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

Welcome back to Evercore ISI's 6th Annual Payments and FinTech Innovators Forum. I'm David Togut, payments processors and IT services research analyst at Evercore ISI. Delighted to welcome Edmund Reese, Chief Financial Officer of Broadridge Financial Solutions. Thanks so much for being with us here today, Edmund.

Thanks for having me. I'm excited to be here.

So for investors who are new to Broadridge, please start with a brief overview of your growth models for Wealth, Capital Markets and Governance.

Thank you again, David, and good morning, everyone. I'd like to just begin with a conversation with a brief overview of Broadridge as you just asked, David, and if you let me start with that. For those of you who are less familiar with us, Broadridge is a $17 billion market cap global fintech leader. We provide critical technology solutions to banks, to wealth managers, capital markets and other financial institutions that power trading, investor communications and corporate governance. For example, if you look at our ICS business, we manage more than 2 billion critical shareholder communications per year, for mutual funds and equity shareholders. We [indiscernible] over $9 trillion in equity and fixed income trades per day, representing 19 of the 24 primary U.S. fixed-income dealers, and we process equities for 11 of the top 15 global investment banks. [indiscernible] across all 3 of our businesses is $52 billion. That's growing at mid-single digits with long-term growth driven by the democratization of investing, by digitization and the rapid adoption of new technologies like AI, blockchain and the cloud. Broadridge is attacking that addressable market across all 3 franchises, our Governance, our Capital Markets and Wealth & Investment business. I'll touch briefly on each of these, starting with the largest, our Governance or ICS business, with about $2 billion of fiscal '21 recurring revenues and growing about 7% annually since fiscal year 2017. The core business is our role in providing critical regulatory communications, including proxies and mutual fund reports in the network that connects hundreds of broker-dealers over 9,000 public companies, over 30,000 funds in ETFs with institutional and retail shareholders. Our growth is being propelled by increasing investor participation in capital markets. That's driven high single-digit increases in the number of equity and fund holdings over the last decade, including double-digit growth in fiscal year '21. That role in turn gives us a strong relationship with the funds and with public companies, and we're extending our suite of data-driven solutions for funds and increasing the value we provide to corporate issuers, as well as expanding our communications business. Our Capital Markets and Wealth & Investment Management businesses are reported in our GTO segment. Capital Markets for the year '21 revenues of $661 million, and that has an average of 8% growth since 2017. In Capital Markets, we're driving a trading innovation across the front office, enabling our clients to simplify and improve their global post-trade technology, providing strong enterprise and data component solutions, and building new network-enabled solutions using AI, digital ledger and other innovative technologies. Fiscal '21 acquisition of Itiviti positions us to extend our capabilities across the entire trade life cycle by creating a modular suite of solutions, covering pre-trade order execution and management solutions and linking to the back office post-trade processing. Finally, our Wealth & Investment Management franchise reported revenues of $525 million in fiscal '21. That business has an average growth of about 13% over the last 4 years. In Wealth, we're extending our services around our core back-office capabilities. We're growing our suite of component solutions and we're building a modular platform that will link our individual capabilities across a modern technology architecture. [indiscernible] plan is the Broadridge Wealth platform that we're building with [indiscernible] of our clients. We continue to make progress in the development of that platform, including the rollout of our desktop application over the next few weeks, and we are on track for revenue recognition in mid-calendar 2023. The strong performance across all 3 of our franchises emphasizes the strength of our financial model, and our ability to drive steady and consistent earnings per share growth. The model starts with sustainable recurring revenue, benefiting from new sales, strong underlying volume growth trends and high revenue retention. Over the last 4 years, Broadridge has generated average annual recurring revenue growth of 6%. On top of that organic growth, Broadridge has added 1 to 2 points additional growth from acquisitions. The second component of our model is consistent investment, and we are committed to making investments to drive both near- and long-term growth. A few examples of the investments include enhancements to our virtual shareholder meeting capabilities and our efforts to expand our governance platform in Europe, driving revenue growth in the near term with longer-term investments that include our Wealth platform, our digitization investments and our LTX fixed income trading platform. You should expect us to increase our investment spend in periods of strong performance as we are doing this year, given the stronger-than-expected position growth and event-driven revenues. And that's a great transition to the third element of our financial model, margin expansion. Broadridge has a proven track record of expanding margins. Since 2017, we've grown our adjusted operating income margin by an average of 75 basis points a year. And as of our last earnings report, we're on track to drive approximately this 50 basis points in fiscal year '22. Balanced capital allocation is the last element in our financial model. We have a long history of putting our free cash flow and our capital to work to grow our dividend in line with earnings growth, to fund organic investments and make targeted acquisitions and periodically returning capital via share repurchases, all while maintaining an investment-grade credit rating. [indiscernible] of our strong franchise businesses and our simple financial model has enabled Broadridge to deliver sustainable revenue growth, and steady and consistent earnings growth and set multiyear growth objectives. We're in the third cycle of these multiyear growth objectives. And for fiscal year '20 to fiscal year '23, our objectives include: 7% to 9% recurring revenue growth, including 5% to 7% organic growth; adjusted operating income margin expansion of 50 basis points per year; and adjusted earnings per share growth of 8% to 12%. Historical performance has been in line with these objectives and has driven strong top quartile total shareholder returns. We're now about halfway through this current 3-year period, and we said on our last earnings call that we are on track to achieve the higher end of our revenue and adjusted EPS growth objectives. And finally, David, a brief reminder of our most recent second quarter results, delivered another strong quarter, organic growth from new sales, strong underlying volume trends and our progress integrating activity helped us deliver 19% recurring revenue growth and 12% adjusted EPS growth, in line with both our fiscal '22 guidance and our 3-year objectives. So David, thank you for your patience on letting me get through that introduction and let's get into your questions.

