State Street Corp (STT) is the holding company for State Street Bank and Trust (world’s second largest custody banking institution) and subsidiaries. The bank provides institutional asset administration and servicing through its State Street Global Services division, investment research and trading services through State Street Global Markets, and institutional asset management solutions through State Street Global Advisors.
Management: The current CEO and President, Joseph (Jay) Hooley has been Chairman and CEO since 2010, succeeding Ron Logue, and has been with STT since 1986. He previously headed STT’s global investment servicing business and led the acquisition of Deutsche Bank’s Securities business in 2003 and Investors Financial Services Corporation in 2007.
Ownership: While executives and board members own less than one percent of the stock, we note that the outgoing CEO owned $52M worth of stock and Jay Hooley, the new CEO has $25M worth of stock, which shows that they have a vested and personally material economic interest in the company. All current directors and executives collectively own $153M worth of stock, including $113M directly.
Before State Street released its Q3 financial results, Nelson Peltz of Trian Fund Management L.P issued a press release announcing that Trian owned 3.3% of STT’s outstanding shares and that Trian sent a letter to STT’s Board of Directors with its analysis as to why State Street has underperformed and delivered negative shareholder returns over the last 1 to 10 year periods, as well as time periods in between. Trian also issued a Detailed Action Plan White Paper identifying operational and strategic initiatives that State Street should undertake in order to improve operating performance and unlock shareholder value. While State Street has not directly responded to Mr. Peltz’s program, we believe that the $200M in share repurchases in the fourth quarter of 2011 plus the 33% increase in dividends and the new $1.8M repurchase program recently announced will satisfy Mr. Peltz. Already, the company has seen a total return of over 24% since Peltz went public with his concerns back in October 2011. We disagreed with the part of Trian’s plan that suggested that STT should spin off SSgA, but we agree with Trian’s thesis that SSgA could stand to improve its operating margins. Evidently Mutual Fund Wire agreed with our assessment as well.
SUMMARY OF OBSERVATIONS
The company’s net interest margin of 1.72% for the Q2 2012 period is low relative to the industry average. However, this was slightly higher than its direct competition in the investor services industry (BNY Mellon (BK) 1.25% and Northern Trust (NTRS) 1.28%). STT’s net interest margin declined due to a flatter interest rate curve, which was more than offset by higher deposit volumes and resulted in positive net interest income growth. STT uses net interest revenue in conjunction with its asset management and investment services businesses, enabling it to offer lower direct fees to clients in exchange for compensating client deposit balances. State Street has a strong capital position and we believe that it has already met the potential capital increase requirements of the Federal Reserve under Dodd-Frank as well as the BASEL III agreements. With a BASEL I Tier 1 common capital ratio of 17.9% and a BASEL III Tier 1 common ratio of 12.7%, STT significantly exceeds the BASEL III requirements assuming its final capital requirements are 9.5%, which is the worst case scenario that has been proposed for large systematically important banks.
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