Morgan Stanley — Q3 2019 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2019. Morgan Stanley is a global financial services firm operating through Institutional Securities, Wealth Management and Investment Management. Interim financial statements are unaudited; Deloitte reported that its review identified no material modifications needed for U.S. GAAP conformity.
Financial results and key metrics
| Metric | Q3 2019 | Q3 2018 | Nine months 2019 | Nine months 2018 |
|---|---|---|---|---|
| Net revenues | $10.032B | $9.872B | $30.562B | $31.559B |
| Net income applicable to Morgan Stanley | $2.173B | $2.112B | $6.803B | $7.217B |
| Diluted EPS | $1.27 | $1.17 | $3.89 | $3.92 |
| Pre-tax margin | 27% | 29% | 28% | 30% |
| Expense efficiency ratio | 73.0% | 71.1% | 72.0% | 70.3% |
| ROE / ROTCE | 11.2% / 12.9% | 11.5% / 13.2% | 11.8% / 13.5% | 13.1% / 15.1% |
- Profit and expenses: Q3 income before taxes was $2.710B, down from $2.851B. Total non-interest expenses rose 4% to $7.322B, including compensation of $4.427B and non-compensation expenses of $2.895B. Nine-month expenses declined slightly to $21.994B, while income before taxes fell to $8.568B.
- Interest and cash flow: Q3 net interest income increased to $1.218B from $936M; nine-month net interest income rose to $3.261B from $2.817B. Reported operating cash flow for the nine months was $40.909B, versus $14.484B; investing cash flow was negative $25.721B and financing cash flow negative $21.180B. Period-end cash and cash equivalents were $79.656B, down from $87.196B at year-end 2018.
- Balance sheet and funding: Total assets were $902.604B, up from $853.531B at December 31, 2018. Loans, net of allowance, were $125.522B versus $115.579B; deposits were $180.738B versus $187.820B; borrowings were $193.659B versus $189.662B. Common shareholders’ equity was $73.862B; tangible common equity was $64.512B.
- Liquidity and capital: Global Liquidity Reserve was $226.923B, down from $249.735B. The LCR was 140% at quarter-end versus 154% at June 30, with the decline attributed primarily to higher derivatives- and lending-commitment-related outflows; the firm and its U.S. bank subsidiaries met the 100% minimum. CET1 was 16.3%, Tier 1 capital 18.5%, total capital 20.9%, Tier 1 leverage 8.2% and SLR 6.3%. All exceeded stated minimum requirements.
Material changes versus comparable periods
- Q3 revenue increased 2% year over year, but nine-month revenue decreased 3%. Q3 net income attributable to Morgan Stanley rose about 3%; nine-month net income fell about 6%, and diluted EPS declined from $3.92 to $3.89.
- Institutional Securities: Q3 revenue grew 2% to $5.023B, supported by higher fixed-income trading, while nine-month revenue declined 8% to $15.332B, reflecting weaker equity trading and investment banking. Segment net income was $1.073B for Q3 and $3.565B year to date, down 4% and 15%, respectively.
- Wealth Management: Revenue was broadly stable at $4.358B for Q3 and $13.155B year to date. Segment net income increased 5% in both periods, to $962M and $2.839B. Client assets rose to $2.565T from $2.303T at year-end 2018; fee-based client assets increased to $1.186T from $1.046T.
- Investment Management: Revenue increased 17% in Q3 to $764M and 17% year to date to $2.407B, helped by investment gains, carried interest and asset-management fees. Segment net income was $138M for Q3 and $402M year to date. Total AUM was $507B, versus $463B at year-end.
- Q3 consolidated non-interest expenses increased 4%; higher litigation, volume-related and technology costs contributed. The efficiency ratio worsened in both the quarter and year-to-date period. Reported ROE and ROTCE also declined year over year.
Outlook, management commentary and risks
- Targets and capital returns: Management’s stated targets are ROE of 10%–13% and ROTCE of 11.5%–14.5%; these are forward-looking and depend on market conditions, business volumes, regulation, legal costs, expenses and capital levels. The 2019 capital plan permits up to $6.0B of share repurchases from July 1, 2019 through June 30, 2020. Repurchases were $3.860B in the first nine months. The quarterly common dividend was raised to $0.35 per share.
- Credit and lending: Loans and lending commitments totaled $255.853B, up from $232.232B at year-end, with growth in corporate lending commitments and Wealth Management lending. The allowance for loans and lending commitments rose to $531M from $441M, primarily due to portfolio growth, select credit deterioration and environmental factors. Management noted 99.2% of Institutional Securities loans and 99.9% of Wealth Management loans were current.
- Legal and tax contingencies: The filing identifies numerous proceedings and notes that some potential losses cannot be reasonably estimated. Disclosed possible loss amounts include up to approximately $240M in the CDIB matter, $240M in one mortgage-loan trust case, and $126M and $277M in separate FGIC-related matters; interest, fees, costs or expanded claims could increase exposure. The Dutch Tax Authority is challenging approximately €124M (about $135M) of withholding-tax credits, plus interest. The GSE Bonds antitrust case was set for trial in May 2020. These figures are matter-specific and should not be added as a single expected loss.
- Other notable items: Q3 included $89M of intermittent net discrete tax benefits, principally related to the 2018 federal tax return and tax examination updates; nine-month intermittent benefits were $190M. The firm was preparing for CECL adoption on January 1, 2020 and preliminarily did not expect a significant allowance increase, subject to economic conditions and portfolio composition. It also cited LIBOR/benchmark-rate transition, Brexit, market, credit, liquidity, operational, model and regulatory risks.
Most important facts for investors to verify
- Whether weaker year-to-date Institutional Securities revenue and lower consolidated margins persist, and how trading and investment-banking conditions evolve.
- Whether the growth in corporate and Wealth Management lending is matched by appropriate credit quality and allowance coverage.
- How much of reported earnings reflects intermittent tax benefits, investment gains, carried interest and other potentially variable items.
- Progress and cost of technology investment, litigation matters and regulatory changes, including CECL and benchmark-rate transition.
- Capital and liquidity trends, including the lower LCR and GLR, and the pace of repurchases and dividend payments under regulatory constraints.