<THE DRIP PORTFOLIO>
Our Favorite Financial Services Co.
Mellon Bank's 1998
by Dale Wettlaufer (TMFRalegh@aol.com)
Charlotte, NC (Dec. 30, 1998) -- Hi, Dale Wettlaufer back for just one day to talk about banks. No, don't worry, I'm only here for one report. I won't be hanging around for the next three months talking about the subject. Jeff thought I might like to stop by to talk about the year in review for Mellon Bank Corp. (NYSE: MEL), the DRIP Port's first investment in the financial services sector.
We could call Mellon a bank, but that misses the central point of our investment thesis here. Mellon calls itself a "broad-based financial services company with a bank at its core." We thank Mellon for its succinct self-characterization, because what we like about Mellon is its diversity and its growing fee income lines of business, which exhibit excellent return on capital results. That's been the big, big story of 1998 with Mellon and that's really been the way the bank has evolved over the last decade (and in particular, the last few years) under outgoing CEO Frank Cahouet.
This year, the company has focused on strengthening its asset management and custody businesses and sold some assets, including some mortgage origination assets to Chase Manhattan (NYSE: CMB) and its merchant transaction processing portfolio to Paymentech Inc. (NYSE: PTI). These moves de-emphasized the company's positions in markets where it's not one of the top companies and enhanced its position where it is a top company -- a strategy we appreciate.
In fact, right on the heels of the merchant transaction processing deal, the company announced a global custody alliance with ABN Amro (NYSE: AAN), one of the world's largest banks in terms of Tier 1 capital, with $550 billion in assets under custody. Combining that with Mellon's $1.64 trillion in assets under administration/custody (which includes other alliances), the company will end the year with something in the neighborhood of $2 trillion under administration/custody. This strengthens Mellon's position among global leaders in the category of trust and custody.
In asset management, the company's assets under management at various subsidiaries reached $334 billion, down slightly from $350 billion at the end of Q2 because of the decline in equity markets that ended pretty much as of the date Q3 results were measured. I would say assets under management are probably well over $350 billion in institutional, retail, and retirement accounts as we finish up the fourth quarter. In addition, Mellon also made a couple acquisitions in asset management, including the U.K.'s Newton Funds, with nearly $20 billion in assets under management.
The company's fee income strategy has resulted in an excellent mix of non-interest income in the total revenue base. Noninterest income made up 66% of total revenues this quarter, which is unusual among large banks. This is why the company's ROA and ROE, before taking into account goodwill amortization, are above 2% and 40%, respectively. As regards to volatility, none of these things reduce the credit exposure (in and of themselves) inherent in investing in banks. But they do widen the lines of business where the company can invest excess capital, whereas other banks are prone to going after marginal borrowers to increase earnings when things get frothy in the banking business. We very much like the presence of annuity-like revenues at Mellon.
Overall, total fee revenues were up 24% through nine months of 1998, increasing $411 million, from $1.711 billion last year to $2.122 billion this year. Compare that with nine-month net interest revenue of $1.117 billion, up from $1.113 billion last year. Earnings per share before goodwill amortization rose 15 1/4%, from $2.36 to $2.72.
I look forward to another good year for Mellon and the DRIP Port, watching from a short distance away over in the Boring Portfolio. I hope you have a good one, too.
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