Q2 2023 Invesco Ltd Earnings Call
At our core we will be focused on delivering investment excellence for our clients. While we are pleased to have a strong foundation, we're not at all satisfied with our results to date and we're committed to improving our performance by simplifying our organizational model aligning our expense base strengthening our strategic focus being agile.
And innovative and advancing our use of technology and executing at pace.
We believe.
This will lead to outstanding client experience attraction and retention of top talent and an enhanced ability to generate profitable growth for the future.
I could not be more confident in the talented experienced and collaborative team we have in place to take advantage of opportunities in the market and a jet and address the challenges confronting our clients and our industry I want to again, thank Marty for his visionary leadership that has provided invesco the foundation to capitalize on the opportunities that lie ahead.
With that I'll start today's presentation of second quarter results on slide three for those following along.
In the second quarter.
Financial markets showed signs of recovery, even as investors continue to grapple with significant uncertainty recovery was uneven across sectors and geographies and while the headline moves in market indices were positive the underlying client environment continued to be relatively cautious given the uncertain economic backdrop market gains were.
Early distributed U S equity market increases were concentrated in large cap technology stocks, while non U S equity markets, most notably emerging international in China as well as most long dated bond index returns were flat or negative.
Client actions in the quarter remained risked off resulting in slower industry growth in long term assets, while cash strategies continue to account for a historically large proportion of client portfolios.
We did see an uptick in investor appetite for risk assets in June providing some optimism for a broader recovery on the horizon across our.
Platform performance is steadily improving and several of our key global equity capabilities and our fixed income performance remains robust across the board.
Building on the delivery and quality of investment performance remains a key focus for me and for the management team.
From an asset flow perspective in the second quarter Invesco is diversified business continues to deliver for our clients and prove resilient against market and industry challenges.
With sustained organic growth in several key capability areas, where theres continued high client demand.
The largest driver of growth in the quarter was our global ETF business.
Net long term inflows accelerated to $5 $7 billion more than double the growth we experienced in the first quarter and higher than our AUM market share.
Our ETF capabilities have demonstrated the ability to sustained growth through the full market cycle with organic growth in 11 of the past 12 quarters.
Our business maintains a revenue profile that is differentiated from competitors with the concentration of the strategies, including things like alternative beta commodities senior loans at ladder maturity products.
I'm also pleased to note that our business in greater China returned to organic growth this quarter with $1 6 billion in net long term inflows, while the higher fixed income redemptions. The industry experienced earlier this year have abated organic growth in China's asset management industry has remained slower so far this year.
And overall assets raised by new fund launches across the industry sank to their lowest levels since 2019.
Despite this invesco great wall raised $1 4 billion from six new product launches in the second quarter, which ranked us fifth amongst all asset managers in China, which is well above our overall number 12 ranking in that market.
As the China economy recovers, we are extremely well positioned to capture additional market share and the world's fastest growing asset management market.
Client preferences for risk off assets did continue to benefit our fixed income franchise across both institutional and retail channels, including mutual funds and SMA as we generated a positive $1 billion in net long term fixed income flows this quarter extending our streak to.
18 consecutive positive flow quarters or.
Our money market business continues to show strong growth and market share gains we brought in $15 billion of net new assets. This quarter and we've moved into the top 10 of money market managers in the U S. Institutional channel, we expect our overall fixed income franchise to continue to grow and benefit from our strong investment performance.
<unk>.
The greater clarity, we expect on the horizon as the interest rate picture becomes more clear in coming quarters.
Within active equity strategies, we did experienced net long term outflows of $4 $5 billion in the second quarter global and emerging market equities, where client demand has been slow to recover in industry flows remain negative this accounted for nearly 70% of our.
Active equity net outflows, while headwinds have persisted in the asset class net outflows for invesco in developing markets were $1 $2 billion. This is consistent with our experienced last quarter, but meaningfully lower than last year I'm optimistic for further stabilization of net flows in these key.
Investment strategies as performance continues to improve and when client demand for risk on assets returns.
Yes.
As we discussed on our last earnings call growth in private markets has been more challenging this year due to overall market conditions, and we experienced $1 7 billion in net outflows in these areas during the second quarter. Despite the near term headwinds we have an excellent track record in both private real estate and private credit credit sectors.
And we're well positioned to capture long term growth in these asset classes, particularly in the Underpenetrated wealth management management channels in both the U S and globally, we expect our private markets and alternative capabilities to be an engine of growth and our future years and Allison is going to provide much more color on that business later in her comments.
From a client and channel perspective, retail and wealth management flows were modestly positive in the second quarter, while our institutional channel had $2 2 billion in net outflows. This is the first outflow quarter in three years and this this comes following an especially strong quarter for fundings in the first quarter, where we had $6 6 billion.
In dollars of net inflows as Alison will discuss later our pipeline remains robust and a significant portion of our won not funded mandates are in higher fee, yielding equity and alternative strategies the longer term growth of our institutional channels is a testament to our strength of that business and the depth of our client relationships that we have built over many years.
As such I am confident that we will again see robust growth in this channel as client caution abates and as Reallocations begin to occur across this industry at this part of the industry.
Building balance sheet strength, continuing to invest in key growth areas and returning to shareholders.
Turning to capital to shareholders, our top priorities for us to that end I'm pleased to note that in the first half of June we repurchased $150 million in common stock, we were able to capitalize on an attractive valuation because of the strong balance sheet position that the firm has worked hard to build over the last several years. We are determined to continue to build on that progress.
Yes, we're also committed to driving a high level of financial performance and Invesco, We will keep our clients and service level is front and center, while also striving for accelerated profit growth.
