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

We'll go ahead and get started this morning. Thank you for joining us here on the second day of the Morgan Stanley TMT Conference, second day of 4. So still a lot of really interesting people to have conversations with. This session, we're with Broadridge and Broadridge's CFO, Edmund Reese. Before I get started with Edmund, just a quick introduction, I'm James Faucette, Senior Research Analyst covering fintech for Morgan Stanley. And I do have an important disclosure I need to read. Please see Morgan Stanley research disclosure website at morganstanley.com/researchdisclosures. If you have any questions, please reach out to your Morgan Stanley sales representative.

So I've been great to have you here. Thank you very much for joining us at the TMT conference for the second year in a row. I'm always glad to have you here. Maybe for those that aren't familiar with Broadridge and may have just seen how well the stock is done and how consistently the business grows, et cetera. Can you give us an overview of Broadridge, the problems you're solving for your customers and where you fit in the value chain?

Well, thanks for having me. again for a second year, James, and good morning to everyone here. And I think it is important to start with a question like that, an overview of the company and what we do. We are a global leading fintech. We provide technology solutions in a very complex and highly regulated financial services industry. We are a $24 billion market cap company, and we generate $6 billion in revenue. And -- if you look at our performance, what you just mentioned over the last 10 years, it has been strong top line and bottom line growth. Our recurring revenue CAGR over the last decade is 10%, We're now a $4 billion recurring revenue company. Our earnings growth over that time period has been at a 14% CAGR. We finished fiscal year '23 at just over $7 per share. And during that same time, we have consistently increased the dividend, resulting in an average dividend yield of 2%. And that's important because when you take that revenue growth, the earnings growth with consistent capital return to shareholders, what you get is a high compounding TSR business. And our annualized total shareholder returns have been 22% over that 10-year period. That far outpaces the S&P 500. Our business is split into 3 components, 3 growing franchises. The first one provides critical investor communications. The second is focused on trading technology, and the third is on technology for wealth advisers. So first, our governance or our investor communications business, that's a $2.5 billion recurring revenue business. It's been growing at a 9% level on average over the last 5 years. And the core of that business is our position at the center of a network where we're linking public companies and we're linking fund companies to the banks and brokers that hold their securities and eventually to the underlying institutional and retail investors that own those securities. And the growth in that business has really been driven by this increasing trend of investor participation in the securities market. So that really manifests itself through equity and fund position growth. And when you look back over the last 10 years, you see that the population growth, more people investing that's contributed 2 to 4 points of position growth over that time. And when we think over the long term, we expect to see mid- to high single-digit growth because those new investors are opening up more accounts and holding more positions per account. So on top of that position growth, we use our position to drive other digital communications to help with regulatory and investor engagement for issuers and fund as well. So we have a strong leadership position. We believe that as long as we innovate to increase investor engagement and drive digital delivery and communications, we'll be in a pretty good position in that business. Our second business is the capital markets business. It's a $965 million recurring revenue business, and it's been growing at 14% on average over the last 5 years. We are a leading capital markets tech provider processing over $10 trillion in equity and fixed income trades per day on technology solutions that cut across the trade life cycle. Capital markets are facing pressure to -- for faster settlement times and other regulatory change, they're facing pressure on the economics and trading. They have risk from fragmented legacy systems. So we look to capitalize on that $24 billion market opportunity and our growth strategy is to land and expand with our modules that simplify trading and connectivity for those capital market firms while innovating the drive efficiency as well with capabilities like distributed ledger and AI. So that's the second business and where we're focused. The third and final one is the wealth franchise. That's a $560 million recurring revenue businesses. It's growing at 10% on average over the last 5 years. And we are a leading wealth fintech provider. We have relationships with 14 out of the 15 largest U.S. wealth advisers with 5 out of 6 top Canadian banks. That's a $12 billion market opportunity in wealth adviser firms are looking to digitize their operations, really, they're trying to differentiate their offering. They're trying to attract and retain advisers and really digitize their operations and technologies. And so we've built a next-gen platform that with modular solutions that allow us to enhance the investor experience to help advisers be more productive and to digitize their operations, and we'll look to monetize that platform driving value across [ pool-service, ] brokerage firms, independents and RIAs and other private banks in U.S. and in Canada. So -- those are the 3 businesses. They're really underpinned by what I call a simple financial model that's anchored in sustainable long-term growth that model starts with organic recurring revenue growth that's driven by our sales. We supplement that organic revenue growth with M&A, and we look to drive 7% to 9% recurring revenue growth. Next is our margin. The operating leverage in our business as we get scale, bringing on new customers, our shift to higher-margin digital business a higher-margin digital business. And our continued expense discipline can drive 80 to 120 basis points of margin expansion in the typical year. We use those levers to create investment capacity while delivering 50 basis points of margin expansion and delivering 8% to 12% earnings growth. Our objective is to take that earnings growth and convert that to 100% free cash flow, which leads me to the capital allocation policy, where we're committed to a growing dividend that grows in line with earnings. We'll evaluate M&A if it meets our strategic and financial criteria or will return any excess to shareholders. So look, I think we're off to a good start in fiscal year '24 on track for another strong year of strong recurring revenue growth, earnings growth. Free cash flow has been strong. Said in fiscal '24, we'd expect to return $700 million to $800 million to shareholders in dividends and share repurchases. So I think it's good to give that little overview. I sum that up by saying we have a long runway of delivering value for shareholders. Got 3 growing businesses and a clear path for growth, a simple financial model that generates strong free cash flow and balances investment with capital return to shareholders, and we're off to a strong start. So that might have taken a minute or 2 longer than you wanted, but I think it's important to folks hear it.

