Citigroup’s Woes Could Lead To Breakup
Citigroup’s continuing woes could eventually result in the breakup of the company, accompanied by the much-speculated departure of CEO Chuck Prince, in the opinion of breakingviews.com. Hiving of its SmithBarney brokerage unit might be one of the “least worst” options.
Writing in today’s Wall Street Journal, breakingviews notes that Prince has long defended the bank’s conglomerate structure, as has his board.
That might soon change, but not to appease shareholders wanting the bank to free the value locked up in its component parts. It is the sorry-looking state of Citi’s capital base that could force the issue.
All of Citi’s capital ratios have fallen — tier one, at 7.4%, is even below Citi’s target, although the bank says it is taking steps to improve that. But the offending one is what accountants call tangible equity to tangible assets, breakingvies says. That now stands at just 2.8%, almost half the level of its peer group, according to CIBC World Markets.
Breakingviews blames the “$28 billion spending spree” Prince embarked on after the Federal Reserve lifted its ban on Citi making acquisitions early last year. These, including Nikko Securities and Federated’s credit-card loan portfolio, have added assets, but insufficiently boosted earnings. As a result, in the 18 months to June, the ratio had already declined by a third.
This ratio is regarded by many investors as the cleanest measure of a bank’s financial condition, and as an indication of how much cash it has on hand to invest in its business. And it could fall further if Citi has to book more write-downs or set aside more for losses — or even finance some of the $80 billion managed by its stumbling structured investment vehicles. CIBC figures it needs to raise more than $30 billion to get back within shouting distance of peers.
Citi could offload a chunk of its credit card and car loans, or mortgages — but getting good prices for such assets is hardly easy right now. It could carve into its $10 billion in annual dividends — but that would prompt investors to dump Citi stock, which has fallen 30% already this year. Or it could raise new equity — but at a depressed price.
That’s why breaking Citi up might be the least of the worst options.
If its Smith Barney brokerage were to fetch the 2.2 times trailing revenue that A.G. Edwards received, Citi could pick up about $27 billion. But to be forced into such a strategic volte-face comes with another cost: the head of the CEO who got Citi there and resisted a breakup when the timing was right.
In the Financial Times LEX says Citi “needs its umbrella back,” referring to the old Travelers logo that Citi ditched earlier this year. LEX wonders whether Citi’s risk weightings are up to date with events.
With the ratings on mortgage-related instruments being slashed in some cases, even Citi, with its huge balance sheet, could find its ratios affected. That would be exacerbated if any structured investment vehicles were brought back on balance sheet.
With limited disclosure on Citi’s exposure to mortgage instruments, it is tough to guess if such effects could be significant., LEX says. “But, for now, when it comes to mortgage exposure, investors in all financial companies are shooting first and asking questions later.”
Elsewhere, the FT quotes long-time Prince critic Bill Smith of SAM Advisors as saying: “This is Chuck Prince’s four-year report card and it shows he is literally running the company into the ground.”
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November 5th, 2007 at 2:24 pm
[...] the first point, Lex of the Financial Times does not agree with breakingviews.com’s suggestion that Citi may need to be broken up. Lex notes that other “financial supermarkets” are [...]