Thanks for that, Edmund. So you closed your opening remarks with a discussion of the December 2021 quarter earnings. Revenue growth significantly exceeded our expectations, but earnings was a little short, given pressure on margins. And most of the incoming investor questions we've had since the December quarter really focus on the outlook for margins. So for the balance of fiscal 2022, please walk us through the headwinds and tailwinds to margins, and how does that set you up exiting FY '22 for fiscal 2023?

Yes. [indiscernible] David, is one that I've had from many investors. When I think about margins, I think about 3 items on there. And I think only 1 of those 3 items really matters here. Those 3 items are distribution revenue that impact from inflation on our business and then the increased investments that we're making. The first 2, I think, are mathematical or being mitigated. The third is what matters here. On distribution revenue, we have increases from postal rate increases. We have increases in distribution expense associated with our high growth in customer communications that's going to have distribution revenue growing at double-digit rates. And that we said would have about a 40 to 50 basis points on our full year margin expansion. At those levels of growth, it's just mathematical that it has that impact. This has no impact to our operating income. What it does is have revenue completely offset by expense. So changes to margin, but no impact, to the operating income. So that to me is a technical point. The second item that is impacting the margin, putting pressure on it, is the impact of inflation. We're not immune, very much like other companies. We have seen some pressure components of our businesses. We passed through many of our communications costs. So the postal rates that I just talked about, they come in, we pass those through. Many of our contracts have clauses in them that the increased revenue along with inflation-related metrics like CPI, it takes a little time for that to come in, but that helps mitigate inflation. Where we've seen the impact is in our labor expense. And on that, we spent -- to be able to attract engineers, to be able to retain them, to be able to attract and retain the sales force, we've seen some pressure on the labor expense. But I feel good that the natural operating leverage in our business allows us to offset that. So the key component that matters here, David, is really our increased investments. And it is going to continue to be a part of our financial model that when we see higher-than-expected recurring revenue growth, when we see event-driven revenue, that we put those towards investments. And if you think about our growth in the first half, the 17% recurring revenue growth in the first half, many of the investments that we've been making over the last few quarters contribute to that. The regulatory business has had double-digit growth. We've been investing in our digital platforms. We've been investing in the European shareholder disclosure hub that we have as SRD drives a lot of regulations. That is impacting our revenue growth that we've shown. Those things are high ROI, and you can see the impact in revenue today. We also make investments that I would say are focused on retention. Part of our growth model is to retain over 90 -- over the last 6 years, David, you've seen that we've retained over 90% of our clients, 98% of our clients. You have to increase the capabilities to be able to do that. I've talked before about bringing on over 300 virtual shareholder meetings in 2019, that was 2,400 in 2022 -- I'm sorry, in 2021. that's over 80% of the S&P 100. And in order to have retention of that, of over 90%, we need to increase -- enhance the capability. How do you ask a question, how does the management team engage with you. And finally, we got to continue to invest in the infrastructure. As software comes to end of life, you need to be able to make those investments to be able to keep that technology updated. So I step back and I think about 11% to 15% earnings growth, and I feel very, very good about that, particularly relative to our 3-year objectives and doing that while delivering 50 basis points of margin expansion, in line with the history that I talked about in my opening remarks, a good place to be in. So we feel good with that, David.

Thanks for that, Edmund. Looking at Broadridge's key December 2021 quarter metrics, especially 20% equity position growth, the outlook for the critical spring proxy season where Broadridge generates most of its annual free cash flow seems solid. Now granted, you've guided for stock position growth to slow in Q3 and Q4, but are there any other factors that are making you more conservative as we approach your seasonally strong fiscal fourth quarter?

[indiscernible] that is we are growing over fiscal Q3 and fiscal Q4 '21 of 20% and 33% growth. The growth was elevated in that time period. And you said slowed, but it actually -- low double-digit growth is still quite solid relative to the decade of high single-digit growth that we've had. The point is right in terms of seasonality. Over 80% of the proxy communications happens between March and the June time period in our last 2 quarters here. And so we feel that we have good insight into what we should expect. David, remember, we're not forecasting the number here. We're going out and testing, and we can see the positions that are held at the different broker-dealers, that are held for each of the corporations on who we drive the communications. The good news is that despite some of the market volatility that we've seen over the past couple of quarters -- past couple of months, we've seen [indiscernible] results that shows the growth hold up in January, it was quite stable and maybe even upticking a little bit. I haven't seen February results yet, but we feel good about where it is relative to our last testing there. Now, if we're going to communicate between March and May, the records for whom we're going to communicate are going to be locked very soon. So over the next 3 weeks, over the next couple of weeks, we'll be very confident to know what the numbers are because it will be largely locked in. So I think that positions us -- good insight that positions us for low double-digit growth in the second -- in the third and fourth quarter and to be at that low teen growth for the full year. But more importantly, David, I'll add just one final point. I think -- as you think about the long term, this high single-digit growth trend that has certainly ticked up in fiscal year '21 at 26% and still at low teen growth here in fiscal year '22, I think there's a long runway for continued growth. You think about things like direct indexing, you think about things like pass-through voting, that really gives us confidence that there's a long runway for growth, and we think we'll continue to see high single-digit growth there.

Thanks for that Edmund. Last spring, after you announced the Itiviti acquisition, you guided to the high end of your FY '20 to FY '23 range for 7% to 9% total recurring revenue and 8% to 12% adjusted earnings per share growth. What do you see as the largest headwinds that present a risk to your guidance?