No, I thought it was a great overview, Edmund. And I think tees up a lot of the questions that -- and things that I want to dig into with you this morning. First, look, I think you -- a couple of months ago or a little past 2 months, you had a very detailed and thorough Investor Day in December. And in -- as part of that, you provided a new 3-year financial targets that were largely in line with the ones that you had outlined in your prior Investor Day. But I would say with a touch more optimism, particularly on recurring revenue growth and the high end of the range was raised slightly. Look, there's obviously provide ranges for a reason. But how are you thinking about some of the drivers that would get you to the high-end of the range versus some of the headwinds that might emerge that would push you to the low-end.

And let's just hit on what the range was. First, I do think we're unique in that we provide 3-year top line and bottom line growth [ ranges ] and that's what you heard in the Investor Day, like over the last 2, 3-year cycles, we said that our organic recurring revenue growth would be 5% to 7% with 0 to 2 points from M&A to get to 7% to 9%. We've raised that range. That's what you're talking about to 5% to 8% over the next 3 years. And the answer to the question that, James,goes back to what I just said a moment ago, we're very intentional about using that language simple financial model. And so when I think about the '24 to '26 time period, I mean there are 3 things that I highlight in there and you hit on recurring revenue. So 2 of those things really have to do with the recurring revenue. One is converting sales to revenue. You remember during Investor Day, one of my favorite charts was looking over the last 10 years, we have had this consistent track record of 6 points of recurring revenue growth from converting sales to revenue. And when you think about our sales in the current year, the midpoint of our guidance would suggest a 10-year 9% CAGR in sales. And we use those sales to replenish our revenue backlog which currently sits at $400 million or 10% of our recurring revenue, and it gives us high confidence in the guidance as we bring those clients live and bring them to revenue. So first really is the continued sales and converting that to revenue. Second for me is position growth. So as I just said, the equity and fund position growth, as I just said, the objectives are 5% to 8% organic revenue growth and embedded in that is mid- to high single-digit position growth. I think that level of position growth plus any pricing actions that we should take that together will drive 2 to 3 points of internal growth. So I just talked about 5 to 8 overall, 2 to 3 internal at position growth at those levels. And as I said a moment ago, population growth, more investors coming in, more accounts per investor and more positions per account, I think that's a long-term tailwind to continue to drive physician growth in that level. And the third item that I'd highlight is margin and margin expansion to be in particular, both 2 components of that, the organic -- the operating leverage in our business and the actions that we take to be able to drive improvement. We have -- you can generate 50 to 70 basis points from the scale in our business, 20 to 30 points from moving to a more higher margin, more digital business and 10 to 20 basis points from our own. And again, those things allow us to invest in not just the short term but medium and long term and deliver that 8% to 12% earnings growth. So it's all about executing, the drivers of growth of annual growth and long-term growth are stable. It's all about executing on the sales, get the position growth and drive that margin expansion. We think we can do that through any economic environment. And I think that's what gives us confidence in the 3-year objectives.

Got it. So let's talk about the demand environment, and that's kind of where, at least from a top line perspective, everything starts is that -- how would you characterize the general sales and demand environment? I think if I've got my statistics right, you delivered about $106 million in closed sales in the first half of your -- in the second half of your fiscal '24, which is up about 12%. And you reiterated your outlook for $280 million to $320 million of closed sales given the continued strength in January. So I guess a, are we in that kind of the right ballpark in terms of where your objectives are. But more importantly, anything you can speak to as it relates to the linearity of closed sales since January? And have things gotten better or worse, stayed about the same, kind of what's happening from a sales [indiscernible] ?

Of course, you have your stats, right, James? It is up 12%. And that's in our first half. Our fiscal year is July 1 to June. So for the first half of the year, it's up 12% and your numbers are correct. I think the first thing that I'll point out in response to that question is that the revenue in the current year is not really driven by the current year closed sales is driven by the backlog. That drives a lot of the revenue. In this year and even a decent chunk as we go into the next year as well. But you're exactly right. We are very pleased by 12% growth in closed sales through the first 6 months. We have a -- and I also said during Q2 that January was off to a good start as well. So we continue to see momentum. Within your question, you highlighted the end of last year, our fiscal '23 and I would say our first quarter, in particular, saw some things that were close to signing and being complete in '23 coming across the finish line and helping us in the first half to help us get off to a good start. But to your question about linearity and what's driving it, look, I think we are seeing places where we've invested and the places where we're innovating. So think our BTCS, front office trade capabilities. That was strong. Our wealth business, where obviously we just had a platform build there that had a strong level of sales. And when I think about the back half of the year, things like our total shareholder report solutions or other digital delivery communications in our customer communications business. Those things have a strong outlook for the back half of the year. So our pipelines at an all-time level, including strong growth in wealth, which is important to us given the investment that we just made. And so we feel very, very good about the $280 million to $320 million objective that we have for this year because of those reasons. Hopefully, that gives you some [indiscernible].

Yes. No, it does. And I guess I'm just wondering like how you would parse especially for the second half of the year, the impact from delayed deals, previously delayed deals that are now getting across the finish line. And also some of your newer front office solutions in wealth. Like can you help us parse like where we should expect some of those?

The delayed deals impact is over and we're done with that. And I think -- the good news when they were delayed is we didn't see any conversations go dark like we didn't lose any to a competitor or the pipeline didn't drop. They built up the pipeline, and we were able to bring those to closure. And I think that's part of why you saw a 12% growth for the first 6 months of the year. And when I think across the back half the second half, like parsing out to your point where you should see strong growth in our Investor Communications businesses, particularly in total shareholder reporting -- that's a need that has -- it's a regulatory need that will go live in July. So there's no choice. We're either going to win it or lose it and you'll start to see that come due to sales in the second half of the year. Our Customer Communications business across financial services and health, you see strong sales in there as well. And then, again, our BTCS business and Wealth are 2 places in the capital market. So the answer to your question, is this broad-based growth across each of our franchises, but those are some of the specific products that you should expect to see growth in the second half of the year.

So if there was a variance of like that target positive or negative? And maybe you can hit on each. Where would it -- in your mind, where would most likely stem from?

Yes. Again, I don't think it would stem from us losing any particular deal, I think it would just be -- you can't imagine when you have to go through the procurement organization than the Chief Investment Adviser and then the lead of the business to get these things assigned. So the cycles can sometimes be elongated. And you might see that in the capital markets -- in the GTO business more than you see in the Governance business. Because of the regulatory need in the Governance business versus the discretion that companies have, where they're trying to lower costs where they're trying to be compliant, get rid of risk in the capital market space. So there's more discretion there, and you could see elongated sales cycles in that business. But again, the pipelines are at very strong levels, and I think they're strong across each of the franchises.

So I want to -- so I think it's pretty easy to recognize the breadth of the moat in the Governance business, in particular, like it's -- that's a place where it's your ability to engage and retain customers is really I don't think a lot of people or investors have doubts about that. But let's talk about the competitive positioning in Capital Markets and the Wealth business -- and maybe let's start with capital markets. How do you see Broadridge competitively in that market? Who do you run into? What do you feel like is the generalized level of intensity in that market right now?

Okay. So I'll focus my answer on the Capital Markets and Wealth Management business. But I have to start with. We don't take our leader -- to maintain our leadership position in Governance we have to invest in enhancing our products and invest in the digital capabilities there to meet the regulatory needs that the public companies and funds are facing to meet their objectives of driving investor engagement. And when you think about things that I just mentioned, like TSR and pass-through, those are investments that we are making that are meeting those needs. Our objective in the governance business is 100% retention. And so we don't take that for granted. So...

You're maintaining a healthy level of paranoia.

We maintain paranoia in that business and have to say it, that we invest there. So just putting that aside, coming to your specific questions. First, in GTO in general, we are often competing against in-house proprietary solutions. They're legacy systems, they are seeing increased cost for maintenance. They're seeing more risk -- they're less compliant, they are less resilient. And so we believe that given those challenges, capital markets firms can use a mutualized industry solution where the partner is investing can put them on new technology, help and do that in a more cost-efficient manner. In general, I would say that about the GTO space. In capital markets, in particular, on the vended side of the business, it really varies by solution and in some cases, by market. So you talked about who are we competing against. In the international markets, I would say, particularly in front office space, there are 2 vend -- on the vended side, 2 competitors who have about 50% of the vended space. I would say in the U.S., on the post-trade side, there are competitors who are established with strength in equities and fixed income on the post-trade side of the capital markets business. So our acquisition of activity now in BTCS, I think, has given us capabilities in the front office allowed us to move into the international markets and have solutions across front, middle and back as well that helps us compete there. And I would say that to the point that you were making, many of those competitors have been less focused on investing in the products or providing the customer service. And so we've made headwinds going into the international markets and taking market share and displacing some of those competitors. On the wealth side of the table, it is more greenfield, I would say. You have a $12 billion market opportunity in no provider that has the scale and breadth across all of the solutions. So again, what you have are wealth advisers who are using their own proprietary solutions and stitching together a number of vendors in that. And you have sort of new fintechs coming in who are trying to solution a particular issue. You have established players who focus on the front office. You have new entrants and it's a very complex North American wealth advisory market. And you have some big name competitors who are trying to penetrate this very complex market and we compete against them. And then you have the established players who have maybe not invested as much or service. So it's a very fragmented marketplace. We believe that our investment in next-gen platform that has front, middle and back-office capabilities and the relationships that we already have in place through our governance business with the top wealth advisers in North America puts us in a pretty good place to attack the market opportunity and continue to drive progress.

So I want to make sure I've been monopolizing time here. If anybody has any questions from the audience, please raise your hand, we'll get you a microphone. But let's dig into BTCS a little bit. As you mentioned, is that due to the Itiviti acquisition, you added some front office capabilities to your existing back office positioning. But you also got some incremental revenue diversification from that. And I would say, incremental penetration opportunities within -- with the sell side. But wondering how we should think about what drives success there? And how much opportunity or ability does BTCS have, to be a driver of the capital markets more broadly? Like what's that sales cycle going to look like going forward versus what it had been previously? And does that change the growth dynamics at all?

Yes. I mean you see -- in my opening comments, I talked about the Capital Markets business growing 14% on average over the last 5 years, BTCS was a major contributor to that given that we purchased it in '21 -- in May of '21. And so look, the -- we're very pleased with both the strategic performance and the financial performance of BTCS, as I said a moment ago, capital markets firms are challenged. They're facing a ton of challenge when it comes to simplifying their trading and their connectivity in the front office. In BTCS, our solutions in BTCS, are all about optimizing trading, particularly in the front office. And we are progressing you're asking how do they do it? We're progressing against the 3 goals that we have in mind. One is really going into those international markets competing against those 2 players, displacing them, which we've been which we've been doing in the international markets now that you have the scale of Broadridge. Two is bringing their capabilities into North America with existing Broadridge with existing Broadridge clients. And there are some specific examples where we've had wins where BTCS has been talking to clients. And because you're now sort of backed by Broadridge that door is open, then we've been able to sign some sales. So I think that's key. Going to the international markets, drive the BTCS sales, win market share come into North America with our existing clients, bring front-office capabilities to them. And the third, really, and we're having -- we're really engaged and on that second one, by the way, in the fixed income space, and we're now also building capabilities in ETDs as well. And the third area I'd point out is sort of front-to-back capability. So simplifying that in trade life cycle with clients. I always bring up the example where I talked to one client who had 24 different vendors across the front-to-back solution. And so to invest alongside Broadridge, who now has this capability, both in the back office and front with BTCS, and simplify that process. There's a lot of excitement about that. And so BTCS has been progressing on that, hitting the financial objectives, double-digit growth, 30% plus margins in line with our thesis when we made the acquisition. And from a strategic standpoint, this expansion into the international markets. So we're just very pleased with the performance thus far and the outlook for it. The sales cycle for BTCS, is very much like the Capital Markets overall business, the post-trade capabilities as well. We have a strong pipeline there, growth in those sales. So those sales will drive the double-digit revenue growth at continued very good margins in that business.

Got it. So let's go to the wealth business. Can you speak about the progress in driving incremental module sales this year? How big can that be? And what's the -- how do we think about contribution from UBS versus others? Just trying to dimensionalize where we're at in development of that business.

Yes, where we are at is that we're very pleased to have completed the platform build in fiscal '23. That was a major milestone for us. So this past July go live with UBS on that and recognize what we said that in fiscal '24, we'd have approximately $75 million in revenue on this platform. That was all contracted. So all of that's playing out. And UBS advisers and their management team, we're hearing positive feedback on what has been implemented there. The focus now, our pivot is on sales to get to the second part of your question. And we have a tangible actionable sales plan in place that goes beyond the PowerPoints and the client demos and the workshops. But it's really -- we created the sandbox where clients can take their data put it in the application, use the application itself. And James, remember, there's 30 capabilities that we built here. And some of those modules are they're strong relative to other options in the industry, things like the ops console, things like client onboarding or tax and billing might seem sort of arcane to you and I here but very important for that space, and that's resonating. And it's not just -- it's important that it's resonating across the spectrum of prospects that we have. Tier 1s, both in Canada and U.S., strong conversation there, the independents as well. So you take all of that combined, and we continue to feel -- you asked how much we continue to feel very confident in the $20 million to $30 million in incremental sales on top of what we were doing in Wealth before this platform build.

And one of the concerns that a lot of investors have had, and I think it's probably alleviating a little bit, but is just time to pay back on the investment that's been made on the wealth management platform. What that looks like? I know that Broadridge has a long history of being very disciplined and regimented about its return expectations. So just help us think through like where we're at on the wealth management platform and the potential for that.

We're right now, we I just said the revenue number. We know what the amortization for the platform is going to be as well, $57 million on average. And so you have right now, all of the expense in it. So as we bring on new clients, the $20 million to $30 million more year -- per year -- incremental per year, there's no more sort of platform building primarily investments. So those clients are coming on at incrementally higher margin. And we do that for the next few years. We'll get to returns that are -- we'll get to margins that are sort of more in line with Broadridge and the return on the overall investment that's acceptable, obviously, above our cost of capital. We do that for a number of years, we'll get to more attractive returns on the platform. So actually, the bottom line to that -- that question is our key right now is continue to hit the $20 million, $30 million in incremental sales, keep the conversion cost down, and we'll bring those on the incremental margins and get to our returns.

So I couldn't get through one of these sit downs this year without asking about everybody's favorite topic, AI, generative AI. Interesting announcement surrounding OpsGPT and [ Tradebell ] resolution, especially for T+1 circumstances. From a pricing and monetization perspective, is this an innovation that you can and intend to charge separately for? I guess we've heard from some of our companies who are viewing AI-related product improvements is natural extensions of their platform but not necessarily separate SKUs. Kind of talk through both the capabilities, what you hope that delivers for your customers and then what you think the charging mechanism may be?

It's a great question. And you're right, is the topic du jour, it's coming up all the time. Look, first for us, when I think about AI, it is having a safe environment with all of our client data. So we've sort of created a safe environment that protects data from going out that allows our engineers and product designers to be able to innovate in it. The result of that has been, we intend to lead in the space in AI, and we think that the opportunity there is dependent upon having use cases and having differentiated data. We have differentiated data in our capital markets business, given the coverage that we have across fixed income and equity, we have differentiation. We have strong data in our governance business as well. And so we've been focused on products, over 27 of them in play. Three or so, we've announced OpsGPT is one of those. And what has been exciting is moving from idea to production in a very short amount of time. On OpsGPT, specific to your question, we are focused on exactly what you -- I think it's early days, but we are focused on going beyond just allowing it to be a part of the value proposition, but being able to charge additionally for it as well. It's still early days. We have to prove out the use cases. We're using one of our groups internally to prove up the use case as well. But the objective is in some of these cases to charge incrementally or certainly no very modest impact, if anything, on our financials for fiscal year '24, but we'll continue to look at that. I think beyond the products is the productivity impact as well. So we have copilot rolled out across over 20% of our technology stack right now, helping with code development over 400 engineers will move that number up to 1,000 before the end of our fiscal year. So there's certainly an opportunity on the productivity side, particularly in code development. But I would say also we have a small client service business. So there's opportunity there as well when you think about efficiency. And then I think other functional areas as well. It's way too early to start thinking about that as a significant impact. We will use investment capacity that we have today to be able to invest in AI, both the products and the productivity side, and we'll update you when we're ready to see it monetize in a way that's significant to our financials.

Got it. And then in your preamble to our conversation here, you talked and gave a pretty clear outline of capital allocation. But I wanted to dig in there -- just for a little incremental color here towards the end of our conversation. You commented that inclusive -- or back at your Investor Day specifically, you commented that inclusive of incremental debt capacity, you would expect to have about $3 billion of free cash flow to spend between '24 million and '26 million -- fiscal year '24 and fiscal year '26. Clearly, the stock has performed extremely well of late. And I guess is it fair to assume that we could see some buyback even though the shares have performed as well? And I think you were very explicit that you expect dividends to grow at the same rate as earnings -- but any other nuances or things that we should be aware of from a capital structure perspective, especially.

Yes, I mean the first thing I'll always point out, James, as you know, is that we are an organic growth company. The objectives are 5% to 8% growth with 0 to 2 points from M&A. And so we do M&A when it fits our overall criteria. But to your point, the policy continues to be the same as it was. I think our dividends have grown at a double-digit level 11 out of the past 12 years. So it's going to grow in line with earnings. We will see -- we will pursue M&A, but it has to fit our high financial and strategic return criteria, but we will not let any excess cash sort of build on the balance sheet. We'll return that back. And as a result, particularly as you think about fiscal year '24, where we have 5.5 months left in our fiscal year. I think you'll -- I don't expect to see significant M&A. And what that means is that between the dividend that we've already paid and share repurchase is $700 million to $800 million. We did $250 million in share repurchases in the first quarter. You can see another -- I'm sorry, $150 million. You can see another $200 million to $300 million in the back half would be my thoughts on it as well. But over the long term, and it's not that we sort of plan it this way, but you've seen balanced dividends and share repurchases versus investment and I think over the long term, you'll continue to see that very balanced capital allocation policy. And I think that fares well for shareholders as well when you look at the returns on both the M&A side and the capital return on the share repurchase side of it over our history.

And just in the last minute here, so -- just wanted a quick detail, make sure that we don't get tripped off on key impact of -- or potential impact of interest rates. If we do see interest rate reductions in the coming fiscal year, how should we think about the moving pieces between headwinds from float income versus lower levels of interest expense? Any rule of thumb that we should be following there?

Yes. The short answer to that -- because interest -- it's noise for Broadridge. It impacts recurring revenue growth, has no impact on earnings, which is the key part here and then also impacts reported margin expansion, which really has no -- but the sort of rule of thumb from my standpoint or what you would know from a modeling standpoint is that we roughly have about $2 billion in deposits. We have just under $1.5 billion in variable debt as well. So as interest rates change, you don't see all of that impact on the deposits because we share some of that revenue with the retirement companies that we're holding those deposits on behalf. But my rule of thumb is 100 basis points impact on interest rates, one way or the other, where largely hedged is less than $5 million to earnings for Broadridge. So we're largely hedged, and it's neutral for us when we think about it.

Got it. Well, Edmund, thank you so much for joining us today out of time. But if you have any follow-up questions, I'm sure Edmund and the team will be happy to entertain them. Thank you so much. I appreciate it.

Thank you.

That's great. Thank you so much.