The leadership changes, we announced in February have put us in a position to unlock more opportunity for the firm and we continue to implement related organizational changes in the second quarter, we're taking action to simplify the company and eliminate sources of complexity that were necessary in the past, but may no longer be appropriate today. This will help us shifting.
Investment to our strategic priorities and areas of growth, while ensuring our clients continue to receive investment quality and the exceptional service that is one of the hallmarks of invesco.
The primary benefits of these changes will be seen over time as revenue growth recovers and we take advantage of our further scale at the same time, we're taking action that will enhance our near term profitability and have identified an initial set up cost savings work will continue to identify and action additional efficiencies and enhancement opportunities and al.
This is going to provide further detail on those efforts shortly.
Although there is lots of work to do Invesco is well positioned to take advantage of opportunities and address the challenges confronting the market place I could not be more confident in the team that we have in place to execute on the opportunities that Marty created over his 18 years as CEO of Invesco and with that I'm going to turn the call over to Alison for a closer look at our results and I.
Look forward to your questions.
Thank you Andrew and I also want to convey my appreciation to Marty for his leadership.
Good morning to everybody joining us today I'm now begin on slide four.
Well investment performance improved in the second quarter X percent of actively managed funds in the top half of peers are beating benchmark on a three year five year basis. This is an improvement from 64% for bed timeframes in the first quarter and excellent performance in fixed income across nearly all capabilities of time horizon.
Performance lagged benchmark in certain U S core and growth equity.
Performance in global and emerging market equity has been a headwind, but we're encouraged to see any meaningful improvement emerging in this asset class.
Turning to slide five.
It was 1.54 trillion at the end of the second quarter, which was $55 million higher than last quarter.
Technology stocks charge in the second quarter.
And as a result, QQ QA AUM reached <unk> $200 billion, an increase of $27 billion as compared to the end of first quarter.
Market increases and additional products foreign exchange movements, and reinvested dividends combined to increase assets under management by a further $15 billion.
Net inflows into money market products for $15 billion of net long term outflows were $2 billion.
Despite the net long term outflows for the corner, we exited the quarter with strong momentum after more than $2 billion of net inflows for the month of June .
We expect that we outperform most peers on a net flow basis, another data point, demonstrating the value of our breadth of capabilities in a difficult environment for our organic asset right.
Client demand for passive capabilities are strong and as a result, we garnered $6 $4 billion of net long term inflows in the second quarter.
Offsetting the growth in past that was $8 $4 billion in net outflows in active strategies.
For growth in our key capability areas, we are recapturing client demand as it moves to favor capability led this quarter by growth in Etfs and our business in greater China.
Our global ETF franchise delivered a strong quarter growing at a 9% annualized organic growth rate five $7 billion of net flat.
Our top selling ETS included the S&P 500, equal weight and the key TQM, which grade of over $13 million in Q.
$3 $3 billion net inflow.
Innovation remains a key strength in this area acute EQM, which was launched less than three years ago now representing our fifth largest etfs in our lineup.
Currency and commodity Etfs part of our alternative asset class.
Net outflows of $1 $1 billion during the quarter.
We delivered net inflows of $200 million from retail clients in the second quarter, an improvement from $3 $7 billion of net outflows in the prior quarter.
A rebound in Asia Pacific net pleasant, the primary driver of fresh ore.
Specifically, we've experienced strong growth in Japan for several quarters now ending the second quarter with $54 million of AUR.
Our Henley global equity and income fund garnered one point X billion dollars of net inflows from Japanese clients, making it the top selling retail fund in Japan on both a quarterly and year to date basis.
Moving forward, we are well positioned in this important market and Japanese markets are experiencing some of the most constructive conditions for risk on assets in many years.
Offsetting growth in the retail channel with $2 $2 million of net long term outflows in the institutional channel primarily in the Americas. The channel remains a net inflows year to date after $6 $6 billion of net inflows in the first quarter.
Alright, there we have a robust and diversified won not funded pipeline.
Moving to slide six net long term inflows resumed in Asia Pacific with one $5 billion in the second quarter due to the growth I just discussed in Japan.
And a rebound in net inflows in our China, China joint venture.
Net outflows for modestly negative in the Americas and in EMEA.
Looking at flows by asset class.
Income capabilities experience net inflows.
Great quarter with $1 billion.
<unk> of grant this corner, including China, where we launched an institutional fixed income product and our tax manage SMA capability, partially offset by net outflows in EMEA Etfs.
Net outflows in global and emerging market equities continued to be a headwind in the second quarter.
$3 billion of net outflow.
One $2 billion from our emerging markets.
Encouragingly. This is similar to the net outflows experienced last quarter from emerging markets.
The redemption rates, we experienced last year, we're optimistic that headwinds appear to be further diminishing in emerging markets.
Alternative net outflows were $3 $4 billion in the second quarter.
Public alternatives accounted for $1 9 billion with $1 1 billion concentrated on commodity and currency Etfs as commodity and out of favor across the industry in recent quarters.
Private markets net outflows were $1 $5 billion inclusive of $1 billion of net outflows in direct real estate strategies.
As we move to slide seven I'd like to take a few minutes to highlight our global alternative platform, which had $182 billion in assets under management as of June 30th.
Market conditions have made it a challenging year for organic growth in the asset class. We have high conviction that alternatives will be one of the key pillars of our long term success.
Well, then alternatives, we have a diverse range of capability, including $72 million of public alternatives spanning commodity strategies listed real estate and hedged and macro strategy.
Real estate is the largest component of our private alternatives platform with $72 billion in direct real estate AUM at the end of second quarter.
That's a compete throughout the capital stack by investing in direct real estate and originating real estate that.
Our direct real estate business offers a range of investment styles clean core and core plus strategies.
As well as funds with higher return strategy.
Credit platform and the second component of our private alternatives.
$38 billion in assets under management anchored by our bank loan capability that holds U S and European Securities.
We have over 30 years and experiencing experience managing senior corporate loans.
Relationships with over 2000 unique companies and more than 200 private equity firms more recently, we began to offer direct lending to middle market companies as well as opportunistic investments in special situations and distressed credits.
On slide eight we wanted to provide a deeper look at our direct real estate portfolio, where we have 40 years of experience investing on behalf of our clients worldwide.
Our direct real estate holdings are well diversified by product property type.
Marshall office properties comprise about 35% of our AUR apartments.
Apartments, and other residential properties account for approximately 23%.
And the E U M share of industrial properties about 22% at the end of the second quarter.
Final, 20% of our AUM is invested in retail and specialty sectors, including mixed use developments.
Self storage and medical.
Well good thing on office properties, specifically from the beginning of the COVID-19 pandemic, we've been deliberately managing our exposure down, particularly in the Americas and EMEA as market dynamics have shifted with attitudes towards our network.
In the first quarter of 2020, and 42% of our institutional open end AUM and core and core plus strategies is comprised of traditional office property.
At the end of the second quarter was 27% and our exposure in the Americas was produced by about one third.
Several of our direct real estate unused leverage but were measured in our approach and the average loan to value across our direct real estate funds with approximately 35% as of March 31 2023.
Figures may fluctuate over time and vary across specific thoughts.
We serve our clients through a range of vehicle types and manage liquidity in accordance with the established bylaws of each fund.
Approximately half of our AUM is in institutional separate accounts are closed end funds or the predetermined life.
The remainder and opened N vehicles that manage redemptions on a best efforts basis.
Our open end fund redemption requests go into our Q and are mainly met net investors into the pot.
Investors and are opened and strategies are highly sophisticated institutional investors that understand it may take several quarters to work down our redemption Q, while preserving the sunpower formats for all investors.
Of our full business cycle, we would expect funds to average a redemption of 5% to 6% of NAV.
This can fluctuate higher in terms of mark it in times of market volatility like we've been experiencing recently.
As of the end of the second quarter all of our open end funds for operating according to normal redemption protocols and our real estate team.
Successfully navigated market cycles for four decades.
Real estate activity has been slower during the first half of 2023, and we would expect activity to be muted in the near term until market conditions improve.
In the long run, we expect that investor demand for private markets capabilities will grow significantly and we're well positioned to capitalize on that Chris.
So now to slide nine.
Our institutional pipeline was $22 billion at quarter end consistent with last quarter.
Although we experienced net outflows in the second quarter, our institutional business remains in net inflows for the year to date and we continue to win new mandates.
Our pipeline has been running in the mid 20 to mid $30 billion range dating back to late 2019.
And this was on the lower end of that range.
We view our pipeline is strong given the market volatility we've been experiencing and the $6 $6 billion in net inflows that occurred in the first quarter.
As we've noted previously some mandates are taking longer to fund and the environment. We estimate the funding cycle of our pipeline is running in the three to four quarter range versus two to three quarters prior to the market downturn.
Our solutions capability enabled 35% of global institutional pipeline in second quarter and.
And we're pleased to see this share increased from 14% last quarter.
We embed solutions into our client interactions and we have ongoing engagements about new opportunities.
The plan reflects the diverse business mix of alternative and active active equity accounting for 40% of the total associated assets.
Now turning to slide 10.
Net revenue of $1.09 billion in the second quarter was $83 million lower than the second quarter of 2022, and $15 million or 1% higher than the first quarter.
Klein from the second quarter of last year was due largely to lower investment management fees, driven by asset mix favoring lower yielding strategies.
Sequential quarter increase was primarily due to higher performance fees earned on private real estate mandates.
A $4 million decline in other revenues, partially offset the increase in performance fees.
A shift in asset mix has had a meaningful impact on our revenue due to the uneven performance across key market indices as well as investor preferences are passive and risk off strategies, including demand for money market product.
Total average AUM for the second quarter of $1 49 trillion dollars.
$32 billion or 2% higher than the first quarter. However, $25 billion of the increase was in Q2 average AUM for which we do not earn management fees. A further $4 billion of the increase was in money market AUM mean.
Meanwhile, average passive AUM excuse me Q was up $3 billion and average active AUM was flat to last quarter.
As compared to the second quarter of 2022 total average AUM increased by $38 million or 3%. The primary driver of the $58 billion increase in average money market AUM.
Even the risk off investor sentiment of the past 12 months.
Average assets in the kitchen to over $12 billion higher than the second quarter of 2020 two.
Average passive AUM, excluding the Qs increased by $9 billion, all average active AUM declined by 5%.
We believe that a meaningful portion of the asset mix shift that has occurred and the product of market movements and risk off sentiment and those pressures should abate as preference for risk assets returns and conditions improve.
That said growth in investor preference for passive exposure installation capabilities as a long term secular trend and we continue to reposition our cost base to align with changes in our business mix as we built greater scale and key capability areas.
Total adjusted operating expenses in the second quarter were $789 million $27 million higher than the second quarter of 2022, and an increase of $40 million from the prior quarter.
Included in our second quarter operating expenses were $27 million of compensation expenses.
Latest to executive retirement and organizational changes.
And the second quarter of 2022 expenses at this nature were not included in our non-GAAP results as they were included in transaction integration and restructuring expenses.
We recognized $13 million of such expenses in the first quarter of 2023.
