BlackRock (BLK) Q4 2013 Earnings Call January 16, 2014 8:30 AM ET
Matthew J. Mallow - Senior Managing Director and General Counsel
Gary S. Shedlin - Chief Financial Officer, Senior Managing Director, and Member of Global Executive Committee
Laurence Douglas Fink - Chairman, Chief Executive Officer and Chairman of Executive Committee
Robert S. Kapito - President, Director, Chairman of Operations Committee and Member of Executive Committee
Luke Montgomery - Sanford C. Bernstein & Co., LLC., Research Division
William R. Katz - Citigroup Inc, Research Division
Marc S. Irizarry - Goldman Sachs Group Inc., Research Division
Daniel Thomas Fannon - Jefferies LLC, Research Division
Craig Siegenthaler - Crédit Suisse AG, Research Division
Michael Carrier - BofA Merrill Lynch, Research Division
Good morning. My name is Jennifer, and I will be your conference facilitator today. At this time, I would like to welcome everyone to the BlackRock Incorporated Fourth Quarter and Full Year 2013 Earnings Teleconference. Our host for today's call will be Chairman and Chief Executive Officer, Laurence D. Fink; Chief Financial Officer, Gary Shedlin; President, Robert S. Kapito; and General Counsel, Matthew Mallow. [Operator Instructions] Thank you. Mr. Mallow, you may begin your conference.
Matthew J. Mallow
Thanks very much. Good morning, everyone. I'm Matt Mallow, the General Counsel of BlackRock. And before Larry and Gary make their remarks, let me remind you that during the course of this call, we may make a number of forward-looking statements. We call your attention to the fact that BlackRock's actual results may, of course, differ from these statements. As you know, BlackRock has filed reports with the SEC, which list some of the factors that may cause the results of BlackRock to differ materially from what we say today. And additionally, BlackRock assumes no duty and does not undertake to update any forward-looking statements.
So with that, I'll get out of the way and let the call begin.
Gary S. Shedlin
Thanks, Matt, and good morning, everyone. It's my pleasure to be here to present our fourth quarter and full year 2013 results. Before I turn it over to Larry to offer his comments, I'll review our quarterly and full year financials and discuss our fourth quarter business results. As usual, I will be focusing primarily on as adjusted results.
Overall, 2013 was a strong year for BlackRock shareholders, clients and employees. And our solid fourth quarter results position us well going into 2014. BlackRock delivered fourth quarter earnings per share of $4.92 and operating income of $1.1 billion, up 24% and 10%, respectively, compared to 2012. Full year EPS of $16.58 was up 21% compared to 2012, reflecting operating income of $4 billion, which was 13% higher.
Fourth quarter nonoperating results reflected a $61 million increase in the market value of our seed and co-investments, largely driven by continued appreciation of private equity, distressed credit and hedge fund-related investments. Our 26.5% as adjusted tax rate for the fourth quarter benefited from several favorable non-recurring items. We continue to believe that 31% represents a reasonable long-term projected rate, so our actual 2014 tax rate may be closer to 30% as a consequence of additional non-recurring items, which may arise during the coming year.
In the fourth quarter, we saw approximately $40 billion of long-term net new flows, representing an annualized organic growth rate of 4.3%. Total long-term net new business for 2013 was approximately $117 billion, representing a 3.4% organic growth rate. BlackRock continues to demonstrate the stability of its diversified multi-client platform with organic growth across each of our client businesses and solid growth from our Retail and iShares franchises.
Fourth quarter revenues were $2.8 billion, up $238 million or 9% from a year ago, and were driven by strong growth in base fees, performance fees and revenues from BlackRock Solutions. Revenues for 2013 totaled $10.2 billion, up 9% versus 2012. We experienced year-over-year base fee growth across all long-dated asset classes. And base fees, performance fees and solutions revenues each reached record levels for the full year.
Fourth quarter base fees rose 10% year-over-year, driven by a combination of market strength, organic growth and the acquisitions of the Crédit Suisse ETF and MGPA businesses, offset by continued pressure in securities lending spreads. Performance fees for the quarter were $268 million, up 12% from a year ago, reflecting very strong results across BlackRock's alternatives platform including our hedge fund of funds platform and a diverse set of single-strategy hedge funds. While last year's fourth quarter included a large onetime fee related to the wind down of the U.S. government PPIP portfolio, this quarter benefited from a similarly sized performance fee associated with an opportunistic 2007 vintage closed-end mortgage fund, which was partially liquidated in December. As we have previously indicated, the fourth quarter is generally our seasonally strongest performance fee generating quarter for the year.
BlackRock Solutions revenues of $157 million were up 15% year-over-year and roughly flat to the third quarter. Our Aladdin business, which represents 73% of BRS revenue in the quarter, signed more than 15 new clients in 2013 including one of its largest ever and continues to benefit from trends favoring global investment platform consolidation and multi-asset risk solutions. Sequential results were impacted by the timing and recognition of certain fees and expenses.
Our Financial Markets Advisory business, or FMA, signed more than 50 new assignments during the year and continues to post strong revenues even as the business transitions from a crisis management emphasis to a more institutionalized advisory business model with a strong focus on helping clients navigate and implement requirements for the new regulatory environment. The decline in fourth quarter other revenue was primarily driven by equity method earnings attributable to our ownership stake in PennyMac.
Expenses for the fourth quarter rose $136 million year-over-year, driven primarily by revenue-related items including compensation and direct fund expense and increased levels of G&A expense. Our full year compensation to revenue ratio fell by 40 basis points in 2013 to 34.5%, primarily driven by the proactive reshaping of our employee base including geographic location and the impact of positive beta.
Quarterly G&A expense rose $76 million sequentially and reflected a variety of factors, including increased marketing and promotion spend, ongoing and deal-related costs associated with acquisitions, relocation-driven occupancy and lease impairment charges, FX and other miscellaneous items. Excluding the timing impact of our marketing spend, approximately $15 million of this quarterly increase represents recurring expense associated with our continued growth.
Notwithstanding the increased level of G&A in the fourth quarter, our operating margin was 42.7%, relatively flat with year-ago levels, and 41.4% for the full year 2013, representing 100-basis-point increase over 2012 levels.
We remain committed to using our cash flow to optimize shareholder value with our first priority to invest in our business. In line with that strategy and as previously discussed, we completed the acquisition of MGPA on October 4, adding $11 billion in assets under management and extending BlackRock's real estate debt and equity investment capabilities to Asia Pacific and Europe. During 2013, we also returned approximately $2.2 billion to shareholders through dividends and buybacks, representing a total payout ratio of 74%.
Heading into 2014, we remain committed to our predictable and balanced approach to capital management while also being mindful of the uncertain regulatory environment in which we are operating. Consistent with this, our Board of Directors has delayed a quarterly cash dividend of $1.93 per share of common stock, representing an increase of 15% over the current level. Since instituting our dividend in September of 2003, BlackRock has increased the dividend in every year other than 2009 when it was unchanged. Over that time period, the dividend has grown at a compound annual growth rate of approximately 24%. We repurchased an additional $250 million worth of shares in the fourth quarter, bringing the total for the year to $1 billion, and are committed to maintaining a steady level of repurchases into 2014.
Our strong financial results reflect the benefits of our improved investment performance, diverse platform and deep partnerships with our clients. We saw positive flows across all of our client businesses and regions with Retail and iShares continuing to drive growth. The breadth of BlackRock's platform was once again demonstrated by a record 12 Retail and iShares products, each generating more than $1 billion of net flows in the fourth quarter.
We continue to see strong results in Retail with flows of $16.6 billion for the quarter, representing a 15% annualized organic growth rate. U.S. Retail's long-term net flows of $9.4 billion for the quarter drove annualized organic growth of 12%. Our unconstrained Strategic Income Opportunities fund, Global Long/Short Credit fund and Multi-Asset Income fund continue to drive growth, with each delivering more than $1 billion in flows during the quarter. Fixed income flows of $2.5 billion were driven by solid investment performance, product diversification and success in our duration managed product suite.
