Continuing the morning session. I am very pleased to have BNY. From the company, their Chief Financial Officer, Dermot McDonogh. Dermot, welcome back.
Thanks for having me. Pleasure to be here.
Something we were just chatting about, maybe kick off here, but since you and Robin took the helm, BNY has dramatically improved its growth, profitability, and stock performance. Just looking back, maybe what has been some of the biggest drivers of that success?
I guess sometimes it is always more fun to look back than to look forward. I would say looking back, for those who are not close to the stock and are kind of learning about us or those who are actually with us and have been following, a little bit of a reflection on the shareholder letters. We put a lot of time, Robin puts a lot of time into those letters. The first year was all about, I would say, reflection, understanding. Robin used the phrase, "BNY has a great culture. It has good bones and a diversified portfolio of businesses." It was all about establishing credibility with our investors, the market, putting out simple guides. I think, as I was saying to you before, this is my fourth time being here with you.
2023 was all about getting expenses back under control, 8% to 2.7, buybacks north of 100%. I think we did 126 that year. NII guidance 20%, and I think we ended up 24%, 25%. So establishing credibility all the time, creating the strategy and the vision for the future and the mechanisms that we put into place, whether it be the new way of working at BNY, we call the platform operating model. The commercial model under the chief commercial officer, which has had a lot of success over the last couple of years, 14 consecutive quarters of sales growth. So real momentum because as a leadership team, you have to put down infrastructure and foundations on which you can run the company over the future, because you need more than words to execute strategy.
While it may sound a little bit consultanty, be more for clients, run our company better, empower our culture, are really the three things that we talk about internally at the firm and the behaviors with which we want people to show up. I would say Robin's, as Chairman and CEO, the biggest success over the last three years is getting the population of the employee base of the firm as shareholders rallying around the message. He's given the firm back a sense of confidence about what's possible, and people are more ambitious for the firm and for themselves, and that's translated into results which we feel very proud of. So really, it's been about the culture which has driven everything else.
I guess that was looking back. Maybe just looking ahead as you enter kind of phase II of this transformation, just what are the biggest commercial opportunities still ahead of you, and what does success look like for you over the next three to five years?
Robin has two birthdays every year, his corporate birthday and his birthday. September 1st is his corporate birthday, and so I wished him happy birthday a couple of weeks ago. He's into year 5. I think for the room and for the audience, we've kind of moved off the word transformation. We're about strategy, vision, delivering for clients, growth, products, innovation, digital, AI, not like, "Oh, how much is room to run in your transformation? Is it over?" It's not really over. It's all about what's next. Northstar, positive operating leverage. We feel like we have a lot of opportunity. We've really stood up our strategy office in a very thoughtful way this year, and we feel a lot of opportunity and a lot more work and opportunity to do internally to deliver more for clients.
You can see that in the sales performance, the new logos. I did a trivia. I walked around a few weeks ago. We have this commercial liftoff seminar every year, and I asked all our commercial people, we've roughly eight lines of business at BNY. How many clients buy from all eight?
Yeah, trivia question. You're asking me?
No. I'll ask you, yeah.
Okay.
Most people don't know the answer to that. There was only one firm who bought from all eight. That tells you about opportunity for the future. We quote a lot of metrics on the earnings call about north of 60% increase in people from buying from three or more lines of business over the last couple of years. Last year, of total sales, 10% were new logos. That's been repeated again this year. But still, the biggest opportunity for BNY is doing more with the clients that we have in addition to attracting new logos. That's phase II. Client service, unreasonable hospitality, stitching the firm together, integrated solutions, to kind of put some evidence behind the words. Look, this time last year, important piece of public policy, Trump Accounts, we weren't really talking about. Now it's executed. It's live, July 4th.
Phase II, we are working on with the U.S. Department of the Treasury and in partnership with Robinhood. That is kind of, I think, a meaningful demonstration of platform operating model and the ability of BNY to react in a strategic and thoughtful way with the government and with Robinhood to deliver an outcome for the future of America. That is something that we feel very proud of that is a validation of our strategy and our way forward.
