Daiwa Securities Group Inc

TSE:8601

Earnings Call Transcript 2020-Q3

[Yusuke Fujino, executive]

Ladies and gentlemen, investors, thank you very much for waiting. Thank you very much for coming to the teleconference for the earnings announcement for FY 2019 third quarter for Daiwa Securities Group. At this time, we would like to begin the session.

Thank you very much for coming to our telephone conference amidst your very busy schedule. So from Daiwa Securities Group, Inc., we have Mr. Sato, the Senior Managing Director, CFO. And my name is Fujino. I am the Head of IR, and I will be the moderator.

So first, Mr. Sato will share with you the content of Q3 for 2019. After we have provided you with the explanation, we would like to receive your questions. And the content of this teleconference is also disclosed to the general investors through the website.

[Eiji Sato, executive]

Thank you very much. This is Sato, the CFO of Daiwa Securities Group. Thank you for participating in our teleconference today amidst your busy schedule. Now we will announce the Q3 financial results for FY 2019 announced today according to the materials posted on our website. First, please look at Page 4.

First, I will explain the summary of consolidated financial results. The rate of increase or decrease in the figures is compared to Q2 of FY 2019. Net operating revenues for Q3 was up by 16.5% to JPY 112.1 billion. Revenues in Retail Division increased. Towards the end of the calendar year, the stock market remains solid, trading in Japanese equities increased, and sales of foreign bonds grew. Revenues in Wholesale Division also increased. Global Markets saw revenue growth in both equity and FICC, F-I-C-C, and Global Investment Banking revenues in equity underwriting and M&A increased.

Ordinary income was up by 125.5% to JPY 22.2 billion. Profit attributable to owners of parent decreased by 9.3% to JPY 15.7 billion as a result of the return of the tax rate to the level of the statutory effective tax rate, resulting in an increase in corporate income tax. The annualized ROE was 5.1%, and BPS was JPY 816.44.

Please look at Page 10. I will explain the income statement. Commissions received were up by 5.6% to JPY 68.4 billion.

Please see Page 23 for the breakdown of the commissions received. Brokerage commissions were up by 10.3% to JPY 13.9 billion due to an increase in transactions in Japanese equity. Underwriting and secondary offering commissions were up by 13.5% to JPY 9.4 billion due to an increase in equity underwriting deals. The sales of stock investment trust decreased and distribution commissions grew by 6.1% to JPY 5.3 billion. Net trading income grew due to increased customer order flows in both equity and fixed income.

Please turn to Page 11. I will explain the situation of SG&A. SG&A increased by 3.8% to JPY 93.8 billion (sic) [ JPY 93.2 billion ] mainly due to an increase in trading-related expenses and personnel expenses. Trading-related expenses grew due to commissions related to trading volume, whereas personnel expenses increased due to earnings-linked bonuses.

Please look at Page 13. Next, let me touch on the ordinary income of the overseas operations. Ordinary income in the overseas operations grew by 171.7% Q-on-Q to JPY 4.4 billion, and the ordinary income remained in black for 15 consecutive quarters. By region, in Europe, revenues from underwriting equity and M&A increased turning to a profit. In Asia and Oceania, income grew due to an increase in equity underwriting earnings. In the Americas, both treasury and MBS, repo transactions, which are the main products of FICC, were strong. Quarterly earnings in Americas reached a record high since quarterly disclosure started in 2002.

Next, I would like to explain our business results by division. Please look at Page 14. First, I will explain the revenue and income of the Retail Division. Net operating revenues were up by 1.4% to JPY 41.3 billion, and ordinary income was down by 8.3% to JPY 1 billion.

Equity revenues rose due to the growth of Japanese equity trading volume and sales commission from equity underwriting. Revenues from fixed income increased because sales of foreign bonds grew despite the drop in the sales of Japanese bonds. Stock investment trust sales decrease and distribution commissions for investment trust dropped.

Please look at Page 15. This is a summary of sales and distribution amount by product and the major topics for Q3 and Daiwa Securities Retail Division. In the wrap account service, contract AUM increased to a record high of JPY 2.3136 trillion at the end of December, thanks to the growth in the contract amount and an increase in the valuation. In stock investment trusts, sales of smart leverage strategic funds were strong.

Next, please turn to Page 16. Let me next explain the results of the Wholesale Division. Starting off with Global Markets. Net operating revenues were JPY 35 billion, up 25.7%, and ordinary income was JPY 11.3 billion, up 105.3%. With regards to equity business, net revenues increased as customer order flows increased towards the end of the quarter. With regards to the fixed income, both domestic and overseas FICC revenues increased. As for domestic FICC, structured bonds and investment of credit products for institutional investors remained firm. As for overseas FICC business, customer order flows in the Americas increased.

Please turn to Page 18. This page is on Global Investment Banking. Net operating revenues were JPY 13.6 billion, up 14%, and ordinary income was JPY 3.3 billion, up 18.6%. In the equity underwriting business, revenues increased on the back of IPO deals and the global CB mandates were accumulated.

In the debt underwriting business, although revenues were down Q-on-Q, we accumulated many mandates where we served as a lead underwriter for trade bonds, subordinate bonds and as well as the multiple number of benchmark bonds. Revenues from M&As were high level as we executed many mandates, both in Japan and overseas.

Please turn to Page 19. Let me next explain Asset Management Division. Net operating revenues were JPY 12.6 billion, up 8.9%, and ordinary income was JPY 7 billion, which was up 7.3%. Daiwa Asset Management revenue increased driven by average AUM during the quarter, being up Q-on-Q.

Revenues of real estate asset management increased as we consolidated Samty Residential. AUM of 2 real estate management companies reached JPY 1.43 trillion (sic) [ JPY 1.043 trillion ].

Please turn to Page 21. Let me explain the results in the Investment Division. Net operating revenues were JPY 2.1 billion, and ordinary income was JPY 1.5 billion. This completes my explanation of the results in the third quarter of FY 2019.

Now we'd like to open the line for questions from you. For this conference call, we have the simultaneous translation. You can ask questions in English, but we are going to receive questions in Japanese first, followed by questions in English. Please follow the instruction of the operator.

[Operator]

[Operator Instructions] And I'd like to introduce the first person from SMBC Nikko, Mr. Muraki-san.

[Masao Muraki, analyst]

My first question relates to Wholesale Division, the fixed income revenue. So on Page 16, you have shown the revenues for fixed income. So in comparison to before, the general level has been raised, and also in terms of total assets and also related to repo books. There has been a significant increase, more than JPY 3 trillion or so. So you've mentioned Americas was quite favorable. But through the use of repo, how were you able to boost the revenues? If you can give us more color on this matter, that would be helpful.

That will be my first question. The second question relates to Retail Division. So on Page 15, you have the product sales amount shown. So in comparison to some of your peers who have announced their results, the investment trust and also it's not listed here, in terms of foreign equity sales and also revenue related to these, it seems weak in comparison to your peers. So are there any one-off issues for this particular quarter? If you can give us more details, that would be helpful.

[Eiji Sato, executive]

Thank you very much, Muraki-san. Related to your first question, in terms of repo, so more than JPY 2 trillion of increase in terms of book. Could you turn to Page 24 of the presentation material? So this shows the balance sheet for Daiwa Securities. The repo has increased, as you can tell from this chart. So as far as repo is concerned, the increase -- we have some increase in Japan, but also in overseas. But we have seen domestic increase the most. So of course, we have variety of investors. But as far as the book for Daiwa Securities is concerned, the overseas investors, and overseas customers, repo is also inclusive. So Americas was quite favorable. And this was due not just for repo.

So back in 1986 onwards, we have been acting as a primary dealer. So treasury was quite strong, and that has been going on for some time. And as you may be aware, so it has been quite strong with MBS as well. So for a provision of facility, that is why repo has increased.

So as far as Q3 is concerned. So quarters towards the end of the fiscal term, so heading towards the end of the fiscal term, that is. So some of the foreign capital securities are adjusting their balance sheet. However, we have -- we were able to provide funding. And also, as far as the interest rate yield curve is concerned, so of course, we were seeing increase in the trading volume. So that is why we have seen a fairly strong number for this quarter. But of course, that is towards the end of the calendar year. But as far as January month is concerned, it continues to be favorable.

MBS, treasury, repo, all those are the positive trends have continued in the month of January. Now related to the second part of your question about the retail, how the divestment trust seems weak? Were there any specific factors behind that? That was the question. So we are in the transformation phase for the business model. As we have shared with you in our last announcement, so we are promoting the Daiwa version of MBS and also, we are evolving our sales style. So moving away from the brokerage commissions to a more of asset management type of business model. We are trying to transform ourselves into this new model. So in terms of the wrap funds are concerned and also in terms of the foreign currency deposit and also solution business, for instance, real estate succession inheritance and so forth, we are seeing an increase.

However, in terms of our investment trusts and also equity, the brokerage commission went down, and we were not able to offset it through the positive growth of the other products. So in Q3, the Japanese and U.S. equity market trended stable. However, as a result, the transaction, the trading volume did not grow as much as we expected.

Now the outlook going forward, as far as we're concerned, our basic strategy will not be changed. But of course, we like to give the return to the customers. And if -- we believe there is still room to increase the brokerage commission. Thank you.

[Masao Muraki, analyst]

So related to the first question and second question, I have a couple of add-on questions. So the first question related to the balance sheet. In Page 9, you have the leverage ratio up to Q2, you have the number up to Q2 in terms of the leverage ratio. So in terms of Q3, you have increased your balance sheet. So I believe the leverage ratio has come down. So if you have an estimate for the leverage ratio for Q3, that would be helpful.

Also, on a group-wide basis, as you manage the balance sheet, so this book for Q3, are we at the upper end, the higher end of the range? Or do you have room to further increase? So I'm pretty sure in terms of the leverage ratio. You still have room to increase. But in terms of the debt book, do you have set up a maximum amount that, if you can share with us.

Also, the second point related to the Retail Division. So in Q3, you've mentioned how you're going through the change in business model, shifting more towards the asset management business. But given the current earnings in Q3, is there -- are we -- should we expect to see change in the allocation of the management resources?

[Eiji Sato, executive]

Thank you very much for those questions. The first point related to repo book. Repo book, it is increasing. So in Q3 and the leverage ratio in terms of the estimate, as mentioned, so of course it offset, to some extent, but it's pretty much linked to the balance sheet. Therefore, the leverage ratio will come down. But we do not disclose the estimate ratio as we speak. Also in terms of the management of repo. So of course, we do have risk management in place. So we look at different factors such as average factors. But I would like to refrain from giving you detailed comments on the balance sheet.

Also related to the second question, about the second question whether we will change the management resource allocation or not, there will be no change in our basic strategy. So we do not expect, and we do not intend to dramatically change the allocation. So we would definitely like to benefit and give the return to the customers and also try to expand our brokerage commission and brokerage revenue. But again, our basic strategy, no change in the allocation of the management resources.

[Operator]

Next questions are from Merrill Lynch, Sasaki-san.

[Futoshi Sasaki, analyst]

My name is Sasaki from Merrill Lynch. I have just one question. Yesterday, you announced the capital alliance with Katana Corporation. How much size of the investment do you have in mind for this capital participation in Katana Corporation? That's my first question. And the second question, this company, Katana Corporation, as far as I've heard, this company has committed to various projects already. So for example, the projects that they have already committed, are you going to project capital in those projects that they have already committed? So to the extent that you can disclose, would you please tell me those 2 points?

[Eiji Sato, executive]

Thank you so much. First, about the size of the investment. In total, JPY 14 billion, that will be the investment side. And are we going to put capital in the projects that they had already committed? Of course, if we judge that there is an attractive investment opportunity, then we will do so, but there's nothing that has been determined already.

[Futoshi Sasaki, analyst]

So JPY 14 billion, is that equity investment side? Or does it include debt investment and project investments? Is there any possibility that you would participate in the large size projects, like JPY 100 billion size? Do you have an intention to commit to those large projects, even though the size is over JPY 100 billion?

[Eiji Sato, executive]

To your first question, JPY 14 billion, it's our equity participation. So equity portion, JPY 14 billion. And are we going to participate in the projects that are large, over JPY 100 billion? In principle, rather than, we being the only investor, we'd like to utilize funding sources from external sources while utilizing Daiwa Securities Group resources as well, but it's going to be case by case. In addition to the size of the investment and whether we are going to participate or not, we are going to decide case by case.

[Operator]

[Operator Instructions] So I'd like to introduce the next question from JPMorgan, Otsuka-san.

[Wataru Otsuka, analyst]

This is Otsuka from JPMorgan. My apologies for being persistent. This is about Retail Division, that would be my first question. So this might be an extreme view, yet back in Q2, the market was not down. And therefore, the profit level had come down. I think that was the explanation you provided with us back in Q2. At least that's what I remember. But according to the explanation today, you mentioned you are in the phase of business transformation and the brokerage commission did not grow. That was the explanation. So if that's the case, despite the state of market, your performance would be stable. But of course, the general direction, Daiwa, that is the direction that you strive to have. However, the profit general level seems to be fairly low. That would be the impression we would receive. Is my take right? Or as you have mentioned in the past because you are in this stage of transformation, now you have more accumulation of more revenue profit, you would have more growth in the process. Is that the fair view? So that would be my first question.