Yes. Yes, look, step back from a moment and let's just look at fiscal '21 is a pretty good sort of tick up period for these 3 years. I'll call them objectives, David, not guidance, the 3-year objectives that we have of 7% to 9%. Fiscal '21 is a strong tick up, 10% recurring revenue growth relative to 7% to 9% overall growth. And we said 8 points of that 10% was organic relative to the 5% to 7% 3-year objective. And also a 12.5% our adjusted earnings growth as well relative to the 8% to 12% earnings. So '21 is a strong sort of starting point towards those 3-year objectives. As I think about '22, there are a few things -- and the answer to your question that come to mind that I've been focused on since the beginning of our fiscal year '22 planning season that allows us to be able to get to the levels that we had. So first, think about '22 is 12% to 15% recurring revenue growth, and we said we'd be at the high end of that. So coming off of 10% and at the high end of 12% to 15% is again, a pretty good place to be in that 11% to 15% versus 8% to 12% in a 3-year objective. So it's all about executing in fiscal year '22. And what do we need to do with the challenges or the areas that we need to focus on? Continue to drive to closed sales. At a certain point, they don't have a huge impact in the current year. They certainly have an impact next year. We showed in the Q2 earnings that we're at $114 million in our first half. That's 49% over last year. Normally, we see closed sales tick up in the back half of the year. So I feel really good about where we are in the first half of this year and continue to convert that revenue backlog. We've talked about our revenue backlog being roughly about 12% of recurring revenue. Where we are, you've got to continue to convert that, and we feel good about that along with being able to retain our clients. I also said that we need to drive 7 to 8 points of recurring revenue growth from acquisitions, primarily Itiviti. And you've seen about 9 points through the first half. So I don't think you should expect a big uptick there, but that positions us well towards the 7% to 8% that's in the high end of the guidance that I talked about here to the items that you keep an eye on in terms of executing in fiscal year '22. If we do that, we're in a good -- pretty good position. You go into '23, and I'd just add 2 more items to it, and one would be our ability to be able to continue to drive the margin expansion that I mentioned earlier. Again, a great starting point in fiscal '21 on margin expansion, having delivered 60 basis points of margin expansion. So we've got to continue to find -- to be able to do as we go into '23, and we feel pretty good about that. And finally, to be able to get at those levels will require event-driven revenue to be in line with what we've historically seen. And we've had a little bit of an uptick this year on that, but our modeling assumption assumes the types of averages that you've seen over the last 7 years, about $55 million. So let's execute in '22, continue that execution in '23. '21 puts us in a very strong position. If we achieve these guidance in '22, I feel really good about being at the high end.

Thank you, Edmund. Can you discuss your progress in going to market with your recent $2.6 billion acquisition of Itiviti, with its strong front-office capability, including an OEMS connectivity network with Broadridge's post-trade middle and back office capability?

Yes. Look, I think I'll put the financials aside since I just mentioned them a moment ago and focused on your question about the capabilities and the client response. When we thought about Itiviti, we really broke it up into 3 components, like what are we going to accomplish in the short term and what do we expect to see there, what's going to happen in the medium and the long term as well. And what, 8 months in, we did this in May. We feel really good about what we're seeing thus far. In the short term, remember how we thought about the opportunity, taking Itiviti's post -- pre-trade capabilities and driving market share in North America with existing Broadridge clients as sort of like the short-term objective. And when you think about that, I just talked about pretty strong sales in the first half of the year. I would say you see Itiviti in that number. And we have a large sale that was bundling Itiviti for an office capability with existing Broadridge post-trade or back-office capability as well as a large bank here in the U.S., a great proof point for the short term. Medium term, and I think we're already starting to see some progress here is that our ability to be able to cut across into the international markets, to cut across the asset classes and across, again, the entire trade life cycle. And again, we had a pretty good signing in the international markets that combine a middle office capability from Itiviti with our, sort of, back office solution as well that contributed to the second -- to the first half sales there. And I will tell you, David, that most of this -- this is -- half of the market is proprietary, all proprietary systems. The other half is vended, key competitor there in the vended space is [indiscernible] and I think we're making progress with clients as we compete with them in that marketplace. The third area that's a little bit more longer term, I would say, is us investing in the pre-trade and post-trade capability, particularly making the data seamless and efficient across both of those activities. You'll see that over the next 18 months. Clients are responding well to that. They want to invest with us in the product. And so you'll see us double down on that as well. And the client attestation has been great thus far. So I think that our thesis on Itiviti and what we expected to see is proving out here.

Thank you for that. Please give us a progress update on the rollout of LTX, your new AI-enabled fixed income trading platform, how much traction is LTX getting? And how much revenue could it generate in FY '23?

Yes, I mean, just for those who might not be as familiar with it, LTX is our fixed income solution -- the fixed income. The U.S. corporate bond market is a $10 trillion market opportunity, about $30 billion to $40 billion is traded each day, and about 30% of that is manual. You pick up the phone and work between buyers and sellers and broker-dealers. What LTX does is it creates, say, 2 things. It creates a digital platform that allows a digital trading floor that uses our auction protocol that allows broker/dealers to stay in the workflow between buyers and sellers automating that. And remember, we covered 20 of the 24 fixed income dealers, so we have a lot of data on the -- on where asset values are. So our AI platform allows us to allow the broker-dealers to bring in more buyers and sellers on the platform, creating more liquidity across larger size [indiscernible]. I think the first step for us was really bringing on some of the buy-side clients, so we have a very quality list of buy-side clients, over 61 of them have been signed. The next 2 steps and where we're focused now is really integrating with the OEMS systems. There's been some communications on this integrating with Charles River system. And I expect that over the coming weeks, we'll see some more news on integrating with some of the other OEMS systems out there. That will be very helpful for creating liquidity along with signing a Tier 1 broker/dealer on the platform. Those 2 things will help us drive some liquidity. I don't have anything to your question about revenue. I don't have anything baked into the fiscal year '23 guidance from a revenue standpoint from LTX. All we have is the investment at this point. If we can be successful in the 2 things that I just mentioned, I think we've got to learn a lot over the next 2 quarters on that. And we feel pretty confident about our progress thus far.

What does a Tier 1 broker/dealer need to see to sign up for LTX? What are the key milestones that they'll be looking for in terms of platform functionality?

I think the 2 -- I mean the other 2 parts are that -- do we have -- are we integrated with the OEMS system there? Do you have the buy-side clients who want this solution to be on that platform. It really is a network solution that we're driving after here. And getting that network up -- and if you talk about the people -- talk to the folks who are leading this with inside Broadridge, they see this multiple networks and metrics on each of those networks. So it really is a network play here.

Understood. One of the most frequent investor questions I receive is what is the timeline to finish onboarding Broadridge's large Wealth Management contract with UBS? And once onboarded, how much annual revenue will Broadridge generate from the UBS contract?

The digital transformation, I call it our Wealth Management platform, that's one of our most exciting initiatives. Obviously, UBS is the anchor client with a multiyear deal that they signed here. We've had some success, as you know David, rolling out -- so far 30 capabilities that we're rolling out here. We rolled out [ building ] last year, you've seen UBS talk about the economic benefit and the benefit from some of their advisers associated with that. In Q2, we talked a little bit about -- in our Q2 earnings call we talked a little bit about over the next coming weeks rolling out our workstation for advisers. We are in the beta test mode. The results from that were really strong. Over 95% of advisers say they'd prefer to have this solution. So you'll see us roll that out over 17,000 associates and employees across the UBS universe over the next coming weeks. So we feel pretty good about that. When we were first thinking about that UBS opportunity, I would say we were focused on the Tier 1 investment banks and rolling out large solutions. We obviously are focused now on our more modular componentized solutions, and that could go to Tier 1 banks. But also Tier 2 banks, RIAs as well, and I would say our sales team certainly are working on sales longer if you're going to sell the entire solution quicker if you're going to sell the componentized solutions. I'd expect the revenue, we'll get to code complete at the end of the summer here, and we'll get into the completion of the majority of the platform by mid-calendar '23. That's when we'll start to see the revenue come on and we'll start to see the expenses amortized into our balance sheet.

Understood. Once the UBS contract is converted, will Broadridge go to market with both wealth management tech and trade processing offerings and pursuing business with the largest global banks, our joint trade processing and wealth management deals with the largest banks possible once the UBS contract is up and running and you brought the modules on stream?

Yes. Typically, these are different teams within an investment bank. When you go to a -- I mean, it's not the exact same team for a particular module or component of wealth management as it is for a specific asset class in the capital markets business. So -- but it is our objective to go in with existing clients and do what we call landing-and-expanding the relationship across asset classes, across regions. And we do that in many ways. One is establishing relationships at the top of the organization that allow us to navigate throughout the organizations when we are trying to expand those relationships. So -- and with our modular approach, I think we'll see that we'll continue to sell components and modules of UBS. In some cases, that will be connected with capital markets solutions as well, because it is our approach within capital markets as well to sell that way. So there are different teams. But I think we're in a position of hitting what I call singles and doubles here. If you look at our sales, David, over 2/3 of it is less than $2 million sales, right? So they're modular and componentized solutions, both in our capital markets business and wealth management business. And that makes me very confident that our -- in the value proposition of our [indiscernible] franchises. And obviously, there are synergies in being able to sell that.

