NEW YORK (Reuters Breakingviews) - James Gorman has greeted the new boss at Goldman Sachs by showing him a clean pair of heels. Morgan Stanley’s chief executive beat his own earnings target again in the latest quarter – and his downtown rival’s returns, too, after stripping out surprisingly lower pay. It’s yet more confirmation that Gorman has built a strong business worthy of commanding a higher multiple than its old adversary.
At first take, Morgan Stanley’s showing in the three months to the end of June doesn’t look much different than Goldman’s. Earnings of $2.3 billion, unveiled on Wednesday, equate to an annualized return on equity of 13 percent. That’s at the top end of what Gorman’s shooting for, but only just ahead of his rival’s 12.8 percent.
Goldman, though, only managed that return by setting aside just 37 percent of revenue to cover compensation. Usually the Wall Street firm puts around 41 percent into the pot in the first three quarters of the year. Finance chief Martin Chavez explained the ratio drop on Tuesday’s earnings call by saying “it’s strong revenue growth year-on-year and our emphasis on profitability.”
That certainly helped. If Goldman had left the ratio at its regular level, pre-tax earnings would have been almost $400 million lower and return on equity just 11.1 percent.
Retaining more earnings for shareholders is a worthy move – and still leaves the annualized average pay and benefits package at almost $400,000 per Goldman employee. But it may just turn out to be a one-off to help with more volatile underlying earnings.
Morgan Stanley’s top and bottom lines look more stable, not least because it is not experiencing such wild swings in fixed-income trading – it restructured that business after suffering similar volatility several years ago. Nor does it have the lumpy results generated by Goldman’s investing and lending unit. And Gorman has put more emphasis on less risky business that requires less capital. Wealth management now accounts for 36 percent of earnings.
Goldman’s departing boss, Lloyd Blankfein, belatedly started the shift away from an excessive reliance on trading a couple of years ago. David Solomon, an investment banker who officially takes over in October, wants to augment that by shaking up Goldman’s processes and management structure, according to the Wall Street Journal. Watching James Gorman’s success should embolden him to push ahead.
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