Transcription of Robert E. Diamond Jr.'s Presentation at the Risk Management and Barclays Capital Seminar, in PDF format.

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Barclays Capital
Robert E. Diamond Jr. - Chief Executive, Barclays Capital

Before I break into the presentation, I would like to give you three thoughts that I would like you to have in the front of your mind as Naguib and I go through this presentation on Barclays Capital. The first is, we have dramatically changed the business model and dramatically restructured the business of investment banking. But importantly, we did not do that restructuring because of the sale of the equity and M&A business. The sale of the equity and M&A business was because we needed to restructure our investment banking business, that is an extremely important point, the model we had in BZW was not working.

The second thought I would like you to have is the business model for Barclays Capital is working, as you see these presentations, think about how this model is working in terms of the quality of the clients, in terms of the quality of the returns to the shareholders, in terms of our ability to attract and retain top quality talent.

The third thing I would like you to keep in mind is that we are actually quite bullish. We think that looking forward we can continue to have the kind of performance that we have had over the last 18 months or so. With that as a backdrop, we have had this as our mission since the creation of Barclays Capital, but quite honestly if I stood up here as recently as a year ago today, I think I would have referred to this Mission as somewhat aspirational. The reality is today that we no longer think this is particularly aspirational. We believe that we are amongst the two or three leading European investment banks in the areas that we focus on, the areas of risk management and financing. You have heard a lot about risk management this morning. I am going to change the definition on you a little bit. Steve, Tim and Andy were talking about managing the risks of the Barclays Group and Barclays Capital. When we talk about risk management, we talk about it from a client point of view. We talk about it in terms of providing solutions for our clients, in helping them manage their exposures and their risks, in credit, in interest rates, in currencies, in commodities and in equities. When we talk about financing, we talk quite simply about our client's ability to raise capital. When you think about the model of Barclays Capital, keep this in mind as well. In 1999, there was $2.25 trillion dollars worth of capital raised in the world. The business model that we have at Barclays Capital allows us to get at 94% of that.

Let's take a closer look at the transition from what was BZW to what is today Barclays Capital. BZW was struggling and I think as we go through this, keep in mind that I think there is a number of other investment banks in Europe still struggling with some of these issues. But they were struggling with the biggest issue, which was trying to be full service, providing all products but what we talk about is a multi domestic model. What do I mean by multi domestic? Full service operation in the UK, where actually they had some competitive advantage, because it is their home market, but as they expaned beyond the UK into Tokyo and into Singapore, into Germany, into Italy, each of those was set up as a reasonably stand alone, integrated investment bank.

In addition BZW itself was a stand alone operation within the Barclays Group, pretty much ring fenced, and interestingly not even taking advantage of the name. I think we would refer to the staff as complacent at best, particularly outside their areas of comfort, outside of the UK, probably second rate. In the economics of the business, because of all those reasons, were reasonably poor. With very few exceptions, BZW is not earning its cost of equity.

When you look at Barclays Capital, what you are looking at is a business model which emphasises focus, on products we believe can be excellent, but also in products in areas we believe we can operate, competing with the best of breed, on a global basis. We do not believe it is worthwhile doing anything in which we cannot be excellent and we cannot perform globally. When I talk about an integrated model at Barclays Capital, I really mean two things. Internally, within Barclays Capital, we have tried to break down the silos of separate products and separate geographies, so that we operate as one firm, integrated globally. But we also talk about the integration with the rest of Barclays. When I was asked to be Chief Executive of Barclays Capital the first decision that the senior management team made was to change the name to include Barclays right up front.

Matt talked about the performance culture and the importance of hiring first class people in his introduction. I don't think there is a choice here. I don't think we can possibly aspire to be a leading European investment bank unless one of our prime objectives is to create a performance based culture with absolutely first class people. Let me try and give you a little perspective to what we have done in the last three years. BZW had about 7,500 people. After the sale of the equity and M&A business, we had roughly 4,000 people. Today, three years later, we have roughly the same number, 4,000 people. During that three years, we have hired 3,000 of those people. We have some outstanding people that were here prior to the restructuring, but typically they were performing in areas of our comfort zone, which is generally in the UK, in sterling and generally in the front office, not in the back office. So the restructuring of the human capital of Barclays Capital has been dramatic.

Lastly, strong profits. We think that the profitability is a licence of sorts. Now we think we have the opportunity to continue to grow our business because it is profitable. We don't continue to grow our business to make it profitable. So it is very, very important to us, this early in our development, we are earning in excess of 20% returns on our economic capital.

The same way I talked about the restructuring of the human capital, what we are trying to do here is give you a very quick look at the transition from the sale of the equity and M&A business to today in terms of revenues. What you see in terms of the loss of revenue there, and I would point out that these were not particularly profitable businesses, so you were not really removing profitability from the organisation, we were removing revenues from the organisation, but what this was, was pretty much without sentiment. Looking at the exit of businesses where we were subscale and we couldn't compete. What you are seeing in terms of the growth in the retained businesses, in the new businesses, I think is a function of the increased focus on areas we knew we could have competitive advantage and the impact of the new people that were joining Barclays Capital.

We refer to our business model as distinctive, and I think it is. The business model is a depth focus model, and equally importantly, it is a global structure, there is absolutely an emphasis on the opportunities we see in Europe and the fact that we are European, but it is an absolutely global structure, but I have got to pop a few myths here. This is not a bond house. We have a very, very important business in commodities. We have a very important business in equities. The businesses that we exited in equities were the large scale sales and trading businesses where there is a requirement for 1,000 research analysts, for 1,000 sales and trading people, for a big capital markets activity, a big set of costs. Where we operate equity derivatives, convertible bonds, warrants, equity borrowing and lending, prime brokerage, fit very well with the model of Barclays Capital in terms of the control and infrastructure, in terms of our ability to process business, in terms of our ability to manage our risks, in terms of our derivatives platform, but most importantly in terms of the clients we deal with on the investor side. They are the same clients buying those products as are buying the other products.

What are the operating principles that underlie that business model? First and foremost, client focus. I will tell you that if I stood here two years ago or three years ago, this chart would look a little bit differently. The first statement would have said - provider balance between a client and proprietary focus. I think we learned a very good lesson in 1998 when we were running a quite separate proprietary trading group, that while we believe over a period of time we can probably compete with anyone in giving returns in a proprietary trading business, we do not believe that we can do it without significantly adding to the volatility of the earnings. So we have exited that business.

Secondly, first class people. There is no choice. One of the things that we feel best about in developing the business model of Barclays Capital is that we have been able to retract and retain top quality talent. One of the things that we talk about really with great pride is the retention. In the last three years, we haven't had any Managing Director leave Barclays Capital to join a competitor.

We talk a lot about the discipline control of Capital and Risk. Obviously that is why Andy and Tim and Steve were talking to you. It is a core competency within Barclays Capital. What we believe is that the more tension we can create in the allocation of our capital, in the allocation of our equity as well as in the allocation of our risk, both credit and market, the better we can increase returns. The thing to look at is you see some of the financial numbers today and going into the future is we want to make sure the plain with which we are growing our revenues and with which we are growing our profitability is steeper than the amount of increase in the capital and risk assets that we are applying to them. You saw a bit of that in Steve's presentation. I will show you a bit more of it later.

Cost control and productivity. This is a big nut to crack. We faced a couple of very, very big problems about three years ago. First, when we looked at the control and infrastructure around the business that we inherited from BZW, were quite frankly, we were expensive and we were inefficient and that is not a good combination. The only way to improve on that was to literally exit the cost for the next two or three years. To invest in technology and to become low cost and efficient which is where we wanted to get to.

The second problem we faced was because of the sale of the equity and M&A business, there was a £175m of costs that had previously been allocated as expenses to those businesses that did not leave the door with those businesses, which we either got rid of or we absorbed and you can imagine what that would have done to the profitability if we had to absorb those. Over the last three years, the progress has been quite startling. We have replaced every single piece of hardware and every single piece of software, everywhere we operate, around the globe in Barclays Capital. The platform has been revitalised and I think as you look at Barclays Capital's position now, particularly against the Europeans that we compete with, I would say we are low cost and we are efficient, and best of all it is done and it is expensed. It wasn't capitalised in the P&L. We were also able to get rid of, over a six month period of time, the lion's share of the allocated cost. We had to exit things, we had to close things, we had to get out of buildings. We had to do an awful lot of work in that six month period to get rid of the lion's share of those costs. So we didn't take a big cost overhang into Barclays Capital that would impact the P&L.

Technology investment. Just a couple of things and I will move on. I think the thing that we have done best in the last two to three years quite honestly is that we have not got caught up in the hype here. So we have been very focused on where we wanted to place our investments in technology. We talked about the infrastructure, the other two areas were very important. We are very interested in applying technology to gain clients. There are areas of the world and clients that we just can't get at any other way than technology. A good example of that is the joint venture we have with Charles Schwab. We provide the technology platform and the execution for foreign exchange transactions for their clients that invest out of dollars. I can't imagine a way we would get at that client base except through technology.

The second thing is increasing the efficiency of our distribution. The key to that is providing for ourselves and our clients, straight through processing. A good example of that is our XTAS system which is used in prime brokerage and futures. Which is taking a futures business which was very much head count on the telephone oriented, into an electronic platform of execution and straight through processing from our client to ourselves.

I want to show you a little bit about how these operating principles translate into a business model. As I said earlier and I think you can see it from here, hopefully. We are much more than just a bond house. We organise our businesses primarily along two broad areas. Those businesses whose underlying at risks are rates movements and those businesses whose underlying dynamics and risks are credit. Within the rates area, we have the business of global markets as well as collateralised financing. In the credit area, are global financing which is a business which Naguib is going to talk about more broadly in a little while, and private equity. We have about 2% roughly of the group equity invested in private equity through Barclays private equity, it is not particularly large. It is a business that we are expanding from what was its core UK base into continental Europe. Importantly, across these four businesses that are highly interdependent from a risk management point of view, we run our sales, research, the core technology and infrastructure and our risk management as one integrated solution across all these businesses as one group around the world.

Financial performance. What you see here is the full year performance for 1999 and the first half of 2000. What I would like you to take away from this is number one, the quantum of the profitability and number two, and more importantly, is the beginning growth and returns, 23% return on economic capital in 1999, first half of 2000 over 30% return on economic capital. Again you can start to see here the management of the capital and the management of the risk with regulatory capital being reasonable flat, our value at risk being reasonably flat, the driving revenues and profitability at a higher plain. The thing I would like to leave you with here is that in the year 2000, about 40% of our income is now coming from outside the UK in Europe, from our operations in the US and Asia.

Let's look at it a little bit differently. Since 1997, through the first half of 2000, 15% compound annual growth rate in revenues, more importantly a 20% compound, 14% fourteen percent annual growth rate in revenues per head, productivity, driving a 16% compound annual growth rate in profits. Keep in mind that during the exact period we are talking about here, we did the technology and infrastructure investment and the human capital investment.

This picks up on the theme that Steve Vinson was sharing with your earlier. It is clear to say that no one, not Matt, not myself, not anyone in the audience likes to see nasty surprises, we don't either. The focus that this organisation gives to the management of our risk in the management of our capital is obvious. It strikes us as much as I am sure anyone else, the importance of managing our volatility in terms of the valuation of our business. The picture here is pretty good in terms of the reduction in the number of lost days per annum and at the same time the reduction in the amount of loss on the days that we do lose money and this is obviously focused on our risk taking activities.

Productivity. In the year 2000, we took a 12 month period up to the middle of the year 2000 to get you one year's worth of data, 50% increase in transactions processing, no increase in head count. We believe that this technology is scaleable on a continual basis going forward, it is not that we have hit the peak right now. It is very, very important that we put behind us the restructuring of the infrastructure and technology and believe this gives us a significant competitive advantage, particularly against our European competitors.

Let's look at the client side of the business a little bit and I think that everything I talk about here, we could be talking about on the investors side of the business as well. So let me talk about investors for a second while you try and figure out the numbers I am throwing up on the chart. It is harder to show a chart like this on investors as more of the business is done privately and it is not publicly recorded. We thought through putting some names up, but you can't put the names of your clients on the buy side. The importance is that we are increasing our penetration with the most important clients. One of the things that has gone unsaid today, from my point of view, the single biggest tool that we have in managing our risks is distribution and whether it is the syndication of the loans or the movement of the bonds from the debt underwriting, getting aged inventory off the balance sheet, the single biggest offence we have in risk management is distribution. It is always good to look at things that come from someone else and are reasonably arbitrary, which is why we picked these. In sterling bonds it is not surprising that our dominance in that market would be continuing. In euro loans, this is very important, we are number one in Europe for lead managing syndicated lending. Importantly it is not new, we were last year and guess what, we have been for ten years. What is new is we are in the top four globally. When you think of the people on that space Citibank, Chase, Bank of America, Barclays, it is a terrific space to be in and as Naguib will show, extremely important product for us to drive cross selling into a lot of the other things that we want to do.

International bonds, picking up from number 13 to 11. We floated with the ten spot a couple of times this year and have been in it. I still hope we will be by the end of this year. Our goal over time is to be in the top five in that area as well.

Euro money does a poll every year of borrowers, treasurers and finance directors. Of all the firms in this business, our increase this year from 1999 to 2000 was bigger than anyone's. From number 13 to 8 in overall capital raising, going past Golden Sacks and Morgan Stanley. From number 13 to number 10 in overall risk management. Before I leave this slide I would like to leave you with why this is important to us, what this really means in terms of business. In the year 2000 to date, we have raised capital for over 90% of the clients that we raise capital for in 1999. The repeat business is very strong. We have had business already in the year 2000 with over 90% of the clients we raised capital for last year.

This one also just takes a second to absorb, but what it is showing you is that the markets in Europe particularly in bonds are more fragmented, relatively than the markets in the US in general and the markets in M&A, in equities in particular. What it means to us is that we can continue to gain market share. Over the next two to three years, one of the things that makes us as optimistic as we are is that there is still a lot of room to improve our market share and to take business from the second tier firms.

The outlook, kind of a summary. These are the things that I think are really important. The platform has been built. The business model is in place. The team of people we want to run this business are excellent and in place. The control and infrastructure has been built, it is in place. Our products, derivatives, the loan product, dead capital markets, we strengthened our products, we can operate at world class levels. The way I think of all that is, we have the factory built, so the biggest single issue for Barclays Capital over the next two to three years is to continue attracting people as we have been for the last year or so in origination and distribution so that we can pour more business through the pipe.

The second thing is that our risks are well managed. You have heard a lot about that today, but I want to give you one more sound bite that I think is important. The management team and staff at Barclays Capital are significant shareholders in Barclays. We would rank amongst some of you, some of the largest institutional shareholders if you looked at us as a group. Equity is an important part of the compensation programme at Barclays Capital and we have our interests aligned with the shareholders, from a risk management point of view I think that is quite important. The industry fundamentals are quite strong. I showed you the chart on the fragmentation in the industry. I think the most cautiously optimistic people think that the markets in Europe are going to continue to grow at a kind of 15%-20% compound annually. When you have something built there is nothing better than to be sitting in the midst of a market that is growing.

We are pretty serious about this. We think we can get there. I will just bring you back and kind of repeat the three things I said at the beginning. The restructuring of our business and the change in business model was a very conscious decision, it was dramatic and it was conscious and it needed to be done. The second thing is it is working. The quality business we are doing with the clients, the quality of the returns for the shareholders and the retention and attraction of top quality people. Thirdly we are still pretty optimistic about the future.