Morgan Stanley’s (MS) second-quarter 2014 adjusted earnings per share from continuing operations of 60 cents surpassed the Zacks Consensus Estimate of 55 cents. Results were above the prior-year quarter figure of 45 cents, reflecting top-line growth. Moreover, this was the eighth consecutive quarter in which the company delivered a positive earnings surprise.
Results benefited from an increase in net interest income and stable fee income as well as marginally lower operating expenses. These were, however, partly offset by lower fixed-income, currency and commodities (FICC) trading income. On the other hand, increase in net revenue across all segments and improved asset position acted as tailwinds.
However, including debt-related credit spreads and Debt Valuation Adjustment (DVA) and other non-recurring items, net income from continuing operations was $1.9 billion or 94 cents per share. This was up from $$1.0 million or 43 cents per share in the year-ago quarter.
Performance in Detail
Net revenue (excluding DVA adjustments) for the quarter was $8.5 billion, up 2% year over year. Moreover, it outpaced the Zacks Consensus Estimate of $8.2 billion. After considering the positive revenues pertaining to changes in Morgan Stanley’s debt-related credit spreads and DVA, net revenue climbed 1% year over year to $8.6 billion.
Net interest income was $267 million, up 31% from the year-ago quarter, driven by 19% fall in interest expenses. Further, total non-interest revenue of $8.3 billion, was at par with the prior-year quarter level.
Total non-interest expenses were $6.6 billion, down 1% from the previous-year quarter. The decline was primarily owing to lower information processing and communications and other expenses, partially offset by a rise in compensation and benefits expenses and professional services fees.
Morgan Stanley’s compensation to net revenue ratio for the reported quarter was 49% versus 48% in the year-ago quarter.
Segment Performance
Institutional Securities (IS): Pre-tax income from continuing operations was $1.0 billion, up 3% from the prior-year quarter. Net revenue was $4.2 billion, down 3% from the year-ago quarter. Excluding DVA, net revenue was $4.2 billion, decreasing 1% on a year-over-year basis. The decline in revenue was largely due to a fall in FICC income, partly offset by higher advisory revenues and unchanged equity sales and trading net revenues.
Wealth Management (WM): Pre-tax income from continuing operations was $767 million, increasing 17% from the year-ago quarter. Net revenue was $3.7 billion, improving 5% from the year-ago quarter driven by rise in asset management fees, partially offset by a fall in transactional revenues.
Investment Management (IM): Pre-tax income from continuing operations was $205 million, up 28% year over year. Net revenue was $692 million, up 3% from the year-ago quarter. The rise was driven by gains on investments in Merchant Banking and improved results from Traditional Asset Management. These were, however, partially offset by lower revenues from investments in Real Estate Investing.
As of Jun 30, 2014, total assets under management or supervision were $396 billion, up 14% from $347 billion as of Jun 30, 2013. The rise primarily reflected positive flows of $7.6 billion and market appreciation.
Capital
As of Jun 30, 2014, book value per share was $33.48, up from $31.48 as of Jun 30, 2013. Tangible book value per share was $28.53, up from $26.27 as of Jun 30, 2013.
Morgan Stanley’s Tier 1 capital ratio (Advanced Approach) was 15.2% versus 14.1% in the year-ago quarter and Tier 1 common capital ratio (transitional) was 13.8% versus 11.8% in the prior-year quarter.
Share Repurchases
During the reported quarter, Morgan Stanley bought back around 9.3 million shares for nearly $284 million. This was part of the share repurchase program announced by the company following the Federal Reserve’s approval of its 2014 capital plan. Under the authorization, the company announced share repurchase of up to $1 billion of common stock, beginning from the second quarter of 2014 through the first quarter of 2015.
Our Viewpoint
Morgan Stanley’s initiatives to offload its non-core assets to lower balance-sheet risks and shift focus on the less capital incentive IM and WM segments are commendable. Further, full control of Morgan Stanley Wealth Management JV has aided in diversifying 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 (divested 100% stake in TransMontaigne Inc. and sold Global Oil Merchanting unit) as well. Increased regulatory scrutiny and waning profits are the primary reasons for shedding this once lucrative business.
Further, Morgan Stanley’s organic and inorganic growth initiatives continue to be significant growth drivers. The company remains focused on diversifying its revenue base by expanding footprint in emerging economies.
However, there are concerns related to Morgan Stanley’s financials being pressured by new regulatory requirements and intense pricing competition. Also, stringent capital norms may somewhat lower the company’s flexibility with respect to its investments and lending volumes. Nevertheless, the company’s fundamentals are highly promising with a diverse business model, a stable balance sheet and strong capital position.
Currently, Morgan Stanley carries a Zacks Rank #4 (Sell).
Performance of Major Banks
Among banking giants, Wells Fargo & Company (WFC), Bank of America Corporation (BAC) and JPMorgan Chase & Co. (JPM) have come out with second-quarter results. Though the sluggishness in the industry was expected to reflect in the results of banks, the strength shown to dodge such headwinds appears much better than expected.
Consequently, all these banks were able to report decent results. Notably, BofA’s result was adversely impacted by $4 billion litigation expenses.
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