Understood. What's your most recent gauge of the impact on Broadridge's revenue and earnings from Morgan Stanley's acquisition of E-Trade, since both are clients of Broadridge's, obviously, in somewhat different businesses, how are you positioned with Morgan Stanley and E-Trade, both in your proxy services and securities processing businesses?

We have a broad -- I'm glad you mentioned both businesses, because we do have a broad relationship with both, with Morgan Stanley for sure. We previously had E-Trade on our back-office post-trade processing, Morgan Stanley has a proprietary solution, and it's their intention to transition E-Trade over to their proprietary solutions given all the downstream impacts that, that solution has. It's a very complicated and complex integration. I think you can see that happen over a 2 -- or over a 4-year period. I don't think it has an impact on the economics that we drive in our -- through the fiscal '23 time period, that won't start to have an impact until fiscal '24. But the relationship is strong. That didn't impact our proxy business. The positions combined, they don't go away. So you still have the same positions in both of those companies. E-Trade and Morgan Stanley have been growing their position, so you see growth there. We've actually been expanding the relationship in our customer communications business. We're super focused on growing that. We've had some success there and there's opportunities for digital as we move forward as well. So I don't think you'll start to see an impact until fiscal '24 in terms of the post-trade processing moving on to Morgan Stanley. And I think we are expanding the relationship with them -- itself to be able to mitigate and offset some of that impact. But no impact to our fiscal -- to our current 3-year objectives.

Got it. Where do you stand at implementing blockchain or distributed ledger technology and your international and U.S. proxy services businesses? And can you quantify the EBIT margin benefits from implementing blockchain within proxy?

[indiscernible] blockchain technology. I think more important for us is the use case for the technology based on our network position and the relationships that we have in place. And when I think about U.S. proxy, I actually don't -- I think it's too complicated and too regular -- too regulated for there to be a blockchain solution there. Where we are having progress and where you do see us using it, is in the international communication spaces. The intermediaries between issuers and investors is very antiquated in a complicated system that drive communications between those 2 parts of the network. And with increased rules from SRD II, we've created the shareholder disclosure hub that helps with those communication, that standardizes the formats and makes it compliant to the regulation in the space. That's one area where I think -- so international proxy. I know David, you're familiar with our -- what we call our Repo, DLT Repo business. It's really helping banks with collateral management, interbank and eventually interbank as well that sits on blockchain technology. And we've had obviously some large -- a large signing there and making strong progress there as well. And the third area I mentioned when I think about the use case that works for us in blockchain technology is in the private equity space. We've created this private market hub that helps eliminate some of the friction in that process as well. And again, our network position has us in a strong position there. In terms of the economics that you asked about on this, of those 3, the only one that's meaningful at this point is the shareholder -- the SRD shareholder hub that we have in international proxy. That is contributing to a lot of the growth that you've seen in the regulatory business. And I'd say the other 2 great opportunity, we'll continue to invest and watch those closely, but no significant from an investor standpoint.

Thank you, Edmund. What are your updated capital allocation priorities among dividends, share repurchase and acquisitions? After you completed the Itiviti acquisition, you underscored the importance of debt pay down for the following 2 years. Should we expect dividend growth to continue to expand in line with earnings growth? Or will some of that incremental cash flow growth go toward debt pay down?

[indiscernible] big change in our capital allocation policy at all. And I think you laid it out. We are a very -- we're a strong free cash flow business, capital-light business. We use strong free cash flow to make investments, both organic and inorganic. We've had a dividend policy that had our dividend at a 45% payout rate is from growing in line with earnings, is from growing over the last 15 years, the amount of time that we've been a public company, and I expect that to continue. If we find the right tuck-in M&A activities that fit our strategy, that meet our financial profile, you'll see us use -- I think we have capacity to use [indiscernible] for that. But in the short term, to your point, you'll see us focused on paying down debt instead of returning capital to shareholders in the form of share repurchases, given that we are super focused on having this investment-grade credit rating. I think that [indiscernible] change is consistent, really does [indiscernible] returning capital to shareholders along with investing for long-term growth, and we'll continue that.

Thank you, Edmund. We're up on time. Thanks so much for your time, your insights and appreciate your participation in our conference today.

Great. Good to talk to you, David. Thank you for having me. I look forward to doing it in person soon.

Likewise.