Daiwa Securities Group Inc

TSE:8601

Earnings Call Transcript 2021-Q2

[Yusuke Fujino, executive]

Thank you very much for participating in the fiscal year 2020 earnings announcement of the second quarter despite your busy schedule. As the time has come, we'd like to start the meeting. From Daiwa Securities Group, Inc., Mr. Sato, our CFO, is participating. I am the moderator for this meeting, Fujino, the Head of IR. From Sato, the second quarter fiscal year 2020 earnings announcement is going to be explained. The questions will be after the presentation. This presentation will be shown through the Internet, and individual investors can see this. Let's start the presentation.

[Eiji Sato, executive]

Hello. I'm Sato from Daiwa Securities Group. Thank you very much for participating in this telephone conference despite your busy schedule. I would like to present our second quarter results for fiscal year 2020 that we announced today based on the presentation material posted on our website.

Please turn to Page 4. I will start with a summary of the consolidated results. Changes of the figures is against the first quarter of fiscal year 2020. Net operating revenue for the second quarter was JPY 110.4 billion, up 4.8%. We saw an increase of revenue at the Retail Division. This was due to the sales of multiple large equity underwriting deals. Revenue declined in the Wholesale Division. Revenue grew in Global Investment Banking by equity underwriting and M&A. But FICC revenue decreased in Global Markets.

Ordinary income was JPY 23.7 billion, up by 11.1%. Profit attributable to owners of the parent was JPY 15.2 billion, down 13.1%. ROE was 5.0% on an annualized basis, and BPS was JPY 810.92.

Please turn to Page 10. This is the P&L. Commissions received was JPY 70.8 billion, up by 22.6%. The breakdown of commissions received is on Page 23. Brokerage commission was JPY 16.4 billion, down 4.1%. Equity underwriting deals contributed to the underwriting and secondary offering commissions, which was JPY 14.4 billion, up 226.0%. Although sales of stock investment trust declined, sales excluding switching transactions increased, which led to a 3.4% increase of distribution commissions of JPY 4.2 billion.

M&A-related commission was JPY 5.2 billion, up 92.7%. Trading income was JPY 22.8 billion, down by 28.8% due to the decline of FICC revenue.

This is the status of SG&A. Please turn to Page 11. Increase was seen mainly in personnel and trading-related expenses and was JPY 90.7 billion, up 2.2%. For trading-related expenses, advertising and promotion expenses related to sales promotion and commissions related to the trading volume increased. As for personnel expenses, earnings-linked bonus increased.

Please turn to Page 13. Next is ordinary income of overseas operation. Overseas operation total ordinary income was JPY 4.6 billion, down 43.2% against the previous quarter, but was able to generate ordinary profit for 18 quarters in a row. By region, Europe saw an increase of equity underwriting and M&A revenue, but FICC revenue declined, overall income declined.

Going to Asia and Oceania, revenue increased for both equity and primary activities. In addition, equity investment income, SSI Securities contributed leading to record high ordinary income on a quarterly basis. America saw a decrease in income as FICC revenue decreased.

Next, I would like to explain the performance by segment. Page 14, please. I will start with the Retail Division. Net operating revenue was JPY 40.7 billion, plus 15.8%. Ordinary income was up by JPY 2.6 billion, so both revenue and income increased.

Underwriting income, due to large-sized equity underwriting deals such as SoftBank, contribution from sales commission from equity underwriting led to an increase in revenue. For fixed income, sales of foreign bonds recovered and revenue increased. Distribution commission for investment trust increased. Agency fee for investment trust increased as well, as average asset under custody in the quarter increased. For other revenue, investment advisory and account management fees increased related to business -- wrap business.

Please turn to Page 15. This slide shows the status of sales and distribution amount and topics for this quarter. For Daiwa Securities, this is for the securities in the Retail Division, the wrap account service AUM at the end of the quarter was at a record high level since the third quarter of the last financial year, was JPY 2,318.6 billion.

Please turn to Page 16. Let me next explain about the Wholesale Division, starting with the Global Markets. Net operating revenues were JPY 33.2 billion, down 26.6%. Ordinary income was JPY 8.9 billion, down 56.3%.

Equity revenues were flat, with the decline of customer order flow for Japanese equities, although client order flows for foreign equities was solid, mostly driven by high-tech stocks. Both domestic and foreign FICC revenues were down.

Net revenues from Japan were down due to the low revenue of trading activities, although the customer order flows for structured bonds and derivatives recovered. Net revenues from overseas were also down due to the lower customer order flows with lower volatility.

Please turn to Page 18. This page is on the Global Investment Banking. Net operating revenues were JPY 14.3 billion, up 130%, and ordinary income was JPY 4.7 billion. In the equity underwriting business, we served as a lead underwriter for the SoftBank PO mandate and accumulated multiple number of lead underwriter deals, which contributed to the big increase in net revenues. In the debt underwriting business, we accumulated many mandates for subordinated debt, agency bonds and Samurai bonds. With regards to M&As, we executed mandates steadily, utilizing our global network.

Please turn to Page 19. Let me next explain Asset Management Division. Net operating revenues were JPY 12.1 billion, down 4.8%, and ordinary income was JPY 7.4 billion, which was down 1.5%. Daiwa Asset Management revenue increased on the back of net positive capital inflow and higher AUM of public stock investment trusts during the quarter. In the real estate management business, AUM of Daiwa Real Estate Asset Management increased. However, revenues were down Q-on-Q because in the previous quarter, we posted gains associated with acquisitions and dispositions in the portfolio.

Please turn to Page 21. Let me explain the results in the Investment Division. Net operating revenues were JPY 3.6 billion, up 254.4%, and ordinary income was JPY 2.2 billion, up 19x. What contributed to this increase was a multiple number of exits from private equity investments done by Daiwa PI Partners. This completes my explanation of the results in Q2 FY 2020.

Now we'd like to open the line for your questions.

For the Q&A session, due to the circumstance of the communication line, we are receiving questions in Japanese only. If you have questions in English, please contact our IR office. Thank you so much.

[Operator]

[Operator Instructions] So the first question is from SMBC Nikko Securities, [indiscernible]

[Unknown Analyst]

My first question is about the Retail Division. So this time, compared to the previous quarter, it has recovered. But investment trust sales and fixed income revenue may be the case. Compared to the competitors who've already announced the results, I think the growth has been rather weak. So what is your analysis behind this reason? And in terms of the earnings, should we assume that this will continue, you being weaker than the competitors? That's the first question.

The second question is the cost reduction. You have already announced the plan, but please give me the update of the progress on this plan? And at the same time, are there any additional cost reduction potentials? So from before, I think you have indicated that you may do so. At this point, can you give -- if you have any updates, please do so? These are my 2 questions.

[Eiji Sato, executive]

Thank you for your question. So for your first question about the investment trust sales and bonds. In terms of the investment trust, as you have pointed out -- in terms of the sales of the investment trust, I think this is a challenge that we are facing. But in the second quarter, we had these PO activities such as SoftBank and other IPO activities. And I think basically, the salespeople will focus on that side of the business. It is on the recovery trend, but the growth has been weaker. So for this issue, I think the -- we have to expand this and line up a well-selling investment trust. We have to enhance the product lineup.

And in terms of the accounts under management, we have to increase that, so increasing the AUM. So really 19th of October, so we have the fee linked to the balance of the investment trust. So it's called the flex plan. So ahead of other companies, we have introduced this plan. For this plan -- so this will be a new option for an investment in trust for the other customers. So for the customers who have not bought investment trust from our company, I think this will be a good option for them. By doing so, we want to increase the assets under management.

In terms of the fixed income bonds, so the second quarter, I think the market overall condition has recovered, and the sales volume has recovered. But compared to last year, as you know, the interest rate has gone down. And the spread has been crunched, and the profitability overall has gone down. And on top of that, so the emerging market currencies has become volatile. So in terms of -- we have refrained from selling these foreign currency-linked bonds. And I think that is one of the reasons of our performance on this side.

And going to your second question about cost reduction. So we will continue to proactively conduct cost reduction. So we have projects going forward. And by this year-end, JPY 15 billion of cost reduction. We have already at the second -- the progress at the end of the second quarter for the group of course about 90%. So we will be very close to reaching this target from what we have conducted last year. So for instance, eliminate in-place program, refraining from setting up paper documents, I think that has been -- we have been continuing from the beginning.

And for retail, wholesale, others, 60%, 30%, 10% will be the allocation of the cost reduction. And that difference or the proportion is unchanged. On top of that, another thing I should mention is that the -- so I think for the branches, we will be making it for the first floor to the second floor. So 80% -- about 80% of that will be happening in the next fiscal year onwards. And from April, digitalization of our operation, with the progress of that, the middle and back office of the branch offices, we're going to be consolidated in the middle level. So by the end of this fiscal year, this will be completed. But currently -- but up to this point, 1,600 of middle and back office personnel, about half of them, we have reallocated the front office or within the operations of the group offices. So we are planning to do that. So this impact will become relevant from next fiscal year onwards. So this 15 -- completion with JPY 15 billion, we want to go -- have a stretch from that figure. When the -- next year is the first year for the new midterm management plan, and this will be the second phase of our social reform. So that has been my answer. Thanks.

[Operator]

Next questions are from Mitsubishi UFJ Morgan Stanley, Tsujino-san.

[Natsumu Tsujino, analyst]

My first question is on the share buyback. So so far, almost every year, you have conducted the share buyback and the payout ratio has been quite high. However, at the moment, you have not announced the share buyback. Is there any particular reason or idea why you're not doing the share buyback this time?

My second question, the bond fixed income trading income by unit, business unit. You have been disclosing that figure. But you generated JPY 22 billion from FICC business for -- sorry, JPY 18 billion for 3 months for the second quarter. And would you please give us the breakdown between Japan and overseas? And if you cannot give you that -- give us that, the profits from the Americas have come down in the second quarter. So I assume that the profits from fixed overseas have come down quite a lot. In the Americas, the business has been recovering from the third quarter of last year, driven by the FICC business, as I remember, but in the second quarter, the profit from the Americas has come down to the level close to Q2 over the last fiscal year. Could you please give us the reason why profits from the Americas have come down to this level?

[Eiji Sato, executive]

To your first question about the share buyback. So we have not changed our capital policy from before. So this may sound repetitive, but our basic policy is to secure the financial fundamental strength. That's the priority. And then we'd like to have the buffer so that we can invest for growth in the future. We'd like to make sure that we have the enough capital and buffer, then I would like to do the share buyback. And our dividend payout policy is more than 50%, which is much higher than our peer or peers. In addition, the buyback is something that we'd like to do flexibly. So when we work a judgment, we study the potential buyback from comprehensive perspectives, considering various factors. And our capital ratio has risen to 21.8%, and that's the fact. But due to the COVID-19 situation, there's uncertainty about the market, and we are promoting the hybrid strategy. So it might give an impact on our investment affordability in the medium to long term. And that's why we have not announced a buyback at this time.

To your second question about the FICC breakdown between Japan and overseas, Japan -- FICC breakdown, Japan 60%, overseas, 40%, that's the breakdown. And profits from the Americas are down in the second quarter. And the reason is because we are the treasury primary dealer. So we are in the top tier for the underwriting. So although customer flow is doing very well, and because we are the primary dealer, we have been accumulating various deals, but because of the lower volatility, offer bid spread has come down quite a lot. And that's why profits were down. But now, in October, leading up to the Presidential election, the volatility has come up a little bit. So down the road, after the election, the central bank's policies -- depending upon the central bank's policies in each country and the potential second wave of COVID-19, the volatility in the financial markets may go up after the election. So we'd like to keep our eyes on the potential changes in the markets and would like to capture the right opportunities to generate profits in the future and especially in the United States. But in the Americas, in general, we have the very strong customer base. So we'd like to really leverage the strong customer base we have.

[Natsumu Tsujino, analyst]

But compared to Q3 of last fiscal year, the profits are down, profits are lower. which I don't really understand why profits are lower compared to the third quarter of the last fiscal year. Last year, it was JPY 28 billion, which was almost as high as Q1. Compared to that, even though I consider what you have just mentioned such as bid of spread coming down or interest rate level and so forth, I don't really understand why?

[Eiji Sato, executive]

Thank you. As you mentioned correctly, the biggest reason is the offer bid spread, the lower volatility, and absolute level of interest rates has come down. So those are the major 2 reasons.

[Operator]

Going to the next question, JPMorgan Securities, Otsuka-san.

