Goldman Sachs (GS) Q3 2013 Earnings Conference Call October 17, 2013 9:30 AM ET
Harvey Schwartz - EVP and CFO
Dane Holmes – Managing Director, Investor Relations
Howard Chen - Crédit Suisse
Glenn Schorr - ISI
Roger Freeman - Barclays
Michael Carrier - Bank of America Merrill Lynch
Matt O'Connor - Deutsche Bank
Betsy Graseck - Morgan Stanley
Chris Kotowski - Oppenheimer & Company
Mike Mayo - CLSA
Matt Burnell - Wells Fargo Securities
Kian Abouhossein - JPMorgan
Douglas Sipkin - Susquehanna Financial Group
Fiona Swaffield - RBC Capital Markets
Guy Moszkowski - Autonomous Research
Brennan Hawken - UBS
Christopher Wheeler - Mediobanca Securities
Devin Ryan - JMP Securities
Good morning. I would like to welcome everyone to the Goldman Sachs third quarter 2013 earnings conference call. This call is being recorded today, October 17, 2013. Thank you. Mr. Holmes, you may now begin your conference.
Good morning. This is Dane Holmes, director of investor relations at Goldman Sachs. Welcome to our third quarter earnings conference call.
Today’s call may include forward-looking statements. These statements represent the firm’s belief regarding future events that by their nature are uncertain and outside of the firm’s control. The firm’s actual results and financial condition may differ, possibly materially, from what is indicated in those forward-looking statements. For discussion of some of the risks and factors that could affect the firm’s future results, please see the description of risk factors in our current annual report on Form 10-K for our year ended December 2012.
I would also direct you to read the forward-looking disclaimers in our quarterly earnings release, particularly as it relates to our Investment Banking transaction backlog, capital ratios, risk-weighted assets, and Global Core Excess. And you should also read the information on the calculation of non-GAAP financial measures and regulatory capital ratios that are posted on the Investor Relations portion of our website at www.gs.com.
This audiocast is copyrighted material of The Goldman Sachs Group, Inc. and may not be duplicated, reproduced, or rebroadcast without our consent.
Our chief financial officer, Harvey Schwartz, will now review the firm’s results. Harvey?
Thanks, Dane, and thanks to everyone for dialing in today. I’ll walk you through our third quarter results, and then take your questions. Net revenues for the quarter were $6.7 billion, net earnings, $1.5 billion, earnings per diluted share, $2.88, and our year to date annualized return on common equity was 10.4%.
While there were some headwinds in the third quarter, our year to date performance remained solid, in what continues to be a challenging macro-environment. On last quarter’s call, we talked about how market participants were trying to assess the outlook for the global economy, specifically whether a recovering U.S. economy could potentially offset slower growth in other economic regions.
In addition, the shifting commentary on monetary policy was leading our clients to question the potential economic and market impacts of reduced quantitative easing. These discussions continued in the third quarter. Ongoing uncertainty around the economic outlook and the traditional seasonal slowdown drove a significant reduction in client activity during the quarter.
This reduction in nationwide client activity obviously impacted the opportunity set in many of our businesses. In investment banking, equity and equity related volumes declined 27% quarter over quarter. Debt [unintelligible] volumes declined 10% versus the prior quarter, and completed M&A volumes declined 36% sequentially.
Within our institutional client services businesses, most product areas also experienced reduced levels of client activity. For example, within credit products, investment grade and high-yield volumes declined sequentially by 13% and 19% respectively when looking at trades data. In U.S. equity markets, stock buy-ins were down 13% to an average daily volume of 5.8 billion shares.
However, activity improved in September with our investment banking clients. Announced M&A volumes increased significantly, and overall backlog improved to its highest level in five years. During the quarter, we also saw continued positive trends within our investment management business. Assets under supervision reached a record level, aided by $17 billion of net inflows.
I’ll now run through each of our businesses. Investment banking produced third quarter net revenues of $1.2 billion, down 25% from the second quarter. Third quarter advisory revenues were $423 million, down 13% from the second quarter, reflecting a decline in industry-wide completed M&A transactions.
Year to date, Goldman Sachs ranked first in worldwide announced and completed M&A. We advise on a number of important transactions that closed in the third quarter, including Softbank’s $21.6 billion purchase of a majority stake in Sprint, Bausch & Lomb’s $8.7 billion sale to Valeant, and Apache’s $3.75 billion sale of selected assets to Fieldwood Energy.
We’re also an advisor on a number of significant announced transactions. They include Vodafone’s U.S. $130 billion disposal of its U.S. group, whose principal asset is its 45% interest in Verizon Wireless; Applied Materials’ merger with Tokyo Electron for a combined value of $29 billion; and Grohe’s $3.9 billion sale of a majority stake to Lixil.
Third quarter net revenues were $743 million, down 30% from a strong second quarter. Equity underwriting revenues of $276 million were down 26% compared with the second quarter, driven by a decline in industry-wide activity. Year to date, Goldman Sachs ranked first in global equity and equity-related common stock offerings and IPOs.
Switching over to debt, underwriting revenues were $467 million, and represented a 33% decline relative to a record second quarter. During the third quarter, there were several noteworthy transactions: BHP Billiton’s $5 billion debt offering, Schaeffler’s $1.3 billion sale of a portion of its equity stake in Continental , and ADT’s $1 billion high-yield offering.
Let me now turn to institutional client services. Total net revenues were $2.9 billion in the third quarter. Fixed client execution net revenues were $1.2 billion in the third quarter, substantially lower than the second quarter, clearly not a good quarter for FIC. The significant decline in revenues was driven in part by seasonally slower activity levels seen across the industry and a more challenging macro-environment.
While rates were up relative to a weak second quarter, activity levels remained muted. Revenues within currencies decreased significantly relative to the second quarter, on difficulty managing inventory and reduced activity levels.
Commodities decreased significantly versus the second quarter under challenging market making conditions and also lower client activity levels. Revenues within credit decreased significantly on lower volumes. Mortgage results decreased sequentially as clients became more risk averse given the potential for tapering in the U.S.
Turning to equities, net revenues for the third quarter were $1.6 billion, down 13% from the second quarter. Equities client execution revenues were $549 million, down 14% sequentially. If you adjust for the sale of our Americas reinsurance business in the second quarter, revenues essentially flat.
Commissions and fees were $727 million, down 13% from the second quarter, again reflecting lower market volumes. Security services net revenues of $340 million declined 10% from the seasonally stronger second quarter.
With respect to risk, average daily volume in the third quarter was $84 million, up 4% from second quarter levels.
Let me now review investing and lending. We produced net revenues of $1.5 billion in the third quarter. Investing and lending includes direct investing, investing we do through funds, as well as lending activities.
These activities occur across a diversified set of asset classes, including both equity and debt. Equity securities generated net revenues of $938 million, primarily reflecting gains from private equity investments.
This increase in fair value was driven by company-specific events like IPOs, strong corporate performance, and higher equity prices. Net revenues from debt securities and loans were $300 million, primarily from interest income. Other revenues of $237 million include the firm’s consolidated investment entities.
Switching to investment management, we reported third quarter net revenues of $1.2 billion. Management and other fees were $1.1 billion, 1% lower sequentially. During the third quarter, assets under supervision increased $36 billion to a record $991 billion. Net market appreciation of $19 billion was primarily in equity assets, while $17 billion in inflows were concentrated in fixed income assets.
Now let me turn to expenses. Compensation and benefits expense, which includes salaries, bonuses, amortization of prior-year equity awards, and other items such as payroll taxes and benefits was accrued at a compensation to net revenues ratio of 41% year to date.
This is 200 basis points lower than the firm’s accrual in the first half of the year. The lower compensation accrual reflects year-to-date revenues and better visibility on expected compensation levels as we approach the end of the year.
Third quarter non-compensation expenses were $2.2 billion, 4% lower than the second quarter, largely due to the sale of our reinsurance business and lower brokerage, clearing, and execution costs.
Year to date, our effective tax rate was 30.3%.
On capital, we repurchased 10.2 million shares of common stock for a total cost of $1.65 billion during the quarter. Year to date, we have repurchased 30.8 million shares for a total cost of $4.77 billion. Today, we also announced an increase in our quarterly common stock dividend from $0.50 to $0.55 per share.
Moving on to regulatory capital ratios, our Basel III tier one common ratio on a fully loaded basis is 9.8%, up 50 basis points from the second quarter, driven by a reduction in risk. The risk-weighted assets are approximately $590 billion, $345 billion in credit risk, $165 billion in market risk, and about $80 billion in operational risk.
Our estimate for the proposed supplementary leverage ratio under U.S. rules is approximately 5% for the firm and approximately 6% for the bank. This is our best estimate, subject to change, depending on regulatory clarifications.
Like all other proposed regulatory requirements, we will work closely with our regulators as we evaluate and finalize the proposal. We believe it is our obligation to support safety and soundness within the financial services industry and the global financial system. As it relates to how we’ll run the business, similar to other regulatory metrics, the supplementary leverage ratio will be an important input.
Clearly, concerns about the global economic outlook created a more difficult operating environment for our clients in the third quarter. These challenges were amplified by the seasonal slowdown traditionally impacting client activity in July and August.
However, we don’t build client relationships or build businesses for a quarter. Client relationships and operating businesses require years, often decades, of investment to build the durability that ultimately creates long-term shareholder value.
Across the globe, our investment banking clients seek our advice on their most important strategic decisions. Corporate, government, and institutional asset management clients look to our execution and risk management capabilities across a variety of products and regions. We are entrusted to provide investment management services and offer investment products across all major asset classes through a diverse set of institutional and individual clients, making us one of the largest asset managers in the world.
Our clients often value our advice and services the most when the outlook is less certain, and when finding solutions becomes more challenging. The U.S. government shutdown and the debate in the United States surrounding the government debt ceiling has become a concern for our clients.
The political complexity involved in finding a long-term solution has created uncertainty about the world’s economic outlook, and as we have all seen, has weighed heavily on market sentiment. Now that the political impasse looks to be resolved for the near term, we’re hopeful that greater certainty will drive improved client confidence and activity levels. Having said that, a long term solution is critical to the sustained recovery for the economy.
These fluctuations have not distracted us from focusing on the long term drivers of our business, so as a management team, we are focused first and foremost on our clients, building deep, meaningful relationships and providing solutions to their daily challenges. We are focused on conservatively managing our financial profile and being prudent allocators of capital. We are also focused on being efficient operators, while at the same time providing world-class service to our clients
In the end, we are focused on creating long term shareholder value for you, our shareholders.
With that, I’d like to thank you again for listening today, and I’m happy now to take your questions.
Earnings Call Part 2: