13 January 2017

TD CEO Bharat Masrani's Quiet Revolution

The Globe and Mail, Tim Kiladze & James Bradshaw, 13 January 2017

In the summer of 2014, shortly before taking over at Toronto-Dominion Bank, Bharat Masrani was asked about his vision for Canada's second-most profitable company. For someone about to become chief executive officer, he had kept a low profile, and investors and analysts were hungry for clues about his plans. How would he change the bank?

Without a moment's hesitation, he answered by promising no revolution at all. "I feel like an equal partner of what this bank is today and hence, I don't feel compelled to change."

Mr. Masrani may have seemed bold in taking credit for building TD into a force, but he wasn't exaggerating. He worked closely with Ed Clark, TD's charismatic CEO, for more than a decade and together they made many major moves, including a decision to spend heavily to expand in the United States. With his fingerprints all over the bank's existing strategy, Mr. Masrani didn't see a reason to sell the board on a new one.

But the status quo he promised lasted less than one quarter.

In December, 2014, a month into Mr. Masrani's tenure, the new CEO laid out a new goal "to increase efficiency and streamline our cost base" – banking lingo for slashing expenses and jobs where possible.

The rationale was a sudden change in circumstances. Oil prices were crashing and Ottawa's warnings about onerous consumer-debt loads were growing louder. Ultra low interest rates had sparked a borrowing binge by consumers, and from 2009 to 2014, TD's total mortgage portfolio almost doubled in size to $199-billion. But housing-driven prosperity can only go so far (and, as U.S. banks learned a decade ago, it comes with its own risk). All of this played out against a backdrop of stubbornly low economic growth and competitive threats from new startups.

Mr. Masrani's quick fix was to endure $686-million in restructuring charges over 12 months, to strip out as many expenses as he could.

That was only the beginning. In the two years since, Mr. Masrani unveiled a revamped wealth-management strategy, complete with the launch of in-house, low-cost exchange-traded funds; embarked on a capital-markets expansion, particularly in the United States; pulled the trigger on the $1.3-billion (U.S.) acquisition of the bank operations of Scottrade Financial Services Inc. and came close to buying Richardson GMP, a Canadian firm with $28-billion in assets under management.

Under Mr. Masrani's watch, TD has invested heavily in digital banking tools, a strategy that seems a modest departure from its long-standing focus on in-person branch banking and customer service.

Most recently, the bank announced the retirements of long-time leaders in multiple business units, including Mike Pedersen, the head of the U.S. personal and commercial bank – TD's main vehicle for long-term growth.

So much for not feeling compelled to change.

"One of the hallmarks of TD is its ability to adapt to the environment it finds itself in, rather than hoping, praying that the environment will go back to the good old days," Mr. Masrani said in a recent interview at TD's Toronto headquarters.

Asked whether he reversed course on his initial promise, the CEO practically scoffs. "I wouldn't put it in your words, that there's been some dramatic shift here, because there hasn't," he argues.

Mr. Masrani said TD's decade-long expansion resulted in duplication, which justified his early cost-cutting. Bay Street largely agrees with him. "They'd had a couple of false starts on getting stricter on expenses," said Robert Sedran, an analyst at CIBC World Markets. Then, just as the new CEO took over, the prospects for revenue growth began to look more daunting, partly because of the weakness of the Canadian economy. "In that environment, the cost control became something that was no longer optional."

Expanding TD's wealth-management arm seemed equally necessary. Because baby boomers are leaving the work force in droves – Canada has 250,000 new retirees every year, a figure that could approach 400,000 soon – demand for financial planning is rising fast. On this front, TD had to play catch-up.

The bank holds a 41-per-cent stake in TD Ameritrade Holding Corp., the largest discount brokerage in the United States, and also recently increased its wealth exposure by acquiring New York-based equity-asset manager Epoch Partners in 2012. But something was still missing. As the only large Canadian bank that hadn't acquired an independent dealer after Ottawa relaxed ownership rules in the 1980s, TD didn't have a robust retail advice platform – which is crucial to landing high-net-worth clients who seek tailored service.

TD's money-management arm also wasn't well integrated with its retail network. "Selling wealth through the branches is an area where perhaps TD has not been as strong," Mr. Sedran said.

Under Mr. Masrani, TD has implemented new rules, such as shuffling wealth clients with under $100,000 in assets to its branches, where it offers more basic products such as low-cost ETFs. A closer connection between wealth and the branches is expected to help the bank cross-sell products, so a client who has only mutual funds can be offered a credit card as well, for example.

The bank also rebranded its retail wealth business to TD Wealth Private Wealth Management, and pledged to add more than 130 investment advisers by 2020 – a rare move at a time when most rivals are trimming their adviser ranks. TD was working to make up ground, which helps explain why it was considering buying Richardson GMP for $600-million last fall; the firm specializes in high-net-worth clients. Because the deal died, TD is left building out its own network over the long haul.

What Mr. Masrani is doing with TD Canada Trust, the domestic retail bank that contributes 64 per cent of total profit, has been harder to decipher. He installed a new group head in 2015. The former leader, Tim Hockey, left in a surprise move to run TD Ameritrade, and the current leader, Teri Currie, is faced with translating TD's customer-service strength to a digital world. "We spend a lot of time and effort on how we make sure this particular [mobile] functionality you have is from TD, and on creating that emotional connection," Mr. Masrani said.

There's a lot to do. TD touts its "legendary" customer service, which includes longer hours at bank branches than its competitors offered, but "technology is working to make that advantage less important in a world where you have 24/7 banking on your mobile phone," said Cormark Securities analyst Meny Grauman. Plus, all the banks are building from scratch on a relatively level playing field. "You have a dynamic where the leader is more vulnerable than the laggards in this respect."

Getting the digital shift right is crucial. The retail division's profits were flat last year, which was rare to see in the postcrisis bull market for banks, and TD also lost its coveted J.D. Power award for overall customer satisfaction to rival Royal Bank of Canada.

Mr. Masrani argues what transpired last year was a temporary hiccup. Growth will return, he says, partly thanks to expansion plans that include beefing up TD's credit-card unit. The CEO also wants to build out the bank's insurance business, despite that industry's recent struggles, and to become a prominent commercial bank that lends to small and mid-sized companies.

Of all his changes, the strategy that stands out is Mr. Masrani's emphasis on capital markets. This was a division that never got much attention under the old regime, so when he started talking more about it, some people wondered whether TD would expose itself to greater risk.

The short answer: Not on Mr. Masrani's watch. Rather than ramping up derivatives trading, TD aims to become a prominent corporate lender to big companies in the United States and then build products around that. The decision follows RBC's strategy to expand its U.S. corporate-lending book in the wake of the financial crisis, just as global banks were pulling back.

Nothing is risk-free, as TD knows well. The bank had major problems with its loans to telecom companies during the dot-com bubble, an era when it posted its first-ever quarterly loss. But it was Mr. Masrani who was assigned to clean up that portfolio of bad loans. From there, he became chief risk officer. "The bank's risk appetite is non-negotiable," Mr. Masrani explains. "We will not risk the whole enterprise with a strategy or a trade."

"A lot of what we're doing in the U.S. is actually the same as what we've done in Canada over the last 20 years … We have a fairly large personal and commercial bank in the United States from Maine to Florida that has millions of customers. A lot of them have what I would call investment-banking types of needs," he said, such as managing interest-rate risk, or vanilla derivatives. "Why would we not build those capabilities … to recreate what we did in Canada?"

To complement the capital-markets strategy, he wants to elevate the retail and commercial-bank division's status south of the border, making it more, well, Canadian. "What we are trying to create is more of a universal banking model," he says.

Now is the ideal time to do this, he says. The U.S. arm is now a top-10 bank ranked by assets in the United States, thanks to a decade spent laying the groundwork by building scale, a brand and a culture. The market also has a much more positive tone than it did when he ran the U.S. bank from 2007 to 2013. When Mr. Masrani took over as CEO, U.S. returns were still weak as the economy made a slow recovery from the Great Recession, and TD's return on equity in the U.S. arm was just 8 per cent; in Canada, it was 43 per cent.

Today, there's more oxygen. After keeping interest rates near zero per cent for nearly seven years, the Federal Reserve hiked them for a second time in 12 months in December, which boosts lending margins. "There is a sentiment change that is very positive," Mr. Masrani says.

To capitalize on that, he teamed up with TD Ameritrade on a proposal to buy discount brokerage Scottrade for $4-billion in October, absorbing Scottrade's U.S. banking assets. At a conference this week, Mr. Masrani also reiterated his desire to acquire a smaller traditional bank in the southeast United States.

There's also the Donald Trump factor. Since he was elected to be the next U.S. president, big American bank stocks have jumped an average of 24 per cent on the assumption that he will loosen regulations. It is debatable how much growth that will spur, but coupled with a plan to lower corporate taxes and boost infrastructure spending, the recovery could amp up as consumers borrow more. "These three pillars are going to mean more growth," Mr. Masrani says.

For the first time, TD isn't shy to pound its chest about its U.S. arm. A lot of institutions – both Canadian and global – have had expansion plans to the south, where a tantalizingly large market awaits, "but there have not been many instances of success," Mr. Masrani said. "We're very proud."

And the new CEO is confident he has time on his side. "The few banks that are bigger than us had a 150-year head start."