[Wataru Otsuka, analyst]

Otsuka from JPMorgan Securities. So I will ask 1 -- I have 2 questions, but please answer each question one by one.

[Eiji Sato, executive]

Yes, go ahead.

[Wataru Otsuka, analyst]

So the first question, so it's about the share buyback. So this is a very straightforward question. So you flexibly and comprehensively decision you're making. So in terms of total payout ratio of 106.9% with the previous year, [ 7.9% ] of the year before that. So from the people looking from outside, it will not be a good reference point. So you're seeing -- so this year is another story. That's my first question.

[Eiji Sato, executive]

Again, I have to repeat myself. So we're being flexible about the share buybacks. So we look at the total payout ratio, but -- so we don't have a specific target. So I think it's correct what you have said.

[Wataru Otsuka, analyst]

Understood. My second question is that for retail business, for example, in the first quarter, in the management meeting, you have explained that ahead of other competitors, you have new initiatives. And I think you have been quite ingenious and ahead of the curve and doing a lot of things. So you disclosed the -- other competitors disclosed their earnings. But in terms of the improvement of the profit or the level of profit, is lower within the management. So what would be the profit level that you should be achieving? Do you discuss about that? So the quarterly retail profit, so basically down to the level of the first quarter of last year. But before that, the profit level should have been higher of the -- I think basically management is saying that this is the market conditions, we can't -- it can't be helped. Is that your attitude?

[Eiji Sato, executive]

Thank you for your question. So including investment trust, we are putting in a lot of measures. So in terms of the investment trust business, so the retail business -- so the brokerage income from the transactions of the individual products, so that was our business model. But we want to transition to a asset management fee business or the solution business like inheritance, et cetera. So we think we have to change the business model from the conventional one. So the sales of the investment trust, if you just look at that, I think that's the results. But for this, we rather than focusing on selling stand-alone products, we will be proposing portfolio that will match the needs of the customers. So as a result, it won't be focusing on specific product for sales. Basically, we want to match the needs of the customers. So for the fund wrap business, in terms of the contracts under management, it has increased -- it is increasing. So I hope that you will look at that.

In the second quarter, we had this -- including SoftBank, we have more than JPY 300 billion and equity underwriting deals. And without any issues, we have been able to sell those products. So we have very solid customers, and we have very solid sales network. So in terms of the sales reforms that we are conducting, we will go forward with that step by step. So in terms of the top line, you're putting in a lot of measures. But first of all, we will have to focus on the account management type of sales. So the asset management tool, we have been putting in this autumn. And this is a private -- overseas private bank is using this. So this will manage the customers' matters comprehensively. So this is very cutting edge in Japan. So we have this flex plan for the 19th of October, this investment trust. The plan, according to the balance and the market value, the fee will change. So this is a new way of -- new option for the customers when they want to buy investment trusts.

So for the customers who have not been buying investment trust from a company, we want to cultivate and tap into new customers. In terms of the cost side, we have been conducting cost structural reform. And from the top line and from the cost side, we will go forward with reforming our retail business. So in terms of the profit level, we think we can increase that level. So I'll be asking for your support ahead of time. So in that sense, so looking at the current situation, so in terms of October compared to the first quarter, the sales is doing well. The profitability has slightly been better. That is the situation right now.

[Wataru Otsuka, analyst]

Excuse me. So I understand what Mr. Sato explained in terms of the measures. But for instance, if you look at Page 14, other wrap-related income level. So the accounts or the wrap accounts are increasing, but it seems low. Do you mean that the profit will follow? Or -- you talked about SoftBank.

[Eiji Sato, executive]

So if you look at Page 29 for the individual funds, it means that you saw more outflow than inflow, basically people are not using cash to buy these products. So in terms of the wrap-related income, so as you know, on upfront, we don't receive fees. So depending on the term of the balance, the income will increase. So this will be related to the actual balance. So it's not the case that even if we have more assets under management, it will certainly feed back to -- in terms -- so based on the balance, gradually, the profit will build up. So we want to fully engage in that business. So basically, we build up the assets and then generate profit. So this will be a stable and sustainable business model that we are pursuing.

