Invesco Ltd. (IVZ) Earnings Call Transcript & Summary

Good morning, everyone. I'm John Aiken with Barclays. Very pleased to have Invesco presenting today. We have Invesco's CEO, Marty Flanagan; and their CFO, Allison Dukes. Marty, Allison, thank you very much for joining us today.

Glad to be here. Thanks. Yes...

Why don't we dive right in. Invesco has had some pretty strong inflows. I think we're getting close to about 20 straight months of long-term inflows. Now a good portion of the flows come from recently-funded large institutional passive mandates in Australia, but you still have a fairly robust one, but not yet funded pipeline. Can you give us a little color into the regions and strategies where you are seeing most of these mandate wins.

Yes. Happy to. let me make a couple of comments and Allison, please chime in. So the areas where we've really been focused is really where we're seeing the demand. Where you continue to see the strong growth, ETFs, factors index within that. And also the institutional businesses you talk about, across the globe, continues to be quite strong. The one but not funded pipeline continues to be strong. Much of that about 50% of the client wins are supported by our solutions capability, which we can talk about in a few minutes. But also importantly, it's private markets, real estate, private credit, in particular, active fixed income. And then within the global equities area, it's emerging markets, specifically, China continues to be very, very strong for us. It's been decades in the making and it's just a mention of growth. And we just see continued opportunity well into the future. And so again, by -- the regional channels improved dramatically from a year ago also, which is, I think, very important. So by region, by channel, by geography, it's just a very different picture than what you saw Q1, Q2 last year, which, again, that's probably not unique to us. But coming out of the pandemic, it's a very, very strong momentum within the business. Allison, anything you'd like to add?

No, I mean I think you captured it there.

Okay.

Are you seeing demand in any areas where you actually have room to build your offerings, maybe alternatives where you'd like to increase your presence?

Yes. I mean if you just stay on alternatives, obviously, if you look at the totality of our alternatives by about just north of $180 billion is an area of focus for us, real strength in real estate and within private credit, which is for the extension of, I'd say, a core DNA for us has been a focus area, and we think that specifically has quite a bit of room to run. We're seeing client demand there, and the numbers are strong. So that would be an area specifically we would look at.

And then you mentioned strength in the retail. Is this just more participants coming into the market or greater optimism? Or you're actually seeing any strategies that are attracting a lot of the retail flows?

It's probably all of that, right? If you go back to the pandemic period, the risk of environment is really difficult. If you look at where our fundamental strengths are and you consider that. So emerging markets equity, global equity, bank loans. Specifically, that was tough asset classes during that period. That has all changed very much. But if you look broadly through the wealth management platforms, strong active fixed income along with those areas I just mentioned. The other area of just real strength is the ETF business as far as the market share is about 2.7%, if you look at flows just last quarter, the market share of flows was about just north of 4%, but I think also importantly, they represented about 8% of the revenue pool. So really gaining strong momentum there. And again, just an area that we continue to see further opportunities for growth.

You mentioned the customized solutions and part of the one but not funded pipeline. Typically, those -- these have been lower fee passive products. What does the fee rate look like in the pipeline?

Let me make a -- one comment, and I'm going to turn to Allison on that one. So look, we made the decision. We've obviously been in the ETF business for a good period now. And we have a self-indexing capability, and that it was really focused on our ETF business, but we made a decision a couple of years ago, really based on client demand, where our large, sophisticated clients are -- want you to do more with fewer money managers. And part of that was -- almost every one of them have a passive part of the book. And so we made the determination to offer our index capabilities and custom solutions around that to sophisticated institutional investors, and it's a part of just the totality of the offering. And so that in conjunction with all the way of the risk-reward spectrum through alternatives is really what the client demand is looking like, and that's why we made that decision to do that. But Allison, let me turn it over to you.

Yes. I mean I think coming back to your question around the fee rate, the one not funded pipeline on the institutional side, it skews lower than the overall firm average, but I often say it's not as low as people might assume it, as it tends to bounce around in the high 20s or the low 30s. So it's actually -- I think it really reflects just our broad mix of capabilities that we have in the pipeline and the fact that our institutional clients are really looking at that breadth of capabilities across both active and passive and, in particular, our alternative capabilities, which certainly skew the average fee rate a little bit higher. But I think just underscoring a little bit of what Marty was saying is it's important not just to look at that overall fee rate in the pipeline. It's certainly one driver. It's one important metric and element. But we really try to look at it through more holistic lens around profitable growth and not really thinking about how we drive scale across our existing platform, and that scale is where we really deliver the growth in operating income and the positive operating leverage that we've been seeking.

Allison, how should we look at these going forward given the shifting mix, but also you make a great point, if we are seeing pressure on fees, what should we look for margins and ultimately, the bottom line?

Yes. I mean look, that's the constant balance as we continue to see real strong demand for our passive capabilities. And I think just, again, underscoring our strategy, which has been to really offer the breadth of capabilities across our platform so that we are able to capture client demand on both ends of the spectrum. That's been the real strategy and the driver in terms of how do we actually grow and improve market share. But in doing that, we've got to translate that into profitability and operating margin improvement and the like. And so I do think we will continue to see just that modest downward pressure on net revenue yield. It's -- we've seen that steady grind for a while now, and I suspect we will continue to see a bit of a steady grind on net revenue yield. Again, as our passive capabilities really grow and really pick up steam in terms of client demand. But what does that mean for operating margin? I think, look, you've got to look at what we've been able to deliver over the last several years to really, I think, underscore what's possible. If you look back to the second quarter of 2019, our first full quarter post the Oppenheimer acquisition. Net revenue yield since that time frame has dropped 6 basis points, but at the same time, we've actually improved operating margin by about 50 basis points or so. So net revenue yield, we certainly pay a lot of attention to it, but it isn't 100% correlated to operating margin. Said differently, we can expand operating margin even in the face of downward pressure on net revenue yield. And that's really our focus as we continue to think about how do we leverage scale and real thoughtful allocation of resources to hold steady on operating margin and ultimately deliver some improvements there, too.

Allison, one of the other factors being on -- for the fee compression is the money market fee waivers. Can investors expect to see that roll off anytime soon? And can you discuss what the sensitivities are to these waivers if we actually start to see a change in the short-term interest rates?

Yes. Look, money market fee waivers have been important just as we think about the utility of our money market business and why that matters to our clients and where it fits in that capability set, and so money market fee waivers have been important and maintaining our capture of that client demand. I think until we start to see short-term rates recover, we would expect those fee waivers to remain in place for some period of time. We disclosed at the end of the second quarter that waivers do impact our net revenue yield or did impact on an absolute basis with the second quarter, our net revenue yield to the tune of about 0.7 basis points. And I think that's probably what we will expect to see for some period of time until we see some recovery in short-term rates. In terms of what's going to actually change the dynamic and the sensitivity, it's not as perfect as Fed funds returning to 25 basis points. That's going to help. There's no question, that's going to help. But there are also the competitive dynamics that are there. And so it's really going to be a mix of factors that will allow us to gradually wean those money market fee waivers once we do see some recovery in short-term rates.

And then, Allison, since I'm continuing to pick on you, can we talk about your cost saving program that you have in place. You're well underway. What can we expect to see through the end of the year? I'm assuming you're confident in achieving your goals, but also as we move past this, what can investors expect over the next 3 years or so in terms of cost management?

Yes. I mean I think just rewinding on what we set out almost a year ago, it was a $200 million cost transformation program that we said we would complete by the end of 2022. Through June 30 of this year, we were at $125 million of that $200 million, and we are on track to the original target of $150 million by the end of this year. So $125 million out of the $200 million and on track to be at $150 million by the end of this year. And again, our strategic review really looked across 4 different pillars. Our organizational model, our real estate footprint, the management of our third-party spend and our tech and ops efficiency. And through that, we will continue to invest really in our key areas of strategic growth, and that's our ETF franchise, fixed income, our solution's business, alternatives and our global equities business. So always important to remember, we are continuing to invest even as we are delivering some of these operating expense improvements. And that was really the theme of this, which is how do we unlock some fixed expense, if you will, that isn't as productive as where we could reinvest it elsewhere to really fuel growth in these strategic imperatives that we see as we want to continue to build out and develop our franchise. So again, we're on track. And I think if anything, we've done a lot of work on the operating model. You saw a lot of that come out through compensation expense earlier in the year. The pillars where we are still at work and still have opportunity to deliver savings really comes in the form of our real estate footprint. Not surprisingly, we're looking at that like most companies are. We had opportunity probably prepandemic, the pandemic presents a different way of thinking about your real estate footprint and the way in which you may unlock savings but also tech and ops efficiencies, we continue to look at our tech stack and the opportunity we have to rationalize apps and deliver for clients more efficiently.

