A decline in trading revenues led Morgan Stanley’s (MS) fourth-quarter 2014 earnings from continuing operations (excluding one-time items and accounting adjustments) of 40 cents per share, which missed the Zacks Consensus Estimate of 47 cents. However, the bottom line came significantly above 15 cents earned in the prior-year quarter.
For 2014, earnings from continuing operations were $2.75 per share, which surpassed the Zacks Consensus Estimate of $2.43. Further, it was 71% above $1.61 earned in the prior year.
Shares of Morgan Stanley fell more than 2% in early trading, implying that the market is discouraged with the company’s performance. The price reaction during the full trading session will give a better idea about how investors accepted the results.
The reported quarter consisted of several significant items, including the one-time items that were considered to reach the adjusted figure. These include a discrete tax benefit of 70 cents per share, higher compensation expense due to deferral adjustments of 40 cents per share, negative revenues of 17 cents per share from FVA and legal expenses of 12 cents per share.
However, without considering these significant items, the company came out with net income of $1.0 billion or 47 cents per share. This was substantially up from $84 million or 2 cents per share recorded in the year-ago quarter.
Slump in fixed-income, currency and commodities (“FICC”) trading income and investment banking revenues were largely responsible for the lower-than-expected results. Further, decline in fee income and lower net revenue of all segments, except Wealth Management, added to the woes.
However, these were partially offset by a drastic improvement in net interest income, a rise in advisory revenue and lower operating expenses. Also, improved asset position acted as a tailwind.
Performance in Detail
Net revenue (excluding DVA adjustments) for the quarter amounted to $7.5 billion, down 8% year over year. Moreover, it missed the Zacks Consensus Estimate of $8.1 billion. After considering the positive revenues pertaining to the changes in Morgan Stanley’s debt-related credit spreads and DVA, net revenue declined 1% year over year to $7.8 billion.
Net interest income was $603 million, up significantly from $282 million recorded in the year-ago quarter, driven by a 21% fall in interest expenses.
However, total non-interest revenue of $7.2 billion decreased 5% year over year, mainly owing to a fall in investment revenues.
Total non-interest expenses stood at $7.9 billion, down 2% from the prior-year quarter. The fall was primarily due to a decline in other expenses as well as information processing and communications costs, partially offset by an increase in the compensation and benefits expenses.
Morgan Stanley’s compensation to net revenue ratio for the reported quarter was 66% versus 51% in the year-ago quarter.
Quarterly Segmental Performance
Institutional Securities (IS): Pre-tax loss from continuing operations was $863 million, an improvement from a loss of $1.2 billion in the prior-year quarter. Net revenue was $3.4 billion, up 3% from the year-ago quarter.
Excluding DVA, net revenue was $3.2 billion, down 14% on a year-over-year basis. The fall in revenue was largely due to lower FICC income, equity underwriting revenues and fixed income underwriting revenues, which were, nevertheless, partially offset by a rise in advisory revenues, and equity sales and trading net revenues.
Wealth Management (WM): Pre-tax income from continuing operations was $736 million, increasing 3% from the year-ago quarter. Net revenue was $3.8 billion, improving 2% from the year-ago quarter, driven by a rise in asset management fees and net interest income. These were, however, partially offset by a fall in transactional revenues.
Investment Management (IM): Pre-tax loss from continuing operations was $6 million, compared with pre-tax income of $331 million in the year-ago quarter. Net revenue was $588 million, a decline of 31% from the year-ago quarter. The fall was due to lower investment gains and carried interest in the Merchant Banking and Real Estate Investing operations and lower results from Traditional Asset Management.
As of Dec 31, 2014, total assets under management or supervision were $403 billion, up 7% year over year. The rise primarily reflected positive flows of $3.5 billion and market appreciation.
Capital
As of Dec 31, 2014, book value per share was $34.62, up from $32.24 as of Dec 31, 2013. Tangible book value per share was $29.63, up from $27.16 as of Dec 31, 2013.
Morgan Stanley’s Tier 1 capital ratio Advanced (Transitional) was 15.9% versus 15.6% in the year-ago quarter and Tier 1 common equity ratio Advanced (Transitional) was 14.2% versus 12.8% in the prior-year quarter.
Share Repurchases
During the reported quarter, Morgan Stanley bought back around 8 million shares for nearly $271 million. This was part of the share buyback program announced by the company, under which shares worth up to $1 billion can be repurchased, beginning from the second quarter of 2014 through the first quarter of 2015.
Our Take
Morgan Stanley’s initiatives, to offload its non-core assets in order to reduce balance-sheet risks and shift focus on the less capital-incentive IM and WM segments, are commendable. Further, a full control of Morgan Stanley Wealth Management joint venture has aided the diversification of the company’s revenue base. This will, in turn, stabilize its earnings, going forward.
Additionally, Morgan Stanley has been moving away from the commodity trading business. Heightened regulatory scrutiny and waning profits are the main reasons behind shedding this once lucrative operation.
In July, Morgan Stanley sold its 100% indirect ownership interest in TransMontaigne Inc. (an oil storage, marketing and transportation company) to NGL Energy Partners LP for nearly $547 million. However, the divestiture of its Global Oil Merchanting Unit to Russia-based Rosneft Oil Company was cancelled in December, as the agreement failed to receive all the necessary regulatory approvals.
Nonetheless, Morgan Stanley’s organic and inorganic growth initiatives continue to act as significant growth drivers. The company remains focused on diversifying its revenue base by expanding footprint in the emerging economies.
However, concerns related to new regulatory requirements, slow client activities and intense pricing competition, which exerts pressure on Morgan Stanley’s financials, continue to linger. Also, stringent capital norms may somewhat lower the company’s flexibility with respect to its investments and lending volumes.
Currently, Morgan Stanley carries a Zacks Rank #3 (Hold).
Among other banking giants, JPMorgan Chase & Co. (JPM), Bank of America Corp. (BAC) and Citigroup Inc. (C) have come out with fourth-quarter results. These banks were unable to brave the tough industry backdrop and subsequently reported overall dismal earnings.
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