The Goldman Sachs Group, Inc. (NYSE:GS) Q4 2022 Earnings Call Transcript

The Goldman Sachs Group, Inc. (NYSE:GS) Q4 2022 Earnings Call Transcript January 17, 2023

Operator: Good morning. My name is Katie and I will be your conference facilitator today. I would like to welcome everyone to the Goldman Sachs Fourth Quarter 2022 Earnings Conference Call. This call is being recorded today, January 17, 2023. Thank you. Ms. Halio, you may begin your conference.

Carey Halio: Good morning. This is Carey Halio, Head of Investor Relations and Chief Strategic Officer at Goldman Sachs. Welcome to our fourth quarter earnings conference call. Today, we will reference our earnings presentation, which can be found on the Investor Relations page of our website at www.gs.com. Note information and forward-looking statements and non-GAAP measures appear in the earnings release and presentation. This audiocast is copyrighted material of the Goldman Sachs Group, Inc. and may not be duplicated, reproduced or rebroadcast without our consent. I am joined by our Chairman and Chief Executive Officer, David Solomon; and our Chief Financial Officer, Denis Coleman. Let me pass the call to David.

David Solomon: Thanks, Carey and good morning everyone. Thank you all for joining us today. I will begin with a review of our financial performance. Simply said, our quarter was disappointing and our business mix proved particularly challenging. These results are not what we aspire to deliver to shareholders. We generated revenues of $10.6 billion and net earnings of $1.3 billion and earnings per share of $3.32. After nine straight quarters of double-digit returns, fourth quarter performance was certainly an outlier. Results were impacted by several near-term challenges given the difficult operating environment. On the revenue front, underwriting volumes remained extremely muted despite green shoots that appeared at the end of the third quarter.

Thicken equity activities, activity levels dropped after a busy and volatile year for many of our clients and our equity investment portfolio saw continued headwinds. We also saw higher loan loss provision and expenses. While compensation expenses were down 15% for the year, quarterly expenses rose modestly versus the third quarter. We always strive to maintain a pay-for-performance culture. With revenues down, compensation was lower. That said we also recognize that we operate in a talent-driven business and we must continue to invest in our people whose dedication is critical to our world class franchise. On our earnings call last July, we first spoke about the challenging operating environment and the proactive measures we were taking on expenses, including slowing hiring velocity and reducing certain components of our non-compensation costs.

We have and continue to be incredibly focused on managing our financial resources, especially in light of the worse-than-expected backdrop in the fourth quarter. Specifically, we reduced the size of our balance sheet, further optimized and reduced our RWA footprint and managed down our G-SIB score to hit our 3% target. We have also started firm-wide expense reduction efforts to offset inflationary pressures and right-size the firm for the current environment. We made the difficult decision to conduct a 6% headcount reduction exercise earlier this month. As we said, we had paused our regular performance management-related reductions during the pandemic and also had a period of strong growth in headcount given the opportunity set in 2021. We feel deeply for the individuals that were impacted by these reductions.

They are extremely dedicated and talented individuals and we wish them the best. Additionally, we are taking a number of strategic actions to help us reach our financial targets and create shareholder value. For instance, this quarter, we completed our reorganization, which will further strengthen our core businesses, help us scale our growth platforms and improve efficiency. This is an important and purposeful evolution of our strategic journey. We also narrowed our ambitions on our consumer strategy and made some key decisions. We started a process to cease offering new loans on the Marcus platform. We will likely allow the book to roll down naturally, although we are considering other alternatives. In addition, we have postponed the launch of our checking product.

At the right time in the future, we intend to offer checking to our wealth management clients. For now, our priority is to strengthen our deposit franchise, card partnerships and GreenSky. Our narrowed approach will allow us to reduce our forward investment spend and rationalize expenses. We are very focused on developing a path toward profitability and platform solutions and we will provide more detail at our Investor Day next month. As you can see from our new segment reporting, we are committed to providing continued transparency for us €“ for you to hold us accountable. I want to spend a moment on the broader operating environment. The backdrop over the last year has been incredibly dynamic. There were headwinds we expected, like high inflation, but some we never thought we would see like the ongoing land war in Ukraine.

There aren’t many signs of widespread distress, balance sheets and company fundamentals are relatively healthy, but it’s clear that the outlook for 2023 remains uncertain. In the U.S., Central Bank rate increases have started to have an impact on inflation, but they are also lowering the growth trajectory of the economy. And the labor market remains remarkably tight with an estimated 1.7 job openings available for every unemployed American. Our clients are thinking a lot about how to navigate this complex backdrop. CEOs and Boards tell me they are cautious, particularly for the near-term. They are rethinking business opportunities and would like to see more stability before committing to longer term plans. Many firms have started preparing for tougher times focusing on factors within their control.

Taking a step back, I am proud of the significant progress we have made in our strategic evolution since Investor Day 2020. Despite a more challenged fourth quarter performance, we delivered for shareholders in 2022. We generated double-digit returns in a year where rapid monetary tightening and ongoing macro uncertainty drove significant market disruption with both equity and fixed income markets falling for the first time in over 50 years. We grew management and other fees by 13% year-over-year and grew net interest income by 19%. We reduced our on-balance sheet alternative investments by $9 billion. We also returned $6.7 billion of capital in the form of dividends and share repurchases and we grew our book value by 7%. This brings our book value growth since our first Investor Day to almost 40%, roughly twice as much as our next closest competitor.

That said, we remain focused on the work ahead of us and we believe we have a lot to play for. As we go forward, we are executing on three key priorities we have laid out for the businesses: number one, growing management fees in our asset and wealth management business; number two, maximizing wallet share and growing financing activities and our global banking and markets business; number three, scaling platform solutions to deliver profitability. We have a proven track record of navigating a wide range of operating environments and we will continue to execute our long-term client-oriented strategy regardless of where we are in the cycle. We have the people in place around the world to serve our clients’ broad range of needs with excellence and we are operating from a position of strength with robust capital levels and a clear focus on the path forward.

I remain optimistic about the future of Goldman Sachs and confident that we will continue to deliver for shareholders. We look forward to speaking more about this with all of you at our Investor Day on February 28. I will now turn it over to Denis.

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Denis Coleman: Thank you, David. Good morning. Let’s start on Page 2 of the presentation. In 2022, we generated net revenues of $47.4 billion, net earnings of $11.3 billion and earnings per share of $30.06. As David highlighted, we have implemented our organizational changes, which form the basis for our earnings presentation today. Turning to performance by business, starting on Page 3. Global Banking and Markets generated revenues of $32.5 billion for the year, down 12% as higher FICC revenues were more than offset by a steep decline in investment banking fees versus record results last year. The exceptional performance of our Global Banking and Markets business over the last 3 years, including the market share gains we have generated has served a strong ballast for firm-wide performance.

In the fourth quarter, investment banking fees fell 48% year-over-year driven by a significant decline in both equity and debt underwriting as issuance volumes remain muted amid continued market uncertainty. Advisory revenues, however, were $1.4 billion, the third highest in our history rising 45% quarter-over-quarter on higher completed deal volumes. For 2022, we maintained our number one league table position in completed M&A as we have for 23 of the last 24 years and we ranked second in equity and equity-related underwriting. We also ranked second in high-yield debt underwriting, up from number three last year. Our backlog fell quarter-on-quarter on lower levels of activity, but remain solid, particularly in advisory. That being said, clients are focused on stability and financial conditions, pushing out the timing of transactional activity.

While we expect investors will need more certainty before financing markets reopen more broadly, we are seeing some positive signs of activity, particularly in investment grade markets, which have had a strong start to the year in both the United States and Europe. FICC net revenues were $2.7 billion in the quarter, up 44% year-on-year. In intermediation, we saw strength in rates and commodities amid elevated levels of client engagement, catalyzed by increased central bank activity and rate volatility and improved market-making conditions. In FICC financing, we saw increases in secured lending driven by higher balances. Full year FICC revenues of $14.7 billion rose 38%. Equities net revenues were $2.1 billion in the quarter, down 5% year-on-year.

The year-over-year decline in intermediation revenues was driven by lower levels of client activity, particularly in derivatives, after strong engagement levels throughout the year. Financing revenues of $964 million were relatively resilient despite a decline in prime balances as clients took risk off throughout the quarter. Across FICC and Equities, financing revenues were up 20% in 2022, consistent with our strategic priority to grow client financing activities. Moving to Asset & Wealth Management on Page 5. For 2022, revenues of $13.4 billion were down 39% year-over-year as a steep decline in revenues from equity and debt investments offset an additional $1 billion of management and other fees and a strong increase in private banking and lending revenues.

Fourth quarter management and other fees of $2.2 billion were up 10% year-over-year. Full year management and other fees were $8.8 billion putting us well on track to hit our $10 billion target in 2024. Fourth quarter private banking and lending net revenues reached a record $753 million, up 77% year-over-year due to higher deposit spreads and higher lending and deposit balances. Equity investments produced net revenues of $287 million, driven by $270 million of gains on our $13 billion private equity portfolio and roughly $500 million in operating revenues and gains related to CIEs, partially offset by $485 million of net losses related to investments in our $2 billion public portfolio. Debt investments revenues were $234 million, including net interest income of $360 million.

Moving on to Page 6. Total firm-wide assets under supervision ended the quarter at a record $2.5 trillion, driven by market appreciation as well as strong net inflows across fixed income and liquidity products. Let’s now turn to Page 7 where I will review a new page in our presentation focused on our alternatives franchise. Alternative AUS totaled $263 billion at the end of the fourth quarter, driving $492 million in management and other fees for the quarter and $1.8 billion for the year. We remain on track to reach our $2 billion target in 2024. Gross third-party fundraising was $15 billion for the quarter and totaled $72 billion for the year. Third-party fundraising since Investor Day stands at $179 billion. The table on the bottom left shows our on-balance sheet alternative investment portfolio, which totaled $59 billion.

Despite the challenging environment, we reduced on-balance sheet investments by $9 billion in 2022, of which $2 billion was in the fourth quarter. We remain committed to our strategy to reduce balance sheet density and migrate our alternatives business to more third-party funds. I will turn to Platform Solutions on Page 8. Full year revenues were $1.5 billion, more than double versus 2021. Full year losses of $1.7 billion were driven by $1.7 billion of provisions as we built reserves to reflect $8 billion of loan growth across the portfolio. We also incurred $1.8 billion in expenses as we continue to build out and run these businesses. This included over $200 million of transaction and integration-related costs driven by the GreenSky and GM card portfolio acquisitions.

We expect these costs to also impact 2023 results, though at a lower level and decline materially over subsequent years. As David said, our number one priority for this segment is to reach profitability and we look forward to providing you with further details at our Investor Day next month. On Page 9, firm-wide net interest income of $2.1 billion in the fourth quarter was up 2% relative to the third quarter due to higher rates and increased loan balances. Our total loan portfolio at quarter end was $179 billion, modestly higher versus the third quarter, reflecting growth in collateralized lending and credit cards. Our provision for credit losses was $972 million. For our wholesale portfolio, provisions were driven by impairments and portfolio growth.

The overall credit quality of our wholesale lending portfolio remains resilient. In relation to our retail portfolio, provisions were driven by continued portfolio growth, net charge-offs and a worsening of our baseline scenario. We are seeing early signs of credit deterioration that are in line with our expectations. We anticipate further pressure in 2023 given the vintage and nature of our portfolio. Let’s turn to expenses on Page 10. Quarterly operating expenses were $8.1 billion. Total operating expenses for the year were $31.2 billion, down 2%. Compensation expenses fell 15% despite a 10% increase in headcount and were partially offset by higher non-compensation expenses. The increase was primarily related to acquisitions, transaction-based costs and continued investments in technology.

In addition, client-driven market development costs were higher following lower levels during the pandemic. As previously discussed, we are actively engaged in expense mitigation efforts. This includes targeted reductions across communications and technology spend, professional fees and advertising costs as well as the recent headcount reduction exercise. We expect that the impact of these actions will become more fully reflected in our results over time, remain highly focused on operating efficiency and are committed to our 60% efficiency ratio target as the right place to run the firm. Turning to capital on Slide 11. Our common equity Tier 1 ratio was 15.1% at the end of the fourth quarter under the standardized approach, up 80 basis points sequentially.

This represents a 130 basis point buffer to our new capital requirement of 13.8%. In the fourth quarter, we returned $2.4 billion to shareholders, including common stock repurchases of $1.5 billion and common stock dividends of $880 million. Based on our capital levels at the end of the quarter, we started 2023 with a strong capital position, enabling us to support our clients and return excess capital to shareholders. As it relates to our funding plan based on current expectations, we intend for 2023 issuance to run significantly below 2022 levels, though we will remain dynamic with respect to business needs and market opportunities. In conclusion, despite the challenging operating environment in 2022, we delivered double-digit returns for shareholders, returned $6.7 billion of capital and made material progress on our strategic initiatives to better serve clients and strengthen and diversify the firm.

We remain focused on executing on our strategic priorities and creating value for our shareholders and we look forward to seeing many of you at our upcoming Investor Day in February. With that, we will now open up the line for questions.

Q&A Session

Operator: Thank you. We will take our first question from Glenn Schorr with Evercore.

Glenn Schorr: Hi, thanks very much. So given the capital RWA and expense actions that you have already taken, if 2023 is a little bit better in banking, but it’s kind of the same atmosphere we’ve been in because it feels like it’s lingering. Can you all get closer to your return targets this year? I know it’s very difficult in this backdrop but what I am getting at is do we need investment banking to be a lot better to get there or have the actions you’ve taken to start closing the gap? Thanks.

David Solomon: So, thanks, Glenn and I appreciate the question. Obviously, an improved capital markets environment would certainly help in that direction. We talk about our targets in a normalized environment. One thing I just want to make sure people are focused on is we have to do better in asset management. This certainly has been a part of our strategy over the last 3 years is to reduce our balance sheet and asset management. And we have made real progress on that over the last 3 years, but we still have a very significant asset management balance sheet larger than we would like to have. We reduced it by $9 billion this past year and we intend to move forward. But given the disruption in asset prices and the density of that balance sheet, it’s not surprising when you have $32 billion of capital allocated to that segment.

And if you look at the fourth quarter, the fourth quarter, it earned zero, even with some businesses in there that are highly profitable, I don’t think that’s normal. I don’t think our expectation is that continues exactly the same way. And so I think a combination of some normalization in capital markets activities and a more balanced environment with respect to the asset management balance sheet certainly would have a big impact. I’d highlight last year, we way outperformed the peer average ROE by about 900 basis points because of kind of the massive outperformance of that balance sheet, given all the stimulus and a bunch of that reversed, and we’re just more sensitive to that.

Denis Coleman: I mean things I might add, Glenn, is in addition to our business mix on the forward I think the reason why we’re taking action with respect to our headcount footprint and some of our non-compensation expenses is to drive efficiency even further. And as you point out, with the capital build that we have as at the beginning of the year, we’re in a pretty flexible position in terms of how we can deploy that either in support of attractive opportunities within the business and/or returning incremental capital to shareholders.

Glenn Schorr: Okay. I appreciate that. And then maybe staying up to 50,000, transaction banking is good, but it’s unfortunately a small revenue base. Consumer maybe music to some investors there is being deemphasized. So I guess my question is, where is your goal is to build a more durable firm and I share that goal. Where do you think that comes from going forward if some of the pieces are either small or being deemphasized from the past strategy? Thanks.

David Solomon: Well, I think, Glenn, the big thing in that, and it’s always been a big part of it is the shift from a balance sheet intensive asset management business to a client-oriented fee-based business. Our organic growth across our asset management business on a relative basis was still good in 2022 when you look broadly across the industry. We continue to grow our management fees in the asset management business. We’re continuing to grow our wealth business. Our wealth business overall grew nicely during the course of 2022. And so it’s that mix change, less balance sheet intensity, growth in asset and wealth management, continued financing growth in our core Global Banking and Markets business, which you’ve seen and continue to grow and then getting these platforms that we have to operate profitably, which we believe we can do.

We believe they are good businesses at scale, but they are in a different stage of the development. Those things should make the business more resilient, and that’s not inconsistent with the strategy we laid out 3 years ago, and we will amplify again next month at Investor Day. What I think was an outlier for sure in this environment is the massive quick swing in asset prices and the impact that our capital markets heavy and balance sheet intense business had, of course, with a drag from some of the investments we’re making in other things.

Operator: Thank you. We will take our next question from Ebrahim Poonawala with Bank of America.