Raymond James Financial, Inc. (RJF) Earnings Call Transcript & Summary

Okay. Good morning, everyone, and thank you for joining us. Sorry for the brief delay. I'm Brian Alexander, the Director of Equity Research at Raymond James. It's my privilege to host today's session with Paul Reilly, our Chairman and CEO; and Paul Shoukry, our Chief Financial Officer. Obviously, we don't have official research coverage of Raymond James, but I am a recovering analyst, and I'll do my best to ask questions that are most relevant to you, our investors. If you're on the live call, there's an opportunity to submit questions, and I will do my best to get through them in the next 35 minutes that we have allotted. So thanks for your interest in Raymond James. And welcome, Paul and Paul.

So I'll start by reflecting on the past year. This conference was the last in-person event for our industry a year ago. And since then, obviously, a lot has changed. So Paul, please talk about how Raymond James has persevered through this very challenging time, some of the tough decisions that our leadership team has had to make to weather the storm and why you think Raymond James is even better positioned in a post-pandemic environment?

Thanks, Brian. Yes, certainly, it's been quite a year for the whole industry, first. Proud the way both the Federal Reserve and the industry really handled last March. If you're close to it, everyone knows how -- I mean, trading almost halted, even treasuries weren't trading well. And we wondered with the pandemic, what was going to happen and certainly, we came through it. Luckily, fortunately, people talk about Raymond James being overcapitalized and we are heavily capitalized, but it felt pretty good in March and April and May to have all that liquidity and capital. So we never worried about getting through the time period, but certainly had challenges. First challenge with the pandemic was getting everybody home. The great news there, we've invested so heavily in our mobile platforms, then it was very easy for us to do. And almost 4 years ago, we rolled out our adviser's desktop on where they could do everything about on this, they could do in their office. And so although we had to increase some pipe lift, I mean, it was easy, the tools were there. They were trained. Zoom was already installed with their own security around it. So Zoom ended up being the popular media. So it was great that we could get people out. And the tough decision was easy. It was associates' health and safety first. And so we just moved everyone home, and it was an uncertain environment, but it certainly worked well. The other great challenge during that period of time was making sure we could service all our clients, and that went extremely well, too. So I give our advisers and our support staff, just amazing kudos from working in tough environments with their kids and families home and everyone zooming, being really to keep the service levels pretty high. It's not the same as everybody being next to each other. So there are little challenges navigating, sometimes tough questions because everyone isn't in the room or in the same area where they can ask, they have to reach out. But I think that went very, very well. I'm also very proud how we handled kind of the social unrest and our commitment to the black community. I think the firm responded well. It was nice to get an award as one of the top 2 pledges, but I'd rather be judged by our results than award for the pledge. Our pledge was unique in that it wasn't just something signed by the CEO, it was signed by the Executive Committee, the Operating Committee, the Board of Directors, who said if we sign this, we're really going to push you and we said great. And when we opened it online, over 2,000 associates. So it's very thoughtful in making sure that every dollar we gave is leveraged by our associates who are actually making a difference. So as we went through the pandemic and watching the health and safety and slowly opening our branches and allowing limited capacity in the home offices, we've weathered it very well. And the next challenge will be return to office as the vaccinations come out. So the market was certainly better. We had a tough last fiscal year only because when the Fed's lowered interest rates in March, 40% of our run rate of pretax earnings were gone overnight, but it's ironic that with our focused growth and the growth in assets, partly by the market, but a lot of by our retention including we really ended the last quarter records. So I think a testament to the wherewithal of our associates, our conservative capital position and our ability to grow in good and bad markets.

Paul, you talked about coming back to the office, a question about our culture and our culture, obviously, a unique advantage for the firm. How do you balance the need to preserve that advantage and get everybody back to the office with the potential for more employees to want to work remotely even after the pandemic is over?

Well, the irony is we hired someone in December to -- who had a goal of getting 30% of our associates working remote, and we'd give him a number of years to do it. So his first day was March 1. So he claimed he did that in a month to get us to 95%. So we always knew that remote working was going to be a trend and we wanted to give associates flexibility. And it also helped -- frankly, it helps with our real estate costs if we can keep an average occupancy down and we can be flexible for employees and associates. But it's also important from a cultural standpoint for us to be together and to work together and to know each other. One of the unique advantages we've always had as a firm is the culture. That's why our turnover is so low. That's why we're able to weather storms together, our support for associates and our associates support for us. So it's going to be a balance. And there's no reason we have -- returning to office won't be a light switch. We don't need to say, okay, starting this day, everyone has to be back. We can solely bring people back and for those who want to. I think medicine will tell us as we see the impact of the vaccine. As we have countries like Israel now that are well vaccinated, we'll see what that means for vaccination. There'll be people that don't want to be vaccinated. There'll be people that have people at home still they have to take care of. We'll see what happens with schools. As schools are open, it's easier for people in schools or not. So we'll just take it a step at a time and again keeping our associates' health and safety and their particular circumstances top of mind. So I think it'll be a return over time, not an event.

