The decision of U.K.-based banking group Barclays (NYSE:BCS) to undergo a drastic organization-wide transformation hardly comes as a surprise given its continuing struggle to improve overall performance – something which is quite evident from its results for the last quarter and full year 2012. 
As seen in previous quarters, there remains a long list of charges which need to be put aside to understand Barclay’s operating performance for the year – starting from a £4.6 billion ($7.2 billion) accounting charge due to revaluation of its own debt, to a £1.6 billion ($2.5 billion) provision for PPI redressals (a nagging issue that has persisted since Q2 2011) to finally the £0.85 billion ($1.3 billion) set aside for interest-rate hedging products redressal (see U.K. Banks Now Sued Over Derivatives Mis-Selling). Looking beyond these charges, Barclays’ adjusted pre-tax income slid each quarter in 2012 to fall from £2.4 billion ($3.8 billion) in Q1 2012 to £1.1 billion ($1.7 billion) in Q4 2012 as a result of a marked decline in revenues over the period.
But Barclays’ proposed plan of action to plug the holes in its boat is quite promising. ((Barclays Strategic Review – Announcement, Barclays Investor News, Feb 12 2013)) Most notably, the bank will be trimming as many as 3,700 jobs split almost equally among its investment banking and Europe retail banking operations. This is expected to save the bank at least £1.7 billion ($2.7 billion) in annual costs by 2015. Barclays also intends to continue strengthening its asset base, while boosting its dividend payout from 2014.
We are updating our price estimate for Barclays’ stock to $21 based on:
- Higher than predicted divided payout targets for the bank over coming years
- An upward revision of projected operating margins for the investment banking and overall consumer banking businesses based on the proposed cost-cutting plan
- Increased trading yield estimates as a direct result of relaxation in Basel 3 requirements related to certain asset classes.
The Consumer Banking Business Weighed Heavily On The Results
Barclays reported a year-on-year decline in its revenues and income figures for all three of its consumer banking business units divided on the basis of geography as U.K., Europe and Africa retail & business banking. The business in Europe ended up with its third consecutive annual loss, with the problem of low revenues from declining interest rates being compounded by higher provisions and charge-offs due to the weak economy in the region over recent years. And Barclays simply failed to reign in operating costs, which have actually grown over the last two years leading to the steep cost-to-income ratios shown in the chart above.
Considering the fact that Barclays’ restructuring plan singles out the operations in Europe with a proposed 1,900 job cuts in the unit, we believe the expenses should be controlled over coming years.
But The Onus Of Delivering Value Lies Largely On The Investment Banking Business
In comparison, the investment bank has shown a considerable improvement in its overall performance for 2012 over 2011. Revenues increased by 13% for the year, which along with reduced expenses allowed the bank to report a 37% increase in pre-tax incomes for the investment banking operations. And the improvement was seen across all units for the businesses – from advisory & underwriting to the fixed-income and equity trading desks.
Quite notably, the operating margins for the business were just shy of 35% in 2012, as shown in the chart above. This is the highest profit margin the investment bank has achieved since 2006. And we believe that it will only improve going forward.Notes: