State Street Earnings Preview: Trends To Watch

Oct.17.11 | About: State Street (STT)

State Street (NYSE:STT) is set to release its third quarter earnings Tuesday, October 18, following earnings announcements by competitors BNY Mellon (NYSE:BK) and JPMorgan Chase (NYSE:JPM). Weak economic conditions and the low interest rate environment will likely offset the benefits of recent acquisitions, cost reduction initiatives and new businesses. We are looking at client assets, revenue generated from servicing and proprietary investments, and restructuring and severance costs.T

We maintain our price estimate of State Street at $46.35, around 37% above the current market price.

Growth through acquisitions

The company has continued to grow in size and gather more assets through acquisitions. The recent acquisitions of Complementa Investment-Controlling in Switzerland and Pulse Trading, expected to close by the end of this year, will expand the company’s investment servicing capabilities and decrease trading costs as a result of the increased scale. [1] Additionally the acquisition in Europe furthers company’s reach in the continent, reducing its dependence on revenue from United States where almost 70% of its revenue is generated. We will be looking closely at client assets, as they are a major source of revenue for the company. The company has already set the ground by its announcement that it has “crossed the $10 trillion mark in client assets serviced by the firm’s investment analytics team.” [2]

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State Street looking to expand its scope

In the current quarter, the firm has introduced three U.S. equity sector exchange traded funds and increased its futures commission merchant (FCM) activities, enhancing its position in the industry. The implementation of the Dodd-Frank Wall Street Reform is expected to benefit the company, which can provide full service clearing to banks under the new derivatives regime.

Restructuring costs to hit margins this quarter, but will have long-term benefits

Under its business operations and IT transformation program, which is expected to be completed in 2014, the company will be reducing 1400 jobs. It expects to incur around $110 million to $130 million as pre-tax restructuring costs in the second half of 2011 to account for severance and other transition costs. [3] In addition to the job reduction resulting from the technology transition, the firm seeks to cut more jobs in order to reduce its expenses, which grew by approximately 20% in Q2. [4] These one-time restructuring costs may put pressure on earnings this quarter.

Low interest rates may hurt earnings

Low interest rates, along with uncertainty in the global markets, will have a negative impact on the company’s earnings as well. Net interest margins will suffer due to low interest income and market turmoil is likely to affect the asset management and servicing business.

Notes:

  1. State Street Takes A Swing At the Block Business With Pulse Deal, Tradersmagazine.com
  2. State Street Announces $10 Trillion Milestone for Investment Analytics and New Enhancements to Reports and Dashboards, State Street Press Release
  3. State Street Provides Mid-Year Update on Business Operations and IT Transformation Program, State Street Press Release
  4. State Street to Cut 850 More Jobs After Custody Bank’s Expenses Climb 20%, Bloomberg

Disclosure: No positions