By Ryan Fuhrmann, CFA
The Double Take brings you two takes for the price of one. Yesterday, Alex Dumortier examined Morgan Stanley’s third-quarter earnings. Today, it’s Ryan Fuhrmann’s turn.
Continuing an impressive run of strong earnings results and share-price performance, Morgan Stanley(NYSE: MS) reported record third-quarter results that also came in well ahead of analyst projections. What can Fools expect in regard to future gains?
For the third quarter, diluted earnings grew to $1.75, up significantly from last year, when the company took a $1 billion charge related to the sale of an aircraft-financing business. For the first nine months of its fiscal year, continuing operating income grew 54%, while diluted earnings grew 57% to $5.01 per share.
Morgan Stanley operates in four primary business segments: Institutional Securities, Global Wealth Management, Asset Management, and the Discover credit card unit. In a nutshell, every division reported impressive results except for Asset Management, which was the only sore spot, since it posted negative revenue growth quarter over quarter. Here is a rundown of each key area for the quarter.
Institutional Securities (IS)
IS consists of Morgan Stanley’s flagship investment-banking and trading and sales businesses. The segment accounts for the bulk of total company revenue, or just more than 60% for the quarter. Major competitors include Goldman Sachs(NYSE: GS), Lehman Brothers(NYSE: LEH), and Merrill Lynch(NYSE: MER). Net revenue grew 20% to $5 billion, and income before taxes grew 55% to $2 billion. That represented an impressive pre-tax margin of 40%, up 9% from last year’s quarter. Notable strength came from advisory revenue and both the fixed income and equity sales and trading areas, which all grew in the double digits.
Global Wealth Management (GWM)
GWM accounts for 17% of total revenue and includes the management of brokerage assets and related investment advisory services. The above peers, barring Goldman, also have brokerage divisions. Net revenue grew 9% to $1.4 billion, and pre-tax income grew more than five times to $158 million, compared to last year’s quarter. Approximately 8,100 “global representatives” managed total assets of $652 billion, a 5% increase from last quarter, for $675,000 in revenue per rep.
Asset Management (AM)
AM makes up about 10% of total company revenue and includes portfolio-management functions for high-net-worth individuals and fund assets. Net revenue fell 7% to $634 million, and pre-tax income fell 23% to $125 million. The weakness was attributed to lower distribution and fee revenue. However, total assets under management (AUM) grew 5% to $448 billion. Again, the above peers also compete in this space, as do other pure asset managers such as Legg Mason(NYSE: LM)
Discover makes up the remaining 13% of total revenue. It’s one of four major credit card companies, along with MasterCard(NYSE: MA), Visa, and American Express(NYSE: AXP). Discover net revenue grew 15% to $1.1 billion, while pre-tax income grew 54% to $368 million.
Morgan Stanley’s stock has had a good run over the past year and a half, jumping nearly 50% to a recent $72.35. Merrill is performing in line with Morgan, but Lehman and Goldman are up closer to 60%. The improved performance at Morgan coincides with the appointment last June of John Mack as CEO. Mack is credited with improving Morgan Stanley’s overall competitive situation, as well as quelling the infighting that existed between former CEO Philip Purcell and major shareholders and former senior managers over the firm’s overall direction.
After some initial skepticism, Morgan Stanley has experienced an impressive and timely turnaround, but can investors expect further gains ahead? I think the easy money has been made, since Morgan has mostly recovered from last year’s woes. Any further gains will come from the difficult task of gaining market share in an intensely competitive and cutthroat industry. In addition, investment banking, brokerage, and overall financial services are cyclical, dependent on the overall health of the economy and related sentiment in the securities industry. The economy is currently humming along, but there’s talk of a coming slowdown. In any case, Morgan Stanley and the other bulge-bracket firms will likely continue to dominate Wall Street for years to come.
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Fool contributor Ryan Fuhrmann has no financial interest in any company mentioned. Feel free to email him with feedback or to discuss any companies mentioned further. The Fool has an ironclad disclosure policy.