After a day of digestion, the new RBS strategic plan still leaves a lot of questions unanswered. Indeed, the most pressing one we have heard from investors is whether the bank is an outright short or simply one to avoid, given the limited free float.
A lot of focus, also on whether the management of the bank — which soon won’t include departing chief financial officer Nathan Bostock — will be able to see through the strategic plan they have sketched out on the back of an envelope in the few months since Ross McEwan took over.
But another leaps to mind. The plan is to shrink the international, cross border, bit of the business to end up as a sort of UK-focused Lloyds Plus. But once you start letting the air out, how do you stop the balloon becoming a whoopee cushion?
First though, let’s share some of the disdain. RBS wants to bash seven divisions into three, and cut costs by 20 per cent, but at the same time its plans imply revenue growth of something like 7 per cent is needed.
Aside from the fact that if RBS can slash and grow at the same time, Barclays and Lloyds should be growing profits like crazy, the details of how this heroism will actually occur have not yet been worked out.
Or as it was put by the bank on Thursday, the plan hasn’t yet been pushed down through the divisions.
Meanwhile a dividend is unlikely for the next five years (while preferred issuance increases the share count), and book value is likely to be flat for the foreseeable future. Here’s Deutsche on the plan, who end up on what seems to be a realistic estimate of around 30p of earnings for 2017:
With management guiding for a [Total Net Asset Value] which doesn’t rise much in the next two years as restructuring burdens, disposal costs and write-offs at least match underlying profit generation, what matters most to the share we think is progress in delivering the announced strategy. The ask here is big. RBS aim to cut >20% of ongoing costs to offset an expected 12% fall in revenues to produce a 9-11% [Return on Tangible Equity] in 2017. We think the 2016/17 targets mean EPS of about 30p, assuming success in an ambitious plan, which leaves RBS on 10.9x 2016 target EPS versus the Eurobank average on c.9.1x. Capital on management plans is adequate, not excessive, with CRD IV CT1 at 11% at end 2015 and 12%+ in 2016. We do not expect a meaningful dividend 2014-2015.
That valuation of 11 times earnings for 2017, assuming the plan comes off, compares to 5 to 6 times for Barclays, and about 8 times for Lloyds.
But on the topic of shrinking, there are some good reasons why RBS has tried to be a very international bank — it is number one in cash management in the UK, and claims the number fourth spot in Europe. Corporate cash management is a nice, low capital intensive and profitable business.
Still, can RBS hold onto that while continuing to shrink Global Banking & Markets (GBM), where risk-weighted assets have already fallen from around £120bn to £80bn? We suspect BNP Paribas and HSBC (not to mention JP Morgan or Citi) might see an opportunity there – hello, would you like to work with a truly international bank?
Similarly, where does the risk-weighted asset shrinkage stop – how do you stick the plug back in when you get to £40bn, given that the business might now be considered sub-scale? We understand the question has at least been considered, and to run a UK-centric Lloyds-like GBM business might only require something in the £20bn to £25bn range, with the lower profit contribution that also implies.
Which brings us to the policy level. The government owns the bank, and while it has been in the red for six years, Stephen Hester did a good job de-risking the institution. Now it seems as if the nature of RBS is to suddenly change, to a UK focused, UK customer focused, nice bank. While that meets one policy need – banks should be better corporate citizens – we wonder if it comes at the cost of another, that the government at some point might actually want investors to buy the bank back off it.