You mentioned quoting metrics on the earnings call. One of the things that stood out to me on this recent earning call was organic growth from roughly flat in 2022 to 4.5% in the first half of this year. You talked about record sales, new logos, greater cross-selling. What do you think is a realistic organic growth rate for BNY over time, and just how much runway remains for this commercial model?
I did ask an investor this question who has spent a lot of time studying us, and is a believer and is an investor. What is the definition of a well-run company in terms of organic growth? That is back in the day when we were flat or 1%. He put a 4% number on it, which if you said in 2022, 2023, we are going to deliver that, people would have said, "Crikey." Now we have delivered that, people are going to want more.
Always.
Actually, to me, when I reflect on organic growth, it is not so much a target as an output. If we deliver all the things that we believe was within our wheelhouse to do it with new logos, existing clients, new products, all of the above, I think the trend and, to be honest, constructive markets, I think we can go higher. I do believe higher, and then some years it will be lower. Substantially, I think we have not hit steady state yet.
I guess maybe just touch base on just the competitive landscape. We talked about record sales and client wins and larger mandates. Are you finding it easier to take share today than a few years ago? Just maybe what's changed, do you think, the way the clients view BNY?
I have a slightly different view on how you've asked the question there. Internally, I never talk about taking share, because we don't take share from competitors. We earn the trust of clients.
I think it's about the clients giving us business for what we have as opposed to X, Y, and Z of 10%, we've only 6. We need to get up. I come at it from a fundamentally different way of what's the market? Who are the clients? What's our gap? How do we get there? I would say on reflection over the last three years, I guess another story I would give you, we had quite a senior financial services CEO come and talk to our board a couple of years ago about where we were on our journey, and he said to the board, "For many years, I thought of BNY as a vendor. You had a service. We needed the service. We contracted with you.
Now I think of you as a partner." When you can change the client dialogue from vendor to partner and thought leadership across the whole spectrum of what BNY can do, you feel quite confident you can grow share. Also, if you, and again, we say this on earnings calls, we are leading number one or number two in a lot of our businesses, but we don't lead in every sub-product, or we don't lead in every geography. We have, under our new chief strategy officer, we started that work of granular mark-to-market by product, by geography, and where are we missing stuff. Because you can easily fall into a sense of comfort of being number one, but if you want to stay number one, you have to really be studying the market in all its totality.
I would say for us, that's an area for improvement, and we're on it.
I guess a lot of what we've talked to so far has led to very strong financial performance in the first half of the year. Your guidance, I guess, implies a moderation in the back half. Maybe expand on the outlook, just how are trends tracking relative to your expectations and maybe in particular, provide an update on third-quarter trends. I know there's some seasonality in deposits during the summer, but any help you could provide would be appreciated.
Look, your conference is a tough one if I try to answer that question because earnings is a month away.
The quarter ends in two weeks, though.
Yeah. I do not like to constantly re-guide and update. We put out a guide at the start of the year. We updated the guide at the end of Q2 in terms of top line. I feel pretty good about where that guide is relative to the performance. I think consistent with what we said on Q2, Q3 was slower than Q2. Q2 is our strongest quarter. There is definitely a seasonality about our quarters. Having said that, to balance that conservatism out, the capital markets remain strong. Volumes are strong and have kicked back into September. Deposits were slower in Q3, that is for sure. We called that out in Q2. It did happen. I think, you take a step back and you look into just think about what is going to happen this week. There is a lot of uncertainty in the markets.
There is a lot of uncertainty around what is going to happen with rates. We have midterm elections coming up. A lot of people are, as you would expect, cautious, but we do expect kind of the back end of the year, once that fog of uncertainty clears a little bit, for the markets to be more constructive. I think there is a lot to feel good about, but at the same time, there is a lot that could go wrong between now and the end of the year.
Got it. You touched on rates and just maybe talk to net interest income performed very strongly in the first part of the year. You talked about the seasonal slowdown in Q3 and deposits and potentially coming back. Just maybe talk to some of the drivers of sustainable net interest income growth, how you think about it looking out. Fed obviously meets on Wednesday, just what impact higher rates potentially has on NII.
Yeah, look, so, we say a lot about narrowing the cone of outcomes of interest rate volatility. + / - 100 basis points stress shift has, in terms of a company of our size, a negligible impact to NII. The key for us is the overall level of the balance and the mix between IBs and NIIBs. I think this year and again, it is important to remember that we do not lead with deposits. It is in some ways, that mix and that overall balance is an indicator of the health of the franchise, that the more you are doing with clients, the more deposits you are attracting. In the context of a $1.8 trillion liquidity ecosystem, which we manage, deposits are depending on the quarter, they are like they are in the 320, 340 ZIP code, depending on the quarter, the week, or the day.
It's a meaningful part of the overall liquidity system, but we have a lot more richer narratives about the broader liquidity ecosystem. Then I would say our CIO team on the asset side of the balance sheet in terms of seeing opportunity to invest, et cetera, has performed quite well, and we continue to see that kind of yield pickup of about 150 basis points on maturing securities into higher yielding assets. Overall, I think, it's a mixture of things kind of figuring into the overall NII outcome, which has performed or outperformed relative to expectations in January, but then that's a function of what's happened in the markets. Because the minute you make a plan, the next day it's a different plan based on what's happening in the market.
I feel quite proud of the team and how they've reacted to the dynamics of the market this year.
Just maybe shifting to expenses. On this end quarter earnings call, you upped the guide to 6%-7% from 4% prior. Maybe talk to what is a driver. Is it purely revenue driven? Is there other stuff going on there?
Yeah. I would say, public service announcement number one would be, don't feel nobody internally feels that the CFO is losing a grip on expenses because we've upped our guidance, yeah?
Just making sure.
Yeah. Tougher than ever. But the growth on expenses is happening in the right way. I would say revenue-related expenses, and also with the Trump Accounts, there is a gross up in terms of revenue and expenses on the net. That has impacted a little bit as well. Also, look, we have invested a little bit more, particularly in the areas where we see opportunity. I think we are investing in our data, we are investing in AI, as you would expect. There has been some investment into the response to all the Mythos-related activity that has happened this year. All those odds and ends add up. But in the context of the overall guide of, in January, we delivered or we guided for 100 basis points of operating leverage for the year. At the end of Q2, we re-guided to 400.
In the context of the year and the firm and how we are driving that North Star of positive operating leverage, expenses, I think, are well contained within that.
All right. So in the vein of no good deed goes unpunished, 400 basis points of positive operating leverage in 2026. I know you are kind of going through the 2027 budgeting process right now. Just how do you think investors should think about kind of the magnitude of operating leverage going forward as the businesses continue to grow and scale?
The planning process is like solving a quadratic equation at this stage. We've moved away, I would say. Obviously you do, it's a bit like quarterly versus annual in terms of earnings, and the January one versus the other quarters and how you lay out the year. We've become much more of a dynamic budgeting company, and that's as a consequence of our move to the platform operating model. Next week, we will have five days of what we call quarterly planning reviews. I will sit in 80% of that, where we go through platform by platform. How are you doing? What do you need? What have we learned? How have you created capacity? What are you doing to self-fund your investments? That's kind of a whole thesis of platform owners are given a lot of autonomy to run their platforms and create capacity to fund growth.
We need to get the balance right between capacity generation through the investments we've made in the past, and then where we want to invest for the future. We start with the solving for the North Star of positive operating leverage. We solve for what we need to do to deliver for our clients, and what are the new ideas that we're going to bring to the table. We kickstarted that process last week, and so over the next two months, we will really kind of bottom out that plan and we'll present it to the board in early December and get their input and endorsement. We'll be there in January, kind of telling you how we're going to deliver positive operating leverage next year.
I think the important thing to remember in all of this is, as a leadership team, and Robin is quite strong on this, we're not short-termism. We're in it for the long haul, which is when Robin started his tenure, it was all about taking the decade view and not trying to go, "We got to get it right this year." We make decisions for future generations of BNY, not just now. You have to have a certain eye for now, but our decisions are strategic in nature, always that way, and I think that has really stood us in good stead over the last four years. Those investments, remember, we've taken roughly over the last four years, we've taken $2 billion of efficiency, which is a chunky number, and reinvested every dollar of it back into the business.
Sometimes we do get asked that question of, "Are you investing enough given 400 basis points of operating leverage?" I think that's where financial discipline comes in. You just don't want to invest because you can. You want to invest because they're the right decisions to make, and if you feel you don't need to invest to generate those kind of returns, we should give it back to the audience in terms of shareholder returns and buybacks.
I guess on that point, you have recently discussed deploying additional capital to support client growth and strategic investments. Just how do, I guess, investors balance between reinvesting the franchise, returning capital over the next several years, and just maybe talk to what role acquisitions play. I remember back when you did that Archer deal, you said, "Oh, you might see more," and you haven't.
It's not for the lack of looking. I would've said post Archer, I would say the general, "Oh, wow, didn't expect BNY to be doing that." We get a lot more inbounds from the investment banking community. We get a lot more C-suite dialogue from partners and clients about what's happening because they know, A, I think we've established credibility with the market about it's okay for us to do these things now. In a way, as a leadership team, we've earned the right to be more outward-facing in terms of what's happening in the world, and that can be either partnerships, new products, or M&A. As we've said consistently, the bar for transformative M&A is extremely high from a cultural standpoint, financial standpoint, and an execution standpoint. We screen a lot of things because you learn from that research and thinking.
Also on a more lower level, less than transformative, we do look a lot at Archer-type stuff in terms of capability gaps and bolt-ons. In the future, there's nothing on the horizon, I would say. You probably see more of the capabilities. Transformative is not off the radar, but bar very, very high. We don't feel, I guess some of your peer group in the past have commented, are they running out of steam in terms of what's happening inside the firm, and now they need to pivot towards acquisitions to keep going? I can tell you my yellow pad has a long list of things that we can do better at that will make us a better firm that has no need for M&A.
Got it. I guess on that point, you recently set out new medium-term targets that you raised, but you're already above those. Right, 38% pre-tax margin profit target, you did 39% the first half. 28% ROTCE target, you did 30% in the first half. As you look out, should we expect another upward bias of those targets over time? Then, maybe you talked about this yellow pad you have of long list of ideas. The actual follow-up is, what are some of the brightest and best ones?
I would've said, again, you deliver and then everybody wants more. The counter to that is the market rewards you from delivering. You're constantly resetting. I understand the point very well. I would again, two and a half years ago when we gave our first set of guides, the market responded well. We delivered, and then we had a real debate, pluses, minuses, what should it be? Should we do it? How should we say it? Just to be transparent to everybody. We came out with our new guides in January. We thought as a management team that they were meaningful changes. There were 500 basis points to both. Then there is the question of how much of it is alpha and how much of it is beta? The answer is, it's both there.
I would say the other thing for folks that I am quite passionate about is I think we've demonstrated the resilience of the business model in a wide variety of different scenarios because there's been a lot of volatility over the last four years and a lot of ups and downs. Generally, we have a very stable, resilient, recurring revenue platform. When we wake up in the January of 2027, roughly 75% of the revenues are recurring. Every time you win a new mandate, you're adding to that recurring pile. When you land large mandates, which we've done quite a few of this year, they're 10-year contracts. They're with you for a while. Everybody kind of focuses on the organic growth for that year and that win, but you really are building quite a foundation of forward durable revenue stream.
Again, the medium-term targets are not endpoints. They're milestones and guideposts on the art of going higher. It's all about the hard work, and I guess, you being a Michigan graduate and Michigan having a nice win at the weekend, it's all about that 1% every day, and everybody in their zone saying, "Okay, how can I get better tomorrow?" That's really what the firm is. You win, you forget it, you move on. How do we get better? I would've said ROTCE, it's high, yeah. Bank ROTCE, we're up there, yeah. Margin, do I think margin will be higher in three years from where it is today as a Dermot-like person inside the firm? I think that. Otherwise, what are we doing? Yeah, I think so. Am I going to give you a guide this quarter?
The other thing I get accused of, we get over-earning. I think about it slightly differently. I think about we have created a leadership team and a product set and a business model at BNY that can take advantage of the market opportunities that present itself. I think of it very differently to over-earning.
Got it. That's helpful. Maybe shift gears and talk about AI. You guys have been vocal about deploying AI throughout the company. I think there's hundreds of use cases out there. Maybe looking out 3 - 5 years, where do you see the largest economic benefit from AI to come from revenue growth, productivity gains, new products, new services? Just how are you thinking about that?
I was doing media last week when we won't be around to see the benefits of AI in a few years' time. I would've said this is how I think about AI at BNY. Financial services CEOs of the future have to be very engineering forward-leaning. I'm unapologetic in saying it, but I do think Robin is one of the most technologically sophisticated CEOs on the street at the moment, and that's been validated by his appointment to the board of OpenAI. I would've said over the last three years, if you were to use a farming analogy, we've been preparing the soil, we've been sowing the plants, we're watering the plants. Over the next few years, we expect to have the harvest.
Now, I think a lot of people have gone very one-dimensional on what the definition of the harvest is. Everybody thinks it's headcount. We fundamentally use a different word inside BNY. We call it capacity creation to reinvest. We're very keen to have 40,000, 45,000 person, whatever the size of the organization is, doing the work of double. So you can just have more capacity to grow faster. If you take the platform operating model, the commercial model, our data, our product suite powered by AI and Eliza, which is our platform, it just allows us to do things in a much more strategic way at a much faster pace than we've done before. I would say the investments of the last couple of years have strategically positioned us for that.
Now I get asked the ROI question quite a lot, but I don't think of it that way because every AI investment doesn't necessarily have a fixed ROI. I would say the way I think about it is, are we spending the right amount of money on the architecture of the future? We have a $4 billion engineering spend every year. So we have a meaningful budget. So we feel like we have the right strategy, and we have a right to win with AI, and we have the right partnerships with the West Coast. I think you're going to see AI at BNY deliver in a more meaningful way for clients and for the firm in an enterprise way. Yeah, I think as part of the 2027 planning season, we've become a lot more deliberate.
Again, we were the only firm, I think, that talked to you in a meaningful way with disclosures on AI in Q1. We are quite thoughtful. We are quite deliberate. We're not spending for the sake of spending because it's AI, so therefore spend whatever you want. It's quite deliberate, it's quite thoughtful, and we're being quite strategic about what we're doing. You should take it in the context of a $4 billion engineering budget. Our AI investment for what we have is quite modest, and I'm very pleased with the returns from an enterprise standpoint that has given us so far.
Maybe shift gears to just digital assets. You've talked to them about this kind of always-on financial ecosystem. Just how do you see this playing out? Maybe just talk to kind of the greatest opportunities for BNY to create value for clients and for itself.
We have a session going on at BNY today with clients. Market infrastructure of the future. Carolyn Weinberg, who leads our digital asset business, she likes to say we've been around for 240 years, so we've been a part of what's happened gone before. Who better to write the future? That was one of the reasons that attracted her to BNY. I think there's the digital natives and there's traditional. I think there's going to be room for both for a long, long time. I would say digital assets is an evolution that will move at different paces at different times for different markets and different people.
You would have seen last week, there's one firm who's kind of talking about tokenization of equities, and there's a lot of pros and cons, and there's a lot of debate around equities are pretty efficient. What does tokenization of equities do for that? There's a lot of debate in the market about that. I think where we see it's building architecture of the future. It's allowing clients to have certainty of settlement. That's the I guess 24 by five or 24 by seven. It allows clients to do more things and have certainty of settlement, which is quite important. I think BNY has a lot to offer clients in that space due to the network effect and the size of our platforms.
We feel like we have a right to win in this space, and we have a lot of partnerships with digital natives who we're working with them on. We announced one with Baillie Gifford and Digital Transfer Agency. I guess the first time in a long time that you have had a new product innovation in transfer agency. You're going to see more from us in that space because digital natives are doing traditional stuff with us while we partner with them on writing the future. I guess we get the best of both worlds at the moment. Look, clearly, there is a disruption threat and opportunity. Always when I get asked these questions about AI or digital assets, I'm always reminded of February.
Many of you in the room will have been there in Florida at the investor circuit, the SaaS apocalypse week where somebody wrote an article about the two guys, two girls in a garage are going to write the software in an AI-friendly way and take your moat and take your business. That narrative has changed quite a bit over the last several months, and software is back in fashion again, and they're responding. My only advice to people would be don't be quick to assume that the disruptors will always win, and that the incumbents aren't figuring out how to disrupt themselves in an opportunistic kind of way so that we can grow our revenue as well with our clients.
Got it. Four minutes left. I'm going to ask you the top four business line questions, so lightning round. The first, asset servicing. Obviously new products, ETFs, alternatives, more client activity. What's your biggest opportunity to further improve growth and profitability from here?
I would say more of the same. New geographies and new product segments. We are working. The asset servicing team had their strategic offsite this week, and a lot of really good stuff came out of that in terms of opportunities. For those who follow asset servicing quite a lot, what Emily and the asset servicing leadership team have done over the last four years in terms of execution and repositioning the perception in the eyes of the market is nothing short of amazing. More to follow, more to come.
I guess we didn't really touch much on investment and wealth management. Probably if you kind of look at where the margin is relative to what potential is, it's probably the most potential upside. What are you doing there? Can you do better?
We can absolutely do better. I think I am beginning to see Jose is beginning to transform. Truthfully, it's probably harder than we thought, more siloed than we thought, more de-siloing, more cultural transformation, more bringing that business closer to BNY. You are beginning to see green shoots. The quartile performance of our funds is pretty good, right where you'd want it to be, if not better. Now it's all about attracting AUM into that performance. I think in certain products this year, we've done a particularly nice job. So I believe the path for margin is higher. That's really been investment, and it's really been in the investment in talent.
We've brought on quite a bit of talent this year, and good people hire good people, so it's slow, but we are reasonably confident in our ability to deliver what we've previously guided to the market, which was that 25% margin in the medium term. So I think we're on the path.
Just lastly, corporate trust. We have private credit, CLOs, increased capital markets activity. How much more room for growth is there?
I would say corporate trust is the leading platform anchor for Trump Accounts. That's where a lot of the work has happened. When I joined, we studied corporate trust. It had legacy tech, under-invested in for many years, both in terms of talent and infrastructure. We've made those investments over the last couple of years, and you're beginning to see the benefit. The biggest opportunity for us there is, we have, I don't know, $15 trillion of debt there that we service. Just think about that, how many clients that is, and the cross-sell opportunity of, "Oh, you do all of that as well as corporate trust?" That's untapped potential that we really are getting after. We've made progress. It's shown up in the results of the past couple of years, but the flywheel of momentum, I feel like we have more to go.
In terms of the loan market, a lot of those markets are quite, be blunt, spreadsheet-based. There is an opportunity for AI to help us to be a lot more strategic in that space, and that capability will allow us to go faster. I feel good about corporate trust.
Great. On that note, please join me in thanking Dermot for his time today. Thank you.