Back on a roll
Things are coming back together again - that’s official - but not as we knew them. Ron Logue, bright-eyed and bushy-tailed, has slid his legs firmly under the CEO’s desk at State Street’s new HQ building in Boston. He clearly feels at home and relishing the challenges ahead.
“The 1990s were the perfect scenario for us and our competitors – with high interest rates and high equity markets and lots of growth. It was a wonderful time!” The group was able, because of its sustained investment over the previous decades, to capitalise on this high-growth environment.
But since the new millennium, all that worked the other way. “The issue for us is the fact that we probably did not change quickly enough to operate in a slower growth environment,” he says. “We have learned from that.”
Now the world’s largest global custodian with $9.5trn (e7.3trn) under custody is being configured for these poorer growth conditions. “But we want to still deliver the kind of consistency that we did to the ‘Street’.” Even now the 10-year figures are still looking good – 23% total annualised return to shareholders and a 16% growth rate in dividends per share over the period.
The nub for Logue - a 15-year veteran with the bank - is to strike the balance between the revenue growth the group historically produced and its ability to control expenses. “But I must be careful not to do anything that endangers this entrepreneurial spirit and sales focus that has allowed us to grow top-line revenue consistently.”
The key is to moderate expenses growth, he emphasises. “I need to create operating leverage over a longer period of time – and not just each quarter, as investment has to be sustained.”
The bottom-line depends on how careful the group is with allocating resources. “In the 1990s, when we saw an opportunity, we just invested in it and ran with it. If three or four out of 10 worked that was fine. Now we are being very much more selective about how we invest money.” In Logue’s view that’s the big difference between then and now.
Last year’s results, he regards as “the beginning of a turning point”, still producing 14% top-line growth, but he acknowledges that the 8% bottom-line should have been double digits, and that’s where the group has to return to. “My sense is that we are moving in the right direction now.” But it is a fine line, as he insists that the high level of service has to be maintained. No “slashing and burning indiscriminately” are contemplated to produce the “right” bottom-line.
But State Street has not stood still since the new millennium. “We have become more of a global company and the Deutsche GSS acquisition had much to do with this. But we still have a long way to go to become truly global.” It has widened its suite of products, adding hedge fund servicing, for example.
With something like a third of its 20,000 workforce now outside the US, the march to globalisation continues. “Our strategy is to grow outside the US, as some markets will grow faster than here.”
“Today 37% of revenue comes from outside the US; I want to get that to 50%,” Logue declares. “Certainly in Europe and Asia Pacific, where there has been a surge in activity.”
He never tires of pointing out what the Deutsche GSS business brought to the group. The goodie bag seems to be bottomless. It was not jut Germany, but also the UK, and the European offshore markets; plus a strong US management team and name recognition in Europe. “What has not been realised is the strengths of the operations in Asia, Japan and in Latin America, including Mexico. We obtained some wonderful business from these regions as a result.”
On the integration of the businesses, Logue reckons the group is way ahead “on whatever measure is chosen”. Financially it was a ‘touch down’ for State Street, he says simply. “The US operations were integrated flawlessly, by shutting down Nashville and New Jersey and integrating people into our own operations.” Integration in Europe will be completed with the conversion of the depot bank in Germany to the US bank’s system. “We set a goal of 90% customer retention – we achieved 88%.”
He rejects emphatically the allegation that the group is losing people it does not want to. “Turnover may be up a bit because of the markets. But we are keeping the people we want to keep – without question! Our management bench is incredibly deep at all levels.”
In the third quarter of 2004, some 425 people were laid off, but these were in areas where the expected returns did not justify the investment needed. “We got out of the 529 educational plan servicing business, we cut back commercial cash management as it is not a core competency and the wealth management services area.” But recruitment continued at the levels needed to ensure continued client servicing.
“The Fitch downgrading was not a big deal. If you look at how we are rated compared with our competitors, we were always rated a little bit higher. So I view that as just being put in line with the others,” he says.
Does being the largest in the global custody market impose constraints? “In terms of penetrating new markets and pursuing sales, absolutely not!”
But in terms of balancing the expense side, it does. “The people who fill the management positions today grew up in high-growth areas where they were constantly going out, getting new business and spending money. So you need to allow people to acquire new skill sets.”
So it is important to see the direction of expense movements and not just focus on the next quarter’s results, he maintains. “If I begin to see either neutral or slightly positive operating leverage, I can tell we are doing the right things.” There can be high revenue growth, but expense growth has to be at a rate below that. “People need to acquire new skills to do that.”
Even the traditional securities servicing business is set to grow in the US, but even faster outside. Here the investment operations outsourcing business acts as a catalyst to grow the traditional business, he points out. “There is still plenty of juice in the institutional marketplace,” Logue reckons.
SSGA, which has just announced the appointment of William Hunt as the in-house successor to the late Tim Harbert, is to continue its surge, which saw assets under management grow to $1.4trn by the end of last year. “I still see lots of promise for SSGA, but we want it to be a bigger piece of the group’s bottom-line.” The trading businesses continue to develop, particularly on the brokerage side.
“With the transaction-related business, it is essential to budget conservatively, as it is better to be surprised on the upside, rather than the downside,” he adds.
Logue confesses to being extremely pleased by the outsourcing business. “We have probably more experience than anyone in doing this.” And this gives the group a better understanding of the dynamics of the business, he claims. “Today if you win a large deal, especially in the US, you win more than the relationship.”
Europe will be the core of the State Street growth, certainly in the shorter term. Pensions and collective funds are where the focus will be. “We now find we are usually involved in most of the deals, which was not always the case in the past.” Then over the intermediate term, Japan, and in the longer term, the rest of Asia will continue to progress. “Further out, we will see how China evolves, but the opportunities there may initially be for SSGA.”
Within the securities services arena, Logue anticipates “a bifurcation of the market”. “The endangered species are those in the middle. I see a few big guys and a few niche players. Those in the middle are going to have to decide whether to invest and be a big guy, or divest and become a niche player. The stakes keep rising to stay in the game. Those in the middle are now trillions away from the top. My bet is that the consolidation will be in the middle tier.”
Prospects for pensions business? “We will continue to win our share in the US, and we will be very aggressive and be the number one player outside the US.” Five years ago, State Street would have been the underdog, when bidding outside the US for pension business, now it is the favourite.
The pensions market is set to change and the group knows how to accommodate this, he says. “We will be able to react to this quicker than competitors – particularly when it comes to multinational organisations. We can now service in all locales in a similar way.”
Taking a five-year view ahead: “I would like to see 50% or more of revenue coming from outside the US, a track record of delivering consistent earnings to the shareholders, looking back to the days when we used to do that and despite the slow growth environment, and I would like to create an open and very transparent company that is diverse, with strong risk and compliance capabilities and created career opportunities.”
He adds: “And we want to stay independent. It’s our secret weapon. It gives us the focus. If we are part of large universal bank we would not get the resources we want. Independence is not just important to us, it is important to our customers. Being a sustainable player in this market is important to clients. They do not want to go through changes for which they earn nothing.”
Logue sums it up: “When I stack up our organisation in terms of core competencies, products suites, and client relationships, I like my cards better than anyone else’s.”