International Retail saw long-term net flows of $7.2 billion for the quarter, representing an extremely strong annualized organic growth rate of 23%. Our European Equities suite continues to drive results with $2.9 billion of net new business during the quarter and $7.9 billion for the year, capturing 21% of category flows in 2013.
We also saw demand for our solutions-oriented multi-asset product line led by our Global Allocation, Managed Volatility and Dynamic Asset Allocation products. As a result of the changing regulatory landscape in Europe and its impact on the existing retrocession distribution model, we are witnessing growing Retail demand for efficiently packaged passive investment vehicles and made a decision to strategically reposition certain index mutual fund ranges previously targeted towards Institutional investors. In line with this strategy, we have reclassified approximately $20 billion of AUM related to these fund ranges from our Institutional channel to our Retail channel. This reclassification is presented in the column titled Adjustments in the AUM tables contained in our earnings release.
Global iShares once again led the industry with 27% market share of net flows in 2013. In the quarter, iShares raised $19.1 billion of net new business as equity inflows of $24.1 billion were partially offset by fixed income and commodities redemptions. Developed market equities attracted the majority of fourth quarter iShares flows, led by European and U.S. equity exposures, broad global funds and Japanese equities with modest outflows from emerging markets.
EMEA iShares led regional flows with $22 billion for the year, driving organic growth of 16% in 2013 and were well diversified across equities and fixed income as we expanded our efforts to penetrate new client segments and markets. The iShares Core Series targeted to buy-and-hold investors attracted approximately $11 billion of net flows during the quarter and approximately $20 billion for the year. Buy-and-hold segment represents a strong growth opportunity and continues to be an area of strategic focus.
Our Institutional business generated $4.8 billion of net long-term inflows in the fourth quarter, led by continued growth in defined contribution. Strong multi-asset inflows included $10.4 billion of assets related to 2 LifePath open-architecture mandates where we provide customized asset allocation glide paths, direct asset management and third-party manager selection. In connection with these new mandates, we reclassified approximately $6 billion of existing AUM from both indexed equity and indexed fixed income to active multi-asset to better reflect the overall nature of the mandate. This reclassification is also presented in the column titled Adjustments in the AUM tables contained in our earnings release.
Active equity outflows were driven by fundamental equity outflows of $1.5 billion and were primarily related to our U.K. equities business. We are seeing tangible benefits from the ongoing rebuild of our U.S. active equity business as fourth quarter results included a $1.8 billion fundamental large cap growth sub-advisory funding.
In alternatives, outflows were driven primarily by non-core active currency mandates and return of capital including the partial liquidation of the previously mentioned closed-end mortgage fund. However, we saw another strong quarter for our liquid alternatives, generating over $1 billion in commitments for the fourth consecutive quarter. During 2013, we secured $6 billion of total commitments, of which $5 billion have yet to be deployed.
Our full year results reflect successful navigation of the shareholder value roadmap we outlined at our June Investor Day: generate organic growth, demonstrate operating leverage and consistently return capital to shareholders. Our diverse platform and strong performance track record position us well to continue our journey as we enter 2014.
And with that, I'll turn it over to Larry.
Laurence Douglas Fink
Thanks, Gary. Good morning, everyone, and thank you for joining the call. BlackRock has consistently advised our clients on the importance of making their money work for them. 2013 was another year that clearly highlighted the benefits of being fully invested and missed opportunities for more than $10 trillion of cash sitting on the sidelines. The S&P has more than doubled off of 2009 bottom. Certainly, generating outsized returns is going to be more challenging going forward. However, increased confidence in economic growth is providing support for asset prices, and I am constructive on equities for 2014. Same time, global political risk and market dependence on extraordinary monetary policy remains elevated, and policymakers and central bankers are going to have to get it right to keep the market even-keeled.
In the U.S., political conditions appear to be improving on the margin, and markets are acting -- reacting positively to the Fed's tapering announcement last month. Globally, Europe is slowly recovering, and I want to emphasize slowly. Investors are hoping that Japan will continue executing on its plans and that the market is paying close attention to China with its own set of proposed reforms.
Last year, we saw a huge divergence between developed markets and emerging market equities. And the performance diverged considerably, and most investors also lost money in bonds last year. Just being invested is not enough. Clients need to be properly positioned. At the core of BlackRock's value proposition for clients is our ability to constantly challenge ourselves and to evolve in the face of these changing market trends and client needs. The global diversified platform and strong alpha generation track record we built over the past 25 years at BlackRock positions us to provide the investment advice and solutions our clients need to meet their investment goals.
BlackRock raised $117 billion of long-term net new flows in 2013, representing a 3.4 organic growth rate. Our client mix continues to shift towards higher fee Retail and iShares business, which accounted for 88% of our organic asset growth and a larger percentage of our organic revenue growth this year. This growth helped us fuel a 13% increase in operating income and a 21% increase in earnings per share versus 2012. And these results speak to the strength of our business model, which I've talked about every quarter, the differentiated business model. And I believe it is that business model that will continue to give us the potential to accelerate even from here.
Over the course of the year, it was the collective strength of our platform across businesses, across regions, across asset classes that delivered for our clients and our shareholders. BlackRock's broad array of investment solutions drove growth in 2013 with 43 products raising more than $1 billion of net new flows versus 25 such products in 2012, highlighting our ability to meet the diverse needs of our clients.
As we've discussed in previous calls, the investment landscape is moving away from traditional style boxes as clients focus on achieving outcomes rather than buying products. BlackRock has built a very strong foundation to be the leader in the solution and outcome space.
In Global Retail, we are raising our profile through our branding efforts, evolving our product set in anticipation of changing market trends and deepening our distribution relationships with our distributing partners. BlackRock's clients are increasing their combined use of alpha and beta, including the broad-based adoption of passive products as building blocks, along with increasing standards for performance in a winner-take-all environment. And we are focused on retirement solutions and the importance of financial planning in the face of rising longevity.
Over the past several quarters, we've discussed the growth opportunities in Global Retail, and that growth is materializing. We saw Retail long-term flows of $39 billion for the year leading to 10% organic growth, a significant increase compared to the 3% growth we saw in 2012. International Retail had a very strong year with net inflows of $18 billion in 2013, representing a 15% organic growth rate. Flows were positive across major regions and diversified across asset classes, highlighting the benefit of our platforms' breadth and our ability to transcend our business across region.
Our top-performing BlackRock Equities franchise led the equity business with $8 billion of net flows this year. We also generated more than $4 billion of net flows in both fixed income and multi-asset class products and as investors turn to BlackRock to manage duration and volatility in their portfolios.
BlackRock's U.S. Retail business saw $21 billion of net flows in 2013, growing organically at 7%. Income was a key theme for U.S. Retail in 2013. Investors continue to search for yield in a low-rate environment and did so with an eye on rising rates and a growing appreciation for the risk of rising rates. BlackRock's platform, our client dialogue, our marketing campaign, were aligned to take advantage, and we were proactive in educating our clients about the risk in their fixed income portfolios. Flows across the income theme in 2013 were led by our top-performing strategic income opportunity fund, which brought in $7 billion of flows this year. Our Global Long/Short Credit, our 0 duration liquid alternative product and our multi-asset income product each raised $4 billion in 2013 as investors looked for top-tier income solutions.
BlackRock remains intensely focused on performance. Our strong fixed income performance drove the #1 industry ranking in U.S. Retail active fixed income flows for the year where we generated more than $9 billion of net inflows in a year when the industry saw outflows of $30 billion. These changes in investor preference for income go beyond Retail and drove a strong rotation within fixed income that we anticipated will continue. And already in 2014, we are seeing accelerated interest in this area.
Unlike many of our peers, BlackRock saw fixed income inflows throughout the year in 2013, and we expect to see substantial money in motion within fixed income this year. And BlackRock's best-in-class 5-year performance track record across our bond platform puts us in a position to capture those flows. Our unconstrained bond solution SIO continues to generate strong interest from both Retail and now a much growing interest from our Institutional clients as investors reassess their duration risk and the maturity risk in their core bond portfolios.
BlackRock's actively managed business is essential to our future growth as we look to generate alpha for our clients. If you look at our performance tables in our earnings release, you'll see the numbers are quite impressive. Taxable fixed income now has 87% of its assets above benchmark for the 3-year period, up more than 30 percentage points since 2010. Our scientific active equity team has 96% of our assets above the benchmark, almost 70 percentage points since 2010. Our Fundamental Active Equity numbers are improving but are still held down by our Equity Dividend Fund, which isn't really a benchmark-driven product. And if you strip that out, you'll see that more than 67% of our active equity funds are above the benchmark for a 3-year period.
As noted before, we've made important changes to our Fundamental Active Equity teams in 2012 and '13 to ensure that BlackRock meets our clients' high performance standards, and we're beginning to see results with the 4 largest funds under new management showing material performance improvement since the new team joined BlackRock.
Our basic value fund is more than 540 basis points above its benchmark and is in the fifth percentile. Our Large Cap Growth product has risen from the 75th percentile to the 30th percentile. And our Large Cap Value product has risen from the 97th percentile to the 35th. But active management isn't just about traditional long only products. BlackRock generated $561 million in performance fees this year, primarily as a result of delivering substantial return for clients invested in our highly diversified $110 billion of alternative franchise.
We're seeing Institutional clients increase allocation to alternatives, and we've seen strong fundraising in our illiquid product set. BlackRock raised more than $6 billion in new commitments across a variety of strategies including opportunistic credit, infrastructure debt and customized alternative solutions in 2013. Our Retail liquid alternatives raised nearly $5 billion this year, and we have the right investment teams and the right distribution presence to play a leading role in Retail alternatives.
We're seeing the trend of clients are using our active and alternative strategies alongside our passive offerings continuing. BlackRock's combination of alpha and beta on a single platform and the ability to leverage our Aladdin risk management platform positions us, as well as any firm, to offer custom solutions across the investment spectrum for our clients.
On the passive side, it was another strong year for iShares, generating $64 billion of net inflows and 8% organic growth rate. Secular trends supporting future ETF growth remains. These include increasing adoption of global penetration; expanding the usage of ETFs as a core building block; and three, as investor demand for innovative new products. As Gary mentioned, our iShares Core Series is one example of BlackRock's ability to expand our reach into new segments like buy-and-hold space.
Since the launch of the Core Series in October 2012, we've raised nearly $25 billion, representing a 30% annualized organic growth. BlackRock's strategic alliance with Fidelity, which we enhanced in 2013, is another example of our commitment to buy-and-hold investors. And we saw organic growth of 15% in 2013, nearly doubling that of our overall iShares business. While we saw strong iShares equity flows in 2013, it was a challenging year for long-duration fixed income and ETFs. The interest rate environment led many liquidity-oriented investors to sell long-duration assets, which made up more than 70% of our iShares fixed income book. As a result, we saw more than $7 billion of fixed income outflows this year, a sizable reversal for the iSharesBond business from a strong 2012.
Helping to offset the pressure on the long-duration side, our short-duration fixed income suite gathered nearly $9 billion this year, led by our floating rate bond fund. BlackRock is focused on strengthening our offerings for clients, seeking protection in a rising rate environment, by offering expanding product set that includes 4 new U.S. funds, including short duration versions of our flagship high-yield and our investment-grade credit products and short maturity and liquidity income funds.
Fixed income ETFs represent a sizable long-term growth opportunity for BlackRock. And with diverse offerings in long and short durations and fixed maturity products, I believe BlackRock is very well positioned to capitalize on this opportunity.
