Citigroup Inc (C) recently bought Best Buy Co Inc's (BBY) card portfolio from Capital One Financial Corp (COF) for $7 billion dollars. This was an excellent opportunity to expand its core business. The Federal Reserve approved that deal, suggesting that the regulator sees value in the growth of income through a smart purchase.
The General Electric Co (GE) portfolio is estimated near $31 billion and is considerably larger than the $7 billion Best Buy portfolio. The Federal Reserve may scrutinize this purchase much harder as it evaluates a second, much larger purchase.
The positives to this transaction would be Citigroup does have the cash-on-hand to buy this outright and absorb into its core business operations. The increased income and value of positive assets into Citigroup would be a strong addition for positive growth in 2013 and beyond. The increased income would help Citigroup demonstrate another quarterly profit and allow the release of additional deferred tax assets (DTAs) that have accumulated over the last 5 years. Citi has an estimated $42 billion in DTAs to use moving forward that will provide years of increased profits to investors.
Several challenges to the purchase are other financial companies are hungry for the same core business opportunity that will support their growth and income. This may drive the price up as COF hopes for a bidding war. If the price exceeds 5% of the value, several companies may drop out, however, the winner would gain a profitable asset that would increase income and pad the bottom line of investors in the future. If Citi were to win the bid, the Federal Reserve would again have to approve it, probably with the additional requirement that Citi demonstrate the ability to meet the Basel III requirement for Jan 14 of 9.5%. Citi may have to forgo the $1.2 billion buyback of stock this year it gained approval for after the Basel III review in Jan 13.
Citigroup's leadership under Michael Corbat has set a steady course in his first year that is showing impressive results. This could be the first true test of the direction Corbat wants to take the Company. If he would choose to grow Citigroup with a purchase like this, it would demonstrate the strong leadership going forward to find savvy investments and expand the company. If he chooses to pass this purchase and execute the $1.2 billion buy back in stocks, he would not be considered weak or lacking conviction; however, he would be viewed as steadfast and focused on the horizon. Neither choice is bad for him or Citigroup at this time. The first time investors may challenge his leadership is in Jan 14, after Citigroup passes the Basel III review, and the stockholders want to see a dividend increase.
I want to review a few key stats that are setting the company up for success, and then demonstrate how Citi could take advantages of these opportunities.
In the first quarter Citigroup reported the net loss at its Citi Holdings, of $795 million, which was down by 20% over last quarter. Its current holdings are near 149 billion with about 60 billion sold in the last year. Citigroup has slowed the selloff as the investments have been increasing in value and Citi is not selling at losses, attempting to sell at true market value. Some of the mortgage investments in Citi Holdings improved enough in value that Citigroup released some of the reserves ($375 million) that it had set aside against losses on these mortgages.
The Basel III results in Jan 2013 showed the bank's core capital ratio climbed to 9.3% in Mar 13, from 8.7% at the end of Dec 12. The bank's target for Jan 14 is 9.5%. Citigroup is on track to reach the 9.5% easily with the purchase of the Best Buy card purchase from Capital One, and repurchase the $1.2 billion of common stock.
The key is the domino effect for Citigroup that is continuing to sell assets from Citi Holding and with the market recovering to improve the value of the investments. These two factors would allow Citi to release more reserves of cash each quarter. The selling off any assets would bring a higher value and reduce the net loss from Citi Holding each quarter and to utilize the DTAs saving millions of dollars from taxes for the investors. All of these possibilities are likely, but not certain. If the economy slows and the market goes flat, these dominos would not fall into place for the next Basel III review in Jan 14.
Citigroup is a much stronger company now that before the financial crisis, but still has a ways to go to become the market leader. Citigroup is demonstrating the best growth in the financial industry and a recommended buy through $53 per share.
Disclaimer: Information collected from multiple news sources, The Street, and MSN Money