Appreciate that. Obviously, Raymond James is a diversified financial services company. And I know some investors ask you about the pros and cons of being as diversified as we are with wealth management, asset management, capital markets and a bank all under the same umbrella. So maybe at a high level, talk about the strategic rationale for diversification. Any examples you could provide of synergies that exist that may not be intuitive and even how some of our businesses are perhaps even counterbalancing during difficult periods like what we saw last year?

So we've been a private client group-driven firm just by size. I mean we really started off heavily both in financial planning and the capital markets initially. So we've grown both, but certainly our Private Client Group accounts for well over 2/3 of our revenue, some directly, some indirectly. So the Private Client Group feeds our internal asset management group that manages assets on the 4 FAs who choose that. They can go outside, inside, it's up to them. The Private Client Group clients generate cash that feeds our bank and feeds our bank's suite program. We have 2 ways. We have Private Client Group cell syndicate offerings that are suitable for retail, both in fixed income and equities and also finds opportunities for M&A for client companies that are going public or selling or whatever. So there's a lot more synergies than people think between the businesses. And what we have done more recently is to make sure we're growing those other businesses. Certainly, Morgan Keegan was a huge shot to our Fixed Income and our Public Finance group. We've been ranked in the top 10 issuers, Public Finance now for -- I mean since they've joined us 7 or 8 years ago. We have a very robust Fixed Income platform. Our equity markets not was strong in underwriting, but we've grown our M&A capabilities significantly. And certainly by adding people in our sales and trading, we really beefed that up to, and we can see the results of that growth. So I think before, as Raymond James has always known not to have the downside because of our conservative long-term view and our Private Client Group, which tends to be pretty steady, but growing the capital markets has given us more of the upside as we could see last quarter. And I think it's given us almost the best of both worlds. So we performed very well. Like most companies in a period historically, we may not have kept up in the upmarkets because we had a smaller M&A and underwriting platform that we have today. So it's very synergistic. The Fixed Income business often thrives in down markets. The bank certainly is an equity market focused. And it's been a positive because of our conservative lending. Our balance sheet has done very, very well. And again, remind everybody in '09, firm made money in every quarter. The bank's worst year had a 7.9% positive ROE, just like the firm did in '09. So I think we -- the synergies, the breadth of the business has been very, very valuable, and it shows our 30-year long-term return to clients, investors.

Let's turn our attention to the Private Client Group. Strong recruiting has been a hallmark for that business, sustainable advantage for Raymond James for a long time. So as you look across the industry landscape and you look at a lot out of the competition, how would you boil down the differentiating factors that you believe allows us to attract advisers at a faster rate than our competitors and taking advisers away from our competitors? And that could be in the independent channel, the employee channel, it's been pretty consistent. So what are the key factors that draw advisers to Raymond James? And have those factors changed over time?

So first and foremost, it's been our culture always. It's very client focused and advisers are our clients. We treat them as our clients. We tell them they own the book. We put it in writing. We don't fight over clients. We want them to be independent to be able to serve their clients because every client is individual. They all have their own needs and wants and the adviser is closest to that. So the culture of service to them as clients and to their clients has been hallmark and that shows in our lack of turnover, both for advisers, but also our low turnover in associates. So culture has been #1. I think 10 years ago, people told me that we had the best technology. And I think that might have been true for regional firms, but it certainly wasn't when we benchmarked against the Wall Street firms and custodial firms. And we've made a significant investment, quadrupled really our technology investment since that 10-year period ago. And it's really been a focus on an adviser desktop. So today, our adviser desktop second to none. I know a lot of people talk about their technology. We recruit from all firms. There isn't one that doesn't say we have the leading adviser desktop. And now we're putting all those same remote capabilities into the client side. A lot of people went to the end client first, a lot of them because they wanted to compete with the advisers and go direct. We were saying, no, we're not going direct. We're staying focus on the adviser. That's our bet. And now we're putting all those mobile kind of amazing tools and connecting them directly to the client. So the adviser and the client interfaces is strong. We never worried about robo advisers as a competitor, but we said that kind of technology in connection was going to be table stakes. And I think it will be for that whole industry. And third and last, but not least, is service. Just as our technology gets a 95% excellent rating from our advisers, service is key. And we always look at our Net Promoter Scores, which have been very high. And when they slip a little bit, which they have a little bit during the pandemic, we've doubled down in doing surveys and doing -- I think there must have 100 meetings where we're actually zooming into offices and seeing what advisers are doing in their offices and how we can better service them, not from how is it from the office side, how is it from the adviser and their office side to make sure we keep that top notch knowing that it's harder during the pandemic. And I think the service levels, if it's been a little more challenged, a little bit during this pandemic, returning will help, but we're not going to wait. We can make it -- continually make it better as we always have. So those are the 3 reasons. We continue to invest heavy in the technology, and it's really focused around the adviser and what does the adviser need to do to plan and help their clients. And it's been a leading reason why people have joined with the culture and service.

And you mentioned on the most recent earnings call that there's been some tougher competition, primarily in the employee channel. And overall, though, you expressed confidence that the recruiting trajectory, while it has some ebb and flow, you expressed confidence in the trajectory going forward. So maybe just talk a little bit about the drivers of your confidence that this is a shorter-term blip in recruiting. And how much more aggressive do we need to be to achieve our targets?

So I think that, first, there are multiple things that hit last quarter. First, it's the time where we usually have a drop in the slowdown in advisers, mainly it's the time people retire. And most retirements, we keep the books, they get transferred into someone else in an office. But if you look, not at the end of last fiscal year, fiscal year and before the adviser count was almost 0, really, for that. So that's the time we lose people to retirement. Secondly, because of the pandemic, we had cut out 2 training classes. Those classes of about 35 each come in usually around that period of time, and we did it because of the pandemic. We didn't know if we could really train advisers in that environment expecting a downturn. And it's worked very, very well. So as we increase those training classes to gear them back up, that's going to help. And the third factor is the independent, the RIA, the financial institutions divisions, all had very good momentum, but we saw a slowdown in the employee channel. And I think there were 2 reasons. One, with COVID, we shut our offices for a while. So it made it hard to recruit. Secondly, since we're such a culture-based recruiter and our main offices were closed, we had required everyone to come into our office. And part of that is to let people see the service and our culture live because everybody was always very impressed. Of course, that went away. And last, but not least, which I think impacted it, was most firms, no matter what they're saying on their calls, had raised their transition assistance. And we see the deals, we see them competitively. And we were just behind before. We always offered less than most of the firms. And we said, hey, you can choose this culture, this great support, all these things you get, this digital marketing department where we've been a leader that help you grow your business. And so that investment is worth a fair thing for your practice, but you're going to earn it more over time. Well, as other people raised it, we -- it became more and more and more. Now in some cases, people paying twice as much on a trailing 12 basis. So there are people that wanted. So we were first choice, but it was a big check difference. And we didn't match the checks. We just -- we have closed the gap some because even raising them 30% from where we were, our IRRs based on our models would still be mid- to high teens, and we felt that's a good return. And if interest rate spreads come back, which we don't model heavy spread return in our models, there'll even be better deals. So we probably were a little slow. We had excess capital. It was a good use of capital. And just making that little tweak just last quarter, we could already see some pickup in recruiting already. And that usually takes a while to happen. So I feel very good about our recruitment.

That's good news. You mentioned the RIA channel and that's been a strong growth channel for us and even for some others. Talk about our focus on that channel and to the extent that it continues to outgrow other channels, are there any material implications for margins and returns?

Yes. So first, we've been investing in that channel for a long time. So when I first came here 10 years ago, we had the channel, and we started investing back then. And then more recently, bringing Greg Bruce over in to head that channel to show our commitment to RIA channel. So it's been from a percentage standpoint, the fastest growing, not the fastest growing in total assets. But we have found with Regulation BI and others, there were some groups that were considering it that did move this year. So we had internal movement, which is good because if someone who's become an RIA, we'd rather have them stay at Raymond James than go to a competitor. So it's good to have that channel there, but we've also been recruiting from the outside. And that's also impacted our reported adviser count a little bit. Because if we have a firm that has 5 producing advisers, and they go from our employee or independent to our RIA channel, well, we don't count advisers. We don't hold their licenses. So it looks like there's a reduction of 5 advisers, but the assets are still here in our RIA channel. So that also impacted the recruiting numbers some in the last quarter. So we think it's a good future growth. The model is different. It has higher margins, but lower kind of net production per adviser. So you have to -- you have a different service model and a cost structure. So you have to get it all right. It's complicated. But at the end of the day, you're still supporting people, trying to give advice to their clients. What's unique is we do have turnkey systems. So not only can you have a third-party system, which many RIAs use, but you can have a complete turnkey system in the Raymond James system without paying for it, installing it, which most RIAs have to do or join another RIA to get those services. So we believe it's another great opportunity. And if advisers want to operate in that model, we've got a very strong model.