I've spent a lot of time in 2013 talking to clients, talking to shareholders, talking to regulators and politicians about longevity. Longer lifespans and underfunded retirement plans are one of the defining investment challenges of our generation. BlackRock is committed to helping clients meet their retirement savings needs, and our ability to customize outcome-oriented solutions is a key differentiator. In 2013, BlackRock's Defined Contribution clients contributed $30 billion of net inflows for a 7% organic growth rate, taking our Defined Contribution franchise to over $525 billion, putting us as the fourth largest in the DC industry.
We continue to see substantial appetite for the target -- for our target date fundings and offerings. BlackRock launched the industry's first target date product 20 years ago, and our LifePath franchise has a strong track record through market cycles and continues to evolve to meet the needs of our clients. The BlackRock LifePath franchise is the third largest in the target date industry at over $100 billion in AUM with over $23 billion of net flows for the year, a 38% organic growth rate. This franchise is important to BlackRock's position and trajectory in the Defined Contribution market. And we recognize the responsibility that comes with more than 8 million individual investors and clients investing in our LifePath products.
And while we're very pleased with our Defined Contribution group's results in 2013, we want to sharpen our focus on retirement solutions for individual investors. So we're forming a dedicated retirement group in the United States. Chip Castille at BlackRock will be leading this group, in addition to his current role as head of our Defined Contribution business. Chip and his new team is leveraging their expertise in this category, will help BlackRock tackle retirement not just through individual product but as a suite of investment solutions for all our clients, whether they are building their retirement savings or spending for their longer lives.
BlackRock is focused on anticipating our client's needs in these challenging markets and delivering unique solutions. The benefit of a diversified business model we built, our focus on risk management and technology and our partnership approach to achieving outcomes for our clients drove our results in 2013. This past year marked BlackRock's 25th anniversary. And we reached a number of milestones, including crossing the $4 trillion long-term AUM threshold and the $10 billion revenue threshold and our hiring of 11,000 employees -- or having our 11,000 employees and importantly, funding our charitable foundation so it could be much more active in helping areas of need, especially education of financial issues and health for young people.
In 2013, BlackRock hosted our first Investor Day where we formally introduced the investment community to our deep bench of leaders at BlackRock, outlining targets and strategies for growth and made a series of firm level commitments to our shareholders.
We grew at 4.3 annualized organically for the quarter and 3.4 for the year. And we continue to believe that BlackRock will grow in the future at 5% going forward. In Retail, organic growth was 10%, ellipsing our high single-digit target. And at iShares, we grew at 8%, and we continue to believe that low double-digit growth are attainable. BlackRock's Institutional business grew at 1% in 2013. With our performance, we continue to believe that our growth rates in Institutional business will grow faster, and we're well positioned to hit our low-single digit growth -- goals going forward.
In BlackRock Solutions, we pointed to mid-teen revenue growth during the Investor Day in our Aladdin business. And in 2013, our BlackRock Solutions business delivered total revenue growth of 11%, including 13% growth in Aladdin. Finally, we laid out financial goals including a dividend payout ratio between 40% and 50%, consistent share repurchase, a minimum operating margin of 40% through the cycle and double-digit EPS growth. And BlackRock achieved each of those goals in 2013.
Looking ahead in 2014, we're committed to delivering these results for our clients and shareholders by focusing on achieving superior investment performance, enhancing our product set and distribution capabilities and continuing to understand and solve for our client investment goals. I have never been more bullish on our platform. Our unique platform of delivering alpha and beta and risk management solutions across products and across regions, no other firm has this platform to allow us to have this diversified approach to our clients.
Also, as I reflect back over our 25 years as a company, it reinforces for me the critical importance of focusing on our role as a fiduciary to our clients. Especially in today's regulatory climate, it is vital that every employee of BlackRock looks to do the right thing in every situation every day.
Finally, I want to thank our employees for the dedication and outstanding contribution in 2013 in delivering the full capabilities of BlackRock to solve for the ever-changing needs of our clients.
Thank you. And with that, I'll open it up for questions.
Earnings Call Part 2: