Ronald P. O'Hanley believes Mellon Financial, with its ‘multiboutique' structure, is positioned to be a hunter, rather than prey, as a decade of consolidation in the financial services industry looms.
Mellon Financial Corp.'s share price has rebounded strongly since May, when the Pittsburgh-based financial services giant sold off its human resources consulting and outsourcing businesses. Some shareholders say Mellon should now sell off its huge asset management arm, to realize value that has been depressed by that unit's proximity to the firm's custody and asset servicing operations. Vice Chairman Ronald P. O'Hanley, who joined Mellon in 1997 to quarterback the firm's institutional investment operations, begs to differ. With the firm now harnessing its institutional investment strengths to bolster its retail operations, Mellon is poised to grow organically and through further acquisitions, he says.
Some shareholders are saying it's not in their interest for Mellon to hold on to both its asset management and custody arms. Our core client segment in custody and asset servicing happens to be in the U.S. defined benefit segment, and that also happens to be our largest client segment in our asset management business. Once we're there, we're talking to the same individuals. I see these as very connected. It's unfortunate the market doesn't, but that may just be that we need to do a better job of communicating.
Is Mellon's DB focus something to emphasize, considering the trend toward DC? Last year, 40% of our new institutional business revenue came from non-U.S. clients, up from zero in early 1998. We're growing outside the U.S., we're growing in subadvisory, we're growing in intermediated (third party) retail, we'll continue to do all that stuff. But if DB went away tomorrow, the last pension fund would be writing its last check somewhere between 75 and 80 years from now. DB will remain a very important client segment for us.
Your critics complain Mellon's share price commands a lower value than many other listed money managers. We've been a far more complicated business than most for (investors and analysts) to follow. In my mind, the complications have gone away with the sale of the human resources-investment solutions business. That transaction was completed only in the second quarter. We've now had a couple of quarters in a row of what I call "no noise" — just solid revenue and earnings growth. Assuming we can continue to do that, I think the market will reward us.
Mellon's asset management arm isn't the easiest to describe in a few words. It's a multiboutique model. It enables focus on a particular investment process; it enables the fostering and development of very entrepreneurial cultures around these subsidiaries. If you look at our investment performance, I would be very surprised if you could find an organization that has the same level of investment performance over one-, three-, five- and 10-year time periods that we do. And I think why is pretty straightforward: because you've got so much focus; we don't have one CIO, we've got 12.
Legg Mason has a similar model, but seems to be enjoying a warmer reception on Wall Street. I would describe the model as quite similar; but Legg is all money management. This goes back to where we started, which is: Does the market appreciate anything other than a pure play? The answer today is "no," and the answer if you go back four or five years was "yes," when the multiples on trust and processing for institutions such as ours were far higher than for money managers.
Some people complain that Mellon is too cautious to do something on the scale of Legg Mason's recent swap of its brokerage arm for Citigroup's huge asset management operation. If it's right for the client base, and right for our firm, we would consider something like that, and we see the opportunity for perhaps multiple transactions like that … to secure distribution in a channel or in a geography where you're either underpenetrated or not present at all. Most asset management acquisitions fail. We have a track record that nobody can touch. We've done quite a few acquisitions. The fact that we're cautious is a good thing. But we certainly view ourselves as a long-term participant and leader in this industry and if the industry's going to consolidate, we see ourselves being a consolidator.
You've predicted the unbundling of manufacturing and distribution should continue. It's got a long way to play out. The reason why it doesn't happen (more rapidly) is, first and foremost: where are they going to reinvest the money? Even if you've got a mediocre asset management business, it's probably got a high return on equity, pretty decent margins. Now my reply to that ought to be, "Don't!" Give it back to the shareholders. There's been a tremendous aggregation over the years that won't necessarily stand the test of time, and I see large banks and insurance companies in Europe probably facing the same kind of questions that a Citigroup has faced. But short of some kind of regulatory or other kind of catalyst, I'm not sure you'll see it all unfolding in a year or two.
Mellon Chairman Marty McGuinn was quoted recently saying Mellon is keen to do a big acquisition. Virtually everything that's out there gets shown to us, and we come up with a lot of ideas ourselves. But I don't view our strategy as being unfulfilled or unexecuted if we don't do one. We'd like to do one, but it's got to be the right one.
With all your units, if several decide at the same time to develop the same product, would you referee? We certainly do talk about that. If we're going to have a number of people piling on in one area, we want to have it in an area where we're very underrepresented. For example, four (or) five years ago, we had a big push in product that would make sense for non-U.S. investors — global products, things like that. We're now realizing the fruits of that. So I would describe the product development process as one where we're all talking about it, but we're not laying down any fiats.
What new product areas is Mellon focusing on? A lot more quantitative products, including more global and international products (and) some global long-short; some core structured products, particularly in fixed income, some more portable alpha products.
Some people say Mellon could use more growth. We've been heavily oriented toward quantitative and value — not a bad place to be over the last few years. But to have the full range, we'd want to have more growth, whether we build it or buy it. Growth will have its day again.
Mellon is repositioning Dreyfus as a distributor, with its institutional managers subadvising the funds. The move of Dreyfus from an integrated mutual fund company to one focused primarily on distribution is very recent. In February, we put fixed-income money management into Standish, and those results have clearly improved. The equity just moved over on July 1, but I think you'll see the same kind of turnaround in performance. This makes sense for us. We have such a breadth of institutional quality manufacturing and the market is moving to an institutional kind of buying behavior. Dreyfus has a very strong position as a distributor, a combo of the brand and the wholesaling capability that I spoke of, so it allows both parts of our organization to play to their strengths.
Is anything making you lose sleep these days? The whole risk management environment keeps me awake, but I see more opportunities than risks out there. We're extremely well positioned, with a business model that can enjoy almost infinite growth because it's not going to run up against the boundaries of complexity or management scope.