Well, let's shift our attention to Capital Markets, which is the business that I sit in. The firm is coming off record results. In fiscal '20 in fixed income, M&A revenue has been a key growth driver really for the last several years. And our equity sales and trading business has consistently outperformed the market for the last 8 quarters. So realizing there's some cyclical and secular headwinds and tailwinds to all of these businesses, just talk at a high level about how investors should think about growth going forward? And what are the key drivers longer term?

Well, yes, it's -- probably where market experienced a down cycle. Certainly, there's been pressure on sales and trading and the monetization of research. MiFID II added to that. So we've been in a kind of a longer term the industry decline and kind of in sales and trading. And what we found in the market is that the market has got more volatile. They certainly have performed very, very well. I know Dave De Luca, a lot of you will meet him on the call, came over to head it. I'll probably say it's because of just him. It's partly because of him. He's done a great job. But the markets have also been conducive. And so certainly, we're seeing a reversal of that trend. So we hope that it's a signal the value of research and trading will stay at higher levels than it has historically, time will tell. But it's been a combination of all those in the Capital Markets with certainly fixed income and equity, sales and trading has been up. M&A has been up. Underwritings are going up. So -- and we're seeing even fixed income as we come through this time in the pandemic. States are going to have to fund. Government's infrastructure funding is going to go up. So we could be in for a cycle for a while. I don't know how long it lasts. If you asked me last March, this wouldn't have been my prediction, but we're well positioned. We're well positioned no matter what the markets do to compete. So that's what I'm most comfortable with.

I'm going to shift to the bank. And I know Paul Shoukry has been patiently waiting to have a chance to chime in. So this is probably a good opportunity. So in the bank, net interest margin has declined along with short-term rates over the last year. I think on the last call, Paul, you said you expect maybe 10 basis points of compression over the fiscal year. So first, is that still a valid assumption with rates moving higher? And how much of that is the overall rate environment versus the mix of loans?

Thanks, Brian. Yes, you're absolutely right. We have about 60 -- over $60 billion of client cash balances. In the vast majority, somewhere around 75% of those balances are floating rate balances. So last March when the Fed cut rates, it's hard to believe, but we lost 40% of our earnings roughly on a run rate basis overnight, which makes the record we generated in the last quarter even more remarkable and really reinforces what Paul was talking about in terms of the value of having a diversified business model. And when we look forward, as we grow the securities portfolio at the bank, and we don't take credit risk in our securities portfolio. These are agency mortgage-backed securities, essentially a substitute for the cash that we sweep to third-party banks. And increasingly, those third-party banks are not wanting that cash, they're flushed with cash. And so as our contracts expire, they're pushing that cash back to us. And so we're bringing more of that on balance sheet. We actually bought $2 billion of agency mortgage-backed securities in the September quarter. At that time, they are yielding 1%. But with the Fed's $40 billion of purchases a month and banks becoming flushed with cash, the demand outstripped the supply. So we decelerated the purchases of securities. But those securities have lower yields than corporate loans, as you would expect, because there's no credit risk associated with them. And unlike some of our peers, we're not going out 7 or 8 years on those securities to stretch for another 10 or 20 basis points. We're staying really short in the 3-year range because we don't like to take too much duration risk in case inflation does come to realization. So that -- those securities, as we purchase more of those, will be a drag on net interest margin, but they will represent an increase in sort of the total net interest income, which is really our focus because we're taking that cash off-balance sheet where it's earning roughly 30 basis points today, and less than that, when those contracts renew with the third-party banks, and we're investing them into the bank's balance sheet. So while it hurts NIM, the net interest margin, what we're really focused on is increasing the net interest income and the bottom line profitability over time.

And so on that point, when you net the NIM compression against the growth in the loan book, how should investors think about earnings growth for the bank this year and going forward?

Yes. This year, it's hard to say. I mean, certainly, the outlook for loan loss provision, which we could talk about in more detail, where we sit today, it looks better than it was last year. But again, that will be driven by economic conditions. But in terms of the loan growth for the bank going forward, we've continued to see really good growth in securities-based loans, in mortgages to Private Client Group clients. And those are our favorite loan categories. They represent good risk-adjusted returns for the bank, and they also help our financial advisers strengthen the relationships with their clients. And those have really been the focus even before COVID. Those have been the fastest growing categories. And whereas the corporate loan portfolio, we've actually sold off $700 million. And one of the few banks that I know of that proactively sort of derisked the corporate loan portfolio last year against reinforcing sort of a conservative mentality, where, yes, we realized some losses that in hindsight, we wish we didn't realize because the economy would recover much faster than we expected, but we also limited our downside in a very uncertain time. And so the corporate loan portfolio has really not grown over the last year. And I would tell you that, that was what the experience was. It was a much slower growing portfolio even before the COVID crisis because spreads came in so tightly that the risk-adjusted returns just weren't overly attractive for us. And so most big banks are expecting maybe a recovery in the second half of the year as these good credits, these better credits who raised a lot of cash last year for -- given the uncertainty and the big window of opportunity. As they start deploying that cash throughout the first half of the year, hopefully, there'll be more demand in the second half of the year. But we're not going to force loan growth. We're not going to force balance sheet growth. We're going to be patient. We have a lot of cash and a lot of capital, but we're going to wait for the right opportunities. Because, ultimately, the bank's mandate is not to grow the balance sheet, but to generate good risk-adjusted returns for shareholders over a long period of time. And sometimes, that means being patient for a quarter, 2 quarters, even a year if they need to be, if the risk-adjusted returns aren't there.

That makes a lot of sense. So just shifting gears to something that Paul Reilly mentioned at the top of the conversation about capitalization. The firm remains well capitalized with capital ratios well above regulatory requirements. It gives us flexibility to pursue growth opportunities as well as return cash to shareholders, something that I know that our executive team and the Board discusses regularly. So aside from investing organically in the business, just talk through the capital allocation priorities for the firm, how you think about the various options we have to enhance shareholder value? And then I have a follow-up on dividend versus buyback.

Yes. As Paul Reilly has always said, our primary focus when we think about capital deployment is growth, growing the company. And organic growth, as Paul mentioned with his recruiting commentary, is by far the most attractive growth lever for us in terms of the returns that are generated for shareholders. And then following that would be the acquisitions. We just announced a couple of niche acquisitions NWPS, which closed in December, as well as Financo, a great consumer M&A firm. Hopefully, we'll close here in the next month or 2. But we're continuing to look for acquisitions. Paul has been really focused on it. Our corporate development team has been focused on it. But we are also being very deliberate, and we want to only do acquisitions, as Paul says, that make us a better firm, not just a bigger firm. And we want to make sure we do it at economics that can generate good returns for our shareholders. So we're being very patient and deliberate there, but we are putting a lot of focus on both organic growth and acquisitions. And then when we think about deploying capital after that, we just talked about growing the bank's balance sheet. That uses regulatory capital, but we're going to be patient there as well. And then deploying the capital, both the dividends, which have been sort of in that 15% to 25% range, we actually took that up a little bit to 20% to 30% of earnings. And then repurchases, which we committed to do $200 million of anti-dilutive repurchases a year at any price. And then at opportunistic prices, we are certainly willing to do a lot more than that. As we did the 2 years prior to the COVID prices, we showed The Street the real willingness to repurchase shares when they are opportunistic purchases. And so we put a stake in the ground. A lot of folks were asking me and Paul, what is our capital target. We wanted to be very explicit with them that we know we have -- although we want to be patient to ensure we're generating good risk-adjusted returns for shareholders on our capital deployment, we also wanted to acknowledge to The Street that we do have excess capital, and we put a stake in the ground that our target over time, and no time line has been set yet, is to reduce that Tier 1 leverage ratio to 10%, which would still be on the very conservative end of the spectrum when we look at other peers in the industry. But I think that was well received by The Street because it was the first time we really gave them an explicit target to work toward.

You mentioned opportunistic share repurchases. I don't want to put you on the spot too much. But stock as of this morning was around $120. It's well above 2x book value. Are there any parameters you would share with investors as to what defines opportunistic as a multiple of book or some other valuation metric?

Yes. I mean, the last metric we put out there was 1.8x book after the corporate tax reform. It used to be 1.5x before tax rates were cut. And we'll see what happens to tax rates going forward. So the price is still above that metric. But the $200 million of purchases -- repurchases we want to do a year, that's really anti-dilutive purchases that we're going to do -- we hope to do over the course of the year, regardless of the price.

Well, I think we're bumping up against the allotted time. If there's any closing remarks that either Paul has, we can turn the floor over to you. If not, we can end the session.

I just want to thank everyone for their trust and their time today. So sort of the way we're doing this -- we're getting used to doing these conferences now virtually, but it will be nice when we can return and see everyone. So thank you all very much, and thanks, Brian, for hosting us.

Thank you.

Thanks, Brian.