[Eiji Sato, executive]

Thank you very much for that question. As far as Q2 is concerned, what I have mentioned, of course the market factor and of course, business transformation. 2 factors were in place in Q2, that is what we have shared with you. But in Q3, the market improved, as you mentioned. But in the course of improvement of the market, the main drivers are the foreign investors. Therefore, as far as the domestic retail investors, we're not able to leverage on this market trend. So -- and to put it another way, there were some disposal of the assets and the course of the improvement in the market. So we would continue to focus on the customers' performance in this improving market. So it is a quarter that we were able to provide returns to our retail investors in Japan. So that is why we were not able to dramatically grow the profit.

But going forward, whether we would grow the earnings profit or not, as far as the wrap funds are concerned, so we will not actually book the profit all at once on a lump sum basis. Actually, the profit will be booked accordingly over the course. And with the increase and the balance, we would also book the profit. Therefore, on a short-term basis, it seems as if the profitability is low. However, if you were to look at the mid to long-term basis, it will definitely drive the profitability. And therefore, we believe we can build a sustainable -- the profit base. And we are up for that direction. I hope I've answered your question.

[Wataru Otsuka, analyst]

So if that's the case then, internally within the company, so based on this option, you would actually accept this quarter's performance? So is that how you will evaluate this quarter?

[Eiji Sato, executive]

So as far as this Q3 is concerned, yes, that is how we evaluate our performance. So again, we are very much customer-centric. We want to get the return to the customers. And that is the main focus as far as our operation is concerned.

[Wataru Otsuka, analyst]

And the second question. Overall, so it could be for overall, it could be for Retail Division, could you comment on cost reduction? Do you have any specific updates?

[Eiji Sato, executive]

Thank you for that question. So within JPY 15 billion group-wide cost reduction, so that would go on until the end of next -- end of the next fiscal term. So this year, it would account for 40%. Next year would account for 60% of that total in terms of the cost reduction.

[Wataru Otsuka, analyst]

So in Q3, what was the impact in terms of cost reduction?

[Eiji Sato, executive]

JPY 1 billion, JPY 3 billion worth of cost reduction in this particular quarter. Also, on the other hand with these cost reduction measures, we will continue to implement those. But within Retail Division, we strive to drive the top line to enhance the convenience of the customers and also make our operations more efficient. So in order to realize this, IT investment is essential on a mid to long-term basis because that will drive the top line in the mid to long-term basis, and that will lead to further cost reduction. So IT investments, wherever necessary, we will continue to execute those.

[Wataru Otsuka, analyst]

Sorry. I missed the details. So you said 40%, 60%?

[Eiji Sato, executive]

So about JPY 6 billion will be. So half of that, JPY 3 billion was reduced up until Q3. So actually, for Q3 on a cumulative basis, was JPY 3 billion, that was committed for Q3.

[Operator]

[Operator Instructions] Although we have time remaining, but there are no further questions. We'd like to finish the Q&A session. Now I would like to finish the telephone conference. Mr. Sato have closing remarks.

[Eiji Sato, executive]

In the third quarter of FY 2019, retail investor activities stayed low such as that retail transaction amount in the Japanese market overall, on a cumulative basis until Q3, was as low as half a level compared to 2013, which is a peak since the start of Abenomics. In this environment, where equity market fluctuated between hope and despair over the U.S.-China trade issues, under the circumstance, ordinary income in the Retail Division was limited to JPY 4.8 billion.

We're currently working on the income structure reform both on cost reduction and income expansion measures. However, it will take some time until the benefits emerge. We expect large benefits from cost reductions will show from Q4 to the next fiscal year, but we will not relax our forecast and try to surely improve earnings through this effort. We are going to implement thorough our cost reductions while meeting changes of customer needs, such as moving 60% of branches from the ground floor to the second floor or higher floors, abolishing in-branch ATMs, switching some documents from post mail distribution to e-mail distribution and so forth.

On the other hand, to expand income, we are accelerating, transforming the business model from traditional brokerage business model to the asset management business model driven mainly by top income, expanding solution business, such as the inheritance business succession and the real estate and so forth. Although retail securities business is facing a difficult environment right now, looking out to the world, it is the growth industry universally. We are determined to achieve our social mission to accelerate the shift from savings to building assets through establishment of sustainable business model by executing customer-driven sales style without being swayed by black swan type of events. I would appreciate your continued support to us. Thank you.

[Operator]

This concludes the telephone conference call. Thank you so much for your participation. Please hang up your phones. Thank you so much.

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