Nomura Holdings Inc

TSE:8604

Earnings Call Transcript 2018-Q3

[Operator]

Good day, everyone, and welcome to today's Nomura Holdings Third Quarter Operating Results for Fiscal Year Ending March 2018 Conference Call. Please be reminded that today's conference call is being recorded at the request of the hosting company. Should you have any objections, you may disconnect at this point in time. [Operator Instructions] Please note that this telephone conference contains certain forward-looking statement and other projected results, which involve known and unknown risks, delays, uncertainties and other factors not under the company's control, which may cause actual results, performance or achievements of the company to be materially different from the results, performance or other expectations implied by these projections. Such factors include the economic and market conditions, political events and investor sentiments, liquidity of secondary markets, level and the volatility of interest rates, currency exchange rates, security valuations, competitive conditions and size, number and timing of transactions. With that, we'd like to begin the conference. Mr. Takumi Kitamura, Chief Financial Officer, please go ahead.

[Takumi Kitamura, executive]

This is Takumi Kitamura, CFO. I will now give you an overview of our results for the third quarter ended December 2017. Please turn to Page 2.First, let's take a look at the 9 months through December. Income before income taxes was JPY 281.2 billion, an increase of 17% over the same period last year. Net income was JPY 196.7 billion up 10% year-on-year. ROE was 9.3% and EPS was JPY 55.12. Last year, strong corporate earnings in the U.S. lifted the DOW to a record high and in November, the Nikkei hit JPY 23,000 for the first time in 26 years. The market rally led to improved sentiment among individual investors and our retail business reported robust sales across various products including equities and investment trust. Asset management booked continued growth in AUM and gains from American Century Investments contributed to revenue. As a result, income before income taxes from retail and asset management increased more than 60% compared to the same period last year. To enhance capital efficiency, we sold our stake in Takagi Securities which was an equity method affiliate last April and disposed of our stake in JAFCO in July. We have also made progress in our booking entity strategy which is aimed at reallocating management resources. Now, we'll go into more detail on this later. As a result, segment other income before income taxes increased year-on-year. Turning now to our results for the third quarter. Group income before income taxes was JPY 120.8 billion up 45% quarter-on-quarter.Net income grew 70% to JPY 88 billion. ROE for the quarter was 12.4% and EPS was JPY 25.12. As you can see in the graph on the bottom right, 3 segment income before income taxes was JPY 66.2 billion. Earnings growth in retail and robust performance in asset management offset a slowdown in wholesale, resulting in a 5% gain from last quarter. Firm-wide income before income taxes, shown on the top right is significantly higher than the 3 segment results. This is because we booked approximately JPY 45 billion of income related to progress in the winding up of a subsidiary. In 2012, we started to reconfigure our booking entity strategy and in 2015, we decided to wind up Nomura Capital Market or NCM our subsidiary in India that managed our derivatives positions and risk. Since that company was established, the yen had depreciated significantly and Nomura Holdings investment in MCM recorded a JPY 45 billion gain related to the FX translation adjustments. This was sitting on our balance sheet. But because the winding up process went as planned, the company was deemed to be effectively wound up in December. And we recognized this JPY 45 billion as income. Let’s now look at each business in more detail. Please turn to Page 5, for an overview of retail.

Third quarter net revenue was JPY 111.3 billion, up 9% quarter-on-quarter and income before income taxes increased 22% to JPY 31.3 billion. The market rally lifted investor sentiment and as you can see on the bottom, sales of stocks were up nearly 20% from last quarter, which included a large offering. By meeting with our clients and making proposals tailored to their needs, we were able to increase sales of discretionary investments and insurance products by 79%. The graph on the top left of Page 6 shows that annualized recurring revenue has grown to nearly JPY 90 billion. Investment trust net inflows turned negative as investors sold mainly Japan stock funds to lock in profits. However, discretionary investment net inflows improved to around JPY 80 billion aided by market factors, investment trust and discretionary investment AUM which is the source of recurring revenue continued to grow as you can see on the bottom left.

Net inflows of cash and securities which represents cash and securities inflows minus outflows was negative JPY 14 billion as stocks reported significant net sales. Inflows of cash and securities, a new KPI we introduced this fiscal year that measures cash and securities inflows from retail client is trending up, as you can see on the bottom right. It topped JPY 1.2 trillion in the third quarter.

Please turn to Page 7 for asset management. Net revenue was JPY 36.5 billion up 3% quarter-on-quarter. The market rally and inflows into ETFs lifted AUM to over JPY 50 trillion for the first time ever. This expansion led to a rise in asset management fees, which combined with roughly JPY 9 billion gain related to American Century Investments helped maintain revenues at the strong level seen last quarter. Income before income taxes reached a record JPY 20.8 billion.

Please turn to Page 8. The top of the page shows inflows into the investment trust business of JPY 770 billion and Nomura Asset Management's share of the public investment trust market increased to nearly 27%. Ongoing inflows into ETFs led to ETF AUM rising to JPY 13.8 trillion, an increase of JPY 4.5 trillion over the past year. In December, we [ listed ] 6 new ETFs that track domestic bond, foreign stocks, foreign bonds and foreign Reiter are expanding our product offering so that not only institutional investors, but also retail investors can broadly diversify their portfolios.

Please turn to Page 9 for wholesale. Net revenue increased 4% quarter-on-quarter to JPY 165.6 billion. The market rally supported a robust quarter in equities in Japan and the Americas. While investment banking booked stronger revenues in Japan and AEJ. This quarter's earnings include an unrealized loss related to a margin loan of approximately JPY 14 billion. This is booked at JPY 7 billion each in AEJ equities and EMEA investment banking. Excluding this, wholesale net revenue increased by 13% quarter-on-quarter. Income before income taxes declined 17% to JPY 14 billion. This is mainly due to higher bonus provision in line with pay for performance and an increase in commission and floor brokerage due to higher trading volume. Turning now to each business line. Please see Page 10 for global markets. Net revenue increased to 3% from last quarter to JPY 140.2 billion. Fixed income remained roughly unchanged quarter-on-quarter at JPY 79.4 billion. While loan market volatility and subdued client activity had an impact in the quarter. Market activity picked around to tax reforms in the United States and we were able to capture revenue opportunities. Credit and securitized products improved while regionally Japan reported a dip in revenues while performance in EMEA improved. Equities reported net revenues of JPY 60.8 billion an increase of 5% quarter-on-quarter. As you can see on the right, the arrow is pointing up for Japan and Americas which both had a good quarter in cash and constant derivatives AEJ is pointing down due to the margin loan unrealized loss. Please turn to Page 11 for investment banking. As shown on the top left, net revenue increased 11% to JPY 25.5 billion. Gross revenue, which is before allocations to other divisions was JPY 38.9 billion, down 11% quarter-on-quarter. Roughly half of the margin loan unrealized loss were about JPY 7 billion is reflected in net revenue and the total amount is reflected in gross revenue. Excluding this, gross revenue in each region was higher both quarter-on-quarter and year-on-year. [ MMJ ] revenues increased in Japan as we won many high profile mandates through global collaboration. ECM revenues were also solid. For calendar year 2017, we ranked #1 in the Japan-related ECM, DCM and M&A lead tables. Internationally M&A and M&A-related financing contributed to revenues and we worked on many DCM deals. Please turn to Page 12 for an overview of costs. Firmwide noninterest expenses increased by 6% to around JPY 17 billion from last quarter to JPY 285.9 billion. The main reason for the increase are higher compensation and benefits due to increased bonus provisions in line with pay for performance and an increase in deferred compensation expenses due to a rise in Nomura Holdings share price. Other expenses increased due to higher one-off expenses related to consolidated subsidiary.

Page 13 shows our financial position. At the end of December, our Tier 1 capital ratio was 18.2% and a common equity Tier 1 capital ratio was 17.3%, both of which have approximately unchanged from the end of September. That concludes the overview of our third quarter results. To sum up, this quarter included a gain from NCM and group net income was at the highest level since the January to March quarter in 2006. For the 3 segments that represent our core business while we once again recognize the importance of stringent risk management. We were able to increase income before income taxes quarter-on-quarter. The market rally has continued into January the Nikkei reaching [ 24,000 ] at one point. As share prices go through an adjustment phase, we are seeing pockets of strength, such as retail investors taking advantage through this to enter the market. In terms of our recent performance, retail is trending at the same pace as the third quarter and asset management continues to boost AUM.

The fixed income market is witnessing rate hikes and return of volatility. And our fixed income business in EMEA and AEJ have been performing well. The equity markets rally supporting resilient performance in our equities business. The wholesale has got off to a good start in the fourth quarter.

[Operator]

We have a question-and-answer session now. [Operator Instruction] The first question is from Muraki-san of Deutsche Securities.

[Masao Muraki, analyst]

My first question is regarding the retail division. In the presentation material, Page 23, you have the earnings of the retail business and your peers have already made announcements, and when comparing your results, the Investment Trust Commission's growth has been mild and also the sales commission, sales credits has declined. So I would like to ask your views on the trends in the commissions and also sales credit. And in the press -- conference, Kitamura-san explained that if we were Nomura of the past, we might have made more money , but we are now not relying on trading, was the gist of your comment, but for example, for some equity products and also structured products, your peers seem to be enjoying growth. So I'd like to hear your views on the past 3 quarters -- past 3 months for Nomura as well as your peer's performance.

My second question is regarding Basel III, and there was the finalizations regarding Basel. So I would like to ask for your views on that. You have not disclosed the guidance regarding Basel, but some according to your internal calculations, you must have had a range of calculation. So are things going towards a better direction or are things deteriorating for you? What are your views for the past, what's happened on past 3 months?

[Takumi Kitamura, executive]

Thank you. This is Kitamura. Regarding your first point, the Investment Trust Commission has not grown as much as our peers and sales credit. You mentioned that we have not grown compared to our peers. We don't really compare ourselves with our peers. We are focusing on what we have got to do. And as Muraki-san, you mentioned yourself, we are focusing on consulting sales from a more comprehensive perspective and trying to help clients with their assets. And for investment trust, the same thinking or same policy applies. For foreign equities, there has been growth, but not as -- I don't know if I should say, we are not as focused as our peers, but I think that's the main reason. We are not exactly product-oriented, product-focused in our retail sales activities. And in the past quarter, discretionary investment and M&A of mid-sized companies and operating lease transactions have enjoyed growth.

Your second point regarding Basel III and the finalization of discussions, if you look at the contents, or the details of what was finalized, I would say it was positive for Nomura. And bluntly put, the introduction of various regulations have been postponed, especially floor impact which 72.5% will be introduced in 2027, so almost no impact to Nomura. And the CVA rule was clarified, which was also positive for Nomura. However, as you know very well, Muraki-san. The biggest item for Nomura is the FRTB. And the calibration will take place as a result of FRTB. So the question is when that's going to happen. It's still not clear whether it's March or April. And once the details are clarified, and also once we figure out how much of the -- our internal model can be applied, that's when we will be able to finalize the impact calculation. But in terms of your question, the finalization of Basel has worked positively for us. So we see the things going positively. Thank you.

[Operator]

JPMorgan, Natsumu Tsujino, the floor is yours.

[Natsumu Tsujino, analyst]

First, about personnel cost, what is your view on this? From the second quarter, it has increased. There was an extraordinary loss of JPY 14 billion in 3 segments totaled profits. If I do the re-calculations, summing them up then first quarter to the third quarter, it has increased. The closest level was shown on the last fiscal year third quarter. But compared with that, it’s low at this time. Despite that, if you look at the personnel cost, it's higher than the previous year's third quarter. So how do you look at the HR cost, human resources cost, that's question one. Second question, it also holds true for the revenues, the equities investment trust, quarter-on-quarter some companies earned 20% increase. There are several companies who enjoy 20% increase and the structure -- the bond and the foreign bonds, the total -- [ some ] companies did saw some decrease, but some enjoyed increase. So Japanese equities, the sales, the transactioned amount -- disregarding that the [ selling ] just fall in the equities and then the equity investment trust and structured bonds or the foreign bonds. To the extent that I can see by accumulating the numbers, looking at your numbers, quarter-on-quarter maybe it has not increased significantly, JPY 300 billion, JPY 400 billion, some companies have enjoyed that level of increase JPY 300 billion or JPY 400 billion, some peers. So under your current business model that kind of performance cannot be achieved, what's actually is happening concerning the sales force, speaking with the customers, clients. They're likely to see what's happening elsewhere. Why has it resulted in this level of sales activities? Could you give us some more information, please?

[Takumi Kitamura, executive]

The first -- regarding your first question about personnel cost. Just to share with you our assumptions regarding personnel cost, we are looking at the full-year basis [ lending ] level. We keep that in our mind. That being the case, if you look at the numbers quarterly, maybe Tsujino, you have just given us some questions. Maybe those questions might arise if you just look at quarter-on-quarter. In that sense, quarterly the factor analysis can be rather difficult to conduct. But looking at this quarter, the retail asset management, their performance have been brisk and then the bonus -- the provisions have to -- had to increase naturally speaking. First quarter -- compared with the first and the second quarters, if you look at the third quarter, there was a one-time effect, still wholesale has been improving. So a little bit of addition had to be taken into consideration. It's a technical matter. It's something related to employees deferred compensation for our employees. Part of them, that's linked to our share prices. The Nomura share price has increased, so accounting wise, deferred compensation impact has become more significant. Because of the -- among others such as technical factor in the third quarter, you might get an impression that the HR cost has increased, but as I said at the outset, on the quarterly basis, if you draw a comparison, it might be rather difficult for you to see the actual situation. Regarding your second question compared with peers, investment trust growth has been rather modest, especially the Japanese equities investment trust. As I repeatedly shared with you, product-based retail activities -- sales activities have [ not been connected ], catering to the needs of clients and customers, [ we did the work ]. Concerning this quarter, the investment trust discretionary and the insurance products sales, they have increased significantly. If you look at the asset part, you can find it out. Nomura PIMCO the bond funds and Indian equity investment trust, they have been selling briskly. And as you rightly pointed out, Japanese equity products are not included, but we are catering to the needs of the customers' clients in terms of our sales activities.

[Natsumu Tsujino, analyst]

So all these equities companies, they all have to emphasize meeting the needs of clients, but Q-on-Q, some companies enjoyed great growth and some didn't enjoy much growth, for instance, the Nomuras equities -- Nomura. And regarding those differences within the group, are you going to actually study about them going forward?

[Takumi Kitamura, executive]

To be honest with you about the peers, what kind of sales activities are they doing -- on our part, we as our business model, so we developed that. We deployed that and as a partner to customers, clients, we do our business. So to be honest with you, we are not that conscious of what other companies are doing, whether there is going to be a difference or not in the future, we don't know at the moment. But for the long-term, we want to be a partner to customers and we believe that we are doing that kind of consultation-based activities. And as a result, I think that's going to really have an effect on the bottom line. This may not been of the pertinent expression, but we believe that this is going to be -- we actually did show the results.

[Operator]

The next question is from Mr. Watanabe from Daiwa Securities.

[Kazuki Watanabe, analyst]

Two questions, please. First is regarding the wholesale expenses. In Q3, the run rate level and compared to the past, has there any changes in your targets for cost control? The second point is regarding your share buybacks. In Q2, you set allocation, which you used up. And was there any reason why you did not set another budget or allocation for share buybacks and in the past, there were cases where you set --

made an announcement about share buybacks a little while after your results announcement, but is that going to happen again?

