolidation. And I think you have said in the past that E*TRADE is a client of yours. E*TRADE is now slated to be acquired by Morgan Stanley. How do you look at the potential risk or the potential opportunity for Broadridge?

Yes. So look, client consolidation is a great topic. And before we even get into -- start with asset management, near and dear to everyone in this room, and we had the Legg Mason-Franklin transaction just a few weeks ago. In asset -- and there will be consolidation in asset management over time. And there, just so that people can sort of register this, the main things we do for asset managers are around regulatory communications, which are really around the number of positions that exist. And therefore, when 2 asset managers come together, it typically doesn't have much impact on us. So if you look at Invesco-Oppenheimer, very little impact on us. Now to turn it over to the broker-dealer side, again, there are a couple of components inside that. So on the investor communications side, which is the biggest part of the business, again that's based on the number of positions. So turning to Morgan Stanley and E*TRADE, both very important clients for us on the investor communications side, and we see very little impact there. On the technology side, E*TRADE is a client, Morgan Stanley is not. And whatever happens here is going to happen over time. So it will be a year before they close, then it's a 3-year integration plan, so it will be some time before anything happens. The things that could happen is they choose their own separate platforms, and that is a possibility because they're pretty different businesses. We could lose E*TRADE. If we do, I think, over any multiyear period, it's not material to us. And if we think about the opportunity, which is the way I think about it, is Morgan Stanley is a -- I'm not going to say it's integrated platform, but some people are saying that. And it's -- but it's the former Dean Witter platform, it has been around for a long time. And so there's a real opportunity for them to potentially to modernize by coming on. I know coming out of the global financial crisis, there were 9 major consolidation events and 7 of those ended up being pickups for Broadridge.

Great. I'll turn quickly to the audience to see if there's any questions out here. No. So maybe one last one from me before we wrap up then. So going back to your 3-year growth objectives, you had a goal of 50 basis points per year in operating margin expansion. You're actually on pace to do almost twice that, probably 90 basis points per year since fiscal 2017. And that's despite the softer event-driven revenue that you've spoken to. Has the business model maybe become more scalable over time?

Well, we are proud of what we've accomplished on margin. I think it's probably due to strong CEO leadership, they were able to make that happen. But there are a few things that make this really sustainable, and that's the point that I think is really at the root of your question. So there are mix changes. So we have distribution revenue that comes as a pass-through. And as we manage that down and manage our way out of print and more towards digital, that creates a margin pickup. There are business mix changes inside our businesses where higher-margin businesses are growing faster, and that creates a pickup. So even -- despite the good leadership, even before we get out of bed in the morning, there's some nice margin pickup there. So that piece is very sustainable. Then there is some good operating leverage because when you're operating a technology platform, costs a lot to get it up and get it going and as new revenue comes on, it does come in at better incremental margins. And then we do ongoing work, an example would be the private cloud agreement that we just signed with IBM, where that will provide us better technology experience, better outcomes for our clients, better cost for us and ability to reinvest at the same time. So all those factors give us confidence that, that margin growth is something that's a sustainable part of our growth algorithm. I think I'm not going to commit to anything more than the 50 basis points right here, but it's certainly been an area that we've been successful at.

All right. Terrific. With that, we will wrap it up. But thank you very much, Tim, and we'll have a breakout session downstairs.

Great. Thank you.