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

All right. Good morning. We will go ahead and get started with the next session. I'm Patrick O'Shaughnessy, capital markets analyst here at Raymond James. Up next, we have Broadridge. And on their behalf, we have CEO, Tim Gokey. Tim is going to provide some brief introductory comments. Then we'll do a fireside Q&A and then open up to audience questions towards the end. So with that, Tim, welcome.

Great. Patrick, great to be here. Great to see you again in person, even shake your hand in person. It's very impressive. I think when we were here a couple of years ago, we were doing the elbow. So it's great. I'm just going to take about 5 minutes to give a little bit of an overview for anyone that's less familiar, and then we'll jump into the Q&A. I think as many even know, Broadridge is a global fintech, very focused on providing industry-level solutions for critical functions in asset management, capital markets, wealth management. We're about a $17 billion market cap, about $4 billion in fee revenues, 93% of those fee revenues are recurring. We have had adjusted EPS growth of about 11% over the past 3 years. When you think about what we do, we are -- really create the -- some of the critical infrastructure underneath investing, governance and communications. And we do that, as I said, for those groups of clients. We have pretty good scale in the businesses that we're in. On the governance side, we serve nearly every broker-dealer, nearly every asset manager, work with almost every public company on creating their annual meeting and processing their vote to that. On the technology platform side, we clear and settle $9 trillion every day. On the communications side, we send about 6 billion communications each year. So really good scale in the businesses that we're in today. We have a large addressable market against that $4 billion in fee revenue. We have a $52 billion market opportunity. That's for the businesses that we have today. As we make acquisitions and do additional things, that addressable market has expanded over time. It is backed by long-term trends around the democratization of investing, the mutualization of technology and around digitization. And those trends have really been accelerated by the pandemic. We've had -- we were, I think, concerned going into the pandemic. We've had really good results through the pandemic. And what we're seeing is our clients responding to that by really accelerating their use of next-generation technology. And we really think of ourselves as an on-ramp for our clients to next-generation technology. If you think about the CTO of a large broker-dealer or asset manager, they have a lot of the plate, a lot of different things that they're trying to transform. And if they can take some of that off of their plate and put it on our plate, that just frees up mind share and IP and their best people to focus on the things that make them most differentiated. So that combination of strong franchises, good market trends, strong management has allowed us to provide really good results and consistent results over the past quite a few years. Let me just take a quick tour through the food franchise just to give you a little bit of overview of each. So largest business is our governance business. You'll see it in our financial statements as ICS, Investor Communication Solutions. In '21, we had about $2 billion in recurring fee revenues in that business. Those revenues have grown about 7% consistently over the past several years. And the core of that business, as I mentioned, is this network that connects every public company to every broker-dealer, to every end investor and every asset manager and really a network that enables governance across that whole network at a -- very effectively for the company. And that -- the underlying growth driver there is the number of investor positions. We get paid on a per-position basis. And as positions grow, they've been growing over long periods, in sort of the high single digits at a much more accelerated pace over the past couple of years, but really we think of long-term high single digit. And so that's a really, really nice business in and of itself. There are some interesting growth opportunities within that same international and other things. And then around that in governance, that gives us a position to -- because we're working with all of those players already, to help them with additional things, whether that's data-driven solutions for fund companies or communication solutions or helping corporate issuers with virtual shareholder meetings. And so we had a really nice ability to grow in and around that core regulatory business with other governance solutions. I'm equally excited about what we're doing in our capital markets and wealth management franchises, which are part of our GTO reported segment, Global Technology and Operations. On the capital market side, that is just under a $700 million business in '21. That's pre-Itiviti. So with Itiviti, it will certainly be almost $1 billion business. And that's been growing about 8% over the past years. The opportunities are the things that we do inside. They're obviously serving the front office with Itiviti. I'm sure we'll talk about that. We have been working for a number of years on helping our clients simplify and improve their global post-trade infrastructure. We're also creating a number of next-generation network solutions applying AI to fixed income, applying digital ledger technology to repos. I'm sure we'll talk about some of those as well. The third franchise, wealth and investment management, just over $500 million last year. It's been growing in low double digits. And there, we have a number of component solutions that we're selling across the industry. And we are working with UBS on a pretty significant upgrade of the infrastructure that we have and adding to it with additional components to create what we think will be an interesting industry utility. And I'm sure we'll talk about that, but we have significant parts of that end market, and the rest of it will be coming with revenue recognition for us in mid-'21. Two other points to mention just before we get to the Q&A. One is just our long-term focus as a company. I think we are -- and I wouldn't say that we're unique in that, but it is a real hallmark of what we do. And it fits with the kind of services that we provide, which take a long time to onboard, and investment well in advance of client adoption. So we typically have 3-year financial targets. We're in our third iteration of those right now. Our current set of financial targets is ending. It was for '20 to '23 in our fiscal year. So it ends a year from this June. We're about halfway through that period now. And we said that based on where we are, we expect to be sort of at the top end of those projections. And those projections were for 7% to 9% recurring revenue growth, 5% to 7% of that organic, for 8% to 12% adjusted EPS growth and 50 basis points a year sort of on average over the 3 years in margin improvement. And we feel really good about those. And last, just a comment about this past quarter, we just reported really strong results with good organic growth and with the integration of Itiviti, we reported recurring revenue growth of 19%, which is obviously well above what our long-term goals are. We reported operating income growth also of 19%, with the interest coming in adjusted EPS growth of about 12%. And just really nice results that set us up nicely for the full year and to deliver at the top end of our revenue expectations and 11% to 15% adjusted earnings growth. So we feel good about the year. We feel good about where we are in the 3 years and about what we do for the industry overall.

Terrific. Well, thank you very much for that overview. And then maybe to drill down on some of those topics. You spoke about next-generation technology and how that's increasingly important for your clients. Broadridge has been investing a lot of money in new platform build-outs, most particularly with the wealth management technology build that you spoke to, but some other initiatives as well. When you contemplate making those large platform investments, how are you thinking about the required return metrics for Broadridge?

Yes. So thank you for asking that. And I think when you look at the investments that we've been making in our technology platforms, the context is pretty interesting because when you look at the amount of money that has been flowing into fintech, it's high. And so people see a lot of opportunity in our industry. And we see that same opportunity, and we had the advantage we're building on an existing client franchise. So it's a really nice position to be in to be able to invest but be doing it based on top of a real business. And I think the other thing is a little bit different when you think about the investments that we make versus as you look at sort of other fintech investments you hear about is that typically, the investments we make are backed by signed client contracts, not by discussions, not by hope, not by this, but by a signed contract. And that's a pretty big differentiation that allows us to invest in a way that is pretty controlled relative to the risk. So I just -- I think that's good background. So now when you think about those returns, think about the investments, what are the returns we're looking for? We're typically looking for returns that are -- we do pretty significant sort of business cases, IRRs. We tend to do it, not looking at a -- we tend to do it contract by contract, not looking at a terminal value, looking for returns that are -- we've already talked about M&A returns of being 20%, maybe a little less right now, but -- and we look for internal returns quite a bit above that. So that gives us really nice ROIC over time, and it gives us the ability -- margin for error, if things don't go exactly as planned to still have good returns. You think about where we're investing, and I'm sure we'll talk about these, obviously, wealth management is a key area. But we're also investing in our capital markets platforms, obviously, in Itiviti, also in the build-out of other where we're onboarding significant capital market clients behind signed client contracts. We're investing in the AI fixed income solution. We're investing in digital communications. So each of those are really nice opportunities for us that are -- we feel good about. And we think, overall, it gives us a profile as a company, as a company that is, on one hand, a growth company, on the other hand, has good defensive characteristics and had some nice embedded options of future things that are -- you all can judge for yourself whether they're priced into the stock or not, but we're excited about it.

And specific to the wealth management technology build, what's going to constitute long-term success for that build? What's going to make you and the Board satisfied looking back of, hey, this achieved what we wanted it to achieve.

Yes. So this is one of our most exciting things that we're doing. And just as a refresher for those that are less familiar, 3 years ago, we signed a long-term contract with UBS to help them transform their 40-year-old platform on to modern technology. And UBS at that time did extensive due diligence, looking at everything from the West Coast technology players to players that look more like us. And after long due diligence determined that we were really -- I was either do it by themselves or work with us and we were by far the best partner. So that was a great endorsement. We were excited then, and we're excited now about the opportunity. It's a $12 billion marketplace when you look at the sort of the wealth tech for the things that we do in North America. And so it's just a really nice opportunity to refresh our technology while we grow into that market. Now it has clearly taken longer and cost a lot more than either we or UBS expected. And so when we look at success from here, we -- it's a few things. One is just completing and going live for a minimum success factor. A lot of the technology that we've created we expect to leverage across Broadridge. And so seeing the uptake of that technology in other parts of Broadridge is a key piece. And the third piece is seeing the revenue growth over time. And when we took this on, I think we were thinking of a series of large UBS-like deals focused on the top 20 broker-dealers. I think as we've learned about it, what we learned is there are -- this is something like 30 different components that are inside it. And those components have high individual interest by other clients. So our billing solution went live a year ago. This is a solution that does daily average billing for managed accounts. Sounds sort of arcane, but most wealth managers -- managed accounts are one of the big revenue drivers. They typically bill to date either at the beginning of the quarter or the end of the quarter, which really doesn't line up with where the assets actually are. And this solution does it on a daily average basis, which sounds like it should be simple. But when you get into the complexity of it, it's actually pretty hard. And so we have a lot of other clients that are interested in that. I think that could become an industry standard. We're talking -- we're actually in implementation of one of the other largest wealth managers in the world on that right now. So I think what we'll see is a lot of those other components over time with really nice revenue growth for the wealth management segment as a whole. So those are the indicators, and we're excited about it.

Interesting. And you spoke about the investment spending required to build out the wealth management solution, but plus these other platforms that you're working. Something that I hear from investors is free cash flow conversion, and free cash flow has been substantially lower than your adjusted net income of late. What are your expectations for free cash flow in fiscal year '23 and beyond? And ultimately, when do you expect to kind of reap the cash flow benefits of these investments?

Yes. So for those that have followed us over a long period, we've always talked about being sort of capital light, and we've talked about our free cash flow conversion that was near 100% of net income. And that's been the case for many years. And what we've seen over the past couple of years is as we've invested in platforms, it has gone down. It was in the 80s. I think this year sort of peak investment is probably lower than that. Next year, fiscal '23, will be maybe a little bit better but modestly about the same, then you should begin to see it tick back up to more normal levels after that. I will say that the -- given this is backed by signed client contracts, given what we're seeing in the industry about the opportunity, in some sense, it's a good problem to have when you're investing at what we believe are really attractive internal rates of return. And so on one hand, good cash flow conversion is a good thing, but it can also be an indicator of lack of opportunity. And this is an indicator of opportunities. So as long as long as things play out the way we expect them to -- and it's not just the wealth management, it's the capital markets platforms. It's what we're doing in fixed income. It's what we're doing with digital communications, all of which we think are really good opportunities for our investors.

Got you. And to that point, what are some of the other areas where you're seeing sales traction right now? Obviously, the closed sales number that Broadridge is reporting has been pretty strong. So we've been talking a lot about wealth management. What are the other things gaining a lot of market traction right now?

Yes. So when you look at our growth algorithm, to get to 5% to 7% organic growth, revenue from new sales is the biggest component of that. And when you hear us talk about closed sales, it's the annual value -- annual contract value of the things that we signed in that year. As you go back, say, to 2017, it was about $188 million. Last year, it was $242 million. So really ongoing nice growth. When we look at where will the next $100 million come from when we're at 3 40 instead of 2 40, we see that nicely across multiple areas. And what's the nice thing is that it's not dependent on any one area. So first of all, what we're doing with Itiviti in front office, it's a nice chunk of that. Really, really good chunk that Itiviti brings but is also going to be growing. When we -- what we're doing in capital markets, the other sort of back-office capital markets components continue to have nice traction. Obviously, we're going to expect to see traction in wealth management. We're seeing a lot of traction in communications, both sort of legacy print communications, but also digital communication. So really across our portfolio, we see really nice growth.

So you spoke to closed sales as a source of growth, but internal growth, as you guys would refer to it, has also been a nice contributor. And I think a big component of that has been position count growth within regulated communications. I think you guys have said, hey, we don't think that the recent level of position count growth is sustainable for a variety of factors. But what are some of the secular trends that you see as driving healthy position count growth for a number of years?

Yes. Yes. It's a lot easier to predict the long term than it is to predict the near term. The secular factors on position growth are underlying account growth, which is a few percent, then the increase in number of positions per account, which has historically, or let's say, the last 10 years has been driven by the growth of managed accounts, so people move from individual positions into managed accounts where one position then becomes 6 or 7 positions. Now what we've seen in just this pandemic period is really the growth of free trading and app-based investing, which I think has caused a big and sort of onetime bump in the number of investors investing. As we think about going forward, we think the secular trends will be some of the same ones we've seen before. So certainly, account growth and managed accounts, all that will continue. We have some interesting new ones is too early to say how big they will be. But when you look at any growth in direct indexing is a big tailwind for us. Passive voting is another sort of new thing BlackRock is beginning to offer. If that begins to take off with other asset managers, that would be another tailwind. We don't -- we think both of those could have big implications but won't be that widespread. So each add, we think, maybe a point or 2 to secular growth, but it could go on for a long time.

Got you. And I think the passive voting is an interesting topic in terms of we hear compliance of the BlackRock, so the Vanguards of the world have too much voting power. And Charlie Munger is chiming in on the topic the other day. I don't know where that goes. Where do you see passive voting playing out? Does it require a large-scale rearchitecture of the proxy plumbing system? Or can we do it within the existing mechanics?

Yes. It's very easy to do within the existing mechanics. So -- which I will say worked very well. And when we think about pass-through voting, it is -- clearly, if I hold the S&P 500, and all of a sudden, I get 500 proxies, that's not going to be very attractive. So I think the way it will evolve for retail investing and even institutional investing is people signaling that they have interest in particular issues and being notified that, look, you have this portfolio, but 3 of those companies have ESG proposals coming up. You'd like to vote on those 3 and be more interactive that way. And that we have -- we can demo that today. It's pretty easy to implement that. So I think that's the way it'll work. More generally, when you think about how we proxy corporate governance as we get into democratization, how will that evolve over time? I think there is this trend of people wanting to be involved. I do think that notifying people and enabling them to be engaged is one of the ways. I also just think that the future of disclosure will continue to evolve itself. Current disclosures are sort of based on -- with the mental model being fairly heavy paper-based documents and then what's called digital is sending a PDF of those documents. And if you're a knowledgeable investor, you sort of know where to look and you look through and the -- all of the researchers say people do look, but it really should be extracting the data points, making them very easy to consume on a mobile device. It will be a lot more notifications and app-based things. And so the way that we'll -- I'm talking of ways in the future here, but the way that will evolve, we will be really much more like a per-position subscription charge than a per-communication charge because it will be lots of different kinds of communications coming asynchronously. And someone to envision and manage all of that, that's a real world that we think we could help with.

I think that's a really interesting topic because it kind of brings in the market plumbing. It brings in a conversation about pricing, the different positions of various participants within the proxy system and then the regulators. So how do you see proxy evolving as a major part of the U.S. financial infrastructure, especially in a world where it kind of seems like a regulatory hot potato where the SEC doesn't necessarily want to run with it, FINRA doesn't want to run with it, NYSE doesn't want it. How is that going to play out?

Yes. I think in terms of just to specifically -- there's a question on the table right at this very moment as to who will be the regulator, and we have said publicly, we're agnostic as to who that will be. We don't really have any special insight into that. We think that whoever it is, at such time in the future as there is a review, and they will inevitably run at some stage, they'll bring the right people at the table. And when the right people who come to the table with data, we'll get to a good outcome. We don't have any inkling of that coming up. It doesn't certainly not high on the SEC's agenda with everything else that they're trying to do. Last time it did happen, it took 4 years to take place. So we think it sort of something that is a bit in the future. But we feel very good about -- ultimately, the thing there is do you feel good about the value you create for the industry. And because of the unique role we play, we're in a really good position to significantly reduce cost to the industry. Over the past 10 years, the cost for communication has come down 40%. There hasn't been a fee increase in 20 years. The funds were probably the ones that -- the squeakiest wheel have the ability to negotiate these fees today with their broker-dealer partners. They choose not to, but they have selling agreements. The corporate issuers who really can't negotiate, day-to-day, they use us on the beneficial side. On the registered side, they could use us or someone else. Half the time they choose to use us, they don't have to, at rates that are far greater than the regulator rates. So the economic studies that have been done have really shown that the regulator rates are lower than market rates. And so however this evolves, it is a bit of a hot potato. But however it evolves, I think, ultimately, because the value we're creating and because of some of the future things where we can create even more value, we feel really good about it.

Makes sense. With that, I will pause and see if there's any questions in the room.

Just you mentioned earlier, just on a cash conversion that because you expect investments to go up [indiscernible], I guess just in the context of who you're competing against where there's seemingly a constant race for innovation, what makes you feel confident that the investments you're making today are [indiscernible] proceed?

Yes. Well, it's a good question. I think the -- to the extent that the investments were in the latest flashy piece of technology that 5 years from now or 3 years from now will be replaced by the flashier piece of technology, I think you'd be on that treadmill. I think the nature of what we do is a little bit different than that in the sense of it is -- the vast majority of the investments we're talking about, our signed contracts to do specific things on a specific technology base is pretty costly for us and for the client to get everything transferred on to that. And so the prospect of them changing that again is pretty dim for our clients. So I don't anticipate that, but it is certainly something you have to always think about. And one of the things in -- for someone like us is it's having good technology, not necessarily the very latest flavor of everything because that can get to be an expensive treadmill. So it's sort of being -- again, because what we're doing is things that are critical. They have to be right but are less differentiating. So it's being sort of good enough. And I think that will play out well.

[indiscernible] follow-up, what's the average duration of the contracts?

Most of our contracts are 5 to 7 years.

I think I don't see any more hands up, and we're more or less out of time. So we will wrap it up there. We do have a breakout session downstairs. Thank you, everybody, for joining us, and thank you, Tim.

Great. Thank you. Great.