Why Barclays May Want To Hold Off On Hiking Dividends

by Trefis Team
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Barclays has had a tough time cleaning up its balance sheet over recent years – with the U.K.-based banking giant disposing of most of its stake in the profitable Barclays Africa Group Limited (BAGL) to improve its capital structure even as it re-organized its business model to comply with the U.K.’s ring-fencing rule for banks. But the bank’s results for full-year 2017 indicate that it has turned a corner as far as its core operations are concerned. Core revenues are now trending higher, and cost-cutting efforts have ensured that these gains reach the bottom line. This progress is likely what prompted Barclays’ top management to announce its intention to reinstate dividends to the 2015 level of 6.5 pence a share in 2018 after slashing it to 3 pence a share for 2016 as well as 2017.

However, it may behoove Barclays to keep its dividends at current levels for now due to the uncertainty over charges it could incur to settle several high-profile legacy lawsuits – especially the U.S. mortgage-related lawsuit filed by the Department of Justice (DoJ). As Barclays chose to meet the U.S. regulator in court rather than settling the matter, it didn’t have to set aside any significant cash as legal provisions for this lawsuit over the years. But this means that an unfavorable decision by U.S. courts (which seems very likely) could lead to a multi-billion dollar charge for the bank in the near future. To put things in perspective, most of Barclays’ peers settled the mortgage lawsuit with the DoJ for an average of $6 billion.

We capture the impact of an increase in dividend payouts as well as large settlement costs on Barclays’ key operating and capital figures in our interactive model for the bank. Our detailed analysis, parts of which are captured below, indicates that a hike in payouts this year could push Barclays’ core capital ratio figure below its target figure of 13%.

Operating Income To Improve In 2018, One-Time Costs To Eat Into Profits

Barclays’ operating income for 2017 increased compared to 2016 despite a reduction in revenues thanks to a sharp improvement in operating margin. For 2018, we expect revenues as well as margins to improve – resulting in a notable improvement in operating income for this year. However, we expect the net income figure to be close to zero for the year due to multi-billion dollar settlements, which we estimate will result in an after-tax charge of £3 billion.

This trend has been seen over the last few years, with the net income figure being hurt by huge one-time charges. These included litigation & conduct costs, as well as charges incurred due to Barclays’ sale of its stake in Barclays Africa Group Limited (BAGL).

Pressure On Common Equity Figure 

A weak net income figure for the year would have a direct impact on Barclays’ common equity tier 1 (CET1) capital at the end of the year. This is because the change in CET1 capital from one year to the next is primarily dependent on net income as well as dividend payouts (as well as other accounting costs like those related to pensions, which affect the value of CET1 capital). As we estimate the net income figure to be around zero, any dividend payout in 2018 could result in lower CET1 capital at the end of 2018 compared to 2017.

Potentially Large Legal Cost Coupled With Dividend Hike Could Reduce CET1 Ratio

We estimate that if Barclays maintains dividends at the level of 3 pence a share for 2018, its CET1 capital ratio will still decline marginally to 13.1% by the end of year – bringing it very close to the target figure of 13%. However, if the dividends are increased to 6.5 pence a share as proposed by Barclays, then the CET1 capital ratio figure could fall to 12.9%.

It should be noted here, though, that Barclays’ mandatory CET1 ratio level is 11.4%, which needs to be met by the end of 2019. The 13% target is what the bank has set for itself, and will be treated as flexible if management chooses to hike dividends. However, the impact of Brexit on Barclays’ operating figures over the coming years is uncertain, and an unexpected operating loss in any of the coming years could bring the CET1 figure closer to the regulatory minimum of 11.4%. Keeping this in mind, it would be prudent for the bank to keep its CET1 ratio above its target of 13% – and accordingly it may want to wait until the legal issues are sorted out before boosting dividends.

Disagree with our forecasts? Feel free to arrive at your own estimates for Barclay’s key metrics by making changes on our dashboard.

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