Fantastic. And Marty, back on the strategic front, the mandate win in Australia was a very big deal, at least from my perspective. But with the competitive marketplace there, how do you feel you're positioned for additional wins in the region moving forward?

Yes. Look, I mean, you hit it on -- it's a very competitive market, very sophisticated, and so the win was very important for us. And so, Needless to say, the relationship with IFF is a really important one, and we look to continue to expand that more broadly, as I was talking about. It also gives you credibility with other very sophisticated institutions in the region around the world. And so again, it continues to be an area where we see opportunity. But again, I'm going to put in the context of -- look at that as really an enabling capability to do a broader set of delivery investment capabilities to these clients, and they look beyond just the capabilities. It's really, obviously, the focus on outcomes. And the solutions engagement is really what enables much of that, and you just change the dynamics, and you become much more of a thought partner with clients like that. And as we all aspire to that, it's better outcomes to clients, and it's a good thing for investor also.

And then Marty, the -- you mentioned China as well. Now Invesco Great Wall has been a great source of strength in the APAC region. Are there any plans to increase your ownership in the JV, build out additional ventures in the area? What are the plans for the region?

Yes. Look, it's one of those overnight success 20 years later, right? It's -- we're just very, very strong in China, and it really has been approaching 20 years of focus within the region. As you pointed out, Invesco Great Wall is very, very strong and probably the #1 foreign joint venture within the region, if you look at some of the ratings by third parties. So that's going to continue to gather strength and strength. I think when you look within that, the development of the digital platforms are just far ahead of other platforms around the world, and it's a source of strength and it's also a source of learning for us. With regard to increasing our ownership, that is in desire. We've been in conversations with one on power for the last couple of years. Frankly, it slowed down when the tensions rose between 2 countries. That said, I think, importantly, and the key differentiator for our success is that we've had management control from the beginning and that really contrasts to many of the other joint ventures. And that is really what has allowed us to be so successful there with the core business that we have, the institutional business within the region. So we're looking for continued growth within China specifically. And we've seen just very elevated levels. And we -- again, we're just anticipating that to continue how it's -- the Chinese are very committed to continue to develop and open their capital markets. They recognize as a necessity for the prosperity of their country and for the individuals within it. So again, we're just going to stay very focused on that.

And then, Marty, given the success that you've had in China, are there any other regions that you might want to expand your footprint and your future concentration, any place else that you've been spending 20 years that might [indiscernible] tomorrow?

Yes, you never know, actually, right? So look, if you look at it right now, the U.K. and EMEA, EMEA is 30% -- excuse me, 50% of our footprint that probably has gone through that reaching the most dramatic regulatory change. This is final change of anywhere in the world. When you're starting to see strength come back into that business for us. And so that would be an area where as we look to the future, we're anticipating greater contribution once again as sort of the business model has settled in for all of us in that market.

Do you have any preference in terms of how you would approach expansion? Do you want a JV partnership or just go in and grow it organically where you see the possibilities?

Yes. Look, it's a great question. Me and Allison were sitting on this. I mean we start from a position of organic growth, and it's really a focus internally on allocating resources against what we see as the greatest opportunities. And if you look at the organization right now, the depth and breadth of investment capabilities are really quite strong and also our enabling capabilities are also quite strong, and that's been a focus over the last number of years. And so that's our first protocol. It's really been very thoughtful. And both organic growth and expansion that way look, we're open to any number of partnerships and dialogues like every other organization. But again, we've -- our 1, 2, 3 in our list is focused on organic growth.

And then, Marty, stepping off of that, can you discuss your priorities for capital management in terms of how you like to move things for organic growth, potential acquisitions and then return capital to shareholders in terms of what's your priorities and how do you look at it?

Yes, look, I'll make a comment or 2, and I'm going to pass it to Allison. The first priority is really back into the business and not just -- and again, allocating resources against what we see as the greatest opportunities and Allison was sitting on those just a few minutes ago. We don't see those moving very, very much, and then secondarily, return to shareholders. But Allison, why don't I stop and let you get anything into details.

We've made meaningful progress over the past year, really in building cash and also improving and increasing our financial flexibility with a real eye towards strengthening our balance sheet. And so when it comes to our capital management priorities, I would tell you, it's a very -- our approach is a very balanced approach. It's not really a ranking, but rather how do we make progress against each one of our priorities. And that's really, first and foremost, thinking about what Marty was saying, really focusing on supporting our future growth and investing in our own capabilities, investing in our own business, recognizing that the real fuel for growth is that organic growth that we can create leveraging the momentum we already have and investing in those key growth capabilities. We also are very focused on maintaining the strength from our balance sheet. As I said, we've been building cash. We've been looking for opportunities to delever where we have them. And then we also are focused on returning our excess cash to shareholders through both an increasing common dividend and share repurchases. And so it's really -- it's a strategy that has an eye towards balancing each one of those as we seek to return capital to shareholders and improve our leverage profile and invest in our business at the same time. it's a balancing act, but we think we've made meaningful progress, frankly, on all 3 over the last 12 months.

Fantastic. If we could move on to product offerings. We touched on it earlier, alternative funds have been strong recently, benefiting both from the strength in the private markets, but also your partnership with MassMutual. Which strategies are you seeing coming into favor recently? Do you think there's a runway for that? And are there any holes in your offering that you may want to add in the near term?

Yes. Look, you're hitting right on the point. I mean, the fundamental strength has been direct real estate specifically, and that continues to -- and that's a global set of capabilities there. And that's an area where we've worked with MassMutual very specifically. And again, we'll continue to see growth. It really also is the credit space for us, building off our bank loan business into private markets. And again, we're continuing to see the strength there that would probably be the second area of focus for us. And it continues to be an opportunity. I think the other area that comes up is many organizations are trying to find ways to have alternatives available to retail investors. And it's a unique -- we have a few set of firms that can really have -- that has the alternative capabilities and also the capabilities to be successful within the wealth management platforms. And more recently, it's really a NREIT capability taking real estate and making it available to the wealth management channels. It's early days, but we look at that as a very significant opportunity for us as organization.

Yes, Marty, it's interesting the retail offering that you really have been at the forefront of you mentioned this is a big opportunity. Can you -- how quickly do you think that the shift in mix is going to be between institutional and retail, particularly in the alts side?

Yes. Look, it's going to take time. I mean just because of the sheer size of the numbers that we have in the institutional business right now. But the, as we call it, the client demand and the desire to have these very strong offerings available to the retail platform is very, very high. And so again, I think if you look back a year from now, you're going to start to see -- I suspect some real contribution to the organization and it tends get quite broad within those platforms once it starts. So again, I don't want to get over my skis, but it feels like we have the right formula right now with the right partners to be successful there.

Yes. And touching on partners. I mean I found the agreement, the partnership that you have with UBS in terms of property investment services. This is quite interesting in terms of how you're approaching this. Do you see demand for additional partnerships with Invesco? And what do you look for when you're partnering up with somebody to provide these offerings?

Yes, it's a great question. And again, it's -- when you think of an organization like UBS, very sophisticated global organization and really one of the few organizations as a global wealth management platform around the world. And when you look at our investment capabilities in real estate there, our global platform of wealth management around the world, matching up with their capabilities, their global platform. it was just a unique opportunity for the 2 organizations to work together. And again, the one who was there, it's not 12 organizations. There just aren't that many that you can pull it off globally because of the criteria I just laid out. That said, there are, within regions around the world, emerging opportunities. And again, it has to work for both parties and it's something we're very open to. And we're expecting very good things from the partnership with UBS.

And Marty, alternatives are very popular, but the other revenue for investing that's very thematic is ESG. It's very topical for investors. I know that you've been integrating ESG into your funds for a while, but can you give us an idea of what to expect from the ESG perspective in terms of what it may look like over the next couple of years? And honestly, how are you positioning yourself in the future?

Yes. So I'll make a couple of comments, and I'm going to ask Allison to chip in. So I, frankly, suspect in 3 years, we're not even going to talk about something separate called ESG. I mean it's just going to be a part of investing. And 75% of all of our assets are now ESG inclusion, if we're getting to 100% like probably every single organization around the world. From our perspective, it's a global conversation, but really the push has come from the U.K. and the continent. And if you are not a serious ESG player, and I'm saying serious, you are limited and what will be your ongoing success in that region. It is following through in the rest of the world. So again, from our perspective, it is a top-of-mind priority of the organization, and we intend to be a leader there. And again, I think anybody that's going to be successful and serious as a money manager, they're going to be all in on the ESG capabilities. I also think maybe we're already going, John, yes, there's been -- as the industry has -- it's become a much more competitive environment as people have turned their heads to ESG as sort of sales mantra, the greenwashing topic has come to the forefront for regulators, and we welcome that, quite frankly, because it's the right thing for investors. It's right thing for what we're trying to accomplish. And you really just can't have something off like that in such an important market. Allison, am I missing anything you'd like to add?

Yes I mean, maybe just a little bit of color around where ESG fits in, in our capabilities and in our platform. At the end of the second quarter, we managed about $53 billion in ESG AUM and that included over 130 ESG funds and mandates and that's really across strategies, across geographies, across client types. We're the second largest provider of ESG ETFs in the United States with 22 ETFs and again, continue to focus on building out those capabilities. And that's what we would consider our ESG AUM, but coming back around to Marty's comments around the integration of our ESG framework across our investment capabilities and our goal to really integrate that framework across all of our capabilities. About 75% of our investment teams have integrated our ESG framework in a minimal but kind of systematic way, and we continue to focus on the integration of that, across all of our capabilities, which I think really underscores Marty's comment around, in a few years, we might not be talking about dedicated ESG or being something separate and unique and distinct, again, as we look to really integrate that governance.

And Allison, are you able to comment on Invesco's own approach to ESG within your own operations?

Good question. I mean yes, that's something we're spending a lot of time thinking about. It's certainly as we think about the framework and the integration across our investment capabilities. We spend a lot of time thinking about what does it mean for how we actually run the business from a governance perspective and the like. We are spending quite a bit of time as we think about, just again, our buildings and our real estate and the way in which we can be stewards of the environment and think about what we do and how we do it differently so that we can integrate these capabilities in the practices within our own governance. And diversity and inclusion is another pillar of that as we spend a significant amount of time thinking about how do we really create diverse thinking within our team and where does that start and what does diversity mean? And how do we foster that, facilitate that and steward the diversity that we actually have as a global firm, but then integrated across our thinking. And being a global firm, it gives you a lot of opportunities to think about diversity a little bit differently than purely a domestic firm would, but it's important that we think about diversity across all definitions of diversity.

Fantastic. And Marty, ETF factor in index investing has been your bread and butter for quite some time. Are you seeing any new opportunities out there, something like maybe self-indexing or smart beta that might be an opportunity moving forward?

Yes. As I mentioned a few minutes ago, so we do have a self-indexing capability, and we've had it for a number of years now. It really becomes foundational and a lot of these engagements with these very sophisticated institutions. And if you want to get back to IFF, for example, that was part of what we were doing with them was literally building indexes for them that we're meeting their needs. And so it becomes a very important tool in the toolbox as we look forward. And again, we just look at it as the totality of the package and if you look at how we started in our ETF business in 2006, it really was through smart beta. And so it is what we think is the fundamental strength of ours as an organization. And that is also why, as I pointed out, when you look at the revenue pool of the ETFs, being at 8% versus our -- your market share of 2.7%, that's really coming from the smart beta capabilities and there's strong demand there. We expect continued demand there, and we're constantly evolving our thinking and really our offerings based on what we hear from clients and just responding to client demand in the marketplace.

And then taking a look at your data and technology offerings, particularly as they relate to digital portfolio solutions, how important are these products for clients, winning new business? And are there any digital capabilities you're interested in building out?

Yes. So it really -- so foundational to the solutions capability is a proprietary analytical tool that we've built. And again, it really has become table stakes in these interfaces with clients, and it's going to continue to be an area that will continue to advance. It really has been one of the very important reasons that we have been successful within the institutional business. And again, you can just see the difference of 3 to 5 years ago with our institutional success versus it now. And as I mentioned earlier, 50% of all of our institutional engagements are through solutions. What that really means is really this technology-enabled analytical tool that has been a very, very important part of them.

And capabilities that you'd like to build out, is there anything aspirational?

Look, we've continued to, on the back of that work on developing digital tools for the wealth management platforms, but they tend to be very much focused on the RIAs. Our success really has been in the U.K. with about 40% market share through Intelliflo. It is an area in the United States where it's frankly early days for our penetration. But it's $1 trillion in assets under administration right now. And again, we have some ways to go for our aspirations, but it's a very strong offering.

And then, Marty, taking a step back, Invesco has, scale, has breadth, has a myriad of offerings. But how are you seeing the competitive environment evolving in terms of -- because you had mentioned earlier that, it's basically investors are going to fewer platforms and you're seeing that evolution. What are the competitive pressures that you're feeling with your operations?

Look, it's probably no different than anybody else. I mean you hit it. It's not a very complicated formula. It's a maturing industry. Clients are looking to lean on fewer money managers, and they're expecting a lot more from them. And fundamentally, what that also highlights is there are just too many money managers, right? And I've been in the business for a long time now, and that was observed in a couple of decades, [indiscernible] has actually come to light right now. And so our absolute focus is really understanding what clients are looking for. And if you look at -- our answer is what you're seeing in Invesco right now, a very broad range of capabilities, active passive from cap-weighted indexes through alternatives, enabled in many different ways, solutions, analytical tools, thought leadership. Those are all, frankly, just foundational elements now, which you would never have imagined being a necessity 5 or 10 years ago to say nothing of 15 years ago. And so you really need a depth of relationship with the clients, you really need scale through the capabilities that you have, but also operational scale. And Allison was talking about that. And you're seeing that come through and you have this dynamic of being able to expand our operating margin in an environment where the effective fee rate is -- has dropped as it's really this mix shift largely. But again, underneath it is -- the pressure has been to allocate resources against activities that are really going to drive the results for clients, and that's what we've been doing. We're going to -- you can't stop and you've got to keep going very, very hard because the pace of change is quite dramatic, and moving very fast.

And Marty, I think we're bumping up against time. So I just want to leave with one final question. Is there anything on the regulatory front that you're seeing that may cause not necessarily concerns, but additional disruptions because you are operating in a whole host of regions. Is there anything out there that's not on my radar screen.

Look, I think a lot of the regulatory reforms have come really post the financial crisis like the last decade, they've really settled in that doesn't -- regulators are always sharpening their focus as they look out for the benefit of clients in the United States. New administration is just sort of settling in, so it's too early to determine that right now. Otherwise, we're executing against a number of regulations that have been coming forth, whether through the EU and again, we're paying attention to, quite frankly, developments within China very specifically and quite frankly the geopolitical engagement between the United States and China is a very important one. We're -- it's the 2 largest economies in the world, and we're a strong supporter of engagement, and it's in each countries, quite frankly, self-interest to have a strong relationship to not just developing capital markets. But as I said earlier, just really selfishly for economic development and well-being of the citizens within each of the countries. So there's many things every single day that we're paying attention to, but nothing sort of stands out as new and different and challenging at a level that we've not seen before.

That's fantastic. Marty, Allison, thank you very much for your insights. We really appreciate you joining us this morning.

Thanks, John. Much appreciated.

Thank you, John.