Goldman Sachs (GS) seems to have lost its gold. A bank that was once considered to have one of the most talented workforces, is now being accused by its own top executives of losing moral fiber. The bank is also shedding its talented human resource and cutting back on their salaries. Also, the potential downgrade by Moody's could be a significant negative catalyst. These and other factors have led the company to lose its share in the underwriting market. In the wake of increased activity in both debt and equity underwriting markets, GS has been unable to capitalize on these opportunities. Since the stock is already trading at a premium with regards to its book value and earnings, we recommend our investors to build a portfolio where the investor is short Goldman Sachs and long Citigroup (C).
The Goldman Sachs Group, Inc.
The Goldman Sachs Group, Inc. provides a variety of financial services, including global investment banking, securities and investment management to a substantial and diversified client base that includes corporations, financial institutions, governments and high-net-worth individuals. GS reports activities in four segments: Investment Banking, Institutional Client Services, Investing & Lending and Investment Management, and has a footprint in over 30 countries.
Revenues and Earnings
GS's overall revenues for 1Q2012 dropped by 16% when compared to last year's first quarter, to reach $9.95bn. The company generated earnings of $2.1bn during the quarter as compared to $2.7bn during 1Q2011, a material drop of 23%.
The Institutional Client Services segment, with revenues of $5.74bn, remained the largest contributor in the first quarter's revenues. The segment's revenues were up by 87% compared to last year's fourth quarter.
The Investing and Lending segment saw a decline in its revenues of 56% over last year's fourth quarter to reach $1.91bn.
The Investment Management segment saw a decline of 7% in its revenues when compared to 4Q2011 to reach $1.18bn. This was primarily due to lower transaction revenues and lower management and other fees.
Similarly, revenues from the Investment Banking segment also dropped to $1.1bn, a drop of 9% when compared to 1Q2012. They were, however, 35% higher when compared to last year's fourth quarter. This increase over 4Q2011 was largely due to a 37% increase in net revenues of the Financial Advisory.
Revenues from the Financial Advisory were 37% higher than the first quarter of 2011. However, revenues from the underwriting business were down by 27% when compared to 1Q2011. Revenues from equity underwriting were materially down. Goldman was not able to capitalize on the increased global equity markets and their reduced volatility during the quarter. Even though the industry wide debt underwriting picked up significant pace, as more and more corporations continued to benefit from the near zero interest rate environment and narrower credit spreads, GS's revenues from debt underwriting again saw a decline.
On the positive side, GS was able to curtail its expenses to $6.77bn, a drop of 14% over last year's first quarter. Expenses, however, remained 41% higher than 1Q2011. Under its cost cutting initiative, the company shed 8% of its workforce during the last year. Also, it paid less brokerage fees and cut back on salaries.
GS's book value per share and its tangible book value per share of $134.48 and $123.94, respectively, were around 3% higher than 1Q2011.
The company improved its Tier 1 capital ratio and Tier 1 common ratio to 14.7% and 12.9% under Basel 1, an improvement of around 6.5% over 4Q2011. These are safely above the regulatory requirements.
Global assets of the company surged by 3% over 4Q2011 to $951bn.
Qtrly Rev Growth (yoy)
Revenue (in $Bn)
Gross Margin (TTM)
Net Income (in $Bn)
PEG (5 yr expected)
The stock is trading at a premium of 12% and 19% to the industry with regards to its price-to-earnings ratio and price-to-book ratio respectively. Its price-to-tangible book value is at par with the industry average. The stock is offering a return on asset of 0.41%, as compared to 0.77% offered by peers. Goldman's return on equity of 12.2% has not shown any improvements from 1Q2011.
Moody's has put GS under review for a potential downgrade. The potential downgrade may raise borrowing costs and may act as a significant negative catalyst in case the downgrade is worse than expected.
The management has announced an increase in the company's quarterly dividend to $0.46 per common share, up from $0.35 per common share; however with a beta of 1.63 and a dividend yield of 1.9%, the stock does not seem to be an attractive option for yield hungry investors.
GS reshuffled its top level executives after the resignation and expected retirement of a few executives. Some of the top executives at GS resigned, alleging that client interests were being sidelined and accused the bank of losing its moral fiber. Going forward, this could have serious consequences for the bank, since it is highly dependent on customer confidence.
Based on our analysis, we recommend a short position in GS and a long position in Citigroup, since Citi's strong global footprint has enabled it to capture its share from the robust growth in emerging markets. Have a look at our recent article "Buy Citigroup: The Best Positioned Global Bank".