About the SoftBank, in terms of individual funds, there is outflow. So in the SoftBank business, actually, they pay cash. However, in August, market was very good. So some wanted to lock in the profit. So mainly in equity, there has been some selling activities because they want to lock in the profit. And so there has been some outflows of the funds.

[Operator]

Merrill Lynch, Sasaki-san, would you please ask your question?

[Futoshi Sasaki, analyst]

My name is Sasaki from Bank of America. I have 2 questions. First, Daiwa Energy Infrastructure, the fund has been investing. Was there any large investment deal or project in the second quarter? And floating wind power generation projects, offshore projects, are any projects in that category, please?

And the second question about flex plan. So by promoting this plan, the profit that shareholders are eligible are going to go up or down? And intuitively, changing this fee structure, do you think that you can really change customer behavior? How are you going to appeal this plan to the customers? Will it entice customers to move to this pricing table?

[Eiji Sato, executive]

To your first question, Daiwa Energy Infrastructure, the investment balance in the renewal energy area, the balance has been increasing, especially the power generation is a category where the balance is increasing. On the other hand, the offshore power generation in Daiwa Energy Infrastructure, including the offshore, not only in Japan, but including overseas projects, they are quite active in investing in that category as well. Relatively speaking, this is a fee in accordance with the balance. So the fund is trying to expand the investments to generate stable fees.

To your second question about the flex plan. The upfront fee is not charged at the upfront. And for the whole period, in accordance with the balance, the fee is a little bit less than 1% and sometimes it's lower than 1%, but it's variable in accordance with the balance. And the purpose of this is to expand the AUM -- the balance of AUM. Up to now, there are some customers who have not purchased any products from us. And among them, for the year, for example, it's attractive cost, which is less than 1% per year. So we expect that there are new customers who would like to really do transactions with us if the fee level is this attractive level. But in the short term, there's no upfront fee. Therefore, there is a possibility that it's negative initially in the short term, but the aim is to expand the AUM and also to acquire new customers. And I would like to provide customers with a new option, new alternative.

[Futoshi Sasaki, analyst]

Daiwa Energy Infrastructure, how much is the commitment balance? Can you disclose the balance of the commitment of investments?

[Eiji Sato, executive]

At the moment, no, we do not disclose the commitment amount. Please understand.

[Operator]

[Operator Instructions] So with this, we will end the telephone conference, and Mr. Sato has a message.

[Eiji Sato, executive]

In this first half, the spread of COVID-19 has shaken the global economic activities and capital markets so greatly. Amid this environment, we achieved consolidated ordinary income of JPY 45.1 billion, which is a high level for the first time in 2 years, which demonstrated our overall strength as a group as well as the capability of adjusting changes -- adjusting to the changes in the environment. What drove the earnings result in the first quarter was the Market Division. And in the second quarter, it was the Investment Division in coordination with Retail Division. What added on top of that was the result from cost/income structure reform we have been working on since last year, which contributed to increase in earnings. In the Retail Division, we struggled because of the constraint of sales and marketing activities due to COVID-19 in April and May. However, results have been recovering since June. From the end of August to September, we won a number of large equity finance deals. The strong client base of Retail Division is the very reason behind the successful deals.

We are introducing the top-of-the-industry teleworking infrastructure and promoting paperless operation. Amid COVID environment, we were able to successfully increase revenues, thanks to the smooth sales activities by improving business efficiency and keep high levels of new account openings and capital inflows.

In October, retail industry activities have been trending solidly on the back of relatively stable Japanese and foreign equity markets, continued low interest rates and global diversification trend, investments in foreign equities, foreign bonds, investment trusts and fund wrap are becoming more active. Looking at the investment banking business, with the multiple number of successful large POs and IPOs executed in Q2, corporate interest in equity finance has been rising.

With regards to M&As, there is an increasing trend of industry consolidation and business restructuring due to the impact from COVID-19. Therefore, we are seeing increased number of consultations on management integration, growth investments, business sales and business acquisition and so on. We aim at being a comprehensive securities group of the customers' choice by capturing changes in the environment appropriately and providing high-quality solutions to customers' needs and challenges.

I would appreciate your continued support and cooperation to us. Thank you very much.

[Operator]

This concludes the telephone conference call. Thank you so much for calling in today.

[Statements in English on this transcript were spoken by an interpreter present on the live call.]