Also impacting second quarter compensation expense was higher incentive pay on $22 million of performance fees, partially offset a seasonal decline in payroll taxes.
As Andrew noted, we are simplifying the organization to position the firm for greater scale and profitability as we grow our revenue base.
The majority of the $27 million of compensation expense I mentioned was related to executive retirement and the balance was the result of other organizational actions taken in the quarter.
We will action further adjustments to our operating model over the remainder of 2023 and would expect to recognize approximately $20 million of additional costs associated with these decisions in the third quarter.
The full benefits from our simplification efforts will be seen over time as we generate revenue growth and margin recovery to this point, we have identified $50 million of annual run rate expense savings.
It will be realized by the beginning of 'twenty 'twenty four.
Work is ongoing to quantify an action additional opportunities and we will keep you informed on our progress.
As we've discussed we manage variable compensation to a full year outcome in line with company performance and competitive industry practices.
I play our compensation to net revenue ratio has been in the 38% to 42% range trending.
Trending towards the upper end of that range in periods of revenue decline.
At current AUM levels, we would expect the ratio to continue to be at or slightly above the high end of the range for 2023, when excluding the costs pertaining to executive retirement and other organizational changes.
Marketing expenses of $32 million $4 million higher than the prior quarter indicative of the seasonally higher activity, we typically see in second quarter.
Marketing expenses were $4 million lower than the second quarter of last year as we are tightly managing discretionary spend in this revenue environment.
Property office and technology expenses were $2 million higher than the first quarter, primarily due to higher software costs, partially offset by the end of overlapping rent now that we have completed the move of our new Atlanta headquarters.
G&A expenses of $114 million increased $19 million from the prior quarter.
Second quarter expenses included approximately $17 and spending on our Alpha Nexgen program, which was previously included in transaction integration and restructuring expenses.
Going forward these costs will be reflected in our non-GAAP results.
Expect quarterly average spending on alpha Nextgen to remain at the same level for the next few quarters.
As we mentioned on our last call we benefited from indirect tax credits in the first quarter a reduction in credits received drove a $3 million increase in expenses quarter over quarter.
The remaining increase in G&A expenses related to higher project spending for ongoing technology improvement initiatives as well as normal fluctuation that we can see in G&A period to period after relatively lower spending in Q1.
Looking ahead, we expect G&A expenses in the third quarter to be flat to modestly lower than the second quarter.
Our balanced and continued investment in our key growth areas and technology programs, while diligently managing discretionary spend and we are limiting hiring to key growth areas and critical position.
We've also been increasing our use of lower cost locations, where it makes sense to do so.
As an executive leadership team, we are committed to driving profitable growth in the coming quarters.
Moving to slide 11, adjusted operating income was $302 million in the second quarter, which included the costs related to executive retirement and other organizational changes.
Operating margin was 27, 7% for the second quarter.
Excluding the costs related to retirement and other org changes second quarter operating margin would have been 250 basis points higher.
Earnings per share was 31.
Second quarter, excluding those same expenses related to executive retirement, and organizational changes second quarter earnings per share would have been five times higher.
Effective tax rate was 24, 7% in the second quarter, we estimate our non-GAAP effective tax rate to be between 23 and 25% for the third quarter of 2023.
The actual effective rate may vary from this estimate due to the impact of nonrecurring items on pre tax income and discreet tax items.
I'll finish on slide 12 building balance sheet strength has been an unwavering priority and I'm pleased to note that our cash balance increased in the second quarter to $1.01 billion.
And that was one $5 billion of outstanding debt. This lowered our net debt to less than $500 million.
We're able to achieve this reduction in net debt, while also repurchasing $150 million of common stock in the quarter.
$9 6 million shares equivalent to 2% of the total common shares outstanding.
The share buybacks occurred at an average price of $15 65.
Which we viewed as a very attractive opportunity.
The improvements we have made on the balance sheet in the past several years facilitated our ability to take advantage of this opportunity.
Our leverage ratio as defined under our credit facility agreement with 0.7 times at the end of the second quarter modestly lower than last quarter.
We are committed to building, an even stronger balance sheet and our goal is to bring net debt excluding the preferred shares down to zero in 2024.
We have an opportunity to further address outstanding debt with a maturity of the $600 million in senior notes at the end of January .
We ended the second quarter with nothing drawn on our revolving credit facility.
To conclude the resiliency of our firm's net flows performance in a difficult market for organic growth is evident again this quarter and I'm pleased with the progress, we're making to simplify the organization and build a stronger balance sheet, while continuing to invest in key capability areas as a farm, we're committed to driving profitable growth and a high level of financial performance and we're confident we have.
The right talent mindset and strategic positioning to do something.
And with that I'll ask the operator to open up the lines for Q&A.
Thank you at this time, if you'd like to ask a question Chris excuse me. Please press star one you will be announced prior to asking your question. Please pick up your headset and when asking a question to withdraw your question. Please press star two.
Our first question comes from Glenn Schorr with Evercore. Your line is open.
Hi, Thanks I appreciate it.
Just a follow up question on real estate. So, it's obviously not unique to invesco, but just given higher rates some problem areas in long tail workouts across parts of real estate demand is low as you mentioned so curious if you could just sum up what's the overall message on the health of the current portfolio I think you put all that extra disclosure to tell us it's.
Good, but I wonder if you could just comment that on two more importantly, what do you think the environment does need to look like for demand for real estate related products to improve because that would be a big growth driver for when we get there.
Yeah.
Sure why not.
Start I'd say the overall message on the health of the portfolio is yes. As you said, it's good but that is a in terms of where we are from a cyclicality perspective, I mean, it's been a challenging environment and that's not.
Not unique to us and that has a lot to deal.
With some of the just the backup and transactions in that market as rates have increased and the return profile the ability to put leverage on some of these transactions that's more difficult and that's caused a back off of a slowdown in some of the transactions, which slows down activity over all that said and as we tried to highlight some of the detail we provided.
Our portfolio is performing very well.
And we are long term very optimistic about how we're positioned and I would say everything is performing as one would expect in an environment like this and we think we've made a lot of good strong decisions to diversify that portfolio, especially managing down the office exposure in advance of some of the the the downturn of the last year and we felt good about where were positioned.
<unk> overall.
Does it take to see activity pick back up I definitely think normalization in the leverage markets will help quite a bit.
That has been a you know obviously with the some of the banks challenges that started in the first quarter and am progressing into the second quarter, but that wasn't helpful.
But as you start to see I think some conviction around the rate environment stabilize and you see banks and leverage our market is performing at a more normal level will start to see activity pick back up I think demand remains strong and I guess the last thing I would say and certainly we saw some challenges as it relates to institutional allocations.
When you saw equity markets and fixed income markets declined pretty significantly over the past year have caused a lot of institutions to be overexposed in real estate as equity markets and fixed income markets improves the denominator effect is less of a concern and some of the allocations there.
Come back in line with what is expected and that's going to be that.
That portends well for the future pipeline and.
And Glenn I'd, just add that as we look forward to opportunities.
Recall, our portfolios are fairly global so the dynamics are pretty different outside the U S and the U S and it's a it's a pretty diverse national footprint as well in the United States also I would say is real estate debt is something we're hearing increased demand for <unk> and have capability, there and we're going to continue to focus on.
On opportunities on the debt side of the market and then the last thing I'd say is while the institutional market is fairly well penetrated the wealth management markets in the U S and globally, we see tremendous opportunity where portfolio allocations are less than 1% so things like.
Real assets at the moment.
I appreciate all that Allison one other quickie on the comments on the $20 million in the third quarter and $50 million.
By the end of 'twenty, four and identified efficiency savings should we be thinking that as oil falling to the bottom line like or was there a netting effect in terms of the ongoing investments.
We're making thank you.
Sure. Good question. Thank you and let me clean that up a little bit 20 million in additional costs that we expect to incur in the third quarter with $50 million of net realized savings that we expect.
To be realized in the beginning of 'twenty 'twenty four and not the end.
So yes to answer your question that would be net savings and that we would expect to find a bottom line.
Of course.
Thank you.
Thank you and our next question comes from Brennan Hawken with UBS. Your line is open.
Oh good morning, Thanks for taking my question I'd like to touch on sort of at a high level here. Andrew you referenced changes you wanted to make to simplify the organization Allison added some additional color in the context of of course, but could you maybe either give us a frame of reference.
<unk> around what you think.
Could help to simplify the organization and you know is this is this and opening salvo and something that you intend to approach over the course of many years.
And how should we think about maybe like incremental updates on your approach as you get your hands around it gets settled into the seat.
Sure. Thanks Brennan good questions, maybe just to start at a high level of what we're trying to achieve so.
Our aim of simplifying and streamlining the organization, obviously is to generate a better profit growth, but it's also to improve quality of investment performance, we want to simplify the organization. So we can.
Accelerate more quickly strategic execution, and we want to be able to use our scale and leverage that we have in the business. So.
So what we did was we started this process earlier this year and to answer your question, it's going to going to continue through the course of this year and going forward. This is an ongoing effort to continue to reposition our business for where client demand is a few examples of some things that we've been working on and will continue to work and work on.
One is around investment team simplification and quality improvements. So for instance, we brought together three multi asset strategies teams into one.
We're further bringing together our fixed income platform around the world, We've enhanced our leadership global leadership with our co CIO structure in fundamental equity so things like that around investment team simplification will continue to focus on and we're also looking to.
Globalized core elements of our client engagement and client delivery. So we combined leadership in the Americas and EMEA, we established a single marketing organization, we're globalizing digital platforms, and where we're taking out complexity in our product platform, we combined our ETF and SMA and custom index leadership and reduced our Prada.
Line by over 150 products, so lots going on in the client delivery side, and then we're simplifying and reviewing our operating an enterprise model sort of end to end.
Looking for ways to take advantage of those front end changes and move them through the cost base and be more efficient and then the last thing I'd say, which I think speaks to what we're going to continue to do going forward is.
The culture, and so we're gonna be tightening our execution edge as a team we're gonna be simplifying our operating and organizational models, which we've started and we're going to enhance the accountability around profit growth.
So you should expect to continue to hear updates from me and Allison Reg.
Regularly about these efforts.
Thanks, Thanks for all that color Andrew much appreciated.
For my follow up question on on real estate, you know sort of falling off onto our Glen's question.
So you break out traditional office traditional U S office, which is great, but what what how would you define non traditional office I guess.
And what would that do to those numbers and then when we look at the difference in the allocation to traditional office from 20% down to 13 in the Americas over that three year, sorry, <unk> 20 to <unk> 20.
23, how much of that where we're disposals versus price declines in the assets.
Let me take maybe the second one first and that would primarily be dispositions.
The vast majority with that that would be deliberate choices that were made not declining asset values. There so as.
It's been a rocky environment, but not an inter not an entirely terrible one to try to exit and repositioned that portfolio. So I think we were our timing was good.
Lot of ways, we moved quickly and we've been able to I think shows the results very quickly. So that there's a good news story there not a bad news story in terms of what's I'm not sure I followed your question on traditional office versus not in traditional office.
I guess I was just trying to yeah.
I was just trying to understand the office like it is the overall office exposure actually larger than what you guys defined as traditional or did you just use the term traditional just to define the office sector broadly.
No we it's not larger than what we would define if you think about what's outside of what we would consider traditional think things like medical office buildings and things that we would surely consider to be different than mid rise high rise kind of office exposure.
Got it okay. Thanks for that.
Yeah.
Thank you and our next question comes from Brian Bedell with Deutsche Bank. Your line is open.
Great. Thanks, Good morning folks thanks for taking my question.
Just.
Staying with the private alternative platform team I guess as we sort of look forward just a couple of.
Some of the potential bigger drivers within this bucket. So maybe if you could just size the.
The redemptions that you're currently running at for the open end strategies that you talked about in real estate and then the opportunity going forward, particularly indirect lending.
You know to what extent do you think you can expand these strategies given potential pullback in banks and is that something that's more of a near term development or we're really more of a longer term.
Yeah, I'll take the first one I'd say the redemption rates in the open end strategies and again, what we tried to deal with a narrow down the percentage of our portfolio that is in an open end strategy and with that normal redemption rates through a cycle would be 5% to 6% and as we noted we'd be on the higher side of that we would be above that range and it.
Barry so and it varies quite a bit across the different products. So on average it's a touch higher than where we are today operating though very normally and very consistent with what we've experienced in cycles like this over 40 years in the business.
More than anything I think what we hope to convey is it's quite normal and quite manageable and there are no liquidity issues or concerns across any of those are individual stocks.
I think maybe Andrew you understood it correctly.
Credit we've been building out our capabilities over the last few years in distressed and indirect lending and demand both from institutions and emerging from high net worth retailer or wealth management continues to we continue to see it we continue to have asset raises and focus both in the U S.
And in Europe .
We expect to continue to see that demand for the reasons. You described I think given that where were relatively new entrant into that space and we're building a reputation a it'll be a driver, but it'll take some time for it to be I think a meaningful part of the private markets enterprise like <unk> like our private real estate franchises.
Great that's great color and then just on the on the cost side.
Alison maybe on the on the the Alpha Gen. <unk> program. It sounds like that's 7 million run rate as sort of a.
It's a cost number but I guess is that should we be considering that to be like a net cost number of savings and I guess do we have any idea yet longer term as you get that platform completely onto an integrated with alpha.
And any sense of sizing what potential cost savings can come from that initiative longer term.
Yeah, great. Thanks for the question Brian .
So on Angi, just a reminder, one thing I said that we've had angi cost for them.
Last year, plus and our transaction integration and restructuring expense and with that.
Discontinued after the first quarter did you see our cost base now fully loaded and for our GAAP financials at with the costs that we're incurring for off of Nextgen M and some of these organizational related changes as well. So it is it is a difference.
That does cause changes in our overall operating expense base and noted that it was about $7 million in the second quarter and that we would expect it to be at about that level for the next few quarters.
We will be hard at work on Alpha Nextgen really through 2024 and into 'twenty 25, So we will be providing ongoing updates, but I think that's a reasonable expectation.
Or of course right now in terms of savings savings will come once we are able to go live and we do not we will not be going live until well into 2024.
And then we will be running parallel for some time, and then savings and rationalization.
It's something that would occur on the other side of that though as we get closer into 2025. So we're a ways off from providing you estimates on App you know.
How our expense base could improve over time, but we.
We are entirely focused on a successful execution right now and we do expect the cost that we saw in the second quarter to remain in our cost base for some time as we really focus on the execution here.
That's great color. Thank you.
Thanks.
Thank you. Our next question comes from Craig Siegenthaler with Bank of America. Your line is open.
Hey, good morning, everyone.
Buyback activity was quite strong in the quarter you paid out 170% of your earnings power and I think most of the buybacks just came in the month of June So how should we expect your share repurchase effort going forward to trend.
And what will be more consistent than in the past or more episodic.
Thanks, Craig I think you know look as we've noted all along we've had several priorities that we've been working really hard on making parallel progress on and one of which has been improving the balance sheet overall and improving the balance sheet is what gave us the capacity and the flexibility to be opportunistic in the second quarter and execute on.
And those buybacks and we were pleased.
That we were able to do so and to do so without any additional borrowings on our credit facility and continuing to manage our net debt down so.
Those are the types of things, we need to see to put us in a position to be opportunistic going forward and we were not particularly pleased in our with our price. When we were staring at something that started with $14 and so we did have the opportunity in the second quarter to make some progress there and I think you should expect over time and that we're gonna be disciplined and.
Diligent in continuing to improve our balance sheet, but where we see opportunities to return capital to shareholders, we're going to do so as well.
Thank you Allison.
Just as my follow up money market flows continue to be strong with double this business in less than three years can.
Can you just update us on the drivers and can this trajectory to continue even if overall trends like broker cash sorting slows.
Flows.
I'll make a couple of comments, maybe then Alison can can jump in.
We're really pleased with the growth and it was deliberate I mean, we we focused on quality in the in the cash management money market side.
Client engagement and pricing and it paid off we saw 15 billion in inflows this quarter.
It's important to remember 85% of our business is institutional.
Don't expect that to change.
Strong there we've moved into the top 10, and we're taking market share I think with high yields continuing for some time.
It's going to continue to be a drive on demand.
And we expect to continue to take share.
Allison I don't know.
Got it.
Thank you Andrew.
No problem.
Thank you. The next question comes from Alex <unk> with Goldman Sachs. Your line is open.
Thanks, Good morning, everybody. So maybe we could just kind of wrap up the private markets growth strategy through through a couple of questions here I guess when you look at the real estate business.
To your point there are a number of challenges facing over the next several quarters and in private credit some of the growth areas, whether it's direct lending and kind of a distressed or opportunistic credit are newer and you highlighted that it's going to take a little bit of time for them to contribute. So how are you thinking about organically turning this business into a positive net flow mode or.
The near term or do you think it will require some inorganic opportunities.
Opportunities to add more and more product breadth as well.
Yeah, So I'll start by saying, we're very focused organically.
We think the spaces, we're in in private real estate and in the private debt side of the markets are the places we want to be we will continue to look over time, obviously to grow that organically and if things present themselves to extend off of that we will pay attention, but our focus right now is growing them organically.
In addition to some of the things Alison already covered on the recovery on the institutional side of things, which will we think will happen in time, the real growth driver for our real estate business is going to be through the wealth management channels. We started that effort several years ago. We've.
We've seen strong placements for our.
Non traded REIT strategy, and we're going to be and continue to be in market with strategies like those including on the depth side of real estate and as I mentioned the penetration in wealth management for the industry is less than 1%.
With most expectations getting it to 10% to 15% that'll take some time, so we think with an offering like we have in our pedigree.
Bind with our wealth management distribution stream.
Strength in the U S and in Europe , that's going to be an amazing opportunity we've invested in those areas already.
So the growth is going to come.
To us in the next couple of years, and we think it could be meaningful. So those are the areas that we're going to be focused on in addition to the institutional space.
Got it thanks and for my follow up Allison just around alternate Nextgen, obviously, it's been taking longer it's a complicated transaction. So that's all fair, but what has gone right. What has gone wrong why why do you think it's taken longer than sort of original expectations and on the other end of that do you think theres going to be room for you guys to negotiate fees down.
The ultimate kind of end game of this transaction given the fact that it's taken longer than expected. Thanks.
Well, so I would say look it's been a strong partnership with state Street. We've worked closely on the execution of this for the last couple of years and we have been negotiating.
Negotiating around the ultimate cost of this and NSA is an important partnership on both sides and I would say both parties have been responsive and thoughtful as to both the cost and the time. That's involved here. So you should expect that's ongoing not something that happens on the back end.
What's gone right or wrong, I think that's harder to answer and I guess I would say in many respects.
It is large and it is a bit uncharted for both parties and so we've been working together to try to do this in a way that's very thoughtful and provides the benefits. We're looking for for our business. So I think if I can say anything I would say probably everything's always harder.
And longer than you expect and large scale technology implementations am and I don't think that's unusual.
But one that we are certainly making our way through it we feel good about where we are right now we feel good about the attention of all teams from both parties.
And the work that's underway and the fact that it's taking a little longer than we expected I don't see it as a huge negative but one that is just a you know something that we're figuring it out as we go along on both sides. The commitments high from obviously from both parties and other related parties that are working on it.
Really heads down trying to get the execution and implementation done.
And we feel we feel good about that.
Got it alright, thanks very much.
Thank you. Our next question comes from Mike Brown with <unk>. Your line is open.
Great. Thank you very much.
In China, it looks like there's been a regulatory mandate to limit the fee rates for products there too to 1.2% has that already begun to impact China, great wall or is that something that will kind of come through later this year and then as you look to next quarter can you just expand on maybe some of the puts and takes we should consider.
Here for the fee rate when we when we think about next quarter, maybe that exit fee rate if you will.
Sure, let me start with China.
That was just announced and early July so just a couple of weeks ago. So we are evaluating them what that means for our portfolio right now our estimate right now is that the speed tests will impact about $24 billion of a AUM, so about 28% of our portfolio there.
Early am and we are still working through a lot of us in terms of the timing and overall impact.
Timing is and.
Perhaps here in the third quarter, but certainly into the fourth quarter as we anticipate.
Revenue being on a net basis lower somewhere between five and $10 million per quarter now that's for all of the JV am and of course, we own a 49% share of that but with that lower revenue. There's also a lower compensation changes that come with it and the ultimate impact to net income.
It will be much lower than that and I think we'll be able to provide a clearer guidance around all of that at the end of the third corner overall I'd say Ah, we actually are really well positioned with that change just given our more mature market positioning in China overall as a reminder, with the 12 largest asset manager there.
The largest foreign owned and we have a very mature business, having just celebrated our 20th anniversary there and we actually think this reform is really going to facilitate high quality development of the overall mutual fund industry in China, and that's going to serve to accelerate growth and really better serve investor needs and while there is a near term.
Impact, we actually think this portends well for the overall growth of the industry in China and that we are well positioned to capture some of that craft.
To your question around fee rates and what that means but what we can expect from an exit perspective going into the third quarter, we've definitely seen continued.
Declines in our overall net revenue yield and that's really a function of a mix shift dynamics.
We gave a lot of color of that in the prepared remarks around just the uneven recovery across asset classes and the particular impact of the risk off sentiment in our overall net revenue yield and I'll say, we are not seeing fee pressure, but we are seeing high demand for some of our lower fee assets and even within our passive.
Assets, we see.
High demand for some of our lower fee capabilities. There as an example, our two largest selling etfs in the second quarter or the QQ QM and the F&B equal weight 500, and those but both be on the lower end of kind of our fee range for our patented capability.
So on the one hand, we're incredibly pleased that we continue to capture flows and we're well positioned in areas of client demand and.
On the other hand that does continue to put some pressure on our P on or what does it mean going forward I think we expect a mix shift dynamic to continue.
That said, we're pleased with some of the recovery, we're seeing in some of our active equity strategies, both in terms of market recovery and diminished headwinds as it relates to redemptions and improving sales, particularly as we see performance recover.
Areas like are.
Developing markets our strategy and so net net I think you should expect continued modest pressure certainly dependent on market recovery dynamics from here.
If I can just go back to China, just for just to add a couple of comments a couple of additional comments I mean, certainly market sentiment post COVID-19 has been.
A little more negative than it has been slow, but I think the Chinese government's pro growth.
Warms and the things that our policies and actions underway, we're starting to see some of that demand come back and I'll, just reemphasize something else instead, which is our strong position there and our conviction about the Chinese asset management market's growth.
It is very early days in terms of investors.
Sophistication and asset classes, it's very early days and retirement markets and our position being there for 20 years with close to 100 billion in assets under management. Good performance, a good reputation and a bit of a moat around competition coming in.
Really bodes well for long term success in China, and we are we're looking forward to seeing that for the years to come.
Great appreciate all the color there and then just as a follow up on the other revenue line that was down again sequentially I know last quarter was impacted by lower real estate transaction activity was that kind of a similar story here. This this quarter and any view on.
The near term there as well I appreciate all the comments in your prepared remarks on the real estate side, but just kind of interested in that line near term.
Sure.
Well I'm puts and takes in that line item real estate transaction fees were actually a little bit higher in that line item in the second quarter as compared to the first quarter.
But the negative what was offsetting that was a lower front end fees and you're really just saw a decrease in some of the transaction fees that were driven by a decrease in equity sale.
Puts and takes always a little bit of a lot of discrete items in that line item.
Okay is it fair to assume that.
Next quarter or maybe the next couple of quarters would be somewhat similar to that to that level.
I think that's a reasonable expectation I mean, it moves so modestly up and down it's hard to predict that at that kind of discrete level, but you could probably look at the average over the last couple of quarters and that would be reasonable.
Okay. That's fair thank you very much.
Yeah.
Thank you Tony next question comes from Daniel Fannon with Jefferies. Your line is open.
Oh, Thanks for squeezing me in I wanted to take a little bit longer view on the fee rate. Obviously the mix shift trend has been happening for some time Allison you mentioned the current dynamics, but as you.
You look out over the multiple year period.
How do you see that you see that trend stabilizing accelerating or kind of continuing and then as you as you announced on the cost side are you adjusting the expense base fast enough to deal with that trend because clearly there's been some lag effect with expenses and some of these mix shifts. So excluding data you know kind of as you think about.
That fee rate and then ultimately the expense base, how we should think about the appropriate use of scale and margin in that context.
Thanks, Dan.
I do think over time, you start to see the.
Decline in the fee rate start to abate.
I don't know where that is exactly but you can look at where the demand is for some of our higher growth capabilities.
And and those fee rates you know if you look at the ETF portfolio and our passive fee rate.
That has declined and that's all.
All available in our disclosures and that declined to just under 16 basis points in the second quarter, which was down about a basis point, but again, that's because of what I just pointed to and the growth in some of our capabilities that are in high demand that are around a 15 basis point.
Fee rates and if you look at some of the areas of our ETF capabilities that were that were trending off in the last couple of quarters that would be around commodity and currency Etfs that are going to be on the higher side and once we see more of a return to a risk on mentality, we would expect that to come back. So I think look our passive fee rate.
It probably isn't that 16 ish basis points over a long term horizon. China's obviously has some pressure given the because we just talked about but that is on the you know much higher side much higher than the firm average and we expect to see continued strong growth.
In China as the economy recovers, they're a private markets capabilities would be on the higher side to kind of take all of that you think about the bar belling and.
One would think that yes, the fee rate starts to even out roughly maybe diminishes a bit more as we continue to see some of this mix shift and we continue to see the growth of our passive capabilities, but over time over a longer term time horizon. It should start to abate and even out of that.
Scale getting to scale and our passive capabilities. It's been something we've talked about a lot something we continue to be very focused on them and getting to the second part of your question aligning our expenses around that and you know it.
It takes some time to reposition and expense base and that was built to support for the company was seven 810 years ago to where we think it will be seven 810 years from now.
And it's really part of the methodical work we are undertaking now as we continue to simplify the organization and continue to look at how we can reposition.
Our overall organizational structure.
As well as our technology and operational structure to support where the business is going and continue to really create scale there and focus on the marginal profitability improvements. We think we can garner as we get to scale and some of those asset classes.
And I also was alluding to on the revenue yield.
Client demands and broadening of markets, which we talked about in our comments are two of the things that have a major impact on the revenue yield and analysis pointed some of those in terms of the scale the expense space. The scale of the company, we're certainly going to benefit from our size I think it's Alison was alluding to we're going to continue to look at the different component parts of.
Our business and what's required from an expense base standpoint.
In an ETF franchise versus the private markets franchises are gonna be are obviously different so we're going to continue to look.
Business by business, not just our global scale.
And then that I think you know the concluding comments since I would say we felt.
Confident we can improve operating margins from here and that remains our area of focus at the the challenge and they've really fast [laughter] remixing of our asset base over the last 12 to 18 months and has been a pretty tough challenge to contend with them at the same time, we've been making deliberate changes along.
The way and we think we're really well positioned to capture.
You know really start to improve operating leverage over time.
Make sure that the expense structure of the business is repositioned to really support what we think the revenue environment will be for the next few years.
Yeah.
Thank you.
Now I'll turn it back over to you.
Alright, well, we'll just wrap it up by saying Thank you and we look forward to speaking with everybody next quarter have a great rest of the day. Thank you.
Thank you and that concludes today's conference you may all disconnect at this time.
Yeah.
Okay.
Okay.
Okay.
Okay.
Yeah.
Okay.
Okay.
Okay.
Okay.