[Takumi Kitamura, executive]

Your first question about the wholesale expenses. This time, we on an annualized basis in U.S. dollars, the costs would be [ U.S. 5.4 billion ]. There are several items, for example, new hires, which led to the cost increase. So on a run rate basis, it's about -- or it's within [ U.S. 5.3 billion ] and it is under control. So the answer to your question would be about our targets. No change to our target in terms of cost control. But frankly speaking, in the future when we think about our cost reductions and streamlining our operations, we may make some one-off investments. It might become necessary. So this time, we have seen this cost increase. Your second point regarding share buybacks. This time why we did not make an announcement about the share buybacks, why we're not. Well in this calendar year, we have already done 170 million shares. We have already bought back 170 million. And in the past, in the previous 100 million shares, some of them -- some of that was the [ over surf ] on the previous share buyback program. And this was return in related to last fiscal year's results. And the most recent share buyback was related to the interim period. It was part of the shareholder return for the interim period. So in Q3 -- this is Q3 after all. So we felt, we did not need to conduct additional buybacks.

[Operator]

Next question is from David Lui from Guoco Management Company

[David Lui, analyst]

I have a few questions. The first question is on Page 5 of your PowerPoint presentation. On the lower right-hand side, it says stocks plus 18% Q-on-Q, higher trading of Japan and international stocks. Can you tell me for trading value in the secondary trading market, I'm not talking about IPOs. For secondary trading, what is the ratio of the trading value of Japanese stocks to international stocks? Is it like a ratio of like 3:1, 4:1. And has this ratio been changing? That's my first question.

[Takumi Kitamura, executive]

Thank you, David, for your question. So your question is secondary volume, volume on the secondary tradings. And next one is portion of then Japan stock and non-Japanese stock?

[David Lui, analyst]

Yes. Japan versus foreign, among your retail customers, yes.

[Takumi Kitamura, executive]

We don't disclose portion of non-Japanese stocks, unfortunately. And as I mentioned previously, we don't focus foreign stock trading or sales. Of course in a -- due to in a strong U.S. market environment, there are some upside of the -- our Japanese retail client and the volume so -- has been increased. But we don't disclose portion of how much for Japan stock and how much for non-Japanese stock. And based on your first question, which is more stronger. Non-Japanese [ retail ] stocks and volume has been much stronger than the Japanese stocks in this quarter.

[David Lui, analyst]

Let me move on to my next question, Kitamura-san. How about the retail investor margin loan balance at the end of December versus the end of September. Did you see any meaningful increase in the retail investor margin loan balance, how much they borrow from Nomura to invest in the stock market?

[Takumi Kitamura, executive]

So [ due to ] strong Japanese market, margin loan transaction also was very strong, and balance of December-end was increasing 20% up from September-end.

[David Lui, analyst]

My next question is on Page 27 of the PowerPoint. Right now, there are, as of December in the table on the lower part of the page, for the December quarter, Nomura Asset Management has JPY 53.3 trillion of assets, [ JPY 2.9 trillion ] for Nomura Funds Research and Technologies, and [ JPY 2.8 trillion ] for Nomura Corporate Research and asset development. Do you have any idea about how much of these assets actually are sold to Nomura clients and how much actually is sold to non-Nomura clients?

[Takumi Kitamura, executive]

This is a very good question. I don't have any clear number. And -- but majority of the Nomura Corporate Research and Asset Management is for non-Nomura client, I guess. And yes, honestly speaking, I don't have any image for how much for -- how many portion is for Nomura client and how many is for non-Nomura client.

[David Lui, analyst]

Let's go back to Page 5, please. Page 5 of your PowerPoint. This is my last question. Earlier, you said that...

[Takumi Kitamura, executive]

David, I got a number about your previous question. So for [ non ], so you mentioned about JPY 53 trillion, that was 30% for Nomura retail client.

[David Lui, analyst]

30%. Is it 30% Kitamura-san?

[Takumi Kitamura, executive]

Yes, 30%. It's Nomura Management -- [ the ending ] provided to Nomura Asset Management, is a portion is around 30%.

[David Lui, analyst]

My last question is on Page 5 of the PowerPoint. Earlier in your commentary, Kitamura-san, you said that the momentum from the retail investor continued into the New Year, meaning in the month of January. If we look at the table on the upper left-hand side of Page 5, we can see that the net revenue from the retail segment grew 9% quarter-on-quarter. And year-on-year 10%. Are you suggesting that for the current quarter so far, based on what you saw that the plus 9% and plus 10% have been matched?

[Takumi Kitamura, executive]

I don't mention it in Q-on-Q or year-on-year trend is same in last quarter. I just mentioned that our top line revenue level is almost the same as third quarter.

[Operator]

The next question is from Niwa-san of Citigroup, Japan.

[Koichi Niwa, analyst]

Two questions, please. First is regarding retail, and also the margin loan. My first point for retail, in terms of client assets, you are targeting JPY 150 trillion. What is the current cash and securities, based on the current net cash and securities inflow, the JPY 150 trillion seems quite ambitious. My question is, is it becoming more challenging to achieve the JPY 150 trillion based on the current environment? My second point is cash and securities inflow is strong. But in terms of the net inflow of cash and securities, why isn't it leading to the growth in net cash and net inflow of cash and securities. So in order for the trend to really turn positive and turn to a net inflow mode, what is needed? That's my first question. My second point is the margin loan one-off losses. In terms of exposure, is this loss basically -- does it cover all the exposure or do you still have other positions, other exposure, which could be future risks?

[Takumi Kitamura, executive]

Thank you, this is Kitamura. Your first question regarding the retail business and the AUM or client assets and retail. The JPY 150 trillion target for 2020 has been -- has always been challenging. And -- but we do not feel the need to change this target at all. And in terms of the inflow of cash and securities, we still need to keep growing this inflow cash and securities. Meanwhile, the net inflow of cash and securities at the moment, there is a lot of outflow. I must admit. So in that sense, the share price has rallied quite significantly from last October or so and that has led to a very strong sales pressure of stocks. That I really feel that watching the markets today. So the challenges that must be overcome are clear. And we know what we have to do and what kind of organizational structure is needed and what kind of approach we have to take in facing our clients is what we are thinking of at the moment. And last April, we abolished the divisional system and we changed our organization. We have also reinforced the client segment, and also we have reviewed our products and we are focusing more on the low-risk products and diversifying the product offering. We are focusing on the consulting sales. So there are lot of things we are doing. And we are still in progress. This is still a work in progress and we want our clients to trust Nomura even more than they have done in the past. And if we can do that, then I am sure that the inflow of cash and securities will improve, meanwhile we will be able to [ halt ] the outflows. So we don't feel we need to change our current approach. It's just that there is more work we need to do and we need to keep accelerating our efforts. As for your second point, regarding the losses related to margin loans. In terms of the remaining exposure, frankly, I don't think there is almost no remaining exposure. And of course there are other transactions or other positions we have in terms of margin loan type businesses, but we will continue to focus on risk control and monitor the situation and implement risk control measures. Thank you.

[Koichi Niwa, analyst]

This is Niwa again. Just one additional point regarding the first question. I understand what you said in your answer, but your clients are basically higher quality and the sales pressure seems to have been ongoing for a while, not just most recently. So if the stock market keeps rallying at some point, will there be a net inflow and will the outflows stop at some point? Is that the natural way to look at it.

[Takumi Kitamura, executive]

This is Kitamura. The Japanese retail assets and if you look at the overall balance of these assets, the deposits have actually increased over the past few years, even though they have -- it has been said that the deposit level has been very excessively high. I think people are sensing that the exit of deflation is near and which means, there should be a shift away from deposits into other financial products. And this applies not just to Nomura's clients but basically to the entire retail market in Japan. So in terms of stopping the outflows, we may have to change our approach when we face our customers. But I think the external environment will start turning more favorable and once Japan reaches the exit of deflation, then we will -- that will be a positive trend for Nomura.

[Operator]

[Operator Instructions]

[Takumi Kitamura, executive]

Thank you. This is Kitamura. Thank you very much for participating today. This quarter, we have the losses from the margin loans so we feel the need to further strengthen our risk control, make it more thorough. And in terms of cost control, there were some questions raised. And again, we will continue to focus on cost control and make sure we seek the upside in our earnings. So we look forward to your continued support. There is news that there may be some snow this evening. So please make sure you go home early. Thank you.

[Operator]

Thank you for taking your time. And that concludes today's conference call. You may now disconnect your lines.